JurisdictionUnited States
Natural Gas Marketing
(May 1987)


Douglas F. John
Peter G. Esposito
Washington, D.C. 20036

I. Introduction.

As the saying goes, "things aren't always what they appear to be!" On October 9, 1985, the Federal Energy Regulatory Commission ("FERC" or "Commission") issued its Order No. 436.1 When viewed in context with the Congressional enactment of the Natural Gas Policy Act of 1978 (NGPA), 15 U.S.C. 3301, et seq., and certain earlier FERC actions,2 Order No. 436 is viewed by

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some as the order that deregulated the interstate3 transportation of natural gas. While Order No. 436 certainly opens the door to dramatic reductions in the time it takes to secure regulatory approval for the interstate movement of natural gas, it has resulted in much greater scrutiny of the "contractual" terms and conditions under which such movement occurs.

A. Nature of Natural Gas Transportation Agreements.

In stark contrast to the sale of deregulated natural gas, the transportation of natural gas must be approved by the federal government.4 This gives rise to a significant degree of scrutiny, which, as noted above, seems to be on the increase.

1. FERC Influence.

Any transportation of natural gas in interstate commerce must be authorized by the Federal government. Generally speaking, the FERC must approve the terms and conditions under which service is provided and must also authorize the providing of the service itself. Today, there are two forms of authorizations, a certificate of public convenience and necessity issued pursuant to Section 7(c) of the Natural Gas Act, 15 U.S.C.

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717, and authorization under Section 311 of the NGPA. Order No. 436 provides the basis for obtaining either of these authorizations without having to make a separate application to the FERC for authorization for each transaction.5

a. Section 7 of the NGA.

The enactment of the NGPA and the issuance of Order No. 436 changed the way pipelines contract for transportation. Prior to the issuance of Order No. 436, pipelines would file an application under Section 7(c) of the NGA. The application would generally include a service agreement spelling out the terms and conditions under which the service would be rendered. Transportation service agreements could be negotiated to fit a particular transaction. The degree of flexibility in negotiations would depend on the pipeline providing the service and its policies.

b. Section 4 of the NGA.

Section 4 of the NGA requires every natural gas company to file with the FERC "schedules showing all rates and charge for any transportation or sale subject to the jurisdiction of the Commission, and the classifications, practices, and regulations affecting such rates and charges, together with all contracts which in any way affect or relate to such rates, charges, classifications, and services." NGA, Sec. 4(c). If the pipeline did not have a generally applicable transportation rate schedule6 or if the negotiated agreement differed significantly from the generally applicable rate schedule, the negotiated service agreement, if approved, would become the tariff under which the service would performed.7 Prior to the enactment of Section 311 of the NGPA and the issuance of Order No. 436, the individual transaction could be negotiated without much effect on the timing of regulatory approval of the transaction, as separate FERC approval would be necessary in any event, and the time necessary to secure approval for a tailored transaction did not often vary much from the time necessary to approve a "standard" transaction.

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c. Section 311 of the NGPA.

Section 311 allows the FERC to authorize "by rule or order" various sales and transportation configurations between interstate pipelines and intrastate pipelines or local distributors. If a particular transaction meets one of these configurations, the transaction may, under the FERC's regulations, proceed without the necessity for securing a certificate of public convenience and necessity under Section 7(c) of the NGA. This "self-implementing" procedure allows a drastic reduction in the amount of time necessary to bring transportation service "on line."

d. Order No. 436.

Order No. 436 provides regulations under which Section 311 transportation may be commenced on a "self-implementing" basis, i.e., without prior FERC approval. It also provides regulations under which a pipeline may secure a blanket certificate of public convenience and necessity under Section 7(c), which, once secured, will allow a pipeline to transport natural gas on a self-implementing basis under Section 7(c).

