DR 97-251 NEW ENGLAND POWER COMPANY PETITION TO TRANSFER FACILITIES AND RELATED REQUESTS Order Approving Transfer and Granting Related Requests O R D E R N O. 22,982 July 20, 1998 APPEARANCES: Thomas Robinson, Esq., for New England Power Company; Carlos A. Gavilondo, Esq., for Granite State Electric Company; Donna C. Sharkey, Esq., for Enron Capital & Trade Resources, Inc.; Ann Ross, Esq.,for the Retail Merchants Association of New Hampshire (RMA); Stephen J. Judge, Associate Attorney General, for the Governor's Office of Energy and Community Services; Michael Holmes, Esq., for the Office of Consumer Advocate; and Robert J. Frank, Esq., for the Staff of the New Hampshire Public Utilities Commission. I. INTRODUCTION AND SUMMARY This order approves a request by New England Power Company (NEP) for authority to transfer its New Hampshire hydro electric facilities in a proposed transaction with USGen New England, Inc. (USGenNE) pursuant to which NEP has agreed to sell substantially all of its non-nuclear generating assets. As explained below, the Commission finds that NEP's proposal meets the public good standard of RSA 374:30 and generally comports with the State's electric utility restructuring policies in RSA 374-F. The Commission does not address in this order whether NEP, or its affiliated New Hampshire utility, Granite State Electric Company (GSEC), have adequately mitigated any stranded costs which might be borne by GSEC's ratepayers; however, the Commission finds that NEP utilized a reasonable market procedure to quantify any such costs. In addition to the proposed transfer of generation assets, this order approves several incidental requests by NEP. Specifically, the Commission grants NEP's request for authority to issue up to $100 million in long-term securities through December 31, 2000 for the purpose of funding potential payment obligations to USGenNE which are part of the divestiture transaction. The Commission also makes findings which will enable USGenNE to acquire NEP's generating assets without becoming subject to the Public Utility Holding Company Act of 1935 (PUHCA), 15 U.S.C. 79 et seq. II. PROCEDURAL HISTORY On December 8, 1997, NEP filed a petition requesting, inter alia, permission under RSA 374:30 to transfer its New Hampshire hydroelectric facilities to USGenNE in conjunction with a proposed sale of most of NEP's other non-nuclear generating assets and unit entitlements. In the same filing, NEP has also requested authority under RSA 369:1 to issue long-term debt to fund certain contingent obligations as part of the aforementioned transaction. NEP also seeks certain "eligible facilities" findings pursuant to PUHCA, 15 U.S.C. 79 et seq. The Commission initiated this proceeding by an order of notice issued on January 6, 1998. A prehearing conference was held on January 22, 1998. In Order No. 22,849 (February 17, 1998), the Commission granted timely requests for intervention by the following entities: the Town of Littleton, New Hampshire (Littleton); the Conservation Law Foundation (CLF); the Governor's Office of Energy and Community Services (ECS); USGenNE; the Business and Industry Association of New Hampshire (BIA); Enron Energy Services Company (Enron); and the Retail Merchants Association of New Hampshire (RMA). In the same order, the Commission directed Granite State Electric Company (GSEC) to enter an appearance in this docket. In Order No. 22,885 (March 30, 1998), the Commission granted requests for confidential treatment filed by NEP on February 13, 1998, March 4, 1998 and March 24, 1998. In Order No. 22,886 (March 31, 1998), the Commission approved a stipulation filed by NEP and GSEC, and supported by several other parties, concerning the scope of this docket in relation to DR 98-012. Evidentiary hearings were held on March 24-26 and April 1-2, 1998. The following parties appeared and presented testimony during the hearings: NEP, Enron, ECS, and OCA. Post-hearing briefs were filed by NEP, Enron, USGenNE, ECS, and OCA on April 17, 1998. Each of the foregoing parties except USGenNE also filed reply briefs on April 24, 1998. The Commission deliberated this matter at its June 15, 1998 public meeting. III. POSITIONS OF THE PARTIES AND STAFF A. NEP 1. Background NEP is a Massachusetts corporation and a wholly-owned subsidiary of the New England Electric System (NEES); it owns and operates generation and transmission facilities throughout Northern New England, including New Hampshire. NEP provides wholesale requirements service to four affiliated retail electric utilities, including GSEC. NEP and USGenNE have entered into a series of interrelated agreements pursuant to which NEP has agreed to sell, and USGenNE has agreed to purchase, substantially all of NEP's non-nuclear generation assets and approximately 1,100 MW of power procured by NEP under long-term contracts with independent power producers and non-utility generators. These agreements followed a competitive bidding process