Utility Regulation
Opportunities Exist to Improve Oversight Gao ID: GAO-08-752T May 1, 2008Under the Public Utility Holding Company Act of 1935 (PUHCA 1935) and other laws, federal agencies and state commissions have traditionally regulated utilities to protect consumers from supply disruptions and unfair pricing. The Energy Policy Act of 2005 (EPAct) repealed PUHCA 1935, removing some limitations on the companies that could merge with or invest in utilities, and leaving the Federal Energy Regulatory Commission (FERC), which already regulated utilities, with primary federal responsibility for regulating them. Because of the potential for new mergers or acquisitions between utilities and companies previously restricted from investing in utilities, there has been considerable interest in whether cross-subsidization--unfairly passing on to consumers the cost of transactions between utility companies and their "affiliates"--could occur. GAO was asked to testify on its February 2008 report, Utility Oversight: Recent Changes in Law Call for Improved Vigilance by FERC (GAO-08-289), which (1) examined the extent to which FERC changed its merger review and post merger oversight since EPAct to protect against cross-subsidization and (2) surveyed state utility commissions about their oversight. In this report, GAO recommended that FERC adopt a risk-based approach to auditing and improve its audit reports, among other things. The FERC Chairman disagreed with the need for our recommendations, but GAO maintains that implementing them would improve oversight.
In its February 2008 report, GAO reported that FERC had made few substantive changes to either its merger review process or its post merger oversight since EPAct and, as a result, does not have a strong basis for ensuring that harmful cross-subsidization does not occur. FERC officials told GAO that they plan to require merging companies to disclose any cross-subsidization and to certify in writing that they will not engage in unapproved cross-subsidization. After mergers have taken place, FERC intends to rely on its existing enforcement mechanisms--primarily companies' self-reporting noncompliance and a limited number of compliance audits--to detect potential cross-subsidization. FERC officials told us that they believe the threat of the large fines allowed under EPAct will encourage companies to investigate and self-report noncompliance. To augment self-reporting, FERC officials told us that, in 2008, they are using an informal plan to reallocate their limited audit staff to audit the affiliate transactions of 3 of the 36 holding companies it regulates. In planning these compliance audits, FERC officials told us that they do not formally consider companies' risk for noncompliance --a factor that financial auditors and other experts told us is an important consideration in allocating audit resources. Rather, they rely on informal discussions between senior FERC managers and staff. Moreover, we found that FERC's audit reporting approach results in audit reports that often lack a clear description of the audit objectives, scope, methodology, and findings--inhibiting their use to stakeholders. GAO's survey of state utility commissions found that states' views varied on their current regulatory capacities to review utility mergers and acquisitions and oversee affiliate transactions; however many states reported a need for additional resources, such as staff and funding, to respond to changes in oversight after the repeal of PUHCA 1935. All but a few states have the authority to approve mergers, but many states expressed concern about their ability to regulate the resulting companies. In recent years, two state commissions denied mergers, in part because of these concerns. Most states also have some type of authority to approve, review, and audit affiliate transactions, but many states review or audit only a small percentage of the transactions; 28 of the 49 states that responded to our survey question about auditing said they audited 1 percent or fewer transactions over the last five years. In addition, although almost all states reported that they had access to financial books and records from utilities to review affiliate transactions, many states reported they do not have such direct access to the books and records of holding companies or their affiliated companies. While EPAct provides state regulators the ability to obtain such information, some states expressed concern that this access could require them to be extremely specific in identifying needed information, thus potentially limiting their audit access. Finally, 22 of the 50 states that responded to our survey question about resources said that they need additional staffing or funding, or both, to respond to changes that resulted from EPAct, and 8 states have proposed or actually increased staffing since EPAct was enacted.
GAO-08-752T, Utility Regulation: Opportunities Exist to Improve Oversight
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Testimony:
Before the Committee on Energy and Natural Resources, U.S. Senate:
United States Government Accountability Office:
GAO:
For Release on Delivery:
Expected at 9:30 a.m. EDT:
Thursday, May 1, 2008:
Utility Regulation:
Opportunities Exist to Improve Oversight:
Statement of Mark Gaffigan, Director:
Natural Resources and Environment:
GAO-08-752T:
GAO Highlights:
Highlights of GAO-08-752T, a testimony before the Committee on Energy
and Natural Resources, U.S. Senate.
