ARCHIVED - Chapter 8 Toll, tariff and access provisions

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Chapter 8
Toll, tariff and
access provisions

8.1-Regulation of tolls, tariffs and access

The Mackenzie Valley Pipeline is a producer owned, basin opening pipeline in an environmentally sensitive area. The gas must flow through the Mackenzie Gathering System before reaching the Mackenzie Valley Pipeline. Each of these system components, the Mackenzie Gathering System and the Mackenzie Valley Pipeline, has a different ownership structure, different contractual arrangements and will operate under a slightly different regulatory framework.

The Mackenzie Valley Pipeline is regulated under the National Energy Board Act which provides for regulation of the physical facilities as well as the applicable tolls, tariffs and access provisions. The tolls and tariffs on National Energy Board regulated pipelines must conform to Part IV of the National Energy Board Act. A requirement of the National Energy Board Act is that a company cannot charge for service on a pipeline unless it has a tariff on file with the National Energy Board. The National Energy Board Act also requires that tolls be just and reasonable and charged equally to all shippers using the same services.

The Mackenzie Gathering System was applied for under the Canada Oil and Gas Operations Actand we subsequently found this to be

appropriate.1 During the evidentiary portion of the hearing in 2006, the Canada Oil and Gas Operations Actdid not have provisions for toll, tariff and access regulation. Therefore the appropriate means of addressing these topics was a key issue in our hearing. On 14 December 2007 legislation was passed which amended the Canada Oil and Gas Operations Actto allow the National Energy Board to regulate the tolls and

[1]-Mackenzie Explorer Group filed a motion on 7 April 2006 asking us to declare that once in service both the Mackenzie Gathering System and the Mackenzie Valley Pipeline would be a single “pipeline” under the National Energy Board Act and entirely subject to regulation under Part IV of that Act. They also asked us to direct the Proponents to prepare, file, and serve the toll principles and the tariff(s) that would apply to both systems for approval in this proceeding. On 10 July 2006 we determined that the Mackenzie Gathering System was appropriately applied for under the Canada Oil and Gas Operations Actand denied the motion. However, we noted that we remained concerned about the tolls, access and tariff provisions for the Mackenzie Gathering System and the methods for resolving disputes on these matters. Our decision was upheld by the Federal Court of Appeal

tariffs of these facilities in a manner similar to regulation under the National Energy Board Act.

In Canada, economic regulation of federal pipelines by the National Energy Board is intended to produce outcomes that are similar to what would happen in a competitive market. Traditionally, pipelines have been regulated using a “cost of service” approach, although there are alternatives such as use of negotiated settlements and complaint-based regulation. The cost of service methodology basically involves a two step process. In the first step, a pipeline company calculates the cost to deliver the gas (the throughput) in the following year. This is referred to as determining the annual cost of service or the revenue requirement. The second step is to distribute these total costs among the different customers and the different types of services offered by the pipeline. This step is commonly referred to as toll design. The Proponents propose to use this general approach for the Mackenzie Valley Pipeline, although not for the Mackenzie Gathering System.

In this proceeding, parties raised a number of concerns with specific costs, the methodology for their distribution among customers and the method to review costs. Specifically, the following issues were discussed for the Mackenzie Valley Pipeline:

  • method of regulation;
  • cost of capital including capital structure, return on equity and the deemed cost of debt;
  • depreciation;
  • tolling methodology;
  • access issues;
  • laterals and service to northern communities; and
  • the Code of Conduct.

For the Mackenzie Gathering System, issues centered around the need for economic regulation, methods for collecting fees and setting tolls, and codes of conduct.

8.2-Mackenzie Valley Pipeline

8.2.1-Timing of decision on toll and tariff matters

The Proponents applied under Part IV of the National Energy Board Act for an order approving the toll and tariff principles that are to apply to service on the Mackenzie Valley Pipeline. Various parties, including Mackenzie Explorer Group, raised issues related to these principles throughout the hearing. In argument Mackenzie Explorer Group took the position that we should leave the toll and tariff issues to be determined through some future process once the economic parameters are better known. They suggested that there would be ample time to resolve these issues.

The Proponents responded that they need to know the toll and tariff principles prior to making the decision to construct.

Did you know?

Why there is economic regulation of the pipeline sector in Canada

Most industries in Canada have some form of regulation that governs what they can and cannot do. However, the pipeline sector is subject to more economic regulation than most because of the unique features of energy supply and delivery.

A market allows sellers and buyers to exchange their goods or services. In a fully competitive market, there are many buyers and sellers competing for the same goods or services. This competition motivates buyers to keep their prices down and drives the innovation of new products or services. Pipeline markets are different. They are often natural monopolies with a limited number of companies providing the product or service. In some cases, there is only one provider. Pipelining of natural gas is a necessary service, but because the construction of major pipelines and associated facilities can take many years and be extremely costly, there can be significant economic barriers to entry. Once a single pipeline is built, it often becomes more difficult for other companies to provide the same service. This economic barrier becomes even higher because the existing company can often expand its system at a lower price than what it would cost another company to build a new pipeline. Yet buyers often do not have a substitute service – there is nothing else to take the place of the pipeline. As a result, the existing company can control the market, and there is no pressure from competitors for prices to become lower, or for innovation in the market place.

At the same time, companies are unwilling to undertake the massive investments that are often required without reasonable assurance that they will be able to recoup their money and earn a reasonable return on investment.

In a monopoly situation, markets are not fully competitive and would not function efficiently on their own. Regulation can be used as a non-market force to set prices for the goods or services. Pipeline regulation in Canada therefore is a substitute for the competitive economic forces that would normally work in a fully functioning market. The goal of economic regulation is that the public good (in this case pipeline infrastructure) is provided at a price, and in amounts, that would be expected from a competitive market.

Views of the Board

Although the Mackenzie Valley Pipeline will not go into service before 2018 at the earliest, we find that it is appropriate to make a decision on the toll and tariff principles at this time. This will give the Proponents, potential third-party shippers, and others a clearer understanding of the terms of service that will prevail as they make decisions concerning the project.

8.2.2-Method of economic regulation

The Proponents have proposed that tolls be established based on the best estimate of the Mackenzie Valley Pipeline's costs for the coming year. Any differences between the original estimates and the actual amounts at the end of the year would be recorded in deferral accounts and included in the following year's tolls. The Proponents also committed to providing each shipper with the annual revenue requirement and the applicable tolls at least 30 days prior to the beginning of the new toll year.

According to MGM Energy Corp. this form of regulation includes little incentive to control costs since there is little or no risk of non-recovery of actual costs incurred. Higher than anticipated costs can be recovered through the following year's tolls. MGM Energy Corp. contends that this form of regulation might be appropriate for a pipeline without third-party shippers since, as both the owners of and shippers on the Mackenzie Valley Pipeline, the Proponents would be relatively indifferent

to tolling costs. However, for third-party shippers that would be competing with the owner-shippers for access to markets, this approach is contrary to the concept of an open access pipeline system.

In addition to the lack of incentive to control costs, MGM Energy Corp. stated that there is no opportunity to review costs and the onus is placed on third-party shippers to file a complaint with respect to the prudence and level of any costs. In order for the tolls to be considered fair and transparent, third-party shippers must have sufficient notice of the incurred costs and the opportunity in a public forum, if necessary, to adequately assess these costs before the Mackenzie Valley Pipeline begins operation. MGM Energy Corp. supported a public hearing process once the Mackenzie Valley Pipeline is in service that would occur on a regular basis, whether annually or over some specific negotiated period, for example every three to five years.

Group 1 versus Group 2

For the purpose of economic regulation (not safety or environmental regulation) the National Energy Board has divided pipeline companies into two groups. Group 1 companies own the major pipeline systems. Those companies that own smaller pipelines or pipelines with relatively few shippers are classified as Group 2 companies. Group 2 companies and certain Group 1 companies are regulated on a complaint basis. Under complaint-based regulation, the pipeline company is responsible for providing their shippers and other interested

groups with sufficient information so that they may determine whether the tolls are reasonable. The tariffs and the resulting tolls are effective once filed unless a complaint is filed or the National Energy Board, on its own motion, decides to review the toll.

