# Appendix — AMER-RADA HESS CORP. v. FEDERAL ENERGY REGULATORY COMMISSION (Nos. 77-697, 77-695) > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385005_0055%3A2 ## Record - **Collection:** Supreme Court brief - **Document type:** Appendix - **Published:** January 1, 1977 ## Text Supreme Court, U. S. FILED } NOV 15 1977 MICHAEL RODAK, JR., CLERK | In The SUPREME COURT OF THE UNITED STATES October Term, 1977 no. FY -697 AMERADA HESS CORPORATION, ET AL. Petitioners, Vv. FEDERAL ENERGY REGULATORY COMMISSION, Respondent. APPENDICES A & B TO CONDITIONAL CROSS-PETITION FOR A WRIT OF CERTIORARI TO THE UNITED STATES COURT OF APPEALS FOR THE DISTRICT OF COLUMBIA CIRCUIT APPENDIX A made before the bound volumes go to press. THE SECOND NATIONAL NATURAL GAS RATE CASES No. 76-2000, et al. AMERICAN PUBLIC GAS ASSOCIATION, et al., PETITIONERS ° Vv. FEDERAL POWER COMMISSION, RESPONDENT * * Consolidated with the following cases (identified by this Circuit’s case number and petitioner) originally arising in or transferred to this Circuit, in all of which the Federal Power Commission is the respondent: Originally filed in this Circuit: 76-2001, Senators James Abourezk, John Durkin, and William Proxmire, and Repre- sentatives Les Aspin, Berkley Bedell, William Brodhead, et al.; 76-2041, United Distribution Companies; 76-2053, Tennessee Public Service Commission ; 76-2069, Phillips Petroleum Com- pany; 76-2072, Public Service Commission of the State of New York; 76-2108, Marathon Oil] Company; 76-2108, Belco Petroleum Corporation ; 76-2137, Associated Gas Distributors; 76-2147, Laclede Gas Company; 77-1005, Mountain Fuel Sup- ply Company; 77-1016, Ashland Oil, Inc.; 77-1022, Gulf Oil Corporation : From the First Circuit: 77-1117, Cabot Corporation; From the Second Circuit: 77-1126, Mobil Oil Corpora- tion; 77-1127, Exxon Corporation ; From the Third Circuit: 77-1139, Texaco, Inc.; 77-1140, Gulf Oil Corporation; 77-1141, Sohio Petroleum Company; From the Fifth Circuit: 77-1039, Continental Oil Com- pany; 77-1062, Superior Oil Company; 77-1060, Tenneco Oil Petitions for Review of Orders of the Federal Power Commission Argued March 23, 1977 March 24, 1977 Decided June 16, 1977 Charles F. Wheatley, Jr., with whom William T. Miil- ler and Stanley W. Balis were on the brief for petitioners in No. 76-2000 and intervenors, American Public Gas Association, et al. James L. Feldesman was on the brief for petitioner, Consumer Federation of America in No. 76-2000. Warren Spannaus, Attorney General, State of Minne- sota was on the brief for petitidner, State of Minnesota in No. 76-2000. Company ; 77-1063, General American Oil Company of Texas; 77-1064, Placid Oil Company; 77-1065, Shell Oil Company; 77-1066, Aminoil USA, Inc., et al.; 77-1067, Pennzoil Com- pany, et al.; 77-1068, Aztec Oil and Gas Company; 77-1069, Austral Oil Company, Inc; 77-1070, Enserch Exploration, Inc.; 77-1071, Hunt Oil Company, et al.; 77-1072, Freeport Minerals Company; 77-1073, Inexco Oil Company; 77-1074, Ecee, Inc., et al.; 77-1075, Louisiana Land and Exploration Company, et al.; From the Seventh Circuit: 77-1120, Amoco Production Company; 77-1121, Natural Gas Pipeline Company of America; From the Ninth Circuit: 77-1219, Getty Oil Company; 77-1220, Atlantic Richfield Company; 77-1221, Union Oil Company; From the Tenth Circuit: 77-1118, Kerr-McGee Corpora- tion; 77-1119, Cities Service Oil Company; 77-1288, Skelly Oil Company. Cee ae Beng Rodney A. Wilson, Special Assistant Attorney General, State of Minnesota was on the brief for petitioner, Minne- sota Public Service Commission in No. 76-2000. Steven M. Schur, Chief Counsel, Public Service Com- mission of Wisconsin was on the brief for petitioner, Public Service Commission of Wisconsin in No. 76-2000. David B. Graham was on the brief for petitioner, Natural Rural Electric Cooperative Association in No. 76-2000. John Gunther was on the brief for petitioner, United States Conference of Mayors in No. 76-2000. James F. Flug was on the brief for petitioner, Energy Action Committee in No. 76-2000. Stephen Schlossberg was on the brief for petitioner, United Automobile, Aerospace and Agriculture Imple- ment Workers of America in No. 76-2000. Frank W. Frisk, Jr., was on the brief for petitioner, American Public Power Association in No. 76-2000. Charles Brannan was on the brief for petitioner, Na- tional Farmers Union in No. 76-2000. Lee D. Sinclair was on the brief for petitioner, Na- tional Farmers Organization in No. 76-2000. Leslie G. Foschio, Corporation Counsel, Buffalo, New York was on the brief for petitioner, City of Buffalo, New York in No. 76-2000. William Straub, Erie County Attorney, was on the brief for petitioner County of Erie, New York in No. 76-2000. James L. Magavern also entered an appearance for petitioner in No. 76-2000. Geoffrey L. Brazier was on the brief for petitioner, Montana Consumer Counsel in No. 76-2000. 4 Felix G. Forlenza was on the brief for petitioner, New Jersey Board of Public Utility Commissioners in No. 76-2000. Carla Vivian Bello also entered an appearance for petitioner, New Jersey Board of Public Utility Com- missioners in No. 76-2000. Daniel Guttman, with whom Alan Roth was on the brief for petitioners, in No. 76-2001 and intervenors Senators James Abourezk, et al. Richard A. Solomon, with whom Peter H. Schiff, Gen- eral Counsel, Public Service Commission of the State of New York and Sheila S. Hollis were on the brief, for pe- titioner in No. 76-2072 and intervenor The Public Serv- ice Commission of the State of New York. Frederick Moring, with whom Philip M. Marston was on the brief for petitioner in Nos. 76-2137 and 77-1013 and intervenors, Associated Gas Distributors. Dana Con- tratto also entered an appearance for intervenor, As- sociated Gas Distributors. John F. Bates, with whom Robert S. Campbell, Jr., and R. G. Groussman, were on the brief, for petitioner in No. 77-1005. C. William Cooper and Tilford A. Jones for petitioners in No. 76-2041 and intervenor United Distribution Com- panies. Gordon Gooch, with whom Charles M. Darling, IV, John M. Young, Michael B. Silva and Phyllis Rainey were on the brief, for petitioners in Nos. 77-1060 and 77-1067 and intervenors, Pennzoil Company, et al. and Tenneco Oi! Company, et al. Thomas G. Johnson for petitioner in No. 77-1065 and intervenor, Shell Oil Company. J. Evans Attwell, with whom Judy M. Johnson was on the brief for petitioners in Nos. 76-2108, 77-1068, pepe ee ae eee 5 77-1069 and intervenors, Austral Oil Company, Inc., Aztec Oil and Gas Company, Belco Petroleum Corpora- tion and Transocean Oil, Inc. Bernard A. Foster, III, with whom H. H. Hillyer, Jr., was on the brief for petitioners in No. 77-1075. Paul W. Mallory, with whom Joseph M. Wells, Paul E. Goldstein and Harry L. Albrecht were on the brief, for petitioner in No. 77-1121 and intervenor, Natural Gas Pipeline Company of America in Nos. 76-2053, 76- 2041 and 76-2072. Drexel D. Journey, General Counsel Federal Power Commission and Patrick J. Keeley, Attorney Federal Power Commission with whom Robert W. Perdue, Deputy General Counsel and Allan Abbot Tuttle, Solicitor, Fed- eral Power Commission were on the brief, for respondent. Philip R. Telleen, Attorney, Federal Power Commission also entered an appearance for respondent. John L. Williford was on the brief, for petitioner in No. 76-2069 and intervenor Phillips Petroleum Company. B. James McGraw and A. Randall Friday were on the brief, for petitioner in Nos. 77-1022 and 77-1140 and intervenor, Gulf Oil Corporation. Derrill Cody and Patricia D. Robinson were on the brief for petitioner in No. 77-1118 and intervenor Kerr- McGee Corporation. Tom P. Hamill, R. D. Haworth and Roscoe Elmore were on the brief for petitioner in No. 77-1126 and in- tervenor Mobil Oil Corporation. W. B. Wagner, Jr., Pat E. Timmons, James M. Dun- nam and David Bonderman were on the brief for pe- titioner in No. 77-1052 and intervenor, The Superior Oil Company. 6 Martin N. Erck, Paul W. Wright and Edmunds Travis, Jr., were on the brief for petitioner in No. 77-1127 and intervenor Exxon Corporation. David M. Whitney was on the brief for petitioner in No. 77-1066 and intervenors, Aminoil Production Com- pany. Wm. H. Emerson was on the brief for petitioner in No. 77-1120 and intervenor Amoco Production Company. R. F. Generelly was on the brief for petitioner in No. 77-1016 and intervenors Ashland Oil, Inc. and General American Oil Company of Texas and also entered an appearance for petitioner in No. 77-1063. E. J. Kremer and D. Aston were on the brief for pe- titioner in No» 77-1220 and intervenor Atlantic Rich- field Company. Edwin S. Nail was on the brief for petitioner in No. 77-1117 and intervenor Cabot Corporation. Robert S. Wheeler and Sam Riggs, Jr., were on the brief for petitioner in No. 77-1119 and intervenor Cities Service Oil Company. Tom Burton and John M. Badger were on the brief for petitioner in No. 77-1039 and intervenor Continental Oil Company. Gordon Gooch and Charles M. Darling, IV, also entered an appearance for petitioner in No. 77-1039. Scott P. Anger was on the brief for petitioner in No. 77-1070 and intervenor Enserch Exploration, Inc. Wm. Neal Powers, Jr., was on the brief for petitioners in Nos. 77-1072 and 77-1074 and intervenors Freeport Minerals Company, Ecee, Inc., et al. and Estate of E. Cockrill, Jr., et al. Cloy D. Monzingo was on the brief for petitioner in No. 77-1219 and intervenor Getty Oil Company. Jack ae 6 heel Beal) > ~ toe ee. 7 L. Brandon also entered an appearance for Intervenor Getty Oil Company. Robert W. Henderson was on the brief for petitioners in No. 77-1071 and intervenors, Hunt Oil Company, et al. Artiur S. Berner was on the brief for petitioner in No. 77-1073 and intervenor, Inexco Oil Company. Wm. Neal Powers, Jr., also entered an appearance for pe- titioner in No. 77-1073. William A. Sackman was on the brief for petitioner in No. 76-2103 and intervenor Marathon Oil Company. Paul W. Hicks was on the brief for petitioner in No. 77-1064 and intervenor Placid Oil Company. Jimmy C. Bailey also entered an appearance for petitioner in No. 77-1064 and intervenor Placid Oil Company. Richard F. Remmers was on the brief for petitioner in No. 77-1141 and intervenor Sohio Petroleum Company. Roger L. Brandt was on the brief for petitioner in No. 77-1139 and intervenor, Texaco, Inc. William T. Benham also entered an appearance for intervenor Tex- aco, Inc. Kenneth L. Riedman, Jr., and Richard F. Wornson were on the brief for petitioner in No. 77-1221 and in- tervenor Union Oil Company of California. Gordon P. MacDougall, Special Assistant Counsel, Commonwealth of Pennsylvania was on the brief for in- tervenors Commonwealth of Pennsylvania and Pennsy)- vania Public Utilities Commission in No. 76-2000. Harold B. Scoggins, Jr., was on the brief for inter- venor, Independent Petroleum Association of America in Nos. 76-2000 and 76-2001. Frank P. Saponaro, Jr., and J. Randolph Elliott were on the brief for intervenor Statex Petroleum, Inc. 8 Gordon Gooch was on the brief for intervenors, Fel- mont Oil Corporation, Coquina Oil Corporation and The Rodman Company. A. S. Lacy, was on the brief for intervenor Alabama Gas Corporation in No. 76-2000. Ben Stead, Assistant Attorney General for the Public Utilities Commission of the State of South Dakota was on the brief for intervenor Public Utilities Commission State of South Dakota. M. Howard Petricoff and Henry J. Bourguignon filed a brief on behalf of the City of Toledo, Ohio as amicus curiae urging reversal. Philip C. Wrangle filed a brief on behalf of Sonat Exploration Company and the Offshore Company as amicus curiae urging reversal. J. Evans Attwell and Judy M. Johnson filed a brief on behalf of Small Producers as amicus curiae urging reversal. Eugene W. Ward and T. E. Midyett, Jr., entered ap- pearances for petitioner in No. 76-2053. J. David Mann, Jr. entered an appearance for pe- titioner in No. 76-2147 and intervenor Laclede Gas Com- pany. H. Lamar Curtis entered an appearance for intervenor J. M. Huber Corporation. Jerome J. McGrath entered an appearance for inter- venor, Interstate Natural Gas Association of America. Ronald E. Jarrett and Ronald J. Jacobs entered ap- pearances for intervenor, Skelly Oil Company. James D. Olsen entered an appearance for intervenor Sun Oi] Company (Delaware). George W. Hugo and Bruce F. Kiely entered an ap- pearance for intervenor Texas Gulf, Inc. 9 Thomas W. Lynch entered an appearance for inter- venor Texas Pacific Oil Company, Inc. Peter W. Hanschen, Malcolm H. Furbush and Daniel E. Gibson entered appearances for intervenor Pacific Gas and Electric Company. David G. Stevenson entered an appearance for inter- evnor Amerada Hess Corporation. Justin R. Wolf entered an appearance for intervenors The California Company, et al. and Chevron Oil Com- pany Western Division. T. Brooke Farnsworth and Wm. Neal Powers entered appearances for intervenor Damson Oil Corporation. Harold L. Talisman, Dale A. Wright, Melvin Richier, Gregory Grady and Terence J. Collins entered appear- ances for intervenors, Cities Service Gas Company and Tennessee Gas Pipeline Company, etc. Toney Anaya, Assistant Attorney General, New Mex- ico and Cameron R. Graham, Special Assistant Attorney General entered appearances for intervenor, State of New Mexico. Jeffrey A. Meith and Thomas D. Clarke entered ap- pearances for intervenor Southern California Gas Com- pany. James L. Bomar, Jr., entered an appearance for in- tervenor East Tennessee Group. John B. Randolph entered an appearance for intervenor Mississippi River Transmission Corporation. Before: FAHY, Senior Circuit Judge, LEVENTHAL, Circuit Judge and GERHARD A. GESELL,* United States District Judge for the United States District Court for the District of Co- lumbia * Sitting by designation pursuant to 28 U.S.C. § 292(a). 10 Opinions for the Court filed by LEVENTHAL, Circuit Judge, and FAHY, Senior Circuit Judge. Opinion dissenting in part by FaHy, Senior Circuit Judge. LEVENTHAL, Circuit Judge: This case presents peti- tions to review the 1976 orders of the Federal Power Commission in the second nationwide natural gas rate proceeding. The pertinent orders embrace Opinion No. 770, issued July 27, 1976; clarifying orders issued in September and October 1976; and Opinion No. 770-A, on rehearing, issued November 5, 1976. In brief, the FPC’s orders prescribed the following rates: (a) $1.42 per Mef, for sales of gas from wells com- menced on or after January 1, 1975—with provision for escalation.’ (b) $0.93 Mcef—reduced from the $1.01 rate prescribed in Opinion 770—for 1973-1974 biennium gas, i.e., sales of gas from wells commenced on or after January l, 1973 and prior to January 1, 1975. This rate is also subject to escalation.’ (c) $0.52 per Mef, applicable to sales of gas under “renewal contracts” where a contract has expired by its own terms. Again there is escalation.’ These rates represent increases from the nationwide rate of $.52 per Mef, established by Opinion No. 699- H, which was upheld in Shell Oil Co. v. FPC, 520 F.2d ‘Of one cent per quarter. The rate increased to $1.44 on January 1, 1977, and to $1.45 on April 1, 1977. ? Of one cent per annum. It increased on January 1, 1977 to $.94. * Of one cent per annum. The rate increased to $0.53 per Mcf on January 1, 1977. 11 1061 (5th Cir. 1975), cert. denied sub nom California Co. v. FPC, 426 U.S. 941 (1976). The impact of the increase was estimated by the Commission at from $1 49 to $1.78 billions during the next 12 months. Within seconds after Opinion 770-A issued, competing petitions for review were filed in this circuit and in other circuits. A panel of this court heard oral argu- ment on the question of the proper venue for this pro- ceeding and held that although petitions for review had been filed simultaneously in this circuit and the Fifth Circuit, the ultimate standard announced by 28 U.S.C. § 2112(a), “the convenience of the parties in the inter- est of justice,” dictated that the case be heard in the District of Columbia, American Public Gas Association v. FPC, No. 76-2000, —— F.2d —— (D.C.Cir., Dec. 30, 1976). This court issued orders for an expedited briefing schedule. We heard oral argument on March 23 and 24, 1977. All petitioners complain that the FPC orders violate pertinent statutory mandates, lack support in substantial evidence and are arbitrary and capricious. Essentially, the consumer petitioners complain that the rates by the FPC are too high; the producer petitioners complain that those rates are too low. There are also other parties and positions, as will appear. Pending disposition, this court provided for contingent refunds. While Opinion 770 was under reconsideration by the Commission, this court exercised its jurisdiction under the All Writs Act, 28 U.S.C. $1651 (1970), to preserve the possibility of a refund. See Order of Av- gust 9, 1976, American Public Gas Association ». FPUC, 543 F.2d 356 (D.C.Cir. 1976). After issuance of Opin- ion 770-A, this court stayed the FPC’s orders except as to producers who undertook to refund portions of the rate increases subsequently held unlawful and exce)t 12 as to gas from onshore wells commenced after July 27, 1976. Order of November 9, 1976, amended No- vember 18, 1976, included as appendices to American Public Gas Association v. FPC, No. 76-2000, —— F.2d —— (1976).* We have given due consideration to a vast number of issues raised by the various petitioners. We cannot practicably speak separately to each of the issues, but the considerable discussion we provide, for the issues of primary consequence, will fairly identify the bases of our conclusion that the orders before us should be af- firmed. For convenience, we interject a Table of Con- tents identifying the topics specifically discussed by the court. * The order provided, however: that the use of any refunds which might accrue there- under shall be subject in the first instance to consider- ation by the Commission, its conclusion with respect thereto being subject to court review. Several producers sought a writ of mandamus with re- spect to this court’s action in the United States Supreme Court. The panel which had entered the orders of August 9, November 9 and November 18, 1976, filed an explanatory memorandum with that Court. Upon motion of the producers, the petition was dismissed. Amerada Hess Corp., et al. v. Fahy, et al., and American Public Gas Association, —— U.S. —— (Jan. 25, 1977). 13 TABLE OF CONTENTS OVERVIEW AND SCOPE OF REVIEW ........ A. Regulatory Background ..........00000 B. Procedure in FPC Docket .......0000 Ee 1. General FPC Approach... 2. Examination of Reasons and Changes... 8. Experimental and Dynamic features of I eee - PROCEDURAL ISSUES .....W ww... saciileteis ITI. REINSTATEMENT OF VINTAGING TO AVOID EXCESSIVE PROFITS ........... COST ALLOWANCE FOR INCOME TAXES ARERR ERAS oe aa A. Departure from Prior Policy ............... B. Use of an Economic Model .....——— PRODUCTIVITY AND GAS RESERVES ........ . ATTACKS ON NATIONAL APPROACH TO oo ES EE A. Failure to Distinguish Between Onshore and RT a . COST IMPACT OF ADVANCE PAYMENTS. VIII. CONTINUATION OF THE OPINION 699 RATE FOR “ROLLOVER” GAS _..--......... APPLICATION OF BIENNIUM RATES . 14 I. OVERVIEW AND SCOPE OF REVIEW A. Regulatory Background The FPC’s first venture into a national rate for new natural gas came in its Docket No. R-389-B. This re- sulted in Opinion 699 and amendments, culminating in Opinion No. 699-H, issued December 4, 1974, which fixed a nationwide base rate of 52¢ per Mcf throughout the United States (except Alaska) for new gas (govern- ing wells commenced and deliveries begun after January 1, 1973, and also new contracts replacing expired con- tracts on “flowing gas”). Opinion 699 and its subse- quent clarifications were affirmed in the 1975 Shell opin- ion of the Fifth Circuit." That opinion sketches, and we do not repeat, the background of previous develop- ments in producer regulation—the FPC’s early abstin- ence; the 1954 Phillips decision,” that the Natural Gas Act provided for regulation of prices charged by natural gas producers in interstate sales; and the FPC’s regula- tion of producers by regional areas, upheld in the Per- mian Basin Area Rate Cases, 390 U.S. 747 (1968). Shortly after beginning Docket R-389-B, the FPC com- menced a separate Docket No. R-478, to fix nationwide rates for “flowing gas,” from wells drilled prior to January 1, 1973. Opinion No. 749, issued on December 31, 1975, established a rate of 23.5¢ per Mcf, increasing to 29.5¢, as of July 1, 1976, the date when the 22% depletion tax allowance expired for regulated gas pro- duction. That is pending on review in the Fifth Cir- cuit.’ * Shell Oil Co. v. FPC, 520 F.2d 1061 (5th Cir. 1975), cert. denied, California Co. v. FPC, 426 U.S. 941 (1976). * Phillips Petroleum Co. v. Wisconsin, 347 U.S. 672 (1954). *Tenneco Oil Co., et al. v. FPC, No. 75-2960 (appeals by both producer and consumer interests) . @ 15 B. Procedure in FPC Docket On December 4, 1974,-the same day that Opinion 699- H issued, the FPC instituted Docket RM-75-14, which culminated in the orders and opinions (770 and 770-A) currently under review. The notice projected need for a revision of Opinion 699-H to govern new natural gas for the 1975-1976 biennium and such changes as might further the public interest. The FPC did not propose specific rates in its Notice but stated it would rely on responses by the parties and Commission staff. The order designated as respond- ents all interstate pipeline companies, and all producers with jurisdictional sales exceeding 10 million Mcf per annum, who have since participated as Indicated Pro- ducer Respondents. Ultimately some 46 parties and groups of parties, representing all segments of the nat- ural gas industry and the consuming public, filed writ- ten comments and cross-comments on a host of matters." The ability of parties to comment was limited in one respect much stressed to this court—concerning the mat- ter of the Staff’s study of 31 off-shore Louisiana gas leases in order to probe the issue of gas reserves.’ * The time for initial comments was extended to August 11, 1975, and for reply comments to September 11. There were also supplemental reply comments; comments invited by FPC order of June 16, 1975, as to the weight to be given to unregu- lated intrastate gas prices; and comments invited by vari- ous FPC orders (dated August 4, 1975, October 3, 1975, and March 23, 1976) concerning several cost studies and rate recommendations made by the FPC’s Bureau of Natural Gas (BNG) and its Office of Economics (OEC). *In June 1975 the FPC directed its Staff to update a pre- vious study it had considered in Opinion 699-H concerning the reporting of reserves in some 31 off-shore Louisiana gas leases. The purpose was to investigate the gas reserve figures compiled by the American Gas Association. The producers compelled to submit their reserve estimates secured an inter- 16 C. Scope of Issues Opinions 770 and 770A establish rates dramatically higher than the national rates previously established in Opinion 699-H: a near-tripling for new gas; for the 1973-74 biennium, an increase from 52 to 93 cents. As already noted, the Commission estimated an impact of the increase over the next year ranging from $1.49 to $1.78 billions. Commensurate with these figures are the complexity, variety and range of the issues raised by the consumer protests. Nor have the producers been supine. Their complaints against the level of the rates, and their perceived inadequacy, are sharpened by their anguish that the FPC has reverted to the practice—abandoned in Opinion 699-H—of vintaging gas prices according to the period of production; and by resentment that Opinion 770-A, in response to consumer presentations on rehear- ing, set a price for the 1973-74 biennium of 93 cents instead of the $1.01 set in Opinion 770, and narrowed the eligibility for higher new rates. This is a major case. This court’s 1976 orders pro- vided for submission on an expedited basis. The need for expedition of the decision and opinion has been under- scored by the increasing awareness that the country is locutory order from the Fifth Circuit requiring these to be kept in confidence pending determination of the producers’ appeals. Accordingly, the Commission did not release the data for public comment “as it had originally intended.” On June 21, 1976, the FPC incorporated into the record conclu- sions from all of the data.” The FPC was subsequently au- thorized by the court to release the data if it established an appropriate basis therefor, Pennzoil Co. v. FPC, No. 75-2961 (5th Cir. July 2, 1976), but it decided against such release on the ground that “the purposes of the 31 lease investiga- tion have been largely accomplished”, Opinion 770 Mimeo at 8, R. 2503. 17 in the midst of an energy crisis, and is considering measures to cope with it. The court has also sought to expedite issuance of its opinion. All issues tendered have been given care- ful consideration, although they have not been discussed in the detail used by the parties. Issues not discussed in this opinion are technical; many concern matters where we agree with the disposition in Shell, and they would not account for any significant portion of the rate increase under review. D. Standards of Judicial Review The matrix of a court’s consideration of the validity of a natural gas rate order lies in the scope of and standard for judicial review defined in pertinent de- cisions. “Judicial review begins at the threshold, with en- forcement of the requirement of reasonable procedure, with fair notice and opportunity to the parties to present their case.” Greater Boston TV v. FCC, 143 U.S.App. D.C. 383, 392, 444 F.2d 841, 850 (1970), cert. denied, 403 U.S. 923 (1971). The details and techniques differ, but the essential principles apply even in proceedings gov- erned by notice-and-comment disposition rather than evi- dentiary hearings. Portland Cement Assn. v. Ruckel- shaus, 158 U.S.App.D.C. 308, 486 F.2d 375 (19783), cert. denied, 417 U.S. 921 (1974). In substantive terms, the Administrative Procedure Act describes the principal judicial function with the direction that the reviewing court shall set aside agency action found to be “arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law.” 5 U.S.C. § 706(2) (A). The APA’s terms direct inquiry whether the agency is “unsupported by substantial evi- dence” only in a case subject to 5 U.S.C. $$ 556, 557, or reviewed “on the record of an agency hearing pro- 18 vided by statute.” The Natural Gas Act does not ex- pressly require a hearing on the record. United States v. Florida East Coast Ry., 410 U.S. 224 (1973). Sec- tion 19(b) of the Natural Gas Act, 15 U.S.C. § 717 et seq., does provide that the “finding of the Commission as to the facts, if supported by substantial evidence, shal! be conclusive.” The issue of procedure—the permissibility of notice- and-written comment (informal rule-making) —is consid- ered separately, in Judge Fahy’s Opinion for the Court. Some commentators have also put it that a statutory reference to “substantial evidence’ requires a more rigorous standard of review than the arbitrary-capricious standard.’ We agree with Judge Friendly that the issue is largely semantic, and that the two criteria “tend to converge” in notice-and-comment rulemaking. Associated Industries of New York v. Dept. of Labor, 487 F.2d 342, 348-350 (2d Cir. 1973). What is basic is the require- ment that there be support in the public recor? for what is done, City of Chicago v. FPC, 147 U.S.App.D.C. 312, 458 F.2d 731 (1971), cert. denied, 405 U.S. 1074 (1972). The ultimate standard of reasonableness of Federal Power Commission ratemaking was given an early gloss by the Supreme Court in terms of the “end result” test. FPC v. Hope Natural Gas Co., 320 U.S. 591 (1944). The decision in Permian Basin Area Rate Cases, 390 U.S. 747 (1968) reshapes that test and guides us as to the principal ingredients of the court’s functions. (a) In assessing the numerous and disparate con- tentions arising out of a lengthy proceeding, the court has an authority “essentially narrow and circumscribed” and need not examine every detail if the total effect be reasonable. 390 U.S. at 766-67. *° This view is implicit is some passages of the Shell opinion, e.g., 520 F.id at 1081. 19 (b) A presumption of validity attaches to each exer- cise of the Commission’s expertise and those who would overturn its judgment have a heavy burden of making a convincing showing that it is unjust and unreasonable in its consequences. 390 U.S. at 767. (c) However, there is a need for rate criteria, for “reviewing courts will require criteria more discriminat- ing than justice and arbitrariness if they are sensibly to appraise the Commission’s orders.” 390 U.S. at 790. (d) There is a “zone of reasonableness” in ratemak- ing, and within this zone the Commission may employ rates functionally to encourage production. 