6. Interstate Pipeline Capacity Contract Procedures

The first Phase I issue identified in the OIR is the sufficiency of interstate pipeline capacity for core customers. Respondents were ordered to propose rules providing guidelines for how they should enter into contracts with interstate pipelines (whether new contracts or renewals of existing contracts) to meet core supply obligations. For this purpose, Respondents were to propose the aggregate amount (on an MMcfd basis) of firm transportation rights on interstate pipelines, which it believes it should hold in 2006 under long-term contracts with interstate pipelines, as well as the aggregate amount of out-of-state supply (whether it transports the natural gas pursuant to firm contracts with interstate pipelines or purchases the natural gas at interconnecting facilities that access LNG supplies), which it believes it will need in 2016. Respondents were also asked to generally address guidelines for: how it proposes to contract for sufficient interstate pipeline capacity to meet these supply obligations without risking a supply shortage to its customers in the near future or the long-term; how it will provide supply diversity with such contracts; and what process for Commission review should take place for the Respondent to receive pre-approval of its specific contracts with each pipeline, including the potential reduction of contract demand capacity rights under existing contracts with interstate pipelines.6

In their initial filings, Respondents provided information on their interstate pipeline capacity needs for 2006 and the out-of-state supply needs for 2016. Also, SoCalGas proposed the Interstate Pipeline Capacity Acquisition Procedure as a regulatory oversight process that it believes balances the Commission's need to exercise oversight of large commitments of interstate capacity with the utility's need for expeditious action. Identical procedures were also proposed by SDG&E. PG&E supports SoCalGas' proposal and adopted many of the elements in its own, similar proposal. Southwest requests blanket pre-approval for storage or capacity contract acquisitions. Each Respondent's proposal is described below, followed by discussions of the issues that were identified in comments by other parties.

SoCalGas' proposed Interstate Pipeline Capacity Acquisition Procedure is described in its Phase I proposal as follows:

Consultation and Reporting. SoCalGas' Gas Acquisition Department will consult with ORA, the Energy Division and TURN on a monthly basis, and will provide an in-depth briefing at least quarterly. This will include, at a minimum, interstate capacity market conditions and recommendations for acquisition or disposition of interstate capacity or long-term supply contracts. All commitments for interstate capacity will be discussed with ORA, the Energy Division and TURN prior to the time a commitment is made. In addition to capacity utilization reports in the Gas Cost Incentive Mechanism (GCIM) monthly and annual reports, full details of all interstate capacity holdings, including new transactions, will be reported. These reports and briefings would be subject to the confidentiality provisions of Public Utilities Code Section 583 and General Order 66-C, and in the case of TURN, its representatives will be bound by an appropriate Non-Disclosure Agreement.

Transportation Capacity Commitment Range. Unless otherwise directed by the Commission, SoCalGas must hold firm interstate capacity that averages an amount between 80 percent and 110 percent of the forecasted core procurement portfolio's average temperature year daily demand during non-winter months, and averages an amount between 90 percent and 120 percent of this demand during the winter months of November through March. This requirement may be partially met by commitments for firm, long-term gas supplies from LNG or other new supply sources delivered at the California border. If SoCalGas falls below the total average capacity commitments for the winter or non-winter period of the Transportation Capacity Commitment Range, then SoCalGas will file an Advice Letter describing the circumstances and proposing a course of action to address compliance.

Authorized Capacity Commitment. After consultation with ORA, TURN, and the Energy Division, and upon ORA's approval, interstate capacity commitments within the Transportation Capacity Commitment Range shall be deemed reasonable and fully recoverable in rates in the event that any one of the following criteria is satisfied:

· Interstate capacity contracts with terms of three years or less;

· Interstate capacity contracts with terms of more than three years and quantities less than or equal to 100 MMcfd; or

· Interstate capacity contracts acquired by the exercise of Right of First Refusal (ROFR) options in response to posted bids by other shippers.

Multiple contracts with substantially similar material terms (i.e., price, contract term, and receipt and delivery points) on one pipeline will be aggregated to determine compliance with the limits of the Authorized Capacity Commitment process.

Expedited Capacity Advice Letter. After consultation with ORA, TURN, and the Energy Division, and upon ORA's approval, SoCalGas will file an Expedited Capacity Advice Letter for approval of transportation capacity commitments that fall outside the limits of the Authorized Capacity Commitment process. The Expedited Capacity Advice Letter would allow ten days for protests and comments and three days for replies, and would seek Commission approval within 21 days. If the Commission does not act on an Expedited Capacity Advice Letter within 21 days, it shall be deemed rejected without prejudice. Renegotiated contracts with El Paso and Transwestern that initially replace the Transportation Service Agreements expiring in 2005 and 2006 will be presented by Expedited Capacity Advice Letter, regardless of amounts or contract terms, with the exception of contracts acquired by the exercise of ROFR options as stated above.

Advice Letter. SoCalGas may elect to file an Advice Letter, pursuant to the Commission's standard procedure for Advice Letters, for approval of any transportation capacity commitment that ORA does not approve under either the Authorized Capacity Commitment procedure or Expedited Capacity Advice Letter process. Alternatively, ORA reserves the right to request that SoCalGas file an Application rather than an Advice Letter for such commitments. An Advice Letter will be filed for approval of all LNG contracts regardless of quantity and contract term. Additionally, SoCalGas may elect to file an Advice Letter requesting modifications to the Transportation Capacity Commitment Range, the Authorized Capacity Commitment procedure, and/or the Expedited Capacity Advice Letter procedure.

