------------------------- TITLE PAGE -------------------------- THE REGULATION OF PUBLIC-UTILITY HOLDING COMPANIES [SEC seal] Division of Investment Management Securities and Exchange Commission June 1995 This is a report of the Division of Investment Management. The Commission has expressed no view regarding the analysis, findings, or conclusions herein. -------------------- LETTER FROM CHAIRMAN --------------------- June 20, 1995 In addition to its responsibility for administering the other federal securities laws, the Securities and Exchange Commission was charged by Congress in 1935 with the regulation of public-utility holding companies, to address widespread abuses and protect both investors and consumers. As one scholar described it, the Public Utility Holding Company Act of 1935 "gave the SEC power to refashion the structure and the business practices of an entire industry. Except in wartime, the federal government never before assumed such total control over any industry." Today, this comprehensive control has become something of an anachronism. As a result of prudent administration of the Public Utility Holding Company Act, and the development of comprehensive federal securities regulation, the conduct that gave rise to the Act has all but disappeared. Indeed, critics of the Act charge that it has become a barrier to innovation and competition in the utility industry. Last year, in keeping with Vice President Gore's mandate to reinvent government, I asked the staff to conduct a study of the Act, soliciting the views of all interested parties. The goal of the study was to develop a series of recommendations that addressed congressional concerns, past and present, as well as the needs of those affected by our regulation. To provide Commission guidance, I asked my colleague Rick Roberts to lend a hand. From chairing the Commission's "roundtable" conference last July to meeting with interested parties outside the agency, Commissioner Roberts has been a willing listener and a strong advocate of dynamic and practical solutions. I thank him and the staff for their tireless efforts in this year-long endeavor. This study draws on 60 years of practical experience since the Public Utility Holding Company Act was signed into law. In addition to legislative proposals, it contains a number of administrative reforms that, by themselves, could remove nearly two-thirds of the industry's regulatory burden while continuing to provide for the protection of investors and utility consumers. It is my sincere hope that this report will provide a blueprint for regulatory reform. Arthur Levitt -------------------- BEGINNING OF PAGE #2 --------------------- --- LETTER FROM DIRECTOR, DIVISION OF INVESTMENT MANAGEMENT --- June 20, 1995 Dear Mr. Chairman: I am pleased to submit the Division of Investment Management's report on public-utility holding company regulation. Last year, with the approach of the sixtieth anniversary of the Public Utility Holding Company Act of 1935, you asked the Division to take a fresh look at the regulation of public-utility holding companies to determine how best to protect the public interest and the interest of investors and consumers, while affording the companies the flexibility needed to compete in a rapidly changing environment. The Division's Office of Public Utility Regulation has devoted considerable effort to the report. Virtually everyone in the Office contributed. I especially would like to note the indispensable role of William C. Weeden, whose leadership has guided the study from its inception. Special commendation should also go to Joanne Rutkowski, staff coordinator of the study, for her expert draftsmanship of the report. We received substantial assistance from staff members of other Commission offices, in particular, C. Hunter Jones of the Office of the General Counsel, Robert Comment of the Office of Economic Analysis, John H. Walsh, who, as Special Counsel to the Chairman, helped to get the study underway and continuously provided thoughtful counsel, and Brian J. Lane, Counselor to the Chairman, who helped to bring the study to conclusion. Finally, I would like to thank Commissioner Roberts and his office for their guidance and insight. In preparing the report, we actively sought the opinions of the utility industry, consumer groups, trade associations, investment banks, rating agencies, economists, state, local and federal regulators, and others. Their comments, both formal and informal, were extremely useful to our review. The Division has concluded that significant changes are needed in the current regulatory system. We believe that the Holding Company Act is unnecessarily restrictive in many regards, and may prevent companies from responding effectively to the changes now occurring in the utility industry. These effects, we have concluded, are clearly detrimental to both investors and consumers. In the report, we recommend that the Commission offer Congress three legislative options designed to remedy the situation. The legislative option preferred by the Division is repeal of the Holding Company Act coupled with legislation to continue federal protection of energy consumers. The latter legislation would include provisions for state access to the books and records of holding company systems, and federal audit authority and oversight of transactions between system companies. A second option described in the report is unconditional repeal of the Act. The third legislative option is to broaden the Commission's authority under the Act to exempt holding companies where state regulation is found to be adequate. Pending legislative action, the Division believes the Commission should act administratively to modernize and simplify holding company regulation, reduce the delay inherent in the current administration of the Holding Company Act, and minimize -------------------- BEGINNING OF PAGE #3 ------------------- regulatory overlap, while protecting the interests of consumers and investors. To that end, the report details a number of administrative proposals, including rulemaking and significant changes in interpretation of the Act, for the Commission's consideration. Together, the administrative proposals, if adopted, could reduce the number of applications filed under the Act by approximately sixty-four percent. Taken as a whole, the report reflects our concern that the regulation contemplated by the Holding Company Act to address the problems of a different era may prevent companies from responding effectively to the changes now occurring in the utility industry. We believe the appropriate implementation of our recommendations would facilitate consumer protection, encourage innovation and flexibility, and promote competition by acting to remove unnecessary regulation, thus enabling companies to provide energy to America's consumers in a flexible, efficient and competitive manner. Sincerely, Barry P. Barbash Director ---------------------- ACKNOWLEDGEMENTS --------------------- ACKNOWLEDGEMENTS In the preparation of this report, the Division had the able assistance of many members of the Commission staff. The Division's study team was headed by William C. Weeden, Associate Director and Joanne C. Rutkowski, Assistant Director. Many others contributed to the drafting or editing of the report, including: Cathey Baker, Assistant Director Walter B. Stahr, Assistant General Counsel Robert P. Wason, Chief Financial Analyst Sidney L. Cimmet, Senior Special Counsel C. Hunter Jones, Special Counsel, Office of the General Counsel Michael A. Lainoff, Counsel to Commissioner Roberts David G. LaRoche, Special Counsel Catherine A. Fisher, Branch Chief Barbara T. Heussler, Branch Chief Markian M. W. Melnyk, Branch Chief John P. Brandenburg, Attorney Harry Eisenstein, Attorney Orlan M. Johnson, Attorney J. Amanda Machen, Attorney Richard T. Miller, Attorney James W. Moeller, Attorney Bonnie Wilkinson, Attorney Robert Comment, Senior Research Fellow, Office of Economic Analysis David E. Marsh, Staff Accountant Eric J. Green, Financial Analyst Sean R. Hunt, Financial Analyst Nicholas Balamaci, Office of the Chairman Patricia L. Copeland, Paralegal Specialist Karon L. Neal, Paralegal Specialist -------------------- BEGINNING OF PAGE #4 ------------------- Secretarial assistance was provided by Michelle A. Blake, Belinda Goodman, and Anna B. Grindel. ---------------------- TABLE OF CONTENTS ---------------------- TABLE OF CONTENTS THE REGULATION OF PUBLIC-UTILITY HOLDING COMPANIES Page EXECUTIVE SUMMARY . . . . . . . . . . . . . . . 4 PART I. OVERVIEW OF LEGISLATION, REGULATION AND TECHNOLOGY 11 PART II. MODERNIZING ADMINISTRATION OF THE ACT . . . . . 39 Chapter 1. Financing Transactions . . . . . . 40 Chapter 2. Utility Ownership . . . . . . . . 55 Chapter 3. Diversification . . . . . . . . 73 Chapter 4. Affiliate Transactions . . . . . . . 83 Chapter 5. The Audit Function . . . . . . . . 92 Chapter 6. Exemptions . . . . . . . . . . .97 Chapter 7. Other Recommendations . . . . . . 109 PART III. LEGISLATIVE RECOMMENDATIONS . . . . . . . 113 CONCLUSION . . . . . . . . . . . . . . . . 125 APPENDIX A Summary of Responses to Survey of State Regulation of Public-Utility Holding Companies ---------------------- EXECUTIVE SUMMARY ----------------------- EXECUTIVE SUMMARY The Public Utility Holding Company Act was enacted in 1935 to respond to the problems associated with the growth of public- utility holding company systems in the first part of this century. By the 1920s, America's utilities were largely controlled by a handful of holding companies. Even before the stock market crash in 1929, the vast size of these companies and the increasing concentration of control in the gas and electric industry had caused congressional concern. The studies that preceded the Holding Company Act documented a pattern of widespread abuses by holding company systems, promoters and underwriters. Among other things, inadequate disclosure made it difficult for investors to appraise the financial position or earning power of the issuer. In addition, excessive debt and abusive affiliate transactions tended to prevent voluntary rate reductions at the operating company level. Constitutional doctrines that limited the reach of economic regulation frustrated states' efforts to respond to these problems. -------------------- BEGINNING OF PAGE #5 ------------------- Congress determined in 1935 that direct federal regulation was necessary to control the operations of multistate public- utility holding companies. Thus, holding companies that are confined to a given state or area and therefore presumed to be susceptible to effective state regulation, are largely exempted from federal regulation under the Act. In contrast, holding companies with multistate operations must register with the SEC and comply with a comprehensive federal framework of regulation under the Holding Company Act. 1993 Total Assets of Investor-Owned Electric Utilities (Thousands) [Pie Chart] Exempt Holding Companies: $316,656,995 (57.6%) Registered Holding Companies: $104,178,063 (18.9%) Other: $129,091,825 (23.5%) Total: $549,926,883 Source: 1993 Uniform Statistical Report and FERC Form No. 1. 1993 Total Assets of Investor-Owned Gas Utilities (Thousands) [Pie Chart] Exempt Holding Companies: $47,604,134 (43.8%) Registered Holding Companies: $14,403,555 (13.3%) Other: $46,621,917 (42.9%) Total: $108,629,606 Source: 1995 Handbook of Publicly Traded Member Companies, American Gas Association The early work of the SEC was directed toward simplifying and reorganizing the complex financial and corporate structures of holding company systems, as required by section 11 of the Holding Company Act. This task was largely completed by 1952. At present, there are fifteen registered holding companies, and several hundred exempt holding companies. Under the Holding Company Act, a registered public-utility holding company is generally limited to a single, integrated public- utility system and to those nonutility businesses that are "reasonably incidental, or economically necessary or appropriate" to the system's utility operations. SEC approval is required before such companies may: * issue or sell securities, or alter the rights of security holders, * acquire any securities or utility assets or any interest in a nonutility business, or * sell utility assets or securities. The Act also restricts intrasystem loans and extensions of credit, as well as affiliate service, sales and construction contracts. In addition, registered holding companies are subject to extensive reporting and accounting requirements. The regulatory system established by the Holding Company Act was not intended to reach the production and sale of gas and -------------------- BEGINNING OF PAGE #6 ------------------- electricity. Congress vested the Federal Power Commission, now the Federal Energy Regulatory Commission, with jurisdiction over these operations at the federal level and, in section 21 of the Act, preserved the right of state regulators to exercise authority over utilities. These federal and state ratemaking authorities -- not the SEC -- most directly protect consumer interests. In this regard, the Act was intended to facilitate the work of the other regulators by placing certain restraints on the activities of public-utility holding companies. The Holding Company Act, unlike the other federal securities laws, requires not only disclosure but also SEC review of the merits of various transactions. Since 1935, developments in other regulation have made the SEC's merit review increasingly redundant. At the same time, the changes in the industry have brought into question the continuing relevance of a monopoly- based model of regulation. In the early 1980s, the SEC determined that the purposes of the Holding Company Act had been achieved and recommended to Congress that the Act be repealed. Due in part to concerns about consumer protection and the lack of a consensus for change, repeal legislation was not passed. Over the next decade, the SEC continued to attempt to respond flexibly and responsibly to the changes in the gas and electric industry. In 1993, SEC Chairman Arthur Levitt directed the SEC staff to reexamine existing programs and policies to identify those that were effective and those that were not, including the SEC's position on repeal of the Act. The Division of Investment Management, under the direction of Commissioner Richard Y. Roberts, therefore undertook a study of the regulation of public- utility holding companies. The study began with a roundtable discussion in Washington, D.C. on July 18 and 19, 1994, in which the utility industry, consumer groups, trade associations, investment banks, rating agencies, economists, state, local and federal regulators, and others participated. Although the participants expressed widely divergent views on the future of the industry, all agreed that changes were needed in the existing system of regulation. In response to a concept release issued last fall, the Commission received thousands of pages of useful comments. During the past year, the staff met with numerous interested parties, including representatives of the holding companies, consumer groups, industrial concerns, state and local regulators, and other federal