Panhandle Eastern Pipe Line Company, Petitioner, v. Federal Energy Regulatory Commission, Respondent, 890 F.2d 435 (D.C. Cir. 1989)

Panhandle Eastern Pipe Line Company ("Panhandle") challenges two Federal Energy Regulatory Commission ("FERC" or "Commission") orders summarily dismissing certain tariff sheets filed by Panhandle. See Panhandle E. Pipe Line Co., 43 F.E.R.C. p 61,121 (1988), reh'g granted in part and denied in part, 43 F.E.R.C. p 61,530 (1988). The tariff sheets proposed a scheme for allocating pipeline capacity between Panhandle and its wholly owned subsidiary, Trunkline Gas Company ("Trunkline"), as a means of implementing the rights of Panhandle customers to convert entitlements to receive gas purchased from Panhandle into entitlements to transport gas purchased directly from gas producers. The Commission found that the proposal violated both the right to nondiscriminatory transportation services and a Commission policy against "capacity brokering." Panhandle petitions for review on the ground that the Commission's orders are arbitrary and capricious.

On the record before us, we find merit in the petition for review. During the pendency of this appeal, the Commission significantly revised one of the legal norms on which its decision rested, making it impossible for the court to determine the status of Panhandle's tariffs. Even apart from this change in agency policy, moreover, the Commission's rejection of Panhandle's tariffs is not supported by reasoned decisionmaking. Consequently, the petition for review is granted and the case is remanded for further proceedings.

This case arises from Panhandle's attempt to comply with Commission Order No. 436, 50 Fed.Reg. 42,408 (1985), F.E.R.C. Stats. & Regs., Regulations Preambles 1982-1985 p 30,665 (codified in scattered sections of 18 C.F.R.).¹  Recognized as one of the "great [est] regulatory milestones of the [natural gas] industry," Associated Gas Distribs. v. FERC, 824 F.2d 981, 993 (D.C. Cir. 1987), cert. denied, 485 U.S. 1006, 108 S. Ct. 1468, 99 L. Ed. 2d 698 (1988), this regulation seeks to guarantee that the competitive conditions that now obtain in the "wellhead" or gas-production market will redound to the benefit of gas consumers. The order incorporates into FERC's licensing regime a variety of provisions intended to induce pipelines not to discriminate against customers who seek pipeline service to transport gas bought directly from gas producers rather than from the pipelines themselves. In the Commission's terms, Order 436 "unbundles" the pipelines' merchant and transportation functions. See generally F.E.R.C. Stats. & Regs., Regulations Preambles 1982-1985 p 30,665, at 31,474.

A central component of Order No. 436 is the right of pipeline customers--predominantly local distribution companies--to convert their contractual entitlement to receive gas purchased from the pipelines into a contractual entitlement to transport gas purchased from producers. See 18 C.F.R. Sec. 284.10 (1988). Encouraged by Commission regulations and policies, many distribution companies entered into long-term "firm demand" contracts that obligate the pipelines to guarantee delivery of up to a particular amount of gas on demand ("contract demand") in return for a fixed fee ("demand charge") paid by the distribution companies regardless of how much gas they actually consume. See generally Associated Gas Distribs., 824 F.2d at 1013.²  Both the duration of these contracts and their demand-charge terms operate to discourage distribution companies from purchasing cheap gas directly at the wellhead. To eliminate this problem, Order No. 436 makes certification to provide pipeline transportation services conditional on a pipeline company's agreement to permit its firm-sales customers to convert their entitlement to purchase and receive a particular amount of gas from the pipeline into an entitlement merely to transport a "volumetrically equal amount" of gas. See 18 C.F.R. Sec. 284.10(c) (1).³ 

During the comment period for Order No. 436, pipeline companies expressed concern over how this conversion right would affect demand for pipeline capacity. Notwithstanding the right of customers effectively to withdraw from long-term firm-demand contracts, pipeline companies remain obligated--contractually and otherwise, see Associated Gas Distribs., 824 F.2d at 1013--to satisfy the demand of those customers who choose to continue to purchase their gas from the pipelines. In promulgating Order No. 436, the Commission reasoned that "unbundling" the transportation and merchant functions of the pipelines would not interfere with the pipeline companies' legal obligation to service their remaining sales customers, because any customer exercising its conversion right would have "already booked the transportation capacity currently 'bundled' with" its entitlement to receive a particular amount of gas. Order No. 436, F.E.R.C. Stats. & Regs., Regulations Preambles 1982-1985 p 30,665, at 31,517.

