Important Case for Lawyers, Compliance and Risk Management Professionals in the Energy Industry!

Energy companies that buy and sell natural gas and power in FERC-regulated markets, and engage in financial derivatives transactions such as price swaps, caps or index products as well, should carefully review the facts and legal theories underlying the following:

1. The recently announced $12 million settlement reached by the United States Department of Justice's ("DOJ") Antitrust Division with KeySpan Corporation, and
2. The Federal Energy Regulatory Commission ("FERC") staff's report in respect of the same set of facts.

Two Federal regulatory agencies analyzed the same set of facts relative to the interrelationship between transactions in the markets for physical and financial over-the-counter power transactions. In February 2008, FERC's enforcement staff found no violation of market manipulation rules or the relevant tariffs by any of the parties involved. But two years later, in February 2010, DOJ's Antitrust Division alleged that KeySpan violated Section 1 of the Sherman Act, brought its case to Federal court and simultaneously settled with KeySpan.

The two regulators' investigative reports each describe a financial power swap entered into by KeySpan, substantially concurrent with KeySpan's bidding activities in the NYISO auction for installed capacity in the constrained market of New York City. FERC's staff analyzed the two transactions independently, and concluded that KeySpan's strategy in the capacity auction bidding process was not affected by the swap. DOJ alleged that the swap was entered into to insulate KeySpan from competition in the capacity auction, thereby reducing price competition, and that "the likely effect of the [swap] was to increase capacity prices." The swap was therefore, under the DOJ's analysis, a contract entered into in restraint of trade, which had a material effect on interstate commerce.

The FERC staff concluded and closed its investigation without bringing the enforcement case to the Commission. The KeySpan settlement with the DOJ provided for dismissal of the civil antitrust complaint. Therefore, neither investigation nor regulatory theory is precedential in terms of future enforcement proceedings. But the facts and legal theories (as well as the $12 million "disgorgement" announced in the DOJ settlement press release) raise important issues for parties to natural gas and power transactions, and for energy company lawyers, risk managers and regulatory compliance officers.

Energy companies often analyze new business strategies that seek to utilize financial energy products to accomplish "synthetically" transactions which, if conducted solely in the physical energy markets, would arguably violate a regulation or law. Risk managers and legal advisors are asked, "Where does the law or the regulation say I can't do this?" The KeySpan proceedings stand for the proposition that, whether or not the rules with respect to one market prohibit such a strategy, antitrust theories may be used to fill in any regulatory gap in jurisdiction between physical and financial energy markets.

Schiff Hardin partner Allan Horwich predicted in 2006, after passage of the Energy Policy Act of 2005, the risk of multi-jurisdictional enforcement by Federal regulators in the energy markets. The Amaranth, Tower and Energy Transfer Partners proceedings have demonstrated the competitive regulatory enforcement activities of the FERC and the Commodity Futures Trading Commission ("CFTC") in the energy markets. Schiff Hardin is currently involved in analyzing, and trying to shape, the regulatory and legislative debate about overlapping jurisdiction of FERC and the CFTC in the energy markets. For more information regarding these subjects, please see our previous updates and articles written by Schiff Hardin partner Patricia Dondanville.

• Obama Administration's Proposed OTC Derivatives Legislation
• House of Representatives Passes OTC Derivatives Legislation — Should the Energy Industry Care? YES.
• "Regulatory 'Round Holes' and OTC Derivatives Markets," Law360 (November 2, 2009)
• "Not the Same: Commodity and Derivatives Markets for Power Defy Standardization," Electric Perspectives (September/October 2009)

If Schiff Hardin can help you analyze how your business may be affected or assist with development of new energy market strategies, evaluate your risk management and compliance materials and train your employees, understand how the evolving legislation and regulatory policy development will change your business, or respond to a regulatory inquiry or investigation, please call one of the lawyers in our Energy and Public Utilities Group.

ABOUT SCHIFF HARDIN LLP

For more information, contact us.