On May 29, 2020, FERC accepted PJM Interconnection, L.L.C.’s (“PJM”) and PJM Settlement, Inc.’s (“PJM Settlement”) proposed revisions to its Open Access Transmission Tariff (“Tariff”) and the Amended and Restated Operating Agreement establishing updated credit risk evaluation criteria and processes for market participants in PJM. These revisions, which enhance PJM’s rules for evaluating and managing the posed credit risk of current and potential PJM market participants, were developed in response to GreenHat Energy LLC’s (“GreenHat”) 2018 default on a large portfolio of Financial Transmission Rights (“FTRs”). The proposed revisions went into effect on June 1, 2020, as requested. Commissioners James Danly and Richard Glick issued concurring opinions.

Following GreenHat’s default in 2018, which PJM members were ultimately left responsible for covering, PJM commissioned an independent report to evaluate potential shortcomings in its credit risk evaluation process and to recommendation corrective actions. Based on these recommendations, the PJM Financial Risk Mitigation Senior Task Force and PJM stakeholders developed certain Tariff-related changes aimed at updating and enhancing PJM’s procedures for monitoring and mitigating credit risk in PJM markets. Specifically, PJM’s proposed Tariff revisions set forth:

1.  Criteria for PJM’s evaluation of market participants and guarantor risk for participation in all of the PJM markets;
2. The types of documents and other information applicants, market participants, and guarantors must submit for review in the credit evaluation process;
3. PJM’s ability to request additional collateral and/or restrict the use of collateral posted by applicants and markets participants;
4. Provisions for demonstrating minimum capitalization requirements and other measures of creditworthiness;
5. PJM’s authority to limit, suspend, or terminate market participants that represent and unreasonable credit risk to PJM markets; and
6. Definitions necessary to implement the above changes.

Under its revised approach, PJM will conduct an initial risk evaluation, as well as ongoing credit risk evaluations, for all entities applying to participate in the PJM markets. Only entities that pose an unreasonable credit risk to the PJM markets will be asked to post collateral, commensurate with the risk posed, as a condition of entry and continued participation in PJM’s markets. The scope of entities subject to PJM’s credit policies are PJM Interchange Energy Market, as well as PJM’s ancillary services markets, FTR market, auction revenue rights market, and capacity market. Entities that only take transmission service or procure ancillary services via market-based rates pose little to no credit risk and are not required to comply with PJM’s credit risk policy.

PJM’s initial credit evaluation will include a new risk scoring methodology that will assign an Internal Credit Score to each applicant that will be a forward-looking numerical score that PJM settlement and quantitative and qualitative factors determine. As the result, PJM proposed to include in its Tariff a list of potentially unreasonable credit risk indicators, which, though not exhaustive or individually determinative, includes factors like prior history of market manipulation, financial defaults within the past five years, or some combination of low capitalization, likely future material financial liability, or a low Internal Credit Score.

If an applicant poses unreasonable credit risk in its initial credit risk evaluation, PJM may require collateral commensurate with the applicant’s risk of financial default. PJM may also reject an application to participate in PJM markets if collateral, additional collateral, or restricted collateral PJM requires does not remedy the unreasonable credit risk identified. PJM will also communicate any concerns to the applicant or market participant in writing, prior to finalizing a determination of unreasonable credit risk that is based on an initial credit risk evaluation, material adverse change, or ongoing credit risk evaluation. Market participants PJM determines pose unreasonable credit risk in ongoing credit risk evaluations, will have five business days after PJM’s written notification to provide supplemental information to potentially reduce the need for additional collateral.

On review, FERC accepted PJM’s proposal, and found that PJM’s revisions were just and reasonable and not unduly discriminatory or preferential. FERC agreed that the proposed revisions enhance PJM’s rules for evaluating and managing potential credit risks and potential default, ensures the integrity of the markets PJM administers, and provides additional clarity and transparency to market participants, which helps ensure just and reasonable rates. Notably, FERC expressly rejected assertions that PJM’s proposal did not adequately define “unreasonable credit risk,” or is unreasonably vague with respect to PJM’s credit score calculation, explaining that the revisions adequately balance the flexibility necessary to allow PJM to adequately protect the integrity of PJM-administered markets with the need for transparency for market participants.

Commissioners Danly and Glick issued a concurring opinion supporting the approval of PJM’s revisions to the creditworthiness provisions of its Tariff, but expressing concerns about the breadth of discretion given to the RTO in making creditworthiness decisions. Commissioners Danly and Glick noted that the revisions are an “important” step in improving PJM’s credit risk evaluation process—but additional revisions are likely needed. To that end, Commissioners Danly and Glick highlighted a pending petition in Docket Nos. AD20-6-000, which requests that FERC convene a technical conference and initiating a rulemaking to address credit and risk management procedures across organized markets, as an opportunity for the Commission to “engage in a much-needed discussion on these important issues.”

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