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Developments Relating to Enron Corp
Full Committee on Energy and Commerce
Mr. David L Sokol
Thank you, Mr. Chairman.
MidAmerican Energy Holdings Company is a diversified, international
energy company headquartered in Des Moines, Iowa with approximately $13 billion
in assets. Our largest investor is
Berkshire Hathaway, one of the only AAA-rated companies in the United States. The company consists of four
major subsidiaries: CE Generation (CalEnergy)
a global energy company that specializes in renewable energy development in
California, New York, Texas and the West, as well as the Philippines;
MidAmerican Energy Company, an electric and gas utility serving the states of
Iowa, Illinois, South Dakota and a small part of Nebraska; Northern Electric, an
electric and gas utility in the United Kingdom; and HomeServices.com, a
residential real estate company operating throughout the country. I would like to commend you for
your persistence in working with Energy and Air Quality Subcommittee Chairman
Barton to push for energy legislation, including electricity modernization
provisions. We cannot pass a national energy plan for the new century
while leaving in place a regulatory system that was already outdated at the end
of the last. Your bill, H.R. 3406,
does not seek to do everything, but it does critical things that only Congress
can do, and it will result in a modernized electric infrastructure that will
benefit consumers while providing for fair competition. As the American economy begins
to recover, demands on our electric system will increase once again, and if we
have not moved forward with the critical elements of market modernization,
consumers may once again pay the price for an outdated system.
At the same time, we should recognize that the pending recovery is
tenuous and take steps to encourage the markets and American consumers that
there is bipartisan support for positive, pro-investment initiatives. My testimony this morning will
focus on the Enron scandal's impact on energy policy issues, specifically the
relationship, if any, between Enron's activities and the Public Utility
Holding Company Act of 1935, or PUHCA, including issues of consumer protection,
barriers to investment and market entry, and appropriate forums for regulatory
oversight. These three issues are
unavoidably linked. Ten years ago, Congress passed the Energy Policy Act of 1992
in order to create open, competitive wholesale electricity markets so that
investors, not consumers, would bear the risks associated with
capital-intensive, electric generation investment. That is when PUHCA changed from being primarily a nuisance
for companies to a burden for consumers. By keeping investment dollars
out of the industry and perpetuating market fragmentation, PUHCA contributed to
the failure of our electric infrastructure to keep pace with the demands of the
growing competitive wholesale market. MidAmerican's
largest investor, Warren Buffett, has publicly announced his intention to invest
as much as $15 billion in the industry once PUHCA is repealed.
However, PUHCA's barriers to entry prevent him from making these
investments, particularly in transmission and distribution assets. Last year, I testified in both
the Senate and the House as to how PUHCA blocked MidAmerican from making major
investments in the California utilities that could have helped stabilize their
financial positions during the early part of the energy crisis.
PUHCA's ownership limitations and physical integration requirements
stood in the way. PUHCA is also complicating
attempts by the company to make a major expansion of our geothermal development
in the Imperial Valley in Southern California.
While we have begun a smaller project, we cannot undertake any expansion
that would require us to build significant new transmission facilities to bring
this power to the grid without potentially running afoul of PUHCA. Some
have claimed in recent contacts to the SEC that one cannot invest in a regulated
utility asset and also make good non-utility investments. No law can make a good investor or a bad investor.
Nor should any law determine that a person who invests in one industry
should not be able to invest in another provided there are no conflicts of
interest. And I can tell you about
one investor who has done pretty well in both arenas.
His name is Warren Buffett, and his record speaks for itself. PUHCA and those who support its
predetermined limitations on who can invest in this industry take a shortsighted
approach. The way to protect consumers is not to maintain a Chinese
wall around investment in this industry it is to maintain effective separation
of the financing and rate structures of regulated utilities and their assets and
any affiliated operations. There has not been much good
news in energy markets in recent months, and even conservatively managed
traditional utilities are feeling financial pressure.
This will make it harder than ever for the industry to raise capital and
build new infrastructure. And, as
consumers in California and the West experienced in recent years, market failure
is the ultimate anti-consumer result. PUHCA is not and never was
designed to be primarily a consumer protection statute.