The Commission subsequently recognized, however, "that in some cases a customer w [ould] seek [ ] to use different segments of the pipeline system," thus potentially interfering with a pipeline's ability to meet its remaining firm-sales obligations. The Commission therefore announced that allocation problems would "be dealt with on a case-by-case basis." Order No. 436-A, F.E.R.C. Stats. & Regs., Regulations Preambles 1982-1985 p 30,675, at 31,664. The Commission has subsequently made clear through adjudication that a pipeline "company [may] impose reasonable operating conditions" on a customer's conversion right in order effectively to manage pipeline capacity. ANR Pipeline Co., 39 F.E.R.C. p 61,029, at 61,072 (1987); see also Columbia Gulf Transmission Co., 34 F.E.R.C. p 61,408, at 61,775 (1986).⁴ 

On March 28 and March 30, 1988, Panhandle filed for Commission approval a series of tariff schedules relating to the conversion rights of Panhandle's customers. The major issue addressed by the tariffs was allocation of pipeline capacity.⁵  The "integrated Panhandle system"--to use Panhandle's language--consists of Panhandle's own "West End" pipeline originating in Kansas,⁶  and Trunkline's pipeline originating in the Gulf of Mexico. The two systems converge in Tuscola, Illinois, from which Panhandle serves customers throughout the Midwest. See Joint Appendix ("J.A.") 61-62.⁷  Panhandle asserted before the Commission that it would be unable to meet its contract-demand obligations if forced to accommodate all transportation conversion requests solely on its West End line. See id. 43. It therefore proposed in its tariff that its customers' conversion entitlements be apportioned between West End and Trunkline on a 61:39 ratio, consistent with the percentage of gas contributed by each to the Panhandle line serving customers east of Tuscola. See id. 21. A customer's unused transportation entitlement on Trunkline would, on request, be honored on the West End pipeline on a first-come, first-served basis, as capacity became available. See id.

The Commission summarily rejected Panhandle's tendered tariffs, ruling that "Panhandle must provide capacity on its West End System for all conversions up to that system's capacity." Panhandle E. Pipeline Co., 43 F.E.R.C. p 61,530, at 62,318 (1988).⁸  Panhandle's proposal to allocate transportation capacity between West End and Trunkline, the Commission found, was "unjust and unreasonable" because it denied Panhandle's customers access to the major gas wells served by the West End line. See id. at 62,318. "In addition," the Commission announced, "capacity brokering is not allowed under current policy." Id. Finally, the Commission reasoned that Panhandle's attempt "to force customers to use Panhandle's capacity on Trunkline" distinguished the major precedent relied on by Panhandle, Columbia Gulf Transmission Co., 34 F.E.R.C. p 61,408 (1986). Panhandle E. Pipeline Co., 43 F.E.R.C. at 62,318.

During the pendency of this appeal, the Commission revised one of the legal norms supporting its rejection of Panhandle's tariffs: FERC's policy against "capacity brokering." Capacity brokering is the practice whereby a party entitled to transportation services on a particular pipeline assigns or "brokers" that entitlement to another party; in this case, the Commission rejected Panhandle's tariffs on the ground that Panhandle was proposing to assign a fraction of its transportation entitlement on Trunkline's pipeline to Panhandle customers who exercise their transportation-conversion rights. Following the issuance of its decision in this case, however, the Commission has indicated through adjudication that it now "believes that capacity brokering ... should be addressed in individual cases," and even "encourage [d]" in appropriate circumstances. Interstate Natural Gas Pipeline Rate Design, 48 F.E.R.C. p 61,122, at 61,448 n. 64 (July 27, 1989); see, e.g., United Gas Pipe Line Co., 46 F.E.R.C. p 61,060, at 61,263 (January 24, 1989).