The Proponents have not specifically asked to be classified as either a Group 1 or Group 2 company. They noted that they expect the Mackenzie Valley Pipeline to be classified as a Group 1 company but would be satisfied if we found that a Group 2 designation was more appropriate.

Did you know?

Definitions

Access provisions - the provisions in a tariff which allow third parties to contract for the use of the pipeline facilities.

Tariff - the list of rules for transporting (moving) gas on a pipeline company's facilities. This list of rules sets out the terms and conditions under which the service of a pipeline are offered or provided, including the tolls, the rules and regulations, and the practices relating to specific services.

Tariff principles - the general principles that will be used to define the tariff.

Toll - the price charged by a pipeline company for the use of its facilities.

Toll principles - the general principles outlining how the tolls will be determined.

Views of the Board

Imperial Oil Resources Ventures Limited will be designated as a Group 1 company. It will be required to file Quarterly Surveillance Reports as outlined in the Toll Information Regulations and Section BB, Financial Surveillance Reports in the National Energy Board's Filing Manual.

Given that, as a Group 1 company, both shippers and the National Energy Board will have the opportunity to review the Mackenzie Valley Pipeline's costs and any concerns can be brought to the National Energy Board, we accept the Proponents' proposed method of regulation.

8.2.3-Cost of capital

Capital structure and return on equity Capital structure is the mix of debt and equity that a company uses to finance projects, such as a pipeline. Ideally, the capital structure should minimize the cost of capital while meeting the objectives of a fair return. Debt is generally cheaper than equity financing because, unlike equity, it is tax deductible and because it is less risky. In the event of bankruptcy, it is the lenders, not the company shareholders, who have the first call on cash. However, the determination of the optimal capital structure can be a fine balance – too much debt and the pipeline's financial risk increases along with its cost of capital.

 

Did you know?

RH-2-94 formula for calculating return on equity

In 1995, the National Energy Board started using a formula for setting the annual return on equity for a hypothetical or benchmark pipeline. This could be used as the standard for determining the return on equity for pipelines that did not have an alternative, negotiated arrangement. This National Energy Board formula was based on the forecast interest rate for long-term Government of Canada bonds, plus a risk premium. Each year, the formula was adjusted by 75% of the change in 30 year Government of Canada bonds. In October 2009, the National Energy Board decided that the formula would no longer be in effect.

The Proponents originally proposed a capital structure that combines 30 percent equity with 70 percent debt and a return on equity for the first 10 years of operation that is equal to the return on equity derived from the National Energy Board's RH-2-94 formula return on equity2 , plus 221 basis points. For example, if the formula return on equity were 9.0 percent, the return on equity for the Mackenzie Valley Pipeline would be 11.21 percent. When the Proponents originally filed their application to build the Mackenzie Gas Project, the return on equity derived by the RH-2-94 formula was 9.79 percent. At that time, the Proponents chose a 221 basis point premium on the premise that a 12 percent return on equity was reasonable for the Mackenzie Valley Pipeline. After the initial 10 years, the return on equity would be

[2] In the RH-2-94 Decision, the National Energy Board established a mechanism to annually adjust the return on equity for several Group 1 pipelines.

 

determined either through a negotiated settlement with Mackenzie Valley Pipeline shippers or the Proponents would apply to the National Energy Board to set the allowed rate.

Mackenzie Explorer Group asked us to approve a different capital structure and return on equity for the Mackenzie Valley Pipeline than what the Proponents applied for. Specifically, Mackenzie Explorer Group contended that the cost of capital for the Mackenzie Valley Pipeline should vary according to risk so we should approve a capital structure and return on equity that vary with the different phases of the project. The proposal using this approach is shown in Table 8-1. Alternatively, Mackenzie Explorer Group stated that if it had to recommend one premium for the entire project, it would suggest a premium of 70 basis points over the RH-2-94 formula return on equity.

Table 8-1 Mackenzie Explorer Group’s proposed return on equity capital for the Mackenzie Valley Pipeline

Table 8-1 Mackenzie Explorer Group’s proposed return on equity capital for the Mackenzie Valley Pipeline
 

Deemed equity

Premium above the RH-2-94 formula
(basis points)

The Proponents

30%

221

Mackenzie Explorer Group (Option 1)

  Predevelopment

80%

150

  Construction

25%

150

  Operations

30%

50

Mackenzie Explorer Group (Option 2)

70

These differing positions on what the Mackenzie Valley Pipeline's capital structure and return on equity should be are based on different determinations of the risk related to the project.

The Proponents submitted that the risks for the Mackenzie Valley Pipeline are significantly different than the risks for the established National Energy Board regulated pipelines accessing the well-proven Western Canada Sedimentary Basin. The fact that it is a greenfield pipeline accessing a new and untested supply basin increases the risk of the project, thereby necessitating a higher return for investors compared to other National Energy Board regulated gas pipelines. A greenfield pipeline is a new pipeline built on undeveloped land or where a pipeline has not yet been located.

The Proponents also noted that, on a stand-alone basis, if the Mackenzie Valley Pipeline were being financed in its entirety in the public markets, or if the National Energy Board's formula for return on equity had applied, it would require a higher equity component than that of established pipelines because of the greenfield characteristics of the Mackenzie Valley Pipeline combined with the magnitude of the investment. The Proponents contended that the proposed return on equity capital for the Mackenzie Valley Pipeline is reasonable when compared to other Canadian greenfield transmission pipelines, Canadian local distribution companies and American gas pipelines. Table 8-2 compares the common equity ratios and equity returns of major

National Energy Board regulated pipelines in 2005 as provided in evidence.

Table 8-2 Comparison of 2005 returns on equity capital

Table 8-2 Comparison of 2005 returns on equity capital

Deemed equity

ROE

Alliance

30%

11.3%

Maritimes & Northeast

25%

13.0%

Mackenzie Valley Pipeline proposed

30%

11.7%

TransCanada Mainline

33%

9.5%

Mackenzie Explorer Group disagreed with the Proponents' assessment of the risks for the Mackenzie Valley Pipeline. According to Mackenzie Explorer Group's analysis of the business risks facing the Mackenzie Valley Pipeline:

  • supply risk is low;
  • market risk is not significant and there will be no direct competitors;
  • construction risk is immaterial; and
  • there is little regulatory risk for the Mackenzie Valley Pipeline once it is in service.

Once in operation, Mackenzie Explorer Group contended that the Mackenzie Valley Pipeline faces no more risk than any of the mature pipelines accessing the Western Canada Sedimentary Basin.

On 8 October 2009, the National Energy Board issued a decision stating that the formula, which the Proponents had used as the basis of their return on equity calculation, would no longer be

in effect. At that time, the only National Energy Board regulated pipelines which were subject to the formula were the TransCanada Mainline, Foothills Pipe Lines Ltd., and Westcoast Energy Inc. Transmission.

In argument, the Proponents noted that Subsection 3.5 of the Toll Principles contemplated the possibility that the formula would be eliminated prior to the end of the 10th year of service. In such a case, the principle stated that the return on equity will be determined through a negotiated settlement or as a result of an application to the National Energy Board in a manner which preserves the principle that the return on equity will reflect a 2.21 percent premium over the National Energy Board prescribed rates of other Group 1 pipelines to which the formula had been applied immediately prior to 9 October 2009.

The Government of the Northwest Territories' position in argument was that determining the return on equity at least eight years prior to commencement of service and based on a formula, the main component of which already no longer existed, did not make sense. Consequently, the Government of the Northwest Territories, as had Mackenzie Explorer Group, asked us not to fix the return on equity for the Mackenzie Valley Pipeline at this time.

