Pseg Energy Resources & Trade v. Ferc

United States Court of Appeals
         FOR THE DISTRICT OF COLUMBIA CIRCUIT



Argued September 22, 2011          Decided December 23, 2011

                         No. 10-1103

PSEG ENERGY RESOURCES & TRADE LLC AND PSEG POWER
                CONNECTICUT LLC,
                   PETITIONERS

                              v.

       FEDERAL ENERGY REGULATORY COMMISSION,
                    RESPONDENT

               ISO NEW ENGLAND INC., ET AL.,
                      INTERVENORS


             On Petition for Review of Orders of
         the Federal Energy Regulatory Commission



    John Lee Shepherd, Jr. argued the cause for petitioner.
With him on the briefs were Kenneth R. Carretta and Sally
Brown Richardson.

     Jennifer S. Amerkhail, Attorney, Federal Energy Regulatory
Commission, argued the cause for respondent. With her on the
brief was Robert H. Solomon, Solicitor.

     Kerim P. May and Sherry A. Quirk were on the brief for
intervenor ISO New England Inc.
                               2


     John S. Wright and Michael C. Wertheimer, Assistant
Attorneys General, Office of the Attorney General for the State
of Connecticut, and Joseph A. Rosenthal and Randall L. Speck
were on the brief for intervenors George C. Jepsen, Attorney
General, et al.

   Before: GARLAND and KAVANAUGH, Circuit Judges, and
WILLIAMS, Senior Circuit Judge.

    Opinion for the Court filed by Circuit Judge GARLAND.

     GARLAND, Circuit Judge: In this petition for review, PSEG
Energy Resources & Trade LLC and PSEG Power Connecticut
LLC (collectively, PSEG) challenge orders of the Federal
Energy Regulatory Commission (FERC) accepting the results of
an auction for electric generation capacity conducted by ISO
New England Inc. In those orders, FERC approved ISO New
England’s determination that, unlike other resources in the
region, PSEG’s resources in Connecticut could not reduce their
capacity supply obligation because doing so would endanger the
system’s reliability. Importantly, it also held that ISO New
England could reduce the per unit price paid to PSEG for that
capacity. Because the latter holding was based on tariff
provisions that the Commission thought were clear but now
concedes are ambiguous, and because in the course of
construing those provisions it failed to respond to PSEG’s
facially legitimate objections, we grant the petition and remand
the orders for further consideration.

                               I

    PSEG is one of many generators that participate in New
England’s “forward capacity market.” In this market, electricity
providers purchase from generators options to buy quantities of
                                3

energy three years in advance. NRG Power Mktg., LLC v. Me.
Pub. Utils. Comm’n, 

 (2010). In setting
prices, the market eschews the traditional regulatory approach,
which sets utility rates based on the cost of production, in favor
of an auction. Managing the auction is the responsibility of ISO
New England, which is a “‘private, non-profit entity [that]
administer[s] New England energy markets and operate[s] the
region’s bulk power transmission system.’” Blumenthal v.
FERC, 

 (D.C. Cir. 2009) (quoting NSTAR
Elec. & Gas Corp. v. FERC, 

 (D.C. Cir.
2007)). ISO New England’s tariff implements the market’s
auction mechanism, which originated in a FERC-approved
settlement among more than 100 stakeholders. See Blumenthal,

; ISO New England Inc., 

,
61,162 (2007).

     Under the settlement and tariff, a descending auction sets
the price that capacity suppliers like PSEG receive. The basic
mechanism is straightforward. After the auctioneer, ISO New
England, announces a starting price, suppliers respond with bids
for how much capacity they are willing to provide at that price.
The auctioneer gradually reduces the price, and suppliers reduce
their capacity bids accordingly. The auction ends when the
suppliers’ bids just equal the amount of capacity that ISO New
England has determined to be necessary to maintain the
reliability of the regional system. This amount is known as the
“installed capacity requirement,” or ICR. Each supplier is then
committed to provide capacity equal to its bid. See Conn. Dep’t
of Pub. Util. Control v. FERC, 

 (D.C. Cir.
2009).