Why GAO Did This Study:
Under the Public Utility Holding Company Act of 1935 (PUHCA 1935) and
other laws, federal agencies and state commissions have traditionally
regulated utilities to protect consumers from supply disruptions and
unfair pricing. The Energy Policy Act of 2005 (EPAct) repealed PUHCA
1935, removing some limitations on the companies that could merge with
or invest in utilities, and leaving the Federal Energy Regulatory
Commission (FERC), which already regulated utilities, with primary
federal responsibility for regulating them. Because of the potential
for new mergers or acquisitions between utilities and companies
previously restricted from investing in utilities, there has been
considerable interest in whether cross-subsidization”unfairly passing
on to consumers the cost of transactions between utility companies and
their ’affiliates“––could occur.
GAO was asked to testify on its February 2008 report, Utility
Oversight: Recent Changes in Law Call for Improved Vigilance by FERC
(GAO-08-289), which (1) examined the extent to which FERC changed its
merger review and post merger oversight since EPAct to protect against
cross-subsidization and (2) surveyed state utility commissions about
their oversight. In this report, GAO recommended that FERC adopt a risk-
based approach to auditing and improve its audit reports, among other
things. The FERC Chairman disagreed with the need for our
recommendations, but GAO maintains that implementing them would improve
oversight.
What GAO Found:
In its February 2008 report, GAO reported that FERC had made few
substantive changes to either its merger review process or its post
merger oversight since EPAct and, as a result, does not have a strong
basis for ensuring that harmful cross-subsidization does not occur.
FERC officials told GAO that they plan to require merging companies to
disclose any cross-subsidization and to certify in writing that they
will not engage in unapproved cross-subsidization. After mergers have
taken place, FERC intends to rely on its existing enforcement
mechanisms”primarily companies‘ self-reporting noncompliance and a
limited number of compliance audits”to detect potential cross-
subsidization. FERC officials told us that they believe the threat of
the large fines allowed under EPAct will encourage companies to
investigate and self-report noncompliance. To augment self-reporting,
FERC officials told us that, in 2008, they are using an informal plan
to reallocate their limited audit staff to audit the affiliate
transactions of 3 of the 36 holding companies it regulates. In planning
these compliance audits, FERC officials told us that they do not
formally consider companies‘ risk for noncompliance ––a factor that
financial auditors and other experts told us is an important
consideration in allocating audit resources. Rather, they rely on
informal discussions between senior FERC managers and staff. Moreover,
we found that FERC‘s audit reporting approach results in audit reports
that often lack a clear description of the audit objectives, scope,
methodology, and findings”inhibiting their use to stakeholders.
GAO‘s survey of state utility commissions found that states‘ views
varied on their current regulatory capacities to review utility mergers
and acquisitions and oversee affiliate transactions; however many
states reported a need for additional resources, such as staff and
funding, to respond to changes in oversight after the repeal of PUHCA
1935. All but a few states have the authority to approve mergers, but
many states expressed concern about their ability to regulate the
resulting companies. In recent years, two state commissions denied
mergers, in part because of these concerns. Most states also have some
type of authority to approve, review, and audit affiliate transactions,
but many states review or audit only a small percentage of the
transactions; 28 of the 49 states that responded to our survey question
about auditing said they audited 1 percent or fewer transactions over
the last five years. In addition, although almost all states reported
that they had access to financial books and records from utilities to
review affiliate transactions, many states reported they do not have
such direct access to the books and records of holding companies or
their affiliated companies. While EPAct provides state regulators the
ability to obtain such information, some states expressed concern that
this access could require them to be extremely specific in identifying
needed information, thus potentially limiting their audit access.
Finally, 22 of the 50 states that responded to our survey question
about resources said that they need additional staffing or funding, or
both, to respond to changes that resulted from EPAct, and 8 states have
proposed or actually increased staffing since EPAct was enacted.
To view the full product, including the scope and methodology, click on
[hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-08-752T]. For more
information, contact Mark Gaffigan at (202) 512-3841 or
gaffiganm@gao.gov.