regulators. In addition, the Division collaborated with the National Association of Regulatory Utility Commissioners on a survey of state regulation. Having concluded its study, the Division agrees that significant changes are needed in the current regulatory system. The Division's recommendations are of two types: legislative recommendations for Congress to consider, and proposals for administrative reform of the Act. I. Legislative Recommendations Conditional repeal of the Act One option for Congress, and the option the Division prefers, is conditional repeal of the Holding Company Act, with an adequate transition period. Under this option, Congress would repeal the Act but, at the same time, enact legislation to -------------------- BEGINNING OF PAGE #7 ------------------- continue federal protection of energy consumers. The legislation should include provision for state access to books and records of all companies in the holding company system, and for federal audit authority and oversight of affiliate transactions. As the SEC has long recognized, the current regulatory system imposes significant costs, in direct administrative charges and foregone economies of scale and scope, that often cannot be justified in terms of benefits to utility investors. Acting under authority in the Securities Act of 1933 and the Securities Exchange Act of 1934, the SEC has, over the past six decades, created a comprehensive system of investor protection that obviates the need for many of the specialized provisions of the Holding Company Act. Nonetheless, the Division believes that the Act continues to play a role in protecting energy consumers. Most importantly, the SEC can obtain, audit and oversee a multistate holding company system's books and records, particularly in regard to affiliate transactions. The Division believes past efforts to repeal the Act were unsuccessful largely because they failed to account for the continuing importance of this aspect of the regulatory scheme. In following the option preferred by the Division, Congress would repeal the Holding Company Act, including its limits on financing and geographic and business diversification. At the same time, Congress would enact new provisions to ensure access to books and records required for the effective discharge of a state's regulatory responsibilities and to establish federal audit authority and oversight of intrasystem transactions. The task of carrying out these provisions logically should be given to the federal agency that most directly protects energy consumers, the Federal Energy Regulatory Commission. The Division recommends that even legislation for conditional repeal of the Act incorporate, at a minimum, a one- year transition period to protect the validity of existing activities and contracts of registered holding company systems, and to enable the states to take appropriate action to ensure the continued protection of utility consumers. Unconditional repeal of the Act A second option is unconditional repeal of the Act, with an adequate transition period. Those who favor this option argue that state legislatures have the ability, if they desire, to create legal and regulatory systems that will adequately protect their energy consumers from problems that may arise with the operations of multistate holding companies that would otherwise be subject to federal regulation under the Act. Many state regulators, however, have expressed concern about their ability to protect consumers of multistate holding companies, and they may therefore oppose unconditional repeal. Broader exemptive authority under the Act A third option for Congress to consider is a grant of broader exemptive authority under the Act. The SEC's exemptive authority in this area is considerably narrower than that under other federal securities laws. If Congress were to give the Commission broader authority to exempt holding companies and others from the Act, the SEC could use this authority to exempt holding companies and transactions when state regulation is -------------------- BEGINNING OF PAGE #8 ------------------- adequate. Expanded exemptive authority, however, would not achieve all the economic benefits of some form of repeal, nor would it significantly simplify the federal regulatory structure. Indeed, this option would further enmesh the SEC in difficult issues of energy policy. * * * * * Because it would achieve the benefits of unconditional repeal, and yet would also preserve the ability of states to protect consumers, the Division prefers the conditional repeal option. Of course, the choice among the various legislative options is one that Congress will make. II. Administrative Recommendations The Division recommends that the SEC, pending legislative consideration of the options described above, act administratively to modernize and simplify regulation, reduce the delay inherent in the current administration of the Act, and minimize regulatory overlap, while protecting the interests of consumers and investors. The Division proposes a number of administrative reforms. The major recommendations are summarized below. The SEC should consider rules to broaden exemptions for routine financings. The Division recommends that the SEC adopt amendments to rule 52 under the Holding Company Act to broaden the exemption for routine financings by subsidiaries of registered holding companies. The amendment would exempt the issue and sale of any common stock, preferred stock, bond, note or other form of indebtedness if the financing is solely for the purpose of financing the business of the subsidiary and if, with respect to utility subsidiaries, the relevant state commission has expressly authorized the issue and sale. The amendment also would exempt the acquisition by a parent holding company of securities issued by a subsidiary company pursuant to the rule. The Division further recommends that the SEC amend rule 45(b)(4) to exempt all capital contributions and open account advances, without interest, by a parent company to a subsidiary company. At the same time, the Division recommends that the SEC seek public comment on a further amendment to broaden the application of rule 52 to exempt the issue and sale of any security where the conditions of the rule are met. These amendments would eliminate unnecessary regulatory and paperwork burdens associated with obtaining SEC approval for routine financings. The SEC should liberalize the treatment of financings that are not exempted under rule 52. Although the proposed amendments to rule 52 would exempt most routine financings by subsidiaries of a registered holding company, the rule would not reach financings by the holding company itself, or by utility subsidiaries where the state does not have authority to approve financings. These transactions would thus continue to require SEC approval under the Act. The Division recommends that the SEC approve the use of a "budget approach" for these remaining financing proposals. Under this approach, the SEC would review a single filing outlining a company's anticipated financing requirements for an extended -------------------- BEGINNING OF PAGE #9 ------------------- period of time instead of requiring a separate filing for each proposed financing. The Division also recommends rescission of the SEC's Statements of Policy relating to first mortgage bonds and preferred stock issued by companies in a registered system. The SEC has previously noted that the Statements of Policy, which were formulated by the SEC's staff nearly forty years ago, are "anachronistic" and "no longer relevant to contemporary financial markets." The SEC should avoid unnecessary restraints on utility acquisitions. Although prior SEC approval is generally required for utility acquisitions, these transactions are also subject to FERC, and possibly state, approval. Many commenters have noted, and the Division agrees, that the SEC's review in this area largely duplicates the work of the FERC and state and local regulators. It does not appear, however, given the structure of the statute, that the SEC could readily promulgate a rule that would broadly exempt utility acquisitions from review under the Holding Company Act. The Division recommends that the SEC interpret the geographic and functional integration standards more broadly. Where the affected states agree, the SEC should permit new types of holding company systems, including combination gas and electric registered holding companies. With a view to the proposed disaggregation of the electric utility industry, the SEC should consider rules to exempt a corporate restructuring that does not result in the addition of new utility operations. Further, the SEC should seek to minimize regulatory overlap while continuing to protect the interests of consumers and investors. In this regard, the Division recommends that the SEC continue to work in coordination and consultation with the FERC and state and local regulators and, where appropriate, "watchfully defer" to the work of those regulators. The SEC should consider a rule to reduce the burdens on energy-related diversification. The Division recommends a rule to exempt most energy-related diversification by registered holding companies. Such a rule would deem energy-related diversification to be "appropriate in the ordinary course of business" of a company in a registered system. The rule would apply to certain nonutility activities that the SEC has previously found to satisfy the standards of sections 10 and 11 of the Act, and the SEC could broaden the list of exempted activities by order upon application. Investment under the rule would be limited to the greater of $50 million or fifteen percent of the registered holding company's consolidated capitalization. The rule would also permit, without limit, investments by gas registered holding companies in activities authorized under the Gas Related Activities Act of 1990. This rule should eliminate unnecessary regulatory burdens, while continuing to protect the interests of investors and consumers. The SEC should continue to administer the Act flexibly, in consultation with other regulators, with respect to matters that do not fall under the proposed diversification rule. -------------------- BEGINNING OF PAGE #10 ------------------- The proposed diversification rule described above would exempt a significant number of nonutility acquisitions. The remaining filings are likely to concern either novel activities that should be considered on a case-by-case basis or routine matters that involve nominal amounts of capital. The Division recommends that the SEC endorse the use of a budget approach for the latter "de minimis" investments. Under this approach, a registered holding company could file an application under sections 9(a) and 10 of the Act, requesting authorization for a stated dollar amount to be invested in diversified activities, on an "as needed" basis over a specified period, without the need for prior SEC approval of each specific transaction. The applicant would be required to take steps to ensure that potential losses would be limited to the amount of the investment. With respect to the other diversified activities that will continue to require approval on a case-by-case basis, the Division recommends that the SEC interpret the Act to permit holding companies to engage in nonutility businesses that are economically appropriate and in the public interest, regardless of whether such activities are ancillary to the utility business. The SEC should withdraw its proposal to amend rule 90 concerning affiliate service, sales and construction contracts. The proposed rule amendment, which would have applied a lower-of-cost-or-market standard to intrasystem transactions, has received largely negative comments. The rule was intended to address concerns, raised by the "Ohio Power" decision, that SEC orders may impair the ability of the FERC, and state and local regulators, to protect consumers through traditional ratemaking proceedings. It appears that legislation may be needed to address these concerns. In the interim, the Division recommends that the SEC reaffirm its intention NOT to preempt the ratemaking authority of the FERC or of state and local ratemaking authorities. The SEC should apply more liberal interpretations of the standards for exemption, where the affected states agree. In the past, the SEC has narrowly interpreted the statutory standards for exemption. The Division believes it is appropriate for the SEC to adopt broader readings of the exemptions in consultation with the relevant state commissions. The SEC should direct more Holding Company Act resources to the audit function. The Division recommends that the SEC continue to assist states in obtaining access to books and records, wherever located, if such examination is required for the effective discharge of their responsibilities, and intensify its efforts, in consultation and cooperation with the FERC and state and local regulators, to audit regulated companies. Reduced Number of Applications As a Result of Administrative Reforms (Total Applications Filed in 1993 & 1994: 353) [Pie Chart] -------------------- BEGINNING OF PAGE #11 ------------------- Reduced Number of Applications: 225 (64%) Remaining Applications: 128 (36%) As illustrated above, the proposed administrative reforms should reduce the number of filings under the Act by nearly two- thirds. These reforms should address the pressure points most troubling to the regulated companies, while continuing to protect the interests of investors and consumers. Some commenters have suggested that billions of dollars of savings could result for the regulated companies. To the extent the reforms reduce the demand on SEC resources, the Commission should redirect these resources to the audit function, to assist the FERC and state and local regulators in the continued protection of utility consumers. PART I. OVERVIEW OF LEGISLATION, REGULATION AND TECHNOLOGY I. Energy Utility Expansion and the Public Utility Holding Company Act of 1935 From the end of World War I to the early 1930s, holding companies acquired numerous and widely scattered utility and nonutility properties throughout the United States and abroad.-[1]- This was a period of intense growth in the electric and gas industry. In the electric industry, generating capacity approximately doubled every five years between 1902 and 1927. Similar but less spectacular growth occurred in the gas industry, most notably after 1925, due to the construction of major interstate pipelines.