     But the forward capacity market has a twist: a price floor
that halts the auction if the floor is reached. The problem is that
the auction may reach the price floor at a point where the
suppliers’ capacity bids still exceed the ICR; hence, absent
                                 4

correction, purchasers would end up buying too much power.
The capacity market’s solution is proration. The basic idea is
that each supplier has its capacity obligation, and the payment
it receives, reduced proportionally. The Proration Rule of ISO
New England’s tariff implements this solution in a somewhat
roundabout way. See Tariff § III.13.2.7.3(b) (J.A. 178); infra
note 1. Although the rule’s full complexity need not detain us,
the key mechanism is as follows: the rule calculates the “total
payment cap” by multiplying the floor price by the ICR, then
proportionately reduces the amount each supplier receives so
that the total does not exceed the cap (“price proration”), and
then gives each supplier the option to reduce its capacity
obligation an equivalent amount (“quantity proration”). For
example, if the ICR were 50 units, and two suppliers each bid 30
units at a floor price of $1, the total payment cap would be $50.
Each supplier would receive a proportionate amount of $25
(price proration), and each could then reduce its capacity
obligation to 25 units (quantity proration).

     In 2007, without specific comment, FERC approved ISO
New England’s addition of the following caveat as a new last
sentence of the Proration Rule: “Any proration shall be subject
to reliability review.” Tariff § III.13.2.7.3(b); see ISO New
England Inc., 

, 61,049 (2008); see also ISO
New England Inc., FERC No. ER07-1388, Various Revisions to
FCM Rules, attach. 1 at 1st Rev. Sheet No. 7314Q (Aug. 31,
2007) (J.A. 239). This case is about the meaning of that caveat.
In ISO New England’s view, it means that when it determines
that a supplier’s resources are needed for local reliability, it can
bar quantity proration but force the supplier to accept price
proration. Thus, the supplier is effectively required to accept a
per unit price lower than the floor price. In the example above,
this would require a supplier to provide the full 30 units but still
accept only $25, an effective price of $0.83 per unit rather than
$1.00. PSEG -- whose attempt to prorate the capacity of its
                                  5

Connecticut resources was barred as a consequence of the
reliability review for the 2008 New England auction -- believes
that it should receive the full (unprorated) floor price for all its
resources that it could not prorate. In the example above that
would be $30, which PSEG says cashes out to an extra $2.8
million in this case.1



     1
      The full Proration Rule, with the reliability caveat italicized,
states as follows:

          The Capacity Clearing Price shall not fall below 0.6 times
          CONE [Cost of New Entry]. Where the Capacity Clearing
          Price reaches 0.6 times CONE, offers shall be prorated such
          that no more than the Installed Capacity Requirement is
          procured in the Forward Capacity Auction, as follows: the
          total payment to all listed capacity resources during the
          associated Capacity Commitment Period shall be equal to
          0.6 times CONE times the Installed Capacity Requirement
          applicable in the Forward Capacity Auction. Payments to
          individual listed resources shall be prorated based on the
          total number of MWs [megawatts] of capacity clearing in
          the Forward Capacity Auction (receiving a Capacity Supply
          Obligation for the associated Capacity Commitment Period).
          Suppliers may instead prorate their bid MWs of
          participation in the Forward Capacity Market by partially
          de-listing one or more resources (e.g., proration may be
          done by reducing, through bilateral contracts, the capacity
          of one resource by the amount equal to the entire prorated
          amount of the Market Participant). Regardless of any such
          proration, the full amount of capacity that cleared in the
          Forward Capacity Auction will be ineligible for treatment as
          new capacity in subsequent Forward Capacity Auctions
          (except as provided under Section III.13.1.1.1.2). Any
          proration shall be subject to reliability review.

