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January 09, 2024

Environmental, Natural Resources, & Energy Law Blog

Right-of-First-Refusal Laws are Unconstitutional and Hinder our Clean Energy Transition - Anne Thrall-Nash

Right-of-First-Refusal Laws are Unconstitutional and Hinder our Clean Energy Transition

By Anne Thrall-Nash, Fall 2023

Introduction:

The energy transition in the United States is well underway, fueled by clean energy mandates in many states, cost declines for renewable technologies, and government investment such as the historic Inflation Reduction Act (IRA), which included nearly $400 billion in clean energy incentives.[1]

Upgrading and expanding our transmission system is an essential step for completing the transition to a clean energy economy. The Department of Energy (DOE) has estimated a need for increased transmission in every region of the country.[2] Energy analysts at Princeton University have estimated that 80% of the emission reduction benefits of the IRA will be lost if transmission expansion cannot be doubled through 2035.[3]

Efforts to plan for and build the amount of transmission necessary to the energy transition are being hindered in part by state laws that guarantee incumbent utilities the right to build any planned transmission lines with no competitive bidding process. These anti-competitive laws, often called “right of first refusal” or ROFR laws, violate the dormant commerce clause of the Constitution and may end up costing ratepayers billions of dollars in increased electricity costs and avoided benefits of the IRA. A ROFR law in Minnesota was upheld by the 8th Circuit in LSP Transmission Holdings, LLC v. Sieben,[4] while the 5th Circuit struck down a similar law in Texas. The Iowa Supreme Court has stayed a ROFR law passed in 2020 pending a new decision on remand at the state district court. The legal uncertainty around these laws is slowing the process of building necessary transmission lines.

There was some hope the US Supreme Court would solve this issue. The 5th circuit decision, Peter Lake, Chairman, Public Utility Commission of Texas, et al. v. NextEra Energy Capital Holdings, Incorporated, et al.[5] was appealed to the Supreme Court, which had the chance to make clear that these ROFR laws violate the Constitution, thereby creating certainty for regulators and the energy development industry. My original thesis, while the writ was still pending, was that the Court should grant the writ, hear the case and rule against the Texas Public Utility Commission. Unfortunately, the Court did not accept the case, leaving the issue unresolved by the highest court. However, my central thesis remains – ROFR laws are unconstitutional and should be overturned, whether by the states themselves, by lower courts along the way, or through another case that may find its way to the Supreme Court. The Fifth Circuit’s ruling was correct and should be followed by other circuits. In addition, the case, while not binding across the country, should give states reason to re-think their ROFR laws before they are challenged.

 

Background:

       FERC Order 1000:

Until 2011, incumbent utilities had a federally guaranteed right to build regional transmission lines. The Federal Energy Regulatory Commission’s (FERC) 2011 Order 1000 requires utilities to participate in regional transmission planning and removed that federal right of first refusal for incumbent utilities, leaving the matter to the states.[6] FERC’s intent in Order 1000 was to increase competition in the transmission market and keep prices down.[7] Since 2011, Regional Transmission Operators (RTO) and Independent System Operators (ISO) such as Midcontinent Independent System Operator (MISO) and Pennsylvania New Jersey Maryland Interconnection (PJM), established to comply with Order 1000, have planned regional transmission portfolios worth billions of dollars and implemented competitive bidding processes for construction.[8] [9] [10]Some utilities have successfully lobbied for state ROFR laws to allow them to build these regional lines without a competitive process. 11 states currently have ROFR statutes, [11] with two states currently in litigation.[12] [13] Five states have proposed legislation that was not enacted. These states are mostly in the Midwest and South (see map below).