-[2]- During this period, holding company expansion was also encouraged by investment bankers, who saw opportunities for profits and commissions from the sale of securities, and by promoters, who saw opportunities for increased fees. The holding company structure permitted these persons to concentrate control of vast utility empires in a few hands, which led to deception of -------- FOOTNOTES -------- -[1]- In 1935, an electric utility system generally included local generation, transmission and distribution facilities. The first electric generating plants and distribution systems in the United States were built in major cities. Edwin Vennard, The Electric Power Business 42 (2d ed. 1970). When the Public Utility Holding Company Act of 1935 ("Holding Company Act" or "Act") was passed, power plants were relatively small and isolated, and there was no economical way to transmit power over any great distance. See id. Large portions of the country were wholly without electricity. In 1923, only 177,561 out of a total of 6,341,000 farms in the United States, or 2.8 percent, received central station electric service. By 1935, over 90 percent of farms still lacked central station electric service. -[2]- Irston R. Barnes, The Economics of Public Utility Regulation 28-32 (1942). When the Holding Company Act was passed, most of the retail gas supplied in large parts of the nation was manufactured. Because the process of reducing coal to coke had become increasingly expensive, many smaller gas plants were closed and even metropolitan gas utilities became unprofitable. The construction of major interstate pipelines in the 1930s and 1940s resulted in an almost universal substitution of natural gas service, or propane gas distribution in areas inaccessible to the pipelines. -------------------- BEGINNING OF PAGE #12 ------------------- investors, excessive rates for consumers, and obstruction of state utility regulation.-[3]- The multistate character of the holding companies prevented effective control by state regulators.-[4]- Between 1900 and 1935, the U.S. Supreme Court struck down many state efforts to undertake economic regulation on grounds of interference with contract and property interests.-[5]- In addition, states were unable to regulate matters, such as the activities of multistate holding companies, that had a "direct" effect on interstate commerce.-[6]- -------- FOOTNOTES -------- -[3]- See Federal Trade Commission, Report on Utility Corporations, S. Doc. No. 92, 70th Cong., 1st Sess. (1928-1935) (in 101 volumes) (hereinafter referred to as "FTC Report"); id., pt. 72-A at 136-155. See generally James C. Bonbright and Gardiner C. Means, The Holding Company: Its Public Significance and Its Regulation 1-54, 149-99 (1932). Most often, minority control was achieved by the purchase of voting control in a top holding company that raised capital primarily by the sale of bonds or nonvoting preferred stock. To control an entire holding company system, the top holding company would buy a majority voting interest in a series of subholding companies, each of which also would be capitalized largely through the sale of bonds or nonvoting stock. The subholding companies would in turn own voting control in the utility operating companies. Through such pyramiding of control, five public-utility holding company systems were controlled in 1931 by the holders of common stock worth less than one percent of the entire system's assets. See Joel Seligman, The Transformation of Wall Street: A History of the Securities and Exchange Commission and Modern Corporate Finance 128 (1982); FTC Report, pt. 72-A at 154-66. -[4]- In addition, state regulation of utilities was still in its infancy in 1935. The first generation of modern state utility commission statutes had been enacted only 15 to 25 years earlier, and not all states had established statewide utility commissions. -[5]- See, e.g., Lochner v. New York, 198 U.S. 45 (1905). By 1935, the Court had invalidated nearly 200 laws regulating economic activity on "substantive due process" grounds. See also Laurence H. Tribe, American Constitutional Law 8-2 at 567-68 (2d ed. 1988). -[6]- See, e.g., Smith v. Illinois Bell Tel. Co., 282 U.S. 133 (1930); Missouri ex rel. Barrett v. Kansas Natural Gas Co., 265 U.S. 298 (1924); Public Util. Comm'n of Kan. v. Landon, 249 U.S. 236, vacated and remanded without opinion, 249 U.S. 590 (1919); Minnesota Rate Cases, 230 U.S. 352 (1913). For a discussion of subsequent cases signalling a shift in judicial interpretation of the Commerce Clause and substantive due process, see note 139 below and accompanying text. In the area of power transactions, including transactions between affiliated companies, the Supreme Court created a bright- line wholesale/retail rule dividing permissible state regulation (retail-level regulation) from impermissible state regulation (wholesale-level regulation). The rule was devised in two cases involving natural gas. See Missouri ex rel. Barrett v. Kansas Natural Gas Co., 265 U.S. 298 (1924); Public Util. Comm'n of Kan. v. Landon, 249 U.S. 236, vacated and remanded without opinion, 249 U.S. 590 (1919). The Court applied the rule to electric utilities in 1927. Public Util. Comm'n of R.I. v. Attleboro Steam & Elec. Co., 273 U.S. 83 (1927), overruled in part, Arkansas Elec. Coop. v. Arkansas Pub. Serv. Comm'n, 461 U.S. 375, 390-96 (1983). -------------------- BEGINNING OF PAGE #13 ------------------- Federal regulation of utilities was largely nonexistent.-[7]- The vast size of public-utility holding companies and the increased concentration of control over the nation's electric power aroused concern at the federal and state government levels.-[8]- II. Background Studies and Enactment of the Holding Company Act Extensive factual studies preceded enactment of the Holding Company Act.-[9]- Pursuant to a 1928 resolution of the Senate, the Federal Trade Commission undertook a study of the public- utility industry that spanned 7 years and ultimately comprised 101 volumes.-[10]- The House Interstate and Foreign Commerce Committee conducted a second study from 1933 to 1935.-[11]- These studies documented a pattern of widespread abuses that were detrimental to both investors and consumers.-[12]- The studies found "a number of almost inherent incidental abuses in the holding-company system which cannot be reached by direct -------- FOOTNOTES -------- -[7]- The Federal Water Power Act of 1920 originally established the Federal Power Commission, but its functions were limited to the licensing of hydroelectric projects and related matters, and did not include general authority over electric power transactions in interstate commerce. See Federal Water Power Act, Pub. L. No. 66-280, 41 Stat. 1063-77 (1920); Richard Lowitt, Federal Power Commission, in Government Agencies 233, 234 (Donald R. Whitnah ed., 1983). When the Holding Company Act was passed, jurisdiction over holding companies consisted largely of indirect regulation under the Securities Act of 1933, 15 U.S.C. 77a et seq. ("Securities Act"), and the Securities Exchange Act of 1934, 15 U.S.C. 78a et seq. ("Exchange Act"). -[8]- During the period 1929-1932, for example, 16 major holding company systems produced 76.4 percent of the electric energy generated by privately-owned utility plants, and three systems produced 44.5 percent of the electric output. See FTC Report, pt. 72-A at 37. In addition, four holding company systems controlled more than 56 percent of the total natural gas pipeline mileage and 15 holding companies controlled over 80 percent. Id. at 46 (Table 14). See generally Charles F. Phillips, Jr., The Regulation of Public Utilities: Theory and Practice (2d ed. 1993). -[9]- Pub. L. No. 74-333, 49 Stat. 803 (1935) (codified as amended at 15 U.S.C. 79a et seq.). -[10]- FTC Report; S. Res. 83, 70th Cong., 1st Sess. (1928). -[11]- Report on the Relation of Holding Companies in Power and Gas Affecting Control, H.R. Rep. No. 827, 73d Cong., 2d Sess. (6 Vol. 1933-35) (undertaken pursuant to H.R. Res. 59, 72d Cong., 1st Sess. (1932) and H.J. Res. 572, 72d Cong., 2d Sess. (1933)). -[12]- The FTC Report listed nineteen general categories of abuses. These included: the issuance of securities to the public that were based on unsound asset values or on paper profits from intercompany transactions; the extension of holding company ownership to disparate, nonintegrated operating utilities throughout the country without regard to economic efficiency or coordination of management; the mismanagement and exploitation of operating subsidiaries of holding companies through excessive service charges, excessive common stock dividends, upstream loans and an excessive proportion of senior securities; and the use of the holding company to evade state regulation. FTC Report, pt. 73-A at 62. -------------------- BEGINNING OF PAGE #14 ------------------- regulation of the operating company,"-[13]- and concluded that "[t]he only practical control over public-utility holding companies will be one which can directly reach the holding company itself and supervise its security structure and its use of capital . . . . Only in that way can Government protect the investors who supply that capital and the consumers who must bear its cost."-[14]- These studies formed the factual basis for the Holding Company Act and are expressly cited in section 1(b), which sets forth the abuses addressed by the statute.-[15]- These conditions and practices had a disastrous effect upon the investing public. A principal consequence of financing public-utility systems with large proportions of debt securities was a significant increase in the risk of business failure, because the fixed interest charges on debt securities must be paid, regardless of the earnings of the utility. Excessive debt- to-equity ratios contributed to the bankruptcies of 53 holding companies during the 1929-1936 period.-[16]- Twenty-three additional holding companies with publicly held securities exceeding $530 million offered readjustment or extension plans after defaulting on interest payments.-[17]- Investors in the holding companies lost millions of dollars. Investors in the operating company subsidiaries of the holding companies also suffered large losses.-[18]- -------- FOOTNOTES -------- -[13]- FTC Report, pt. 73-A at 3 ("For example, no matter how strict the regulation of an operating company, improper payments of dividends and of other items still can be made by the holding company out of surplus other than earned surplus. Excessive capital issues can be floated by the holding company, with an important indirect effect upon rates charged by the operating company to the public."). -[14]- Report of National Power Policy Committee on Public- Utility Holding Companies, S. Doc. No. 137, 74th Cong., 1st Sess. 8 (1935) (hereinafter referred to as "Report of Power Committee"). -[15]- Holding Company Act section 1(b). The United States Supreme Court has noted that the congressional findings as to the abuses listed in section 1(b) were based on some of the most exhaustive and comprehensive studies ever to underlie a federal statute. North American Co. v. SEC, 327 U.S. 686, 701 n.11 (1946) (upholding the constitutionality of section 11(b)(1) of the Act). -[16]- Twentieth Century Fund, Electric Power and Government Policy: A Survey of the Relations Between the Government and the Electric Power Industry 35-36 (1948); Study of Operations Pursuant to the Public Utility Holding Company Act of 1935: Hearings before the Securities Subcommittee of the House of Representatives Committee on Interstate and Foreign Commerce, 79th Cong., 2d Sess., pt. 3 at 851 (1946) (hereinafter referred to as "Study of Operations"). The aggregate capitalizations of these holding companies represented by their outstanding securities in the hands of the public totalled over $1.6 billion. Study of Operations at 851. -[17]- At the end of 1938, the year in which most of the holding companies registered under the Act, the public held approximately $2 billion of registered holding company preferred stock (on an involuntary liquidating basis), of which more than half were in arrears. Total arrearage as of that date was approximately $282 million. Id. -[18]- See Report of Power Committee at 4-12. From 1929 to 1936, 36 utilities with outstanding publicly held securities of $345 (continued...) -------------------- BEGINNING OF PAGE #15 ------------------- The FTC Report emphasized the unsound accounting techniques employed by holding companies. The study revealed that the combined capital assets of the 151 firms studied were written up by $1.4 billion to inflate earnings and justify dividends. Holding companies further increased their profits by providing engineering, construction, accounting and managerial services to utility operating companies, in some instances exacting profits ranging from 50 percent to over 300 percent of the actual cost of such services. The appearance of even larger profits was created by unsound accounting methods such as inadequate recognition of depreciation expenses for physical assets, recognition of income from the undistributed earnings of subsidiaries, and recognition of income from the sale of properties to controlled subsidiaries at amounts higher than market values.-[19]- As part of the New Deal, President Roosevelt, an advocate of holding company abolition, created the National Power Policy Committee in 1934 to formulate legislative proposals. Shortly before the release of the FTC Report, the committee recommended to Congress the practical abolition of most holding companies. It recommended legislation directing a federal administrative commission to oversee "the elimination of unnecessary corporate complexities and of properties which do not fit into an economically and geographically integrated whole." The committee also recommended that a federal administrative agency undertake the following responsibilities: supervise the issuance of securities by utilities and the acquisition of new securities and properties; prevent holding companies from owning nonutility ventures; prevent electric utility and interstate gas transmission or production firms from being commonly owned; and police holding company service, sales and construction arrangements to ensure that controlled operating companies receive work performed at cost.-[20]- Once the underlying studies were completed, passage of the Holding Company Act was relatively expeditious. Introduction, hearings, debate, consideration and enactment were completed in less than seven months. Despite the speed of passage, however, industry opposition was formidable.-[21]- Substantially similar bills were introduced on February 6, 1935 by Senator Wheeler and Congressman Rayburn, and were -------- FOOTNOTES -------- -[18]-(...continued) million went into bankruptcy or receivership. Sixteen additional companies with $154 million of outstanding publicly held securities offered readjustment or extension plans after defaulting on interest payments. Public investors, with investments in utility preferred stocks totalling approximately $1.5 billion at the end of 1938, also suffered seriously. Mismanagement and exploitation by holding companies through excessive service charges, excessive common stock dividends, upstream loans, and an excessive proportion of senior securities, were among the factors which led to an accumulation of arrears at the end of 1938 of $90 million on preferred stocks of the face amount of $412 million. Study of Operations at 851. -[19]- FTC Report, pt. 72-A at 496-515. -[20]- Report of Power Committee at 8-12. -[21]- One historian has described the events preceding the Act as "the most bitter legislative battle of [President] Roosevelt's first term." Michael E. Parrish, Securities Regulation and the New Deal 145 (1970). -------------------- BEGINNING OF PAGE #16 ------------------- referred to committees.-[22]- After the House and Senate held hearings,-[23]- the Senate committee reported a substitute bill, which the Senate passed with minor amendments.