To avoid abuses of this self-implementing authority, pipelines must agree to be bound by the FERC's Order No. 436 regulations. These regulations require pipelines to provide transportation on a non-discriminatory, "open-access" basis.8 As explained below, this requirement, in turn, makes it important that the terms and conditions of service be spelled out "up front" in relative detail. Accordingly, pipelines offering service under Order No. 436 must file rate schedules applicable to self-implementing transportation service.

e. Form Of Service Agreement Requirement.

The FERC regulations provide that a pipeline's tariff must

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include a copy of an unexecuted form of service agreement.9 "The purpose of this requirement is, as with all requirements concerning the contents of the pipeline's tariff, to give the potential customer notice of the terms and conditions it must comply with to receive service."10

The regulations require that the service agreement be in a form amenable to simply "filling in the blanks:"

The service agreement forms should provide for insertion of such items as the name of the purchaser, service to be rendered, area to be served, maximum obligation to deliver, delivery points, delivery pressure, applicable rate schedules by reference to the tariff, effective date and term, and identification of any prior agreements being superceded.11

The FERC has required pipelines to file or to refile service agreements if the agreements are not specific enough. For example, Texas Eastern Transmission Company (TETCO) filed one form of service agreement that was intended to apply to three different rate schedules. Various provisions were marked for inclusion in the service agreement depending on the rate schedule being utilized. The Commission ruled that: "We find this approach to drafting the form of service agreements confusing and believe that potential customers will be confused."12 It ordered TETCO to refile separate forms for each rate schedule.

f. Reasonable Terms and Conditions.

In Order No. 436, the Commission stated that pipelines could impose "reasonable operating conditions on self-implementing

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transportation service transportation service without running afoul of its rules against undue discrimination:

The Commission has determined that reasonable operating and load management conditions imposed routinely by not per se violate the non-discriminatory access provision, provided that such conditions are stated 'up-front' in the pipeline's transportation tariffs on file at the Commission and are applied by the pipeline fairly to all similarly-situated shippers and shipments.13

As the form of service agreement is a part of the tariff, both the service agreement and the applicable tariff terms and conditions form the transportation service agreement under which interstate pipelines transport natural gas.

To the extent that the terms and conditions found in these tariffs are intended to apply to open-access transportation under Order No. 436, and because such transportation is intended to be non-discriminatory, the Commission has scrutinized the tariff conditions carefully. As discussed below, conditions that are susceptible to broad interpretation, and thus give rise to potentially discriminatory interpretation, have been rejected in favor of more carefully crafted provisions.

In deciding whether a particular transportation service agreement meets applicable standards, the FERC looks at a number of factors.

(1) Competitive Factors.

In addressing TETCO's proposed Order No. 436 settlement tariff, the Commission identified competitiveness as a factor to be used in determining whether a contract is unreasonable.

In determining whether a term of a contract is unreasonable because it is anti-competitive we essentially must balance three factors. One factor is, of course, whether the term causes competitive harm. Another factor is whether the term promotes competition. And the third is whether the term is necessary to achieve some other goal that merits recognition under the statutes we administer. n53

n53 The balancing of these factors is the essence of the rule of reason analysis first articulated by Mr. Justice Brandeis in Chicago Bd. of Trade v. United

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States, 246 U.S. 231 (1918). "As refined by the courts over the years and modified by us to take into account policies arising under our statutes, the rule of reason provides that a contract is an unreasonable restraint of trade only if it is more restrictive than is necessary to meet an objective meriting recognition under the antitrust laws or the statutes we administer. What this means in concrete terms is that before we may find a contract term to be an unreasonable restraint of trade we must carefully balance the competitive harm the term causes against the term's objectives in light of the alternatives available for achieving those objectives." Transwestern Pipeline Co., Opinion No. 238-A, 36 FERC P61,175, at p. 61,436 (1986), appeal docketed No. 86-4550 (5th Cir. Aug. 4, 1986).

Thus, proposed terms that restrain trade without other compensating benefits are not likely...

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