SoCalGas is requesting that these procedures be approved for an initial period of five years. Six months before the end of this initial period, SoCalGas would file an Advice Letter requesting the continuation or modification of these procedures.

As part of SoCalGas' proposal, it requests authorization to issue timely notices of termination for its expiring contracts with Transwestern and El Paso, and to reduce its contractual commitments on these two systems. For Transwestern, timely notice of termination is due by October 31, 2004. For El Paso, timely notice of termination is due by February 28, 2005. The request is being made so that SoCalGas can diversify its portfolio with lower-priced supplies, and more flexible capacity contracts.

While ORA supports the procedures and planning criteria as expressed by SoCalGas, it recommends that a point be clarified and included in the proposal. In its proposal, SoCalGas suggests that ORA reserve its right to request that SoCalGas file an application only in the event that ORA does not approve SoCalGas' request under either the Authorized Capacity Commitment criteria or the Expedited Advice Letter criteria. ORA states that it also reserves the right to have SoCalGas file an application on all matters pertaining to LNG contracts and to any future changes or modifications that SoCalGas might seek with respect to these procedures. ORA indicates that, in discussions with SoCalGas, the company has accepted ORA's position on this matter and recognizes that the procedures should be modified accordingly.

SoCalGas does not dispute that it accepted ORA's clarification on this matter and recognizes that the procedures should be modified accordingly. Also, no party opposed ORA's clarification and recommendation on this matter. We find ORA's clarification to be reasonable and will include it in the adopted contract approval procedures.

SDG&E proposed an almost identical procedure, differing only in that TURN would not participate in the consultation process and that the interstate capacity contracts with terms of more than three years would be deemed reasonable if the quantity is less than or equal to 20 MMcfd as compared to less than or equal to 100 MMcfd for SoCalGas.

PG&E embraces the concept of a contract pre-approval process and patterns its core gas acquisition recommendation on that of SoCalGas, with certain exceptions. First, SoCalGas' proposal is for pre-approval of interstate pipeline commitments, while PG&E has included intrastate, LNG and storage contracts. Second, PG&E rejects the necessity of specific ORA approval in the pre-approval and expedited advice letter processes. PG&E describes its Phase I proposal as follows:

Core Planning Standard. PG&E proposes that its Core Planning Standard should be flexible enough to accommodate a variety of capacity and supply contracts, including not only pipeline transportation capacity, but also storage and potentially LNG. PG&E proposes holding firm transportation, storage or LNG capacity to meet a 1-in-10 year peak day and a 1-in-10 year winter load.

Pre-approved Capacity Range. PG&E proposes that the Commission develop rules providing that the utilities will be deemed in compliance with the pre-approved Capacity Range if the range is not exceeded for a cumulative period of six months in any 36-month period. If, for any reason, PG&E capacity commitments fall below or above the pre-approved Capacity Range, PG&E would file an advice letter describing the circumstances and proposing a course of action to address compliance with the standard.

PG&E proposes to consult with ORA, TURN, and the Energy Division periodically regarding PG&E capacity holdings for core customers. PG&E proposes that the Commission establish clear rules providing that all capacity commitments within the Pre-approved Capacity Range described above shall be deemed reasonable and fully recoverable in rates for any of the following:

· Any existing interstate, intrastate, and storage capacity;

· Individual interstate, intrastate, storage capacity, and LNG supply contracts with terms of three years or less;

· Individual interstate, intrastate, storage capacity, and LNG supply contracts with terms of more than three years and quantities less than or equal to 100MDth/day or 3 MMDth of storage; and

· Interstate, intrastate, storage capacity, or LNG supply maintained by the exercise of the ROFR options (in response to other shippers' bids) or evergreen terms.

Expedited Capacity Advice Letter. Consistent with SoCalGas' proposal for approval of interstate, intrastate, storage, and LNG capacity commitments that fall outside the terms described above, and for all capacity in excess of current holdings acquired initially to meet the standards set forth in this proceeding, PG&E will file an Expedited Capacity Advice Letter upon consultation with ORA, TURN and Energy Division. The Expedited Capacity Advice Letter procedure should allow ten days for protests and comments and three days for replies, and seek Commission approval with 21 days of the filed date. If the Commission does not act within 21 days of the filed date, the Expedited Capacity Advice Letter will be deemed disapproved without prejudice.

Other Advice Letters. After consultation with ORA, TURN and Energy Division, PG&E may file an advice letter, pursuant to the Commission's standard procedures for advice letters, to seek modifications to the Capacity Commitment Range, and to the Expedited Capacity Advice Letter procedures.

Other Actions Not Requiring Approval through the Advice Letter Process. Capacity renewals not needing additional advice letter filings should also include capacity held under evergreen provisions in addition to capacity renewed under ROFR rights.

Southwest states that assured cost recovery should be part of meeting core resource requirements. Southwest proposes that its currently approved cost recovery practice be continued and extended to the acquisition of upstream resources that are shown to be required to meet core peak day needs. Southwest plans for a peak day based on the coldest weather in thirty years. The company also states that a process of prior submission and pre-approval would be detrimental to the most economic acquisition of the necessary resources and proposes that blanket pre-approval be granted for its acquisition of upstream resources, so long as such resources are within the bounds of its core peak day requirements.

