As a result of the audit we recommended that the Company take corrective action on a number of accounting and tariff billing deficiencies.

We proposed adjustments reducing utility plant by about $71,084. (Refer to Schedule Nos. 1 and 2.) Also, we proposed corrections to tariff billings as a result of the Company's improper accounting for storage service prepayments. (Refer to Schedule No. 3.) Finally, we proposed corrective action on a number of compliance matters. (Refer to Schedule No. 4.)

The more important accounting and tariff billing deficiencies covered the following areas:

1. accounting and tariff billings for customer storage prepayments;

2. accounting for take-or-pay (TOP) billings from a pipeline supplier;

3. procedures for accruing allowance for funds used during construction (AFUDC);

4. accounting for the cost of spare parts and equipment;

5. accounting for provisions for rate refunds;

1 In the early 1980's the FERC issued a series of orders to encourage pipelines to adopt an "open access" transportation policy. In Order No. 500, the Commission adopted an "equitable sharing mechanism" that permitted natural gas pipelines to bill customers a portion of TOP costs if pipelines agreed to absorb a portion of such costs. For example, if a pipeline agreed to absorb between 25 percent and 50 percent of its TOP costs, the pipeline would be permitted to recover an equivalent amount through a fixed charge. Also, the Commission allowed the pipeline an opportunity to recover the remaining costs

6. procedures for capitalizing employee salaries; and

7. accounting for deferred income taxes.

The Company agreed to adopt all of our recommendations, except those related to the accounting for TOP billings from a pipeline supplier (Item No. 2 on Schedule No. 3).

Contested Matter

Accounting for Take-or-Pay (TOP) billings from a pipeline supplier

The Company did not properly record a liability in its accounts at the time the FERC approved a gas supplier's tariff that included recovery of settlements of take-or-pay (TOP) buy-out/buy-down costs. Also, the Company did not establish in the appropriate accounts a ratemaking asset for the portion of the TOP costs that it could recover from wholesale customers under FERC approved tariffs and from nonjurisdictional customers under the terms of existing contracts.

Background

The Company's major gas supplier is Transcontinental Gas Pipe Line Corporation (TRANSCO).

On March 1, 1988, TRANSCO filed a proposal with the FERC to recover about 75 percent of the $932 million it incurred in TOP buy-out and buy-down costs. In accordance with the provisions of Order No. 500,1 TRANSCO proposed to absorb 25 percent of TOP costs, to direct bill 25 percent to its customers (based on cumulative purchase deficiencies), and to collect the remaining 50 percent through a commodity rate surcharge over 5 years.

On March 31, 1988, the Commission accepted and suspended TRANSCO's filing until the earlier of September 1, 1988, or the date on which TRANSCO accepted a blanket certificate under subpart G of Part 284 of the Commission's regulations. On April 29, 1988, TRANSCO accepted a blanket certificate. In May 1988, TRANSCO began including in its bills both the fixed TOP charge and the commodity rate surcharge.

On April 25, 1988, the Company made a PGA filing in Docket No. TA88-2-23-000,

through a volumetric surcharge on sales and transportation volumes. Moreover, where the pipeline absorbed between 25 percent and 50 percent of the TOP costs, the Commission established a rebuttable presumption that the remaining costs that the pipeline sought to pass on to its customers were prudently incurred. A pipeline customer could still challenge the pipeline's prudence, but it took a chance in doing so it would have to pay its pro rata share of 100 percent of the costs ultimately found to have been prudently incurred.

which included a proposal to recover TRANSCO's fixed, monthly TOP charges through the D-1 component of its sales rates.2 On May 25, 1988 [43 FERC 61,388], the Commission issued an order rejecting the Company's proposal because it did not conform to TRANSCO's cumulative purchase deficiency allocation method.

On July 29, 1988, the Company filed another proposal to establish procedures to recover a portion of TRANSCO's fixed, monthly TOP costs in billings from jurisdictional customers. TRANSCO's fixed TOP charges to the Company were about $64,500 per month for five years, or a total of $3,868,920. The Company proposed to recover TRANSCO's fixed TOP charge by adding to its billings to jurisdictional customers a fixed monthly surcharge that would recover the jurisdictional portion of all such fixed charges "as billed" by TRANSCO during the month. Under the proposal, the Company would allocate 56.5 percent of the TOP charges to its jurisdictional customers and 43.5 percent to its nonjurisdictional customers.

