Introduction and Background 

The Mobile-Sierra doctrine, which created the "public interest" standard, was established in two 1956 Supreme Court cases.1 As a general proposition, FERC's role under the Federal Power Act (FPA) is to make sure that rates charged in wholesale power contracts are "just and reasonable." Normally, FERC reviews a contract before it becomes effective and, if the contract as approved by FERC expresses the parties' intent that non-consensual modifications to its terms are to be governed by the Mobile-Sierra doctrine, it cannot be later unilaterally changed by one of the parties, except by showing that the original terms are contrary to the public interest. Under such circumstances, the applicable standards of review are the "just and reasonable" standard for the initial filing of the contract and the "public interest" standard for any subsequent request by a party to reform the contract. However, FERC sometimes grants market-based rate (MBR) authority to certain entities that sell electricity but do not have market power. Power sales contracts entered into by these entities are assumed to be "just and reasonable" and typically are not individually reviewed by FERC. Like contracts reviewed by FERC, where a market-based contract contains a clause invoking the Mobile-Sierra doctrine, a party may not unilaterally seek contract reformation, unless it can show that the "public interest" demands it. Essentially, the Mobile-Sierra doctrine is the means by which the Federal Power Act's "just and reasonable" standard is applied to rates that are determined through bilateral contracts, rather than through offerings in generally applicable tariffs.

The Morgan Stanley case involves buyers and sellers of electricity during the 2000-2001 Western energy crisis. When the Ninth Circuit considered this case, it examined the Mobile-Sierra doctrine in the context of MBRs and found that FERC should use a "zone of reasonableness" test to decide whether the contractual rate is against the "public interest." The Ninth Circuit also held that FERC should determine whether a contract was executed during a period of market dysfunction, in which case the public interest standard would not apply and the just and reasonable standard would apply instead.

The Supreme Court affirmed the Ninth Circuit's opinion, but disagreed with the Ninth Circuit’s reasoning and remanded the case back to FERC. The Supreme Court's decision essentially reaffirmed the continuing vitality of the Mobile-Sierra doctrine and its applicability to both high- and low-rate challenges. However, the Court remanded for two reasons. First, FERC must determine on remand whether the contracts imposed an excessive burden on consumers "down the line," relative to the rates they could have obtained (but for the contracts) after the elimination of the factors that created the dysfunctional market. Second, the Court indicated that, where a party to a contract has engaged in unlawful market manipulation, resulting in a causal connection to the particular contract, FERC should not presume the contract to be valid. The Court likened market manipulation to fraud and duress in that such manipulation eliminates the premise on which the Mobile-Sierra presumption rests: that the contract rates are the product of fair, arms-length negotiations. Thus, the Supreme Court required FERC to amplify and clarify its findings on both issues.

Comments

It is not clear how FERC is to determine whether a contract imposed an excessive burden on consumers "'down the line,' relative to the rates they could have obtained (but for the contracts) after the elimination of the dysfunctional market." This determination appears to require that FERC predict what the energy prices would be in a non-dysfunctional market throughout the life of the contract and compare these prices with the contract prices to determine whether the difference constitutes an excessive burden. Such an exercise appears to introduce an element of uncertainty to the "public interest" standard, which has been assumed to be "practically insurmountable"2 in the past. Therefore, in the future, a party challenging a power contract would be able to do so by showing that "down the line," the contract imposes an excessive burden on consumers.

Under Morgan Stanley, a party challenging a power contract would also be able to do so by showing that the other party manipulated the market and that this manipulation affected the negotiation of the contract. This concept affects the validity of the contract itself and allows FERC to set the contract aside and to decide what the rate should be under the just and reasonable standard.

FERC (and the Court) has taken the position that cases arising out of the Western energy crisis pertain to a unique set of facts, especially that market regulation has undergone substantial improvements since 2001.3 This could be a signal that FERC may be inclined to resist applying Morgan Stanley and other cases arising out of the crisis to future situations.4

Conclusion

The Supreme Court's decision, while preserving the essence of the Mobile-Sierra doctrine, leaves the door open to innovative challenges to power contracts. However, the unique circumstances of the decision may reduce the extent to which FERC must apply it, allowing FERC to retain tools that can, in more normal periods, protect the sanctity of contracts and market stability.

Ballard Spahr's Energy and Project Finance Group can advise on negotiating, or in helping you understand the implications of Mobile-Sierra provisions in power sales contracts. For assistance, call Howard Shafferman at 202.661.2205 or hhs@ballardspahr.com.


1United Gas Pipe Line Co. v. Mobile Gas Service Corp., 350 U.S. 332 (1956) and Federal Power Commission v. Sierra Pacific Power Co., 350 U.S. 348 (1956).

United Gas Pipe Line Co. v. Mobile Gas Service Corp., 350 U.S. 332 (1956) and ., 350 U.S. 348 (1956).

2See Papago Tribal Util. Auth. v. FERC, 723 F. 2d 950, 954 (CADC 1983).

3See FERC Order No. 697 at P 6 (citing Californians for Renewable Energy, Inc. v. Cal. Pub. Util. Com'n, 119 FERC  61,058 (2007)).

4We note a somewhat anomalous situation that arose in this case in that FERC opposed review of the Ninth Circuit's decision even though the Ninth Circuit remanded to FERC. This may be explained by the fact that the Mobile-Sierra doctrine limits FERC’s discretion to review contracts and the Ninth Circuit essentially expanded FERC's discretion by narrowing the application of Mobile-Sierra. However, FERC's ostensible reason for opposing review of the Ninth Circuit's decision appears to be that recent regulatory developments have made the Ninth Circuit's decision harmless with regard to market stability.

 


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