The SoCalGas, SDG&E and PG&E proposals reflect their intentions to develop more diversified interstate pipeline capacity portfolios. SoCalGas and SDG&E state that the expiration of the Transwestern and El Paso contracts provides the utilities and their customers with the opportunity to achieve the benefits of such portfolios by enabling the utilities to: (1) acquire capacity commitments on pipelines with mixed terms and staggered termination dates; (2) increase the ability to take advantage of market opportunities; (3) reduce exposure to reductions in service from pipelines; (4) reduce reliance on core supply from only two producing basins; and (5) increase the portfolio components from Rocky Mountain supplies and new supply sources.

We recognize that a diverse portfolio approach for the holding of interstate capacity across supply basins and interstate pipelines with staggered terms maximizes opportunities to benefit core customers with enhanced supply reliability and gas price stability. Also, there is no opposition to the diversification concept. Therefore, we will grant SoCalGas' and SDG&E's requests for authorization to diversify their portfolios of firm interstate pipeline capacity holdings to access gas from multiple gas producing basins and to negotiate reduced amounts of capacity and to terminate their expiring contracts on the El Paso and Transwestern pipelines in conjunction with preserving their rights of first refusal (ROFR) for firm capacity on these interstate pipelines. 7 SDG&E and SoCalGas are not, however, required to include ROFR provisions in new or renegotiated contracts. For the same reasons, the granted authority will also apply to PG&E and Southwest for their contracts which expire with interstate pipelines.8 Thus, today's decision authorizes the gas utilities to release upcoming capacity contracts that are expiring so long as they fulfill the requirements of meeting their core procurement needs as discussed in this decision. Edison is granted the same authority so that it can take advantage of opportunities to better fulfill its gas procurement needs for electric generation.

We note El Paso's comments regarding potential higher costs for Rocky Mountain gas, the uncertainty of new sources of supply such as LNG, and the potential that its pipeline capacity may not be available to California in the future if the utilities do not renew their El Paso holdings. Transwestern questions the prudence of assuming that Rocky Mountain supplies and LNG will be available as needed to meet core demands. Alberta, CAPP, TransCanada and Wyoming also submitted comments regarding the availability of gas in the areas from which they transport gas. The information and concerns of the parties should be considered in Phase II of this proceeding as well as in the utilities' acquisition decisions, and in the consultation, review and approval processes discussed later in this decision.

Most parties agree with the Respondents' assertions that a clearly articulated interstate pipeline capacity approval process, which is flexible and provides for expeditious processing and appropriate regulatory oversight, is needed to provide the utilities with the opportunity to acquire core capacity in the most efficient and cost effective manner.

The concept of the contract approval procedures, as proposed by SoCalGas, SDG&E and PG&E, is reasonable. However, we, as well as other parties, have concerns regarding specific aspects of the proposals. Modifications have therefore been made and are discussed later in this decision.

Also, El Paso and Mojave recommend that, as part of the procedures, the utilities should be required to use all reasonable efforts to acquire a portfolio of contracts, with staggering terms, using existing interstate capacity that meets their supply diversity goals. Transwestern suggest that the utilities be ordered to maintain firm access to all supply basins. SCGC advocates that the utilities first be required to take released capacity from non-utility California capacity holders before acquiring new capacity. To adopt these various recommendations at this time may limit market opportunities for the core, provide preferential treatment for certain suppliers or create a disincentive for the development of new sources of supply. We see no compelling reasons for imposing in this order these restrictions on the core's access to market opportunities and will not do so. However, in the Commission's review process, discussed below, the Commission staff can consider the alternatives available to the utilities when deciding whether or not to pre-approve their new contracts.

Because the opportunity to terminate certain existing contracts with interstate pipelines is imminent, we need to now provide the guidance and regulatory approvals necessary for the utilities to require a more balanced portfolio of interstate pipeline capacity at reasonable rates while avoiding extreme price impacts. Therefore, we believe it is appropriate and necessary to provide guidance regarding interstate pipeline capacity at this time. In proceeding now, we are not dismissing the energy efficiency concerns raised by RACE and the NRDC. Both the Commission and the utilities understand the importance of considering cost-effective energy efficiency, renewables and demand side resources as part of the overall procurement and energy supply framework. We intend to evaluate those specific issues and their impact on California's long term natural gas demand, through evidentiary hearing in Phase II of this proceeding.

As part of their proposed contract approval procedures, PG&E, SoCalGas and SDG&E have included terms for expedited treatment, which would reduce Commission review when compared to that under the current processes. In such circumstances, we must ensure that appropriate safeguards are in place to ensure that the utilities' actions are not counter to ratepayer interests. A complicating factor is the utilities' holding company structures and the associated affiliated company relationships.

Ratepayer and shareholder interests are generally at odds, and this situation is magnified when affiliated companies conduct business with the affiliated utility. For instance, affiliated companies of SoCalGas and SDG&E include, among others, Sempra Energy International, which develops, operates and owns energy projects in international markets, including ownership of the Transportadora de Gas Natural (TGN) and Gasoducto Bajanorte pipelines in Baja California; Sempra LNG, which is developing LNG receipt terminals; Sempra Energy Resources, which acquires and develops power plants and energy infrastructure for the competitive markets; and Sempra Energy Trading, which markets and trades oil, natural gas and power.

The Sempra LNG project in Baja California can utilize the affiliated pipelines of TGN and Gasoducto Bajanorte to bring the regasified LNG to the United States. At the border, Sempra LNG then proposes to connect to the affiliated pipeline systems of SDG&E and SoCalGas.