390 U.S. at 796-8. In a much-quoted passage Permian summed up the ultimate criteria governing the reviewing court. See 390 U.S. at 791-92: It follows that the responsibilities of a reviewing court are essentially three. First, it must determine whether the Commission’s order, viewed in light of the relevant facts and of the Commission’s broad regulatory duties, abused or exceeded its authority. Second, the court must examine the manner in which the Commission has employed the methods of regula- tion which it has itself selected, and must decide whether each of the order’s essential elements is supported by substantial evidence. Third, the court must determine whether the order may reasonably be expected to maintain financial integrity, attract necessary capital, and fairly compensate investors for the risks they have assumed, and yet provide appro- priate protection to the relevant public interests, both existing and foreseeable. The court’s responsibility is not to supplant the Commission’s balance of these interests with one more nearly to its liking, but in- stead to assure itself that the Commission has given reasoned consideration to each of the pertinent fac- tors. Judicial review of the Commission’s orders wil! 20 therefore function accurately and efficaciously only if the Commission indicates fully and carefully the methods by which, and the purposes for which, it has chosen to act, as well as its assessment of the consequences of its orders for the character and future development of the industry. We are, in ad- dition, obliged at this juncture to give weight to the unusual difficulties of this first area proceeding; we must, however, emphasize that this weight must sig- nificantly lessen as the Commission’s experience with area regulation lengthens. We shall examine the various issues presented by the rate structure in light of these interrejated criteria. The Court’s concept of “reasoned decisionmaking” is in essence the keystone of the Rule of Administrative Law. “The function of the court is to assure that the agency has given reasoned consideration to all the ma- terial facts and issues.” Greater Boston TV v. FCC, 143 U.S.App.D.C. at 393, 444 F.2d at 851. The Permian approach resonates as guidance for re- viewing courts. Recent decisions underscore its vitality. The “zone of reasonableness” has been identified as ac- commodating a wide latitude to integrate cost factors with non-cost and policy considerations. FPC v. Conway, 426 U.S. 271 (1976). Especially significant is Mobil Oil Corp. v. FPC, 417 U.S. 283 (1974), wherein the Court expatiated on the roles of the FPC and reviewing court. The Supreme Court acknowledged that the pri- mary responsibility for judicial review lay in the courts of appeals. It stressed that the equity powers of those courts properly accommodate to agency flexibility, so that, e.g., affirmance of an order may retain agency latitude for modification. 417 U.S. at 311. The agency’s flexibility is viewed broadly, to permit “pragmatic ad- justments” based on exigencies of administration. 417 U.S. at 329. The FPC may tolerate inequities where it “squarely faced” up to the problem and deemed it less 21 significant than the pursuit of broad advantages to the public interest. 417 U.S. at 321-23. Throughout Mobil reflects an approach to the “sub- stantial evidence” standard as requiring the reviewing court to respect the agency’s wide latitude for difficult policy choices, and in adjusting that standard “in this time of acute energy shortage” to provide greater free- dom for new proposals and techniques.’ Particular at- tention is called to the Court’s discussion of the con- clusion that refund credits and contingent escalation constituted appropriate means to assist capital forma- tion for exploration.* The parties raised a not insub- stantial issue. The Court’s response identified the con- text that the Commission had taken “massive evidence” with voluminous exhibits and various cost estimates in the record, and that the rates fixed, even with incentive increments, were within the range of cost estimates. “Its difficulties, while not minor, did not stem from any fail- ure to seek answers.” 417 U.S. at 318, referring to n.48 at p. 313. That single sentence is a capsule of the re- quirement of reasoned decisionmaking in the context of the novel and exigent problem of seeking to enhance natural gas supply in time of dire shortage while main- taining fairness to consumers. 1. General FPC approach Instructed by these Supreme Court guidelines, and pretermitting discussion of specific contentions, we refer for perspective to the Overview provided by the FPC of its approach. At the outset: “This rate is fully cost- based and justified. Additionally, non-cost factors have "417 U.S. at 331. 2 Pub. Serv. Comm. of N.Y. v. FPC, 167 U.S.App.D.C. 100, 108, 511 F.2d 383, 346 (1975) (advance payments remand). been examined to ensure that the cost-based rate is just and reasonable.” (Opinion 770 mimeo at 1-2, R. 2497). The cost factors included “drilling productivity, drilling costs and all of the other costs associated with the pro- duction of natural gas.” The non-cost factors included “the price of competitive fuels, the impact upon supply and demand, inflationary pressures, the nation’s natural gas shortage and conservation factors.” (Mimeo at 3, R. 2499). Costs were determined by “a discounted cash flow analysis by costing the average successful well that is drilled ir the test year 1976.” A 15% rate of return was allowed. The discounted cash flow analysis used in Opinion No. 699-H and approved in the Shell opinion was modified in certain respects. Drilling costs were changed to re flect higher costs actually incurred during 1973 and 1974. The productivity data were expanded from 7 years (1966-1972) to include the reports for 1973 and 1974. The depletion life was changed from 18 years to 15 years (with a pre-production period of 3 years). In view of the repeal of the percentage depletion allowance, a provision for income taxes payable was inserted, at the marginal tax rate of 48%. Opinion 770’s Overview concluded by allocating the $1.5 billion added to consumers’ costs in the first year (later adjusted in Opinion 770-A). “Of this amount, approximately 55% goes to the Treasury in higher taxes, 25% compensates for higher costs, and 20% ac- crues to the producers. Over the longer run, we expect consumers will benefit as a result of reduced reliance on expensive alternate fuels. We believe that this de- cision will lead to increased gas supply and to greater gas conservation.” Mimeo at 5, R. 2500. 23 2. Examination of reasons and changes These general statements are only prologue. With all the latitude for expertise and specialization of the agency, the court must still probe the essential particulars—to assure itself that the Commission has seriously sought answers and engaged in reasoned decision-making. The court has been particularly alert to consider those aspects in which the FPC’s approach differs from what has been approved. An agency may of course reconsider its approach even in the absence of any new evidence. Mobil Oil Corp. v. FPC, 417 U.S. at 320. However, the change in policy must be avowed and reasoned. An agency’s view of what is in the public interest may change, either with or without a change in cir- cumstances. But an agency changing its course must supply a reasoned analysis indicating that prior policies and standards are being ya menange | changed, not casually ignored, and if an agency glosses over or swerves from prior precedents without discussion it may cross the line from the tolerably terse to the intolerably mute. Greater Boston TV v. FCC, 143 U.S.App.D.C. at 394, 444 F.2d at 852. 3. Experimental and dynamic features of novel regulation When regulation features novelty, in subject, technique or both, the narrow scope of review established by con- ventional doctrine is further circumscribed. Thus Per- mian noted that the court tempers its review to take into account the “unusual difficulties” of the first proceeding. Alongside was the countervailing caution that the force of this restraint lessens as the Commission has time and opportunity to gain experience and make adjustments. See 390 U.S. at 792, quoted above. See also Shell Oil Co. v. FPC, 520 F.2d at 1071, and cases cited. 24 These considerations were stressed in Shell on review of Opinion 699-H, the first nationwide rate order. The court used the metaphor of “kid glove” review as ap- propriate circumscription in view of the “experimental nature” of the regulation. 520 F.2d at 1071. Extra def- erence is provided when the Commission articulates a tentative balance on an issue, announcing that it is “pre- pared to reevaluate the equilibrium it sought to achieve in the biennial review.” 520 F.2d at 1077. Yet the Fifth Circuit took occasion to sound a caution against the FPC’s assumption that it could continue to support essential elements of its orders “with little more than ipse dixit.” The court said: “We must regret, how- ever, that the FPC continues to issue orders which would be inadequate but for our ‘kid glove’ treatment. * * * [a] cautionary note should indicate that as experiment lapses into experience, the courts may well expect the Commission to justify its policies with reasoned projec- tions of that once-prototypic policy’s probable net ef- fect.” * In this posture of matters, the court’s rule may require it to affirm an order regardless of misgivings, but to dis- charge the function of identifying problem areas that call for reconsideration and that cannot be affirmed in subsequent proceedings in the absence of reasoned sup- port grounded in experience. The underlying principle is broader than natural gas regulation. The en banc opinion in American Airlines v. CAB, 123 U.S.App.D.C. 310, 359 F.2d 624 (1966) pre- sented a judicial approval of the blocked space program as reasonable in projection, taking into account the agen- cy’s capacity and duty to provide reappraisal in the light of experience. (And see p. 633: “a month of experience will be worth 4 year of hearings.”) In United States v. ** Shell, 520 F.2d at 1072. 25 CAB [American Airlines et al., ALPA, et al.], 167 U.S. App.D.C. 318, 511 F.2d 1815 (1975), the court upheld an October 1973 CAB order approving an air carriers’ agreement for capacity reduction as interim or emer- gency action, but it set aside the July 1974 order of the CAB extending its approval because of the agency’s fail- ure to provide continuing consideration of the matter on a non-emergency basis. The principle has full vitality, however, in the field of natural gas regulation, as is dramatized by this court’s actions concerning the FPC’s program for advance pay- ments to gas producers. In 1972, this court sustained the order as a “justifiable experiment in the continuing search for solutions to our nation’s critical shortage of natural gas.” Public Serv. Comm. of N.Y. v. FPC, 151 U.S.App.D.C. 307, 467 F.2d 361, 371 (1972). The court stressed the need for further evaluation. Subsequently, this court held that the FPC had failed to engage in meaningful! review, analysis and evaluation of experience under the program, and declined to affirm an extension, Public Serv. Comm. of N.Y. v. FPC, 167 U.S.App.D.C. 100, 511 F.2d 338 (1975). On remand, the FPC termi- nated the program as of the end of 1975. The need for flexibility and reevaluation is underscored by the nation’s wide-ranging and comprehensive reevalua- tion of energy policy. There is no direct impact on the legal issues before us. Yet the reviewing court acts as a court of equity in appraising the n_ d and method of further consideration of issues. See Mobil Oil Co., 417 U.S. at 311. Equity historically takes into account chang- ing circumstances. In present context, these may come to include revision of the structure and functions of the Commission whose orders are under review. In the light of this broad perspective, we turn to the more particular contentions raised by the consolidated petitions for review. 26 II. PROCEDURAL ISSUES With varying emphases, the consumer interests have attacked the procedures used by the FPC. The basic question is whether the notice-and-comment procedure of informal rulemaking is permissible for an enterprise of such magnitude and complexity. This issue has been given special attention. Our discussion appears in the opinion of Judge Fahy which approves the FPC’s basic procedural approach. The residual possibility that its procedure may have been inadequate as to particular issues is subsumed under separate sections of this opinion, dealing with the evi- dence and reasoning pertinent to those issues. Similarly those sections necessarily reflect the court’s consideration of the contention that even where the agen- cy is not required to institute more than a minimal notice and written comment procedure, the court may call for additional procedures as an adjunct enabling it to per- form its task of providing “meaningful judicial review of highly technical issues.” * The producer interests have raised a different issue of procedure, focusing on whether there has been a Congres- sional role that has undermined the validity of the ad- justments made by the FPC on reconsideration. This is- sue has also been given special attention in the opinion of Judge Fahy for the Court, in which we reject the pro- ducers’ contention that the Commission is disqualified to issue Opinion 770-A. ‘* Pickus v. U.S. Board of Parole, —— U.S.App.D.C. ——, 543 F.2d 240, 246 (1976) ; Portland Cement Assoc. v. Ruckel- shaus, 158 U.S.App.D.C. 308, 486 F.2d 375 (1973), cert. denied 417 U.S. 921 (1974). This doctrine is implicit in FPC v. Transcontinental Gas Pipe Line Corp., 423 U.S. 326 (1976). It can be furthered by a remand leaving the order in effect and possibly by a remand of only the record, as contrasted with a remand of the case that vacates the order. Pickus II, 543 F.2d at 246, n. 24. 27 III. REINSTATEMENT OF VINTAGING TO AVOID EXCESSIVE PROFITS We begin discussion of specific objections to the rate order with the producers’ threshold-type contention that the orders are invalid in providing for a vintaging ap- proach, establishing separate rates for 1973-1974 bienni- um gas and for 1975-1976 biennium gas. The underlying premise of the producers is that natu- ral gas must be regulated as an irreplaceable commodity, not a service, and that vintaging compels the sale of natural gas at prices below the cost of replacing the gas consumed. This was rejected as long ago as the 1968 Permian opinion, where the Court accepted the Commis- sion’s conclusion that “a two-price rate structure will both provide a useful incentive to exploration and prevent excessive producer profits.” 390 U.S. at 798. The Court accepted as consistent with the Act a two-price system adopted by the Commission on the premise of a lower price for sales where “price could not serve as an incentive” since any price “above average historical costs, plus an appropriate return, would merely confer windfalls.” /d. at 797. Subsequent to Permian, the FPC has issued orders di- verging from concepts of vintaging, and these have been approved by the courts. Its Opinion 639 and follow-on interpretations, authorizing new rates as contracts ex- pired, were upheld as a reasonable attempt to phase out “contract vintaging.” ** As we shall see in discussing the “rollover” matter the precise issues are different, but we acknowledge the parallels of theory. However, this is not just a theory, but a balancing of the interests of producers % Shell Oil Co. v. FPC, 491 F.2d 82 (5th Cir. 1974); Pub. Serv. Comm. of N.Y. v. FPC, —— U.S.App.D.C. ——-, 548 F.2d 874, cert. denied, ——_— U.S. —— (1976). 