-[24]- Especially controversial was the provision for the integration and reorganization of public-utility holding companies, the so- called "death sentence" provision.-[25]- The House Committee made extensive changes to the bill that would have preserved the holding company systems virtually as they existed and merely subjected them to regulation.-[26]- The House of Representatives approved the committee's new version. The bills were sent to conference for reconciliation of the contrasting approaches.-[27]- The compromise reached among the Senate, House of Representatives and the President mandated the integration of public-utility operations of registered holding companies, with an allowance for the ownership of additional integrated systems under certain circumstances.-[28]- President Roosevelt signed the Act into law on August 26, 1935. II. Major Provisions of the Holding Company Act Congress entrusted the SEC, the agency with expertise in financial transactions and corporate finance, with administration of the Holding Company Act.-[29]- The major features of the Holding Company Act as enacted in 1935 are outlined below: * Registration. All holding companies must either register under section 5 of the Act or seek an exemption from the Act's provisions. -------- FOOTNOTES -------- -[22]- S. 1725, 74th Cong., 1st Sess. (1935); H.R. 5423, 74th Cong., 1st Sess. (1935). -[23]- See Public Utility Holding Companies: Hearings on H.R. 5423 Before the House of Representatives Committee on Interstate and Foreign Commerce, 74th Cong., 1st Sess. (1935); Public Utility Holding Company Act of 1935: Hearings on S. 1725 Before the Senate Committee on Interstate Commerce, 74th Cong., 1st Sess. (1935). See generally Edward T. Bullock and Otto J. Wieland, Guide and Index to the Hearings on the Public Utility Act of 1935: A Cyclopedia on the Electric Light and Power, and Gas Industries (1935). -[24]- See S. 2796, 74th Cong., 1st Sess. (1935); S. Rep. No. 621, 74th Cong., 1st Sess. (1935) (Report of Senator Wheeler from the Committee on Interstate Commerce) (hereinafter referred to as "Senate Report"). -[25]- See James C. Bonbright, Public Utilities and the National Power Policies 36-37 (1940). -[26]- H.R. Rep. No. 1318, 74th Cong., 1st Sess. (1935) (hereinafter referred to as "House Report"); Commonwealth & Southern Corp., 11 S.E.C. 369, 377 (1942). -[27]- H.R. Rep. No. 1903, 74th Cong., 1st Sess. (1935). -[28]- The basic integration provision appears in section 11 of the Act, and the definition of an "integrated public-utility system" appears in section 2(a)(29) of the Act. The compromise also authorized the SEC to permit the retention of nonutility businesses if the SEC finds such retention "necessary or appropriate in the public interest or for the protection of investors or consumers and not detrimental to the proper functioning" of the holding company system. Holding Company Act section 11(b)(1). For a description of the arguments raised in connection with the conditions for allowing holding companies to continue to exist, see Parrish, note 21 above, at 145-78. -[29]- See Arcadia, Ohio v. Ohio Power Co., 498 U.S. 73, 87 (1990) (Stevens, J., concurring). -------------------- BEGINNING OF PAGE #17 ------------------- * Definitions. A "holding company" is generally a company that owns ten percent or more of the voting stock of a "public-utility company."-[30]- A "public-utility company" is an electric or gas utility company.-[31]- An "electric utility company" is generally a company that owns or operates facilities used to generate, transmit or distribute electric energy for sale.-[32]- A "gas utility company" is generally a company that owns or operates facilities used to distribute gas at retail.-[33]- * Exemptions. The SEC must exempt holding companies that meet any of five defined categories, unless it finds the exemption "detrimental to the public interest or the interest of investors or consumers." These categories encompass any holding company that (1) operates predominantly within a single state; (2) is predominantly an operating public-utility company and operates in a single state and contiguous states; (3) is primarily not in the public-utility business; (4) is only temporarily a holding company; or (5) is not principally a public-utility business within the United States.-[34]- Other sections of the Act provide more limited exemptive relief.-[35]- * Integration and Simplification. Section 11 requires the integration and simplification of holding company systems. Section 11(b)(1) requires that each registered holding company be limited to a single "integrated public-utility system," i.e., a group of related operating properties within a confined geographic region susceptible to local management.-[36]- Nonutility businesses can be acquired and retained only if they are "reasonably incidental, or economically necessary or appropriate" to the operations of the integrated public-utility system.-[37]- Section -------- FOOTNOTES -------- -[30]- Holding Company Act section 2(a)(7). The SEC has limited authority under this section to declare a company not to be a "holding company." -[31]- Holding Company Act section 2(a)(5). -[32]- Holding Company Act section 2(a)(3). -[33]- Holding Company Act section 2(a)(4). Other defined terms include "subsidiary company" (Holding Company Act section 2(a)(8) (generally a company in which a holding company owns at least ten percent of the outstanding voting securities)) and "affiliate" (Holding Company Act section 2(a)(11)). -[34]- Holding Company Act section 3(a). -[35]- See, e.g., Holding Company Act sections 3(b), 3(d), 6(b), 9(b), 9(c), 10(c)(2) and 13(b). -[36]- Holding Company Act section 2(a)(29). Section 11 authorizes the SEC to permit a registered holding company to control one or more additional integrated public-utility systems if it determines that certain economies justify the control, the systems are located in adjoining states or in a contiguous foreign country, and the combination of systems will not impair management, regulation, or efficient operation. Holding Company Act sections 11(b)(1)(A) - (C). -[37]- Holding Company Act section 11(b)(1). As discussed further in Part II, Chapter 3, the quoted language has been interpreted by the SEC and the federal courts to mean nonutility businesses that are "functionally related" to the utility business. See Michigan Consolidated Gas Co. v. SEC, 444 F.2d 913 (D.C. Cir. 1971); In re North American Co., 11 S.E.C. 194 (continued...) -------------------- BEGINNING OF PAGE #18 ------------------- 11(b)(2) requires the elimination of unnecessary corporate complexities and inequitable voting power among security holders. * Issuance and Acquisition of Securities and Assets. Section 7 of the Act prescribes standards for the type and amount of securities for the registered holding company and its subsidiaries. In particular, section 7(d) requires that a security be reasonably adapted to the earning power of the issuing company and to the capital structure of the company and the holding-company system. Registered holding companies and their subsidiaries must also obtain SEC approval before acquiring any securities, utility assets, or any other interest in any business.-[38]- * Utility Acquisitions. Any person (including an exempt holding company) who is an affiliate of a holding company or of a public-utility company, must obtain SEC approval before it becomes an affiliate of another public-utility company.-[39]- * Service Company Regulation. Service, sales and construction contracts between system service companies and associate companies in the same holding company system must be performed "economically and efficiently for the benefit of such associate companies at cost, fairly and equitably allocated among such companies."-[40]- * Other Affiliate Transactions. Registered holding companies may not borrow or receive any extension of credit or indemnity from any system public-utility company (i.e. "upstream loans").-[41]- The SEC also has rulemaking authority over other types of affiliate transactions such as intra-system loans;-[42]- declaration and payment of dividends;-[43]- acquisition, retirement or redemption of a company's own securities;-[44]- disposal of assets and securities;-[45]- solicitation of proxies in connection with holding company and subsidiary company securities;-[46]- and books, records, disclosures of interest, duration of contracts, and similar matters concerning affiliate transactions.-[47]- * Coordination with State Regulatory Authorities. A major purpose of the Holding Company Act was to facilitate state regulation.-[48]- Section 6(b), for example, exempts the -------- FOOTNOTES -------- -[37]-(...continued) (1942), aff'd, 133 F.2d 148 (2d Cir. 1943), aff'd, 327 U.S. 686 (1946). -[38]- Holding Company Act sections 9(a)(1) and 10. -[39]- Holding Company Act section 9(a)(2). -[40]- Holding Company Act section 13(b). -[41]- Holding Company Act section 12(a). -[42]- Holding Company Act section 12(b). -[43]- Holding Company Act section 12(c). -[44]- Id. -[45]- Holding Company Act section 12(d). -[46]- Holding Company Act section 12(e). -[47]- Holding Company Act section 12(f). -[48]- In characterizing section 11 as "the very heart of the title," the Senate Report noted that the purpose of that section "is simply to provide a mechanism to create conditions under (continued...) -------------------- BEGINNING OF PAGE #19 ------------------- issuance of certain securities by subsidiary companies if approved by a state commission, subject to the SEC's authority to impose additional terms and conditions. Section 9(b) also exempts certain security and utility asset acquisitions from the provisions of section 10 where approved by a state commission. In addition, the SEC may not authorize the issuance of securities or the acquisition of assets unless the applicant has complied with state laws.-[49]- B. Developments in the Technology and Regulation of Electric and Gas Utilities After 1935 Since enactment of the Holding Company Act, change has been the most consistent feature of the technology and regulation of electric and gas utilities. Over the past sixty years, the methods of providing energy services have changed dramatically, and federal and state governmental regulation has evolved during the same period, both in response to technological advances and as a result of enhanced regulatory expertise. This section discusses the key developments in technology and regulation. 1. Electricity Electricity is a unique industrial product. Although it may be generated in a variety of ways and transmitted over long distances, it may not, under current technology, be stored feasibly or accessed even a short time after its creation.-[50]- Thus, the history of electricity during much of the twentieth century has revolved around the development of facilities designed to provide sufficient electricity to meet the growing demand for power. More recently, advances in the technology of generation, the benefits of pooling electricity in geographic regions, and the ability to reduce or modify demand for electricity, have caused a shift in emphasis from growth and expansion to coordinated development and industrial restructuring. a. The Federal Power Act The Holding Company Act was Title I of the Public Utility Act of 1935. Title II contained the Federal Power Act -------- FOOTNOTES -------- -[48]-(...continued) which effective Federal and State regulation will be possible." Senate Report at 11. -[49]- Other sections of the Act that refer to state law include section 8, which relates to the ownership of electric and gas utility properties in violation of state law, and section 20(b), which requires that accounting standards established by the SEC not be inconsistent with state law. See also Holding Company Act section 18 (availability of SEC investigatory powers and information to state authorities); Holding Company Act section 19 (admission of state and local regulatory authorities to SEC proceedings); Holding Company Act section 33 (conditioning foreign utility company exemption on state certification). -[50]- See Donald F. Santa, Jr. and Clifford S. Sikora, Open Access and Transition Costs: Will the Electric Industry Transition Track the Natural Gas Industry Restructuring?, 15 Energy L.J. 273 (1994). For a discussion of attempts to create electrical storage devices, see David L. Douglas and James R. Birk, Secondary Batteries For Electrical Energy Storage, 5 Ann. Rev. Energy 61-89 (1980). -------------------- BEGINNING OF PAGE #20 ------------------- ("FPA"),-[51]- which established federal regulation of the rates, practices and operations of electric utilities operating in interstate commerce.-[52]- Congress enacted the Holding Company Act to prevent financial abuses among public-utility holding companies and their affiliates. It entrusted the SEC, the agency with expertise in financial transactions and corporate finance, with the task of administering the Act, primarily through monitoring affiliate transactions and eliminating potential conflicts of interest. Congress enacted the Federal Power Act to regulate the wholesale interstate sale and distribution of electricity. It entrusted administration of the FPA to the Federal Power Commission, ("FPC"), which is now the Federal Energy Regulatory Commission ("FERC")-[53]-, as the agency with the technical expertise required to regulate energy transmission.-[54]- The Federal Power Act responded to a gap in state regulation of utility rates and services that arose from a 1927 Supreme Court decision that interstate wholesale sales of electricity were beyond the reach of state regulation.-[55]- The major provisions of the FPA as enacted in 1935 are outlined below: * Jurisdiction. Congress gave the FERC jurisdiction over the transmission of electricity in interstate commerce and the sale of electricity at wholesale in interstate commerce. It also gave the FERC jurisdiction over all facilities for such transmission or sale of electricity, but not over facilities (1) used for the generation of electricity, (2) used in local distribution or only for the transmission of electricity in intrastate commerce, or (3) for the transmission of electricity "consumed wholly by the transmitter."-[56]- Jurisdiction over retail sales is left to the states.