which NEP initiated during March, 1997 to comply with the terms of a retail electric restructuring settlement reached in Massachusetts with various state officials, consumer groups and environmental organizations. Exhibit 3, p. 6. NEP states that the instant transaction with USGenNE is a fundamental element in the corporate restructuring of NEES in response to state and regional policies to implement retail choice for electric customers. NEP requests approvals and findings in three areas. First, NEP seeks authority pursuant to RSA 374:30 to transfer ownership of its hydro electric facilities which are located, in whole or in part, within the State of New Hampshire. Second, NEP seeks authority pursuant to RSA 369:1 to issue up to $100 million in long-term debt to finance possible payment obligations to USGenNE in the event that NEP is able to obtain a release from its obligations under the power contracts as part of the proposed transaction with USGenNE. Finally, NEP requests certain "eligible facilities" findings pursuant to Section 32 of PUHCA, 15 U.S.C. 79z-5a, and the implementing regulations of the Federal Energy Regulatory Commission (FERC), 18 C.F.R. 365.3. Below, we briefly summarize NEP's position with respect to the foregoing requests. 2. Asset Transfer NEP contends that the proposed asset transfer to USGenNE exceeds the public good standard of RSA 374:30 because it will result in substantial benefits for the State and its electric customers. According to NEP, the transaction will disaggregate NEP's generation and transmission facilities, thereby reducing or eliminating NEP's vertical market power. NEP further argues that the transfer will mitigate horizontal market power by reducing the concentration of generation in the New England market. NEP states that the proposed transaction will relieve it of long-term obligations under its above-market power contracts and fuel transportation contracts, which will: ...reduce NEP's share of stranded costs attributable to [GSEC] by more than half (from $130 million to $57 million, for a first year reduction in stranded cost charges from 2.8 cents/kWh to 1.4 cents/kWh under the schedule proposed in Docket No. DR 98-012). Regardless of whether the Commission finds the mitigation from the sale insufficient or rejects recovery of some stranded costs in Docket No. DR 98-012, such mitigation nevertheless reduces [GSEC's] overall stranded cost obligation, and therefore is in the public good. Initial Brief at 7-8 (citations omitted). NEP points out that it has agreed to pass through, on a wholesale basis, GSEC's share of the savings associated with the proposed divestiture even if retail choice is delayed for GSEC's customers. Id. at 8. In addition to cost savings, NEP asserts that the transfer will also produce environmental and conservation benefits because USGenNE has agreed to honor certain commitments related to the relicensing of the Fifteen Mile Falls Project located in the Upper Connecticut River area of New Hampshire and Vermont. NEP alleges other miscellaneous benefits from the proposed transaction, including (a) a commitment by USGenNE to honor several tax stabilization agreements negotiated with three New Hampshire communities, (b) an $85 million payment by USGenNE above the $1.59 billion purchase price to fund agreements with labor unions representing NEP employees affected by industry restructuring, and (c) possible tax revenues to the State in excess of $4 million as a result of the transaction. 3. Request for Eligible Facilities Findings NEP requests that the Commission make certain "eligible facilities" findings under Section 32 of PUHCA and the pertinent regulations of the Federal Energy Regulatory Commission (FERC), 18 C.F.R. 365.3. NEP states that such findings are necessary to enable USGenNE to acquire NEP's generating assets without becoming subject to PUHCA, which is a condition of the proposed transaction. NEP states that the Commission must make eligible facilities findings with respect to all of the generating facilities which are being sold to USGenNE, even those located outside of New Hampshire. In addition, NEP seeks the same findings relative to its generating assets which are not part of the USGenNE transaction. A list of all of the facilities and entitlements for which eligible facilities findings are sought is located in Exhibit NEP-3 at MEJ-3. 