Deemed cost of debt

The cost of debt for a pipeline is typically determined when the pipeline goes to the capital markets to borrow funds. However,

the Proponents would not access debt markets to directly finance the project. Instead, each of the Proponents would provide the funds needed to cover its share of the debt. The development field owners, all of which have strong credit ratings, expect that this would likely come from internally generated funds. However, the Mackenzie Valley Aboriginal Pipeline Limited Partnership plans to access the capital markets to raise the funds it would need to finance both debt and equity.

Since the cost of debt for the Mackenzie Valley Pipeline would not be determined directly by the market, the Proponents proposed to deem the debt rate. Parties in the hearing agreed that the appropriate cost of debt would be the rate that would apply if the Mackenzie Valley Pipeline, as a stand-alone entity, borrowed funds. As a proxy for this rate, the Proponents proposed that the debt cost to be included in Mackenzie Valley Pipeline tolls be deemed as the weighted, average interest rate of the project debt financing provided by the senior lenders for the Mackenzie Valley Aboriginal Pipeline Limited Partnership. At the time of application, the cost of this debt was estimated to be 6.1 percent.

The Proponents contended that the Mackenzie Valley Aboriginal Pipeline Limited Partnership cost of debt is a reasonable proxy for the cost of debt because:

  • both the Mackenzie Valley Aboriginal Pipeline Limited Partnership and the Mackenzie Valley Pipeline have been given a provisional credit rating of A (low) by DBRS;3
  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership’s sole business is to invest in the Mackenzie Valley Pipeline;
  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership’s debt would be serviced by the same pool of cash flows that would service the Mackenzie Valley Pipeline stand-alone debt;
  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership‘s debt would be secured directly against the Mackenzie Valley Pipeline; and
  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership partners would be taxable — therefore the coverage ratios, debt ratings and cost of debt for the Mackenzie Valley Aboriginal Pipeline Limited Partnership should be similar to those of the Mackenzie Valley Pipeline.

The Proponents noted that if specific circumstances caused the Mackenzie Valley Aboriginal Pipeline Limited Partnership's debt rating to differ from that of the Mackenzie Valley Pipeline as a stand-alone pipeline, they would deal with that situation when it arose.

Assuming the financial forecasts unfolded as planned, the Proponents' evidence suggested that the proposed capital structure, return on equity and cost of debt would be aligned

[3]- DBRS and Standard & Poor's are rating agencies which provide credit ratings on issuers of various types of debt including bonds, commercial paper and preferred shares.

The March 2005 credit rating was subject to a number of assumptions such as that the project be completed without cost overruns, that the Mackenzie Valley Pipeline capacity is 28.3 Mm³/d (1 Bcf/d) to 34.3 Mm³/d (1.2 Bcf/d) and fully subscribed and that there is no change in the current shippers, owners, or agreements throughout the entire term of the debt.

with an ‘A' credit rating from Standard & Poor's and DBRS. If the cost of debt were closer to 7.0 percent when it is issued, interest coverage ratios and fixed charge coverage ratios could be lower, weakening the Mackenzie Valley Pipeline's credit profile. The Proponents stated that a credit rating lower than A- may impact the ability of an issuer to access the debt capital markets to raise the debt required for this project on a stand-alone basis. A rating lower than A- would also impact the cost of financing.

Mackenzie Explorer Group stated that deeming the debt cost of the development field owners as proposed by Proponents could be unfair and unreasonable because:

  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership’s share of Mackenzie Valley Pipeline ownership could be very small and therefore Mackenzie Valley Aboriginal Pipeline Limited Partnership’s cost of debt may not be reflective of the true debt costs for a venture the size of the Mackenzie Valley Pipeline;
  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership’s equity may be funded by a loan from the development field owners and therefore the investment takes on the characteristics of a 100 percent margin loan. While it may be low risk, it will still be more risky and expensive than debt backstopped by genuine equity; and
  • the Mackenzie Valley Aboriginal Pipeline Limited Partnership is a limited partnership which may not pay corporate income taxes so the financial parameters such as interest coverage ratios may be worse than if the Mackenzie Valley Pipeline were operating as a conventional limited liability corporation. (After this evidence was filed, the Proponents clarified that the current Mackenzie Valley Aboriginal Pipeline Limited Partnership partners will be taxable.)

Mackenzie Explorer Group proposed that the Mackenzie Valley Pipeline's cost of debt should be the lowest equivalent term issue cost for NOVA Gas Transmission Ltd., TransCanada PipeLines Limited, and Enbridge Gas Distribution, which Mackenzie Explorer Group contended are more appropriate proxies. This proposal would apply to the operating stage of the Mackenzie Valley Pipeline. For the predevelopment and construction stages, Mackenzie Explorer Group proposed different debt rates as follows:

  • predevelopment – 30 year Government of Canada bond yield plus 60 basis points; and
  • construction – three to five year Government of Canada bond yield plus 50 basis points.

Mackenzie Explorer Group submitted that the option is “always on the table” for the National Energy Board to review the Mackenzie Valley Aboriginal Pipeline Limited Partnership's cost of debt if there was evidence that it was not the same cost of debt that would apply to a stand-alone Mackenzie Valley Pipeline.

Views of the Board

The specific return on equity for the Mackenzie Valley Pipeline will be set closer to the in-service date, either through a negotiated settlement subject to National Energy Board approval, or as a result of an application brought to the National Energy Board. We accept the Proponents' approach of preserving the 221 basis point premium over other Group 1 companies that were subject to the formula. However, we cannot make future National Energy Board decisions and, as noted in RH-2-2004 (TransCanada PipeLines Limited Phase II), when determining the appropriate returns for a pipeline, the National Energy Board looks at the total return taking into account both return on equity and equity thickness, not one factor in isolation.

With respect to the deeming of the debt rate, if there is evidence in the future that the Mackenzie Valley Aboriginal Pipeline Limited Partnership's cost of debt is different than the cost of debt that would apply to a stand-alone Mackenzie Valley Pipeline, a party can bring the issue to the National Energy Board in the usual fashion. We do not accept Mackenzie Explorer Group's proposal for a different capital structure, allowed return on equity or debt rate for each phase of the project. We find the approach to be unnecessarily complicated and inconsistent with typical regulatory practice in Canada.

8.2.4-Depreciation

The Proponents plan to use a depreciation method that would allow them to recover 80 percent of their asset costs over the first 20 years of operation of the Mackenzie Valley Pipeline. The owners would only recover the remaining 20 percent of the initial costs if there were shippers beyond year 20. Using this method, the annual depreciation rate would be between four and five percent, depending on the ratio of 15 year and 20 year Firm Service Transportation Agreements. Based on the initial contracts signed by the owner shippers, the proposed depreciation rate would be 4.8 percent for the first 15 years of the Mackenzie Valley Pipeline's operating life and 1.6 percent in years 16 to 20. This would result in a significant reduction in tolls for the last five years of the Mackenzie Valley Pipeline's 20 year economic life.

Mackenzie Explorer Group submitted that the proposed overall depreciation rate is too high

 

Did you know?

Depreciation

Depreciation for accounting purposes is a method of distributing the costs of assets, such as a pipeline, over their estimated useful lives by allocating annual amounts as an expense. For example, if a project's capital costs were $20 million and the depreciation rate was five percent, then each year $1 million would be included in tolls to allow the owner to recover the original capital. For toll making purposes, this depreciation expense is part of the company's annual cost of providing transportation service. By including depreciation in the cost of service, the company can recover the costs of its investment over time. In addition to this return of capital, there is also a return on capital.

and that it would be inappropriate at this time for us to fix the system's allowed depreciation rates for a 20 year period. Mackenzie Explorer Group stated that the perceived economic life of the system would be tied to a number of factors such as the discovered and likely to be discovered gas supply, as well as supply and demand conditions in the entire North American gas market. Mackenzie Explorer Group proposed that given the current knowledge and understanding of the resource base, it would not object to us approving a forecasted 25 year economic life with an initial depreciation rate of four percent.

Mackenzie Explorer Group also contended that, every five years after commissioning, the Proponents should be required to file a review of the allowed depreciation rates, including an evaluation of the economic life of the facilities based on gas supply forecasts at the time.