28 and consumers. Like all issues of rate regulation the key questions are likely to involve “pragmatic adjustments.” *° That brings us to the producers’ proposition that Opin- ion No. 699-H’s nationwide pricing exemplified a commit- ment to a single uniform national rate for all gas, and signaled the end of the “anachronism of vintaging.” “ The 1975 Shell opinion upheld the trend toward elimina- tion of vintaging as within the latitude of agencies to re- evaluate old experiments.” The Commission has latitude to reconsider its experi- ment in abandoning vintaging. The producers contend that the problem of “excessive rents” was obviously be- fore the Commission when it issued No. 699-H and there was no new evidence to make a difference. In Opinion No. 770, the FPC explained that its change of course was due to the “magnitude of the increase of the rate” pre- scribed for the post-1974 gas, leading the Commission to conclude it must “abandon its intended policy” and “vin- tage by a 1973-1974 cost grouping to preclude exaction of excessive and unjustifiable economic rent from flowing gas.” (Mimeo at 12, R. 2507). It referred to Opinion 699-H, stating “we did not anticipate at that time such a dramatic increase in costs and decrease in productivity.” (R. 2508). There was thus an explicit acknowledgment of change, no stealthy deviation. This change, say the producers, is only a difference in degree from the situation before the FPC in 1975. Dif- ferences in degree may become so wide as to justify dif- ference in outlook and response. It was within the policy ‘© Natural Gas Pipeline Co. v. FPC, 315 U.S. 575, 586 (1942) ; Mobil Oil Corp. v. FPC, 417 U.S. 283, 329 (1974). *“This uniform price will constitute a recognition of the fact that gas is a consumable, irreplaceable commodity and not a service which can be renewed by man.” 52 FPC at 1637-8. **520 F.2d at 1077-78. 29 latitude of the Commission, in its balance of interests, to emphasize, as it did here, its “responsibility to mini- mize severe and harmful economic dislocation due to in- creased rates.” * The producers say this approach is at odds with the function of rate regulation whereby the government simu- lates what would have been achieved in a free market. In support of this contention the producers cite, inter alia, FPC v. Texaco, Inc., 417 U.S. 380 (1974). That is ironic because that opinion specifically held Order No. 428 was not vulnerable because it set different levels of just and reasonable rates for small producers and large pro- ducers. 417 U.S. at 390. Not unexpectedly the Court re- lied on Permian. In Texaco the Court rejected the contention that the Commission was free to rely exclu- sively on market prices when it was the legislative prem- ise of regulation that there was no free competitive market in the oil and gas industry. Simulation of what would obt-'n in a free competitive market is a premise of rate regulation but often a speculative one, and one that is neither conclusive nor dominant over the need to strive with pragmatic adjustments for a fair balance of producer and consumer interests. IV. Cost ALLOWANCE FOR INCOME TAXES PAYABLE We examine initially the Commission’s treatment of the impact of federal income taxes on natural gas opera- tions. The increment to price allowed for income taxes payable constitutes the largest portion of the increase in price over that allowed in Opinions 699 and 699-H. Opinion 770 allows +3 cents per Mcf to cover the cost of income taxes on gas within the 1975-76 biennium. This *R. 2057, citing Area Rates for the Appalachian and Illinois Basin Areas, 48 FPC 1299, at 1309-10, aff’d Shell Oil Co. v. FPC, 491 F.2d 82 (5th Cir. 1974). 30 constitutes 26.7% of the total price of $1.61 and is some- what less than the amount allowed for profits (48 cents). The discounted cash flow methodology used by the Com- mission adjusts for the impact of the federal tax code in two ways. First, the model credits the producers with the value of tax benefits which the producers can obtain by deducting their various intangible drilling costs. The mode] assumes that these costs will be expensed at the earliest possible time, and tha’ the producer of the model well will have other taxable income which these prepro- duction deductions could offset. In order to reflect the tax savings which the producer gains from a deductible expense, the model reduces the gross cash outlay for that expense by 48%, the statutory tax rate. Thus, when the net outlay is adjusted by the discount factor to obtain its present value, the consumer also gains the present value of the tax deduction.’ The second adjustment made by the Commission was to allow for the cost of paying income tax at 48% of profits. This, too, is discounted to obtain its present value. As previously noted, the increment to price consisting of an allowance to cover these taxes is 43¢. We now turn to the consumers’ objections, beginning with the generalized and moving to the specific. *° Because the Commission’s methodology fails to concretize the savings from tax deductions, and accounts for them only as a reduction from cash outlays, this method of accounting is somewhat difficult to understand or explain. However, it has exactly the same mathematical effect as a model in which the cash value of each deduction is magnified by the discount rate to obtain its present value, and then counted as a cash inflow in the overall alignment of cash outflows with cash inflows. 81 A. Departure from Prior Policy The consumers challenge the Commission’s treatment of tax effects on the ground that the Commission’s meth- odology constitutes an unexplained departure from the methodology of Opinion 699 and previous Commission opinions." In Opinion 699 the Commission had reduced costs to reflect tax credits generated by deductions but had allowed for the payment of income taxes only to the extent of those credits.* Where an individual producer incurred a tax liability in excess of his credits, he could petition for special relief, and could obtain it upon show- ing with his actual tax return that he had in fact paid tax. The consumers contend that the Commission’s move- ment from the Opinion 699 procedure, which assumes that the producers will have no net tax liability, to the 770 model, which gives an allowance for income taxes at the statutory rate, constitutes an unexplained and unjusti- fiable change in agency policy. We find no merit in this contention. As we have al- ready noted, Greater Boston TV Corp. v. FCC holds: “An agency’s view of what is in the public interest may change, either with or without a change in circumstances,” as long as the agency changing its course supplies a “reasoned analysis indicating that prior policies are being deliberately changed, not casually ignored.” 143 U.S. App.D.C. at 384, 444 F.2d at 852. In this case the Com- mission’s modification of methodology is justified both because it is responsive to changes in circumstance and 21 The consumers cite Permian Basin Area Rate Proceeding, 34 F.P.C. 159, 206-07 (1965), aff'd 390 U.S. 747 (1968); Southern Louisiana Area Rate Proceeding, 40 F.P.C. 530, 585-86 (1968), aff'd sub nom Austral Oil Co. v. FPC, 428 F.2d 407, cert. denied sub nom Municipal Dist. Group v. FPC. 400 U.S. 950 (1970), as well as the opinions in the previous national ratemaking. *2 See Shell Oil Co. v. FPC, 520 F.2d at 1081 (5th Cir. 1975). 32 because it is the product of a conscientious reexamination of the tax issue. The Tax Reduction Act of 1975 ** reduced taxes for most individuals, but was intended to increase taxes for the oil and gas industry.** Effective July 1, 1976, it repealed the percentage depletion allowance with respect to most pro- ducers,** and limited the use of foreign tax credits to foreign related income.** As the consumers recognize, the repeal of the depletion allowance will alone have a sub- stantial impact on the producers’ tax liability.*’ The Commission estimates that 27¢ of the 43¢ allowed for taxes is attributable to the repeal of the depletion allow- ance. Others might provide different estimates. But it is clear that this congressional action significantly affects the tax setting in which current drilling is taking place. In Opinion 770A, the Commission explained: That action required a reconsideration of the overall impact of the income tax law on the producer rate- making methodology. The reconsideration of the is- sue revealed that the premises on which prior deci- sions were founded were inaccurate at the outset, eroded by change in law, or properly accounted for in the new gas costing model. R. 3636. ** Public Law 94-12, § 501(a), 89 Stat. 26 (March 28, 1975). ** An increase in producer liability is contemplated by 26 U.S.C. § 613A(b) (2) (B) (Supp. V 1975). *° See 26 U.S.C. § 613A(a) (Supp. V 1975). 76 See 26 U.S.C. § 907 (Supp. V 1975). *7 A study by the staff of the House Ways and Means Com- mittee estimated that the Treasury revenue effect of the repeal of percentage depletion for oil and gas would be $1.7 to $2.2 billion in 1975 and $2.7 billion in 1976. Committee on Ways and Means, Summary of Major Provisions of Public Law 94-14, Tax Reduction Act of 1975, (April 1, 1975), cited in Opinion 770-A at 74, R. 3639. 33 This kind of thoroughgoing reexamination of the tax issue was by no means precluded by the analysis in Opinion 699 or in the judicial opinion affirming it. In Shell Oil Co. v. FPC, 520 F.2d 1061, 1081 (1975), the Fifth Circuit upheld the Commission’s “policy choice” to exclude an average tax component on the ground that the variation of tax liability between individual producers was more significant than the overall industry liability. Reconsideration of this point was clearly necessary in light of the increase in producer liability under the 1975 Act. The Court then went on to say: The Commission also took note of the complexity of federal income taxes provisions for gas producers, the ability of producers in some circumstances to in- definitely postpone tax liability and the impending reduction of depletion allowances, all good reasons for eschewing a simple tax component which would be cemented into ratemaking for a long time to come. These points were not cited in the Shell opinion as confirming the accuracy of the 699 model, but as rea- sons for eschewing a tax component which might unfairly become permanent. They did not preclude a new look in the light of the provisions of the 1975 Act that served to simplify * as well as to increase the producers’ lia- bility. The court’s opinion is permeated with an aware- ness that the tax problems were in flux, and with a will- ingness to tolerate the Commission’s tentative treatment so as not to preclude a more refined analysis in the future. This point was highlighted when the Shell panel issued an opinion on rehearing for the sole purpose of stating that its decision “should in no way be construed to fore- close a de novo review of federal income tax in the cur- rent biennial review proceeding in FPC Docket No. RM 2* By repealing the percentage allowance (which is calcu- lated on a property by property basis) and by eliminating the spill-over effects of the foreign tax credit. 34 75-14.” Shell Oil Co. v. FPC, 525 F.2d 1261, 1263 (5th Cir. 1976) (denying petition for rehearing). In conducting its rethinking of the tax issue, the Com- mission teok into account not only the changes in the tax code but also the increasingly grave shortage of natural gas disrupting our national economy. The Commission reasoned that “new supplies come from decisions to ex- plore for and develop new fields,” and the “(m]arginal income therefrom is likely to be taxed at the 48% rate.” Opinion 770 at 85, R. 2580. Hence the Commission felt that it was particularly appropriate to include a tax com- ponent at the full statutory rate. A commission may estimate costs on the high side of a practical range and still stay within the limits of reason- ableness. That is the message of Permian and Mobil, particularly taking into account the need to conduct cost- based ratemaking with due regard for the non-cost factor of encouraging exploration for natural gas. Were this court to construct a methodology for national ratemaking, we might find it more elegant and theoreti- cally proper to include such incentives for exploration solely within the factor for rate of return. But that is not our task, and we cannot say that the Commission was arbitrary or capricious in taking account of this public need within the context of its calculation of the tax com- ponent. We recognize that not all of the 43¢ increase in allow- ance for taxes can be explained by changes in circum- stances. Some part of it is undoubtedly due to the change in method of accounting. But the judicially enforced re- quirement that the agency explain any changes in policy is not intended to bind the agency to prior methods. As circumstances change and analytical techniques improve, methods of accounting which once seemed sound enough to guide agency action may be perceived as imperfect. 35 Precedent cannot be allowed to block the search for a model more reflective of economic reality. Here, where the agency had both meaningful reasons for changing its methodology and, as we develop more fully below, a logical explanation for the new approach it adopted, the law does not hold the agency fast to its prior policy. B. Use of an Economic Model As a second objection to the Commission’s treatment of the tax component, the consumers contend that there can be no substantial evidence supporting an allowance for income taxes unless the producers’ current tax returns are put into evidence and subjected to comment. APGA complains that “the producers prefer to rely on economic models, which tell you nothing about the real world. . .” Brief at 38 n.2. Elsewhere APGA aserts “Economic ‘models’, dreamed up by producer-sponsored consultants and untested by cross-examination, do not begin to rise to the status of ‘substantial evidence.’” Brief at 41 n.3. With this contention we must express fundamental disagreement. Reasoned decisionmaking can use an eco- nomic model to provide useful information about eco- nomic realities, provided there is a conscientious effort to take into account what is known as to past experience and what is reasonably predictable about the future. In the world of today, model-building is not merely a sport for youngsters and tiny planes. Models are central to the forecasts and programs evolved by members of the executive and legislative branches, concerned with such searching questions as inflation and stabilization, produc- tion and unemployment, and other problems of national policy. These economic models are robed in the elegance of high-speed computers, but they are at base extrapola- tions from past experience, projections that must undergo continual examination and revision. They do not always 36 have the reassuring concreteness of empirical observa- tions, but they are the best we have to work with in casting our programs. Provided that the assumptions on which a model is based are adequately explained and justified, we see no reason why this type of evidence may not be used in support of a ratemaking application. The Supreme Court has emphasized that the Commis- sion must have considerable latitude in developing a meth- odology responsive to its regulatory challenge: We must reiterate that the breadth and complexity of the Commission’s responsibilities demand that it be given every reasonable opportunity to formulate methods of regulation appropriate for the solution of its intensely practical difficulties. 