GENERAL COUNSEL

January 7, 1997

In reply refer to: LP

TO:

SUBJECT: Legal Issues Regarding INDEGO

Attached are the answers to the questions the Legal Committee asked me to consider. As you
will see, one question is left outstanding, and we will attempt to have an answer by the meeting
on the 14th.

Sincerely,

Stephen R. Larson
Attorney

Attachment

1. Rate Issues: How does Bonneville insure that its statutory requirement to recover costs will be met? Procedurally, how will the Bonneville tariff rate to IndeGO be determined? Will Bonneville have an IndeGO off-ramp if it cannot meet its revenue requirement? What would the impact of IndeGO membership be on the current Bonneville rate settlement?

Bonneville has a statutory obligation to recover its costs. 16 U.S.C. § 839(e)(a)(1). Costs are recovered by revenues from the sale of power products and transmission services at established rates. If Bonneville transfers control of some or all of its transmission assets to a regional IGO, its statutory obligation to recover its costs will continue. This obligation would have to be met through the development of a new rate or rates to be charged to the IGO if the facilities are transferred under significantly different terms and conditions than BPA’s PTP and NT tariffs or if the IGO insisted on changes in the current segmentation approach. The new rate or rates would be based upon forecasted costs and expected revenues from the IGO for its use of the transferred transmission facilities and would likely be for long-term firm capacity at a specified dollar amount per megawatt. Under current law, this rate would be developed in a formal rate proceeding conducted pursuant to section7(i) of the Northwest Power Act.

Bonneville also has a statutory obligation to periodically revise its transmission rate or rates to cover cost increases and to assure timely repayment to the U.S. Treasury of the Federal investment in its system. Id. Therefore, it must have an agreement with the IGO which allows for periodic rate revisions.

Consistent with sound business principles, 16 U.S.C. § 838g, Bonneville should also retain the right to withdraw its facilities from the IGO if the IGO is unable to meet its payment obligations to Bonneville. This could be assured through a contractual provision which allows Bonneville to terminate the arrangement upon the IGO's inability to make its payments. In addition, it would be advisable to provide for periodic review of Bonneville's participation in the IGO and for withdrawal therefrom..

The 1996 rate case settlement between Bonneville and most of its customers provides, in general, that, until September 30, 2001, Bonneville will not raise its transmission rates on firm transmission capacity which a customer contractually commits to take and pay for over a period of at least five years, except in limited circumstances. Assuming final approval from FERC, this rate commitment cannot be changed without mutual agreement between Bonneville and the parties who have made five year purchase commitments, except in those limited circumstances. These customers have the right to maintain the benefits of their current Bonneville contracts, including system segmentation, cost allocation and rate design, regardless of Bonneville's relationship with an IGO. Bonneville cannot force its current customers to accept new arrangements with the IGO until their Bonneville contracts terminate.

2. How will Supply System bondholder issues be addressed?

Two issues present themselves with regard to Bonneville's obligations to the Supply System bondholders. First, is the transfer of control of Bonneville's transmission facilities to an IGO inconsistent with any covenants made to the bondholders? Second, how would the benefits of the current net billing arrangement between Bonneville and Supply System participants be maintained if those participants no longer purchased transmission services from Bonneville?

The first question cannot be answered conclusively until details are clarified about the financial relationship between Bonneville and the IGO, in particular about any restrictions on the costs which may be included in the Bonneville transmission rate charged to the IGO. Bondholders could argue that any IGO prohibition on power costs in Bonneville's transmission rate may adversely affect the security of the bonds. From a strictly legal perspective, there is no contractual requirement to use the transmission system to recover power costs. However, bondholders could argue that they bought bonds with the understanding that all of Bonneville's revenue generating capabilities were pledged to pay all system costs. The existence of a single Bonneville Fund, described in detail to bondholders, may give rise to an implied pledge or understanding that the security for these bonds includes cash from all sources. The Official Statements for the various bond refinancings did not draw distinctions between revenue sources. For example, the coverage ratios for the bonds are calculated without regard to the source of funds. These coverage ratios affect (1) the interest rates Bonneville pays, (2) the credit rating of Supply System bonds, and (3) the flexibility in Bonneville's bond refinancing program. Absent the ability to include power costs in its transmission revenue requirement, Bonneville could temporarily use transmission revenues from the IGO to cover its Supply System obligations while deferring transmission-related obligations. But this would not resolve long-term power revenue deficits. Therefore, if the IGO prohibits the inclusion of power costs in Bonneville's transmission revenue requirement, a contractual provision between Bonneville and the IGO is needed which allows Bonneville to periodically revisit its decision to transfer control of its facilities to the IGO. There is also some risk that BPA's agreement to such a restriction prior to its being fully aired in a rate case could be found to be procedurally defective ratemaking.