Views of the Board

We accept the Proponents' proposed depreciation method but note that circumstances may change over the 20 years, necessitating a review of the economic life of the project and therefore the appropriate depreciation rates. While noting that we cannot bind future panels of the National Energy Board, if the National Energy Board reviews the depreciation method during the first 20 years of operation it would have regard to the effect of any change in depreciation on the ability of the Mackenzie Valley Aboriginal Pipeline Limited Partnership to finance its interest.

8.2.5-Tolling methods (zonal versus volume distance tolling)

The three main cost of service tolling methods are zonal, volume distance, and postage stamp. Depending on the circumstances, any of these methods can produce just and reasonable tolls.

The Proponents have proposed two tolling zones for the Mackenzie Valley Pipeline:

  • a long haul zone for gas coming into the Mackenzie Valley Pipeline upstream of Little Chicago at approximately kilometre post 203; and
  • a short haul zone for gas entering at or downstream of that point.

The 20 year short haul toll is proposed to be fixed at 72.4 percent of the firm service transportation toll. This would allow shippers of gas from Colville Hills to pay the reduced rate. This rate was originally fixed at 80 percent but was revised downward to reflect the distance from the midpoint between Little Chicago and Norman Wells to the NOVA Gas Transmission Ltd. interconnect in Alberta relative to the total length of the Mackenzie Valley Pipeline.

The Proponents indicated that two zones, each with a single toll, would be reasonable for the Mackenzie Valley Pipeline. This approach recognizes that the large quantities of gas flowing into the Mackenzie Valley Pipeline at Inuvik make it economically possible to move gas from more southern Northwest Territory locations. The Proponents did not support volume-distance based tolls as a stand-alone tolling method. The Proponents were concerned that applying highly distance-sensitive rates could allocate too many benefits of economies

Did you know?

Toll design

Zonal tolls - all receipts from, or deliveries within, the same zone pay the same toll, regardless of exactly where the product is received or delivered within the zone. For example, on the TransCanada Mainline the province of Saskatchewan comprises a zone. Therefore all gas received in Saskatchewan pays the same rate whether it was received on the west side of the province or the east side.

Volume-distance tolls - the further the gas moves, the higher the charge. For example, the charge could be per kilometre. (If the contracts are negotiated in energy units, such as $/GJ or $/MMBtu rather than volumetric units such as $/Mcf or $/cubic metre, then the term “energy-distance tolls” is sometimes used.)

Postage stamp tolls - a toll that is charged per volumetric unit transported regardless of the distance traveled and the points of origin and destination. This is similar to the charge for a postage stamp where the rate is the same whether the letter goes to the next block or the other side of the country.

Figure 8-1 Proposed toll zones for the Mackenzie Valley Pipeline

Figure 8-1 Proposed toll zones for the Mackenzie Valley Pipeline

of scale and scope to future short haul shippers and thereby undermine the willingness of the initial anchor shippers to proceed with the project.

While there are currently no plans to establish any other zones, the Proponents would consider doing so if transportation was requested for gas produced south of Colville Hills. In such a case, the appropriate tolling arrangements would be considered at that time. The Proponents would consider any benefits from the additional commitments, the availability of competitive alternatives, any stranding of upstream capacity, and all other relevant factors in making a decision. They further noted that it would ultimately be up to the National Energy Board to decide what tolls would be just and reasonable.

The Government of Yukon submitted that the Proponents' toll design is not economically efficient and may lead to less than optimal pipeline development and use. Specifically, they were concerned that a short haul zone of 994 kilometres (the distance from Little Chicago to Alberta) is a very long distance over which to apply a single toll and would discourage potential shippers from using the southern portion of Mackenzie Valley Pipeline. The Government of Yukon submitted that we should find a volume-distance (or energy-distance) toll design to be appropriate and in the public interest for the Mackenzie Valley Pipeline. Further, we should direct that it be implemented using a single rolled-in revenue requirement that includes the cost of the initial pipeline, future

expansions of that pipeline, and future extensions and laterals connecting with the Mackenzie Valley Pipeline. (See Section 8.2.8 for a further discussion of these topics.)

The Government of Yukon noted that a volume-distance toll design in differing formats is used on many Canadian pipeline systems, including on the TransCanada Mainline, TransCanada's British Columbia system and Westcoast's T-South. A volume-distance cost method would result in tolls that are efficient, fair and equitable, well understood by shippers and the National Energy Board, and flexible and durable over a wide range of future circumstances. The Government of Yukon also stated that the tolling method would not have to be purely volume-distance tolls. Toll zones could be created along a pipeline that uses energy-distance or volume-distance toll design.

MGM Energy Corp. and Apache Canada Ltd. both supported a pipeline toll method with a toll based on distance as this reflects a shipper's proportionate share of costs for use. MGM Energy Corp. wanted the volume-distance method to be applied to both the Mackenzie Valley Pipeline and the natural gas liquids transmission facilities and was not opposed to the use of a zonal method. They and other parties supported distance-sensitive tolls in final argument.

The Proponents are also offering a separate tolling arrangement for service to northern communities (see Section 8.2.9).

Views of the Board

It would be most economically efficient from a pipeline perspective for the entire pipeline from Inuvik to the Alberta border to be filled to capacity at all times. If this were the case, it would make sense to use a postage stamp methodology and have only one toll zone. However, this is not the case. The Mackenzie Valley Pipeline, as proposed, has spare capacity available and attracting additional shippers would increase economic efficiency and generally result in lower tolls for everyone.

In accordance with the principles of cost-causation and user-pay, we find it desirable that tolls would be distance sensitive. However, we find using a pure volume-distance based toll would be unnecessarily complicated. Based on the location of the gas reserves noted in evidence, we approve the Proponents' initial tolling method with two zones. However, we expect that additional zones (over and above the two proposed zones) would be considered in the future, and expect the tolls in each zone to be distance sensitive. Considerations in determining the location and timing of future zones should include:

  • distance;
  • capital expenditure;
  • the benefit of the additional commitments;
  • the availability of competitive alternatives;
  • any stranding of upstream capacity; and
  • all other relevant factors.

8.2.6-Open access

Producers of other natural gas resources in the region need access to the Mackenzie Valley Pipeline to reach the North American market. Open access means that shippers willing to meet the toll and tariff conditions have the right to access service where it is economically feasible for the Proponents to provide that service. Without this access, natural gas supplies in the Northwest Territories could not be economically developed.

Parties who could be potential third-party shippers raised the following issues with regard to access to the Mackenzie Valley Pipeline:

  • access and expansion policy, which includes the process for addressing expansions and toll treatment for future expansions;
  • precedent agreements;
  • minimum contract term; and
  • interruptible service for gas which fails to meet specifications.

Access and expansion policy

During our hearing two key issues were discussed regarding the access and expansion policy. The first concerned the process for, and timeliness of, expansions and the second the appropriate toll treatment for future expansions.

Process for addressing future expansions

The Proponents submitted that when future requests for service on the Mackenzie Valley Pipeline are received, capacity could be found in a number of different ways. The Proponents could ask existing shippers to give up (“turn back”) any unneeded capacity. Alternatively, the Proponents could conduct an open season to

determine if other producers needed capacity. Once there were sufficient precedent agreements, the Proponents would then make the necessary applications to expand the Mackenzie Valley Pipeline. Finally, potential shippers would retain the right to ask the National Energy Board to order the Mackenzie Valley Pipeline to provide the service. The Proponents also noted that it is not possible to be definitive at this stage about the circumstances and timing of future Mackenzie Valley Pipeline expansions.

Mackenzie Explorer Group sought a degree of assurance that when resources are discovered, processing capacity and pipeline capacity can be economically accessed or developed within a reasonable period of time. They submitted that this could be provided by developing an expansion policy for both the Mackenzie Valley Pipeline and the Mackenzie Gathering System. In Mackenzie Explorer Group's view, an expansion policy should include, among other things, a clear procedure for existing and prospective shippers to request service, as well as a public and transparent open-access process to solicit other requests. Further, the Mackenzie Valley Pipeline operator should be required to make information such as expansion volumes, costs and expected tolls available on a timely basis. Mackenzie Explorer Group also requested that the Proponents consider and execute any expansion in a timely manner.

