Week Ending December 16, 2016

In Powhatan Fund Amicus Brief, Professors Protest FERC’s View of “De Novo” Judicial Review in Market Manipulation Case

This Article Appears as Published in Foster Report No 3128
In Powhatan Fund Amicus Brief, Professors Protest FERC’s View of “De Novo” Judicial Review in Market Manipulation Case

December 13, 2016

A group of ten professors of administrative law[1] has objected to FERC’s narrow concept of review at the judicial level following the Commission’s levy of civil penalties in an electric power case.  The protest was delivered through an amicus brief filed December 7 with the federal district court in Richmond, Virginia, which is hearing FERC’s enforcement proceeding against Powhatan Energy Fund for alleged violations of the agency’s anti-market manipulation rule (Case No. 3:15-CV-00452-MHL).[2]

The professors, who disclaim any position on the merits of the case against Powhatan, voice “grave concern” over the implications of FERC’s legal position limiting the scope of “de novo” judicial review under the Federal Power Act (FPA) – specifically, FERC’s belief that a full-blown adjudicatory process in court may not be warranted on top of the administrative record FERC typically compiles en route to a final penalty determination.

Powhatan and its co-defendants were assessed nearly $35 million in civil and “disgorgement of profits” penalties in FERC’s 5/29/15 decision (IN15-3).  The substance of the case concerned the FERC Enforcement Division’s allegation, ultimately affirmed by the Commission, that, during the summer months in 2010, Powhatan had gamed the PJM electric market by employing a wash trade strategy to garner undeserved transmission credits.[3]  FERC Enforcement staff charged that this strategy violated FPA Section 222 and the implementing regulations (Rule 1c.2) barring transactions designed to defraud, manipulate, or disrupt the normal functioning of energy markets.

FERC adopted the allegations brought by Enforcement staff, and Powhatan is now contesting FERC’s conclusions of fact and law in court, after unsuccessfully defending itself before the Commission.

Crux of the Argument.  The law professors’ amicus brief zooms in on the dispute between Powhatan and FERC over the appropriate scope of judicial proceedings following FERC’s assessment of civil penalties.  The debate centers on FPA Section 31(d), which charts a pair of alternative procedural paths for parties facing such enforcement proceedings and civil penalties.

One option for the accused party is to request an evidentiary hearing before a FERC administrative law judge (ALJ), whose findings and recommendations are then subject to Commission review.  FERC’s final decision, in turn, is subject to judicial review under this option, but only pursuant to the substantial evidence and arbitrary and capricious standards, which accord considerable deference to the conclusions of the agency.

The other path – which Powhatan elected in this case – is to request FERC to promptly issue its penalty ruling on the merits, without any evidentiary hearing, whereupon – assuming FERC decides to assess penalties and the accused party resists paying – the Commission must file an action in federal district court to collect the penalties.  At that stage, the statute provides for a de novo review of the Commission’s findings.  In the language of FPA Section 31(d), “the court shall have the authority to review de novo the law and the facts involved.”

The law professors explain that their understanding of FERC’s position is that “there is no need for this Court’s de novo review of the penalty assessment to include the trial-like proceedings typical in court proceedings” because (quoting FERC’s pleadings):  “further fact-finding” is unnecessary, given that the defendants “were ordered to provide all evidence and arguments” to the Commission itself, and “had ample opportunity to do so.”  The amicus brief insists, however, that such a view “runs counter to the traditional understanding of court enforcement actions for civil penalties” and “cannot be squared with the text, structure, or purpose” of the FPA’s penalty assessment mechanism.

Historic View of Administrative Agency Hearings and Court Review.  To provide some historic context for their argument, the professors include an extended discussion of how administratively-imposed penalty assessments and judicial review have existed side-by-side since the 1970s.  They delineate two principle models that have evolved since the 1970s.

One model consists of formal adjudicatory procedures at the agency level under the Administrative Procedure Act (APA), followed by limited judicial review (i.e., the court gives deference to the agency, overruling it only if there’s a lack of substantial evidence to support its conclusion, or the agency has acted in an arbitrary or capricious manner or contrary to law).  A second model entails informal procedures (or no adversarial procedures at all) before the agency, whose penalty assessment is then subject to full de novo review in court.

The brief also touches on whether a statute prescribing a de novo review is any different from one prescribing a de novo trial.  In short, say the professors, courts “have not generally acknowledged such a refinement.”

The brief’s historical perspective then traces the development, as noted in a 1993 report, of an emerging trend towards a hybrid model whereby Congress would permit the agency to hold less formal hearings (generally for smaller penalty cases) that were subject neither to the APA regime nor de novo judicial review.  In such hybrid cases, any appeal by the penalized party to the courts would be subject only to the more deferential “substantial evidence/arbitrary and capricious” standard.  This trend, the brief notes, was decried by administrative law experts, who believed that trial-type procedures should be available at some point, if monetary penalties are going to be assessed.

FPA’s Elective Paths.  The brief then details the operation of FPA Section 31(d), which gives accused parties the choice of a “full-scale, trial-type hearing” either before the agency (conducted by an ALJ) or a de novo court hearing.  The professors opine that Congress’s adoption of this “choice of procedures” was “intended to, and does, mirror the two traditional subsets [models]” they have outlined for adjudicating civil penalty assessments.[4]

What the professors find troubling is FERC’s apparent position that the FPA’s grant of a choice of neutral forums can “essentially be circumvented by the procedures the Agency deigns to give subjects” who elect (as did Powhatan) a de novo court proceeding.  They rail against what “appears to be FERC’s position” that the agency’s decision to assess penalties “after a bare-bones administrative process” should truncate the defendants’ right to a full, trial-type hearing before a federal district court.