Net billing attaches to all of the net billing participants' purchases of power and transmission from Bonneville and provides increased security for the Supply System bonds. Any agreements between the IGO and Bonneville need to address how net billing would work if a net billing participant were to purchase transmission services from the IGO rather than Bonneville. In the absence of an agreement to maintain the benefits of net billing, bondholders could argue that Bonneville's execution of the IGO Governing Agreement dilutes the bonds' security even though, strictly speaking, the net billing agreements attach only to a contract for services between Bonneville and a net billing participant. Since the objective of net billing is to keep the cash flow going to the Supply System as needed to pay project costs, there may be ways to address the issue without diminishing the security of the Supply System bonds.

Once further details about the proposed relationship between Bonneville and the IGO are known, further study and discussion can take place, including with bond counsel and underwriters' counsel.

3. Retail Wheeling - Will Bonneville be exposed to additional loss of load without adequate stranded cost recovery?

Bonneville currently has the capability and legal right to refuse retail wheeling services over the Federal system in order to protect the value of its contracts with its utility customers. If Bonneville transfers its transmission facilities to an IGO which provides retail wheeling services to end-use consumers of Bonneville's utility customers, Bonneville may have significant financial exposure through loss of its utility customers' loads. Retail wheeling by an IGO represents a significant threat to Bonneville's ability to fulfill its statutory obligation to recover its costs and repay the United States Treasury.

Bonneville's participation in an IGO must be contingent upon protection against financial losses from retail wheeling. This protection could take the form of an agreement by the IGO not to provide retail wheeling to consumers of Bonneville's utility customers before the termination of the utility power sales contracts with Bonneville without Bonneville's agreement, thereby allowing some negotiated arrangement between Bonneville and the utility or end-use consumer. It could also take the form of a rate surcharge, developed in a Bonneville 7(i) process to recover lost revenues, which would be applied to the IGO directly or by the IGO to wheeling services provided to such end-use consumers.

4. How will NEPA requirements be addressed? Can all aspects of Bonneville's agreement with IndeGO be consolidated into a one-time programmatic Environmental Impact Statement ("EIS")? (Such a programmatic EIS, if available, could take up to 18 months to complete.)

Transfers of Federal property, or of operational control of such property, are not exempt from NEPA. See Park Co.Resource Council v. U.S. Dept. of Agriculture, 817 F.2d 609 (10th Cir. 1987); Anacostia Watershed Soc. V. Babbitt, 875 F.2d 1 (D.D.C. 1995). The possible NEPA actions to be taken regarding a proposed transfer of Federal transmission facilities to an IGO include a Categorical Exclusion, an Environmental Assessment/Finding of No Significant Impact, and a full Environmental Impact Statement. The Department of Energy regulations include a categorical exclusion for "Transfer, lease, disposition, or acquisition of interests in property, if property use is to remain unchanged." 10 C.F.R. 1021.400, App. A7 (1996) At this point, it is difficult to determine the applicability of this regulation without more detailed knowledge of how the IGO intends to manage use of the transferred facilities. Clearly, significant changes in operation of the region's electric resources and in end-use consumer behavior are possible under IGO rates and policies. Thus, it would be inadvisable to determine the extent to which a proposed Federal facilities transfer should be subject to environmental analysis until further knowledge of the IGO's policies and tariffs is available.

Other than future construction and interconnection decisions which may be presented as a result of Bonneville's participation in an IGO, we believe that all aspects of the proposed transfer can be addressed in a single NEPA process.

5. Can IndeGO fulfill all of Bonneville's Canadian Treaty obligations?

The Canadian Treaty obligation which would have to be satisfied through the IGO is the obligation to return the Canadian Entitlement to Canada. There is no reason why the necessary contractual arrangements cannot be made by the U.S. Entity with the IGO to deliver the Canadian Entitlement to the agreed delivery points. Also, capacity would have to be reserved for such deliveries to the extent agreement exists between the U.S. and Canadian entities when Bonneville transfers control of its transmission facilities to the IGO.

6. Could IndeGO order Bonneville to construct transmission facilities? (Our current understanding is that IndeGO would not have such authority.)