[End of section]
Mr. Chairman and Members of the Committee:
Thank you for the opportunity to discuss our work on federal and state
efforts to protect against potential cross-subsidization in the utility
industry after the repeal of the Public Utility Holding Company Act of
1935 (PUHCA 1935). Public utilities sell about $325 billion worth of
electricity and natural gas to more than 140 million customers in U.S.
homes and businesses each year. These utilities may face the need to
invest potentially hundreds of billions of dollars to expand and
upgrade the utility infrastructure over the next 10 years. Oversight of
utilities is carried out by the federal government and state
commissions--with the federal role focused on regulation of interstate
transmission and wholesale markets and the states' role focused on
regulating retail markets. These federal and state regulators seek to
balance efforts to protect utility consumers from potential supply
disruptions and unfair pricing practices while ensuring that utilities
are profitable enough to attract private investment. Traditionally,
this regulation took place within the framework of PUHCA 1935 and other
federal laws. In 2005, the Energy Policy Act (EPAct) repealed PUHCA
1935, removing some limitations on the companies that could merge with
or invest in utilities and opening the sector to new investment. The
repeal of PUHCA 1935 has raised concerns about whether the remaining
laws and regulations strike an appropriate balance between encouraging
investment in the utility sector and protecting consumers.
PUHCA 1935 was a response to the rapid expansion, consolidation, and
subsequent bankruptcies in the utility sector during the early part of
the 20th century. Prior to its enactment, utilities were regulated by
state commissions. As utilities grew, they began to span across
multiple states that often had different rules and jurisdictional
authority, making it difficult for state utility commissions to
effectively regulate them. By the 1920s, as a result of mergers and
acquisitions, utilities were largely controlled by a handful of complex
corporations--called holding companies--many of which owned several
utilities as well as other companies. In many cases, the companies
within these holding companies--called affiliates--sold a wide range of
goods and services to utilities, such as fuel for power plants. Since
the rates utility customers pay generally include the cost of all the
goods and services bought to serve them, some transactions between
these affiliates allowed the utilities to take advantage of economies
of scale to the benefit of utility customers, such as when utilities
effectively shared the cost of legal and other administrative services
with affiliates instead of each company maintaining staff and other
resources to provide these services separately. However, affiliate
transactions that were priced unfairly could inflate customers' rates
to subsidize operations outside the utility--called cross-
subsidization. Compounding this complex web of corporate ownership and
affiliate transactions, poor disclosure of financial information and
limited access to financial records made it difficult for investors to
accurately assess the utilities' financial health. Many of these
holding companies were involved in risky business ventures outside the
utility industry and had pledged utility assets to support those
investments. Partly as a result of the poor financial disclosure and
the complex web of corporate ownership and affiliate transactions, many
utilities went into bankruptcy during the financial collapse followed
by the Great Depression:
To restore public confidence after the Depression, the federal
government undertook three efforts that influenced the regulation of
utilities. First, to protect investors, including utility investors,
the federal government created the Securities and Exchange Commission
(SEC) in 1934. SEC established rules--including improved financial
reporting--for the financial markets and publicly traded companies
participating in those markets, as well as a means to regulate them.
Second, to protect utility customers, the federal government enacted
the Federal Power Act of 1935 which served, and continues to serve
today, as the foundation of federal regulatory authority related to
regulation of public utilities, and empowered the Federal Energy
Regulatory Commission (FERC) to serve as the primary federal regulator
of utilities.[Footnote 1] As such, FERC became responsible for
overseeing interstate transmission of electricity, wholesale sales of
electricity to resellers (e.g., sales by utilities to other utilities),
and reviewing proposed mergers or acquisitions involving companies it
regulates. In its role of regulating interstate transmission and
wholesale sales, FERC has been responsible for approving prices (i.e.,
rates) for the use of transmission lines and the sales of electricity
in wholesale markets--also commonly called "rate setting." As part of
that process, FERC has determined which costs, including affiliate
transaction costs, may be lawfully included in rates. Third, the
federal government enacted PUHCA 1935 to regulate investment in the
utility industry and protect investors and consumers from potential
abuses such as cross-subsidization by holding companies. SEC was
responsible for administering PUHCA, including reviewing mergers or
acquisitions involving holding companies. To that end, SEC was given
primary responsibility for examining and determining how to allocate
affiliate transaction costs for holding companies it regulates. Among
other things, PUHCA limited the formation of new holding companies that
were not physically connected by electric power lines, and prohibited
existing holding companies from acquiring more than one utility, unless
the utilities were physically connected by power lines. Over time,
other statutory and regulatory changes reduced some of the strict
limitations PUHCA 1935 initially imposed.