The brief argues that FERC’s stance is at odds with the plain meaning of the statute.  The path Powhatan had chosen – where the court “shall have authority to review de novo the law and the facts involved” and FERC is required only to “promptly assess such penalty” – implies, the professors suggest, that “the agency need not involve the subject in any proceedings at all.”  The statutory language strongly suggests, they continue, that the entire adjudication, addressing both the law and the facts, is to take place before the court in “a full-scale, trial-type proceeding.”

The same dual-option model was used by Congress in two 1978 energy-related enactments, the National Energy Conservation Policy Act and the Powerplant and Industrial Fuel Use Act, before being incorporated into the FPA in 1986.  The legislative history of the 1978 statutes, the professors point out, reflects that the dual scheme was a result of a compromise between the House version, favoring a formal APA-style adjudication, and the Senate version, favoring a full-scale trial in court.

Another energy law of the same vintage cited by the professors, the Natural Gas Policy Act of 1977, employed the same language for the de novo court review path, but did not offer the alterative, an APA-style hearing.  FERC itself described this judicial recourse in a 2007 order as creating “an affirmative right for the [penalized] person to receive review of the Commission’s assessment in a trial de novo in the district court.”

A synthesis of the statutory plain language and the legislative history of FPA Section 31(d), the brief concludes, requires a reading of FPA Section 31(d)(3) as affording “a full-fledged hearing in the district court,” if the subject of the proceeding elects to bypass the ALJ hearing.

Court Precedent.  The brief also cites with approval the conclusion of the U.S. District Court for the District of Columbia, issued on 8/10/16 in a similar market manipulation enforcement case, FERC v. City Power Marketing.[5]  There, the court held that the statutory language “signals that the Court should make an independent determination of the issues.  The logical procedures to govern that determination are those set forth in the Federal Rules [of Civil Procedure].  Furthermore, the Court does not see why it should place special weight on the agency record or presume that City Power should not get discovery.”

Flaw in FERC’s Position.  The brief critiques FERC’s rationale for truncating the district court proceedings.  The Commission maintains there is no need for further fact-finding by the court, assert the professors, because the agency has already concluded that the “administrative record supported its penalty assessment.”  But the record FERC refers to, the professors underscore, is that of the Commission’s investigative process, not a full-scale, trial-type proceeding.  That does not amount to an “adversarial process before a neutral decisionmaker” such as the APA and the Federal Rules of Civil Procedures (FRCP) require, the brief insists.

Both the APA and the FRCP afford a party “the full panoply of discovery rights,” the brief emphasizes, while FERC’s investigative procedure does not grant subjects similar rights.  Moreover, the professors find it “bizarre” for FERC to suggest that its voluntary provision of rights to the defendant to respond with written submissions at various stages of the investigative proceeding can undermine the defendant’s choice of a “full-fledged hearing in a district court under Section 31(d)(3).” They find it fundamentally inconsistent with the statutory scheme for FERC to be able to “unilaterally define the scope of the [court] hearing” for subjects electing the de novo court review option.

Constitutional Issue.  FERC’s position on the scope of district court proceedings also raises “grave due process concerns,” the professors submit.  This portion of their brief focuses on certain balancing tests federal courts have applied in determining whether the constitutional right to due process has been satisfied, quite apart from any statutory language at issue.  And here too, the professors conclude that the “summary assessment of a penalty that FERC seeks in this case falls short of due process requirements.”

That does not mean, they continue, that a full-blown trial will be necessary in every litigated FPA Section 31(d)(3) case.  The district court may tailor the discovery process and introduction of evidence, and may entertain motions for summary judgment.  However, the defendant will also have the right to argue that without discovery, it can’t present the facts essential to its opposition.[6]

The brief concludes that the district court should reject FERC’s position and treat the statute at issue as requiring, “like any other [penalty] assessment statute,” a de novo, trial-type hearing governed by the FRCP.

By Ken Barry KBarry@fosterreport.com

[1] The ten professors are headlined by: (1) Jeffrey S. Lubbers, Professor of Practice in Administrative Law at Washington College of Law, American University, and (2) William Funk, the Lewis & Clark Distinguished Professor of Law at Lewis & Clark Law School.  The scholarly and professional achievements of these two are detailed at length in the brief; eight other subscribing professors are listed simply by name, title, and law school affiliation.

[2] The proceeding is against Powhatan Energy Fund and two other financial energy products trading firms that employed the same strategies. Houlian Chen, the chief architect and implementer of the strategies, is also a defendant in his individual capacity.  For convenience, the entire group of defendants is referred to as “Powhatan.” For prior coverage at the district court level, see Powhatan Energy Fund, in an Appeal from Heavy Civil Penalties, Puts FERC’s View of Adjudication Process on Trial, FR No. 3082, pp. 9-13 and articles in The Foster Report cited therein covering the penalty determination at the FERC level.

[3] PJM’s market design at that time permitted so-called virtual traders in the RTO’s “Up to Congestion” (UTC) product – who procured transmission service even though they did not deal in physical energy – to qualify for a share of transmission cash credits funded by PJM’s overcollection of marginal losses.  While PJM conceived of the UTC market as a legitimate vehicle for hedging by physical energy players and for arbitraging (a generally desirable activity of virtual traders), a “wash trade” strategy could rack up voluminous transmission credits (well exceeding a party’s transaction costs) while virtually eliminating market risk.

[4] The amicus brief notes that it is not unusual for Congress to provide a choice of recourses for the defendant.  And in some other statutes, it is the administrative agency that has the choice of forums.

[5] FERC v. City Power Mktg., LLC, Civ. A. No. 15-1428 (JDB) (D.D.C. Aug. 10, 2016).

[6] In this respect too, the professors cite and applaud the district court’s conclusions in the City Power case.

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