390 U.S. at 790. In Permian and subsequent decisions, courts have approved the use of regional and national averages, which include a hypothetical cost projection for some producers, as a means of arriving at a reasonable individual rate. E.g., City of Chicago v. FPC, 147 US. App.D.C. 312, 387, 458 F.2d 731, 756 (1971), cert. de- nied, 405 U.S. 974 (1972). More recently, the Fifth Circuit sustained the use of a discounted cash flow meth- odology as a basis for national ratemaking. 520 F.2d at 1079-80. In each of these cases the key question was not the extent to which the Commission methodology con- sisted of empirical observations, but whether its premises were supported by substantial evidence and whether its reasoning was sound. These are the demands which are appropriately made of the Commission in this case. Further, in the context of this particular ratemaking, the Commission’s use of an economic model to estimate tax liability reflects a well-reasoned choice of methodology. The Commission specifically found that because of the per- centage depletion allowance and the low return on in- vestment prior to this ratemaking, “it is very unlikely 37 that any meaningful historical average tax would be derived” from a study of the producers’ tax returns. 770-A Mimeo at 65, R. 3680. There is substantial founda- tion for this as a reasoned conclusion when one considers that the tax return reflects an aggregate of matters, and that it would be well nigh impossible to undertake the task of segregating gas operations from oil operations, operations involving jurisdictional gas from those in- volving nonjurisdictional gas, associated gas from nonas- sociated gas, and then differentiating between the various vintages of nonassociated jurisdictional gas. Given the clear need for an allowance to cover the liability imposed by the 1975 Act, and the difficulty—if not the impossi- bility—of obtaining a meaningful tax figure from an his- torical study, the Commission was clearly justified in seeking to account for taxes through the use of a model. The consumers would condemn the Commission’s effort to estimate the producers’ tax liability on the ground that the Commission has departed from the well-settled principle of regulation that rates provided to cover tax costs must be based on “actual taxes paid.” The con- sumers interpret this principle to mean that an incre- ment for taxes may be included in the price only after tax returns have been used to demonstrate tax liability. This involves misunderstanding of the case law dealing with that principle. Although there are a number of cases in this area,” we may usefully proceed from the summarizing discussion in City of Chicago v. FPC, 458 F.2d at 754-57 (1971). There we explained that the producers had for a long time argued that the proper tax element of their rates was the tax that would have been paid but for certain deductions, chiefly those for * #.9., Cities of Lexington, Ky. v. FPC, 295 F.2d 109 (4th Cir. 1961); El Paso Natural Gas Co. v. FPC, 281 F.2d 567 (5th Cir. 1960), cert. denied sub nom California v. FPC, 366 U.S. 912 (1961). depletion, intangible expenses and accelerated deprecia- tion. The producers contended that because these deduc- tions were intended to provide an incentive for par- ticipation in the production of a wasting asset, the com- panies should be allowed to retain any tax savings. The courts held, however, that since the ratemaking structure already included an allowance both for incentive and for depletion, the proper tax element was taxes actually paid. Tax savings were to be passed through the com- panies to the consumers. The Commission’s model is entirely consistent with this principle. At the very earliest date that the producers incur the cost of production, i.e. the pre-production ex- pense of lease acquisition and drilling, the producers must reduce yield through a current credit for current tax savings. All applicable types of tax deductions are included. Hence, we find no deviation from the “actual taxes paid principle” in the Commission’s use of an eco- nomic model. In rate regulation there is no mystique requiring that expenses be actually “paid.” Regulated companies are routinely permitted to set up reserves against the prob- able expenses of obligations undertaken now yet falling due in the future even when the amount of obligation is subject to revision—as in the case of a bus company that has switched from street car to bus operations and has an obligation to take up the street car tracks. De- preciation reserves are everywhere based on a service life that is only estimated and often exceeded; and while these have the safeguard of costs originally paid out, there is a substantial difference in rates needed to cover a current expense as against a fair return on plant in service. Thus, there is no historical basis for petitioners’ simplistic interpretation of the “actual taxes paid” prin- ciple. But even if that principle had been stated in the past as rigidly as petitioners suppose, it would not preclude a different approach by the agency for the future. Dur- ing the years that the “taxes actually paid” doctrine emerged there was experience under the tax laws in being, and a forecast for the future rising to the level of strong probability, that to a large extent taxes would either never be paid, or would arise for actual payment in a future too remote for present acknowledgement. Given the workings of the compound interest table, or the equivalent discount tables, an event 40 years hence can be ignored for the present in many practical con- cerns. But the 1975 change in tax law announces a policy and determination that marks a significant change. Perhaps its exact consequences cannot be spelled out in mathematical detail, but the combination of the higher probability that substantial taxes will be paid and the likelihood that there will not be acquiescence in in- definite deferral of tax revenue makes a difference real enough to support a change in policy as rational. In sum, the Commission’s reliance on an economic model for computation of the tax component was con- sistent with regulatory theory and fully justified in light of the specific evidence available. C. Specific Objections to the Model The third type of argument pressed by the consumers against the Commission’s treatment of the tax issue is that the Commission’s model fails to account for severz] phenomena which are likely to reduce the producers’ tax liability. We take these specific objections to the work- ings of the Commission’s model most seriously, for in the absence of empirical confirmation of accuracy, we believe that the Commission is obligated to provide a complete analytical defense of its model—to respond to each objection with a reasoned presentation. Neverthe- 40 less, after careful study, we believe that the Commission’s Opinions fully answer or account for all points raised by the consumers. 1. Consolidated Returns The consumers contend that the Commission’s model fails to account for any tax saving which may occur from the filing of consolidated tax returns covering both jurisdictional and non-jurisdictional —activities. They argue that the Supreme Court’s decision in FPC v. United Gas Pipe Line Co., 386 U.S. 237 (1967), re- quires that the consumer receive the benefit of any re- duction in taxes arising from the combination of juris- dictional gains with nonjurisdictional losses. The con- sumers point out that Commission opinions following a different course have never received judicial approval.* The Commission responds that the United Gas Pipe Line decision, supra, did not mandate a specific formula for the allocation of tax savings but merely reversed a court of appeals” which had refused to defer to Com- mission discretion. In support of this interpretation the Commission cites the Supreme Court’s second decision in the United Gas Pipe Line case, 393 U.S. 71 (1968), which again reversed the court of appeals,” this time for netting the losses of other affiliates against the non- * In two cases involving pipelines, the FPC did not require the pipelines to reduce their rates to reflect tax savings from participation in consolidated tax returns, Florida Gas Trans- mission Co., 47 F.P.C. 341 (1972); Natural Gas Pipeline, 50 F.P.C. 789 (1973), but neither of these cases was appealed and one was the result of a settlement. The same policy ostensibly was followed in Opinion 699, but because no allowance for tax liability was included, that aspect of the decision was not appealed by the consumers. "' 357 F.2d 230 (5th Cir. 1966). ** 388 F.2d 385 (5th Cir. 1968). 41 jurisdictional gains of the United affiliate, without giv- ing the Commission an opportunity to consider the issue. The Commission claims that it is within its discretion to hold that “regulated activities are properly viewed a8 a separate corporate entity and the Federal income tax allowance computed accordingly.” Opinion 770 at 83, R. 2578 quoting Opinion 749-C. We do not find it necessary to reach the legal issues raised by these arguments for we agree with the Com- mission that in the context of this national ratemaking proceeding, the savings which some producers may ob- tain from consolidation will not have industry-wide signi- ficance. Even the broadest reading of the decisions cited by the consumer interests could not reasonably preclude the Commission from making a net calculation on un- regulated activities (setting losses off against gains from other nonjurisdictional activities) before combining the net figure with profits from jurisdictional sales. Thus, before a reduction of the tax component could be re- quired, there would have to be a projection of a net non- jurisdictional loss on an industry-wide basis. The Com- mission specifically considered this possibility and dis- missed it as neither supported by evidence nor “plausible” as a projection. [I]f any tax losses from non-jurisdictional activities are to be first allocated to offset non-jurisdictional profits, we wou!d be required to find that the overall petroleum industry has sufficient tax losses to offset all income from production, refining, and marketing petroleum products and any other related or unre- lated business activity. There is no evidence to sup- port such a conclusion nor is it plausible. Opinion 770-A at 88, R. 3648. This is the kind of determination that must be chal- lenged head on if at all, but we find no such challenge 42 by any of the petitioners. Hence we need not rule on whether or under what circumstances the Commission would be obiigated to reduce “cost” of natural gas pro- duction because of nonjurisdictional loss.** We hold that the implausibility of net nonjurisdictional loss for the producers—at least in the absence of contrary evidence from the petitioners—renders unnecessary any inquiry into savings from consolidated returns. 2. Increased Intangible Drilling Costs The next major criticism leveled by the consumers against the Commission model is that it does not fully take into account the tax savings which the producers may achieve by taking as deductions the higher intangible drilling costs which will result in future production. The consumers assert that the Commission’s model of the cash flow of the average well operates “in a vacuum”— that the Commission assumes that the producer will be paying income tax on the revenues generated by that well when, in fact, those revenues will be offset by the de- ductions from the drilling of additional wells. APGA Brief at 47. Pushing the point a bit further, APGA visualizes “constantly increasing amounts of exploration and development in the future resulting in real resource growth ... which would generate additional tax deduc- ** As for the possibility that the gas producers may suffer losses in a variety of non-jurisdictional non-gas operations, a possibility mentioned in Judge Fahy’s opinion dissenting in part, there is no evidence, and certainly no substantial evi- dence, that the producers seeking diversifiaction (a kind of industrial “insurance”’) and higher profit will be losing money individually, let alone on an industry-wide scale. But beyond that, we are not aware of any principled basis for saying that natural gas consumers should pay less for gas simply be- cause the unlikely hypothesis materializes and, say, Mobil Oil loses money in its Montgomery Ward investment. tions” (APGA Brief at 48), and the Public Service Com- mission of New York refers to the possibility of “a series of staggered deferrals result{ing) in a permanent reduction in the company’s tax obligations.” N.Y. Reply Brief at 24. The Commission addressed itself to this consumers’ contention. Initially, in Opinion 770, the Commission put it that increases in unit costs arising from inflation or decreased productivity would be reflected in the rate calculations for subsequent biennia and that an assump- tion of constantly increasing real resource growth for the industry was unrealistic. Opinion 770 at 84-5, R. 2579-80. On reconsideration, in Opinion 770-A, the Com- mission articulated its position that the validity of its model is not dependent on assumptions about the real resource growth of the industry, one way or the other. Further consideration leads to the conclusion that the methodology employed in Opinion 770 takes accoynt of all future increases in intangible drilling costs de- ductions whether caused by increasing unit costs or real resource growth. (emphasis added) Opinion 770-A at 78, R. 3643. In explaining this conclusion the Commission stressed that its model gave the consumer the full time value of every tax deduction, and that as the model was applied in future biennial ratemaking proceedings, the consumer would fully recoup any tax savings which the companies had gained from increased expenses: Whenever a producer makes future investment for the exploration or development of new gas, the value of the tax deductions resulting therefrom will be sub- tracted from the gross outlays used to compute the just and reasonable rate for gas from wells drilled at that time. Thus the time value of the deferral in tax liability obtained by that investment will be re- turned to the consumer through the price of that gas, 44 consistent with the decision in Alabama-Tennessee Natural Gas Co. v. FPC. Opinion 770-A at 78, R. 3643. The soundness of this position of the Commission is reflected in the opinion of Commissioner Smith. Al- though he disagreed with several of the Commission’s other major conclusions, he concurred in the Commis- sion’s treatment of taxes. His concern lay only in the need for assurance that there be forward consistency in this income tax analysis to assure reasonableness of fu- ture rates: It is mandatory that this treatment of the income tax deductions continues in the future. If the meth- odology were changed in the future to account for the value of income tax deductions on a capitalization or “carry-forward” basis, as was argued in this pro- ceeding, the future rates would be unduly and un- justly biased upward. 