# Petitioners Brief — Permian Basin Area Rate Cases > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40386412_0034%3A44 ## Record - **Collection:** Supreme Court brief - **Document type:** Petitioners Brief - **Published:** January 1, 1968 - **Citation:** 390 U.S. 747 ## Text : Page Cees Gee ee ES oe Fiee 1 Jurisdiction ........ OT ald age Re ae ae 2 Statutes Involved ......... ein tre tA. be! - . a Questions Presented ............. mae : de ee aie CS os sc Se ess ee ae { 5 1. The Commission’s Permian Decision ree 7 i‘ a. The area approach ...... Ceimean ees 8 b. The two-price system ...... Mer peg oe 8 ‘c. The basis of the area rates .......... 8 ‘d. The rates. prescribed ......4..5,.. 9 e. Quality deductions ‘from the rates pre- * QE 4g SA ee ee ee . 10 =: Mase of retwm 2 . e. 10 | g. Special —eseiintale — ‘the applicable oh | RP ees oar ee ee . 11 —h.. The moratorium on rate increases .. -2 i. Permanent prohibitions of ° certain. pric- é- . Welt GND cs 5 5 hk eee 12 j. Refund of amounts above the area rates 12 k Small producers sees Aah aC oe 13 2. The Decision Of The Tenth Circuit AS AN 2B ~ Summary of Argument ............... aoe . Argument: = Introduction ................ is perry ete” 21 21 I.. Mobil As Petitioner ..... Se eer | A. The Conimission Erred In Imposing A Dual Pricing Structure Which Classified Gas As “New” Or “Old” According To The Date Of Execution Of The Applic- able Gas Sales Contract And Imposes ~ Lower Rates For “Old” Gas ...:.... _1.. The Commission Is Bound In Its Reg- ulatory Attempts By A Just And — Reasonable Standard Which This Court Has Held Requires A Balanc- ing Of Consumer And Investor In- CR ee 2. The Two-Price System Ignores The _ Economic Characteristics Of The Pro- ducing Industry And Will Not Provide The Necessary Incentive For Future - Exploration And Development ‘Of Gas I ce oe et MS... - B. The Commission Erred In Proscribing The Filing Of All Rate Increases Above ‘The Applicable Area Rate For A Speci- fied Period And In Further Permanently Proscribing The Filing Of Rate Increases Under Certain Flexible Pricing Clauses In Existing Contracts .............. 1. The Commission’s Moratorium’ On Rate Increase Filings Is An Invalid Limitation On The Ratemaking And Rate Changing Principles Embodied In The Natural Gas Act .......... . a. The Commission has no statutory power to impose a moratorium on contractually allowable rate in- creases in a proceeding determining just and reasonable rates ..... fees Page 21. 22 23 26 27 . 27 -b. The moratorium which the Com- - mission has imposed is not essential . to an area method of regulation and its imposition conflicts with principles which any method of group regulation must meet .... 40 2. The Commission Erred In Proscribing Pricing Clauses In Contracts Pre-- viously Approved And Made The . Basis Of Certificates Of Public Con- venience and Necessity....... frogs 41 -C. In Determining Just And Reasonable ‘Rates Under Sections 4 And 5 By Com- _ piling Composites Of Group Costs The ' Commission Erred In Excluding From Such Composites The Costs Incurred By The Producing Industry In Gathering and Processing Natural Gas For Sale To Pipeline Purchasers. >............... 48 WL Mobil As Respondent ...... Sy «ah 9 ; = .A. The Commission Failed To Adopt A Fair Rate Of Return And Then Denied The Industry The Opportunity = Earn poe That Adopted Rate .......:..:..... “33 - B, The Commission Erred In Adopting A Minimum Rate Of Only 9 Cents And Subjecting Such Minimum To Quality MI. Kens > ys be a ps a ey sea _ 38 -C. The Exemption Which The Commission - Provided From The Applicable Area © Rate Is Inadequate And Not In Con- formity With The Statutory Scheme Of | Ratemaking Required By The Natural — ae ee nee ae Pi. eee An 62 Page’ — D..The Commission Erred In Ordering Pro- ducers, On The Basis Of ‘Their Individ- ual Contracts, To Refund All Amounts Collected Above Applicable Area Rates . As To Each Contract Subject To A. Sec- tion 4(e) Proceeding ......i....... 66 E. The Issue Of The Automatic Application Of The Area Rate To Initial Certifica- tions Under Section 7 Should Not Be Decided By This Court BEN, HAS 72. | Conclusion ets; ee uae at ame i ak Cases: x i. Page Acker v. United States, 298 U.S. 426 (1936) 38 Atlantic Refining ‘Company v. Public Service Commission of New York, 360 U.S. 378 Us ek ge hh a et ae 33, 34, 36, 69, 72 Bluefield Water Works and Improvement Com- pany v. Public Service Commission, 262 U.S. ~-. Ce a oo ck aay es a ss 53, 54, 58 Chicago and North Wenters Railway Company . v. Atchison, Topeka and Santa Fe Railway titel Company, 18 L.Ed. 2d 803 (1967) ...... 64, 65 - Colorado .Interstate Gas Company v. Federal Power Commission, 324 U.S. 581 (1945) ... 49,50 Colorado-Wyoming Gas Company v. Federal ‘. Power Commission, 324 U.S. 626 (1945) ... 49 Federal Power. Commission v. Hope Natural Gas Company, 320 U.S. 591°(1944)........... as. ee 22, 23, 29, 434.45, 49, 51, 54,,55, 58, 66,68 - Federal ‘Power Commission v. Hunt, 376 US. Pee CUMOR RT: ice viv aen cs ini tee 34, 35, 70, 72 Cases: . - Page Federal Power Commission §v. Sierra Pacific ddda> Power Company, 350 U.S. 348 (1956) ... .58,59,60 — Federal Power Commission v. Texaco, 377 US. | Be REE oc GAL ae cess a 35, 42, 44, 45. King v. United States, 344 US. 254 (1952) ... 40,65 - New’ England Divisions Case, 261 US. ~184. Re Gl. Mis Wl Oe eso ees eet 64, 65 Panhandle Eastern Pipe Line Company v: Federal 7 ‘Power Commission, 324 U.S. 635 (1945) . ~ 49 Phillips Petroleum Company v. Wisconsin, . 347 3 Re ry Bigs.” ) RSE | hee eee ener 5, 6, 50, 65 Seaboard Air Line Railroad Company v. United States, 382 U.S. 154, 157 (1965) ..... & 2. 76,77. Sunray Mid-Continent Oil Company v. Federal Power Commission, 364 U.S. 137°(1960) .. .32, 33, 69 . Tagg Brothers.and Moorehead v. United States, 280'U.S. 420 (1930) 0 lca ee. . 2 United States Improvement Company Vv. Caliery ‘Properties, 382 U.S. 223 (1965) ... .35, 36, "66, ‘tl, 72 ‘United Gas Pipe’ Line Company v. Memphis Light, Gas and Water Division, 358 U.S. 103 fn Oe | EE Fe Nee iit 30, 31, 32 United Gas Pipe Line Company v. Mobile Gas _ Service Corporation, 350 U.S. 332! (1956) , ss cee Es cc te ek cn ut 30, 31, 32, 37, 59 Ynited States v. Corrick, 298 U.S. 435 (1936) 38 United States.v. Great Northern Railroad Com- pany, 343 U.S. 562, 578 (1952) ........-°. 176 »Wisconsin v. Federal Power Commission, 373 U.S. 294 (1963) - rae ees 6, 8, 21, 46, 47, 51, 52 Administrative: — ~~ Amerada Petroleum Company, 24 FE PA. 218 Dita re Oh es Pan Ne ee 66 . Nashville Traffic Bureau v. Louisville and Nash- ville Railroad Company, 53.1.C.C. 37 (1919) | 37 Phillips Petroleum iti 24 .F. PL... 587 B. 1900) Pe ate Sone we OY IRIS Suess yeas 51 Statutes: : i Page Interstate Commerce Act, 49 U.S.C. §15(2) 37 ‘Natural Gas Act of 1938, 52 Stat. 821-833, as amended, 15 U.S.C. 717-717 15 ers Peis 18, 22, 27, 29, 31, 33, 35, 37, 38, 39, 40, 42, 43, ’ i Dea (Re 48, 61, 62, 65, 67, 71, 72, 74, 715 Sociing 1(b), 15 U.S.C. 717(b) ..... MB, 49,50- ~ Section 4(d),; 15 U.S.C. 717c(d) ...... .. m:.. B27, 28, 29, 30, 31, 32, 33, 34, 35,.36, 4S oy ae ee eee tye 39, 48, 70, 7 Section 4(e), 15 U.S.C. 717c(e)....... See 20, 27, 28, 29, 30, 32, 33, 34, 35, 36, 38, 39, 23 a ae 47, 48, 66, 67, 68, 69, 70, 71, 72 Section 5(a), 15 U.S.C. 717d(a) a Abas "% ate ... .20, 28, 29, 39, 48, 68, 69, 70, 71, 72 Section 7(b), 15 USC. 717£(b) APM 42, ‘43 Section 7(c), 15 U.S.C. 717f(c) ..... ap , 20, 21, 30, 34, 35, 36, 42, 70, 71, 72, 75, 76 : Section 7(e),- 15 US.C.. 717£(e) cel eta 20, 21, 30, 34, 35, 36, 42, 45, 70, 71, 72, 75, Section 16, Ss USE. File. .:.... ogy: 39 Section 19(b), 1S USC: .717r(b) ..:... 76 Packers and Stockyard Act, 7 U. S. C. §§201, et a ea Me eta dustry development when gas well gas was found merely | ; as a- ‘by-product in the search for oil, and flared, the supply of gas is directly related to the price it. receives in’ _. the maket place. | " By its price justification for dual pricing, the Commis: sion has contradicted itself.. It has recognized that the . cost of new’ gas is higher than flowing gas discovered - when prices were lower. It has also priced: flowing gas at what it considers to be the area level of the cost of finding flowing gas. Therefore, -the Commission. has ac- . knowledged that the present replacement’ cost of gas is -higher than the cost formerly encountered in finding flowing gas. Yet the industry is expected to replace gas z a w& - ° = COSI IIO LP OTE AD OG CPO. A 0 AL LI oO - * at present high costs with revenues based on the lower costs of flowing gas. The prime source of funds for ex- ploration and development in -the ‘industry is current revenue. As Cominissioner O’Conner recognized “ . .. - since the natural gas industry generates a large portion of _its own capital, it thereby underwrites current explora- tion by the older production. Reinvestment is an accepted ‘and necessary feature’ of the industry, and the revenues it receives must be a source of funds for continued and increased nationwide exploration and development.’ ” (R. 751d). The Commission’s Brief to this Court ignores this “factor ‘when it states ‘the price of flowing gas “will have no significant effect in eliciting additional ‘supplies of gas.” (Comm'n. Br., p. 87). The Commission itself has recog- that if consumer interests are to be supplied with gas to-meet their demands, the producing industry must ~ do more than merely replace the amount of gas consumed each year. (R. 568d). The Commission, in its opinion, took notice. of the need for current generation of funds for future exploration and stated that it had not over. . - looked ‘this’ factor and had included this need in the flowing gas price.. (R. 566d).