The overwhelming focus of the law is on preventing corporate malfeasance
that harms investors. By
eliminating financial abuses, Congress certainly expected that consumers would
benefit, but PUHCA does not address rates, and the implementing agency, the SEC,
has no rate setting function or expertise. Simply put, if the issue is
protecting consumers from unfair rates, FERC and the states have developed the
expertise over almost seventy years to perform these functions.
The SEC has absolutely no rate-setting function and has emphasized this
fact on many occasions before Congress. On the issue of
cross-subsidies, the appropriate protection against cross-subsidization is the
books and records access provided in the bill.
Using my own company as an example, if the state of Iowa had concerns
that MidAmerican Energy was inflating rates in our retail electric or gas
tariffs to support a competitive business in some other state, under the bill,
state regulators would have an explicit right in federal court to gain access to
the books and records of any affiliated business in any other state that had
conducted business with the utility. At the same time, the Committee
should be wary of attempts to make FERC some type of super-regulator of retail
rates in all fifty states in the name of stronger protections against
cross-subsidization. FERC's expertise is wholesale rates. State commissions are closest to the details of retail
rate-setting and capital structure decisions.
Muddying the water on this fairly clear distinction would be a recipe for
disaster. We've already seen
during the California crisis the debilitating impact that finger-pointing
between Washington and the states can have on effective regulation.
We should not go down that road. The only rate-related provision
of PUHCA relates to "at cost" pricing.
While the law seeks to ensure that utilities and their affiliates do not
engage in inter-affiliate pricing schemes to inflate consumer costs, the "at
cost" requirement in the PUHCA law actually limits the ability of state and
federal regulators to require registered holding companies to price some goods
and services at the lower of "at cost" or market rates. Much of this ground has been
well-covered in recent years. That
is why the PUHCA provisions included in this bill have been part of virtually
every electricity modernization bill introduced in the last several Congresses,
have enjoyed the support of the last four Administrations and the regulatory
agencies that enforce the laws, and passed the Senate Banking Committee last
year by a 19-1 vote. What has changed then? We are here this morning
because a few long-time opponents of updating the PUHCA law have made new claims
arising from the Enron collapse. It's
worth noting that one of these advocates stated last December that he could
support the electricity provisions of this bill in its present form.
But, I suppose that Enron fell, and opportunity knocked. There are really two stories
before this Committee today. The
first is the story of what actually happened to energy markets as a result of
the Enron collapse. These events
should reassure the Committee that you should move forward with this
legislation. The second story is the one
spun by those who have long opposed market modernization measures.
It poses a series of events that did not happen and attempts to force
supporters of PUHCA legislation to prove that these events could not have
happened. Taken to its logical
conclusion, this "expand PUHCA" agenda would require Congress, FERC and the
states to unravel more than a decade's efforts to create open, vibrant and
transparent energy markets. The reason why this is so is
instructive. Virtually every element of modern competitive electricity
markets exists either as an explicit statutory exemption from PUHCA or as a
result of regulatory determinations that gave flexible interpretations to PUHCA. A "fundamentalist" view of
PUHCA, that every electric or gas company that sells on the grid should be
registered, would result in complete market concentration, elimination of the
marketing industry and gutting of the EWG exemption since almost all EWGs rely
on either an affiliated marketing company or independent marketers to sell
competitive electricity. Let's
start with the first story. What
happened to energy markets as a result of the Enron collapse? Energy markets responded to the
Enron collapse with little, if any, disruption.
The lights stayed on, natural gas flowed, and consumer prices did not
rise. This is true not only for the markets generally, but also for
wholesale and retail customers of Enron's subsidiary, Portland General
Electric. In December, all four FERC Commissioners testified before your Energy and Air Quality Subcommittee that electric and gas markets had responded to the Enron collapse with remarkable resiliency. Chairman Wood repeated that assessment before the Senate last week, along with independent market analysts, market participants and a representative of the state regulators. In fact, the situation of
the customers of Enron's retail electric and gas pipeline subsidiaries proves
the argument that PUHCA legislation supporters have been making for almost
twenty years, which is that aggressive, effective state and federal regulation
are the true keys to consumer protection, not a statute that deals primarily
with details of corporate structure. It's hard to imagine a
company collapsing more swiftly or more completely than Enron, yet the customers
of Portland General have been unaffected by the bankruptcy, because its PGE's
assets and operations have both regulatory and contractual safeguards.
