On November 21, 2019, FERC issued Opinion No. 569, adopting a revised methodology to determine whether an established rate of return on equity (“ROE”) is just and reasonable under Section 206 of the Federal Power Act. Additionally, FERC applied this new methodology to two complaint proceedings involving the base ROEs of Midcontinent Independent System Operator, Inc. (“MISO”) transmission owners (“TOs”). FERC found first that the MISO TOs’ ROE of 12.38 percent in the first complaint (“First Complaint”) was unjust and unreasonable, and ordered refunds based on this finding. FERC then found that the MISO TOs’ ROE of 9.88 percent in the second complaint (“Second Complaint”) fell within the range of presumptively just and reasonable ROEs, and subsequently dismissed the complaint. Commissioner Glick dissented in part, stating that refunds should have been ordered with regard to the Second Complaint.
On November 15, 2018, FERC established a paper hearing and directed parties in two ongoing MISO ROE proceedings to submit briefs concerning FERC’s ROE methodology, as initially outlined in in Martha Coakley v. Bangor Hydro-Elec. Co. (“Briefing Order”) (see November 20, 2018 edition of the WER). Under the proposed approach, FERC would determine whether an established ROE is presumptively just and reasonable by seeing if such ROE falls within a zone of reasonableness produced by looking at three models: discounted cash flow (“DCF”), capital-asset pricing model (“CAPM”), and Expected Earnings. If the ROE falls outside of the zone of reasonableness and is found to be unjust and unreasonable, FERC would calculate a new base ROE by using the above models in addition to the Risk Premium model.
In Opinion No. 569, FERC adopted a revised version of the base ROE methodology proposed in the Briefing Order. Notably, FERC decided against using the Expected Earnings or Risk Premium models. FERC found that the Expected Earnings model was not appropriate as it is an accounting-based model instead of a market-based model, and may not ensure that “the return to the equity owner should be commensurate with returns on investments in other enterprises having corresponding risks,” as required by the Supreme Court in FPC v. Hope Nat. Gas Co., 320 U.S. 591, 603 (1944). Regarding the Risk Premium model, FERC found that its use is largely redundant when used in conjunction with the CAPM; its estimates are less accurate than either the DCF model or the CAPM; and its use requires judgment calls that could rend the model results less predictable and transparent than the other models. Instead, FERC decided to use the DCF and CAPM, finding that the two models were the most commonly used by investors, and that the addition of the CAPM to the existing DCF model will better reflect how investors make their investment decisions. Additionally, FERC adopted both high-end and low-end outlier tests that would eliminate from the DCF and CAPM proxy calculations any prior ROE results that could skew the results through being outliers.
Finally, FERC applied its revised base ROE methodology to the First Complaint and Second Complaint. With regard to the First Complaint, FERC found that the MISO TOs’ 12.38 percent ROE was unjust and unreasonable and that a just and reasonable ROE would be 9.88 percent. Based on this analysis, FERC granted rehearing on the opinion giving rise to the First Complaint in order to require the MISO TOs to adopt a 9.88 percent ROE, effective September 28, 2016, and required the MISO TOs to provide refunds with interest for the First Complaint’s refund period. With regard to the Second Complaint, FERC found that because the First Complaint retroactively reduces the effective ROE during the refund period of the Second Complaint, the relevant ROE for the Second Complaint is 9.88 percent. FERC then concluded that this established ROE was not unjust and unreasonable, and therefore dismissed the complaint without a requirement for refunds.
Commissioner Glick dissented in part to Opinion No. 569, stating that he disagreed with the majority’s decision to not order refunds of the unjust and unreasonable rates collected during the refund period related to the Second Complaint. Commissioner Glick stated that because the unjust and unreasonable ROE rate related to the First Complaint continued through the period of the Second Complaint, there is no reason to not refund MISO customers for the amounts collected during the Second Complaint refund period.
A copy of the order is available here.