SoCalGas and SDG&E assert that they will adhere scrupulously to the Commission's affiliate transaction rules, and we expect them to do just that. However, it is impossible to know the degree to which utilities' business decisions are colored by the relationships with their affiliates and obligations to shareholders. Therefore, while we are allowing the utilities some flexibility in contracting for storage and pipeline capacity and providing the utilities with expedited pre-approval procedures for obtaining such capacities, any capacity acquired in association with an affiliate will not be eligible for the pre-approval process, and should be brought before the commission using the advice letter or application process. Our concerns are also reflected in our modifications to the proposed pre-approval processes and capacity planning ranges, which somewhat reduce utility flexibility from what was requested.

As detailed earlier, PG&E proposes a pre-approved capacity range procedure and SoCalGas and SDG&E propose an authorized capacity commitment procedure, both of which would establish a capacity range within which capacity contracts meeting certain prescribed criteria would be deemed pre-approved without formal Commission review. For transactions that do not meet the prescribed criteria, pre-approval can be obtained through formal Commission processes such as the proposed expedited capacity advice letter process, the standard procedures for advice letters or the filing of an application.

For the most part, other parties agree with the pre-approval procedures recommended by the SoCalGas, SDG&E and PG&E. However, RACE indicates that the Commission should not renounce its responsibility and authority to review contracts negotiated by the gas utilities before approving them. Regarding new interstate pipelines, El Paso and Mojave express concern that utilities may be forced to make long-term contract commitments that impose added risk on ratepayers and recommend that the Commission explicitly review such contracts.

The concept of pre-approval provides for up front standards and eliminates the need for after the fact reasonableness reviews. However, changing the historical practice of regulatory review must be undertaken carefully. The relinquishment of the opportunity for the Commission to review utility transactions entirely (prospectively and retroactively) must be considered carefully. Under the utilities' proposals for a pre-approved range or commitment, we would be waiving the opportunity to review and authorize, either prospectively or retroactively: contracts of unrestricted length for less than 100MMcfd; contracts with unrestricted volumes, as long as the terms are for three years or less; and contracts acquired by the exercise of right of first refusal. An undetermined, but potentially significant, amount of capacity could be acquired in this manner, with some oversight, but with no formal Commission review or authorization. We find this to be inconsistent with carrying out our duties in a careful and diligent manner. Our preference would be for all contracts to be submitted for pre-approval either through the application, advice letter or proposed expedited advice letter processes. Therefore, we will not adopt the pre-approved capacity range or authorized capacity commitment procedures, as proposed, but instead adopt the following procedure.

We recognize that there may be interstate pipeline capacity opportunities that have turnaround times that cannot be accommodated through the proposed 21 day expedited advice letter process. Since there may be economic benefits to these kinds of transactions, there should be an opportunity to consider them for the core portfolio. We also recognize that there is a disincentive for utilities to make such transactions with no pre-approval, since they may then be subject to reasonableness review and potential disallowance. Therefore, we will limit pre-approval for interstate pipeline capacity contracts under the pre-approved capacity range or authorized capacity commitment to only those transactions that cannot be accommodated under the time limits of the proposed expedited advice letter process, with certain additional conditions.

First of all, we will impose the condition that both the contract length limit of 3 years and the capacity amount limits (100 MMcfd for PG&E and SoCalGas, and 20 MMcfd for SDG&E) will apply to all contracts that are pre-approved under this procedure. Although this limits the utility's flexibility in the type of capacity contracts that it can obtain, this condition will help ensure that large volumes of capacity will not be automatically pre-approved. Additionally, we will limit the aggregate capacity of the contracts pre-approved under this procedure, excluding ROFR, to 25% of the core interstate pipeline capacity portfolio. We expect the utilities not to pievemeal large contracts that would not otherwise qualify for pre-approval (i.e., contracts over 100 MMcfd), into smaller agreements in order to meet these restrictions. At this time, we will not impose any limits on the amounts of capacity that can be obtained through the ROFR as proposed by the utilities.

The second condition is the imposition of a more formal Commission approval process for reviewing these pre-approved contracts. We will delegate approval authority to the Director of the Commission's Energy Division (ED). This is consistent with ED's role in approving advice letters in general and the anticipated role in approving advice letters under the proposed expedited capacity advice letter process. The utilities must present the Director of the ED with a written request for approval of the contracts which meet the pre-approval criteria, with justification for the urgency of the transaction, the date needed for ED approval, as well as evidence of the agreement of other specified parties, as discussed below. The Director of the ED should, by the date specified, indicate approval or disapproval to the utility by letter, facsimile, or electronic mail.

Finally, we limit this pre-approval process to those contracts and agreements that are not executed with the requesting utilities' affiliates. Gas supply and transportation arrangements with affiliates must use the advice letter or application process described below.

While these conditions limit potential transactions when compared to the utilities' proposals, we feel this process more reasonably balances the additional flexibility and certainty that the utilities are receiving with our regulatory responsibilities.

SoCalGas, SDG&E and PG&E have proposed an expedited advice letter process that would apply to certain transactions that do not meet the criteria for the pre-approved capacity range or authorized capacity commitment procedures. The maximum 21-day expedited capacity advice letter process includes 10 days for parties to file protests. Although this limits the amount of time for other parties to analyze and respond to the proposed transactions, no party objected to this particular aspect. Also, to lengthen the comment period might subject more contract pre-approvals to the pre-approved capacity range or authorized capacity commitment procedures, where there is no opportunity for protests. The expedited capacity advice letter procedures are reasonable and will be adopted for transactions meeting the expedited advice letter criteria as proposed by the utilities and as changed by this decision.

In adopting and implementing expedited approval procedures, we find it necessary also to adopt an appropriate review process to ensure that any movement, within or outside of the approved capacity planning ranges is consistent with the best interests of core customers.