The Government of Yukon also contended that if the access conditions are met, the Proponents should be required to proceed with an application.

Toll treatment for future expansions

The second issue, the appropriate toll treatment of expansions, addresses the question of whether the costs of expansions should be rolled into the Mackenzie Valley Pipeline's existing rate base.

The Proponents' Toll Principles stated that, as all foreseeable expansions are expected to reduce existing tolls, it is currently contemplated that the tolls for an expansion would be determined on a rolled-in basis. However, the Proponents also stated that they cannot establish a definite tolling method that would apply for every circumstance and it would not be appropriate for them or us to make such a guarantee.

The Government of the Northwest Territories contended that, as a matter of principle, potential shippers on an expanded Mackenzie Gas Project should receive categorical assurance that tolls would be determined on a rolled-in basis, whether or not the costs of that expansion would reduce existing tolls. The Government of the Northwest Territories noted that it has been the National Energy Board's practice for every major gas pipeline under its jurisdiction to roll in all of the capital costs associated with its facilities to one rate base, and therefore to one cost of service. This rolled-in approach was challenged in the 1980s. At that time the National Energy Board chose this approach based on a large body of evidence and argument. An indication of intended or required conformity to rolled-in tolling would be valuable for parties which expect to contract for the Mackenzie Valley Pipeline's services in the future. It would also provide a long-term

signal to encourage exploration and development of gas resources, particularly in respect of a basin opening pipeline.

The Government of Yukon also asserted that we should find that the costs of expansions, as well as extensions and supply laterals, should be rolled in as long as they meet standard economic tests to ensure the facility would be used and that shippers would be held accountable through contracts with sufficient primary terms.

Did you know?

Definitions

Demand charges - a monthly charge that typically covers the fixed costs of a pipeline. The demand charge is based on the daily contracted quantity and is payable regardless of whether the quantities of gas are transported.

Open season - a process in which a pipeline company offers either existing or new capacity to the market and receives bids for that capacity from market participants.

Precedent agreements - a formal understanding between a potential shipper and the pipeline company saying that once capacity is available the companies will sign a Service Agreement if certain conditions are met. The Precedent Agreement commits the shipper to using that pipeline to transport specific volumes of gas and commits the pipeline company to making that amount of space available to the shipper for moving the gas if the conditions are satisfied.

Pro forma contract or pro forma precedent agreement - a sample contract or sample precedent agreement.

Revenue requirement - the total cost of providing service, including operating and maintenance expenses, depreciation and amortization, taxes, and return on rate base.

The Proponents replied that the National Energy Board is not strictly bound by its earlier decisions and must consider each case on its own merits based on the record before it. It can therefore only decide the tolling treatment of a particular expansion when an application for that expansion is made. However, they agreed to remove the clause in section 20.4 of the Tariff Principles that caused concern about the willingness to undertake expansions which would result in higher tolls. That clause states: “As all foreseeable expansions are expected to reduce existing tolls…”

Precedent agreements

As discussed previously, the only parties that have signed Precedent Agreements for the Mackenzie Valley Pipeline to date are the owner-shippers, which have signed contracts for capacity totaling 23.5 Mm³/d (830 MMcf/d). This leaves 10.8 Mm³/d (380 MMcf/d) of capacity available in the summer with three compressor stations, as in the base case design, or 3.8 Mm³/d (134 MMcf/d) with only a single compressor station at Great Bear River. While additional capacity would be available during the winter because of the effect of ambient temperature on capacity, firm contracts are based on the level of flow that can be achieved during the lowest flow period which is the summer. The number of third-party contracts is important because it influences, among other things, the number of compressor stations that would be required, the level of tolls on the system and the share of the project that would be owned by the Mackenzie Valley Aboriginal Pipeline Limited Partnership.

In order to obtain the right to capacity on the Mackenzie Valley Pipeline, potential shippers must first sign a Precedent Agreement. As the Proponents have structured the agreements, the pro forma Precedent Agreement contains the proposed Firm Service Transportation Agreement, the Toll Principles and the Tariff Principles.

The Proponents are not requesting our approval of the Precedent Agreement or the Firm Service Transportation Agreement but they are requesting approval of the toll and tariff principles. The Proponents' position is that an agreement on the tolling principles provides greater certainty for both shippers and the Proponents as to how tolls will be determined. This increased certainty allows shippers to make plans to develop their gas resources and it allows the Proponents to obtain financing. It also reduces the need for, and cost of, annual rate hearings.

The Proponents stated that, once we release our Reasons for Decision, each Mackenzie Gas Project shipper will have to sign a Firm Service Transportation Agreement at which time the Precedent Agreement will terminate. Within 75 days of our Reasons for Decision date, the Proponents will issue Firm Service Transportation Agreements to all shippers and shippers will have 15 days after the Firm Service Transportation Agreement is received, or 45 days after our decision date, whichever is later, to sign the contracts. The Firm Service Transportation Agreement will be signed before the Proponents decide to go ahead with the project.

The Precedent Agreement gives parties the right to terminate the agreement for any reason within 30 days of us issuing our Reasons for Decision. However, if a shipper wishes to terminate the agreement it would have to pay a termination fee of $285 for each gigajoule of daily contract quantity. For example, a party which signed a Precedent Agreement for 2.83 Mm³/d (100 MMcf/d) would pay approximately $30 million in termination fees. The Proponents may terminate all Firm Service Transportation Agreements within one year of our Reasons for Decision date if the Proponents decide not to proceed with construction of the Mackenzie Valley Pipeline.

Because the Toll and Tariff Principles are embedded in the Precedent Agreement, any shipper that signed a Precedent Agreement contractually agrees that the tariff for the Mackenzie Valley Pipeline should reflect these toll and tariff provisions. In effect, they would be contractually precluded from raising concerns about these issues before us and would be contractually obliged to support the Proponents' position in proceedings before the National Energy Board.

A specific exception was made within the Precedent Agreement which would give signatories the right to challenge the prudence of predevelopment costs and capital expenditures, as well as the prudence of operating costs. This right to challenge would allow shippers to question whether or not the costs claimed by the Proponents were reasonable.

According to Mackenzie Explorer Group the requirement for shippers that entered into a Firm Service Transportation Agreement to support aspects of the Mackenzie Gas Project application with which they do not agree discourages parties from signing contracts before our hearing process is complete. Mackenzie Explorer Group asserted that this is unreasonable to shippers which are not owner-shippers.

Mackenzie Explorer Group notes that the Precedent Agreement and the Firm Service Transportation Agreement lay out numerous items which would normally be addressed in a pipeline tariff or determined by the National Energy Board in tolls and tariff proceedings such as:

  • capital structure;
  • return on equity;
  • cost of debt;
  • depreciation;
  • taxes;
  • toll design;
  • renewal rights;
  • force majeure;
  • services offered by the pipeline;
  • authorized overrun service;
  • restrictions on the availability of interruptible transportation service; and
  • various other matters.

In addition, Mackenzie Explorer Group contends that parties are discouraged from signing the Precedent Agreement because it contains no provisions protecting the shipper against adverse events before signing a Firm Service

Transportation Agreement, other than a right to “buy out” its transportation obligations by paying $285 per gigajoule of contract demand. Adverse events could include unreasonable escalation of projected rate base, an adverse National Energy Board decision, regulatory delays, and the lack of available downstream pipeline capacity. Other impediments to signing contracts include the lack of assurances that access to other segments of the Mackenzie Gas Project would be made available on reasonable terms and conditions during the term of the Firm Service Transportation Agreement, and the lack of a Code of Conduct during the construction and operation phases of the pipeline.