Tariff § III.13.2.7.3(b) (J.A. 178) (emphasis added).
                                6

     PSEG filed its objections with FERC, which must review
and approve ISO New England’s auction results under the
settlement and § 205 of the Federal Power Act (FPA), 16 U.S.C.
§ 824d(d). See Devon Power LLC, 

, 62,309
(2006). After FERC sided with ISO New England, see ISO New
England Inc., 

, 62,925 (2008) [hereinafter
Initial Order], PSEG sought rehearing. In its rehearing request,
PSEG contended that FERC’s interpretation, in addition to
violating the tariff’s express terms, resulted in “undue
discrimination” against the resources most necessary for
reliability, by paying them less per unit than resources that were
permitted to prorate quantity. PSEG also argued that FERC’s
interpretation contradicted what PSEG contended were the
forward capacity market’s “basic policy goals”: to provide
incentives for existing resources to remain in, and for new
resources to be constructed in, areas subject to resource
constraints. Request for Rehearing at 3, 9-11 (July 21, 2008)
(J.A. 104, 110-12).

     On rehearing, FERC again rejected PSEG’s interpretation.
ISO New England Inc., 

 (2010) [hereinafter
Rehearing Order]. FERC held that when reliability review
precludes quantity proration, the tariff still requires ISO New
England to impose price proration to avoid violating the total
payment cap, which it regarded as sacrosanct. Rehearing Order,
130 FERC at 62,147. FERC did note, however, that ISO New
England and its stakeholders “have made a filing with the
Commission that may result in revised market rules on this
issue.” Id. And so it did: less than a month later, FERC
approved a revision to the Proration Rule that adopted PSEG’s
position -- for prospective application only. FERC “agree[d]
that this proposed solution is an improvement and addresses an
inconsistency between the compensation provided to resources
that are denied the ability to prorate megawatts at the price floor
and other cleared capacity.” ISO New England Inc., 

¶ 61,065, 61,345 (2010). Meanwhile, PSEG petitioned for
review of FERC’s orders, which had denied PSEG’s request for
relief in the instant case.

                                II

     Under § 313(b) of the FPA, 16 U.S.C. § 825l(b), we have
jurisdiction to review FERC’s orders, which we assess to
determine whether they are “arbitrary, capricious, an abuse of
discretion, or otherwise not in accordance with law.” 

(2)(A); see TNA Merchant Projects, Inc. v. FERC, 

 (D.C. Cir. 2010). To survive this review, FERC
“must ‘examine the relevant data and articulate a satisfactory
explanation for its action including a rational connection
between the facts found and the choice made.’” PPL
Wallingford Energy LLC v. FERC, 

 (D.C.
Cir. 2005) (quoting Motor Vehicle Mfrs. Ass’n of the United
States, Inc. v. State Farm Mut. Auto. Ins. Co., 

(1983)). Among other things, “[a]n agency’s ‘failure to respond
meaningfully’ to objections raised by a party renders its decision
arbitrary and capricious.” 

 (quoting Canadian Ass’n of
Petroleum Producers v. FERC, 

 (D.C. Cir.
2001)).

     In reviewing FERC’s tariff interpretation, we use “a
two-step, Chevron-like analysis.” Colorado Interstate Gas Co.
v. FERC, 

 (D.C. Cir. 2010) (citing Old
Dominion Elec. Coop., Inc. v. FERC, 

 (D.C. Cir.
2008)). At step 1, “[w]e first ‘consider de novo whether the
[tariff] unambiguously addresses the matter at issue. If so, the
language . . . controls for we must give effect to the
unambiguously expressed intent of the parties.’” 

 (quoting
Ameren Servs. Co. v. FERC, 

 (D.C. Cir.
2003)). At step 2, “‘[i]f the tariff language is ambiguous, we
defer to the Commission’s construction of the provision at issue
                                 8

so long as that construction is reasonable.’” 

 (quoting Koch
Gateway Pipeline Co. v. FERC, 

 (D.C. Cir.
1998)). See generally Chevron U.S.A. Inc. v. Natural Res. Def.
Council, Inc., 

 (1984).