4. Request for Financing Authority NEP seeks authority to issue up to $100 million in long-term securities through December 31, 2000 to fund contingent liabilities, referred to as "Trigger Payments," detailed in the Amended IPP Contracts Transfer Agreement (IPP Agreement). See, Exhibit NEP-4 (Book 6, pp.6-14). According to NEP, the IPP Agreement requires NEP and USGenNE to work cooperatively to transfer or assign (to USGenNE) each of NEP's existing power contracts, or to otherwise reduce or terminate these obligations. NEP asserts that the Trigger Payments "would be used to achieve economic savings for customers." Initial Brief at 13-14. NEP has also agreed to cap the financing rate at 250 basis points above the rate for 30-year Treasury Bills. According to NEP, that cap would currently yield a rate below nine percent. B. USGenNE USGenNE is an indirect wholly-owned subsidiary of PG&E Corporation, an exempt public utility holding company under section 3(a)(1) of PUHCA. It presented no testimony but submitted a post-hearing brief which addressed the testimony by the OCA regarding horizontal market power issues. Specifically, USGenNE alleges that the OCA's recommendations would require the Commission to regulate the interstate wholesale electricity market which is within the FERC's exclusive jurisdiction. Also, USGenNE contends that the OCA's recommendations are inconsistent with state law because it would require the Commission to regulate an industry (the wholesale generation market) which is not a natural monopoly. C. Enron Enron argues that NEP's petition should be rejected or, alternatively, that NEP and USGenNE should be required to "restructure" the proposed transaction in a manner that maximizes ratepayer benefits. Enron claims that the NEP-USGenNE proposal is the product of a flawed auction which produced unsatisfactory results compared to other recent asset sales. According to Enron, the proposed transaction "is a far better deal for NEES shareholders than for ratepayers." Initial Brief at 4. During the hearing, Enron presented the expert testimony of Richard Levitan who opined that the auction was flawed in two respects, causing NEP's assets to be significantly undervalued: first, NEP should not have combined the sale of its generating assets with the assumption of its above-market purchase power agreements; and second, the wholesale "backstop obligation" requires USGenNE to sell wholesale power to NEP's retail affiliates at below-market rates. According to Mr. Levitan, the inclusion of a backstop as a bidding requirement significantly depressed the asset value produced by the auction. Mr. Levitan testified that, overall, the results of the proposed divestiture are unsatisfactory when compared to those achieved in other recent transactions in New England and elsewhere. See Exhibit 11, p. 7 ("By any reasonable standard other than appreciation of stockholder equity, NEES' divestiture produces by far the worst results...The injury to NEES' ratepayers is heightened by the harm which befalls the competitive market under the structure of the [t]ransaction."). Enron notes that NEP characterizes the transaction as a $1.59 billion asset sale despite the fact that NEP will become obligated to "repay" USGenNE $1.2 billion over a ten-year period. This obligation is embodied in the PPA Transfer Agreement and it requires NEP to make annual contributions of between $150 million and $170 million to fulfill its wholesale power contracts. According to Enron, after this obligation is recognized, the net proceeds to NEP resulting from the asset sale amount to only $400 million. This adjustment yields a market-to-book ratio of between 0.62 to 0.95 which is far below the results obtained in other recent assets sales. D. OCA The OCA argues that the Commission's decision in this case should be decided simultaneously with the GSEC settlement in DR 98-012. According to the OCA, the record in this proceeding is inadequate to approve NEP's petition. Alternatively, the OCA recommends that the Commission condition any approval of the transfer by prohibiting USGenNE from owning any additional capacity in New England after the transaction with NEP unless it shows that New Hampshire ratepayers will not be harmed. The OCA asserts that several aspects of the proposed transfer are potentially anti-competitive; namely, the "backstop" provision in the Asset Purchase Agreement which could enable USGenNE to gain a market advantage and cause competitors to abandon the market and the potential for cross-subsidization between USGenNE's wholesale operations and retail sales. The OCA also presented expert testimony concerning the potential for horizontal market power after the proposed transfer. According to the OCA, the Commission has the duty and obligation to ensure that USGenNE will not possess horizontal market power as a result of the transaction. E. ECS ECS articulates three reasons for supporting the proposed transfer. First, ECS states that the transfer will promote the Legislature's objective to introduce competition in the electric industry. Second, ECS opines that the proposed transaction "provides GSEC with an exceptional opportunity to mitigate its stranded costs." Finally, according to ECS, the transfer "guarantees that the citizens of New Hampshire will enjoy significant environmental benefits." Exhibit ECS-1, p. 2. ECS claims further that the proposed transaction will achieve "the actual separation of substantially all of [NEP's] non-nuclear generation from its transmission and distribution...while NEP