Over the past two decades, some interested parties in the utility
industry sought repeal of PUHCA 1935, arguing that it was a roadblock
to the private investment that could reduce the cost of improvements to
the utility infrastructure, and noting that several federal antitrust
laws that apply to utility companies have been passed since PUHCA was
enacted. Opponents of PUHCA 1935's repeal, including some business and
consumer representatives, expressed concern that its repeal would
encourage utilities to return to the kinds of risky business ventures
that spawned it, and that utilities would again become too complex to
effectively regulate, potentially raising prices for consumers.
Business groups outside the utility industry were also concerned that
utilities could use their monopolies to cross-subsidize investments
into other kinds of businesses and harm competition in those
industries.
In 2005, EPAct repealed PUHCA 1935--thereby opening the sector to new
investment--and replaced it with PUHCA 2005. The repeal of EPAct 1935
eliminated SEC's oversight role in regulating utility holding companies
or preventing cross-subsidies, giving FERC new authorities to regulate
corporate structures and transactions.[Footnote 2] FERC's expanded
authorities fall into two broad areas: 1) FERC was required to ensure
at the point of the merger review that the proposed merger would not
result in harmful cross-subsidization, and 2) FERC became the principal
federal agency responsible for determining how costs for affiliate
transactions should be allocated for all utility holding companies. To
help FERC better oversee these transactions, EPAct provided FERC
specific postmerger access to the books, accounts, memos, and financial
records of utility owners and their affiliates and subsidiaries, and
granted state utility commissions similar access. Furthermore, EPAct
expanded FERC's civil penalty authority to help it enforce its new
requirements, providing the commission the ability to levy penalties of
up to $1 million per day per violation. After EPAct, states continue to
play key roles overseeing utilities and reviewing mergers, including
conducting some audits of affiliate transactions.
My testimony today will focus on our February 2008 report, Utility
Oversight: Recent Changes in Law Call for Improved Vigilance by FERC
(GAO-08-289), which examined: (1) the extent to which FERC, since
EPAct's enactment, has changed its merger or acquisition review process
and postmerger or acquisition oversight to ensure that potential
harmful cross-subsidization by utilities does not occur; and (2) the
views of state utility commissions regarding their current capacity, in
terms of regulations and resources, to oversee utilities. For that
report, we reviewed relevant reports and data, interviewed key
officials, visited four states--California, New Jersey, Oregon, and
Wisconsin--that had or were considering implementing strong protections
for overseeing holding and related affiliate companies, and surveyed
state utility regulators in all 50 states and the District of Columbia.
We performed our review from May 2006 through February 2008 in
accordance with generally accepted government auditing standards. Those
standards require that we plan and perform the audit to obtain
sufficient, appropriate evidence to provide a reasonable basis for our
findings and conclusions based on our audit objectives. We believe that
the evidence obtained provides a reasonable basis for our findings and
conclusions based on our audit objectives.
In summary, we found:
* FERC has made few substantive changes to either its merger review
process or its postmerger oversight since EPAct and, as a result, does
not have a strong basis for ensuring that harmful cross-subsidization
does not occur. FERC officials told us that they plan to require
merging companies to disclose existing or planned cross-subsidization
and to certify in writing that they will not engage in unapproved cross-
subsidization. Once mergers have taken place, FERC intends to rely on
its existing enforcement mechanisms--primarily companies' self-
reporting noncompliance and a limited number of compliance audits--to
detect potential cross-subsidization. FERC officials told us that they
believe the threat of large fines, as allowed by EPAct, will encourage
companies to investigate and self-report noncompliance. To augment self-
reporting, FERC officials told us that they are using an informal plan
to reallocate their limited audit staff to conduct affiliate
transaction audits of 3 of the 36 holding companies it regulates in
2008. In planning these compliance audits, FERC officials told us that
they do not formally consider companies' risk for noncompliance--a
factor that financial auditors and other experts told us is an
important consideration in allocating audit resources--relying instead
on informal discussions between senior FERC managers and staff.
Moreover, we found that FERC's audit reporting approach results in
audit reports that often lack a clear description of the audit
objectives, scope, methodology, and findings--inhibiting their use to
stakeholders.