770-A Dissenting Opinion at 3, R. 3814. After careful study, we conclude that the Commis- sion’s discounted cash flow methodology fully accounts for any tax savings from potential increases in intan- gible drilling costs. Initially, we consider the APGA’s assertion that the Commission model operates “in a vacuum.” If this is only another way of saying that rate regulation can never proceed by constructing a model, we merely reiterate our prior discussion. If this means that the particular model has the defect of treat- ing test period production in isolation from the rest of producers’ activities, it is inaccurate. Opinion 770-A at 79, R. 3644. The model well postulated by the Com- mission’s methodology produces no revenues during its preproduction years, yet the analysis assumes that the expenses generated in those years yield a current tax savings, in other words, assumes there will be other income, and that the tax due on that other income wil! be reduced. In this way the model takes into account the interac- tion between wells with overlapping lifetimes. Assume, for example, that Well I has reached its productive period, and is producing taxable income. During this period drilling for Well IJ is commenced, and intangible drilling costs are incurred in connection therewith. It is true that the tax deductions generated by Well // may be applied against the income from Well J, and may reduce or eliminate the tax liability for Well J during those years. It is also true that this savings will not be reflected in the rate calculation for Well J. But because the model assumes that preproduction deductions wil! be used to offset income from other activities, the tax sav- ings from the overlap of the two wells will be reflected in the rate calculation for Well IJ. Moreover, because the model recognizes the full time value of this savings, the consumer gains the full benefit of the deferral of the tax obligation.” Once this fundamental point is understood, it is easier to see why the reasons for increases in intangible drilling costs are irrelevant to the validity of the model. If for some reason the unit cost of drilling increases, it will produce a larger tax savings per Mcf and that larger tax savings will be reflected in the rate calculations for gas from the wells that are being drilled. This point is entirely sound, and recognized as such in the thoughtful brief filed by the New York Public Service Commission.” Even projecting there may be no change in the unit cost of drilling for gas, and that there will be an in- ** See page 30 and n. 20, supra. ** N.Y. Brief at 18. 46 crease in gross tax deductions arising solely from real resource growth in the natural gas industry, the con- sequent tax savings would still be reflected in rate- making under the Commission methodology. In that cir- cumstance, the tax saving reflected in the price of each Mcf of gas produced in future biennia would not be any greater, but because there would be more Mcf of gas produced and sold, the greater aggregate tax savings would be fully recouped. In short, under the Commis- sion model every time a tax deduction is taken, the value of the savings is noted, increased to reflect its value over time, and reflected in the price of subsequently produced gas. The Commission’s methodology is fully capable of han- dling a long series of tax deferrals. In the same way that the Commission’s model adjusts for the tax savings from the interaction between Wells I and II, it can ad- just for any further savings resulting from the inter- action of Wells II and III, and so on. Because the model adjusts for the savings from each incremental] deferral, it provides adjustment for the aggregate impact of an entire series of staggered wells.** As long as the meth- odology is consistently applied, the producers will have no “savings” from taxes that do not also inure to the benefit of the consumers. One caveat is critical. The fairness of the Commis- sion’s methodology depends directly on the assumption ** The consumers put it that the tax model might be con- fronted with an infinite series of tax deferrals. This is con- ceptual, and not sufficiently probable to warranted extended consideration. But even in that extreme situation, the Commis- sion methodology would not break down. The value of each successive deferral would be reflected in lower rates for the gas produced in subsequent biennia. For discussion of the consequences of future deregulation, see pages 49-50. 47 that it will be consistently applied in future biennial ratemaking proceedings. If the Commission were to adopt some other method of accounting which failed to adjust for the full value of current deductions, the producers could indeed achieve a tax “savings” that is permanent and would not inure to the benefit of consumers. We revert to Commissioner Smith’s observation, con- curring in the treatment of taxes, but noting that “con- tinuity of methodology . . . is an essential underlying premise of the rate established herein.” R. 3814. We stress that our approval of these rates is conditioned on the continuation of such treatment. We see no need to spell out in this opinion the operation an: conse- quences of this condition. It suffices to say that any new biennial rates that did not adjust price for the full time value of tax deductions taken, but not pre- viously accounted in offsets for the benefit of consumers, would be “arbitrary and capricious.” One possibility of a “windfall” for producers is the prospect that in the not too distant future regulation of producers’ gas rates may be discontinued. In that event, there would be no ongoing opportunity for a regulatory commission to assure that tax reserves al- ready treated as an expense but deferred will be cap- tured for the benefit of consumers. As to this, perhaps all that can and need be said is that though a system of regulation may be revoked tomorrow, while it is here today it must use the premise of continuing regulation as the only rational anchor. Neither the agency nor the court can fairly be re- quired to speculate on whether there will be deregula- tion, of its how and when, or whether it can be ac- companied by other measures assuring reasonable pro- tection to the consumers at that time. 48 D. Conclusion The FPC’s previous treatment of the tax problem in Opinion 699 was deliberately left tentative for further consideration. The repeal of the depletion allowance necessitated a new approach. We are aware that the Commission’s methodology yields a greater amount than the depletion allowance alone. The ultimate point is that the Commission’s approach reflects a determination to be both comprehensive and fair. The Commission’s need to set rates in 1976 means that it could not await the audit and analysis of tax returns under the new act. More important, the Commission made a reasoned judgment that it was implausible that historical tax re- turns would yield useful information about the tax li- ability accruing from 1975-76 jurisdictional gas. The Commission’s model is designed to give the producer full compensation for any tax payments and the consumer the full benefit of any tax savings. It is a logical model, that takes into account all experience that is known and that can reasonably be anticipated. We have given the most respectful consideration to the views of our colleague Judge Fahy dissenting on this point, and to his concern that major oil companies may find ways of deferring taxes not presently reflected in the Commission model. Nevertheless, we think that the Commission’s approach to this thorny issue is a reason- able one, and should be sustained at this time. Implicit in much of Judge Fahy’s concern is an as- sumption of losses in nonjurisdictional activities (and tax benefits from using those losses to reduce taxes due on jurisdictional sales). The Commission found it im- plausible that the producers as a whole would sustain losses in their unregulated activities while making gains in sales of regulated interstate gas. There is no evi- dence in the record to challenge that conclusion. It is 49 certainly not unreasonable to presume, in the absence of contrary evidence, that the sphere of unregulated prices is likely to be more profitable. If there are other tax events that reduce the pro- ducers’ tax liability, the parties can bring these to the attention of the Commission, so that its model can be refined. Our approval here of the basic framework of the Commission’s model is not intended to preclude fur- ther analysis and adjustment. Indeed, we perceive no basis that would support a Commission’s refusal to con- sider such information as may emerge regarding taxes paid, and the implications concerning the accuracy of its model. If this type of analysis can be achieved, and discloses a flaw in the model, the tax component can be adjusted as to future sales, just as the cost of service was adjusted for the 1973-1974 biennium for actual changes in productivity. And the quarterly escalation contemplated by Opinion 770 provides a rather obvious and simple mechanism for implementing such adjust- ments. In sum we believe it would be unfair to deny to the producers any allowance for taxes at all because of un- certainty as to the precise liability they will shoulder. As Judge Fahy’s own analysis demonstrates, the pro- ducers’ tax returns pertaining to revenues from wells drilled in the most recent biennium would not be avail- able until, at the earliest, 1977-78. The Commission’s model obvitates the long wait for filing of returns, and the incredibly difficult task of calculating taxes on specific wells from overall returns. If experience should develop defects in its method- ology, for reasons that are not foreseen by the Com- mission or the court, at least on any basis now projected by consumer interests, that would be a reason for a different approach for the future. For the present, what we have conforms in full measure to the requirement 50 that the agency make a conscientious effort to seek an- swers, and apply its knowledge and analysis with rea- soned decisionmaking. V. PRODUCTIVITY AND GAS RESERVES We turn next to the calculation of productivity, an issue both important and difficult. We begin by voicing malaise. The FPC’s support for its approach is thin, Commissioner Smith’s divergent opinion suggesting modest modifications seems cogent, the Commission’s rejoinder weak. Yet we admonish our- selves that ours is not the function of decision but of circumscribed review, limited to saying whether the pre- sumption favoring FPC’s reasonableness has been over- come, whether it has been shown that the FPC failed to seek reasoned answers. The consumer interests charge that the FPC’s course was a systematic determination to resolve all cost issues on the high side to get gas prices as close as possible to the intrastate level. The contention is that the FPC may not abdicate to the uncontrolled market, and may not reasonably act like a cat trying to chase its tail when the tail is free to go where it will. Yet courts rarely have basis for undercutting officials’ statements of reasons by inquiring into subjective motivations. Looking at objective data, we are constrained to find that there is a bare minimum to support the FPC’s rulings. We can and do caution that on any future rate order there will be need for a more solid under- girding of result. That may be provided by the govern- ment’s quest for more firm data on gas reserves. If a future proceeding is governed by a change in statutory ground rules whereby intrastate sales are controlled, the process may become more manageable and realistic. At this juncture we announce our approval, but with more of a sigh than a whoop. 51 The Fifth Circuit’s Shell opinion describes why ‘“pro- ductivity” is a key application of a cost-based formula. See 520 F.2d at 1067. Productivity is an index that measures the amount of natural gas that will be added to reserves for every foot of drilling that results in some addition to reserves. In FPC methodology, this factor (calculated for non- associated gas)*’ determines successful well cost per Mef. This in turn underpins determination of dry hole cost per Mcf, lease acquisition cost per Mcf, cost of other pro- duction facilities and other exploration costs per Mef. In this proceeding the Commission obtained its figures for the number of successful feet of drilling in the years under analysis from a publication of the American Pe- troleum Institute," and there is relatively little contro- versy about those figures. For data concerning the proven reserves discovered, the Commission relied on data supplied by the American Gas Association, a private association of natural gas producing companies. The AGA figures for “reserves added” in a given year are computed on a net basis: they include not only proven reserves newly discovered during the course of the year but also upward and down- ward revisions due to producer re-estimation of the ex- tent of known proven reserves." " That is, omitting data for “associated gas” produced as a by product of oil operation. * Quarterly Review of Drilling Statistics for the United States, published by the American Petroleum Institute. The Commission notes that over the years there has been sub- stantial agreement between these figures and those compiled by other reputable sources. Opinion 770 at 33 n. 75, R. 2528 n. 75. ” These “revisions” must be distinguished from “exten- sions” attributable to current development drilling. 