Fifth Circuit Case:

The Fifth Circuit case involved NextEra Energy Inc., which in 2017 entered into an agreement to buy existing transmission lines in Texas and also won a 2018 competitive bid to build a transmission line planned for by MISO that terminated in Texas, and the state of Texas’ Public Utility Commission. Texas passed Senate Bill 1938 in 2019, which gives a right of first refusal to the utility in the geographic area of a planned transmission line. In the event that the utility passes on the project only those companies that have an established Texas presence are allowed a chance at the project under SB 1938. Under Texas statute[14] NextEra was required to seek a Certificate of Convenience and Need at the Public Utility Commission of Texas (PUCT) for its two proposed projects. SB 1938 barred the PUCT from issuing those Certificates to NextEra, as the projects would connect to existing utility facilities and the new law gives the right to build such projects to the utility.[15]

NextEra filed suit in the Western District of Texas, arguing that SB 1938 discriminates against interstate commerce in violation of the Commerce Clause of the US Constitution.[16] The District Court dismissed NextEra’s claim, citing General Motors Corp. v. Tracy,[17] which allowed a tax exemption for local monopoly distributors of natural gas, but not out-of-state sellers. The District Court stated that because out-of-state companies could buy a Texas utility in order to enter the market for Texas transmission services they are not being barred entirely from the market and that under the balancing test in Pike v. Bruce Church, Inc.[18] the benefits of SB 1938 outweighed the commerce clause issues.[19] NextEra appealed and the Fifth Circuit Court of Appeals reversed the District Court’s decision, determining that SB 1938 discriminates on its face against interstate commerce, citing several Supreme Court decisions including Lewis v. BT Investment Managers, Inc.[20] The fact that there are no time limits to the incumbent utilities right to construct proposed projects under the bill and the fact that only those that already have an existing certificate with the PUCT can ever build these projects went too far according to the Fifth Circuit decision. The PUCT Commissioners then requested a writ of certiorari at the Supreme Court in December 2022. While the writ was denied, the Fifth Circuit’s ruling was correct and now stands as a strong example of how these ROFR laws are unconstitutional.

Discussion:

The Fifth Circuit was correct in its ruling. ROFR laws, including SB 1938, discriminate on their face. The Commerce Clause of the US Constitution gives Congress jurisdiction over all matters related to interstate commerce. After the decision in Public Utilities Commission v. Attleboro Steam & Electric Co[21] Congress addressed the issue of interstate regulation of electricity with the Federal Power Act (FPA).[22] Under the FPA, FERC was given jurisdiction over the transmission and sale of interstate wholesale electric energy. States retained authority over intrastate distribution and transmission. The dimensions of state jurisdiction have narrowed as the electric industry has matured; at this point most electricity flows through an interstate interconnection on its way to customers, subjecting it to FERC jurisdiction and the protections of the interstate commerce clause.[23]

The Supreme Court has upheld federal jurisdiction over interstate commerce in many cases, including Granholm v. Heald, [24] holding that state laws that create unfair advantages for in-state businesses and/or create an undue burden on out-of-state businesses violate the Commerce Clause and are unconstitutional. In the Fifth Circuit case, the Texas PUCT attempted to rely on General Motors v. Tracy [25] to assert that Texas can circumvent the Commerce Clause issue and protect its in-state utilities from competition. The 5th Circuit correctly pointed out that Tracy applies to intrastate non-competitive natural gas markets over which Congress has given the states authority, not interstate competitive electricity transmission markets which fall under FERC authority and as such are clearly protected by the Commerce Clause.

Beyond the Commerce Clause issues, ROFR laws cost ratepayers. Transmission lines allow geographically discrete utilities to capture the benefits of geographically diverse resources out of their boundaries. MISO and other RTOs conduct detailed cost-benefit analysis when deciding which transmission lines to approve and put out for competitive bidding.[26] The benefits of those lines to ratepayers increase as their costs decrease. Incumbent utilities with ROFR have no incentive to drive costs down; no matter what the cost of the transmission line ends up being, absent a cost cap or similar provision by a state regulator, the utility will be able to recover those costs, along with a guaranteed rate of return to their stakeholders. Utilities argue this keeps them economically solvent and that a lack of ROFR would leave utilities with only “unprofitable” projects.[27] This argument leaves out the fact that profits for regulated utilities are guaranteed by state regulators for all projects the regulators determine has been prudently invested in by the utility as soon as that project has entered into service. Merchant developers of transmission such as NextEra Inc. are not regulated by state utility commissions; they operate like most companies in that they invest in projects they believe will be profitable, but there is no guarantee that projects will make money. Merchant developers have incentives to keep costs down, which ultimately benefits ratepayers when they can charge utilities less for the use of those lines.

