In January 2014, a so-called “Polar Vortex” caused a significant increase in the demand for electricity and a corresponding spike in the price of natural gas. To make matters worse, a Canadian natural gas pipeline burst on January 25, 2014. This was a major problem for electrical utilities because the combustion turbines through which they generate electricity run on natural gas. These difficult circumstances ultimately led to Duke Energy Corporation suffering a staggering $9.8 million loss in a single day after over-buying gas in order to comply with a directive from its regional transmission organization, PJM Interconnection. Each day, electrical utilities are notified by their regional transmission organizations which combustion turbines are scheduled to operate the following day based on the predicted demand for electricity. Because these estimates are never completely certain, even if a generator is scheduled to operate, the regional transmission organization may or may not call on it to provide energy. Duke Energy Company purchases its gas through an agreement with the Natural Gas Pipeline Company (NGPL), which normally allows Duke to purchase gas as needed throughout the day. However, in response to the gas shortage, NGPL imposed new rules during the Polar Vortex requiring utilities to reserve gas well in advance, making gas purchases riskier and less convenient. The problem in this case arose when Duke’s regional transmission organization, PJM Interconnection, notified Duke that all eight of its eighty-megawatt combustion turbines were to be ready for operation on January 27, 2014. Duke had serious concerns about purchasing so much over-priced gas when it was possible that PJM’s prediction that all eight generators would operate was overly conservative. However, after a series of contentious phone calls between the two companies, Duke purchased enough gas to power five of its eight generators and bid on gas to power the remaining three generators. The following day, PJM never dispatched any of Duke’s generators, leaving Duke with a $9.8 million loss. When Duke demanded reimbursement form PJM, citing its contract with PJM which provided that Duke was entitled to recover any damages “arising out of or resulting from . . . . Generation Owner’s [] acting in good faith to implement or comply with the directives of the Transmission Provider.” PJM refused, arguing that its guidance to Duke was never actually a “directive.” Duke then filed a complaint with the Federal Energy Regulatory Commission (“FERC”) alleging that PJM filed to fulfill its contractual obligations to Duke. Alternatively, Duke sought a one-time limited waiver of certain provisions of the contract, which would also have allowed Duke to recover its losses. FERC denied Duke’s complaint, as well as its request for a rehearing. Duke then challenged FERC’s decision in the D.C. Circuit Court of Appeals.
Unfortunately for Duke, the D.C. Circuit agreed with FERC that Duke was not entitled to reimbursement because the gas purchases were incurred in meeting its capacity resource obligations to PJM. The court also found that Duke was never actually directed to purchase the gas because Duke was already contractually obligated to be available. In light of the court’s decision in Duke v. FERC, is important for electrical utilities to understand the dangers of relying on contractual provisions guaranteeing reimbursement when making expensive and risky purchases. This case shows that those reimbursement provisions are incredibly narrow, especially when there is disagreement over whether or not an electrical utility was “directed” to make the purchase. Absent an explicit directive, electrical utilities must rely on their own professional judgment in deciding how much gas to purchase. The dire circumstances in this case made it particularly difficult for Duke—or anyone, for that matter—to accurately predict the demand for energy. However, given Duke’s potential liability to PJM and its customers if it had failed to provide enough energy, Duke probably made the right decision to over- rather than under-purchase gas on January 27, 2014.
Jeremy Fetty is a partner in the law firm of Parr Richey with offices in Indianapolis and Lebanon. Mr. Fetty is current Chair of the Firm Utility and Business Section and often advises businesses and utilities (for profit, non-profit and cooperative) on regulatory, compliance, and transactional matters. The statements contained herein are matters of opinion and general information only and are not to be considered legal advice and should not be construed to form an attorney-client relationship. If you have any questions regarding this article, please contact an attorney.