-[57]- -------- FOOTNOTES -------- -[51]- The remainder of the Public Utility Act consisted of amendments to the Federal Water Power Act. -[52]- Pub. L. No. 74-333, 49 Stat. 838 (1935) (codified as amended at 16 U.S.C. 791a - 828c). The Public Utility Holding Company Act was enacted as Title I of the legislation. Pub. L. No. 74-333, 49 Stat. 803 (1935). -[53]- In 1977, the regulatory responsibilities of the FPC were transferred to the FERC, an independent regulatory commission located within the Department of Energy. For convenience, references to the FPC have been changed to the FERC, including those before 1977. -[54]- See Arcadia, Ohio v. Ohio Power Co., 498 U.S. 73, 87-88 (1990) (Stevens, J., concurring); Northeast Utils., Holding Co. Act Release No. 25273 (Mar. 15, 1991), pet. for review denied sub nom. City of Holyoke Gas & Elec. Dept. v. SEC, 972 F.2d 358 (D.C. Cir. 1992). -[55]- Public Util. Comm'n of R.I. v. Attleboro Steam & Elec. Co., 273 U.S. 83, 86-90 (1927), overruled in part, Arkansas Elec. Coop. v. Arkansas Pub. Serv. Comm'n, 461 U.S. 375, 390-96 (1983). See New Eng. Power Co. v. New Hampshire, 455 U.S. 331, 340 (1982). See generally Robert D. Baum, The Federal Power Commission and State Public Utility Regulation 2 (1942); Note, Federal Regulation of Holding Companies: The Public Utility Act of 1935, 45 Yale L.J. 468 (1936). -[56]- Federal Power Act section 201(b), 16 U.S.C. 824(b). -[57]- Federal Power Act section 201(a), 16 U.S.C. 824(a). See also Pacific Gas & Elec. Co. v. State Energy Resources Conservation and Dev. Comm'n, 461 U.S. 190, 205 (1983). -------------------- BEGINNING OF PAGE #21 ------------------- * Just and Reasonable Rates. The FPA requires that all rates and charges by public utilities in connection with the transmission and sale of electricity subject to the FERC's jurisdiction be "just and reasonable."-[58]- All such public utilities must file with the FERC "rates and charges for any transmission or sale subject to the jurisdiction of the [FERC], and the classifications, practices, and regulations affecting such rates and charges," as well as contracts that "in any manner affect or relate to such rates, charges, classifications, and services."-[59]- * Discrimination Prohibited. The FPA (1) prohibits public utilities from making or granting "any undue preference or advantage to any person" and from subjecting any person to "any undue prejudice or disadvantage," and (2) prohibits public utilities from maintaining any "unreasonable difference in rates, charges, service, facilities, or in any other respect, either as between localities or as between classes of service."-[60]- * Authority to Modify Rates and Terms. The FPA authorizes the FERC and other parties to initiate actions to modify any rate, charge, classification, rule, regulation, practice, or contract that is unjust, unreasonable, unduly discriminatory, or preferential.-[61]- * Prior Approval of Mergers and Securities Issuances. The FPA prohibits public utilities from selling, leasing, merging or consolidating jurisdictional facilities, and from buying or acquiring securities of other public utilities, without obtaining FERC approval in advance.-[62]- The FPA also prohibits public utilities from issuing any security or assuming any obligation or liability as guarantor, endorser or surety, without obtaining FERC approval in advance.-[63]- This authority over securities and assumptions of obligations, however, does not apply to public utilities organized and operating in states in which the state commission regulates security issuances.-[64]- The FPA also recognized that problems might arise with overlapping jurisdiction with the SEC. Section 318 generally provides that, for certain specified matters, if a person is subject both to a requirement of the Federal Power Act (or rule or order thereunder) and to a requirement of the Holding Company -------- FOOTNOTES -------- -[58]- Federal Power Act section 205(a), 16 U.S.C. 824d(a). -[59]- Federal Power Act section 205(c), 16 U.S.C. 824d(c). -[60]- Federal Power Act section 205(b), 16 U.S.C. 824d(b). -[61]- Federal Power Act section 206(a), 16 U.S.C. 824e(a). This authority, as enacted in 1935, authorized the FERC to make such modifications prospectively, only after issuance of a final order. See Michael E. Small, A Guide to FERC Regulation and Ratemaking of Electric Utilities and Other Power Suppliers 15 (3d ed. 1994). -[62]- Federal Power Act section 203(a), 16 U.S.C. 824b(a). -[63]- Federal Power Act section 204(a), 16 U.S.C. 824c(a). If a security issuance is approved, the FPA permits the public utility to file with the SEC duplicate copies of reports filed with the FERC in lieu of reports, information, and documents required under section 7 of the Securities Act and sections 12 and 13 of the Securities Exchange Act. Federal Power Act section 204(h), 16 U.S.C. 824c(h). -[64]- Federal Power Act section 204(f), 16 U.S.C. 824c(f). -------------------- BEGINNING OF PAGE #22 ------------------- Act (or rule or order thereunder), the Holding Company Act requirement will apply.-[65]- Like the Holding Company Act, many of the provisions of the Federal Power Act are designed to supplement state jurisdiction and to ensure the effectiveness of state regulation. For example, the FPA requires the FERC to "make available to the several State commissions such information and reports as may be of assistance in State regulation of public utilities" and to make rate, valuation and other experts from the FERC available to the states as witnesses.-[66]- In addition, the FPA requires the FERC to notify the states concerning certain events, such as an application for the transfer of jurisdictional assets,-[67]- and before taking certain other actions.-[68]- Finally, the FPA -------- FOOTNOTES -------- -[65]- Federal Power Act section 318, 16 U.S.C. 825q. The entire text of section 318 provides: If, with respect to the issue, sale, or guaranty of a security, or assumption of obligation or liability in respect of a security, the method of keeping accounts, the filing of reports, or the acquisition or disposition of any security, capital assets, facilities, or any other subject matter, any person is subject both to a requirement of the Public Utility Holding Company Act of 1935 or of a rule, regulation, or order thereunder and to a requirement of [the Federal Power Act], or of a rule, regulation, or order thereunder, the requirement of the Public Utility Holding Company Act of 1935 shall apply to such person, and such person shall not be subject to the requirement of this Act, or of any rule, regulation, or order thereunder, with respect to the same subject matter, unless the Securities and Exchange Commission has exempted such person from such requirement of the Public Utility Holding Company Act of 1935, in which case the requirements of this Act shall apply to such person. The Supreme Court has interpreted the phrase "any other subject matter" in section 318 to refer to matters related to the acquisition or disposition of securities, capital assets, or facilities. See Arcadia, Ohio v. Ohio Power Co., 498 U.S. 73 (1990). -[66]- Federal Power Act section 209(c), 16 U.S.C. 824h(c). In addition, with respect to certain exempt wholesale generators and affiliated holding companies, the Federal Power Act provides state commissions with access to books, accounts, memoranda, contracts and records wherever such documents may be located, in order to ensure "the effective discharge of the State commission's regulatory responsibilities affecting the provision of electric service." Federal Power Act section 201(g), 16 U.S.C. 824(g). -[67]- Federal Power Act section 203(a), 16 U.S.C. 824b(a). -[68]- See, e.g., Federal Power Act section 202(a), 16 U.S.C. 824a(a) (before establishment of districts for the promotion of interconnection and coordination of electric utilities, the FERC "shall give notice to the State commission of each State situated wholly or in part within such district, and shall afford each such State commission reasonable opportunity to present its views and recommendations, and shall receive and consider such views and recommendations"). If a hearing is held, the Federal Power (continued...) -------------------- BEGINNING OF PAGE #23 ------------------- authorizes the FERC to coordinate joint action and cooperative efforts with state regulators.-[69]- b. Expansion of the Electric Utility Industry The Holding Company Act was part of a broader governmental strategy designed to encourage the provision of electricity to remote and underdeveloped areas of the country.-[70]- The Roosevelt Administration, for example, promoted the widespread development of hydroelectric power. The Tennessee Valley Authority ("TVA") Act of 1933-[71]- established a federal agency to oversee the construction of hydroelectric facilities along the Tennessee River Valley,-[72]- and over the next several decades the TVA built and sold cheap electric power from 32 major dams whose capacity totalled over 6000 megawatts. From the 1930s to the early 1960s, the federal government promoted the construction of large dams for the generation of inexpensive electricity.-[73]- Government agencies were established to sell electric power from dams constructed with government oversight and funds.-[74]- By 1990, hydroelectric facilities generated about 10 percent of the 22.8 trillion kilowatt hours of electricity generated in the United States. -------- FOOTNOTES -------- -[68]-(...continued) Act authorizes the FERC to admit any interested state, state commission, or municipality as a party, as well as any representatives of interested consumers or security holders, competitors and others. Federal Power Act section 308(a), 16 U.S.C. 825g(a). -[69]- See Federal Power Act section 206(d), 16 U.S.C. 824e(d) (authorizing FERC to investigate and determine production and transmission costs for electricity from jurisdictional facilities upon request of any state commission in cases where FERC has no authority to establish a rate governing the sale of such electricity). See also Federal Power Act section 207, 16 U.S.C. 824f (directing FERC to ensure adequacy of any public utility's interstate service "upon complaint of a State commission, after notice to each State commission . . . affected."). -[70]- See Don E. Kash and Robert W. Rycroft, U.S. Energy Policy: Crisis and Complacency 68-69 (1984); Parrish, note 21 above, at 160-61 (1970). As a practical matter, the integration requirement of section 11 had the secondary effect of encouraging universal service through the build-out of a system's service territory and the spread of electrification to contiguous unelectrified areas, thereby complementing the work of the Tennessee Valley Authority, the Rural Electrification Administration, and the Bonneville Power Administration. -[71]- 48 Stat. 58 (1933). -[72]- See Tennessee Elec. Power Co. v. TVA, 306 U.S. 118, 134 (1939). -[73]- For example, the U.S. Army Corps of Engineers built eight major dams along the Cumberland River Valley. The Bureau of Reclamation of the U.S. Department of the Interior initiated the construction of the massive Hoover Dam in the Boulder River Canyon. -[74]- The Bonneville Power Administration, for example, was created to sell electric power from the Bonneville Dam, the Grand Coulee Dam, and other dams constructed along the Columbia River in the Northwest. See generally Bonneville Project Authority Act of 1937, 50 Stat. 731 (codified at 16 U.S.C. 832 et seq.); Aluminum Co. of Am. v. Central Lincoln Peoples' Util. Dist., 467 U.S. 380 (1984). -------------------- BEGINNING OF PAGE #24 ------------------- The Rural Electrification Act of 1936-[75]- also promoted the expansion of electric power transmission and distribution to rural residents through low-interest government loans.-[76]- In part as a result of these efforts, electric power consumption in the United States doubled every decade between 1935 and 1970, and the years after the Great Depression witnessed the expansion of electric facilities across the United States. Until the late 1960s, the electric utility industry grew 7 percent annually.-[77]- During this period, the cost of supplying electricity declined dramatically, from 4 dollars per kilowatt-hour for U.S. consumers in 1892 to 60 cents in 1930 to only 7 cents in 1970.-[78]- The economic boom that followed World War II also contributed to the surge in consumption. Among other things, the post-war focus of American industry in the 1950s shifted toward the production of household electric appliances and other devices that increased consumption. The increase in electric power consumption required new technologies for its generation, transmission and distribution. In the 1960s, an emphasis on nuclear power replaced the earlier emphasis on hydroelectric power. Nuclear power offered the promise of abundant electricity "too cheap to meter," and Congress allowed private commercial development of nuclear power in the Atomic Energy Act of 1954.-[79]- The first commercial nuclear power plant began operation in 1957. In 1970, nuclear power accounted for only 1 percent of all electric power generated in the United States. By 1980, it accounted for 11 percent, and by 1994 it accounted for nearly 22 percent -- more than double the amount of electricity generated in hydroelectric facilities.-[80]- In the mid-1960s the northeastern United States experienced two electric power failures that led to the creation of formal and informal power pools, which were designed to coordinate the planning and operation of power facilities. Interconnections of electric systems, along with the development of high-voltage transmission lines, allowed the transmission of periodic surpluses of electric power to areas that might experience periodic shortages. Some power pools also provided for centralized dispatch-[81]- of electricity and penalties to -------- FOOTNOTES -------- -[75]- 49 Stat. 1363 (1936) (codified at 7 U.S.C. 901 et seq.). -[76]- See Tri-State Generation & Transmission Ass'n, Inc. v. Shoshone River Power, Inc., 874 F.2d 1346, 1348 (10th Cir. 1989). -[77]- Phillips, note 8 above, at 623. -[78]- Christopher Flavin and Nicholas Lenssen, Power Surge: Guide to the Coming Energy Revolution 243 (1994) (figures are in 1993 dollars). -[79]- 68 Stat. 919 (1954) (codified at 42 U.S.C. 2011 et seq.). The Atomic Energy Act removed a previous prohibition on the ownership and use of nuclear materials. See English v. General Elec. Co., 496 U.S. 72, 80-81 (1990). -[80]- Energy Information Administration, Monthly Energy Review 95, Table 7.1 (Mar. 1995). -[81]- "Dispatch" refers to the assignment of power supply from generation to meet total power demand (or load). A utility's dispatching operations utilize available generators based on information about each generator such as the cost of electricity generated, maximum capacity, maintenance requirements, and environmental considerations. Public Utilities Reports, Public Utilities Reports Guide 2-28 (1992). -------------------- BEGINNING OF PAGE #25 ------------------- enforce compliance with pooling agreements.-[82]- Today power pools are an important part of the structure of the electric utility industry.-[83]- In contrast to the prior emphasis on promoting and refining the development of generation and transmission arrangements, the 1970s witnessed heightened concern with the level of energy consumption. Several factors contributed to this shift. In addition to growing concern over imported oil, the environmental movement, which demonstrated its political importance with the first annual Earth Day in 1970, fostered a national dialogue on the environmental consequences of electric power generation by dams, nuclear power plants, and electric power plants that burn fossil fuels. The 1979 accident at the Three Mile Island nuclear power plant in Pennsylvania also highlighted the public health and safety hazards of commercial nuclear power.-[84]- These events contributed to the development of an energy conservation culture in the United States.