This is the result of effective state and federal rate regulation and the
ability of state commissions to oversee issues of utility financing and cost
recovery. This is where real
consumer protection occurs in electric and gas markets. In December, I met with members
and staff on both sides of the aisle of this Committee and shared my view that
if there was any part of Enron's energy assets that had the potential for
abuse, it was that company's domination of the "mark-to-market" exchange. The allegations that Enron may
have manipulated forward markets are troubling, and I encourage the Committee to
pursue these further. However, I am not aware of any
way these issues could be linked to PUHCA.
For those who argue that this shows that the Enron collapse did impact
energy markets, I would respond that, if these allegations are proven true, it
appears to have affected them in a positive direction for consumers. Let's
now look at the second story, what did not happen.
To
the contrary, it was looking to sell Portland General.
In fact, Enron probably would not even have been in the regulated utility
business at the time of its collapse if PUHCA had not hampered its efforts to
exit that business. Why?
PUHCA artificially and materially limits the number of potential buyers of any
utility to those utilities who can meet the law's physical integration
provisions, which requires that two utility systems must be capable of
interconnection to be legally combined under PUHCA.
This is one of the core problems of PUHCA.
It serves as a barrier to entry and investment and results in
market concentration.
It
was a leading opponent of stand-alone PUHCA legislation and testified before
Congress that it would only support PUHCA repeal as a trade-off for concessions
it wanted. Enron's
overall policy position with regard to traditional utilities can perhaps best be
described as disqualify and dominate: Work to keep asset-backed utilities out of
emerging energy markets, then dominate those markets. The
Committee should also be aware that in its most recent congressional testimony
on electricity policy, Enron opposed enhanced access to books and records,
provisions that we have long favored. On
July 22, 1999, Enron's Executive Vice President Steven J. Kean testified
before the House Energy and Power Subcommittee, "we have concerns that H.R.
2363 creates unneeded regulatory oversight of affiliated companies that have no
need for additional regulation of their books and records." Supporters
of PUHCA modernization and reform want more competitors in the marketplace, not
fewer, and support giving federal and state regulators more tools to protect
consumers.
Enron
received two PUHCA exemptions from the SEC.
Both were clear cases under the law. The
first was a statutory exemption provided to more than 50 other holding companies
whose utility operations are primarily located in a single state. The
second exemption concerned the question of whether a power marketer should be
considered a "public utility" under PUHCA.
PUHCA defines an "integrated public-utility system" as, "a system
consisting of one or more units of generating plants and/or transmission lines
and/or distributing facilities, whose utility assets, whether owned by one or
more electric utility companies, are physically interconnected or capable of
interconnection." The
claim that the "no action" letter Enron received for Enron Power Marketing
Inc. constituted a special exemption for Enron that ultimately allowed the
company to escape regulatory scrutiny is the entire basis for the claim before
the Committee today. However, for the SEC to have found otherwise would have
required it to find that the assets of marketers - office equipment, paper
contracts, and computer data - are "facilities" of public utilities
comparable to generating plants and transmission lines. This
raises the interesting question of how these types of "facilities" could
meet PUHCA's "physical integration" requirement.
Obviously, they could not, and no other decision by the SEC seems
supportable under either the facts or the clear definition in the law. More
importantly, had the SEC decided otherwise, the entire power marketing industry
would probably not have developed. It's
hard to think of any single decision that would have had a more negative impact
on consumers and competitive wholesale markets.
This exemption, to the Investment Company Act of 1940 -- not PUHCA -- is the exemption that some have claimed allowed Enron to engage is some activities that played a significant role in the company's collapse. This
appears to raise some genuine issues - but these issues have nothing to do
with PUHCA, and attempts to use the Investment Company Act exemption as a way to
derail electricity modernization are clearly opportunistic.
