Key Takeaways:
- The Federal Energy Regulatory Commission (FERC or the Commission) is reviewing how it approves new pipelines.
- EIP and EDF have shared their views on maximizing the use of existing infrastructure vs overbuilding.
- Their joint testimony advocates performance-based regulation to incentivize efficiency and performance.
What Happened
On May 26, 2021, EDF submitted written testimony in response to FERC’s notice of inquiry (NOI) seeking comments on the process the Commission uses to certify and approve the development of new pipeline infrastructure. EDF included an affidavit prepared by EIP CEO Jim Murchie as an expert witness to present the Commission with the views of a successful, long-term investor whose clients provide capital funding to North America’s energy infrastructure.
Why
EIP has been collaborating with EDF since Jim Murchie testified on energy issues before the Senate Committee on Energy and Natural Resources on July 12, 2018.
Since then, EIP and EDF submitted testimony in response to a FERC inquiry into how it determines the allowed return on equity (ROE) for existing and new facilities on June 26, 2019 . EIP and EDF have common views on the responsible development and use of energy according to which maximum efficient use of pipeline and utility assets should be achieved before new facilities are permitted and built. EDF’s interests and views are informed by a pragmatic approach to protecting the environment, while EIP’s are rooted in a view that overbuilding depresses returns and wastes capital, ultimately driving up costs.
Why it Matters
Our collaboration with EDF has been mutually beneficial:
- Wider perspective. The environmental community is increasingly influential on issues affecting the operation of assets and companies we are invested in. We’ve found EDF to be pragmatic and highly informed on regulatory and operational issues that matter to our investments.
- Greater Engagement. Our collaboration with EDF has resulted in one-on-one meetings with all of FERC’s Commissioners and Staff over the past two years, a level of dialogue that is not common for fund managers. We believe that the discussions have helped this key regulator get a clearer perspective on investor concerns, while allowing us to better understand the regulatory process. Our work with EDF has also facilitated broader and more robust discussion with portfolio company management teams.
- Regulatory Insight. EDF is highly engaged in the regulatory process at the federal and state levels, and their knowledge and access to filings has informed and enhanced our research on the regulated industries we invest in. Likewise, our perspective helps EDF craft their advocacy in a way that lowers rather than raises the cost of equity and debt financing in this capital intensive industry.
What We Said in Our Affidavit
Review our affidavit and EDF’s testimony. Our affidavit makes the following observations and recommendations:
- Overinvestment Risk. Historically, cost-based regulation has rewarded incremental energy infrastructure investment, which comes with the risk of potentially incentivizing overbuilding and the needless associated environmental consequences and capital wasting. For investors, in our opinion, this translates to lower returns such as the recent $5 billion plus write-off incurred by sponsors of the canceled Atlantic Coast pipeline project.
- Access to and Cost of Capital. A key advantage of the utility regulatory model is that it facilitates ready access to capital as cheaply as possible. The growing penetration of renewable energy is driving unprecedented need for capital investment not only in renewable resources themselves (the fuel itself is free, so capital is the cost) but also in high voltage electric transmission and the realignment of the gas pipeline system to accommodate bi-directional flows and low and no-notice gas delivery to balance renewable intermittency. These capital investments ultimately drive prices consumers pay for energy, so the cost of that capital is critical.
- Aligning Compensation with Desired Outcome EIP and EDF believe that alignment of public interest, energy consumers and investors can best be achieved by maximizing the efficient use of the poles, wires, and pipes that make up the energy logistics system. Our affidavit advocates for greater use of performance-based regulation not only to drive greater efficiency but also to provide compensation for changes in the way assets are being used. Usage of the energy logistics system is changing, and the regulatory and commercial structures must respond. A good example is the flexible and more responsive gas delivery that pipelines are providing in response to “peakier” loads and renewable variability—a highly valuable service that today lacks a price discovery and compensation mechanism.
The Affidavit’s Conclusion:
“Infrastructure of any kind achieves greatest cost and capital efficiency when utilized to its optimal potential. Underutilization of any capital asset drives up its cost on a per-unit basis, wastes capital, drives higher costs to end-users, and can contribute needless negative environmental and social externalities. Investor, consumer, and social interest are aligned when an infrastructure system is optimally sized and utilized. The companies regulated by the Commission today face a changing energy landscape in which future profitability will derive more from optimal use of what is already built—and attendant identification of new revenue opportunities—than from simply putting new steel in the ground as was done in the past.”
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