-[85]- Consumers began to weather-strip homes, turn off lights when not needed, and moderate thermostats. Electric utilities implemented demand- side management ("DSM") programs in order to reduce peak demands for electricity and thereby reduce the need to construct new power plants. In response to environmental concerns that prompted the 1977 amendments to the Clean Air Act,-[86]- electric utilities began to search for fossil-fuel sources and new technologies that emitted less pollution. In addition to declining energy demand, the economies of scale that favored the construction of large generating facilities began to subside in the 1970s, in part as a result of fuel-cost increases, interest-rate increases, heightened environmental and safety requirements, and intentional construction delays due to decreased demand.-[87]- Other technological advances allowed scale economies to be achieved by smaller size generation units.-[88]- -------- FOOTNOTES -------- -[82]- Phillips, note 8 above, at 640. -[83]- See FERC, Inquiry Concerning Alternative Power Pooling Institutions Under the Federal Power Act, Docket No. RM94-20-000 (Oct. 26, 1994). -[84]- This accident and other safety concerns with nuclear power led to a dramatic decline in the construction of nuclear plants. See Edward S. Cassedy and Peter Z. Grossman, Introduction to Energy: Resources, Technology, and Society 156-63 (1990) (describing Three Mile Island and Chernobyl reactor accidents and cancellation of Shoreham nuclear plant on Long Island, New York). -[85]- See, e.g., Energy Policy and Conservation Act, 42 U.S.C. 6201 et seq.; Energy Conservation and Production Act, 42 U.S.C. 6801 et seq.; National Energy Conservation Policy Act of 1978, 42 U.S.C. 8201 et seq. -[86]- 42 U.S.C. 7401 et seq. -[87]- Energy Information Administration, The Changing Structure of the Electric Power Industry 1970 - 1991 24 (Mar. 1993). Most of the increase in electric generating costs in this period are attributable to increased costs in the nuclear power industry. Id. at 33 (observing that from 1974 to 1982, nuclear plant operation and maintenance costs increased from $17 per kilowatt to almost $45 per kilowatt, in 1982 dollars). -[88]- FERC, Promoting Wholesale Competition Through Open Access Non-discriminatory Transmission Services by Public Utilities & Recovery of Stranded Costs by Public Utilities and Transmitting (continued...) -------------------- BEGINNING OF PAGE #26 ------------------- Congress sought to promote generation technologies that offered an alternative to large and increasingly inefficient electric power plants. In 1978 it enacted the Public Utility Regulatory Policies Act ("PURPA").-[89]- PURPA granted "qualifying facilities" ("QFs") -- predominantly cogenerators-[90]- and small power producers-[91]- -- significant regulatory advantages over traditional generating facilities. Among other things, PURPA provided for the exemption of most QFs from the Holding Company Act.-[92]- PURPA also required utilities to purchase power from QFs at a price not greater than the utility's avoided costs, and to sell backup power to QFs.-[93]- After the enactment of PURPA, other independent power producers and utility-affiliated power producers sought to compete in bulk power markets.-[94]- To promote the development of these sources of power supply, the FERC -- which had -------- FOOTNOTES -------- -[88]-(...continued) Utilities, Dkt. Nos. RM95-8-000 & RM94-7-001, 70 FERC 61,357 (Mar. 29, 1995) ("FERC NOPR"), at 35. See generally John C. Fox, The Drivers of Change in the Electric Power Industry, in Cambridge Energy Research Associates, Inc., International Electric Power: Meeting the Generation Gap 31 (1994). -[89]- 92 Stat. 3117 (1978). -[90]- Cogeneration refers to a generating facility that produces electricity and another form of useful thermal energy (such as heat or steam) for industrial and commercial heating, or cooling purposes. See Energy Information Administration, Electric Power Annual 1992 171 (Jan. 1994). See also Federal Power Act section 3(18), 16 U.S.C. 796(18). -[91]- PURPA defines a small power producer as a facility that generates electricity through solar, wind, waste, or geothermal power in accordance with FERC regulations. See Federal Power Act section 3(18), 16 U.S.C. 796(18). -[92]- Most qualifying facilities are deemed to be nonutilities for purposes of the Holding Company Act. See 18 C.F.R. 292.602. -[93]- See FERC v. Mississippi, 456 U.S. 742, 751 (1982). This aspect of PURPA has proven to be controversial, particularly with regard to the requirement to purchase electricity at avoided costs, and is now the subject of repeal efforts before Congress. See S. 708, 104th Cong., 1st Sess. (1995) (bill to repeal PURPA section 210, 16 U.S.C. 824a-3); FERC Ruling Fuels Fire of PURPA Repeal, The Energy Daily, May 10, 1995, at 1-2. PURPA also authorized the FERC to order wholesale transmission services by public utilities and by certain other entities. There were significant procedural and substantive limitations on this authority, however, and FERC issued only one order pursuant to this authority. See Central Power & Light Co., 17 FERC 61,078 (1981), order on reh'g, 18 FERC 61,100 (1982), further order, Texas Util. Elec. Co., 40 FERC 61,077 (1987). -[94]- Independent power producers ("IPPs") are generally single- asset generation companies that do not own transmission or distribution facilities. Affiliated power producers ("APPs") also arose to compete in this business. APPs are similar to IPPs, but are owned by or affiliated with traditional, investor- owned utilities. The utilities preferred to exclude the generators from utility rate base because of their reluctance to invest in new generating facilities under cost of service regulation. -------------------- BEGINNING OF PAGE #27 ------------------- traditionally required cost-based rates for electric power -- authorized market-based rates for power sales where power producers lacked market power and encouraged more widely available transmission access.-[95]- The SEC also attempted to enable independent power producers to structure operations to avoid unnecessary burdens under the Holding Company Act.-[96]- c. Recent Regulatory Developments The most sweeping changes in recent years followed the passage of the Energy Policy Act of 1992.-[97]- The legislation was intended to provide a "comprehensive national energy policy" designed to increase U.S. energy security "in cost-effective and environmentally beneficial ways."-[98]- Among other things, the Energy Policy Act authorized the FERC to promote competition in wholesale bulk power markets by requiring companies to provide transmission services upon request if the FERC finds that such transmission would be in the public interest and would not unreasonably impair the continued reliability of affected electric systems.-[99]- -------- FOOTNOTES -------- -[95]- See, e.g., Commonwealth Atlantic Ltd. Partnership, 51 FERC 61,368 (1990). As traditional, investor-owned utilities began to seek market-based rates for wholesale sales of excess capacity, the FERC extended its market power analysis to these companies. In applying the market-based rates to traditional, investor-owned utilities, the FERC required that the utility mitigate its transmission market power by opening its transmission system to other wholesale sellers and buyers. See, e.g., Public Service Co. of Indiana, 51 FERC 61,367 (1990). The FERC also relied on open access transmission tariffs to mitigate the anticompetitive effects of proposed mergers. -[96]- See, e.g., Thousand Springs Project, SEC No-Action Letter (Jan. 28, 1988) (division of ownership interests designed to avoid ten percent ownership threshold); Ocean State Power, SEC No-Action Letter (Jan. 15, 1988) (partnership); Catalyst Energy Co., SEC No-Action Letter (Dec. 22, 1987) (limited partnership). See also Sierra Pacific Resources, Holding Co. Act Release No. 24566 (Jan. 28, 1988) (approving participation by exempt holding company in independent power production enterprise), aff'd sub nom. Environmental Action, Inc. v. SEC, 895 F.2d 1255 (9th Cir. 1990). -[97]- Pub. L. 102-486, 106 Stat. 2776 (1992) ("Energy Policy Act"). -[98]- H.R. Rep. No. 474(I), 102d Cong., 2d Sess. 132 (1992). The goals of the legislation included the following: [T]o reduce the costly, impending rise in U.S. oil imports; to conserve energy and use it more efficiently; to reduce our use of oil-based fuels in our motor vehicle sector; to increase competition in the electricity, natural gas, coal renewable energy, and oil markets in order to provide new energy options and more diverse supplies; to increase the strategic oil reserves that shield us from another world oil disruption; to implement solutions to our nuclear waste and uranium enrichment problems; and to address greenhouse warming. Id. -[99]- Any electric utility, Federal power marketing agency, or any other person generating electric energy for sale for resale (continued...) -------------------- BEGINNING OF PAGE #28 ------------------- In addition, the Energy Policy Act facilitated the development of competition by permitting any person (including registered holding companies) to acquire "exempt wholesale generators" ("EWGs")-[100]- without the need to apply for or receive prior SEC approval. Congress gave the FERC responsibility to determine whether an entity may be classified as an EWG under the statute. Congress directed the SEC to adopt rules with respect to financing transactions that may have a "substantial adverse impact on the financial integrity of the registered holding company system."-[101]- Following the Energy Policy Act, the FERC has engaged in a series of initiatives to encourage the development of competitive energy markets. Most recently, in March 1995, the FERC issued a notice of proposed rulemaking that would require utilities that own or control transmission facilities in interstate commerce to file tariffs under which they will provide service to third parties. The rules, if adopted, would also require such utilities to offer transmission service to eligible customers comparable to the service they provide to themselves.-[102]- Increasingly, the FERC has played a central role in the review of utility mergers and acquisitions. At the same time that Congress gave the SEC jurisdiction to review mergers and acquisitions,-[103]- it also provided the FERC substantial jurisdiction over such transactions that involve utilities. The FPA requires that mergers "be consistent with the public interest,"-[104]- and the FERC may condition its approval of the acquisition "upon such terms and conditions as it finds necessary or appropriate."-[105]- In recent cases, the FERC has emphasized issues related to competition and market power as well as alleged savings from the merger.-[106]- -------- FOOTNOTES -------- -[99]-(...continued) may apply to the FERC for an order requiring a utility to provide transmission services (including any enlargement of transmission capacity necessary to provide such services). Federal Power Act section 211(a) (codified at 16 U.S.C. 824j(a)). -[100]- An exempt wholesale generator is exempt from all provisions of the Holding Company Act. See Holding Company Act section 32(e). -[101]- Holding Company Act section 32(h). In 1993, the SEC adopted rules 53 and 54 (17 C.F.R. 250.53 & 54) to protect consumers and investors from any substantial adverse effect associated with investments in exempt wholesale generators. These rules are currently the subject of litigation in the U.S. Court of Appeals for the District of Columbia Circuit. NARUC v. SEC, No. 93-1778 (D.C. Cir. filed Nov. 22, 1993; oral argument held May 11, 1995). -[102]- FERC NOPR, note 88 above. -[103]- See section 9(a)(1) (requiring SEC approval before registered holding company or subsidiary acquires any securities, utility assets, or any other interest in any business). As late as 1971, the acquisition of Arkansas-Missouri Power Company by Middle South Utilities, Inc., a registered holding company, required only the approval of the SEC and the Public Service Commission of Missouri. -[104]- Federal Power Act section 203(a), 16 U.S.C. 824b(a). -[105]- Federal Power Act section 203(b), 16 U.S.C. 824b(b). -[106]- See, e.g., Utah Power & Light Co., 41 FERC 61,283, p. 61,752 (1987); Northeast Utilities Service Co., Opinion No. 364, (continued...) -------------------- BEGINNING OF PAGE #29 ------------------- Moreover, the FERC has recently announced an expansion of its review of such transactions: a proposed merger of two public utility holding companies with electric utility subsidiary companies creates a "rebuttable presumption" of an indirect merger of the two electric utilities, and the proposed merger will require FERC approval under section 203 or rebuttal of the presumption.-[107]- In part as a result of the FERC's comprehensive review of utility mergers, the SEC now "watchfully defers" to the FERC as the primary federal regulator with respect to many issues involved in these transactions.-[108]- Perhaps the most controversial regulatory effort currently underway at the state level is the assessment of required retail wheeling.-[109]- The California Public Utilities Commission is considering among other alternatives a proposal under which power customers could have direct access to all power producers and thus enjoy the right to contract with the producer of their choice.-[110]- Rhode Island, Wisconsin and other states have also begun to explore a possible shift to retail wheeling.-[111]- -------- FOOTNOTES -------- -[106]-(...continued) 56 FERC 61,269, p. 61,998, reh'g denied, Opinion No. 364-A, 58 FERC 61,070, aff'd in part, 993 F.2d 937 (1st Cir. 1993). The FERC has also conditioned approval of mergers on the filing of open-access transmission tariffs. Utah Power & Light, 45 FERC at 61,290; Northeast Utilities, 56 FERC at 62,011-14. -[107]- Illinois Power Co., 67 FERC 61,136 (1994). The order was a response to concerns with a regulatory loophole: because the FERC's historically narrow interpretation of its authority to review proposed mergers limited its review to utility mergers but not holding company mergers, utilities were able to avoid FERC review by first establishing holding companies and then merging the holding companies. See, e.g., Missouri Basin, 53 FERC 61,368, reh'g denied, 55 FERC 61,464 (1991); see also Lawrence J. Spiwak, Expanding the FERC's Jurisdiction to Review Utility Mergers, 14 Energy L.J. 385 (1993). -[108]- See City of Holyoke Gas & Elec. Dept. v. SEC, 972 F.2d 358 (D.C. Cir. 1992); CINergy Corp., Holding Co. Act Release No. 26146 (Oct. 21, 1994); Entergy Corp., Holding Co. Act Release No. 25952 (Dec. 17, 1993). -[109]- "Wheeling" is the electricity analogue of wholesale transmission that the FERC has required in its regulation of the natural gas industry. Mandated retail wheeling would require owners of electric transmission or distribution facilities to transmit power from third-party suppliers to customers connected to the transmission lines. See Matthew C. Hoffman, The Future of Electricity Provision, Regulation, vol. 1994, no. 3, at 55-62 (1994). -[110]- See Proposed Policy Decision Adopting a Preferred Industry Structure, California Public Utilities Commission File Nos. R.94-04-031 & I.94-04-032 (May 25, 1995). -[111]- See David Stipp, Rhode Island Alliance Clears Guidelines To Form Open Market For Electricity, Wall St. J., May 15, 1995, at A4. In re Application of the Association of Businesses advocating Tariff Equity for Approval of an Experimental Retail Wheeling Tariff for Consumers Power Company, Michigan Public Service Commission Case No. U-10143, 150 P.U.R. 4th 409 (Apr. 11, 1994); Re Changes in the Structure of the Electric Energy Industry, Illinois Public Utilities Commission No. 94-RI (Apr. 20, 1994); Nevada Senate Bill 231 (limited retail wheeling statute designed to assist economic development); W. Garner and (continued...) -------------------- BEGINNING OF PAGE #30 ------------------- 1. Natural Gas The natural gas industry developed as an incident to oil exploration, where its toxic and explosive qualities caused it to be viewed initially more as a nuisance than a resource.