501G Pipeline Waves are About to Break at FERC - Will Wave One Bring Rate Reductions?

As discussed in prior LawIQ notes and calls related to the Form 501Gs, including Impact of Form 501G on Pipeline Rates - Transco, it is useful to understand the numbers associated with the upcoming filings, as the potential rate reductions for each pipeline can vary widely based on a number of variables, including whether a pass through entity reports as a C corporation or as an MLP. We have "crunched the numbers" for all of the 501G forms, and some of the results were surprising. In this initial summary, we focus on the pipelines that will be filing their forms on October 11, the first of three waves of filings.

As a service to our customers, LawIQ now provides a pre-populated 501G for any pipeline company. We have also built a functional tool to provide various filing scenarios across all of the forms at one time to assess how such scenarios may impact multiple companies.

We are offering this as an additional service to LawIQ customers before any further marketing and distribution. If you're interested in accessing our 501G Scenario Tool, please contact us.

So, whether you are a pipeline company that wants competitive intelligence before filing or to compare to your own analysis; or a shipper that wants to understand how the filings may impact your rates; or an investor who wants to understand the potential impact on a pipeline's top line revenue -- we are standing by to assist.

Wave One Insights into Rate Reductions

The variable nature of the impact on a particular pipeline's rates can be seen in the following graphic which shows the indicated rate reduction and post-tax ROE for the Wave One pipelines. As seen below, subject to a couple of outliers, the indicate rate reduction corresponds fairly well with the return on equity (ROE) that is calculated for a pipeline and generally the higher that ROE is the higher the rate reduction will be.

Indicated Rate Reduction for Wave One Assuming All File as C Corporations

In FERC's final rule, it divided the pipeline companies into three waves for filing, with the first wave set to file on October 11. This first wave includes some fairly large pipelines, as well as some much smaller ones. The graphics found in this write-up include the following companies from Wave One:

What Are the Variables?

Under FERC's final rule, all pipelines, whether organized as MLPs, other pass through entities or C corporations, will be allowed to complete the Form 501G as if they were a C corporation, to reflect the change in corporate tax rates from 35 to 21%. A key determinant for all pipelines will be the capital structure that is used to calculate the indicated rate reduction and post-tax ROE . The final FERC form walks each pipeline through the four choices of capital structure.

However, for a C corporation, the default choice of 43/57 debt to equity ratio with a 10.55% equity return and 5.50% debt cost, will likely result in the lowest rate reduction. Because the Form 2s of many pipelines do not include the information necessary to use the other capital structures, for the data analysis used to develop the visualizations included here we have used the default capital structure. While that is a significant factor in calculating a rate change for a particular pipeline, and despite our holding that factor constant, tremendous variability still exists. That variability is driven by the more than 50 specific account balance inputs required for each pipeline.

What About the Impact on MLPs?

Under FERC's proposed rules, it appeared that MLPs were going to be denied any tax allowance and would also be required to pass back to their customers the entire accumulated deferred income tax (ADIT) balance that was reflected on the pipeline's regulatory books. This led to a number of companies deciding to roll-up the MLPs in their corporate structure into a related C corporation.

However, under the final rule, MLPs and other pass through entities are allowed to choose between two ways to complete the 501G. First, they can complete it in the same manner as a C corporation and reflect only the change in the corporate tax rate, but then they would have to reflect the return of excess ADIT to the pipeline's shippers, just as a C corporation would. Or, MLPs and other pass through entities can opt to reflect the change in FERC's Income Tax Allowance Policy by completely eliminating their tax allowance. However, in a major win for the MLP community, the final rule paired this elimination of a tax allowance with a complete elimination of the pipeline's ADIT balances. We should note that not all of the pipelines in the first wave are MLPs or eligible pass-through entities and therefore some may not be entitled to this second option.

Nonetheless, we have run the numbers to demonstrate what the impact would be for each pipeline: (i) if it filed as a C corporation; (ii) if it filed as an MLP under the proposed rules and eliminated its tax allowance but kept the ADIT balances; and (iii) if it filed as an MLP under the final rule and eliminated both its tax allowance and its ADIT balances.

Indicated Rate Reduction for Wave One Under Three Scenarios

As with the basic method for C corporations, the results under each of these three scenarios are dependent on the particular circumstances for each pipeline. So the approach that each MLP will take in its filing will undoubtedly be based on some careful analysis of the costs and benefits provided by the two filing choices.

We will be working to assess how this choice might impact particular pipeline companies before we roll out our 501G Scenario Tool after Labor Day, as well as comparing our estimates to actual filings once the waves start rolling in.

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