Because we cannot determine how FERC's change in policy affects the status of Panhandle's tariffs, we are obliged to remand the case for further proceedings. See NLRB v. Food Store Employees Union, Local 347, 417 U.S. 1, 10 & n. 10, 94 S. Ct. 2074, 2080 & n. 10, 40 L. Ed. 2d 612 (1974). Such a disposition represents the intersection of two well-established doctrines. The first holds that an appellate court must consider the law in effect at the time it renders its decision, even when a change in governing law is made by an administrative agency. See Thorpe v. Housing Auth., 393 U.S. 268, 281, 282, 89 S. Ct. 518, 525, 526, 21 L. Ed. 2d 474 (1969).⁹  The second holds that a reviewing court may "not supply a reasoned basis for the agency's action that the agency itself has not given." Motor Vehicles Mfrs. Ass'n v. State Farm Mutual Auto. Ins. Co., 463 U.S. 29, 43, 103 S. Ct. 2856, 2866, 77 L. Ed. 2d 443 (1983). Thus, because we are at liberty neither to evaluate the Commission's decision under FERC's old policy on capacity brokering nor to assess on our own how Panhandle's tariffs would fare under FERC's new policy, we are required to remand so that the Commission may indicate how, if at all, its decision would be affected by its intervening policy change.¹⁰ 

In reaching this result, we are constrained to express our dismay with the Commission's failure to mention the revision of its capacity-brokering policy in its brief to the court. Counsel for FERC acknowledged the change only when directly confronted with the pertinent FERC decisions at oral argument. We expect more from Government counsel. When an agency changes a policy or rule underlying a decision pending review, the agency should immediately inform the court and should either move on its own for a remand, cf. Farmers Union Central Exch. v. FERC, 584 F.2d 408, 416 n. 22 (D.C. Cir.), cert. denied, 439 U.S. 995, 99 S. Ct. 596, 58 L. Ed. 2d 669 (1978), or explain how its decision can be sustained independently of the policy in question.¹¹ 

After conceding at oral argument that FERC's policy on capacity brokering no longer supports FERC's rejection of Panhandle's tariffs, counsel for the Commission suggested that we view the agency's decision as resting on the alternative ground that the tariffs violated Order 436's open-access policy. Although we are skeptical that the rationales articulated by the Commission below constitute genuinely independent grounds for its rejection of Panhandle's tariffs, we have no question that so reading FERC's decision would not save the disputed orders from reversal. In order to remove any doubts concerning the adequacy of the orders considered independently of the Commission's evolving standards on capacity brokering, we will therefore address the merits of Panhandle's petition.

Review of the Commission's action in this case is governed by the "arbitrary and capricious" standard of section 706(2) (A) of the Administrative Procedure Act, 5 U.S.C. § 706(2) (A) (1982).¹²  See Michigan Consolidated Gas Co. v. FERC, 883 F.2d 117, 120 (D.C. Cir. 1989). Under this standard, FERC must engage in "reasoned decisionmaking," ANR Pipeline Co. v. FERC, 771 F.2d 507, 516 (D.C. Cir. 1985), taking a " ' "hard look" at the salient problems' " before it, Consolidated Edison Co. v. FERC, 823 F.2d 630, 637 (D.C. Cir. 1987) (quoting Greater Boston Television Corp. v. FCC, 444 F.2d 841, 851 (D.C. Cir. 1970), cert. denied, 403 U.S. 923, 91 S. Ct. 2233, 29 L. Ed. 2d 701 (1971)), and offering "reasoned explanation" for any " ' [d]ivergence from agency precedent,' " Michigan Consol. Gas Co., 883 F.2d at 122 (quoting Cross-Sound Ferry Servs., Inc. v. ICC, 873 F.2d 395, 398 (D.C. Cir. 1989)). See generally State Farm, 463 U.S. at 43, 103 S. Ct. at 2866. The disputed orders do not pass this test.