-[112]- Transportation of natural gas was also impractical until the 1920s, when it became possible to construct leakproof pipelines with electrical welds. Oil producers then began to realize that natural gas, if properly controlled, was a valuable fuel source. The natural gas industry began to develop rapidly, and the consumption of natural gas increased significantly. Before 1938, state regulatory authorities had traditionally regulated the production of natural gas due to its close relation to the production of oil, and had regulated the local distribution of natural gas as a natural monopoly. Neither the federal nor state governments regulated interstate pipelines, however, which carried gas from the wellhead to local distributors. These unregulated pipelines were therefore able to control the price and quality of gas service, to the detriment of the consuming public.-[113]- a. The Natural Gas Act In 1938, Congress passed the Natural Gas Act ("NGA"), which gave the Federal Power Commission authority over the interstate transportation of natural gas.-[114]- The NGA authorized the FERC to set "just and reasonable" rates for pipelines selling natural gas for resale in interstate commerce.-[115]- Under this act, the FERC had jurisdiction over both the price and the allocation of natural gas sold at the wellhead for resale in interstate commerce. Like the Federal Power Act, the Natural Gas Act filled a regulatory "gap" that had existed with respect to intrastate transactions and supplemented state authority through a scheme of comprehensive federal regulation of interstate transactions. The Natural Gas Act confers authority on the FERC with respect to natural gas utilities in a manner similar to that with respect to electric utilities. The major provisions of the NGA as enacted in 1938 are outlined below: * Jurisdiction. Congress gave the FERC jurisdiction over the transportation in interstate commerce of natural gas and over the sale in interstate commerce of natural gas for resale. It also gave the FERC jurisdiction over companies engaged in such transportation and sales. The FERC, however, has no jurisdiction over the local distribution of -------- FOOTNOTES -------- -[111]-(...continued) L. Burkhart, Wisconsin Initiates Competition Proceedings, Fortnightly, Mar. 15, 1995, at 14. -[112]- David Howard Davis, Energy Politics 132-33 (4th ed. 1993). Before the advent of effective pipeline technology, natural gas was typically burned off. -[113]- Id. at 137. -[114]- Pub. L. No. 75-688, 52 Stat. 821 (1938) (codified as amended at 15 U.S.C. 717 - 717w). -[115]- Natural Gas Act section 4(a), 15 U.S.C. 717c(a). In 1954, the U.S. Supreme Court ruled that sales by independent producers were also subject to regulation under the Natural Gas Act. Phillips Petroleum Co. v. Wisconsin, 347 U.S. 672 (1954). -------------------- BEGINNING OF PAGE #31 ------------------- natural gas, over facilities used for the local distribution of natural gas, or over the production or gathering of natural gas.-[116]- * Just and Reasonable Rates. The NGA requires that all rates and charges by natural gas companies for interstate transportation of natural gas or for interstate sales of natural gas for resale be "just and reasonable."-[117]- Natural gas companies engaged in jurisdictional sales and transportation must file with the FERC schedules of all rates and charges for such sales and transportation, all classifications and practices related to such rates and charges, and all contracts related to such rates and charges.-[118]- * Discrimination Prohibited. The NGA prohibits undue preferences or advantages, as well as undue prejudices or disadvantages, with respect to jurisdictional sales and transportation of natural gas; it also requires natural gas companies, with respect to jurisdictional sales and transportation, not to maintain unreasonable differences in rates, charges, facilities, or services.-[119]- * Modification of Rates and Terms. The NGA authorizes the FERC to amend by order, after administrative adjudication, rates, charges, classifications, and practices relative to jurisdictional sales and transportation of natural gas that are determined to be unjust or unreasonable.-[120]- * Certificates of Public Convenience and Necessity. The NGA requires all natural gas companies engaged in jurisdictional sales and transportation to acquire from the FERC a certificate of public convenience and necessity for the construction or extension of facilities used for such jurisdictional sales and transportation.-[121]- The NGA authorizes the FERC to require natural gas companies engaged in jurisdictional sales and transportation to construct or extend facilities used for such sales and transportation if required to improve transportation or expand sales.-[122]- The Natural Gas Act also contains provisions designed to enhance and ensure the effectiveness of state regulation. Among other things, the Natural Gas Act authorizes the FERC to establish joint boards for the determination of any matter arising under the Natural Gas Act,-[123]- to confer with state commissions regarding rate structures, costs and other matters and to hold joint hearings with state commissions,-[124]- and to act upon complaint or request of a state, state commission or -------- FOOTNOTES -------- -[116]- Natural Gas Act section 1(b), 15 U.S.C. 717(b). See generally FPC v. Natural Gas Pipeline Co., 315 U.S. 575 (1942) (holding NGA constitutional). -[117]- Natural Gas Act section 4(a), 15 U.S.C. 717c(a). -[118]- Natural Gas Act section 4(c), 15 U.S.C. 717c(c). -[119]- Natural Gas Act section 4(b), 15 U.S.C. 717c(b). -[120]- Natural Gas Act section 5(a), 15 U.S.C. 717d(a). -[121]- Natural Gas Act section 7(c), 15 U.S.C. 717f(c). -[122]- Natural Gas Act section 7(a), 15 U.S.C. 717f(a). -[123]- Natural Gas Act section 17(a), 15 U.S.C. 717p(a). -[124]- Natural Gas Act section 17(b), 15 U.S.C. 717p(b). -------------------- BEGINNING OF PAGE #32 ------------------- municipality.-[125]- The FERC is also required to make information and reports available to state commissions.-[126]- Like the Federal Power Act, the Natural Gas Act allows states, state commissions, municipalities, consumer representatives, security-holder representatives and others to participate as parties in proceedings under the statute.-[127]- b. Expansion of the Gas Utility Industry The depletion of the first natural gas wells in the Appalachian region in the twentieth century resulted in a gradual shift of focus -- first to the Midwest and next to the Great Plains and the Gulf of Mexico -- for new wells.-[128]- At the same time, the practical limitations on the transportation of natural gas prevented its importation from countries from which pipeline transmission was impractical. The inability to import natural gas resulted in a focus on domestic sources. Demand for gas, however, exceeded supply. During the late 1960s and the early 1970s, the FERC restrained the wellhead price of natural gas sold in the interstate market. The price restraint encouraged consumption -- but discouraged production -- of gas sold in the interstate market. Because natural gas is a relatively clean fuel that has less environmental impact than most fossil fuels, the advent of the environmental movement in the 1970s contributed to increased demand for natural gas. The shortage of oil in the aftermath of the 1973 Middle East war also highlighted the disadvantages of U.S. dependence on imported oil and contributed to increased demand for natural gas. As a result, a series of gas shortages in the interstate market occurred in the mid-1970s.-[129]- In response to these shortages, Congress enacted the Natural Gas Policy Act of 1978, which provided for partial decontrol of natural gas at the wellhead.-[130]- Gas supply has also become -------- FOOTNOTES -------- -[125]- Natural Gas Act section 5(b), 15 U.S.C. 717d(b) (fixing rates and charges; determination of costs of production or transportation in cases where FERC lacks authority to establish rates). -[126]- Natural Gas Act section 17(c), 15 U.S.C. 717p(c) (FERC "shall make available to the several State commissions such information and reports as may be of assistance in State regulation of natural-gas companies" and "upon request from a State commission, . . . make available any of its trained rate, valuation, or other experts"). -[127]- Natural Gas Act section 15(a), 15 U.S.C. 717n(a). -[128]- By 1992, most natural gas wells in the United States were located in Texas, Louisiana, or along the coast of the Gulf of Mexico. -[129]- Meanwhile, state regulatory authorities allowed intrastate gas prices (i.e., gas produced and sold in the same state) to fluctuate more freely, thereby increasing price and supply compared to the interstate market. Some manufacturing companies relocated their operations to gas producing states in order to gain access to ample (but more expensive) gas supply. See generally Davis, note 112 above, at 132-62. -[130]- 92 Stat. 3351 (1978) (repealed in 1987). Northwest Cent. Pipeline Corp. v. State Corp. Comm'n of Kan., 489 U.S. 493, 502 (1989) ("[A]n acute shortage of natural gas during the 1970's prompted Congress to enact the Natural Gas Policy Act of 1978."). -------------------- BEGINNING OF PAGE #33 ------------------- more plentiful as a result of increased imports of natural gas from Canada and Mexico.-[131]- Increased supply of gas coincided with moderation in demand. The emphasis on energy conservation in the 1970s affected the natural gas industry in the same manner that it affected the electric utility industry: consumers adopted conservation techniques, and natural gas utilities, like electric utilities, implemented demand-side management programs to reduce demand. c. Recent Regulatory Developments Congress and the FERC have worked to encourage competition in the natural gas industry. In 1985, the FERC issued Order No. 436, which allowed pipelines to contract to transport third- party gas. The order was intended to facilitate direct sales between gas producers and local distribution companies.-[132]- Deregulation proceeded further under the Natural Gas Wellhead Decontrol Act of 1989, pursuant to which the FERC implemented full producer deregulation, effective January 1, 1993.-[133]- In 1990, Congress enacted the Gas Related Activities Act ("GRAA"), which permits registered holding companies that own gas utilities to acquire significant production and transportation assets that do not directly serve the needs of their retail distribution systems.-[134]- In 1992, the FERC issued a major deregulatory rulemaking order. Order No. 636 requires pipelines to offer "a variety of transportation services to their shippers" under a system that treats all gas equally, whether sold or merely transported by the pipeline companies.-[135]- Pipeline companies could no longer treat gas purchased and resold by them more favorably in circumstances when transportation space is limited. Rather, the FERC attempted to restrict pipeline companies to the role of transporters, and to discourage them from acting as middlemen between producers and consumers.-[136]- Although the long-term effects of Order No. 636 remain uncertain, the order has supported the development of a direct-sale spot market for natural gas, which has contributed to greater fluctuations in gas -------- FOOTNOTES -------- -[131]- Today, Canada exports to the United States about one- half of its production of natural gas. In addition, the gas industry has developed technologies to liquefy natural gas through a super-cooling process and transport it thousands of miles by ship. Liquefied natural gas thus can be imported from Algeria, for example, to the northeastern United States, which produces little of its own natural gas. -[132]- Regulation of Natural Gas Pipelines After Partial Wellhead Decontrol, Order No. 436, 50 Fed. Reg. 42,408 (Oct. 18, 1985). -[133]- Pub. L. No. 101-60, 103 Stat. 157 (1989). -[134]- Pub. L. 101-572, 104 Stat. 2810 (1990). Gas production and transportation activities are nonutility businesses for purposes of the Holding Company Act. See Holding Company Act section 2(a)(4) ("gas utility company" includes only companies owning or controlling assets used for retail gas distribution). -[135]- Regulation of Natural Gas Pipelines After Partial Wellhead Decontrol, Order No. 636, 57 Fed. Reg. 13,267 (Apr. 16, 1992). -[136]- Id. at 13,272-75. -------------------- BEGINNING OF PAGE #34 ------------------- prices.-[137]- There have also been costs associated with competition.-[138]- 2. Other Developments Since 1935, the regulation of public-utility holding companies has been augmented under statutes other than the Holding Company Act. State commissions have strengthened the regulation of electric and gas utilities. In addition, the SEC has enhanced its regulation of issuers of securities, which issuers include public-utility holding companies, whether registered under the Holding Company Act or exempt. a. State Regulation of Utilities In addition to the regulatory advances described above in the area of retail wheeling, state regulators have generally increased their powers over electric and gas utilities. In the late 1930s, courts began to narrow the applicability of the substantive due process doctrine and relax the restrictions on state regulation under previous interpretations of the Commerce Clause.