SoCalGas, SDG&E and PG&E propose a consultation and agreement process with ORA, TURN and ED. SoCalGas and SDG&E propose that ORA's agreement is necessary to move forward with either the authorized capacity commitment or expedited advice letter processes, while PG&E indicates that agreement with ORA, TURN and ED would be necessary before moving forward on the expedited processes. In comments, there was some general concern that the Commission should not delegate its responsibility to approve contracts, and that it would be inappropriate for ORA, as an interested party, to approve contracts on behalf of the Commission.

With the inclusion of ED approval under the pre-approved capacity range or authorized capacity commitment procedures, all capacity contracts that will be submitted for pre-approval will be subject to some form of formal Commission review. Comments regarding the need for Commission review of contracts and the delegation of approval authority to ORA are therefore moot.

However, the utilities' proposed consultation and agreement proposals have merit for the purpose of reviewing the contracts within restricted timeframes. Certainly ORA, ED and TURN are knowledgeable in these areas and can provide some assurance that utility proposals are reasonable. In core matters, which this is, both ORA and TURN provide strong advocacy viewpoints. We will not limit the review to those parties, however, we believe that the process will be more robust if we allow other interested, non-suppliers to participate in the review process. Before moving forward with expedited pre-approval processes, it would therefore be reasonable to require PG&E, SDG&E and SoCalGas to have the agreement of ORA, TURN, and any other non-supplier party that has notified the Energy Division of its intent to participate in the review process. While ED should be involved in the consultation process, its agreement, similar to that of ORA and TURN, is not necessary, since final approval or disapproval will be done by the ED.

To clarify, the agreement of ORA, TURN and other interested parties is not a substitute for Commission approval by the ED, but it is a necessary element of the expedited pre-approval processes.

If agreement among parties is not reached in the proposed expedited pre-approval processes, the SoCalGas and SDG&E recommendation that the utility can then file a regular advice letter is reasonable.

Central to the proposed capacity approval processes is the capacity planning range, referred to as the Transportation Capacity Commitment Range by SoCalGas and SDG&E, and the Core Planning Standard by PG&E. It is within these ranges that the utilities propose to establish their pipeline and storage capacity portfolios for core customers. The range establishes reporting requirements, if its limits are exceeded, and conditions under which the pre-approval processes for incremental capacity operates. The capacity ranges that we adopt, as discussed below, should be revisited in either the utilities' respective BCAPs or separate applications for possible adjustments of the capacity ranges. This is necessary because changes may be required after some experience has been gained through this new process

SoCalGas' proposed capacity planning range is based on the forecasted core procurement portfolio's average temperature year daily demand, with capacity volumes from 80% to 110% of this average demand establishing the non-winter month range, and amounts from 90% to 120% establishing the winter month range. The forecasted demand will either be from the latest filed BCAP or the latest California Gas Report, if the BCAP forecast is more than 12 months old. SoCalGas indicates that the pipeline capacity amounts proposed in this proceeding are based on the use of current core storage levels.

While the proposal is based on an average temperature demand, the proposed ranges encompass peak conditions. SoCalGas states that the higher part of the winter range at 108% of average temperature year daily demand is equivalent to the core procurement portfolio's cold temperature year demand forecast. SoCalGas indicates that it designs its system to provide uninterrupted services to both core and firm noncore customers during a 1-in-10 year cold day event. SoCalGas shows a 1-in-10 year cold day event to require 1234 MMcfd for the core, which is in the upper part of the proposed winter range of 944 - 1259 MMcfd. SoCalGas is not proposing any changes to its current system reliability planning criteria, which were reviewed in Investigation 00-11-002 and approved in D.02-11-073.

SoCalGas states that its proposed range of capacity holdings for core procurement customers is generally consistent with current capacity holdings allocated to the core, and is consistent with the applicable terms of the Settlement Agreement approved by the Commission in D.02-06-023 (the decision extending the SoCalGas GCIM). Both ORA and TURN, who represent core interests, agree with SoCalGas' planning criteria. However, due to our overriding concern regarding adequate interstate pipeline capacity, we will modify the proposal.

California utilities must rely upon firm transportation contracts with interstate pipelines to preserve or provide for the infrastructure required to meet their core customers' annual demand.9 The discretion for SoCalGas to contract for interstate capacity amounts as low as 80% of the annual average daily demand, during the non-winter months and 90% during the winter months could result in less than 100% of the forecasted annual average demand being contracted for over the year, undermining our goal of guaranteeing that there is enough infrastructure to meet California's future demand for natural gas. Additionally we believe that the cost of interstate capacity is relatively small as compared to the cost of gas in the spot market when the demand and supply balance becomes tight. Therefore, we will be more conservative than SoCalGas in setting the capacity planning range. We do this because we feel the proposals were too vast of a departure from SoCalGas' and SDG&E's historic capacity ranges, with little rationale for why relying between 10% and 20% on the spot market in certain periods would benefit ratepayers or give the utilities an advantage in obtaining a least cost supply for the ratepayers. Given this, we will set the minimum at the annual average daily amount and the maximum at 120% of the annual average daily amount, for both the winter and non-winter months. This modification assures that core customers average annual demand is contracted for on interstate pipelines, which the Commission believes is appropriate policy. Based on SoCalGas' forecasted average temperature year daily demand of 1049 MMcfd, the range for 2006 would be 1049 MMcfd - 1258 MMcfd. In authorizing a range, we expect the utilities to efficiently manage their respective interstate pipeline capacity needs and costs during both the peak and off-peak periods.10

SDG&E's planning criteria and the related justification are identical to that of SoCalGas. For the reasons indicated above, we will apply the same transportation capacity commitment range principles to SDG&E as we do to SoCalGas. Based on SDG&E's forecasted average temperature year daily demand of 139 MMcfd, the range for 2006 would be 139 MMcfd - 167 MMcfd. SDG&E shall have until November 1, 2005 to operate within the adopted capacity range.