To address the concerns regarding the Precedent Agreement, Mackenzie Explorer Group contends that the Proponents should be required to file a proposed tariff with the National Energy Board within three months of the date our decision is issued. After reviewing that filing, including a public hearing if required, the National Energy Board would approve an appropriate tariff and Firm Service Transportation Agreement. This tariff would reflect the National Energy Board's determinations in this proceeding on the toll and tariff principles.

MGM Energy Corp. also noted that it was not surprising no third-party shippers had yet signed a Precedent Agreement given the lack of agreement on tariff and tolling methods, the lack of an operating Code of Conduct and the lack of tolling and tariff information on the natural gas liquids pipeline.

Minimum contract term

The Proponents have offered two contract terms, 20 years and 15 years, provided that at least 20 percent of the contracts are for 20-year terms to satisfy financing requirements. The toll for a 15-year term would be higher than the toll for a 20-year term. For gas flowing the full distance this premium would be $0.15 per gigajoule. The Proponents also noted that consideration of any other term lengths would be determined after deliveries start and would depend on many factors including volume, timing and cost.

Mackenzie Explorer Group and the Government of the Northwest Territories both expressed concerns with the lack of shorter-term contracts. Mackenzie Explorer Group accepts that 15 years is an appropriate minimum contract term for initial contracts. However, it notes that the Mackenzie Valley Pipeline, when it files its proposed tariff, should be required to clarify that minimum contract terms of one year for firm service are acceptable for existing uncontracted capacity.

The Government of the Northwest Territories is concerned that no transportation service is currently planned for shippers which cannot commit to the minimum 15-year term. Shippers which need shorter-term service will have to wait a number of years to find out whether or not this service will be available. Further, they may be left in a disadvantageous position of contracting in the secondary market for transportation on the Mackenzie Valley Pipeline,

if one develops. The Government of the Northwest Territories expressed the belief that these deficiencies will discourage the economic development of further gas reserves in the region. To address this concern, the Government of the Northwest Territories submitted that it would be just and reasonable for us to ensure, even if only as a fallback, that primary capacity on the Mackenzie Valley Pipeline would be available from the start of operations for terms shorter than the 15-year minimum, perhaps 10 years. As with the 15-year term, the pricing of shorter-term service would also reflect a term toll differentiation.

Interruptible service for gas which fails to meet specifications

Suncor requested in written argument that the Mackenzie Valley Pipeline be required to offer a special interruptible service for gas which fails to meet the tariff specifications for minimum heat content. Suncor Energy Inc. noted in its request, that there would be a long lead time to redesign its gas plant so that its gas could meet the minimum specifications.

As background, in June 2006, the Proponents and potential shippers negotiated a provision which would allow gas which did not meet the minimum heat content to be shipped as long as a surcharge was paid. The Tariff Principles also provide for gas to flow even if it exceeds the CO2 limits as long as various conditions are met. However, if the conditions are not met, the pipeline can curtail those flows and the shipper is still obligated to pay the tolls

under its firm service agreement. Also related to interruptible service, Mackenzie Explorer Group asserted that interruptible service should not be restricted to firm service shippers.

The Proponents responded that they don't intend to offer interruptible service to shippers that don't hold firm service contracts so Suncor Energy Inc. will in any event be required to enter a Firm Service Transportation Agreement. It is through firm service contracts that the Mackenzie Valley Aboriginal Pipeline Limited Partnership will earn its interest in the Mackenzie Valley Pipeline. The Proponents noted that since it will be at least eight years until natural gas flows, Suncor Energy Inc. would have time to redesign its plant so that its gas meets specifications.

Views of the Board

We find it fundamental to our decision that the Mackenzie Valley Pipeline be accessible to all shippers that meet the terms of the tariff. There are a number of principles which enhance open access on a pipeline. For example, it is essential that shippers know the terms and conditions of access to a pipeline in advance of negotiations. In GH-2-87 the National Energy Board stated:

The Board, however, considers it essential that all terms and conditions of access to a pipeline be clearly reflected in the tariff in order to ensure that there are no undue
service restrictions imposed by pipeline companies involved in the marketing or producing sectors of the natural gas industry. In the National Energy Board's view, prospective shippers are entitled to know the conditions of access to a pipeline system in advance of contract negotiations, as this knowledge will allow market participants to make informed supply and market decisions thereby contributing to the efficient functioning of the natural gas market.

As elaborated in RH-3-2004:

 

This ensures transparency and puts the pipeline and its customers on an equal footing in negotiating a business arrangement.5

To provide this transparency and clarity, the Proponents are directed to include in the tariff all terms and conditions of access to the Mackenzie Valley Pipeline including a clear procedure for shippers and potential shippers to request service and the specific process that will be used for open seasons.

Regarding future expansions, we cannot provide the degree of assurance sought by Mackenzie Explorers Group and the Government of Yukon absent the information that would accompany a specific request for service.

[4]- GH-2-87 Reasons for Decision, p 92.

[5]- RH-3-2004 Reasons for Decision, p. 9.

With respect to toll treatment for future expansions, we note the concerns about the clause in the tariff which states: “As all foreseeable expansions are expected to reduce existing tolls…” With the removal of this clause as offered by the Proponents in final argument, the governments of the Northwest Territories and Yukon agreed that, while it has been the National Energy Board's practice to roll in the capital costs of an expansion, the appropriate toll treatment would be determined at the time of the expansion after considering the specific circumstances.

Certain provisions of the Precedent Agreements purport to require that potential shippers support all aspects of the toll and tariff principles and therefore preclude potential shippers from raising concerns with the National Energy Board. This provision is contrary to the National Energy Board's principles and to the fundamental tenets of open access. The Proponents are directed to remove these words from any document that relates to access to the Mackenzie Valley Pipeline. We expect the clause to be removed as soon as possible but, in any event, no later than 31 December 2011. In the meantime, any potential shipper can approach the National Energy Board to resolve a dispute.

The Proponents are also directed to file a tariff as soon as reasonably possible but, in any event, no later than 31 December 2011.

We acknowledge the preference of Mackenzie Explorer Group and the Government of the Northwest Territories for flexibility with respect to minimum contract terms when capacity emerges. We also note that no party disputed the need for minimum 15-year contracts to support the construction of the project and for the Mackenzie Valley Aboriginal Pipeline Limited Partnership to obtain financing. We wish to focus at this stage on the arrangements that will put the Mackenzie Valley Pipeline on a sound commercial footing between now and the in-service date. For this reason, we will not require a shorter minimum contract term at this time. We expect that the Proponents would investigate shorter contract terms once the project becomes operational.

The proposal by the Proponents to offer interruptible service only to parties that have signed a Firm Service Transportation Agreement is acceptable at this time given the need to establish a firm commercial foundation for the Mackenzie Valley Pipeline. The specific proposal for a special interruptible service for gas which fails to meet minimum specifications is not required, particularly given the long lead time for Suncor Energy Inc. to address this issue at its facilities.

8.2.7-Term-related toll differential

As mentioned in the previous section, the toll for a 15-year term would be higher than the toll for a 20-year term. For gas flowing the full distance this premium would be $0.15 per gigajoule. Mackenzie Explorer Group argued that the $0.15 per gigajoule premium had not been justified on a cost basis, and should not be approved.

The Proponents argued that the differential was not intended to reflect costs and was arrived at as a matter of judgment intended to reflect the different values that shippers would place on 15- and 20-year contracts.

Views of the Board

We find that the proposed toll differential reflects different services and is reasonable. Potential shippers will have the choice of entering into a longer-term contract with a slightly lower toll or a shorter-term contract with a higher toll. We expect they will make the choice that best meets their needs.

8.2.8-Lateral policy

The Proponents, for business reasons, do not intend to build extensions or laterals either for tying in supply or for delivering natural gas to market. They will, however, accommodate the tie-in of interconnecting pipelines built by others.