°-The question is where in - the flowing gas _price has this factor been considered. — In attempting to justify the dual pricing structure, the ‘Commission relates the two-price structure to. the home — . mortgage field. Noting that the ceilings for interest. rates on FHA or VA loans are periodically established on the basis of what interest rates will then elicit sufficient mort- _ gage funds, -even though the rates will remain constant for the life of a twenty to thirty-year mortgage, the Com- - ‘ mission stated that “Changes in these ceilings may mean that a mortgage obtained one day will be ‘substantially more expensive than one obtained on the same type of - 25. , building a oe earlier.” ible, Br., pp. 88-89). Gun. | - rent ceilings for interest on government guaranteed home loans reflect the current money market. What the Com- - mission overlooks in ‘its analogy is that in determining cur- . - rent, mortgage rate‘geilings, the source an¢d individual contracts: Therefore, the effective order of the ICC must be “thereafter observed” until changed, other- wise the _——-. public is unprotected if a company may 38 unilaterally change its rates. Again, the provisions “Of Section 4(e) of the Natural Gas Act prevent a filed rate - increase from becoming’ the just and reasonable rate un-. less the Commission so orders. . Neither is the Commission’s aitain on The Packers. _ and Stockyards Act proper. The decision Ap United States v. -Corrick, 298 U.S. 435 (1936), relied upon by the. Commission, is a companion case to Acker v. United States, 298 U.S. 426 (1936), both decisions being de- - cided May 18, 1936 with both opinions by Mr. Justice Roberts. This Court has also considered the Stockyards Act in Tagg Brothers and Moorehead v. United States, - 280 U.S. 420 (1930). The Stockyards Act imposed regu- lation by the. Secretary of Agriculture over services per- formed by commission merchants at stockyards where “Little capital is invésted; the business is the rendering _ Of personal services for which charges are made accord-. - ing to a uniform schedule.” 298 U.S. at 428. As in the case of the ICC, the rates under the Stockyards Act are in force and effect until changed by the. Secretary. Since the service performed by each merchant was identi- | cal with uniform cost and risk, the merchants themselves, prior to. federal regulation, had agreed among themselves. to charge uniform rates. Regulation was imposed to insure that these uniform rates were just. and reasonable _ in relation to cost and risk. Therefore, the uniform maxi- © mum imposed by the Secretary must continue until changed by him, otherwise commission merchants could resort to their own uniform maximum. ~ | Even forgetting the dissimilarities between the various statutes and the Natural Gas Act, the Commission gains little by placing reliance ‘on the “to be thereafter ob- _ Served” language of other statutes. Under the Natural Gas’ - Jes 39 - Act, the mere filing of a rate increase under Section 4 does not necessarily mean that the increased filings become — the just and reasonable rate “to be thereafter observed.” ° Of course, if the Commission suspends the increase and has not completed its hearing on the justness and rea- sonableness of the increase prior to the expiration of a five-month period, the producer may require that the in- ‘crease be placed in effect, but the Commission may also require, as is usual practice, that the increase be placed | in effect subject to refund with interest if later found to be unjust and unreasonable. Thus, if the Commission de- - termines just and reasonable rates “to be thereafter ob- - served” in a Section 5(a) proceeding, these rates are in force until changed by the Commission. By a contractu- ally allowable filing under Section 4(e), a producer does not unilaterally change an existing rate the Commission has found should “be thereafter observed.” That change may only come after the Commission finds the increase | just and reasonable. If the increase is not just -_ rea-- sonable then a refund is made and the. old rate is, still “thereafter observed.” | The Commission’s contention. (Comm’n. Br. + ©. 73), _ that “if any additional: authority for such action [the moratorium], beyond that provided in Section 5(a) it- self, is required, it is provided by the broad language | of Section 16”, ignores completely the proper role for that rulemaking section. The rulemaking authority, of the Commission may: be used to implement that authority granted by other sections of ‘the Act. However, it is not an independent. grant of authority which’ may be used to override expressed rights granted by other sections. Sec- tion 16 itself makes very clear that it shall be used “to carry out the provisions of this Act.” 40 - t ‘b. The moratorium which the Commission has imposed is not essential to an: area method of - regulation and its imposition conflicts with principles which any method of group regula- tion must meet. Assuming that it has statutory authority for imposition of the moratorium, the Commission asserts that the mora- . - torium imposed “was appropriate in the circumstances.” (Comm’n. Br.,. p. 73). In making this assertion, the -Commissien ignores several facts of regulatory life under . its own Permian Decision. First, in the Permian exemp- tion provisions, the Commission specifically bases eligi- bility on “a producer who has ‘contracted for an above- ceiling price.” (R. 657d). It is an accepted fact of ‘regulation’ under the Natural Gas Act that during the term of a contract, the contract price fixed by the parties determines the maximum price which the producer may receive.. As the Commission has observed “under the Natural Gas Act rate regulation is. superimposed on— not substituted for—private bargaining.” (Comm’n. Br., p. 93). In order for a producer to be able to take ad- vantage of any exemption provisions, and Mobil objects to the sufficiency of the Commission’ S present exemption provision for Permian, there must be an existing ‘con- tractual right to seek a rate higher than the maximum area rate. If the Commission is allowed to proscribe all rate increase.filings, those contracts which must depend on rate increase filings to place them above the area rate offer a producer no opportunity to take advantage of - any exemption. There is no need to discuss the principle, ‘applicable to any method of group rate regulation, that . ° an effective and. workable exemption is required. See King v. United States, 344 U.S. 254 (1952). Second, the Commission attempts. to impress the Court with the assertion that: the “area proceeding would be 41 quickly set at naught” if the moratorium is not upheld. (Comm’n. Br., p. 69). This again ignores the fact that rate increase filings do not automatically become the ef- fective area rate. Only after the Commission finds the increase to be just and reasonable does it “set at ndught” an existing rate: . Further, the Commission’s contention : that, the moratorium is “appropriate in the circumstances” is defective for the reason that, the Commission has as- sumed that no rate increase to be filed during the mora- torium period will be just and reasonable. This. is an assumption which the Commission may not make from the record before it in this proceeding. The moratorium . is in effect from September 1, 1965, the effective date for the Permian decision until January 1, 1968. This record contains, as well it may not since it was closed prior to * the Commission’s decision, no actual cost figures for the ‘moratorium period. The Commission attempts to - gloss over this deficiency by stating that “The new gas well gas [gas contracted to interstate sale subsequent to January 1, 1961] price primarily reflects national data for years through 1963, projected -to subsequent years.’ > (Comm’n. Br., p. 74). Thus, by a projection of pre 1964 data the Com- mission is attempting to prevent producers from making an actual showing of. cost and possible other evidence ~ ‘ which would show rate increase. filings made during the - Moratorium period to be just and reasonable. Mobil cen- tends this is not in keeping with the proper _— of the just and reasonable standard. 2. The Commission Erred In Proscribing Pricing Clauses In Contracts Previously Approved And . Made The Basis Of Certificates Of Public Con- - ventence And Necessity. - Supplementing the general moratorium, which prevents the filing of all contractually-allowable rate increases above “= ree ella an, the maximum area rates until January 1, 1968, ‘the Com- mission has permanently forbade contractually allowable rate increase filings above the maximum area rates based C00 meng on any price-changing provisions that would not be author-. ized under Section 154.93 of its Regulations. (R. 682d- 683d). This prohibition is applicable both during and after the general moratorium: Section 154.93 prevents -producer sales contracts executed on or after: April 3, 1961 which contain most favored nation, spiral-escalation and other indefinite pricing provisions from being filed with the Commission after April 2, 1962 for initial cer- tification under Section 7. Until the Permian Decision, the : prohibition of Section 154.93 was not applicable to those contracts which had been accepted for filing in Section 7 certifications prior to its effective date. This Court has sustained the Section 154.93 prohibi- tions as they now. exist in Commission regulation. Federal Power Commission v. Texaco, 377 U.S. 33 (1964). How- ever, this Court’s decision did not deal with the retroactive ° application of the 154.93 prohibitions, as the Commission now proposes in Permian. Unlike the Texaco proscription _ which was only applicable to future contracts when pro- mulgated, the Permian proscription applies .to existing contracts that were negotiated and filed by the parties when Commission approval was being given to contracts containing such clauses. Relying on-the pricing provisions contained in their contracts to cover present and future costs, producers, with the approval of the Commission, ‘committed gas to interstate sale. Under Section 7(b) of the Act, such sales must be continued until the Commis-- sion approves abandonment. It is Mobil’s contention that the Commission’s permanent proscription is unreasonable and invalid in light of this Court’s decision in Texaco; the —, * 43 rate - inate provisions of the Act; the Commission’ S prior approval and acceptance of the proscribed contract clauses; and, producers commitment of. gas to interstate sale in reliance on Commission approval of the sales con- tract. The Commission, in its brief to this Court, attempts to _ justify the permanent proscription of the clauses by reli- ance on Section 5 of the Act stating that “The Commis- sion has express authority under Section 5 of the Act to modify contractual provisions. after a hearing.” (Comm’n. Br., p..77). However, the Commission fails to specifically _ note that its actions in modifying contracts under Section 5(a) are to-bé judged by the just and reasonable standard, ~~ which this Court has already held in Hope involves a balancing of both consumer and investor