PG&E identifies two planning standards for core firm capacity. The first is a 1-in-10 year cold peak day planning standard, which is the same that PG&E recommended in its Gas Accord II - 2004 Application (A.01-10-011), but which was not adopted. The second is a 1-in-10 year cold-winter planning standard, whereby PG&E would contract for sufficient firm storage and firm inter- and intra state pipeline capacity to meet a 1-in-10 year cold winter forecast without requiring purchases at the California border or at the city gate. PG&E states that by using the forecasted load associated with a 1-in-10 year cold winter and a 1-in-10 year peak day forecast for 2006, in combination with estimates of transmission and storage capacity costs, estimated brokering revenue from unused pipeline capacity during the summer period, and assumptions about seasonal gas price differentials, it has developed a proposed capacity portfolio that attempts to minimize cost while meeting the proposed winter planning criterion. Based on its analysis, PG&E recommends holding 43,000 MDth of in-state storage inventory and 1080 MDth/day of interstate and winter intrastate capacity in 2006. PG&E also ties its requested core capacity requirement with comparable transmission system reliability criteria, which it acknowledges is substantially different from its current planning criteria of approximately a 1-in-3 year peak day event.

While PG&E has presented two standards, cold peak day and cold winter, it failed to firmly establish the bases for either standard or explain how they are used to determine the target capacities.

PG&E's proposal would substantially increase the amount of pipeline and storage capacity over existing levels. PG&E indicates that it currently has 33 MMDth of storage and 962 MMcfd of interstate pipeline capacity. Its proposal would elevate those amounts to 43 MMDth of storage and between 1000 and 1200 MMcfd of winter capacity. In its proposal, PG&E stated:

"Whether the proposed level of price exposure is appropriate or not is fundamentally a question of risk preference. Ascertaining core customers' risk preferences is difficult and ultimately fraught with uncertainty. However PG&E believes that core customers tend toward a high degree of risk aversion and therefore PG&E recommends that the Commission consider a further reduction of the core's price exposure in determining the appropriate planning standard to adopt. As representatives of residential and core customers, PG&E invites [ORA and TURN] to express their views on the appropriate planning criterion." (PG&E Phase I Proposals, p. 4.)

At this time, neither ORA nor TURN support PG&E's proposed capacity planning standards. Both parties recommend that such standards be developed in PG&E's next BCAP proceeding.

We also note a difference between the SoCalGas and PG&E proposals. While peak condition events under SoCalGas' proposal are covered in the higher portion of the proposed winter capacity range, which seems reasonable, PG&E builds its range around the peak event. Whether an additional 10% above the cold winter standard amount is necessary is not substantiated.

For the reasons stated above, we will not adopt PG&E's proposed planning standards or ranges. However, we intend to authorize a contract approval process, which requires a capacity planning range. Based on PG&E's response to the OIR's data request, its forecasted average for 2006 is 829 MMcfd. In order to determine what that range should be, if even for only an interim period until more definitive forecasts are reviewed and approved, we will set PG&E's existing interstate pipeline capacity of 962 MMcfd as the minimum amount for the range. Even though that amount is significantly more than the forecasted 2006 average daily demand of 829 MMcfd, it would be inconsistent with the goals of this OIR, if, without good reason, we were to require PG&E to hold less interstate pipeline capacity than it is already holding. We will increase this amount by 10% to establish the upper bound of the range. SoCalGas and SDG&E's upper bounds were established at 120% of the minimum, but SoCalGas' and SDG&E's minimums were established at the average daily, while PG&E's minimum is already significantly over its average daily amount. We also note that the PG&E upper bound of 1058 MMcfd is close to PG&E's estimated cold winter average daily amount of 1084 MMcfd. The range of 962 MMcfd to 1,058 MMcfd will apply during the winter months. For the summer months, because of seasonal variations, the lower bound of the capacity planning range will be set at 90% of the forecasted average demand. As with SoCalGas and SDG&E, we expect PG&E to efficiently manage its interstate pipeline capacity needs and costs within the specified range during both peak and off-peak periods.

Since we are essentially adopting existing interstate pipeline capacity for 2006, the associated intrastate system reliability would also approximate existing levels. PG&E estimates this to be equivalent to a 1-in-3 cold winter, which it asserts is inadequate. Increased reliability was addressed in A.01-10-011, where PG&E proposed similar standards as it has in this OIR. In D.03-12-061, we did not adopt PG&E's proposal for a winter reliability standard for a number of reasons. One reason was that the planning and design of the size of the transmission facilities to serve customer load is an engineering issue, with significant cost implications, which requires careful review. Information to undertake such a review in this proceeding is lacking.

D.03-12-061 also noted that the current design criteria for PG&E's transmission system is to meet the more stringent of (a) core demand under abnormal peak day (APD) conditions, which is a 1-in-90 year cold temperature event, or (b) 75% of core's APD demand plus all noncore demand. PG&E needs to substantiate the need for its proposed winter reliability standard, especially considering that a system-wide diversion of PG&E's noncore customers has never been called.