     According to FERC’s Rehearing Order, the last sentence of
the Proration Rule, “[a]ny proration shall be subject to reliability
review,” allows ISO New England to bar resources from
reducing their capacity obligation, yet still requires them to
accept a prorated price. The Commission stated its view that the
total payment cap provision of the Proration Order is inviolate,
even during reliability review, and that paying resources that
were precluded from prorating quantity at the unprorated floor
price could violate that cap. Rehearing Order, 130 FERC at
62,147. PSEG raises a host of arguments challenging this
interpretation. But it also argues (1) that FERC wrongly read
the tariff’s text as compelling the conclusion FERC reached, and
(2) that FERC wrongly failed to respond to its discrimination
and policy arguments. Because we agree with these latter two
points, we need not address PSEG’s other arguments.

     1. In rejecting PSEG’s arguments, FERC spoke the
language of textual clarity. In its Initial Order, FERC explained
that “the [forward capacity market] rules are clear” that
resources prevented from prorating quantity must still receive a
prorated price. Initial Order, 123 FERC at 62,925. And on
rehearing, FERC declared that “the current tariff language does
not allow” PSEG’s interpretation. Rehearing Order, 130 FERC
at 62,147.

     On appeal, however, FERC’s counsel conceded that the
relevant provision of the Proration Rule is ambiguous. FERC
Br. 28 (“The final sentence of the Proration Rule . . . is
ambiguous.”); Oral Arg. Tr. 24 (acknowledgment by FERC
counsel that the provision is ambiguous); cf. ISO New England
                                9

Br. 14 (“It is necessary to acknowledge that the rule language at
issue here contains some ambiguity.”). We agree. As FERC’s
brief acknowledges, the rule’s final sentence “does not explain
how ISO New England will conduct its review or what the ISO’s
next step will be if it determines that reliability is in peril.”
FERC Br. 28. In particular, the rule does not unambiguously
proclaim FERC’s position that the total payment cap is
sacrosanct even during reliability review, as compared to
PSEG’s view that “[a]ny proration shall be subject to reliability
review” means there should not be “any” proration -- whether of
quantity or of price -- for any resources that are required to
preserve system reliability.

     When a text is ambiguous under Chevron step 1, we
normally proceed to determine whether the agency’s
interpretation is reasonable under Chevron step 2. But when “an
agency erroneously contends that Congress’ intent has been
clearly expressed and has rested on that ground, we remand to
require the agency to consider the question afresh in light of the
ambiguity we see.” Cajun Elec. Power Coop., Inc. v. FERC,

, 1136 (D.C. Cir. 1991). We do so because, under
step 2, we examine whether the agency has reasonably exercised
its discretion. But when the agency’s decision “was not based
on [its] own judgment but rather on the unjustified assumption
that it was Congress’ judgment that such [an outcome is]
desirable or required,” the agency has not exercised that
discretion at all. Transitional Hospitals Corp. of La., Inc. v.
Shalala, 

 (D.C. Cir. 2000) (internal
quotation marks omitted). The same analysis applies to FERC’s
interpretation of a tariff. Because “discretion must be exercised
through the eyes of one who realizes she possesses it,” 

 we
must remand to permit the Commission to determine “whether
[it] wishes to retain [its interpretation] knowing that other
options are permissible,” 

.
                                  10

     Indeed, this is a particularly appropriate case for remand.
Although FERC denied PSEG the relief it sought, it
subsequently described the petitioners’ position as “an
improvement” that “addresses an inconsistency,” and it revised
the tariff language to make it applicable in future situations. 131
FERC at 61,345. A remand will permit the Commission to
determine whether, knowing that it has more discretion than it
thought it had, PSEG’s position would be an appropriate way to
interpret the unrevised language as well.

     2. There is a second problem with FERC’s orders.
“‘[U]nless the [agency] answers objections that on their face
seem legitimate, its decision can hardly be classified as
reasoned.’” PPL Wallingford, 

 (quoting
Canadian Ass’n, 

). This applies as strongly to
agency interpretations under Chevron step 2 as to other agency
actions. TNA, 

; see NorAm Gas Transmission
Co. v. FERC, 

, 1165 (D.C. Cir. 1998).