interests. Further, the Commission relies on its asserted authority to impose | 4 a general moratorium as additional justification for the permanent proscription. (Comm’n. Br., p. 77). As Mobil has previously contended, the imposition of the general moratorium by the Commission is likewise invalid in light of Statutory provisions as well as any test of reasonable- - ness. But even if this Court were to uphold the Commis- sion in the imposition of the general moratorium for a - limited period, the actions of the Commission in per- manently -proscribing flexible pricing clauses’ in existing contracts are invalid: for the reasons stated herein. An affirmance by this Court of the moratorium does not re- quire that the ban on flexible pricing clauses also be af- firmed. After expiration of the moratorium all rate in- crease filings except those based on flexible clauses are to be allowed by the Commission’s present orders. Since the promulgation of. the orders of the Cimniie- sion which are now set forth in Section 154.93, producers . - 44 in negotiating sales contracts have been on notice ‘that indefinite pricing clauses should not be included otherwise . the Commission will not allow the contract to be filed. Therefore, other and acceptable pricing clauses ‘are now included to cover rising costs in the future. But producers _ whose sales contracts were executed prior to April 3, 1961, the present effective date of Section 154.93, are trapped in a position from which they may not extricate themselves. Contracts were negotiated and executed on the - basis of the acceptability of indefinite as well as other - pricing clauses. Numerous contracts of the period, cogtain ' only indefinite pricing clauses for future price increases. Many contracts contain indefinite as well as other clauses. These producers now find contracts which they have relied upon, which the Commission has previously approved, which sales have been made under, and under which_sub- + stantial amounts of gas have been committed to interstate sales suddenly severely limited in regard to the contrac- tually allowable price. In effect the Commission has re- written contracts previously approved by it. Such actions hardly seem in accordance with any test of reasonableness. The Commission attempts to justify the proscription by noting that it is. one which only limits, but does not destroy . flexible clauses in existing contracts, since a producer may ‘use a flexible clause to file up to the maximum area rate. (Comm'n. Br., p. 79). This ignores the real issue. The ~Commission has: completely and permanently destroyed - the ability of producers to file for rates above the maxi- mum area rate, if based on a flexible pricing clause. _ The Commission charges that flexible pricing clauses “are clearly contrary to the public interest,” and contends that this Court has already sustained that view in Texaco. (Comm'n. Br., pp. 77-78). In Texaco, this Court held 45 ‘ that Commission orders ip proscribing flexible pricing clauses in contracts to be filed for future certification were supportable by reason of the control over initial certifica- tion given the Cothmitssion by Section 7(e). ‘ And, where, as here, seelicnioie for certificates are ' made under §7 of the Act, the Commission under §7(e) is required to control ‘the terms and conditions | . under which natural gas companies . . . may initiate - sales at wholesale of natural gas in commerce. 377 US. at 41-42. , \ The eroecrintion which the Commission prescribed. in Permian is not over a gas sale which is to ‘be initiated, it is over a sale that has already been initiated, approved by. - the Commission, and which is continuing — an existing _ contract. = hi ; In Texaco this Court also commented on | the regulatory = of the Commission as to existing contracts. In a rate case under §5(a) of the Act the Commis- sion can pass on existing contracts affecting ‘rates, can find that particular contracts are “unjust, un- reasonable, unduly discriminatory, or preferential” _ and thereupon has power to determine the “ ‘just and» Us ara. rate or contract and “fix the, same. "on at41. ~ 3 Thus, in oa tainting contracts the Commission is bound by the just and reasonable standard, which, this Court stated-in Hope is a standard which requires. a balancing of consumer and investor interésts. 320 U.S. at _ 603. It hardly seems a balance to deny producers the right - to file for rate increases under previously approved pricing _ Clauses, even after the Commission itself is to allow all other rate increase filings. What is acceptable for reg- 46 . ulating future contracts and the initial entry into com- | merce is not necessarily acceptable in regulating existing contracts and sales in commerce. The proscribing of pricing clauses in existing contracts is vastly different from controlling pricing clauses in initially certifying a sale, and this Court has previously observed the difference in pointed language. In Phillips II. (Wisconsin v. Federal Power Commission, 373 U.S.,294 (1963)), where this Court approved the Commission’s attempt at determining just and reasonable producer rates | by use of the area method, the Commission had refused to declare “void ab initio” certain spiral escalation clauses’ in existing contracts on. which three Section 4(e) rate in- creases were based. 373 U.S. at 303. This Court had “grave doubts” as to. whether the issue could be raised at - that time, but did offer this comment: Further, we see no merit in California’s [the com- plaining party] contention. It is true that the €om- ' mission has announced prospectively that it would: not accept for filing contracts containing such clauses {the Court here footnoted the various Orders which . form Section 154.93], but it would have been quite a different matter for the Commission to have declared that past rate increases were ineffective simply be- cause they were based on sipral provisions. The effect of a contract clause of this type, of course, is only. to permit the producers to resort to the filing pro- visions of §4(d) of the Act. Ifthe increase is chal- lenged, the producer must still establish its lawful- ness wholly apart from the terms of the contract. ' Thus we have sustained the right of a seller to file - an increase under a contract which, in effect, author- ized him to do so at anytime. United Gas Pipe Line Co. v. ee Light, Gas and Water Div. 358 US 103, . .. The spiral clauses here are far more limited 47 in scope, duplitene as they iis on the occurrence of ' external events. 373 U.S. at 304. Likewise, it is “quite a different matter” for the Commis- sion to declare invalid rate increase filings under existing _and previously approved contracts simply because they are based on flexible pricing clauses. This permanent ban - is even less acceptable when consideration is given to the fact, as illustrated by this Court in the above quoted sec- tion from Phillips II, that both the investor and. consumer interests are adequately protected when.a rate increase filing based ona flexible clause is made under Section 4(e). | The Commission attempts to build an argument for the. “indefinite” proscription by stating that such clauses “are also inconsistent” with the dual pricing. system. This of course assumes the validity of dual pricing, which is also at issue before this Court, and wétich Mobil among other - parties contends is unjust and unreasonable in and of itself. (See Part IA of this Brief.) But assuming for the sake of argument that the Commission is sustained in: regard to dual pricing, it is still no justification for proscribing filings based on the flexible clauses, which is attempted by the statement: “But limiting these clauses is highly important, since they would-permit the escalation of flowing-gas prices _ to the new gas well gas price level and thereby disrupt the ; _ operation of the two-price system.” (Comm’n. Br., p. 78- 79). This again ignores the fact that after the expiration of the general moratorium, all ‘rate filings; except flexible filings, are to be accepted by the Commission. The filing of thesé acceptable rate increases will “disrupt” the two- price system as much if not more than “flexible” filings. (Certainly, the Commission does not wish to say that be- “cause of the dual pricing system ‘it may ey ban 48 all rate increase filings, whether based on flexible clauses . or cares. + In eiweiaine Just And Reasonable Rates Under Sections 4 And 5 By Compiling Com- - posites Of Group Costs The Commission Erred In,Excluding From Such Composites The Costs Incurred By The Producing Industry In Gather- ing And Processing Natural Gas. For Sale To Pipeline Purchasers. In determining the maximum area rate, the Commission allowed the same rate for gas sold at the tailgate of a processing plant and for gas sold at the wellhead prior to x _ gathering and processing. Tie Commssyon refused to con- -Sgider or include in its composites of: cost for both new and flowing gas an item representing the average industry cost ; of processing and gathering. It is Mobil’s contention that such. deletion is unreasonable and unjust, and that such . costs are necessary in a pricing system based upon aver- age of industry costs in producing gas and oes a to the facilities of a purchasing pipeline. a . Gathering and processing are -essential. and. necessary” el: functions of the natural gas industry in bringing gas from the reservoir to the consumer’s burner tip. In the industry, gathering and processing are sometimes handled by the producers themselves, by the purchasing pipeline, or by | a third party. When handled by producer, the cost in- ‘curred is as legitimate and necessary a cost as when handled by an interstate pipeline — wellhead pur- chases. ' The sccdincing an gathering exemption found in. Sec- tion 1(b) of the Act does not prevent the Commission from including gathering costs in its composition of the items comprising an area cost for gas. This is amply borne . 