Since
it's clear Enron should not have been considered a registered holding company,
this could only be true to the extent that Congress would apply PUHCA-like
financial regulations to every other publicly-traded company, energy or
non-energy. There is nothing unique
about the energy industry concerning Enron's financial activities. If,
as has been reported, a company is willing to risk violating the '33 and '34
Securities Acts, shred congressionally requested documents, engage in highly
questionable accounting practices, knowingly mislead investors, and ultimately
drive itself into bankruptcy, why would we believe that PUHCA would somehow
protect its shareholders. Congress
can and should conduct a thorough review of all the accounting, bookkeeping,
pension and corporate governance issues raised by this scandal.
In some cases, laws and regulations may need to be strengthened.
But these changes should be applied to all publicly-traded companies, not
to a small subset of companies in one industry. At the same time, it may be appropriate to address oversight
of energy futures trading. FERC
Chairman Wood is moving aggressively to bring the wholesale electric energy
market to an end-state of transparency and vibrant competition.
Some are concerned that he is moving too quickly; others may believe he
is moving too slowly. Few would
disagree with his goal of achieving that end-state or the benefits that
consumers will gain when we get there. In
his testimony before the Senate Energy and Natural Resources Committee last
week, he said, "If Congress' policy goal is to promote wholesale energy
competition and new infrastructure construction, then reform of the Public
Utility Holding Company Act of 1935 (PUHCA), supplemented with increased access
by the Commission to the books and state regulators to certain books and
records, will help energy consumers. Energy
markets have changed dramatically since enactment of PUHCA, and competition,
where it exists, is often a more effective constraint on energy prices.
In the 65 years since PUHCA was enacted, much greater state and federal
regulation of utilities and greater competition have diminished any contribution
PUHCA may make toward protecting the interests of utility consumers." This
is not just the view of Chairman Wood, but also all the members of the
Commission, and all his predecessors in the last decade.
They have understood that this market will never achieve the depth,
transparency and level of competition we all seek if PUHCA's barriers to entry
and investment remain in place. The
reasons why you must eliminate the anti-competitive and anti-consumer aspects of
PUHCA are simple: *PUHCA's
arbitrary limitations hurt consumers. Just
last month, The D.C. Circuit Court of Appeals remanded the SEC's approval of a
large utility merger that would provide consumers and the companies involved
more than $2 billion in savings, based solely on concerns related to PUHCA's
single region and physical integration requirements. While
some have claimed that this decision represented some form of victory for
consumer interests, I disagree. Quoting
from the ruling, the Court wrote, "According to Petitioners, the Commission
erred in accepting (the two companies')
projections that the proposed merger would produce approximately $2.1 billion in
cost savings. We disagree. We owe considerable deference to the Commission's assertion
that it 'reviewed the assumptions and methodologies that underlie' the
projections and found them 'reasonable and consistent with.precedent.'
Moreover, Petitioners point to no evidence or expert testimony supporting their
assertion that the companies' calculations were flawed." *The
law's ownership restrictions keep capital out of one of this country's most
critical industries at a time when needs in the transmission sector alone will
require tens of billions of dollars in new investment.
As I mentioned before, Mr. Buffett has publicly stated his intent to
invest as much as $15 billion in the industry if PUHCA is repealed. *The
law's counterproductive requirements of interconnection and geographic
proximity foster regional concentration, directly counter to 50 years of
antitrust law. As I mentioned
during testimony in the House last year, one of the ironies of PUHCA is that the
only other utility that MidAmerican could purchase without running afoul of the
Act are the utility assets of the only other investor-owned utility in the
state. *As
representatives of FERC have testified on numerous occasions, PUHCA hinders
their ability to establish large, multi-state regional transmission
organizations. *PUHCA also provides foreign companies which are not restricted by the physical integration standard an advantage on their "first bite" entry into the U.S. market and, at the same time, sends overseas American dollars that could be invested here. In view of the series of negative events that have buffeted this sector beginning with the crisis in California and the West, the overall economic downturn and the negative financial impact of the Enron collapse on much of the sector, I believe we could see a substantial increase in this trend in the next several years. Congress
cannot fix PUHCA by tinkering around its edges.
The SEC concluded in 1995 that PUHCA had accomplished its goals by 1952,
fifty years ago. It is time to
repeal this law's antiquated and arbitrary physical integration requirement
and ownership limitations. At the
same time, you can replace PUHCA with enhanced books and records authority and
the other consumer protection measures that are contained in H.R. 3406 and move
the country forward toward a competitive, pro-consumer market.
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