52 In order to lessen the impact of year-to-year varia- tion, the Commission did not focus on the most recent year for which productivity data are available (1975), but instead looked to a range created by two multi-year averages. Because the AGA data show a very substantial downward trend in productivity over the past 9 years, the producers urged that the FPC consider a relatively short multi-year period (i.e., four-five years). The Com- mission, however, calculate’ average productivity for the past eight years (323 Mcf/ft) and for the past nine years (279 Mcf/ft) and then selected a figure at the center of that range (300 Mcf/ft) as the basis for its calculation of the national rate. Through the same methodology. the Commission settled on a figure of 378 Mef /ft for 1973-74 gas, in lieu of the estimate of 485 Mef /ft in Opinion 699-H. The consumer petitions opposing the rate increase as excessive challenge the Commission’s calculation of pro- ductivity at several levels. First, as the most basic level, they attack the FPC’s decision to rely on unverified data supplied by an industry association. They point out that many of the members of the Southern Louisiana Subcommittee,” for example, are employees of the major natural gas producers, and are paid by those companies for time spent serving on the Subcommittee." Peti- tioners charge that Subcommittee members responsible for reporting particular areas may have limited or no access to proprietary data, other than that possessed by the member’s own employer,” and that there is no pro- “ The AGA data is compiled by the various area Subcom- mittees of the AGA Committee on Natural Gas Reserves. " Petitioners quote portions of a memorandum prepared by the Federal Trade Commission's Bureau of Competition, released March 23, 1975, in support of this assertion. R. 1055. * Brief filed on behalf of 3 Senators (Abourezk et al.) and 14 congressmen (Aspin et al.) at 26-27 (hereinafter “con- gressmen”). The FPC’s own Staff Report on the Updated 53 cedure for verifying the estimates submitted by the re- porters.“ Because the Subcommittees work with confi- dential data, they meet in private, and except for isolated audits, there is no public or Commission access to the raw data.“* The Commission concedes that it does not even know some of the assumptions on which the AGA estimates are based.* Petitioners recognize that the Supreme Court approved the Commission’s reliance on AGA data in Permian, 390 U.S. at 801 n. 78, but point out that then collection of that data could not have been biased by knowledge of the role it would play in industry rate-setting.’ Peti- tioners point out that ever since the Supreme Court’s decision made clear that AGA reserves added data would be used in the rate computation, those statistics have 81-Lease Investigation, issued June 21, 1976, explains: “Many instances can be demonstrated in the current study where producers who do not own interest in all the blocks in a field or who own no interest in any block in the field have reported the field reserves to the AGA ... [T]he producer who has access to all the necessary geological and engineering data is not always the one who reports the block of field reserves to the AGA.” R. 2448. * Congressmen’s Brief at 27, citing Bureau of Competition Memorandum. : ** Congressmen’s Brief at 23, citing National Gas Survey, Vol. I, Chap. 5, (Preliminary draft issued in advance of Com- mission approval) (no date). ** In response to the argument that the AGA historical data did not take into account the increase in feasible reserves resulting from a significant increase in price, the Commission replied, inter alia, “we do not know what rate-cost factors have been assumed in initial reserve addition estimates.” Opinion 770-A at 52, R. 3617. The FPC Staff Study on the 31 Lease Investigation, supra note 6, also disclosed “There is no standard procedure for determining the exect date of a field discovery” and that neither the AGA nor the reporting producers follow the exact AGA definition. R. 2461. ** Congressmen’'s Brief at 20. o4 shown a marked decline.*’ Although petitioners do not offer an alternative set of data, they argue that in- dustry data collected after Permian and not subject to Commission verification are an inadequate basis on which to fix a new national rate. Petitioner APGA puts it: “Nothing short of a full investigation and independent audit by the Commission’s staff of all industry reserves and drilling data and an evidentiary hearing at which the consumers and Staff are permitted to cross-examine those who prepared this data will suffice to remove the taint from the present industry figures. . .” “ The Commission implicitly acknowledges that the in- formal industry reporting system is not the most de- sirable source of data, but explains that its own efforts to collect such data by means of compulsory forms have heen stayed by court order.” See Union Oil Co. of Calif. v. FPC, 542 F.2d 1086 (9th Cir. 1976). In Opinion 770-A the Commission states :*” We were faced with the choice of further delaying the issuance of the new national rate opinion until sufficient “in house” data could be gathered and used in this proceeding, or proceeding with the AGA and API data as done in Opinion No. 699. We concluded that the judicious use of this data and the prompt issuance of Opinion No. 770 would be better than further delay. ‘The Brief of the APGA, at 58-59, highlights the relevant figures. In the years 1955-68, reported nonassociated gas reserve additions ranged from a low of 11,449 Bef in 1960 to a high of 18, 294 Mcf in 1965. In 1968, the year of the Supreme Court's Permian Basin decision, the reserves added figure was 12,385 Bcf. The following year it dropped to al- most half, 6,875 Bef, and the annual AGA figure has not since returned to the 5-digit level. * APGA Brief at 66. ’ Opinion 770-A at 42, R. 3608. ” Opinion 770-A at 44, R. 3609. The Commission argues further that it did not simply accept the AGA data without question, that it diligently examined such data to assure its reasonableness. In sup- port of this contention it cites the Report of the staff of its Bureau of Natural Gas on the Updated 31-Lease In- vestigation *' and the National Gas Reserves Study of 1973." We are reluctant to approve the AGA data series, for we recognize the problems created by the Commission’s re- liance on essentially unverified industry data. But, under the circumstances, we do not find the Commission ap- proach unreasonable, as a provisional response pending independent derivation of data. The Commission’s choice to use the best available data, and to make whatever adjustments appeared necessary and feasible, is within its competence. “Courts ‘cannot fairly demand the per- fect at the expense of the achievable.’” ** While we would "Staff Report on the Updated 31-Lease Investigation, Docket No. RM 75-14 (June 21, 1976), 41 F.R. 26573. The Commission emphasizes the Staff’s conclusion that “the esti- mates in total are reasonable.” R. 2447. The petitioners argue that this statement must be read in context, in light of the following sentence that states that there was only a minor difference in totals for the 19 fields on which the staff, pro- ducer and AGA all had reserves estimates for 1971-72 dis- coveries, and that this conclusion was not intended to apply to those fields on which the AGA failed entirely to include a report within the time period. Because of the ambicuity in this particular conclusion, we do not relv on it. Neverthe- less, we note that the Staff report did not recommend against use of the AGA data, but rather spoke of the need for «ome form of trending or averaging. “* National Gas Reserve Study, A Staff Report, prepared by the FPC Staff for the National Gas Survey, revised September 1973. Congressmen pointed out that this study covers only reserves proven through 1970. * Pub. Serv. Comm. of N.Y. v. FPC, 167 U.S.App.D.C. 100, 108, 511 F.2d 338, 346 (1974) (advance payments). 56 expect the Commission to use its own revised procedures to gather data for the next national ratemaking proceed- ing,’ at this juncture we cannot hold that, given the context of the FPC’s efforts at and program for further analysis and cross-checking, the AGA date is so devoid of substance that it cannot serve as “substantial evi- dence.” At the next level, petitioners argue that there are spe- cific inaccuracies in the AGA statistics which call for their rejection or for additional adjustments. Petitioners cite several studies, including a study prepared by the Bureau of Competition of the Federal Trade Commis- sion,” a House of Representatives subcommittee staff study,” and the BNG study on which the Commission also relied.” “% The Ninth Circuit prevented the Commission from using Form 40 to gather data on the grounds that the record lacked sufficient evidence to overcome the producers’ con- tention that a reservoir-by-reservoir accounting was unduly burdensome. Union Oil Co., supra, at 1042-44. The court also found that the Commission had not sufficiently justified its provisions for public disclosure of the daia. 542 F.2d at 1044-45. These objections do not appear to be of the kind that would preclude other Commission efforts to collect data on the growth of proven reserves, and we note that the Commis- sion presently has this matter under its consideration. “ Staff Memorandum to the Federal Trade Commission in American Gas Association, et al., File No. 711-0042 (March 25, 1975). The entire memorandum is not in the record, but portions are quoted in Appendix 1 to the Initial Comments of the APGA, R. 1052-1067. Hearings on Natural Gas Supplies Before the House Sub- comm. on Oversight and Investigations of Comm. on Inter- state and Foreign Commerce, 94th Cong., 2d Sees., January 21, 1976 (testimony of Dr. John Galloway). " Staff Report on the Updated 31-Lease Investigation, Docket No. RM 75-14 (June 21, 1976), 41 F.R. 26583. 57 According to the BNG study, a principal source of in- accuracy in the AGA data is that new reserves are often not reported in the year of their discovery.” As a result of this “lag” in reporting, the AGA “reserves added” fig- ure for a given year will not reflect all the discoveries made in that year. However, it may include reserves actually discovered in a prior year. Hence, as the Report points out, the use of multi-year averages tends to mini- mize the impact of any lag in reporting.” In light of this analysis, the Staff did not recommend the rejection of the AGA data, but rather cautioned that the AGA figures be used with “discretion,” and commended the Commission’s past use of multi-year averages.” In Opinion 770, the Commission acknowledged the utili- ty of the multi-year average in accounting for misreport- ed discoveries and, in fact, chose to look at a longer period than that used in Opinion 699." For that earlier national ratemaking proceeding, the Commission had initially pro- jected a range from 7 to 10 years,” but had ultimately settled on a ( year period as the basis for its productivity calculation. This choice was upheld in Shell. As al- ready noted, Opinion 770 selected a figure midway in the 8 to 9 year ranges. Thus, the Commission did grapple with the problem, and made an attempt to reduce the impact of any lag in reporting additions to gas reserves. A second potential source of inaccuracy identified by petitioners is the inclusion of revisions in the AGA re- * R. 2447. * R. 2448. Id. ** Opinion 770 Mimeo at 34-38, R. 2529-2533. 51 F.P.C. 2212, 2246 (1974). 51 F.P.C. at 2281. * Supra note 5. 58 serves added data. As the Commission stated in its Opinion 699: * A significant factor in the decline [in reserve addi- tions] is the sharp increase in net negative revisions to existing nonassociated gas reserves that was first reported in 1969 and which has continued to this day. The AGA figures show that the first year in which the net revisions statistic was negative was 1969, and that for the eight year period 1968-1975, negative revisions exceeded positive revisions by 7,502 Bef. These net negative revisions reduce productivity for a given year even though some of them may be adjustments to re- serves discovered in prior years. The Commission has recognized this potential deficiency in its revision data, but concluded that revisions are an “important piece of information.” The Commission points out that, to the extent that the revisions relate to discoveries made in a year covered by the data series, the inclusion of these adjustments is necessary to obtain an accurate picture of reserves added during the multi-year period. But because the AGA does not identify the year to which the revisions relate, it is impossible to tell which revisions should be included in the muiti-year average. Faced with a difficult choice between utilizing revision data to adjust historical! figures or excluding it altogether, the Commission decided to incorporate these adjustments. This was upheld by the Fifth Circuit in Shell, 520 F.2d at 1079. We do not find warrant for reversal at the present time. We expect, however, that the Commission °° 51 F.P.C. 2212, 2247 (1974). *° Opinion 699, 51 F.P.C. 2212, 2342 (Appendix A). “? Opinion 770-A at 49, R. 3614. ** Opinion 770 at 143, R. 2638. 59 will make efforts to improve the quality of the revision data. It has not been asserted that this would be impos- sible, either by identifying the years to which the spe- cific revisions relate, or in a more general fashion, deter- mining the extent to which the revisions relate to the current period. Reviewing the Commission’s productivity calculation as a whole, we find that the comments of the parties and its own staff studies provided minimally adequate evidence to support its use of the 300 Mcf/f figure. Petitioners protesting the increase have identified some deficiencies in the data used by the Commission,” but these potential inaccuracies do not undermine the Commission’s basic conclusion that productivity has declined substantially over the past decade. °° In addition to the arguments discussed in text, petitioners make two further points. First, they argue that the Commis- sion erroneously computed the average productivity for the 8 and 9 year periods by dividing the total drilling footage by the total reserves added during the multi-year period, rather than using an average of annual averages. The Com- mission’s method of calculation, say the challengers, gives too much weight to recent years in which the drilling footage was larger. That calculation is undeniable. But whether sound statistical theory counsels an average of averages, rather than such a weighting, is too debatable for us to lay down a choice either way as mandated by law. It lies within the realm of policy latitude. A second contention of petitioners is that the Commission failed to take into account the fact that the increase in price contemplated by Opinion 770 will itself increase the reserves whose recovery is economically feasible. Here again, the Com- mission did consider this point, and did seck answers, but found no means of adjusting historical figures to take thi« projected effect into account. Opinion 770-A at 55, R. 3617 As in so many issues of government, it is easier to state tho problem than a solution. Petitioners provide no compelling answer. 