49 out by the position taken by this Court when reviewing earlier efforts of the Commission in regulating’ interstate pipelines with gathering and processing facilities and costs. In Colorado Interstate Gas Company v. Federal Power Commission, 324 U.S. 581 (1945), this Court decided directly what had been indicated indirectly in Hope as to the inclusion of producing.and gathering facilities of a pipeline in its rate base. Both this Court and the Com- mission agreed that there should be such an inclusion since the production and gathering exemption of Section 1(b) ‘was not prohibitive on the subject. As this Court stated, ‘after noting that the exemption of Section .1(b) was ap- plicable to prevent Commission jurisdiction over drilling, well spacing and possible other like limitations: : betes We only decide that it "[the” exemption] does not preclude the Commission from reflecting the produc- tion ‘and gathering facilities of a natural-gas company in the rate base and determining the expenses incident thereto for the purposes of determining the reason-_ at 603. of Tates —_—- to its ene 324 US. at 603 - Further in both Colorado-Wyoming Gis Company v. Fed- eral Power Commission, 324 U.S. 626 (1945) and Pan- handle Eastern Pipe. Line Company v. Federal Power: . Commission, 324 U.S. 635 (1945), this Court upheld the Commission in including a pipeline’s gathering facilities in its rate base. ‘True enough, Colorado Interstate, Colo- rado-Wyoming, and Panhandle involve an individual pipe- line rate proceeding. However, the decisions of this Court clearly indicate that the Commission, as far as the pro- ducing and gathering exemption of Section 1(b) is con-- ’ cerned, does have the authority to include the costs of gathering as well as production in determining the rate of 50 a “natural gas company.” Relevant also is the fact that Phillips I, which held independent producers to be “nat- ural gas companies” and thus subject to Commission reg- ulation, relied heavily on the reasoning of Colorado Inter- state in. rejecting the argument that the exemption of . Section 1(b) prevented Commission regulation of a producer’s interstate sales. See Phillips Petroleum Com- pany v. Wisconsin, 347. U:S. 672, 678 (1954). And further,.in Phillips I, this Court dealt specifically with a situation where the independent producer gathered the gas and sold it to an interstate line after gathering was com- pleted. See 347 U.S. at 674-675. It is also clear from. the pipeline rate: cases discussed above, as well as from subsequent cases, that when and if gathering is performed by a pipeline, the facilities in- cident. thereto are included in the rate base and pipeline rates adjusted accordingly, thus passing such costs along - to the consumer. By failing to adopt similar treatment _ for producers, the Commission in determining maximum area rates has, only computed the cost of finding and producing gas, has omitted’ from its cost computations a portion of the legitimate expenses of producers apd has left. a “cost gap” in producer rate regulation, not so “at-. tractive” to producers, between wellhead production and sales after gathering is complete. | o It is true that the ni bitlotiations! activity of extract- ing and selling natural gas liquids must be considered by the Commission under its adopted procedure in deter- _Mining a national and/or Permian area average for pro- cessing and gathering to be included in the cost of gas. ' There are common producing, gathering and processing . costs: which must be allocated between the extracted liquids - and the gas sold to an ‘interstate pipeline, and the Com- wa .. co mission has so allocated in individual producer proceed- ings. See Phillips Petroleum Company, 24 F.P.C. 537, 562-565 (1960). Further this allocation is not an .im- possible task in an area proceeding as the Commission has _ ‘itself. demonstrated in determining a “net liquid credit” (i.e., net only of production taxes and royalties (R. 589d) ) average which was subtracted from all other aver- ages in determining the cost of new gas. (R. 586d-590d). The credit was based on revenues received from both wellhead condensation and- plant extraction (R. 589d).. The presence of the “net liquid credit” is but another in- dication of the unjustness and unreasonableness of the Commission’s actions in failing to include processing and — gathering costs: the Commission has subtracted a “credit” ' without including those costs from which the credit should .properly be subtracted. A figure based, on both wellhead - and plant revenues has been subtracted from a figure which represents only wellhead costs. Such a procedure hardly is a “balancing of consumer and investor interests” as required by Hope. Because the initial determination: of. an average cost for processing and gathering is a function which the Com- mission must determine from the record before it, neither Mobil nor this Court can. or should attempt to arrive - at a specific figure. However, the Commission should be ' directed to make the: determination, either from the record now before it or with the addition of any additional evi- dence it may desire. : Il. Mosit As RESPONDENT In Phillips II this Court observed that: | The Comsnission has stated in its opinion in this pro- at that the goal is to have rates base on the “A 52 “reasonable financial ——, of the industry” in each production area . . 373 US. at 310. in these proceedings it is evident that the Commission has ~ determined that the industry revenue requirements for new . gas are the applicable area maximum-of 16.5 cerits and | that the industry revenue requirements for.old or flowing gas are the applicable area maximum of: 14.5 cents. To- gether with the révenue generated by application of the area minimum of 9 cents, these area maximums are sup- posed to produce the overall revente requirements for the. industry in the Permian Basin. However, having deter- minded the revenue requirements, the Commission has not provided a rate design which will allow recovery of these rates. The return which the Commission allows on pro- duction investment is improper; but even considering its propriety; the yield. actually returnable, while not precisely known, is less than what the Commission has determined to be just and. reasonable. Thus the end result becomes unjust and unreasonable. This deficiency is further ac- cented by the Commission’s minimum rate order, which fails to aid the producer in recovering the revenue require- “ment. And, as a final element,’ the Commission, although it can not determine if the revenue requirements which is has determined are to be reached: because of the im- proper treatment for rate of return, has ordered a refund- | ing of all amounts collected above the applicable area rates by individual producers. These, and other errors by . the Commission discussed in this second part, along with those points previously ‘discussed, render the results of the area method expressed in the Permian decision clearly | _ unjust and unreasonable. 3 A. The Commission Failed To Adopt A Fair Rate Of Return And Then Denied The Industry The | Opportunity To Earn That Adopted Rate. The Commission in determining a fair return in its first area rate proceeding adopted “a return of 12 percent on . production activities” as being the fair rate of return which would protect gas consumers against excessive prices for new and flowing gas but which would not be so low that it would fail to respond to the needs of the industry. (R. 606d). The rate of return on production items purports to include, in addition to’an allowance for exceptional risks and the impact of quality deductions in both the rate of return for new and flowing gas (R. 614d), an allow- ance in the flowing gas rate of return to. compensate for producers’ need to finance future exploration from current revenue. (R. 633d). Thus, as developed by the Commis- sion, the rate of return purports to be a combination of three factors: a return.on production investment an allow- - ance for the impact of quality deductions; and a means -. to generate current funds for future exploration. The test for what is or is not a proper rate of return has been explicitly stated by this Court on at least two separate occasions. First, in Bluefield Water Works and. Improvement Company v. Public Service Commission, 262 U.S. 679 (1923) this Court stated that what “rate will constitute just. compensation depends upon many circum- stances and must be determined by the exercise of a. fair and enlightened judgment, having regard to all- relevant | _ facts.” 262 U.S. at 692-693. But considering all circiim- stances and relevant facts, this Court — noted that: A public utility j is entitled to such rates as will permit ' it to earn a return on the value of the property which it employs for the convenience of the public equal to that generally being made at the same time and - in the same general part of the country on invest- ments in other business undertakings which are at- tended by corresponding risks and uncertainties... A rate of return may be reasonable at one time and become too high or too low by changes affecting,op- | portunites for investment, the money market, and business conditions generally. Idem. : Second, in Federal Power Commission v. Hope Natural Gas Company, 320 U.S. 591 (1944) this Court, in. an opinion by Mr. Justice Douglas stated that the revenue _ _ obtained from a rate should allow not only operating ex- | _ penses but also capital costs and noted that: . By that standard the return to the equity owner should be commensurate with return on investments in other - enterprises having correponding risks. That return,. moreover, should be sufficient to assure confidence in. . the financial integrity of the enterprise, so as to main- tain its credit and to attract capital. 