attempts to divest its remaining generating facilities, these assets will remain functionally separated from GSE[C]." Id. at 3. In addition, ECS argues that the proposed transaction will promote competition by expanding the number of participants in the New England power market. ECS also rejects Enron's arguments regarding the alleged diminution in asset value due to the inclusion of the backstop obligation in the auction. ECS takes no position on NEP's request for financing authority and notes that Commission approval of that aspect of NEP's filing is not essential for NEP and USGenNE to complete the proposed transaction. Finally, ECS urges prompt approval of the proposed transaction because, according to ECS, every month of delay costs GSEC's ratepayers $600,000 in potential savings that would otherwise be realized. According to ECS, regardless of the outcome of the GSEC settlement proceeding, the transfer will ensure approximately 17 percent lower electricity prices for GSEC's customers. IV. COMMISSION ANALYSIS We find that NEP's proposed transaction with USGenNE meets the public good standard in RSA 374:30 and is generally consistent with the restructuring policies in RSA 374-F. As set forth below, we also grant NEP's related requests for financing authority and "eligible facilities" findings. The foregoing approvals are premised upon one condition: namely that USGenNE agrees to offer transition service to GSEC under terms and conditions which are consistent with our decision in DR 98-012. A. Preliminary Observations NEP and several other parties urge the Commission to expeditiously approve the divestiture transaction, irrespective of the outcome of GSEC's settlement proposal in docket DR 98-012, because such approval will purportedly lead to lower rates for GSEC's retail customers. We point out, however, that NEP agreed in the instant proceeding to "pass through" the divestiture savings to GSEC's ratepayers only if GSEC (and GSEC's retail customers) agreed to pay NEP's claimed stranded costs before any review of those costs was undertaken by this Commission. In fact, NEP's original filing in this case was premised upon an assumption that we would approve GSEC's retail restructuring proposal. During the hearing, NEP agreed to flow through the savings resulting from the transaction even if the retail settlement was not approved prior to the divestiture transaction. Under both possible scenarios (retail access versus no retail access), however, NEP committed to allow GSEC's retail ratepayers to benefit from the transaction only if GSEC paid its fully allocated share of NEP's stranded costs via a "Contract Termination Charge" (CTC). We make this observation because NEP and several other parties have alleged that any delay in approving the proposed divestiture "costs" GSEC's customers $600,000 per month in rate savings. It is primarily our concern in this area that led us to delay issuing this order until such time as we addressed GSEC's retail restructuring settlement in DR 98-012. B. Scope of Proceeding The scoping stipulation which we approved in Order No. 22,886 purported to uncouple the issues to be considered in this proceeding from those which needed to be addressed in the retail settlement docket. As noted above, however, it is clear that we cannot simply disregard those aspects of the proposed transaction which bear directly on issues relating to retail competition, including NEP's claimed entitlement to stranded cost recovery. It would be inconsistent with our statutory responsibilities to evaluate NEP's petition in this case without regard for the extent to which an unconditional approval might impair our ability to implement retail competition for GSEC's customers consistent with RSA 374-F. This comports with the scoping stipulation which provides that an issue appropriately addressed within this docket is "the consistency of the transfer...with RSA 374-F and the Commission's policy on restructuring." Scoping Stipulation, p. 2. C. Authority to Transfer Facilities Pursuant to RSA 374:30 1. Standard of Review Pursuant to RSA 374:30, the Commission may authorize NEP to sell its New Hampshire-based hydro facilities to USGenNE if we find that the proposed transfer is in the public good. The Commission has historically applied a "no harm" standard when evaluating requests to transfer utility assets. See Grafton County Electric Light & Power Co. v. State, 77 N.H. 539 (1915); see also, Re Hampton Water Works Company, Inc., 80 N.H.P.U.C. 468, 473 (1995) ("[O]ur obligation is to ensure that the interests of ratepayers are balanced against the right of shareholders to be free of regulation which unreasonably restrains legitimate corporate activities."). Under the no harm test, the NEP-USGenNE transaction should be approved unless we find that it will have an adverse impact on the public. Id.; Eastern Utilities Associates, 76 N.H.P.U.C. 236, (252) (1991). This case involves somewhat different considerations than past utility asset sales because it must be assessed in the context of RSA 374-F. Accordingly, we conclude that the appropriate standard for evaluating NEP's petition is twofold. First, NEP must meet the traditional "no harm" test by showing that the proposed transaction does not adversely affect the public interest. Re Eastern Utilities Associates, 76 NH PUC 236, 252 (1991). Assuming that NEP meets the "no harm" standard, it must also show that the transaction is generally consistent with RSA 374-F and, in particular, with GSEC's obligation to mitigate stranded costs. See, RSA 374-F:3, XII(b); see also, Restructuring New Hampshire's Electric Utility Industry: Final Plan, pp. 54-57 (February 28, 1997). 