     PSEG raised two such objections below. First, PSEG
argued that FERC’s interpretation would result in “undue
discrimination” because “some resources will involuntarily be
paid less than other resources” on a per unit basis. Rehearing
Request at 9-10 (J.A. 110-11). “[M]oreover, the resources
receiving the lower unit payments are located in the regions
where the megawatts make the largest contribution to system
reliability.” Id. at 10 (J.A. 111).2 Second, PSEG contended that



     2
      Before the Commission, it was not clear whether PSEG’s “undue
discrimination” argument was a reference to § 205 of the FPA, which
prohibits public utilities from (inter alia) “subject[ing] any person to
any undue prejudice or disadvantage” or “maintain[ing] any
unreasonable difference in rates,” 16 U.S.C. § 824d(b), or whether it
was simply an appeal to policy or fairness as a guide in reading the
                                 11

FERC’s interpretation was “inconsistent with the fundamental
policy goals” of the forward capacity market. Id. In PSEG’s
view, those goals were “to provide incentives for existing
resources to remain in constrained areas and for new entry
resources to be constructed in those areas.” The goals were
undermined, PSEG maintained, by an interpretation that barred
such resources from receiving the floor price when they were
not permitted to prorate quantity. Id. at 11 (J.A. 112).

    As these are “objections that on their face seem legitimate,”
the Commission was required to answer them.                 PPL
Wallingford, 

. Yet, it did not do so. It is true,
as FERC’s counsel pointed out, that the Commission noted the
objections and -- without more -- characterized them as “more
broadly” supporting PSEG’s position. Rehearing Order, 130
FERC at 62,146. To characterize objections, however, is not to
answer them.

     Counsel for FERC also contended that the Commission
effectively responded to these objections by referencing two
other proceedings that, in counsel’s view, were where “the
discrimination and equity claims . . . more properly [should have
been] raised.” FERC Br. 32-33. The first was the 2007
proceeding in which FERC had accepted the addition of the
“reliability review” language; the second was the parallel
stakeholder process for changing the market rules prospectively.
Although we doubt that either of those proceedings could have
rendered PSEG’s instant filing untimely or an impermissible
collateral attack,3 the important point is that the Commission


tariff. Either way, as we discuss in the following text, FERC erred in
failing to respond to it.
     3
      As to the 2007 proceeding, when an agency interprets an existing
rule in a new way (or for the first time), a challenge constitutes an
                                 12

itself -- as distinguished from its appellate counsel -- never
suggested that they did. “We, of course, ‘cannot accept
appellate counsel’s post hoc rationalizations for agency action.’”
TNA, 

 (quoting Fed. Power Comm’n v. Texaco,
Inc., 

 (1974)). Rather, “an agency’s order
must be upheld, if at all, ‘on the same basis articulated in the
order by the agency itself.’” 

 (quoting Texaco, 

).

     The same problem bars our reliance on another argument of
appellate counsel. In FERC’s brief, counsel called our attention
to a footnote in the Rehearing Order, which states that the
purpose of the Proration Rule’s price floor is to “‘ensure relative
market stability during the initial years of the Forward Capacity
Market.’” FERC Br. 31 (quoting Rehearing Order, 130 FERC
at 62,147 n.40). But once again, the order does nothing more
than make the quoted statement; it does not suggest that -- let
alone explain how -- it was a response to PSEG’s undue
discrimination or policy arguments. On remand, FERC must
respond to both.




impermissible collateral attack “only if a reasonable firm . . . would
have perceived a very substantial risk that the [provision] meant what
[the agency] now says it meant.” Dynegy Midwest Generation, Inc.
v. FERC, 

 (D.C. Cir. 2011) (internal quotation
marks omitted). Given the Proration Rule’s conceded ambiguity, it is
unlikely that PSEG’s challenge meets this standard. As to the
stakeholder proceeding, it was concerned only with prospective
revision, an outcome that could not remedy the $2.8 million loss that
PSEG alleges was caused by the orders under review.
                               13

                               III

    For the foregoing reasons, the petition for review is granted,
and FERC’s orders are remanded for further proceedings
consistent with this opinion.

                                                     So ordered.