320 U.S. at 603. “The Commission recognized the principles of Bluefield and Hope which this Court has announced as governing rate. of return. (R. 598d). However, having recognized them as controlling -and binding, neither the resulting dollar — . return nor the rate of return fixed by the Commission is acceptable when judged against those standards. _ In adopting 12 percent as the fair rate of return, the Commission relied on several considerations “particularly the testimony of witnesses Shaffnmer and Morton with respect. to the-returns by nonintegrated producers in the Permian Basin.” (R. 606d).? The ‘Commission also 2. The Commission noted (R. 604d) that the average rate of return for witness Shaffner’s sample of seven non-integrated producers with Permian Basin operations was 13.4 percent for the 1957-1961 ae 55 specifically recognizes that investment in.the exploration and producing industry represents a higher degree of risk - than investment in the pipeline industry. (R. 599d). Con- trary to the doctrine of Hope, the Commission’s 12 per- cent rate of return allowance does not meet the basic test of providing this industry the opportunity to earn a return ' equal to that of other industries with corresponding risks . - and uncertainties.. It is not adequate to generate the flow of funds for gas, exploration and development projects. . Furthermore, by the Commission’s own computations, the indtstry has not been allowed to earn the fair rate of return which it adopted. ve ted The basic flaws in the Commission’s rate of return analysis are (1) its failure to consider the substantial comparable earnings evidence in the record demonstrating what other industrial groups, especially Commission reg- ulated pipelines, have earned on equity capital over a relevant period of time and (2) to provide for the special risks of the gas producing industry. Moreover, the Com- mission failed to’ consider the substantial evidence regard- ing the significant increase in earnings ratios reported for the major industrial groups, the rising cost of debt capital and the significant decline in the purchasing power, of the dollar. The 1957-1961 period considered representa- - tive by the Commission in determining the fair rate of return covers the period of depressed earnings following the first Suez crisis, and encompasses two of the four well- documented recessions since World War II—namely in period. Dr. Morton’s sample of 13 non-integrated producers earned an average rate of return on average capitalization of 14.5 percent for the same period. On common stock equity the. return was 15.4 percent. During the.longer more representative period, 1947-1961, Dr. Morton’s sample earned average rates of 18.1 percent and 19.5 per- . cent on total average capitalization and average equity, respectively. (Ex. 220, Sch. A-29). (R. 685e). ae .) 56 1958 and in 1960-1961. Furthermore, Dr. Shaffner’s Ex- — hibit No. 176, Schedule’ No. 19 (R. 562e), shows that the producing industry did not. share in the general re- covery. of the economy that took place between 1959 and early 1960. In fact, the same exhibit (R. 56le)_ shows that since World War II, no five-year period could have been’ selected that resulted in a lower a. average rate of return that the 1957-1961 period ; relied upon by the Commission. Since 1961, rates of return jn the economy. generally and for the producing industry, } in particular, have improved significantly. At the same time, interest rates‘on. new debt capital have climbed to : _ their highest levels since before World War II. Therefore, - : the 1957-1961 period is not representative of. prior or + ~——__s current conditions in the capital markets and the data _ relied upon by tlie Commission -seriously understate the _ fair rate of’return required by the natural gas producing industry. Sufficient incentive to search for and develop adequate future natural gas supplies at reasonable prices is the key to the protection and growth of consumer re- quirements as -well as of the nation’s huge investment in transmission and distribution facilities. Assuming, arguendo, that 12 percent represents a fair ' rate of return for the gas producing industry, nevertheless, the actual return, by the Commission’s own admission, falls short of this yield. The Commission’s Brief candidly States that: ~~“ | . | . . . this meant that the prescribed @nea rates mights ” yield as little as about 10% percent overall (about 12 percent on equity) on average quality new gas- - well gas, and possibly only slightly more than 9 per cent overall (about 10 percent on (equity) on the average quality of old gas-well’ gas.” (Comm’n. Br., p. 141). (Emphasis added). : | Py 57 Thus, the lack of opportunity to earn a fair rate of _. return is self evident. Moreover, the return on equity is -- shown by the Commission to be equal to or below that ~ of returns on equity of Commission regulated pipelines in spite of the fact that it points out significant risk dif- ferentials between pipelines and producers. (R. 5 98d-601 d). Since 1947, the average rate of return on equity for reg- ulated natural gas pipelines has been 12.0 percent (Source: .FPC, Statistics for Interstate Natural Gas Pipeline Com- \ ; panies). The annual averages ranged from 10.8 percent in © - 1963 to 13.6 percent in 1956. Since 1961 the average has been 11.9 percent. Obviously the rates on equity estimated ° by the Commission in its brief of “about 12 percent on equity” for new gas well gas and “about 10 percent on equity” for old gas well gas are inadequate and unfair when compared with the higher rates yielded by admittedly safer pipeline investments.? : . ae The errors of the Commission, as previously indicated, : are that the 12 percent rate of return adopted is inade- quate and that the Commission has burdened the adopted ~ rate of return with other factors so that the actual return to be earned is not only highly uncertain but also impos- sible to achiéve on a group basis. It is not:only impossible for the natural gas producing industry to average 12 per- cent rate of return because of quality deductions, but also impossible for the industry to achievefhe 9 percent and ‘ 3. Average rates of return on average common equity of privately- owned electric utilities ranged from 11.0 percent in 1958 to 12.6 per- cent’ in 1965. The average rate for the 1955-1965 period was 11.5 percent. (Source: FPC, Statistics of Electric Utilities in the United States, 1965, Privately Owned). Hence, the very low risk electric utilities, regulated by the Commission, have earned higher rates of return on equity in past’ investments than the 10 percent now con- templated for producer investments in “old gas-well gas” and ‘both “old and new” casinghead gas. 58 10-3/4 percent re now aes for the first time in the Commission brief. Some of the factors that preclude these average yields are (1) price limitations below area ceilings in a substantial number ‘of contracts; (2) quality deductions below the so-called standards for “pipeline quality gas”; (3). applying” the rate of return to a base which excludes a significant and necessary portion of the ' industry’s investment aed (4) inclusion of an urn- realistically short time lag in the rate base; (5) applying the ‘rate of return to a theoretical rate base (for new gas well gas) consisting of only one-half the investment out- standing over an assumed \20-year ‘period; and (6) under- estimation of several important cost components such as successful well costs, lease acquisition costs and royalty. Thus, the Commission, while purporting .to recognize the need for an incentive to the ‘producing industry to search for additional supplies, has not only deprived the .producers of the incentive: to conduct further exploration, ’ but also failed to meet the legal standards of Bluefield and Hope. Simply stated, even if the producing industry ‘\ were given the opportunity to earn a 12 percent rate of return, the industry will not be able to compete success- fully for investment funds which have the opportunity: of earning a higher. return in other regulated and non- _’ regulated activities involving much less risk. . B. The Commission Erred In Adopting A Mini- mum Rate Of Only 9 Lents And Subjecting Such Minimum To Quality Deductions. In the Permian decision, based on its. interpretation of the decision by this Court in Federal Power Commission v. Sierra Pacific Power Company, 350 U.S. 348 (1956), the Commission established a minimum area: rate, appli- cable to-all gas, of 9 cents, but reduced the minimum 2 - even further ‘by subjecting it to quality deductions. (R. 669d-671d). It is Mobil’s contention that the decision of the Commission to impose a minimum rate is just and reasonable, but that the 9 cent level is not supported by the record in these proceedings, and that the minimum . should be placed at a level which will allow recovery of the revenue’ requirements which the Comimission has ~ ; established. ~ ‘ ‘As the Commission in its Brief to this Court has cor- rectly noted, the decision by this Court in United Gas . Pipe Line Co. v. Mobile Gas Service Corporation, 350 U.S. 332 (1956) held that under the Natural Gas Act rate regulation is superimposed on, not substituted for, private bargaining. (Comm’n. Brief, p. 93). However, by the minimum rate order the Commission has aban- doned any pretense of basing minimum rates on individual contracts, allowing unilateral producer filings up to the designated minimum. (R. 671d). Thus, if the Commis- sion is to abandon contract restrictions.in allowing pro- ducers to file up-to the designated minimum,,then the | minimum rate level chosen should be supportable from _ Abe record before the Commission and should form a part ‘- of a rate design which will allow. recovery of revenue requirements. In setting. a.minimum the Commission emphasized that. Sierra, decided by this Court on the same day as Mobile, | recognized that the Commission possesses the power to authorize rate increases despite contractual limitations. __ However, Sierra atso held that the Commission must base such authorization on more than a “bad bargain” by the ‘producer with the pipeline purchaser, which has resulted’ ‘ in a low rate. Rather, this Court stated: A 60 | ee [T]he sole concern of the Commission would seem to-be whether the rate is so low as to adversely affect the public: interest—-as where it might impair the financial ability of the public utility to continue its service, cast upon other consumers an excessive burden or be unduly discriminatory. 350 U.S. at 355. | “The ‘Commission concluded that the test of raising rates above contractual limitations must therefore rest on pub- lic rather than private considerations and that “the ex- amples set forth by the Court are not, and were. not . intended to be, the only instances where public interest would justify an authorization to increase rates in con- . travention of a contract. " (R. 670d). The Commission — determined that a minimum rate was in the public: in- . terest’ because... The rate received by a producer must not.be so low as tO prevent or retard further exploration and there- by decrease possible discovery-of gas -reserves which will be needed by consumers. (R. 671d). The Commission stated that the impact of its 9 cent rate would be de minimus on consumers, but would perhaps — encourage producers: with low contract rate ceilings to continue to search for gas. Whether this Court adopts or rejects Mobil’s position that the Commission’s dual rate structure is invalid, it is obvious that the maximum area rates which the Commis- sion has developed based on averages of certain items of industry cost' are the Commission's revenue requirements ae Mobil has objection to the ‘exclusion of processing and gather- » - ing. charges in the items considered in determining maximum area averages, which would in and of itself place a averages: at a —* level. . 