2. Discussion We find that the divestiture meets the no harm standard in that it will not lead to any adverse consequences for GSEC's ratepayers or other third parties. This is primarily because NEP agreed to freeze its wholesale rates for customers who do not take service under alternative rate schedules. Under those circumstances, NEP assumed the risk that it would be forced to procure replacement power at costs which are higher than its current generation portfolio. See New England Power Company, et al., 82 FERC 61,179 (1998). We also agree that the transaction promotes the policy objectives of RSA 374-F, although several aspects of NEP's filing warrant discussion. First, NEP and others have mistakenly asserted that the proposed transaction will eliminate or reduce vertical market power in a retail access environment. The transaction involves wholesale, not retail, unbundling. NEP is already required by FERC to functionally unbundle its wholesale generation and transmission services. The proposed transaction with USGenNE takes that policy one step further by divesting generation assets which are allocated under various wholesale arrangements. The vertical disaggregation required by RSA 374-F relates to retail services, i.e., those provided by GSEC. The instant proposal does not require GSEC to unbundle its retail services; on the contrary, it contemplates that GSEC will continue to provide bundled service by purchasing wholesale "backstop" service from USGenNE. Nonetheless, we find that NEP's proposed divestiture is consistent with RSA 374-F to the extent that New Hampshire law supports FERC's unbundling policies and the evolution of a competitive wholesale market. See RSA 374-F:1 ("[T]he development of competitive market for wholesale and retail electricity are key elements in a restructured industry..."). NEP also asserts that the proposed divestiture will reduce the stranded costs which are "attributable" to GSEC by more than half, from $130 million to $57 million. This proposition assumes that GSEC is legally obligated to pay its allocated share of NEP's stranded costs which result from the introduction of retail access in GSEC's service territory. Although we have serious questions about whether GSEC has any such obligation in light of the FERC's decision on the contract between PSNH and the New Hampshire Electric Cooperative, Inc., we believe that NEP implemented a reasonable market process to quantify and mitigate stranded costs consistent with RSA 374-F. We find particularly compelling the fact that not one party has challenged the bidding procedures employed by NEP. We agree with NEP's statement that the "best evidence of value is the price actually paid by a willing buyer to a willing seller after a full, fair and open sales process." NEP Initial Brief, p. 11. No evidence was presented which suggests that the bidding process was inequitable or that bidders were denied an opportunity to access all relevant data. In fact, Enron acknowledged that it did not contest the fairness or equity of the process from the bidders' standpoint. According to several parties, NEP's decision to include a "backstop" requirement in the bidding rules depressed the actual purchase price which it could have otherwise obtained from prospective bidders. We agree that the inclusion of the backstop obligation had the effect of reducing the actual purchase price that USGenNE proposes to pay (or that another bidder would have paid) for NEP's assets. But it does not necessarily follow that the backstop bidding requirement actually reduced the overall value which NEP received for its generation assets. One of the issues we considered in DR 98-012 was how best to ensure that GSEC's ratepayers receive the full value of the backstop commitment by USGenNE. Our only concern is that USGenNE may insist on providing transition service on terms or conditions which deviate from our decision in DR 98-012. Although we seriously question whether the inclusion of a such a commitment would be appropriate in the case of other utilities, we note that NEP committed to the instant transaction as a result of a settlement reached in Massachusetts. By approving the instant transaction we do not imply that a similar approach should