The Government of Yukon argued that we should find that lateral and extension services must be provided by the Mackenzie Valley Pipeline. Allowing the Proponents to limit their investment to the mainline is inconsistent with the public interest in achieving economies of scale and scope that can lower system-wide costs upon which tolls are based. The Government of Yukon contended that if these economies, both of scale and of scope, were not realized, some extensions or laterals which would otherwise be of economic value may not be constructed and the regional development of natural gas would almost certainly be reduced. Such an approach would establish an unnecessary barrier to developing gas

On the record

Economies of scale and scope with laterals

Economies of scale occur when a single product, such as pipeline transportation services, can be offered for a lower unit cost by one large diameter pipeline than by several smaller pipelines built along the same route. Instead of each shipper building and operating facilities for its own needs, the transmission company can combine demand from several shippers and build a single, larger pipeline.

Economies of scope occur when there is a reduction in costs if two or more services, such as provision of pipeline services and provision of lateral services, are produced by a single company rather than a number of companies.

On the record

Transportation-by-others model

A separate company could construct, own and operate the extension or lateral facility that interconnects with the mainline. Parties wishing to use those facilities would contract with the Mackenzie Valley Pipeline which would in turn contract with the company that owns the laterals. The cost of that contracted service would be combined with the costs of the mainline to form a single annual revenue requirement. Shippers would see a seamless service despite using facilities of two different owners.

resources located away from, but dependent on, the Mackenzie Valley Pipeline for transportation to southern markets.

If the Proponents will not build extensions or laterals, the Government of Yukon submitted that a transportation-by-others model could be used to achieve the economies of scope. Integral to this solution is the Government of Yukon's request for volume-distance tolls. Although the cost per kilometre would be the same across the mainline and lateral or extension, an extension shipper would incur a higher total toll because it would be going further since it would use the extension or lateral in addition to the mainline.

The Government of Yukon noted that another variation of the transportation-by-others structure would be for the Mackenzie Valley Pipeline to operate and administer the upstream interconnected facilities, instead of the facility owner. The facility owner would not need its own operating and administration function since these functions would be undertaken by the Proponents.

Did you know?

Definitions

Distribution system - the pipeline facilities which transport the fuel from the mainline to the end users, including homes and businesses.

Gathering system - the pipeline facilities which collect gas from producing fields.

Mainline - the main transportation line(s) of a pipeline system.

The Government of the Northwest Territories stated that the Proponents' policy of not investing in supply laterals is unfortunate since the Proponents were probably in the best position to construct and integrate these facilities. The Government of the Northwest Territories noted that the Proponents cannot, by declaring that they will not invest in laterals, escape the requirement of the National Energy Board Act which states that the National Energy Board can, upon request, require extension of the Mackenzie Valley Pipeline facilities, if required and if no undue burden is imposed on the pipeline.

The Proponents argued in reply that section 71(3) of the National Energy Board Act did not appear to give the National Energy Board authority to direct a pipeline owner to build supply laterals or extensions, but section 72(1)

authorizes the National Energy Board to direct a pipeline company to extend its transmission facilities to the junction with local distribution companies.

Views of the Board

We will not require the Proponents to construct supply extensions and laterals or roll in the costs of those facilities. In order for the National Energy Board to make these decisions, even if it has the authority to do so, it would have to have a specific application before it. Without the detail contained in an application, we cannot assess the circumstances, public interest or burden.

Our views with respect to delivery laterals are discussed in Section 8.2.9 below.

8.2.9-Service to northern communities

Four issues on the record related to community access to gas flowing on the Mackenzie Valley Pipeline:

  • a rebate for shippers selling gas to northern communities;
  • the allocation of capital costs for metering and related facilities;
  • laterals to communities; and
  • community access to gas supply.

Rebate for shippers selling gas to northern communities

When shippers on the Mackenzie Valley Pipeline sell gas to small gas users in the Northwest Territories, the Proponents propose to give those shippers a rebate of 50 percent of the applicable 20-year toll. The program is called the Northwest Territories Small Market Delivery Rebate Expense. The rebate would apply to:

  • residential, commercial or institutional users, including power generators that serve these users;
  • small industrial companies that consume less than 100,000 gigajoules per year; and
  • power generators that produce less than the amount of electricity that could be generated from 100,000 gigajoules annually.

Did you know?

Definitions

Community gas pipeline - a lateral from the main pipeline to a local distribution system.

Local distribution company - a legal entity that distributes natural gas throughout a community or area, for example, to homes, businesses, institutions or power generators. The legal entity may be a private company, an entity owned by a municipality, or a cooperative. The term local distribution company can also be used for a company that distributes electricity

After small industrial companies and power generators were included in the program, the Government of the Northwest Territories withdrew evidence raising concerns about the program.

Capital costs for metering and related facilities

Communities requesting access to natural gas flowing on the Mackenzie Valley Pipeline would require an agreement with a pipeline shipper to purchase the gas, an agreement with the Proponents for an interconnection, and regulatory approvals for facilities and gas distribution. A number of facilities would need to be installed to access gas from the Mackenzie Valley Pipeline including a depressurization and metering facility at each access point. Depressurization would be necessary because

the pressure of the Mackenzie Valley Pipeline would be much higher than the pressure of a distribution system going into the community. The natural gas would also need to be heated so that liquid hydrocarbons do not form when the gas goes from a higher pressure to a lower pressure. The facilities would also include valves, vessels and safety control equipment.

After leaving the depressurization and metering facility, the gas would flow on a community gas pipeline, or lateral, to a local distribution system serving homes, businesses, institutions and, potentially, power generators. The length of the lateral would depend on the distance between the community and the Mackenzie Valley Pipeline. See Figure 8-2 for an example of a community gas pipeline connection.

Figure 8-2 Community gas pipeline

Figure 8-2 Community gas pipeline

The Proponents plan to include the cost of valve access points in the Mackenzie Valley Pipeline's rate base. However, they propose that the community or developer would be responsible for all costs downstream of these valves. These costs could include metering and associated interconnection facilities as well as any transportation, distribution, processing or other facilities needed to bring gas from the pipeline to the users. The Proponents intend to construct and own the meter station and all associated interconnection facilities and would charge communities for these facilities at cost. These facilities would not be part of the rate base for the Mackenzie Valley Pipeline and therefore would not be included in the Mackenzie Valley Pipeline's tolls. The details of how these costs would be passed on to the communities have not yet been determined but would be subject to regulatory approval.

This arrangement was agreed to in the Mackenzie Gas Project Socio-Economic Agreement between the Government of the Northwest Territories and the Proponents. However, the Socio-Economic Agreement recognized that these commitments are subject to the tariffs, tolls, terms and conditions of service approved by us.

The Proponents estimated that the capital cost of the metering and related facilities for eight communities along the line (Inuvik, Fort Good Hope, Norman Wells, Tulita, Déline, Wrigley, Fort Simpson and Jean Marie River) would total $27 million if all communities received service

(see Table 8-3). The Proponents also estimated operating costs of $3.0 million per year, two thirds of which would be spent on weekly visits by operations staff to each of these communities.

Table 8-3 Estimated capital costs for metering and related facilities by community

Table 8-3 Estimated capital costs for metering and related facilities by community

Community

Capital cost
($millions)

Inuvik

6

Fort Good Hope

2.8

Norman Wells

4.2

Tulita

2.8

Déline

2.8

Wrigley

2.1

Fort Simpson

4.2

Jean Marie River

2.1

Total

27

The Proponents' proposed treatment of the metering and related facilities costs for downstream communities differs from the way these costs are handled on most National Energy Board regulated pipelines. Typically, metering and related costs associated with sales to local communities have been rolled into the rate base and included in the pipeline's tolls rather than in the cost of distribution. The exception has been some laterals on the Maritimes and Northeast Pipeline system. Where Maritimes and Northeast Pipeline built laterals that failed to meet an economic viability test, the costs of those facilities, including both the pipe and the metering facilities, were paid for by the local distribution company.

The Proponents stated that the requirement for the downstream community to pay for metering and related facilities was driven by cost considerations.