61 for the industry in the Permian Basin. In order to allow recovery of these revenue requirements, since regulation under the Act is “superimposed” on contract rates, the __ . Commission should adopt a minimum rate which will allow recovery of this industry revenue requirement. Con- sidering the fact that not all contracts allow rates at or near the area maximums determined by the Commission but many at rates substantially lower than the maximums, considering the fact that rate increase filings above the area maximums should be allowed,® and considering that . contract rates presently above the area maximums are to be lowered to those maximums, the area minimum should be determined from substantial evidence in the record ‘which will insure that a producer has the opportunity to earn the industry revenue requirements under his ap- plicable. contract rate. Mobil submits that the 9 cent minimum adopted by the Commission does not fulfill this need. The only justification for the 9 cent figure is that its effect on consumers is. de minimus. The Commission itself estimates that “at the most $250,000 annually” (R. 671d) will. be produced. The reduction in contract rates presently above the area level should more than ~ ‘counterbalance this figure. Considering the requirement under the Natural Gas, Act that rate regulation is to be - superimposed on contract rates with the need to allow producers to recover thie revenue requirement in the Per- + mian area, the Commission should be directed to recon- sider the minimum rate level with a view toward estab- lishing a minimum which will allow recovery of the revenue requirements for the Permian. area. 5. Mobil has objected to the imposition of a general moratorium | on such filings and the permanent proscription of filings based on | flexible pricing clauses. 62 C. The Exemption .Which The Commission Pro- vided From The Applicable Area Rate Is In- adequate And Not In Conformity With The Statutory Scheme Of Ratemaking Required By The Natural Gas Act. . Clearly recognizing that the Permian decision must make provision for an aggrieved producer to seek ex- emption from the applicable area rate, the Commission ; provided that where producers who have contracted for “an above ceilirig price” can show out-of-pocket expenses in connection with the operation of a particular.well above the. revenues received. from the applicable area rate, “appro- priate relief” will be granted. (R. 658d). The Commis- sion also noted that: there may be other situations where “appropriate. relief” should be granted as a matter of law or in the public interest but refused to “specify all of the. special circumstances.” (R. 658d)° “Appropriate relief” was further defined to indicate ,that in most cases “it may be sufficient to permit them [producers] to. abandon their - unprofitable sales.” (R. 658d-659d). In a proceeding which has determined maximum area rates from nationwide or _ >. area averages of certain items of cost incurred in gas pro- duction, the Commission’s reliance on “individual well cost” seems a rather inadequate exemption provision for the individual producer and one re ny ad- ministratively. - »The. Commision’s exemption provision is further com- plicated by the separate provisions of the Permian decision applying a moratorium on all contractually allowable rate increases above the maximum area rates for a specified 6. The ‘ieidituaien also stated that refunds would not be required -. if a producer in so doing would be deprived “of amounts sufficient to _- caver his out-of-pocket operating enpenane in the Permian Basin for. ‘such period.” (R. 660d). | 63 period, and permanently prescribing rate filings above the . maximum area. rates based on certain flexible pricing clauses. These provisions have previously been discussed in the first portion of this argument. Considering these . provisions, should a producer experience rising costs that have been anticipated through contractually allowable | rate increase filings, then. because of the Commission’s moratorium or its prescription on flexible. clauses a pro- ducer may be unable to file for a rate ‘higher than the maximum area rate and seek exemption from the area rate. Thus, the Commission’s exemption is only: applicable at present to those: producers who have contract rates - that are presently above the maximum area rate, and which are not in effect subject to refund. During the ’ period of the moratorium, no contractually allowable — . rate increases are to be allowed above the area maxi- “mums. Even after expiration of the moratorium, filings based on flexible clauses are prohibited. As the Commis- sion correctly stated “This Court held in United Gas Pipe Line Co. v. Mobile Gas Service Corp. . 350 US. 332, that under the Natural Gas Act rate. regulation is superimposed on—not substituted for private bargain- ing.” (Comm’n. Br., p. 93). A producer who has a contractually allowable right to file for a higher rate, which higher rate.may prevent confiscation and cover rising costs, will be denied such contract right, aside from the adequacy of the Commission’s exemption provisions, during the moratorium period or permanently if the con- tract right is by flexible pricing clauses. The maximum area ceilings adopted by the Commission. are equal to the sum of the averages of ‘certain items of . cost incurred in producing gas which the Commission felt should be considered in pricing gas on an area basis. | By the very nature of an average, such ceilings will only 64 _ provide for the recovery of production costs for that gas having average or below average costs. By the very nature of an average, a large percentage of Permian gas has and will have above-average costs. Yet in allowing for relief if “out-of-pocket expenses” are greater than. applicable area rates, the Commission fails to explain . what costs are to be considered as “out-of-pocket ex- penses.” This presents a‘regulatory standard that is im- possible for a court to _feview or for an aggrieved pro- ducer to meet. Further, the Commission’s brief to this Court makes clear that these “out-of-pocket expenses” are not to be individual costs “since relief'on such a ground would resurrect the rejected company-by-company ap- re and make the.area rate a floor rather than a ceil- ” (Comm’n. Br.; p..66). This reasoning by the Com- we a ignores the often repeated principle that confis- cation is an individual consideration. Chicago & N.W. R. Co. v. Atchison T. & §.F. R. Co., 18 L. Ed. 2d 803, 815, 829 (1967); New England Divisions Case, 261 U.S. 184, 204 (1923). An exemption provision is included to prevent confiscation of the individual’s ——- by rates based .on group requirements. Further, the basic remedy of abandonment proposed by the Commission is deficient for at least two basic reasons. First, the proper function of. an exemption provision in group ratemaking is not to force a choice between offer- . ing a service or a commodity at certain prescribed rates or not at all. Rather, the proper function of an exemp- . tion provision in group ratemaking is to’ allow a continued offering of a service or commodity but at rates which will not be confiscatory where the applicable group- -rate will be’ confiscatory, As this Court has noted in other in- stances of group ratemaking, an exemption. provision 65 should always be available to allow for modification of | the rate order, thus allowing continued service. See Chicago & N.W. R. Co. v. Atchison T.. & S.F. R. Co.,. . supra; New England Divisions Case, supra; King v. United _ States, 344 U.S. 254, 275-276 (1952) Second, if aban- donment of interstate sales is to be allowed in all confis- catory situations, the interstate market may be deprived of substantial quantities of gas. As this Court has ob- served on many occasions, the primary purpose of the Natural Gas Act was to provide protection to the “ulti- mate consumer.” See Phillips I, 347 U:S. at 685. It does the ultimate consumer little or no good to have a gas supply committed to interstate service abandoned. The - continued protection of consumer interests demands an adequate and stable gas supply. The abandonment pro- vision in the Natural Gas Act, as in all regulatory stat-. utes, was included to assure that the public would have continued and reliable service which could only be aban- doned when no longer justifiable in. the public interest. _ Certainly the Commission may not be allowed to say, that it is not in the public interest to allow gas having above average costs to be sold interstate. The allowance of rates © _ which are not confiscatory to the party offering regulated services or commodities is not in degradation of the pub- - lic interest. Further, from the standpoint of the individual producer; abandonment of interstate sales in the Permian Area offers little or no relief since most area wells and reservoirs have no alternative non-jurisdictional markets available for immediate connection. Under applicable — State property law, this-cessation of production could well result in a loss of producing properties or substantial damage claims from royalty owners. Finally, the inequi- ties and the possible damage to thé public interest result- ing from abandonment have been previously noted and _ a ih 66 7 rejected by the -Commission itself. Amerada Petroleum _. Company, 24 F.P.C. 218 (1963). -. The Commission attempts to refute the proposition that when a producer seeks exemption from the area rate, the applicable area rate should be stayed ‘and the producer allowed*to collect the contract rate which he is attempting ~ to justify. (Comm'n. Br., pp: 67-67). Basically, the Com- mission asserts that the stay of an adminstrative order is | ‘not automatic, but must be justified by a substantial show- ing. Such a showing is possible where a producer seeks © exemption from the applicable area rate. Should the area rate not be stayed pending determination of the confisca- tion issue and should the issue of confiscation prove valid, the increased rate which would have been collected during ' this interim period is irrevocably lost, since as this Court noted in Hope and Callery. the Commission “has no power to make reparation orders.” 