Competitive bidding of transmission projects is essential to keeping the cost of the energy transition down. 3% of transmission projects were subject to competitive bidding between 2013-2019. 16 of these projects analyzed by the Brattle Group are projected to cost up to 30% less than if incumbent utilities had built them.[28] The first competitively built greenfield transmission project in the US, the Path 15 upgrade in California, was completed on time and under budget at a cost 18% below the initial estimate of PG&E, the incumbent utility.[29]

The Solicitor General submitted a brief to the Court urging it not to take on this case,[30] even though the US believes the 5th Circuit’s ruling that SB 1938 violates the dormant commerce clause is correct. The Solicitor General gave several reasons, including that FERC is currently going through a rulemaking process on transmission planning practices that may address the ROFR issue[31] and that the transmission line that MISO had planned that NextEra won the bid on has since been canceled. While these reasons certainly have merit, it is disappointing that the Court did not take the case as there is no guarantee that FERC will address the ROFR issue in its rulemaking, nor is there a certain timeline as to when that rule might be finalized. Agency rules are also subject to change for a variety of reasons, including changes in administration. Transmission lines can take 10-15 years to permit and build and we need to accelerate their construction. The uncertainty created by these ROFR laws and the wait to see if FERC will make rules that negate them stifles investment that is needed now.

There are many projects planned by MISO and Southwest Power Pool (SPP), another RTO whose geographical area overlaps states who have ROFR laws. The DOE’s Transmission Needs Study identifies the highest need for new transmission in Texas, Mountain, Southeast, Midwest, and Plains regions.[32] The 5th Circuit decision only applies to Texas, Louisiana, and Mississippi. That leaves 10 states’ existing ROFR laws on the books; projects within those states will not be competitively bid on if those unconstitutional laws remain in place. The Department of Justice (DOJ) submitted its own brief to the Western District of Texas when the NextEra case was originally filed, stating among other things that “…….there are compelling reasons to believe that competition in transmission development produces important benefits for downstream consumers, including on the facts here.”[33] The Supreme Court’s failure to hear this case will mean those benefits will not be realized by ratepayers across a large swathe of the country.

FERC’s rulemaking is now the best hope for eliminating ROFR across the country. FERC should act as soon as possible and establish a clear ban on ROFR for interstate transmission lines in the new rule. This would create the certainty that is needed for competitive bidding processes to continue and transmission lines to be built at the least cost to consumers.

Conclusion:

In order to realize the full range of benefits, both economic and ecological, of the clean energy transition, the United States must double the rate of transmission construction in the next 15 years. State ROFR laws are impeding that process by creating uncertainty in the energy development world. They also almost guarantee that the transmission lines that do get built will more expensive than necessary, a cost that will be passed on to ratepayers. These laws clearly violate the Commerce Clause of the US Constitution. Unfortunately, the Supreme Court chose not to hear Peter Lake, Chairman, Public Utility Commission of Texas, et al. v. NextEra Energy Capital Holdings, Incorporated, et al. While the Court should have granted the writ of certiorari for the case and made clear that anti-competitive laws restricting interstate commerce have no place in a clean energy economy, the Fifth Circuit’s ruling that the laws are unconstitutional stands and should serve as a strong incentive for other courts to follow and for FERC to act swiftly in its rulemaking.