The Commission argues that it was entitled summarily to reject Panhandle's tariffs because the tariffs, on their face, violated FERC regulations and policies. According to the Commission, 18 C.F.R. Sec. 284.10(c) allows a customer of a pipeline to convert to transportation service "its existing firm sales entitlement under any eligible firm sales service agreement with that pipeline." Brief for Respondent Federal Energy Regulatory Commission ("Brief for Respondent") at 15. The Commission also notes that Order 436 embodies a general policy favoring "open-access" to pipeline transportation services. See id. at 15-17.¹³  Pointing to the general deference that courts must afford an agency's interpretation of its own regulations, the Commission concludes that it was entitled to construe the regulations in question to prohibit Panhandle from limiting requests for converted transportation capacity on its West End line or from assigning a fraction of its customers' conversion entitlements to the pipeline of another company--Trunkline.

The problem with the Commission's argument is that it fails to come to terms with the Commission's regulations and policies permitting pipelines to "impose reasonable operational conditions" on transportation services in order effectively to manage pipeline capacity. 18 C.F.R. Sec. 284.8(c). In Columbia Gulf Transmission Co., 34 F.E.R.C. p 61,408 (1986)--the major case relied on by Panhandle--the Commission approved on this basis¹⁴  a settlement designed to address capacity problems similar to those allegedly presented in this case. In Columbia Gulf, Columbia Gas, a pipeline company dependent on five upstream lines, including that of its affiliate Columbia Gulf, proposed to limit and allocate customers' conversion entitlements on Columbia Gulf in order to protect Columbia Gas' ability to meet its firm-sales obligations. See 34 F.E.R.C. at 61,769. The Commission approved this proposal as a temporary measure,¹⁵  reasoning that "it was never contemplated that the Columbia Gulf system would or could alone meet all of the firm requirements for natural gas on the Columbia Gas system." 34 F.E.R.C. at 61,775. Before the Commission, Panhandle similarly argued that it was never contemplated that Panhandle's West End line would alone meet all the firm-sales commitments of the Panhandle system and that Panhandle is therefore entitled to impose conditions on the conversion entitlements of its customers. See J.A. 43.

Two bases for distinguishing the reasonable-conditions exception generally and Columbia Gulf in particular arguably can be teased from the Commission's brief and from its opinion below. The first possible distinction is factual. Commission counsel argues that Columbia Gulf was decided in "the narrow context of the unique situation presented there, where the facts showed that allocating Columbia Gas' customers a larger share of the capacity on Columbia Gulf's system would have inevitably denied other firm customers the service to which they were entitled." Brief for Respondent at 20. " [I]f Panhandle lacks the capacity on its own system to" honor its customers' conversion entitlements, the Commission now maintains, "it should proceed to make a showing that it lacks such capacity." Brief for Respondent at 19; see id. at 16 (making same argument and citing ANR Pipeline Co., 39 F.E.R.C. p 61,029, at 61,072 (1987)).

This alleged distinction cannot survive scrutiny under the arbitrary-and-capricious standard of review. The Commission's opinion below made no attempt factually to distinguish Columbia Gulf, and the belated attempt to do so now constitutes nothing more than "appellate counsel's post hoc rationalization [ ] for agency action." State Farm, 463 U.S. at 50, 103 S. Ct. at 2870. Indeed, by disposing of Panhandle's tariffs summarily, the Commission denied Panhandle any opportunity to make a "showing" that it lacks sufficient capacity on its West End line to honor its customers' conversion entitlements.¹⁶ 

The second possible distinction is legal. In addition to citing the Commission's then "current policy" against capacity brokering, FERC's opinion says that Panhandle's allocation proposal effectively "forces" Panhandle's customers to take a fraction of their entitlements on the Trunkline line, thereby excluding them from the wellhead markets served by the West End line. See 43 F.E.R.C. p 61,530, at 62,318. The Commission presumably meant to distinguish Columbia Gulf on this ground, noting that "capacity on Columbia Gulf was not to be used in lieu of Columbia Gas' own capacity." Id.