In addition to the fixed monthly surcharge, the Company proposed to recover the portion of TOP costs that TRANSCO billed as a commodity surcharge on an "as-billed" basis through its PGA mechanism.

On August 26, 1988, the Commission accepted the Company's filing, placing the tariff sheets in effect on August 1, 1988, subject to refund and conditions.3

Between May 1988 and July 1988, the Company recorded the wholesale jurisdictional portion of fixed TOP surcharges from TRANSCO each month in Account 165, Prepayments. The Company plans to leave the balance recorded in Account 165 until TRANSCO is through billing the TOP costs. Then, the Company will allocate the balance recorded in Account 165 to expense as it bills the amount to its customers.

The Company expensed a portion of the payments made to TRANSCO that related to the nonjurisdictional customers that it was unable to collect. (In certain cases the Company could not increase its current billings to nonjurisdictional customers to recover the TOP billings from TRANSCO under the terms of its existing contracts. The Company should have reflected an additional loss of $485,284 related to nonjurisdictional customers.)

On December 31, 1989, the Company had a remaining liability for its share of TRANSCO's fixed TOP charges of $1,771,600.

2 TRANSCO was the only one of the Company's pipeline suppliers that the FERC authorized the billing of TOP costs.

3 One of the conditions required the Company to file revised billing amounts to track any modifications

With respect to the commodity surcharges, beginning in May 1988 the Company recorded the commodity surcharges billed from TRANSCO in Account 803, Natural Gas Transmission Line Purchases, and recovered the costs from customers in connection with the terms of its PGA tariffs.

Commission Accounting Requirements

We concluded that the Company's accounting for its share of TRANSCO's TOP costs was not consistent with the following Commission accounting requirements.

1. The Uniform System of Accounts requires a company to keep its accounts on the accrual basis. This requires that a company make provision in its accounts for all known transactions of appreciable amounts that affect the accounts. General Instruction No. 11 requires a company to use estimates in recording its transactions in the event bills are not rendered.

Statement of Financial Accounting Standards No. 5, Accounting for Contingencies, provides the following guidance for accruing loss contingencies:

8. An estimated loss from a loss contingency shall be accrued by a charge to income if both the following conditions are met: a. Information available prior to issuance of the financial statements indicates that it is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements. It is implicit in this condition that it must be probable that one or more future events will occur confirming the fact of the loss.

b. The amount of the loss can be reasonably estimated.

Furthermore, Statement of Financial Accounting Standards No. 71, Accounting for the Effects of Certain Types of Regulation, states in part:

11. Rate actions of a regulator can impose a liability on a regulated enterprise. Such liabilities are usually obligations to the enterprise's customers.

Under the above requirements, we concluded that the Company should have recorded a liability in its accounts for $3,868,920, equal to its share of TRANSCO's fixed TOP charge, at the time the FERC approved TRANSCO's tariffs that included recovery of the fixed portion of the TOP costs.4 The Company should have expensed the full amount of its known liability

to TRANSCO's TOP charges ordered by the Commission.

4 On December 28, 1989, the United States Court of Appeals for the District of Columbia Circuit vacated and remanded the Commission's orders in

by charging Account 813, Other Gas Supply Expenses, and crediting Account 253, Other Deferred Credits. Based upon the facts in this case, the Company had a liability for the $3,868,920 under the criteria found in both the requirements of the Uniform System of Accounts and generally accepted accounting principles.

Furthermore, we concluded under the circumstances present here the Company did not have to record a liability in its accounts for its share of TRANSCO's TOP costs assigned to the commodity surcharge. We based our conclusion on the fact that the commodity surcharge did not meet the criteria found in both the requirements of the Uniform System of Accounts and generally accepted accounting principles for establishing a liability.

2. The Commission has approved special accounting to accommodate the ratemaking orders of public utility regulatory commissions in instances when there was assurance that such actions created regulatory assets that the utility would recover in future rates. Under the special accounting, a company would be required to charge operating expense accounts with all amounts required under the provisions of the Uniform System of Accounts. However, a company would be permitted to give effect to the rate actions of a regulatory commission by entries to separate income and balance sheet accounts so that net income for the particular periods would reflect the economics of the regulators' actions.

