Courts confirm de novo review rights for FERC defendants
January 17, 2018
The U.S. District Court for the Eastern District of Virginia (“Court”) has confirmed that defendants in Federal Energy Regulatory Commission (“FERC”) market manipulation cases are entitled to request a de novo (trial from the beginning), rather than just base their appeal on the administrative record that FERC had prepared. Now that at least 6 federal courts have agreed upon this important principle, it appears that FERC will experience limited success in arguing that it can enforce penalties under the Federal Power Act (“FPA”) solely based upon the administrative record that it prepares.
The FPA provides, in part, that it is illegal to manipulate energy or capacity markets. For example, FERC’s rules provide that it is unlawful “directly or indirectly” in connection with the purchase or sale of energy or transmission services: (1) to use or employ any device, scheme, or artifice to defraud; (2) to make any untrue statement of a material fact or to omit a material fact; and/or (3) to engage in any act, practice, or course of business that operates or would operate as a fraud or deceit upon any entity. (See, e.g., 18 C.F.R. §1c.2).
When FERC initially began bringing complaint proceedings alleging market manipulation, its Office of Enforcement investigated the facts, and developed an administrative record that supported its proposed sanctions. The full Commission then considered the appropriate action and, in many instances, imposed penalties on market participants that FERC determined had engaged in market manipulation. Many defendants did not contest the administrative record and entered into voluntary settlements with FERC.
Section 31 of the FPA, however, provides that parties have an option of either engaging in an administrative challenge of planned FERC sanctions, or an “alternate” approach of seeking review through the federal courts. FERC has argued in several federal proceedings that a defendant must accept the FERC administrative record in an alternate federal court proceedings and is not entitled to engage in a “brand new” trial to determine liability (i.e., a “de novo” review).
In a December 28, 2017 decision, the Court agreed with 5 other federal courts that have considered this procedural question. The Court held, in part, that “due process” entitles defendants to a de novo trial governed by the Federal Rules of Civil Procedure and the Federal Rules of Evidence.
The Court was influenced by the fact that although FERC’s proposed “administrative record” included many thousands of pages, “it does not include the entire investigative record, and the court has no ability to discern what products of the investigation FERC omitted or why.” In addition, defendants were not permitted to take discovery under the FERC process, and the materials in the administrative record “were never tested under any evidentiary standard and may not be admissible under the federal Rules of Evidence”, although defendants were able to submit arguments and evidence to FERC during the investigation.
The Court broadly concluded that defendants were not afforded normal due process rights by FERC. “Respondents have had, to date, no opportunity to compel any witnesses or documents or to cross examine any of the commission’s witnesses. Neither have they been able to test the reliability or veracity of the commission’s evidence through the evidentiary standards of either the federal Rules of Evidence or the [Administrative Procedures Act]’s requirement that ‘irrelevant, immaterial or unduly repetitious evidence’ be excluded in formal hearings.”
Granting defendants de novo procedural protections in a federal proceeding is important because penalties for violating the FPA are significant. When the penalties for FPA violations in 2005 were enhanced (partially in response to the California energy crisis associated with Enron’s electricity trading activities), Congress established a potential financial penalty of $1 million per day per violation; this penalty is in addition to the potential disgorgement of unjust profits to those that were injured by market manipulation activities.
It is noteworthy that the FPA’s $1 million/day penalty has increased over time. The Federal Civil Penalties Inflation Adjustment Act Improvements Act of 2015 amended the Federal Civil Penalties Inflation Adjustment Act of 1990. The law now requires FERC to adjust for inflation each “civil monetary penalty”, and to make further inflation adjustments on an annual basis every January 15 thereafter. FERC announced on January 8, 2018 that the inflation-adjusted daily penalty for FPA violations is now a hefty $1,238,271 per violation, per day.
The subject Court decision demonstrates the importance of legal procedures, as well as substantive law and facts, in representing clients in FERC proceedings. Now that defendants have succeeded in obtaining the right to a trial de novo of market manipulation issues, they are in a considerably enhanced position to either avoid liability, or to potentially obtain a reduced penalty in any settlement with FERC.
This Eckert Seamans Energy Blog is intended to keep readers current on matters affecting businesses and is not intended to be legal advice. If you have any questions, please contact Daniel Clearfield at (717) 237-7173 – dclearfield@eckertseanans.com.
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