* Although states' views varied on their current regulatory capacities
to review utility mergers and acquisitions and oversee affiliate
transactions, many states reported a need for additional resources,
such as staff and funding, to respond to changes in oversight after the
repeal of PUHCA 1935. All but a few states have merger approval
authority, but many states expressed concern about their ability to
regulate the resulting companies after merger approval. In recent
years, two state commissions denied mergers, in part because of these
concerns. Most states also have some type of authority to approve,
review, and audit affiliate transactions, but many states review or
audit only a small percentage of the transactions, with 28 of the 49
reporting states auditing 1 percent or less over the last five years.
In addition, although almost all states reported that they had access
to financial books and records from utilities to review affiliate
transactions, many states reported they do not have such direct access
to the books and records of holding companies or their affiliated
companies. While EPAct provides state regulators the ability to obtain
such information, some states expressed concern that this access could
require them to be extremely specific in identifying needed
information, thus potentially limiting their audit access. Finally, 22
of the 50 states that responded to our survey question about resources
said that they need additional staffing or funding, or both, to respond
to changes that resulted from EPAct, and 8 states have proposed or
actually increased staffing since EPAct was enacted.
FERC'S Merger and Acquisition Review and Postmerger Oversight to
Prevent Cross-subsidization in Utility Holding Company Systems Are
Limited:
In February 2008, we reported that FERC had made few substantive
changes to either its merger and acquisition review process or its
postmerger oversight as a consequence of its new responsibilities and,
as a result, does not have a strong basis for ensuring that harmful
cross-subsidization does not occur. Specifically:
Reviewing mergers and acquisitions. FERC's merger and acquisition
review relies primarily on company disclosures and commitments not to
cross-subsidize. FERC-regulated companies that are proposing to merge
with or acquire a regulated company must submit a public application
for FERC to review and approve. If cross-subsidies already exist or are
planned, companies are required to describe how these are in the public
interest by, for example identifying how the planned cross-subsidy
benefits utility ratepayers and does not harm others. FERC also
requires company officials to attest that they will not engage in
unapproved cross-subsidies in the future. This information becomes part
of a public record that stakeholders or other interested parties, such
as state regulators, consumer advocates, or others may review and
comment on, and FERC may hold a public hearing on the merger. FERC
officials told us that they evaluate the information in the public
record for the application and do not collect evidence or conduct
separate analyses of a proposed merger. On the basis of this
information, FERC officials told us that they determine which, if any,
existing or planned cross-subsidies to allow, then include this
information in detail in the final merger or acquisition order. Between
the time EPAct was enacted in 2005 and July 10, 2007--when FERC
provided detailed information to us--FERC had reviewed or was in the
process of reviewing 15 mergers, acquisitions, or sales of assets. FERC
had approved 12 mergers, although it approved three of these with
conditions--for example, requiring the merging parties to provide
further evidence of provisions to protect customers. Of the remaining
three applications, one application was withdrawn by the merging
parties prior to FERC's decision and the other two were still pending.
Postmerger oversight. FERC's postmerger oversight relies on its
existing enforcement mechanisms--primarily self-reporting and a limited
number of compliance audits.[Footnote 3] FERC indicates that it places
great importance on self-reporting because it believes companies can
actively police their own behavior through internal and external
audits, and that the companies are in the best position to detect and
correct both inadvertent and intentional noncompliance. FERC officials
told us that they expect companies to become more vigilant in
monitoring their behavior because FERC can now levy much larger fines-
-up to $1 million per day per violation--and that a violating company's
actions in following this self-reporting policy, along with the
seriousness of a potential violation, help inform FERC's decision on
the appropriate penalty.[Footnote 4] Key stakeholders have raised
concerns that internal company audits tend to focus on areas of highest
risk to the company profits and, as a result, may not focus
specifically on affiliate transactions. One company official noted that
the threat of large fines may "chill" companies' willingness to self-
report violations. Between the enactment of EPAct--when Congress
formally highlighted its concern about cross-subsidization--and our
February 2008 report, no companies had self-reported any of these types
of violations. To augment self-reporting, FERC plans to conduct a
limited number of compliance audits of holding companies each year,
although at the time of our February 2008 report, it had not completed
any audits to detect whether cross-subsidization is occurring. In 2008,
FERC's plans to audit 3 of the 36 companies it regulates--Exelon
Corporation, Allegheny, Inc., and the Southern Company. If this rate
continues, it would take FERC 12 years to audit each of these companies
once, although FERC officials noted that they plan audits one year at a
time and that the number of audits may change in future years.