We concluded that the Company did not establish in the appropriate accounts a ratemaking asset for the portion of the TOP that it could recover from wholesale customers under FERC approved tariffs and from nonjurisdictional customers under the terms of existing contracts. When the Commission approved the Company's tariff providing for collection of the jurisdictional portion of the TOP charges in August 1988, the Company should have recorded a regulatory asset by debiting Account 186, Miscellaneous Deferred Debits, and crediting Account 406, Amortization of Gas Plant Acquisition Adjustments. Also, the Company should have included in Account 406 and 186 any amounts it could (Footnote Continued)

several Tennessee Gas Pipeline Company proceedings, concluding that the purchase deficiency method for allocating a portion of Tennessee's TOP settlement costs violated the filed rate doctrine. On October 9, 1990, the Supreme Court of the United States denied the petition for certiorari filed by the Solicitor General on behalf of the Commission in those proceedings. Therefore, the Court of Appeals decision became effective on October 17, 1990, when the court of appeals issued its mandate in AGD II.

¶ 62,150

collect from nonjurisdictional customers under the terms of existing contracts.

In summary, the Company's accounting for the settlement of TRANSCO's TOP costs failed to: (1) establish a liability for the entire amount of the direct billed portion of TRANSCO'S TOP costs; (2) establish a regulatory asset for the portion of TRANSCO's TOP costs that it could recover from customers under revised rates or existing contracts; (3) reflect in net income the loss resulting from the existing contracts with nonjurisdictional customers that did not provide specifically for recovery of the costs.

Recommendations

We recommended that the Company revise procedures to ensure similar costs are recorded in its accounts according to the requirements of the Uniform System of Accounts. Also, we recommended that the Company record the necessary entries to correct the accounting for TRANSCO's fixed TOP charge.

Company Position and Staff Response

The Company did not agree to establish a liability in its accounts to reflect TRANSCO's fixed TOP charge or to establish a regulatory asset for the portion of TRANSCO's TOP costs that it could recover from customers under revised rates or existing contracts. It argued the following:

As a downstream pipeline the fixed TOP charges billed from TRANSCO are, for accounting purposes, nothing more than future purchased gas costs billed under a tariff on a monthly basis.

● It will recover a portion of such future costs from its jurisdictional customers on a monthly basis under a Commission approved tariff and from nonjurisdictional customers pursuant to applicable contractual provisions.

There is no support that the fixed TOP charges billed under TRANSCO's tariff on a monthly basis are "future purchased gas costs."

The Commission has consistently referred to the TOP buy-down/buy-out costs as "current costs" and not "future costs." On the other

On November 1, 1990, the Commission issued an Order on Remand Staying Collection of TOP Fixed Charges and Directing Filing of Revised Tariff Provisions. In its order the Commission noted that Transcontinental Gas Pipeline Corporation was one of six pipelines that had settlements in place with its customers that protect their passthrough mechanisms from the court action.

hand, the D.C. Court of Appeals put the label of "past costs" on the TOP costs.

TRANSCO gave each of its customers the option of paying the direct billed portion of its tariff in one lump sum payment or through a surcharge covering 60 months. We would expect to see the same accounting for the amounts whether the Company adopted one form of payment plan over the other.

The real issue is to determine at what point should it expense the remaining portion of TOP costs not otherwise recoverable under FERC approved tariffs or existing contractual provisions.

• The remaining portion of TOP costs merely increase the Company's cost of gas for its nonjurisdictional customers, thereby requiring the Company to accept a reduced margin on these sales than it would absent such TOP costs.

● It is inappropriate to currently recognize expenses for TOP costs that will be paid in the future. It is more appropriate to match these expenses with their related revenues. We do not agree with the Company's argu

ments.

For accounting and financial reporting purposes, it is important that the balance sheet reflect the liability resulting from the Commission's action in approving TRANSCO's request to collect TOP costs through surcharges. Also, the Company should reflect as a ratemaking asset the Commission's action authorizing collection of the jurisdictional portion of TOP charges.

The Financial Accounting Standards Board (FASB) has long recognized that the actions of a regulatory commission can result in the need for a regulated company to record assets and liabilities. Statement of Financial Accounting Standards No. 71, Accounting for the Effects of Certain Types of Regulation, addresses the fact that rate actions of a regulator can create assets or impose liabilities on the regulated enterprise.

