FERC Natural Gas Compliance Update Jim Jeffries Moore & Van Allen PLLC SGA Management Conference April 21, 2009

DISCLAIMER This presentation is not intended to be and does not constitute the provision of legal advice. Any opinions, conclusions, inferences, or speculations about past or future events or the dynamics of enforcement proceedings by the Federal Energy Regulatory Commission contained herein are my own and do not reflect any position held by my firm, my firm’s clients, or the SGA.

I.

Fundamentals of FERC Compliance and Enforcement Avoidance

II.

FERC Natural Gas Enforcement Activity Since EPACT 2005

III.

Exercise of FERC Penalty Authority

IV.

Lessons Learned

V.

What’s Next?

I.

Fundamentals of FERC Compliance and Enforcement Avoidance a.

FERC Penalty Authority.

b.

How to Avoid it.

c.

If You Can’t Avoid It, How to Assess and Minimize the Damage

FERC Penalty Authority $1 million per day penalty authority for market manipulation or violation of FERC’s regulations, orders, or policies. 15 USC § 717c-1

Employment of manipulative or fraudulent device, scheme, or contrivance in connection with purchase/sale of gas or transportation services.

15 USC § 717t

Violation NGA.

15 USC § 3414

Violation of NGPA.

How to Avoid FERC Enforcement Authority Compliance Planning Compliance Structures Compliance Training and Implementation

Compliance Planning Formal written plan. Identify goals, standards, and structures for achieving compliance. Senior management commitment to and approval of plan.

Compliance Structure Member of Senior Management designated as Compliance Officer. Mid-level compliance manager. Middle/Back Office Review Function. Mechanism for reporting violations. Periodic Audits. Periodic Reports to Management.

Compliance Training and Implementation Initial and recurrent training. Written training/reference materials. Proficiency Testing. Compliance certifications. Built into performance evaluation process. Review and approval of forms of transactions.

If You Can’t Avoid FERC Enforcement How to Assess it. How to Minimize the Damage and Manage the Process.

How to Assess a FERC Enforcement Claim Degree of Harm

Viability of Company

Presence of fraud/deceit

Harm to the Market

Willfulness/intent

Earnings/Revenues of Co.

Prior Offenses

Motivation Behind Conduct

Management Role

Impairment of Regulations

Discovery of Violations

Risk of Serious Harm

Commitment to Compliance

Reliance on Staff Guidance

How to Minimize a Claim It is what it is, but Self-Reporting. How misconduct uncovered. Prompt notification to FERC. Immediate response to violation. Present findings to FERC.

Cooperation in Enforcement Action. Voluntary Assistance. Independent Investigation. Management Cooperation. Facilitation of Investigation. Impact Identification.

II. FERC Natural Gas Enforcement Activity Under EPACT 2005 a.

SMHT/Buy-Sell Transactions

b.

Flipping

c.

Market Manipulation

d.

Open Seasons

SMHT/Buy-Sell Transactions Buy-sell arrangements are unlawful because they subvert FERC’s capacity release rules and are not transparent. “any shipper moving gas on the interstate pipeline system must have title to that gas.” Consolidated Natural Gas Transmission Corp., 38 FERC ¶ 61,150 (1987). Fourteen reported settlements.

Most common capacity release violation reported. Approximate penalty range = $6,000 to $30,000 per Bcf. Some remaining level of uncertainty about scope of buy-sell prohibition.

Flipping Alternating month-to-month non-biddable releases of discounted capacity to affiliated shippers. Four reported settlements: BP, Constellation, Integrys, ONEOK. Considered more serious than SMHT/Buy-Sell. Estimated Penalty Range of $120,000 to $360,000 per Bcf. No distinction between releasing/replacement shippers. Notice/intent issues.

Market Manipulation Two Pending Show Cause Proceedings: Amaranth --

alleged manipulative trading of natural gas futures contracts. Proposed penalty of $219 million.

ETP --

Alleged market manipulation in Houston Ship Channel and Waha Markets. Proposed penalty of $82 million penalty.

Open Season Issues Utilization of affiliates to bid for open season capacity in order to maximize allocated capacity award. FERC/OE’s latest “violation.” Four reported settlements (Tenaska, ONEOK, Klabzuba, and Jefferson Energy) and two pending show cause proceedings (Seminole and National Fuel).

Multiple claims: Manipulation. SMHT. Violation/Non-violation based on underlying intent of affiliate bid. Notice issues.

How Does Order No. 712 Change Things? Facilitates Asset Optimization/AMAs. Waives bidding requirements for AMAs and retail open access program.

Waives buy-sell prohibition for AMAs. Permanently removes rate ceilings for releases of one year or less. Waives “tying” prohibition for AMAs and retail open access programs.

III. Exercise of FERC Penalty Authority 28 Commission Orders approving settlements since EPACT 2005. $65 million in penalties assessed. $17 million in disgorgement required. Settlements predominate.

Mostly self-reports. Focus on market participants (paradigm shift). 75% of ‘06/’07 self-reports resulted in no action. OE/FERC willing to infer and punish “bad” intent.

OE/FERC willing to assess penalties retroactively even where no clear notice that sanctioned activities were violations. Negotiation process not necessarily a level or transparent playing field. Lack of transparency of FERC decision-making. Extraneous influences on FERC position (proportionality). Formulaic approach to settlement. Settlement authority sets independent floor/ceiling for negotiations.

Summary of Natural Gas Enforcement Actions:

See Appendix @ back of written presentation

IV. Lessons Learned a.

Internal

b.

External

Internal Lessons Learned Have a Compliance Plan. Follow your Compliance Plan. Review and approve forms of transactions before they are implemented. Know what your marketing, supply, and scheduling folks are doing. Correct improprieties immediately.

External Lessons Learned Avoid over-reliance on literal interpretations of FERC regulations, orders and policies. Avoid forms of transactions designed to achieve indirectly what can’t be achieved directly. Ask if there is a legitimate business justification for the transactional structure. Don’t assume “standard” industry practices are okay.

Take appropriate steps using available tools to resolve ambiguities regarding transactional structures before the fact. Formal – Declaratory Orders, No-Action Letters, General Counsel Opinions, Accounting Interpretations. Informal – Compliance Helpdesk, Enforcement Hotline, Informal Staff Guidance. Self-report – early and often. Self-investigate.

V. What’s Next? a. Pending Capacity Release Investigations. b. Order No. 712 Compliance Investigations. c.

OE Interest in “Sleeved” Transactions.

Pending Capacity Release Investigations Anecdotal evidence suggests multiple pending flipping investigations. Originated from late 2007/early 2008 OE Data Requests. Many at the negotiation stage. Ancillary SMHT/Buy-Sell issues.

Order No. 712 Compliance Investigations Anecdotal indications OE intends to conduct compliance investigations of asset management activities for compliance with Order No. 712.

“Sleeved” Transactions Anecdotal evidence OE is interested in “sleeved” transactions involving purchases of gas from Shipper A delivered to Shipper B at a downstream location with a concurrent sale back to Shipper A. Similar in effect to Buy-Sell. Apparent literal compliance with regulations but will OE see it that way?

Questions?