If the IGO could order Bonneville to construct facilities, significant constitutional, budgetary and cost recovery issues would be presented. Given the current understanding that the IGO would not have this authority, this question can be deferred.

7. Would incorporation of the Bonneville transmission under IndeGO control, and the IndeGO pricing proposal, expose Bonneville's use of its own transmission to state beneficial use taxes?

State or local governments may not impose taxes directly on the Federal government without the explicit consent of Congress, United States v. New Mexico, 455 U.S. 720, 733 (1982); neither may they impose taxes the legal incidence of which falls on the Federal government, United States v. County of Fresno, 429 U.S. 452, 459 (1977). Therefore, Bonneville could not be assessed beneficial use taxes for its use of Federal or non-Federal transmission facilities either by the states or by the IGO as agent of the states.

8. How will the requirements of the Energy Policy Act of 1992 concerning priority of use of Bonneville's transmission system for Northwest loads be satisfied?

The IGO tariff would have to incorporate this priority.

9. Will all aspects of the IndeGO agreement with Bonneville constitute permissible property transfers and/or delegations of authority? If not, can any defects be cured through appropriations bill language or a similar device?

It is the opinion of the Bonneville General Counsel that transfer of significant amounts of the Federal transmission facilities to an IGO requires review and approval by Congress. (See attached opinion.) Such approval should be granted through a formal action by the Congress, including an appropriations bill.

10. Will IndeGO be able to assume all of Bonneville's obligations to provide transmission service as mandated by section 211 of the Energy Policy Act of 1992?

Under section 211 of the Federal Power Act, the Federal Energy Regulatory Commission may order a "transmitting utility" to provide transmission services to eligible customers. The term "transmitting utility" is defined as "any electric utility ... or Federal power marketing agency which owns or operates electric power transmission facilities which are used for the sale of electric energy at wholesale." 16 U.S.C. section 796(23). Pursuant to section 212(i)(1) of the Federal Power Act, 16 U.S.C. section 824k(i)(1), FERC's authority to order Bonneville to provide transmission services is reiterated, as is its authority to order Bonneville to interconnect its system with applicants under section 210. Though Bonneville would no longer "operate" the transmission facilities transferred to the IGO, it would continue to "own" them. Consequently, to avoid any confusion and "double jeopardy", it would be advisable that the IGO tariff filing with FERC include a request that FERC explicitly exempt the owners of transmission facilities transferred to the IGO from any obligations under sections 210, 211 and 212 of the Federal Power Act with regard to those facilities.

11. What will be the impact of the IndeGO tariffs on Bonneville's residential exchange contracts?

There are at least two effects of the IGO tariffs on Bonneville's residential exchange contracts. First, transfer of transmission facilities by exchanging utilities to the IGO may affect the utilities' average system costs. Second, if the IGO grants retail wheeling services to an exchanging utility's consumers, the exchanging utility's average system costs may be affected.

An exchanging utility which transfers its transmission facilities to the IGO will receive compensation from the IGO to cover the annual maintenance and plant costs of those facilities. Thus, the exchanging utility would no longer be able to include the costs of those specific facilities in its average system cost for exchange purposes. Other than costs of facilities which are not transferred to the IGO, transmission exchange costs would be limited to the costs of the transmission services purchased by the utility from the IGO and other providers to deliver power to its system to meet its system loads.

If the IGO provides retail wheeling services, exchanging utilities’ Average System Costs could increase. A utility's Average System Cost is defined by the Bonneville Average System Cost methodology (June 1984) as "the quotient obtained by dividing Contract System Costs by Contract System Load." If an exchanging utility's Contract System Load decreases as the result of retail wheeling, its Average System Cost will increase in the absence of corresponding decreases in Contract System Costs.

12. Would Bonneville be able to participate in any capitalization of IndeGO?

It would be wise to obtain Congressional review of Bonneville's use of its revenues or its borrowing authority to capitalize a nonFederal IGO. Bonneville has claimed broad discretion in the use of its revenues and borrowing authority when furtherance of the agency's statutory mission can be shown. Devoting Federal funds to the capitalization of a nonFederal entity so that it can operate Bonneville's transmission system is probably related to furtherance of Bonneville's statutory mission, but this would depend on how such capitalization occurred, including how Bonneville's funds are secured. Congressional review could be provided when Congress approves Bonneville's transfer of its facilities to the IGO.

13. Are union contract issues raised by Bonneville's participation in IndeGO?

(Answer not completed yet.)