With respect to the income statement issue, we concluded that the Company did not reflect the appropriate amount of loss in the period the loss became evident. Financial reporting should provide information that is useful to present and potential creditors and other users in making rational investment decisions. A delay in recording a loss may cause a company to misrepresent its financial condition by not reporting a liability and the results of its operations by overstating net income. FASB Statement of Concepts No. 5 addresses expenses and losses and states that:

An expense or loss is recognized if it becomes evident that previously recognized future

economic benefits of an asset have been reduced or eliminated, or that a liability has been incurred or increased, without associated economic benefits.

Under our proposal the Company would expense the nonjurisdictional portion that it cannot recover under its existing contracts. The Company has not provided any information to indicate that it could collect the TOP costs from certain nonjurisdictional customers under the contracts currently in existence. Furthermore, even if it could, the Company has not indicated an intention to do so. Therefore, in the interest of proper financial reporting, it would have been appropriate for the Company not only to accrue a liability for the entire liability to TRANSCO for TOP costs but also to reflect a loss in net income for the portion of the TOP costs that it would not pass on in contract rates.

It is not liable for its entire amount of TOP costs at this point in time because TRANSCO has not billed it for the entire amount nor does it have the authority to do so but is billing the Company over a 60-month period as permitted by the Commission in TRANSCO's rate filing.

We disagree with the Company's conclusion that it is not liable for its entire amount of take-or-pay costs at this point in time because TRANSCO has not billed it for the entire amount nor does TRANSCO have the authority to do so.

As stated in our comments to the Company's first argument, TRANSCO's billing of the fixed portion of the TOP surcharges over a 60-month period is simply a billing mechanism. TRANSCO gave each of its customers the option of paying the full amount of the fixed surcharge in one lump sum or through a surcharge, with the accrual of interest. The Commission's action in approving TRANSCO's tariff created a liability to the Company at least for the direct bill portion of TOP costs. Regardless of how or when the Company pays TRANSCO, it had an obligation to pay the full amount. With respect to the fixed portion of the TOP surcharge, the Company had to pay TRANSCO the amounts set forth in the Commission orders, even if it stopped buying additional gas or ordering transportation services from TRANSCO. Clearly the Company had a liability to TRANSCO for the fixed portion of the TOP surcharge and it should have recognized the liability in its accounts and financial

statements.

We are not taking the same position with respect to the commodity portion of the TOP surcharge. Based upon the terms of the Commission's orders and circumstances on the collection of the commodity surcharge over future

requirements of the Uniform System of

Parish, Louisiana, all as more fully set forth in the application.

The facilities proposed for abandonment are identified in the following table, which includes specifications and Commission authorization for their construction and operation.

Length of Line (miles)

Line
Tigre Lagoon
Line 507G-500

South Tigre.

Lagoon Line 570G-800

Tigre Lagoon

Clovelly Line

507G-1200

Bayou Bartage

Line 570G-1300

The facilities were installed as gas purchase facilities, in order for Tennessee to receive natural gas purchased from various producers into Tennessee's system supply. As a result of the termination of production and the termination of all gas purchase contracts with producers delivering gas to Tennessee through these facilities, the facilities had not been used for the receipt of purchased gas by Tennessee for several years prior to 1989. For those sales which were subject to Natural Gas Act regulation, Tennessee has abandoned its purchases under the provisions of the regulations promulgated by Order No. 490 [FERC Statutes and Regulations 30,797] and has submitted the appropriate notices of abandonment. The remaining purchases were for unregulated sales.

By letter agreement dated January 2, 1990, Tennessee agreed to sell the facilities to Reese for $10,000. Subsequently, Tennessee entered into agreements with various shippers to provide for the transportation of gas to be received into Tennessee's system at the point of interconnection between the facilities and Tennessee's system.

1 See Georgia-Pacific Corporation, Docket No. CP90-2288-000, 54 FERC 61,199 (1991).

Tennessee in its application states that Reese proposes, and Reese in a motion to intervene states that it proposes to use the facilities for the purpose of gathering gas and would provide such gathering service for customers that request it, replacing the interstate transportation service that Tennessee has been authorized to provide. Reese requests in its motion to intervene a Commission determination regarding the jurisdictional status of the subject facilities following the sale, but has decided not to file for a declaratory order thereon. If Reese requires a Commission determination, it may make a proper request for a declaratory order. The facts presented suggest that the facilities will be used for gathering purposes, but this is not a determination that Reese will, in fact, be engaged in gathering.1

Tennessee would retain the capability of receiving gas gathered by Reese into Tennessee's system from producers attached to the subject facilities. In order to utilize the facilities, Reese has made certain repairs at its expense.