There is an insufficient record to resolve PG&E's intrastate system reliability proposal in this proceeding. PG&E should subject its system reliability planning to further scrutiny by presenting its recommendations and the bases for those recommendations in a proceeding where parties have the opportunity to fully analyze the proposals and to consider the cost implications, and to hold evidentiary hearings. It would also be appropriate to consider revised capacity planning standards at that time as well. This should be considered in PG&E's BCAP, the incremental core storage application, or in a separate application.

Very few comments were received on Southwest's capacity pre-approval proposal. ORA recommends that SoCalGas' proposed capacity contract procedures apply to all four utilities, including Southwest. However, ORA did not explain why SoCalGas' proposal was appropriate for Southwest, instead of Southwest's own proposal. While the amounts of pipeline and storage capacity required by Southwest is small in comparison to the other respondents, we believe there should at least be an effort to apply the approved capacity procedure principles and policies established above, to Southwest's California operations. However, it is not clear that application of all the terms of SoCalGas' proposal is necessary for Southwest. We will direct Southwest to work with ORA to develop a proposal that meets the needs of Southwest consistent with the principles we adopt for the other respondents. The proposal can then be submitted through the advice letter process for review. Until such filing, we will maintain the current regulatory processes for Southwest.

PG&E specifically includes storage in its proposed contract approval process, while SoCalGas and SDG&E do not. SoCalGas and SDG&E state that, in Phase I, they are seeking approval of a process for future core interstate capacity commitments, which is intended to be flexible and which will work in a complementary manner with the core storage program. To the extent that changes to pipeline capacity commitments affect storage commitments, those storage changes are implicitly approved in SoCalGas and SDG&E interstate pipeline capacity approval process.

Although they are apparently not contemplating any changes to core storage reservations at this time, under the SoCalGas and SDG&E proposal, such storage changes would not be subject to the proposed approval processes. Under PG&E's proposal, all incremental changes to storage commitments would be included in the approval processes. Since all parties agree that pipeline capacity and storage needs cannot be determined in isolation, PG&E's proposal is preferable. It provides more assurance that incremental storage commitments and contracts are reasonable and have been fully considered in the context of incremental pipeline capacity. We will therefore adopt this aspect of PG&E's proposal for all three utilities. That is, any contemplated changes to core storage shall be included as part of the approval process.11

Both Lodi and Wild Goose address PG&E's position that PG&E alone is authorized to provide core storage. Lodi says that the Commission should require PG&E to put any incremental storage capacity the Commission requires PG&E to hold for its core out to bid. Lodi asserts that allowing PG&E to assign an incremental 7 to 13 Bcf of firm storage capacity to the core without giving the core an opportunity to solicit bids for that capacity from third party storage providers is anticompetitive and not in the best interests of captive core customers. Wild Goose is also concerned that PG&E is trying to prevent independent storage providers from being able to compete to provide a percentage of the storage capacity within PG&E's designated capacity range.

In response, PG&E asserts that the 1993 gas storage decision (D.93-02-013) requires local distribution companies to provide storage for the core, and that independent storage providers have no such obligation. PG&E also indicates that Lodi and Wild Goose fail to acknowledge that PG&E and SoCalGas are full service gas utilities, and are obligated to provide adequate and reliable service to their own core customers.

Lodi notes that the core is already indirectly using private third party storage through the use of peaking gas supply contracts from third party marketers, who use third party storage to provide this gas.

Wild Goose contends the storage decision language merely requires PG&E to build and use storage facilities as necessary to provide reliable core service, and there is nothing in the decision which prohibits placing incremental storage capacity needed by the core out to bid.

PG&E concedes that the Commission can revisit the storage decision, and adopt new policies in light of changed circumstances. However, PG&E asserts that a decision to let independent providers compete for incremental storage service to core is a major policy change, and involves significant implementation issues. PG&E recommends that such a policy change involve workshops or other proceedings before it is implemented. PG&E believes that the following list of implementation issues need to be addressed, if third party storage providers are allowed to meet the core's incremental storage capacity requirements:

· A minimum contract length commitment by the independent storage providers, so that PG&E would have sufficient lead time to develop or construct replacement capacity if the service is no longer provided by a third party;

· Impact on PG&E's existing operating, balancing and scheduling processes and necessary changes;

· Credit quality requirements for the independent storage providers;

· The responsibility of an independent storage provider to meet the same level of reliability and operating requirements through a contract as PG&E does through its tariff;

· Setting a reasonably competitive process for selection of storage services, given that utility costs and rates are open to public inspection, whereas independent storage providers have no similar requirement; and

· Assurance that any competitive process will provide for full cost recovery for PG&E's Core Procurement Department through its proposed contract pre-approval process.

We believe it is an appropriate time to review the role of third party storage providers to assist the utilities in providing core storage. Such a change can provide long-term cost savings to core customers as a result of competitive provisioning of core storage. At the same time, we recognize that an overriding purpose of this OIR is to adopt policies that will ensure an adequate and reliable supply of natural gas to core customers. While Wild Goose and Lodi may be able to meet this objective, they do not have the same legal obligations to do so as California's full service utilities. As PG&E points out, significant questions remain about the role and obligations of third party storage providers.

At this time, third party storage is located in and predominantly serves PG&E's service territory. Thus, competitive provisioning of core storage should be limited to PG&E's service territory for the time being. PG&E shall be directed to file an application within six months of this decision to address how third party storage providers can be used to assist PG&E in providing core storage services.12 The application should address how much, and by what process, incremental gas storage needs for the core should be met, including but not limited to putting the needs out to bid, negotiating storage contracts directly with independent storage providers, participation in open seasons for storage and through third parties holding firm storage rights, and any additional legal or regulatory requirements necessary to ensure reliable deliverability from third party storage providers that do not have the same legal requirements as California's full-service natural gas utilties. The application should also address other implementation issues that PG&E believes need to be addressed before the provisioning of core storage is opened to independent storage providers.