382 U.S. at 229. The loss of such’ revenue will but compound the impact of con- | fiscation. Should the issue of confiscation prove invalid, _ the consumer will be adequately protected ” the refund procedure. The Permian exemption provision demands additional -* consideration and thought by the Commission. D. The Commission Erred In Ordering Producers, a On The Basis Of Their .Individual Contracts, © To Refund All Amounts.Collected Above Ap-. plicable Area Rates As To Each Contract Sub- ject To A Section 4(e) Proceeding. Having determined the maximum ceilings for area rates and having outlined the procedure to determine the amount of quality deviations. to be subtracted from the. - ; maximum to give applicable ,area rates, the Commission then ordered refunds .for collections- above the resulting 67 applicable area rate “made prior to its decision if made under a contract subject to'a Section 4(e) proceeding. Should this Court uphold the Commission in relation to ' the area rate levels, the Commission has still erred in regard tq this refund order. The refunding obligation is ‘to be effective from the date the Section 4(e) proceeding “was instituted and is to include both the 4(e) increase as well as the rate formerly collected. (R. 672d, 674d).. The Commission is thus requiring a refund below the > level of that rate in effect prior-to the institution of the © 4(e) increase procedure. In so ordering, the Commission __has engaged ’ in retroactive ratemaking, which this Court © —has clearly indicated is or its 8 power under the Nat-. ural Gas Act. - By way of illustration, if in 1964 a Permian producer were collecting a 16 cent rate permanently certified in 1958, the 16 cent rate’ would be referred to as a “last clean rate”; that is to say, a rate permanently in effect not subject to refund. If in 1964 the producer filed a contractually allowable rate increase of 1 cent, assume that the Commission suspended the increase under Sec- tion 4(e) but upon producer motion it was placed in. effect subject to refund five months later, and has been collected te- date. The 17 cent rate presently being col- lected by the producer is~thus_ divided into two. parts: the 16 cents collected prior to the rate increase.which the Commission has previously allowed without refund’ lia- bility through permanent certification; and the 1 cent .— increased incrument placed into effect under the pro- cedures of Section 4(e), which have allowed the increase to be collected subject to refund, pending a determination of its justness and reasonableness. Assume also that the ~ gas sold under the contract must be processed to bring it up to “pipeline standard” and that the purchasing pipe- 68 line and the producer agree that this processing charge should be 1 cent per Mcf. The applicable area maximum would be 14.5 cents and the 1 cent charge would be sub- tracted from it giving an area rate of 13.5 cents. Therefore, the hypothetical producer would be required to refund 3% cents of the present 17 cent rate from 1964, the date of the 4(e) increase, to the present. This would include not only the.1 cent increased increment which has been collected sub- ject.to refund but in addition 2% cents of the 16 cent rate permanently certified by the Commission in 1958. Should this Court uphold the Commission’s Permian area . rate levels and the quality deductions: there is no question that a refund from. 1964 to the present of the 1 cent a increased increment collected subject to refund is pr Further, since the Permian proceeding is a Section 5(a ) rate proceeding, there is no question but that the Com- mission can if otherwise allowable prospectively order refund of the difference between the 17 cent rate and the applicablé area rate of 134 cents from the effective ~ date of the Permian Decision, September 1, 1965 to the present. What Mobil contends is improper is the Com- ’ mission’s attempt to order refund of the 21% cent differ- ence between the 16 cent rate permanently certified in 1958 and the 1314 cent applicable area rate from the 1964 date of the 4(e) increase down to the effective date of the Permian order on September 1, 1965. Since --a permanently certified rate may only be reduced prospec- tively, by a 5(a) proceeding, the 16 cent rate permanently certified in 1958 may only be refunded in whole or aed part after September 1, 1965. This Court has previously stbinsites itself to the general problem o retroactive ratemaking by’ the Commission... In Federal-Power Commission v. Hope Natural Gas Com- - pany, 320 U.S. 591 (1944), this Court stated: It is conceded that under the Act the Commission. has no power to. make: reparation orders. And its power to fix rates admittedly is limited to those “to be thereafter. observed pe in force.” 320 U. S. at 618. _ As’ viidiinaily discussed in » the section of this Brief deal- ing with the Commission’s Permian moratorium, the Court % has dealt extensively with the authority granted to the - Commission by Section 4(e) of the Act. In Sunray Mid- Continent Oil Company v. Federal. Power Commission; 364 U.S. 137 (1960), this Court dealt with the authority of the Commission if a hearing had not been concluded between suspension: and the expiration of the five-month period. : _ If the hearing were not concluded by the ‘ial of the suspension period, the increased rate could be col- lected ad interim but the Commission is empowered to require the company to collect the increment [the increase] under bond and accounting, and zefund it [the increment] \if it [the company] could flot make out its. case for the increase. 364 U.S. at 145. (Em- phasis added). | Sates a - The Commission may not dispute the authority given - under Section 5(a). In Atlantic Refining Company v. Pub- lic. Service Commission of New York, 360° USS. 318 (1959), this Court stated: ‘s. Under this section, however, the rate tonal by. the Commission to be just and reasonable: becomes ef- fective prospectively only. Gas purchasers, therefore, - have no protection from excessive charges collected eer | the pendency: of a §5 Proceeding, 360 U.S. at The prospective effect of Section 5 is illustrated by the _ Statutory language that rates fixed thereunder are “to. be. thereafter observed and in force." y With the granting of a permanent certificate under Sec- - tion 7, the Commission can only institute review of the certified rate under a Section 5 proceeding. As this Court observed in Federal Power Commission v. Hunt, 376 U.S. 515 (1964): 7 Once a. permanent certificate is: s- granted. the Com- mission can correct an improper rate only under §5 of the Act. ... . 376 US. at 521. (Emphasis added). Thus, if a rate is: permanently certified’ at 16 cents, the | ‘ Commission: may not review the 16 cent level until it institutes a Section 5 overall rate investigation. At the con- clusion of the Section. 5. proceeding, if 13.5 cents is the resulting just and reasonable rate, then prospectively the 16 cent rate is reduced to 13.5 cents, with no refund of the 2-1/2 cent difference already collected since the fore- going principles. are undisputable. The question remains as to-what effect the institution by a producer of a Section 4 increase for a rate above the 16 cent perfnanently cef- tified rate has on the permanently certified-16 cent level. The Commission admits that Section 4 gives no refund authority prior to the date a producer institutes a Section 4 increase. Theréfore, prior to the institution of the 4(e). . increase, the 16 cent rate is not subject to refund. What the Commission attempts by its refund order is to allow _ the refund power of Section 4 to extend to a portion of a rate which is not being collected under any power . granted by Section 4(e). The Commission is- attempting to extend the refund power of Section 4(e) beyond the increase in rate placed in effect under 4(e). The Gom- mission is. attempting to abrogate the clear holdings of ‘this - Court that a permanently certified rate may only be’ re-. duced. prospectively at the concluston- of a Section 5 proceeding. ; - 71 In United Gas Improvement Company v. Callery Pro- perties, Inc., 382 U.S: 223 (1965), the Court reiterated - this interpretation in relation to an in-line initial price. The fixing of an initial “in-line” price establishes a firm price at which a producer *may operate, pending determination of-a*just and reasonable rate, without any contingent obligation to make refunds should a just and reasonable rate turn out to be lower than the “in-line” price. 382 U.S. at 227. ) The State of California urges (Calif. Br, pp. 57-58) that the language of Section 4(e) allows the Commission to order a refund of both the increase and any portion of the “last clean rate” which is above the applicable area rate by reason of the language in Section 4(e) to the eflect that after the Commission determined a rate it [M]ay, . . . order such natural-gas company to re- fund, with interest, the portion of such increased rates or charges by its decision found not justified. The contention, therefore, is ‘that /increased rates” in the above quoted section refer to th suspended increase as well as any portion of the “last clean rate” above the applicable area rate. Other than the interpretation of the statutory language as réquested, no other authority i is Cited * to this Court. | i, As discussed previously, this Court a por that, as . was conceded by the Commission: in 1944, the Natural Gas Act gives the Commission “no power to make repara- * tion Orders.” Also ‘this Court has held that Section 5(a) has prospective application, only and once a rate ‘has been * permanently certified by the Commission under Section 7, it may be altered only by a 5(a) proceeding. Section: 7, so " ki ™~y? re a | as this Court has recognized in‘CATCO, Hunt and Callery, _ has no refund procedure. Neither does Section 5 havea -__— _. refund procedure. However, Congress has provided for con- Ps, - sumer protection in the case of rate increases above the level .previously certified or approved by requiring that | . when a rate previously certified under Section 7 or pre- © viously approved under Section 5(a) is to be changed, the Commission must determine if ‘the increased rate is. . just and reasonable. But should this determination ‘be delayed, the increase may be placed into effect, but subject: . to refund. Later if the increase is not just and reasonable — in whole or in part, it will be refunded in whole or in | part. These are the, powers given to the Commission under Section 4. To allow. the Commission to go behind the Section 4(e) refundable increase destroys the structure of the Act, and ignores almost a decade of decisions by. _ this Court on the eens and charging provisions of the Act. E. The Issue Of. -The Automatic Application Of The Area‘Rate To Initial Certifications Under Section. 