We found that FERC does not use a formal risk-based approach to plan
its compliance audits--a factor that financial auditors and other
experts told us is an important consideration in allocating audit
resources. Instead, FERC officials plan audits based on informal
discussions between FERC's Office of Enforcement, including its
Division of Audits, and relevant FERC offices with related expertise.
To obtain a more complete picture of risk, FERC could more actively
monitor company-specific data--something it currently does not do. In
addition, we found that FERC's postmerger audit reports on affiliate
transactions often lack clear information--that they may not always
fully reflect key elements such as objectives, scope, methodology, and
the specific audit findings, and sometimes lacked key information, such
as the type, number, and value of affiliate transactions at the company
involved, the percentage of all affiliate transactions tested, and the
test results. Without this information, these audit reports are of
limited use in assessing the risk that affiliate transactions pose for
utility customers, shareholders, bondholders, and other stakeholders.
In our February 2008 report, we recommended that the Chairman of the
Federal Energy Regulatory Commission (FERC) develop a comprehensive,
risk-based approach to planning audits of affiliate transactions to
better target FERC's audit resources to highest priority needs.
Specifically, we recommended that FERC monitor the financial condition
of utilities, as some state regulators have found useful, by leveraging
analyses done by the financial market and developing a standard set of
performance indicators. In addition, we recommended that FERC develop a
better means of collaborating with state regulators to leverage audit
resources states have already applied to enforcement efforts and to
capitalize on state regulators' unique knowledge. We also recommended
that FERC develop an audit reporting approach to clearly identify the
objectives, scope and methodology, and the specific findings of the
audit to improve public confidence in FERC's enforcement functions and
the usefulness of its audit reports. The Chairman strongly disagreed
with our overall findings and the need for our recommendations;
nonetheless, we maintain that implementing our recommendations would
enhance the effectiveness of FERC's oversight.
States Vary in Their Capacities to Oversee Utilities:
States utility commissions' views of their oversight capacities vary,
but many states foresee a need for additional resources to respond to
changes from EPAct. The survey we conducted for our February 2008
report highlighted the following concerns:
* Almost all states have merger approval authority, but many states
expressed concern about their ability to regulate the resulting
companies. All but 3 states[Footnote 5] (out of 50 responses) have
authority to review and either approve or disapprove mergers, but their
authorities varied. For example, one state could only disapprove a
merger and, as such, allows a merger by taking no action to disapprove
it. State regulators reported being mostly concerned about the impact
of mergers on customer rates, but 25 of 45 reporting states also noted
concerns that the resulting, potentially more complex company could be
more difficult to regulate. In recent years, the difficulty of
regulating merged companies has been cited by two state commissions--
one in Montana and one in Oregon--that denied proposed mergers in their
states. For example, a state commission official in Montana told us the
commission denied a FERC-approved merger in July 2007 that involved a
Montana regulated utility, whose headquarters was in South Dakota,
which would have been bought by an Australian holding company.
* Most states have authorities over affiliate transactions, but many
states report auditing few transactions. Nationally, 49 states noted
they have some type of affiliate transaction authority, and while some
states reported that they require periodic, specialized audits of
affiliate transactions, 28 of the 49 reporting states reported auditing
1 percent or fewer over the last five years. Audit authorities vary
from prohibitions against certain types of transactions to less
restrictive requirements such as allowance of a transaction without
prior review, but authority to disallow the transaction at a later time
if it was deemed inappropriate. Only 3 states reported that affiliate
transactions always needed prior commission approval. One attorney in a
state utility commission noted that holding company and affiliate
transactions can be very complex and time-consuming to review, and had
concerns about having enough resources to do this.