60 We take into account the Commission’s attempt to cor- rect for the weaknesses of its data by using an 8-9 year average, as a means of minimizing any lag in reporting or misreporting of reserves. We cannot say the Com- mission has failed “to seek answers.” Mobil Oil, 417 U.S. at 318. And we cannot say at the present juncture either that the Commission’s determination is irrational or that the underlying data are too insubstantial to permit the agency to grapple with the serious problems of covering the costs of natural gas in a time of gas shortage and declining productivity. Further adjustment of the AGA data might ave been desirable even at this time. Commisioner Smith provided an analysis concluding that revisions should be excluded and that reserves added data should be lagged one year behind drilling footage. These comments appear to have force, but they are more for consideration by the agency than dictation by the court. Petitioners attack the Commission’s response as amount- ing in effect to a statement that a lag in reporting re- serves is not provided because the agency is unable to quantify the lag precisely, and as contrary to the legal requirement that an agency use its best judgment to salvage the inadequate, rather than abdicate to recognized deficiencies. That does not end the discussion, for the Commission put it that in addition to the lag in report- ing reserves (tending to increase costs) there was a lag in reporting drilling (tending to decrease costs). What is abdication to petitioners is prudent to the Commis- sion, what to them is best judgment is to the Commis- sion a wild guess. The matter is muddy, but in the end we are left with the view that we cannot say that peti- tioners have met their heavy burden of demonstrating refinements necessary for validity. We cannot say that the FPC was obligated to undertake these refinements, at least at this juncture. 61 We have also considered the petitioners’ suggestion that this case be remanded to the Commission for further pro- ceedings exploring the accuracy of the AGA data or the possibility of further adjustments. In that event, how- ever, the producer petitioners point out that they would be entitled to refine other figures in the record with more current data showing cost increases. The problem is not insubstantial.*” Additional proceedings, together with a second round of appeals would create additional uncer- tainty for the industry at a time when some stability is necessary to encourage growth. While our orders pen- dente lite have preserved the possibility of a contingent refund in the event of a judicial declaration of invalidity, the context of the national emergency bids us make such a declaration, one way or the other, if we fairly can, rather than hold matters in suspense. The kind of af- firmance we provide will not prevent the Commission from taking corrective action in the light of new informa- tion, see Mobil, 417 U.S. at 311. As for the impact of our ruling on future ratemaking, preparation for the ratemaking for the 1977-78 bienr‘um has already begun." The Commission is building an ad- ministrative record for its Form 40, to permit its gather- ing of direct information on producers reserves, rather than through statistical appraisal by the industry com- mittee. While we do not rest on the point, we cannot ignore the possibility that future ratemaking may be governed by a new statute and may be conducted by a new agency. The ultimate question is whether the finding and con- clusion before us is minimally adequate under our cir- * The producers claimed at oral argument before this court that recently published JAS figures for actual drilling cost in 1975 showed a 20°7 increase. Transcript at p. 8. March 24, 1977. "FPC Docket No. RM 77-13, 42 F.R. 13048 (March 8, 1977). 62 cumscribed power of review. It is our judgment that our review as a court of equity, concerned with the overall interest of justice, 28 U.S.C. § 2106, is best fulfilled by affirmance of the ruling under review at this juncture. To sum up: We do not approve or embrace the AGA figures; we simply tolerate them for purposes of this proceeding. We expect that by the next biennium the Commission will have put into effect its own procedures for gathering reserves data. To the extent AGA data remain for consideration, we contemplate that the Com- mission will have acquired information to permit further adjustments to the data supplied by the AGA. In the specific circumstances of this proceeding, we find that the Commission’s productivity calculation is adequately sup- ported.” VI. ATTACKS ON NATIONAL APPROACH TO COSTS AND PRICES In this opinion we are accepting and affirming the Commission’s course in prescribing nationwide ceiling rates based on composite nationwide figures of nationwide costs. Two objections have been leveled. Considered sub- sequently is the objection of producers in the Rocky Mountain area that their costs are higher, and therefore their ceiling prices should be higher. A. Failure to Distinguish Between Onshore and Offshore Gas Costs The objection that has given us distinct pause is the contention that “there is no validity to the Commission’s continued insistence upon treating as a single gas source onshore gas subject to unregulated intrastate competition, *? The dissenting Commissioner concluded that productivity should have been 354 Mcf/ft rather than 300 Mcf. R. 2692. From the judicial perspective, the zone of reasonableness may well embrace both figures. and offshore gas from the Federal domain over which the Commission exercises plenary authority and to which the interstate market must look for most of its new gas supplies.” ** APGA and Congressmen press the objection as to all gas. New York presses it as to flowing gas, acquiescing in a $1.42 price for new gas on a noncost basis to seek onshore gas for the interstate market. Commissioner Smith’s dissent to Opinion No. 770 questioned part of the upward revision in the 1973-4 biennium. Accepting the decision to “vintage” the 1973-4 natural gas, and the need for an income tax allowance for future delivery of that gas, his question was as to other costs. “The at- tempt to reconstruct an average ‘actual’ nationwide cost for 1973-74 results in compensating the producers for costs that, for the most part, were not incurred with respect to gas sold in interstate commerce.” (Opin. at 11, R. 2693). He continues: [I]t would appear that the vast majority of that higher cost natural gas was intended for and sold in the intrastate market. [W]hen the Commission en- gages in retrospective compensatory ratemaking, should not costs actually incurred with respect to the particular gas that is being repriced provide the guideline for the repricing decision? (Id.)* Starting with the most modest objection, there would be at least a substantial question whether the Commission has been arbitrary in raising prices to the consumers (for offshore as well as onshore gas produced during the 1973-4 biennium) if it develops that the underlying reason was really higher costs incurred on onshore gas, *s Quoted from p. 11 of brief of New York Public Service Commission. ** Commissioner Smith agreed that prospective rates should cover the “full marginal cost to the producer . .. else the position of the interstate market vis-a-vis the intrastate market would deteriorate even more.” 64 and those costs had already been recouped by unregu- lated price increases in the unregulated intrastate market. There is no doubt of the reality of higher prices in the intrastate market for all pertinent periods. Indeed, Opin- ion No. 770 itself reveals how intrastate prices had climbed by the first quarter of 1976, well before the is- suance of Opinion 770,"° to an average in excess of $1.50 per Mef. By the time Opinion No. 770-A issued on Nov. 5, 1976, there was another jump in intrastate prices, not unexpected in view of the $1.42 price set in Opinion No. 770." In Opinion No. 770-A, the Commission addressed itself to the arguments of petitioners for separate pricing of offshore gas. The Commission challenged the implicit “assumption that onshore costs are highe# than offshore costs. The cost analysis below indicates that the contrary is probably true.” Mimeo at 138, R. 3703. The Commis- sion’s exhibits (#14 and 15) show that while offshore gas has “many times higher” productivity (1641 as against 196), it has higher drilling costs, dry hole costs = lease acquisition costs. The “bottom line’’ of these exhibits is an average cost of $1.63, with $1.51 for on- shore and $1.84 for offshore. The FPC acknowledges that this 33¢ difference would be reduced “if, as some ' The data show an average price of $1.54 for new con- tracts with 57‘ of volume above $1.50, and $1.78 for re- newotiated contracts, with 80° of volume in excess of $1.50 Mef. Opinion 770, Exh. 27, R. 2609. ‘The FPC informs us in another pending case, p. 31 of Brief filed Dec. 28, 1976, in =75-2105, APGA and Constuniur Federation v. FPC, citing FPC News Release No. 22711, Nov. 4, 1976: “new contract rates for intrastate sales are now [1976] averaging $1.59, with 70‘: of those contracts at rate levels exceeding $1.51, and 7.4% ... at rates between $2.01 and $2.50... [R]enegotiated .. . intrastate contracts now [1976] average $1.66 per Mcf. 76% of those intrastate sales are at rate levels exceeding $1.51 and 9.3% are between $2.01 and $2.50.” parties claim, and the sparse UDC data indicates,” off- shore rates-of-take are faster than those employed in Opinion No. 770 [which assumed a 15-year rate-of-take}. It concludes that “a split between onshore and offshore pricing would lead to no appreciable differences.” Mimeo at 139, R. 3704. In this state of the record, the court cannot find a lack of either substantial evidence or rationality.” However, we also acknowledge concern that the factor of rate-of-take, obviously a key consideration in the Commission’s discounted-cash-flow methodology, is treated with a glancing reference to “sparse data” and the “guesstimate” of what it signifies. If the future brings parity in prices for intrastate and interstate gas, as is sought by the Administration’s energy proposal to regu- late intrastate rates," the issue disappears for the fu- ture. If the future maintains marked differences between unregulated intrastate prices and regulated interstate prices, the Commission has a responsibility to give more " Citing Exhibit 13 to Opinion 770. : * Opinion No. 770-A approaches the question broadly, with- out specific reference to Commissioner Smith's request in Opinion No. 770 for further exploration of the issue for the 1973-74 biennium. Mr. Smith’s opinion in No. 770-A did not reiterate this question as an objection. Viewing the problem in context, as a portion of the 98¢/Mcf rate, we note that the upward revision for income tax factor brings the price set in opinion 699 up to 83¢/Mcf. Thus, the issue of offshore cost« for the past biennium is at most 10¢/Mcf. By implication, the Commission's Opinion 770-A would support for the past bien- nium as well as for the future the gross estimate of no xig- nificant cost difference between onshore and offshore gas. The problem as to depletion period would require full reconsider- ation. We conclude it is not required as a matter of law for the past period. ™ S. 1469, 95th Cong., Ist Sess. (Introduced May 5, 1977) (as to “new natural gas,” as defined). 66 attentive consideration to the contention that it is ar- bitrary to average high costs for onshore gas | which recoup unregulated prices} and lower costs for offshore gas, for which there is a claim of an 8-year depletion period © and hence significantly lower costs. The public interest contemplates a fair interstate price based on average cost, but it is questionable whether such an average may fairly include gas that is identified as most unlikely to go interstate in any event. Any average would in any event be subject to increases un- der the optional procedure of Section 2.75 of the Com- mission’s Rules for particular packages of gas. The Supreme Court’s Permian opinion underscores the validity of rates that are just and reasonable for the average or group and accommodate higher-cost incremental gas through special adjustment provisions. B. Claimed Need for Area Rate Regulation Mountain Fuel Supply Company," argues in effect that the Commission was required to revert to its prior pro- gram of area rate regulation, either as a matter of the Commission’s jurisdiction under the Natural Gas Act, or as a matter of the requirements of reasonableness, taking into account fundamental differences of cost and market for the sale of natural gas in the Rocky Moun- tain Area. In essence, this is an attack on the concept of national rate-making for national gas. We accept and approve the determination of this question in Shell Oil Co. v. FPC, 520 F.2d 1061 (5th Cir. 1975), cert. denied, Cali- See p. 45, n.25, brief of N.Y. Public Service Commission. " Petitioner in No. 77-1005, which has been consolidated for disposition, Mountain Fuel is a producer of some natural! gas but its interest in this proceeding is primarily as a purchaser, as an integrated utility handling natural gas from the pro- ducer level to the ultimate consumer. 67 fornia Co. v. FPC, 426 U.S. 941 (1976). While that approval of national gas rate-making is not fixed in con- crete, and is subject to reexamination, petitioner has not made a showing that its immediate maintenance is unreasonable. The Commission addressed itself to particular prob- lems presented by Mountain Fuel, the instantaneous ef- fect of the national rate increase, the most-favored clauses permitting indefinite escalation raising prices of intrastate gas, and the lack of state commission au- thority pass along the price increase in higher rates. All these, said the Commission, did not undercut the national rates, but were matters requiring action as to state law and by state commissions. (Opinion 770-A at 168ff., R. 3733 ff.) We approve its reasoning. Vii. Cost Impact oF ADVANCE PAYMENTS ¥ Under the advance payment program sponsored by the FPC from 1970 through 1975, an interstate pipe- line could include in its rate base payments to a producer for gas to be delivered at a future date. Opinion 770 did not analyze the impact of these interest-free loans on the cost of gas, and this failure was criticized in the dissent of Commissioner Smith and in the petitions on rehearing of several consumer groups. In response, the Commission held in Opinion 770-A that a producer who accepted an advance payment after November 5, 1976 (pursuant to a pre-existing contract) would be required to make rate adjustments reflective of the lower cost of capitai. In particular, the Commission held that such a producer would be required to charge a rate covering only out-of-pocket [Text truncated at 120,000 characters. The full text is on the page linked above.] --- Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40385005_0055%3A2. Public record. Not legal advice.