This alleged legal distinction also is plainly insufficient to support the Commission's decision. As counsel conceded at oral argument, the Commission simply misread Columbia Gulf. That case squarely endorsed allocating conversion entitlements between distinct pipelines in order to address capacity-related problems associated with implementing Order 436's conversion entitlements. None of the grounds relied upon by the Commission explains FERC's departure from this practice. Moreover, the settlement approved in Columbia Gulf not only allocated capacity between pipelines, but also reduced customers' transportation entitlements on a particular pipeline in order to protect Columbia Gas' ability to meet its firm-sales obligations. Panhandle, too, is seeking to reduce its customers' entitlement on its West End line so that Panhandle can reserve the capacity it needs to serve its firm-sales customers. The disputed orders failed to offer any explanation--reasoned or otherwise--concerning why Columbia Gulf does not govern this aspect of Panhandle's tariffs.

The failure to address Panhandle's alleged capacity problems also undermines the Commission's conclusion that Panhandle's proposed allocation scheme "forces" Panhandle's customers to use Trunkline in violation of Order No. 436's "open-access" policy. It is true that the scheme provides strong incentives for the customers to satisfy a fraction of their transportation entitlement on the Trunkline line, for they will effectively lose thirty-nine percent of their conversion entitlement if they decline to do so.¹⁷  But the Commission's conclusion that this result constitutes coercion in violation of FERC's nondiscrimination regulations, see 18 C.F.R. Sec. 284.8(b), presupposes that Panhandle is not entitled to limit capacity on its West End line as a reasonable operating condition. If Panhandle, like the pipeline in Columbia Gulf, is entitled under FERC regulations and policies to reduce its customers' entitlement on the West End line, then the proposed reallocation to Trunkline, far from limiting the customers' choices, actually expands them. Because this ground of the Commission's decision "assumes away the problem" of Panhandle's alleged capacity limitations, Associated Gas Distribs., 824 F.2d at 1024, it does not qualify as reasoned decisionmaking.¹⁸ 

In sum, the orders in this case are arbitrary and capricious because the Commission "entirely failed to consider an important aspect of the problem," State Farm, 463 U.S. at 43, 103 S. Ct. at 2866: how implementation of the transportation-conversion entitlements on the West End line would affect Panhandle's ability to satisfy its firm-sales obligations. The Commission has recognized that the transportation-conversion component of Order 436 may interfere with pipelines' abilities to honor their firm-sales commitments, and has opted to address allocation problems on a case-by-case basis. See Order No. 436-A, F.E.R.C. Stats. & Regs., Regulations Preambles 1982-1985 p 30,675, at 31,664. Nonetheless, in this case, the Commission has studiously avoided addressing Panhandle's capacity limitations. There may be reasons--factual or legal--to reject Panhandle's tariffs, but such reasons are not to be found in the disputed orders.¹⁹  " [A] court is not to substitute its judgment for that of the agency" in conducting arbitrary-and-capricious review, State Farm, 463 U.S. at 43, 103 S. Ct. at 2866, but when the agency has--as in this case--declined to exercise any judgment of its own, the court has little choice but to remand.

Because the Commission has revised one of the grounds on which its decision rested and because the remaining grounds do not reflect reasoned decisionmaking, we reverse and remand for further proceedings. On remand, the Commission should determine how, if at all, its new policy on capacity brokering affects the status of Panhandle's tariffs. It should also re-examine its determination that Panhandle's tariffs cannot be justified on the basis of FERC regulations and precedents authorizing pipelines to impose "reasonable operating conditions" on their customers' transporation-conversion entitlements. Should the Commission again reach the conclusion that these authorities are distinguishable, it must explain this conclusion in more comprehensible terms than it did in the orders we have reviewed today.²⁰ 

It is so ordered.