* Some states report not having access to holding company books and
records. Although almost all states report they have access to
financial books and records from utilities to review affiliate
transactions, many states reported they do not have such direct access
to the books and records of holding companies or their affiliated
companies. While EPAct provides state regulators the ability to obtain
such information, some states expressed concern that this access could
require them to be extremely specific in identifying needed
information, which may be difficult. Lack of direct access, experts
noted, may limit the effectiveness of state commission oversight and
result in harmful cross-subsidization because the states cannot link
financial risks associated with affiliated companies to their regulated
utility customers. All of the 49 states that responded to this survey
question noted that they require utilities to provide financial
reports, and 8 of these states require reports that also include the
holding company or both the holding company and the affiliated
companies.
* States foresee needing additional resources to respond to the changes
from EPAct. Specifically, 22 of the 50 states that responded to our
survey said that they need additional staffing or funding, or both, to
respond to the changes that resulted from EPAct. Further, 6 out of 30
states raised staffing as a key challenge in overseeing utilities since
the passage of EPAct, and 8 states have proposed or actually increased
staffing.
In conclusion, the repeal of PUHCA 1935 opened the door for needed
investment in the utility industry; however, it comes at the potential
cost of complicating regulation of the industry. Further, the
introduction of new types of investors and different corporate
combinations--including the ownership of utilities by complex
international companies, equity firms, or other investors with
different incentives than providing traditional utility company
services--could change the utility industry into something quite
different than the industry that FERC and the states have overseen for
decades. In light of these changes, we believe FERC should err on the
side of a "vigilance first" approach to preventing potential cross-
subsidization. As FERC and states approve mergers, the responsibility
for ensuring that cross-subsidization will not occur shifts to FERC's
Office of Enforcement and state commission staffs. Without a risk-based
approach to guide its audit planning--the active portion of its
postmerger oversight--FERC may be missing opportunities to demonstrate
its commitment to ensuring that companies are not engaged in cross-
subsidization at the expense of consumers and may not be using its
audit resources in the most efficient and effective manner. Without
reassessing its merger review and postmerger oversight, FERC may
approve the formation of companies that are difficult and costly for it
and states to oversee and potentially risky for consumers and the
broader market. In addition, the lack of clear information in audit
reports not only limits their value to stakeholders, but may undermine
regulated companies' efforts to understand the nature of FERC's
oversight concerns and to conduct internal audits to identify potential
violations that are consistent with those conducted by FERC--key
elements in improving their self-reporting. We continue to encourage
the FERC Chairman to consider our recommendations.
Mr. Chairman, this completes my prepared statement. I would be happy to
respond to any questions you or other Members of the Committee may have
at this time.
GAO Contact and Acknowledgments:
Contact points for our Offices of Congressional Relations and Public
Affairs may be found on the last page of this testimony. For further
information about this testimony, please contact Mark Gaffigan at (202)
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statement include Dan Haas, Randy Jones, Jon Ludwigson, Alison O'Neill,
Anthony Padilla, and Barbara Timmerman.
[End of testimony]
Footnotes:
[1] The Federal Power Act of 1935 empowered the Federal Power
Commission, the predecessor to FERC.
[2] The SEC will continue enforcing laws and regulations governing the
issuance of securities and regular financial reporting by public
companies. The Department of Justice and the Federal Trade Commission
will continue their long-standing enforcement of antitrust laws. These
include the premerger provisions of the Hart-Scott-Rodino Antitrust
Improvements Act of 1976 and Section 7 of the Clayton Act.
[3] FERC officials also told us that in addition to self-reporting and
audits of some companies, they also may initiate investigations based
on internal and external reports of potential violations. Officials
told us that they are able to initiate internal investigations based on
referrals from FERC staff such as those monitoring natural gas and
electricity trading and markets in the market monitoring center. In
addition, FERC officials noted that companies and individuals may
report potential violators. Such reports may be made, they said,
through their "hotline" reporting system, which allows individuals to
anonymously report suspected violations of FERC rules. In addition,
individuals knowledgeable of FERC's processes and rules may also report
violations as formal or informal complaints that companies are
violating the terms and conditions of the detailed FERC-approved
tariffs or rates. FERC officials did not tell us how many such reports
have been made related to cross-subsidies or how many of such reports
resulted in cross-subsidy violations. However, officials noted that all
complaints are investigated to determine whether they have merit.
[4] FERC generally plans to retain its flexibility and discretion to
decide remedies on a case-by-case basis rather than to prescribe
penalties or develop formulas for different violations.
[5] After completion of our survey, one state subsequently obtained
approval from its legislature to review and approve future electric
utility mergers.
[End of section]
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