7 Should Not Be Decided By This Court. — . = Concurrent with its ‘Permian ‘palin by a separate _ Order Issuing Certificates (R. 798d, R. 827d-839d), and by Modifications of that Order (R? 1133d-1136d), ' Commission issued permanent certificates of public con- |. - venience and necessity under Section 7 of the Act in four _ applications consolidated in the Permian procedings.: One. of these, Docket No. CI 61-34 is a Mobil-sale which prior } to the Commission’s order was being made under tem- __ \ porary certification at 17 Cents ‘subject to.a refund floor | of 11 cents. The Commission,. following its decision in — 468, made the — area rates of that deci- ~ oe sion also-applicable to these initipl certifications. (R:827d- 828d): In the case of Mobil this is a 14.5 oie sas rate, sub- . _ ject to.quality deductions. In Opinion 468, the’ Commission held that #s Permian orders ‘would .be applicable to “all ‘sales of espondents - whether they were being made at: the time we tituted this proceeding or were begun subsequent thereto. oe 683d). In response ‘to’ the contention that the Permian trate determinations could not apply to contracts filed after ~ . Permian was instituted, the Commission felt that any other holding “would ‘require an unending succession of Section 5 area rate procedings, each covering only the sales instituted prior to the institution of the proceeding.” (R. 683d). The Commission had previously noted in regard to its Permian Decision that: This proceeding, instituted under Section 5(a) of the Natural Gas Act, will-determine the just and reason-. able rates to be hereafter observed and in force for - all jurisdictional sales being made under respondents’: rate schedules. (R. 683d). Therefore, the Cominission felt that “Consistent with the . provisions of Section 5(a) of the Act, our Order will apply © to all of respondents’ sales in the described ‘area. (See. United Gas Co. v. Mobile Gas Service. Cops 350 US. 332, 341 (1956)).” (R. 684d). The Tenth Circuit, because of its reversal of the Com- mission’s determination of the applicable area rates, re- fused to decide the issue, and remanded the Order to the Commission stating: , /We note that in its * ipodition: of this particular docket the Commission took the | peer that an “.\@ oe established area rate automatically becomes the in- line rate for a §7 proceeding. The same position was '. taken .by the Commission in its Opinion No. .484 which we are today reversing by our decision in Nos. 8723 etc.—Phillips Petroleum Company, et eS ae Federal Power Commission, .....F.2d . . We there hold that in a §7- application heard by the ‘Com- rat mis-[ fol. 140] sion after its Permian. decision the - adoption of the area rate as an in-line rate must fall because we have rejected the area rate. We do not. there, and we do not here, express either approval or disapproval of the principle that an area rate -estab- lished in a §5 proceeding automatically becomes an - * 4 in-line rate for a §7 proceeding. The validity of such | a principle may be affected by the final determination __ - of*the validity of the Permian Basin area rate: (XII R. 87-88). _ In its’ Brief to. this Court, the State 7 California (No. | 100) urges approval of the Commission’s order for the reason that should the Commission’s decision be reversed or altered there would be “further delay in the development of area rate making.” (Calif. Br., p. 62):.The Brief of the California Gas Distributors also urges to this Court that the area rate should. become an “in-line” rate for certifica- tion purposes. (Calif. Gas. Br., p. 39). Concurrent with this Order, the Commission instituted a Show Cause Proceeding (R..37s) in which it con- solidated all rate increases and initial certifications not © - included in the Permian proceedings. The Commission directed all consolidated parties to “show. cause” ‘why the ’ principles of the Permian Decision should not be made applicable to the consolidated procedings) It was of course necessary for the Commission to institute a separate pro- ceeding for the dockets not consolidated in Permian:in order to comply with the hearing provisions of the Natural es j Gas Act. The Canadien has taken no further action’ in - regard to the Show Cause Proceedings, an and no ne | has been held or yet scheduled. ~ Also, relevant to this issue, are the Petitions for Cer- = -tiorari now pending before this Court in Nos. 373, 380, 385, October Term, 1967 dealing with the Commission’s Opinion 484 issued subsequent to its Permian Decision. In Opinion 484, the Commission issued permanent cer- tificates under Section 7. by automatically applying the ' area rates determined in Permian’ in certificate applica-. ‘tions not included in.the Permian Degision nor included. in the Show Cause Order discussed in the preceding para- © graph. In reviewing Opinion 484, the Tenth Circuit © adopted virtually the same position as it had in Permian, . stating: When area rates for the 1 Permian Basin receive final judicial approval, the issue presented here will be ripe for decision. If we were to decide them now, we would be rendering an advisory opinion. We now decide ‘only that the rates fixed by Opinion No. 484 and. accompanying orders are disapproved because they are based entirely on the Permian area rates which. we have rejected. 377 F. 2d at 279. _ Thus, in this proceeding, as in the procesdings Teview- - - ing Opinion 484, the Tenth Circuit, because of its rejec- - tion of the Commission’s Permian rate did not decide the ‘issue of whether the area rate may become the rate auto- matically applicable to initial certification under Section 7 _ As has been urged in this Court’ S review of Opinion 4% 7. As indicated by the various Petitions and _—. * there are additional issues in the proceeding. i . + 8. Again, as noted previously, there are other and different issues’ in Opinion 484 which the Tenth Circuit did not decide, a . > . . . , 4 s e . - ~ . ° j _ Age I EEO ages ee ON GAT EGE I : 2 : . — ARE CP EASON ’ . [ “ : ; = . = . 76 | 484 on Nos. 373, 380, and 385, October Term, 1967, the disposition: of this i issue should be i in-one of the two follow- ° ing procedures. _ First,, should this Conte affirm the Rssesibitions | in its | Permian Decision, which Mobil for the various oe set forth th this Brief contends-the Court should not; then this issue, the issue of the automatic adoption by the Com- mission of an area rate as the rate applicable in subsequent Section 7 initial certifications, should be remarided to the Tenth Circuit for that court’s decision. In affirming the ‘ Commission this Court will approve the area rate, there- by enabling the Tenth Circuit.to consider the issue which - it refused to consider since it felt the area rate was im- properly decided. Opposition to.this procedure is expressed - by State of California (Calif., Br., p. 62), as~ being” ~~ “further delay in the development of area rate making.” ‘ is fe] The contention is also made that a remand by this Court would diminish consumer protection. This is far from true _ as is illustrated by Mobil’s docket. Sale is being made under temporary authorization subject to refund down to 11 cents when a permanent certificate is issued. This offers complete consumer protection. Further, for this Court*to—— _ decide the issue:reserved by the Tenth Circuit in Permian , as to the adoption of the area rate in all initial certifica- tions would deprive Mobil of the review guaranteed by Section 19(b) of the Act, and would require this Court. to proceed. de novo into a complex issue and record with- . out the benefit of an opinion by the Tenth Circuit. The - course of action proposed by the California Brief would thus be violative of this Court’s general practice not “to - 7 review an administrative record in the first instance.” United States v. Great Northern Railroad Company, 343 ~ US. 562, 578 (1952). See also Seaboard Air Line vuanll . Senne od ean ear yee eee setae | | . Se ee 11 | | : o vind Company v. United — 382 U. S. 154, 137 (1965). Second, should this Court reverse the Cranilon. i in whole or in part, then the issue of the applicability of the area rate to initial certifications should be remanded .to the Commission, along with the remainder of these pro- ceedings, for consideration of this issue in light of this Court’s opinion. The Commission has determined its an- swer to this issue based on the present Permian Decision. A change in the structure of the Permian Decision may well mean a change in the Commission decision: A change in the Permian Decision may well change the objections of producers to the position advocated by the Commission. Should this Court attempt to decide whether the applicable "area rate is to be automatically applied in all initial cer- tifications would again require this Court to review an seein sales in the first instance. Rather, this issue should be remanded either to the Tenth Circuit or to the Commission. Should: an appeal follow from the decision. reached either administratively or judically, then this Court can exercise appellate review over. that decision. ° CONCLUSION For -the reasons stated herein, Mobil’ submits that the “ Commission’s Permian decision and accompanying orders __ + should not be sustained in their entity but that these pro- . ceedings should be remanded to the Commission for altera- ~ ° 78 | . tion in sacremaraa with the Positions advanced y Mobil herein. : ‘ Respectfully Een ~. TuHomas P. HaMiLr -RoBErT D. HawortTH JAMES L. ARMOUR sp Mobil Oil Corporation. . P.O. Box 2444 Houston, Texas 77001. *DonaLp G. CANUTESON | WILLIAM H. Tass. Mobil Oil: Corporation ~’ P. O. Box 900 , Dallas, Texas 75201 | », October, 1967. --- Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/brief%3Amicro_IA40386412_0034%3A44. Public record. Not legal advice.