 

[1] Inflation Reduction Act. P.L No. 117-169

[2] US Department of Energy. (February 2023). Draft National Transmission Needs Study. https://www.energy.gov/sites/default/files/2023-02/022423-DRAFTNeedsStudyforPublicComment.pdf

[3] Jenkins J., Mayfield E., Farbes J., Schivley G., Patankar N., Jones R. (July 2023). Climate Progress and the 117th Congress: The Impacts of the Inflation Reduction Act and Infrastructure Investment and Jobs Act. REPEAT Project. https://repeatproject.org/docs/REPEAT_Climate_Progress_and_the_117th_Congress.pdf

[4] 954 F.3d 1018 (8th Cir. 2020)

[5] 48 F.4th 306 (5th Cir 2022)

[6] FERC. (July 21, 2011). Order 1000 Transmission Planning and Cost Allocation by Transmission Owning and Operating Public Utilities, https://www.ferc.gov/sites/default/files/2020-04/OrderNo.1000.pdf

[7] Ibid at pg. 213

[8] MISO. (April 1, 2023.) Business Practices Manual: Competitive Transmission Process BPM-027-r13

[9] MISO. (November 2023). Regionally Cost Allocated Project Reporting Analysis. https://cdn.misoenergy.org/MVP%20Dashboard%20Q3%202023117055.pdf

[10] PJM. Competitive Planning Process. https://www.pjm.com/planning/competitive-planning-process.aspx

[11] Montana Code 69-5-202, Michigan Compiled Law Section 460.593, Minnesota Statute 216B, North Dakota Code 49-03-02, Nebraska Rev. Statute 70-1028, Oklahoma Statute Title 17 Section 292, South Dakota Codified Laws 49-32-20, Indiana Code Section 8-1-38-9, Mississippi Code 77-3-10.1

[12] LS Power Midcontinent, LLC v. State Supreme Court of Iowa No. 21-0696

[13] Peter Lake, Chairman, Public Utility Commission of Texas, et al. v. NextEra Energy Capital Holdings, Incorporated, et al.

[14] Texas Utilities Code Section 37.051(a)

[15] SB.1938, 2019 Leg., 86(R) Sess. (Tex. 2019)

[16] U.S Constitution Article 1, Section 8, Clause 3

[17]519 U.S. 278 (1997)

[18] 397 U.S. 137, 142 (1970)

[19] Order on Motion to Dismiss, United States District Court for the Western District of Texas NextEra et al. v. Deann T. Walker et al. Case No. 1:19-cv-00626-LY (2020)

[20] 447 U.S. 27, 42 (1980)

[21] 273 U.S. 83 (1927)

[22] 16 USC §791 and 824

[23] FERC v. Electric Power Supply Ass’n, 577 U.S. 260, 267 (2016)

[24] 544 U.S. 460, 472 (2005)

[25] 519 US 278 (1997)

[26] MISO. (June 25, 2022). LRTP Tranche 1 Portfolio Detailed Business Case. https://cdn.misoenergy.org/LRTP%20Tranche%201%20Detailed%20Business%20Case625789.pdf

[27] Howland E. (Oct. 18, 2021). EEI, utilities want first crack at transmission development as FERC mulls new rules, incentives. Utility Dive. https://www.utilitydive.com/news/utilities-ferc-transmission-eei-rates-consumers-rofr-refusal-peg/608370/

[28] The Brattle Group. (April 2019). Cost Savings Offered by Competition in Electric Transmission. https://www.brattle.com/wp-content/uploads/2021/05/16726_cost_savings_offered_by_competition_in_electric_transmission.pdf

[29] ibid

[30] Prelogar. E. et al. (October 23,2023). Brief for the United States as Amicus Curiae: On Petition for a Writ of Certiorari to the United States Court of Appeals for the Fifth Circuit in Peter Lake, Chairman, Public Utility Commission of Texas, et al. v. NextEra Energy Capital Holdings, Incorporated, et al. Supreme Court Docket No. 22-601

[31] FERC. (April 2022). Notice of Proposed Rulemaking, Building for the Future Through Electric Regional Transmission Planning and Cost Allocation and Generator Interconnection, 87 Fed. Reg. 26504. https://www.ferc.gov/media/rm21-17-000

[32] US Department of Energy. (February 2023). Draft National Transmission Needs Study. https://www.energy.gov/sites/default/files/2023-02/022423-DRAFTNeedsStudyforPublicComment.pdf

[33] Delrahim M. et al. (September 20, 2019). Statement of Interest of the United States of America in NextEra et al. v. Deann T. Walker et al. United States District Court for the Western District of Texas Austin Division Civil Action No: 1:19-cv-00626.