be adopted in the case of any other utility. On the contrary, we think the better approach is to separately bid transition service to ensure that it is procured at the lowest possible price. Nonetheless, in this case we are unable to conclude that the inclusion of this obligation unreasonably depressed the resulting purchase price for NEP's assets. We also disagree with Enron's assertion that NEP should have excluded from the auction its above-market purchase power contracts. According to Enron, the proposed sale to USGenNE yields an unacceptably low market-to-book ratio. As NEP points out, Enron's analysis did not incorporate various components of the transaction which increased the value of the consideration provided by USGenNE. Moreover, as noted above, our inquiry is more appropriately focused on ensuring that the bidding process was open and fair--a matter which no party has contested. In sum, we find that NEP's divestiture proposal is consistent with RSA 374-F and meets the public good standard in RSA 374:30. Our conclusion is based upon three primary considerations. First, the sale will cause no demonstrable adverse impact on the public. Second, the underlying transaction between NEP and USGenNE is consistent with state and federal policies concerning retail and wholesale competition. And, finally, NEP has committed to allocate fully the proceeds from the sale to GSEC irrespective of whether we approve the settlement in DR 98-012. D. Financing Authorit NEP seeks authority to issue up to $100 million in long-term debt through the year 2000 to fund "trigger payments" to USGenNE under the Purchase Agreement. According to NEP, these payment obligations will arise upon the occurrence of certain events such as the assignment or modification of NEP's purchase power contracts. During the hearing, NEP committed to cap the financing rate at 250 basis points above the rate for 30-year Treasury Bills. No party objected to NEP's request for financing authority. We find that NEP's proposed issuance of up to $100,000,000 in long-term debt, under the modified terms and conditions described in NEP's post-hearing Brief, is reasonable and meets the public good standard of RSA 369:1. The proposed borrowing facilitates the proposed divestiture transaction with USGenNE which we found in the previous section to be in the public good. E. Eligible Facilities Findings In addition to seeking approval of the asset transfer and proposed financing, NEP asks for certain "eligible facilities" findings under Section 32 of PUHCA and the implementing regulations of FERC, 18 C.F.R. 365.3. NEP states that USGenNE has made the receipt of EWG status a condition to the closing of the divestiture transaction. NEP nonetheless requests that we make such findings relative to all of their generating facilities, not just those which are being sold to USGenNE. Pursuant to PUHCA and FERC's regulations, the facilities which are being transferred to USGenNE may be considered eligible facilities under PUHCA only if we make the following determinations: (a) the designation will benefit consumers; (b) the designation does not violate State law; and (c) the designation is in the public interest. 18 C.F.R. 365.3(b). We herein grant NEP's request for the foregoing findings relative to those facilities which NEP is transferring to USGenNE pursuant to the proposed divestiture transaction. The bases for these findings are the same as those stated above in approving the proposed transfer. Again, we premise our findings in this area on the sole condition that USGenNE agrees to provide GSEC transition service consistent with the outcome of DR 98-012. We decline at this time to make the same findings relative to facilities which are not part of the proposed USGenNE sale. Without knowing how or under what terms and conditions that NEP will sell its remaining generation facilities, including its nuclear entitlements, we are unable to assess whether similar findings are warranted relative to those facilities. Based upon the foregoing, it is hereby ORDERED, that NEP's request for approval of its New Hampshire-based hydro generation facilities is approved pursuant to RSA 374:30 subject to the sole condition that USGenNE and NEP accept the outcome of DR 98-012 relative to the provision of transition service; and it is FURTHER ORDERED, that NEP's request for financing authority is approved pursuant to RSA 369:1 as set forth in this order; and it is FURTHER ORDERED, that NEP's request for eligible facilities findings is granted relative to the generation facilities which are the subject of the NEP-USGenNE transaction, but NEP's request for the same findings relative to facilities which are not being sold to USGenNE is denied. By order of the Public Utilities Commission of New Hampshire this twentieth day of July, 1998. Douglas L. Patch Bruce B. Ellsworth Susan S. Geiger Chairman Commissioner Commissioner Attested by: Thomas B. Getz Executive Director and Secretary