PG&E specifically includes LNG in its proposed pre-approval processes, while SoCalGas and SDG&E do not. PG&E anticipates that in the early stages of the market development, marketers of LNG supplies will be primarily interested in promoting multi-year base load type contracts. Because of the anticipated long-term nature of LNG contracts, and because contracting for significant volumes of LNG may require adjustments to the core's transport and storage portfolio, PG&E states that it is imperative that LNG contracts be subject to the same pre-approval process as the transport and storage contracts. Coral supports PG&E's proposal. However, ORA opposes PG&E's LNG treatment and supports the SoCalGas and SDG&E proposal to address LNG matters in advice letter filings, with the caveat that it also reserves the right to request the utility to file a formal application. TURN and RACE are also opposed to the pre-approval of LNG contracts. TURN notes that the likely longer term LNG contracts are more like supply contracts rather than pipeline capacity contracts, both in terms of price and contractual provisions. RACE urges the Commission to consider the relative flexibility of LNG supplies and the possibility that they may unfairly displace domestic supplies. TURN asserts that a rulemaking concerning pipeline capacity is not the appropriate place to slip in a dramatic change in contracting for commodity supply.

The viability and costs related to interstate pipeline and storage capacity are more certain than the ongoing activities to bring LNG supplies to serve California. California has no experience in relying on LNG supplies to meet core needs. Because of the uncertainties over how the LNG markets in California will develop, the impact of LNG suppliers on natural gas prices, and the reliability of those supplies, we will require further evidence in order to evaluate these issues. We will not adopt special pre-approval or expedited approval process at this time for LNG contracts.

We also note that the use of LNG contracts in the utilities' portfolios may affect the workings of the existing gas procurement mechanisms, and may require adjustments to accommodate these kinds of contracts.

In their comments to the Phase I proposals, NRDC and RACE raised the role that energy efficiency and renewable generation should play in reducing the demand for natural gas. In the OIR, we recognized that energy efficiency can help moderate the demand for natural gas. In addition, the Energy Action Plan proposes specific actions relating to increasing energy conservation and efficiency measures, and to increase renewable generation.

The demand for natural gas in California reflects the efforts resulting from energy efficiency. These efforts are reflected in the BCAPs of the utilities, in the California Gas Reports and should also be reflected in the utilities' data request responses and proposals in this rulemaking, which form the basis of the utilities' demand for gas.

Several efforts have been underway to address the energy efficiency and renewable energy concerns raised by some of the parties. Many of the issues concerning energy efficiency and renewable energy have been addressed by the CEC in its ongoing Integrated Energy Policy Report proceedings, and its related work on energy efficiency standards and renewable energy programs. In addition, we have addressed energy efficiency efforts in R.01-08-028 and in R.01-10-024. Most recently in R.01-08-028, through D.04-02-059, we approved funding of energy efficiency programs for a two-year period beginning in 2004. In D.04-01-050 (R.01-010-024), we adopted a framework for the electric utilities to plan for and procure the energy resources and demand-side investments that they need to ensure their customers receive reliable service at low and stable prices. We recognize that further work is needed in the area of energy efficiency.

The focus of this proceeding is to ensure that policies and rules are in place to ensure adequate long-term supplies of gas will be available to meet California's natural gas demand. We agree with RACE and NRDC that it is appropriate to evaluate the impact of energy efficiency and renewable resources on California's demand for natural gas as we establish policies for meeting that demand. As we discuss below, we address those concerns in Phase II of this proceeding.

6 In Ordering Paragraph 4 of D.02-07-037, we prohibited the California public utilities from turning back firm capacity rights on interstate pipelines unless and until we authorize such reductions in firm capacity rights on any given interstate pipeline. 7 Ordering Paragraph 4 in D.02-07-037 states, "No California utility shall turn back capacity rights on interstate pipelines or release their capacity rights under long-term capacity release transactions unless and until the Commission subsequently authorizes such turn back of capacity or long-term releases." This restriction applied to SoCalGas, PG&E, SDG&E, Southwest and Edison. 8 For example, PG&E's interstate pipeline contracts with El Paso, Transwestern, and GTNC will expire on various dates in 2004 through 2007. 9 As the FERC recently explained, when new customers acquire firm capacity, which is turned back by California utilities, the new customers are not obligated to serve California. Moreover, interstate pipelines have "no certificated obligation to serve California other than through [firm] contracts for that capacity [to California delivery points.] See Public Utilities Commission of the State of California v. El Paso Natural Gas Company, et al. (2004) 106 FERC ¶ 61,315 at PP 62-64. 10 This means that SDG&E and SoCalGas shall hold on an annual average basis (April through March) a minimum of 100% and a maximum of 120% of their forecast core procurement annual average daily load. Recognizing that this is an annual average capacity range will provide the flexibility necessary to address seasonal variations in core procurement due to unpredictable weather and market conditions and help to minimize capacity in excess of short-term procurement requirements. Notwithstanding this flexibility, firm capacity shall not be less than 90% of the forecast annual average during the spring and summer months 11 We clarify that changes to core storage contracts will not be considered as part of the pre-approval process outlined above. 12 As noted earlier, this application may also consider PG&E's capacity planning standards and intrastate system reliability.

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