-[139]- As a result, as the courts began to remove many of the judicial constraints on state regulatory power, many state regulators have taken a more aggressive position toward the utilities that serve their constituents. Nonetheless, some -------- FOOTNOTES -------- -[137]- See Comment, Reworking Relationships in the Natural Gas Industry: Exploring the New Spot Market and Its Operation, 68 Tulane L. Rev. 655, 660-63 (1994) (noting analyst comment that producers and buyers are on a "seasonal spot price roller coaster."). The Commodity Futures Trading Commission ("CFTC") has also designated natural gas as a commodity and thereby permitted the trading of futures in natural gas. See 57 Fed. Reg. 8632 (Mar. 11, 1992). See also CFTC, Division of Economic Analysis, New York Mercantile Exchange Designation Application for Natural Gas Futures (Feb. 20, 1990); Arthur Andersen & Co., S.C. and Cambridge Energy Research Associates, Inc., Natural Gas Trends: North America 61 (1994) (stating that natural gas futures contract has become "viable hedging tool for the natural gas industry and noting improved market liquidity). -[138]- For example, many producers went out of business when wellhead prices declined. See Donald F. Santa, Jr. and Patricia J. Beneke, Federal Natural Gas Policy and the Energy Policy Act of 1992, 14 Energy L.J. 1, 8 (1993). The Columbia Gas System, a registered gas utility holding company, filed for bankruptcy in large part as a result of uneconomic take-or-pay contracts. -[139]- Regarding the narrowing of substantive due process, see, e.g., West Coast Hotel Co. v. Parrish, 300 U.S. 379 (1937) (upholding minimum wage legislation); NLRB v. Jones & Laughlin Steel Co., 301 U.S. 1 (1937) (upholding National Labor Relations Act); United States v. Darby, 312 U.S. 100 (1941) (upholding Fair Labor Standards Act); Wickard v. Filburn, 317 U.S. 111 (1942) (upholding Agricultural Adjustment Act); Lincoln Fed. Labor Union v. Northwestern Iron & Metal Co., 335 U.S. 525, 536-37 (1949) (repudiating the Lochner approach to economic substantive due process). Regarding the relaxation of the interpretation of the Commerce Clause, see Arkansas Elec. Coop. v. Arkansas Pub. Serv. Comm'n, 461 U.S. 375, 390 (1983) (quoting Illinois Natural Gas Co. v. Central Ill. Pub. Serv. Co., 314 U.S. 498, 505 (1942)). -------------------- BEGINNING OF PAGE #35 ------------------- limitations remain on the ability of states to regulate utilities.-[140]- Today, although regulation of electric (and gas) utilities varies among state governments,-[141]- most state commissions have authority to issue licenses, franchises or permits for the initiation of service,-[142]- for construction or abandonment of facilities and for related matters.-[143]- With respect to retail rates, state commissions generally have the power to require prior authorization of rate changes,-[144]- to suspend proposed rate changes, to prescribe interim rates-[145]- and to initiate rate investigations.-[146]- Most state commissions also have authority to control the quantity and quality of service,-[147]- to require uniform systems of accounting,-[148]- and to regulate the issuance of securities.-[149]- In addition, many states have enacted change-in-control statutes.-[150]- -------- FOOTNOTES -------- -[140]- See, e.g., Mississippi Power & Light Co. v. Mississippi ex rel. Moore, 487 U.S. 354 (1988) (FERC proceeding preempted state prudence proceeding); Nantahala Power & Light Co. v. Thornburg, 476 U.S. 953 (1986) (FERC allocation of power between two utilities for rate purposes preempted similar state determination). -[141]- See generally National Association of Regulatory Utility Commissioners, Utility Regulatory Policy in the United States and Canada: Compilation 1993-1994 (1994) (covering a broad range of issues regarding state jurisdiction and regulatory policy). See also Appendix A (results of SEC survey of state regulatory commissions). -[142]- See, e.g., D.C. Code Ann. 43-501(b) (public utility must obtain order granting certificate of present and future public convenience and necessity before furnishing utility service). -[143]- See, e.g., Cal. Pub. Util. Code 761 (authority to fix rules, service to be furnished or facilities to be constructed); Ohio Rev. Code Ann. 4905.21 (prior approval requirement for abandoning facilities). -[144]- See, e.g., Fla Stat. Ann. 366.04(1) (authority to regulate and supervise public utility with respect to rates and service). -[145]- See, e.g., Fla. Stat. Ann. 366.071 (power to authorize collection of interim rates). -[146]- See, e.g., Cal. Pub. Util. Code 729 (California "commission may, upon a hearing, investigate . . . the entire [rate] schedule . . . of any public utility"). -[147]- See, e.g., Cal. Pub. Util. Code 761; Fla. Stat. Ann. 366.04(1). -[148]- See, e.g., D.C. Code Ann. 43-509; Fla. Stat. Ann. 366.04(2)(a). -[149]- See, e.g., Ohio Rev. Code Ann. 4905.40 (prior approval required before issuing securities). See generally Phillips, note 8 above, at 136. A compilation of state regulatory authority based on a questionnaire submitted by the SEC to state commissions is summarized in Appendix A. -[150]- See Aaron W. Morse, Corporate Law I: The Constitutionality of State Insurance and Utility Takeover Statutes, 1989 Ann. Surv. Am. L. 607. The SEC has emphasized that these statutes should not be preempted by federal takeover regulation. In 1983, the SEC Advisory Committee on Tender Offers recommended that federal takeover regulation should not preempt substantive state regulation of utilities, banks, insurance companies, and similar businesses where state change-of-control (continued...) -------------------- BEGINNING OF PAGE #36 ------------------- These statutes generally require utilities to obtain state regulatory approval before control of the utilities may be transferred to other persons. In an attempt to assess the current regulatory environment among the states, the Division, together with the National Association of Regulatory Utility Commissioners, distributed a questionnaire that solicited responses from all state regulatory authorities. The questionnaire sought information on the current status of state regulation of utility companies in the areas covered by the Holding Company Act.-[151]- With respect to securities issuances, all but three of the respondents to the questionnaire stated that they have the authority to regulate such issuances by jurisdictional utilities. The responses also indicate varying levels of states' ability to regulate acquisition and diversification activities and transactions between jurisdictional utility affiliates and various affiliated and unaffiliated entities. With respect to accounting and audit review, all respondents stated that they prescribe a uniform system of accounts and are able to access the books and records of their jurisdictional utility companies. Many respondents, however, stated that they had no statutory authority or cooperative agreements to obtain books and records of out-of-state companies. Further, it is unclear exactly how many have authority to access the books and records of holding companies and books and records of nonutility companies including service companies. This issue is the subject of a brief follow- up survey that NARUC is currently conducting.-[152]- b. SEC Securities Regulation Under Statutes Other Than the Holding Company Act Through its administration of other federal securities laws such as the Securities Act and the Exchange Act, the SEC regulates public-utility holding companies by virtue of their status as issuers of securities.-[153]- The provisions of the Securities Act and the Exchange Act, and the rules the SEC has -------- FOOTNOTES -------- -[150]-(...continued) provisions are justified in the overall regulatory objectives, do not conflict with federal procedural provisions, and relate to a significant portion of the issuer's business. SEC, Advisory Committee on Tender Offers, Report of Recommendations 18 (1983) (Recommendation 9(c)). -[151]- A copy of the questionnaire and a summary of the responses received by the SEC is included in Appendix A. A narrative digest of the responses of the state commissions to this questionnaire is available in the Public Reference Room of the SEC in public file number S7-32-94. As a follow-up to the questionnaire, the SEC also conducted telephone interviews with state regulatory authorities concerning certain details related to diversification activities, affiliate transactions and auditing practices. A copy of the questions and the individual responses of the state regulatory authorities to those questions is available in the Public Reference Room of the SEC in public file number S7-32-94. -[152]- See Letter from Charles D. Gray, Assistant General Counsel, NARUC, to William C. Weeden, Associate Director, Office of Public Utility Regulation, Division of Investment Management, SEC (June 1, 1995) (copy in Appendix A). -[153]- All 15 registered holding companies are reporting companies under the Securities Act and the Exchange Act. -------------------- BEGINNING OF PAGE #37 ------------------- adopted under them, require the orderly disclosure of timely and accurate information about issuers of the securities and lay the foundation for efficient markets in those securities. When Congress enacted the Holding Company Act in 1935, these laws were still in their infancy. In addition, there were doubts as to their ability to withstand constitutional scrutiny by the courts.-[154]- Since 1935, however, courts have upheld the validity of the statutes. In addition, Congress has amended the Securities Act and the Exchange Act several times since 1935, in order to expand and strengthen the disclosure and reporting requirements, as well as the SEC's ability to enforce these provisions.-[155]- Thus, investors today have greater access to information concerning their investment decisions than they had in 1935. The three principal methods by which these securities laws provide for the disclosure of material information about securities are the registration requirements, the periodic reporting requirements, and the antifraud provisions. First, the Securities Act requires registration of every offer and sale of a security, unless an exemption from registration is available.-[156]- The information that is required to be filed with the SEC may vary depending on whether the issuer is a start- up business or an established, well-capitalized business that has previously filed reports with the SEC. An example of the registration of securities issuance is an initial public offering of securities by a start-up business on Form S-1. The form includes a variety of information designed to inform potential investors about the business of the issuer, including the risks and potential for future profit. Especially important are the financial statements and the sections termed "Business," "Management's Discussion and Analysis" ("MD&A") and "Use of Proceeds." The Business section includes descriptions of general business development, prior revenues, principal products, -------- FOOTNOTES -------- -[154]- See, e.g., Oklahoma-Texas Trust v. SEC, 100 F.2d 888 (10th Cir. 1939) (contesting the constitutionality of the Securities Act); Coplin v. United States, 88 F.2d 652 (9th Cir. 1937) (contesting the constitutionality of the Securities Act), cert. denied, 301 U.S. 703 (1937); Wright v. SEC, 112 F.2d 89, 94 (2d Cir. 1940) (contesting the constitutionality of the Exchange Act). -[155]- See, e.g., Securities Acts Amendments of 1964, Pub. L. No. 88-467, 78 Stat. 565 (1964) (extending Securities Exchange Act registration requirements to over-the-counter securities); Williams Act, Pub. L. No. 90-439, 82 Stat. 454 (1968) (additional disclosure requirements in situations of control acquisitions); Securities Enforcement Remedies and Penny Stock Reform Act of 1990, Pub. L. No. 101-429, 104 Stat. 931 (1990) (increasing SEC's authority to seek and impose remedies against securities law violations). -[156]- Exemptions from the registration requirements are available for specific types of securities (e.g., U.S. and state government securities, securities issued or guaranteed by U.S. banks and certain agencies and branches of foreign banks) and for specific types of transactions (e.g., private placements of securities, most resales by holders of securities on a securities exchange or in the over-the-counter market or securities issued in exchange for other securities of the same issuer). -------------------- BEGINNING OF PAGE #38 ------------------- competitive conditions, and costs of regulatory compliance.-[157]- The MD&A section provides textual analysis of the financial statements, including descriptions of trends or known demands on liquid assets, trends or commitments of capital resources, and significant or unusual developments related to operations.-[158]- The Use of Proceeds section includes descriptions of the principal purposes for which funds are being raised, the order of priority of such purposes, and the identities of any businesses that are planned to be acquired with the funds raised.-[159]- Second, the Exchange Act requires registration by issuers of entire classes of securities under certain circumstances in order to provide investors and the trading markets with current information about the issuer's business, management and financial condition. In general, registration is required in two cases: (1) securities listed for trading on a national securities exchange or quoted on NASDAQ-[160]- and (2) securities held of record by 500 or more persons and issued by issuers with assets of $5 million or more.-[161]- Issuers with securities registered under the Exchange Act and issuers of securities under an effective Securities Act registration statement are obligated to file annual and other periodic reports.-[162]- The Exchange Act and SEC rules also govern proxy solicitations and tender offers. Certain information must be provided to holders of securities registered under the Exchange Act when holders are asked to vote by proxy at meetings of security holders. The SEC's proxy rules govern the solicitation of proxies by the issuer and by persons other than the issuer, -------- FOOTNOTES -------- -[157]- See Sailors v. Northern States Power Co., 4 F.3d 610 (8th Cir. 1993) (no securities fraud where utility disclosed that rate increase was subject to regulatory approval). -[158]- See also Securities Act Release No. 6835 (May 18, 1989), 54 Fed. Reg. 22427 (May 24, 1989) (interpretive release concerning MD&A); In re Caterpillar, Inc., Exchange Act Release No. 30532 (Mar. 31, 1992) (consent to cease and desist from future disclosure violations and to implement and maintain procedures designed to ensure compliance with MD&A requirement). -[159]- SEC, Form S-1: Registration Statement Under the Securities Act of 1933. See also Frederick D. Lipman, Going Public: Everything You Need to Know to Successfully Turn a Private Enterprise into a Publicly Traded Company 66-76 (1994). Other important sections of the Form S-1 include Regulation S-K Item 103 (legal proceedings), Item 202 (description of securities), Item 304 (changes in and disagreements with accountants on accounting and financial disclosure), Item 402 (executive compensation), Item 404 (certain relationships and related transactions), and Item 503 (summary information, risk factors, and ratio of earnings to fixed charges). -[160]- Exchange Act section 12, 15 U.S.C. 78l. -[161]- Id.; Exchange Act rule 12g-1, 17 C.F.R. 240.12g-1. -[162]- Certain "foreign private issuers" that would otherwise be required to register under the Exchange Act (because they have 500 or more shareholders, including 300 or more shareholders in the United States, and assets of $5 million or more), but that have taken no voluntary steps to enter the U.S. market, may establish an exemption from Exchange Act registration and reporting requirements by providing the SEC copies of the documents they are required to file, make public, or deliver to shareholders in their home country. See Exchange Act rule 12g3- 2(b), 16 C.F.R. 240.12g3-2(b). -------------------- BEGINNING OF PAGE #39 ------------------- and they address when, and in what manner, shareholder proposals for matters to be voted upon at a shareholder meeting must be include