Laterals to communities

The Proponents provided a screening level evaluation of the cost to construct a lateral from the Mackenzie Valley Pipeline to eight different communities. The Proponents based their cost estimate on the expected gas demand, distance and any site specific considerations such as horizontal directional drilling costs for river crossings as required for Fort Simpson and Déline. The estimates do not include the cost of the community gas distribution system or the cost of converting the power generation system to use natural gas. The capital costs, distance, estimated gas demand, and average annual

increase in the Mackenzie Valley Pipeline toll are shown in Table 8-4.

Community access to gas supply

The Pehdzeh Ki First Nation submitted that a condition of any approval must be a requirement to supply natural gas for local use in the community of Wrigley. The Ayoni Keh Land Corporation argued that the Proponents should be required to guarantee the availability of a minimum gas supply of 10,000 MMBtu/day for domestic use in communities of the Northwest Territories at no commodity cost to these communities.

The Proponents replied that it isn't contrary to the public interest for the Mackenzie Gas Project gas producers to receive a market based price for the gas they produce.

Table 8-4 Estimated cost of service to northern communities

Table 8-4 Estimated cost of service to northern communitie
 

Distance to Community

Estimated Gas Demand

Estimated Capital Cost

Incremental Cost of Service

20 year Average

Community

(km)

(m³/d)

(MMcf/d)

($millions)

($millions/year)

Inuvik

28

130,000

4.6

41.8

4.7

Fort Good Hope

5

24,000

0.8

4.8

0.5

Norman Wells

1

36,000

1.3

1

0.1

Tulita

7

14,000

0.5

6.7

0.8

Déline

110

20,000

0.,7

97.7

11.1

Wrigley

5

6,000

0.2

3.2

0.4

Fort Simpson

23

43,000

1.5

36.2

4.1

Jean Marie River

25

3,000

0.1

12.9

1.5

Total

204

276,000

9.7

204.3

23.1

Views of the Board

Northerners should have a reasonable opportunity to benefit from this project by obtaining access to clean-burning natural gas for use in their communities when it makes economic sense to do so. The Proponents' commitment to a 50 percent rebate of the 20-year toll for shippers selling to communities is valuable. However, we feel that the public interest requires that more be done to give residents of the Northwest Territories a chance to access this gas.

We have decided that it is in the public interest to require the Proponents to construct, own and roll into rate base the cost of laterals to communities that meet an economic test. If a proposed lateral does not meet the economic test, the Proponents could require a contribution (“aid to construct”) to cover the shortfall. To put this into effect, the Proponents are directed to develop and file the details of the economic test by 31 December 2011, following consultation with potential shippers and the Government of the Northwest Territories.

With respect to metering and pressure reducing facilities, in most cases in Canada these facilities are rolled into the pipeline's

mainline cost of service. We see no reason why a similar toll treatment should not apply to the Mackenzie Valley Pipeline. Accordingly, the Proponents are directed to incorporate this toll methodology in their toll and tariff principles.

With respect to gas supply to communities, we expect natural gas markets to continue to function effectively. As long as communities are paying market prices which provide shippers with a netback comparable to what they would receive if the gas was sold in Alberta, there should not be difficulty in obtaining gas supply. Therefore, there is no need to guarantee a minimum gas supply to communities.

We are interested in monitoring the ability of communities to access Mackenzie Valley gas supplies. To this end, Condition 76 for the Mackenzie Valley Pipeline requires the Proponents to file a report identifying details of any community's expression of interest in connecting to a delivery lateral or in having a delivery lateral constructed to connect to a local gas distribution system. Condition 76 has been modified since it was floated 9 March 2010 to accommodate the circumstance where the Mackenzie Valley Pipeline is asked to build a lateral to a community.

8.2.10-Codes of conduct

The purpose of a Code of Conduct is to guide company officials by setting out the standards and conditions for the interaction between a company, staff, owners, affiliates, and potential and actual shippers. The Proponents established a Code of Conduct for all predevelopment activities of the Mackenzie Valley Pipeline. The Code covers topics such as confidentiality of information, separation of activities of Mackenzie Valley Pipeline staff and Mackenzie Valley Pipeline owners, staff, appropriate cost allocation, acquisition of services at fair market value and arrangements to ensure there is no preferential treatment for owners.

The Code of Conduct was to apply to all activities on the Mackenzie Valley Pipeline from 1 July 2002, until either 1 January 2011, or the date that a decision to construct the Mackenzie Valley Pipeline has been made, whichever is earlier. At that point the Proponents would upgrade the Code of Conduct to include the construction and operating phases of the Mackenzie Valley Pipeline. The Proponents committed to develop such a Code, in consultation with shippers and prospective shippers, before the next project phase proceeds.

The Proponents believed there was no reason to develop a new Code covering the construction and operation phases prior to our decision, nor would it be an efficient use of resources to do so. Codes of Conduct are highly evolutionary documents and highly specific to any particular

pipeline, organization or project. The Proponents proposed to defer the detailed Code of Conduct finalization process for future project phases until it could be accomplished in a timely and efficient manner.

While the Proponents filed the Code of Conduct for information only, they did not have a problem with the National Energy Board adjudicating the adequacy of the Operating Code of Conduct for the Mackenzie Valley Pipeline that is ultimately developed.

A Code of Conduct was not filed for the Mackenzie Gathering System. However, according to the Proponents they have been following the principles of the Mackenzie Valley Pipeline Code of Conduct for all matters relating to the Mackenzie Gathering System.

Two interveners, Mackenzie Explorer Group and MGM Energy Corp., expressed concerns with the Proponents' Code of Conduct. Mackenzie Explorer Group wanted to ensure that arm's length shippers would be treated fairly and appropriately relative to the facility owners and their affiliated shippers. Issues concerning appropriate standards of conduct for utility owners in their dealings with affiliates have been extensively canvassed in other jurisdictions. Regulators have prescribed standards and enforcement mechanisms that are intended to ensure affiliates gain no unfair advantage as a result of their relationship with utility owners. Mackenzie Explorer Group expressed concern that some of the provisions of the Code of Conduct are too permissive.

Mackenzie Explorer Group is also concerned that the proposed Firm Service Transportation Agreements require prospective shippers to disclose extensive and detailed information about their resources and forecasts of their deliverability to the Proponents. The appropriateness of this disclosure requirement would presumably be addressed in the context of the tariff filings the Proponents should be required to make with the National Energy Board. However, if it were to be approved by the National Energy Board, then significant issues would arise relating to the possibility of improper disclosure or use of that information, including to, or by, affiliates of the Proponents. They submitted that we must take all necessary steps to ensure that any such information a shipper may be required to provide will not be improperly used or disclosed.

Regulated utilities are often required to implement a Code of Conduct. The TransCanada PipeLines Limited Mainline Code of Conduct was filed in response to the RH-2-2004 decision and approved by the National Energy Board on 7 July 2005. Mackenzie Explorer Group contends that a Code of Conduct should apply to all portions of the Mackenzie Valley Pipeline and Mackenzie Gathering System and throughout all phases, i.e., pre-construction, construction and operation. It should be included as part of the filed tariffs and be subject to approval by the National Energy Board.

MGM Energy Corp. was concerned that the Proponents did not believe the National Energy Board is required to approve the Operating Code of Conduct; that they did not plan to submit the Operating Code of Conduct until after our decision; and that the operating owner would continue to transfer staff between the pipeline and related facilities and the owners' producing and operating companies.

MGM Energy Corp. believed the Proponents' position was inappropriate and did not meet the minimum operating standards for potential third-party customers for a regulated pipeline in Canada. The Operating Code of Conduct should have been filed with the Application or submitted prior to the start of the hearing. Regulators have required pipeline companies under their jurisdiction to file Codes of Conduct. MGM Energy Corp. reviewed the Codes of Conduct developed for the Maritimes & Northeast Pipeline and TransCanada's Alberta system. It believed these Codes of Conduct, developed in conjunction with industry participants, provided the Proponents with a good framework for the development and implementation of its own Code of Conduct. MGM Energy Corp. cited the National Energy Board's decision in RH-3-2004 where the National Energy Board reiterated the principle that shippers are to know in advance of negotiations the terms and conditions of access to a pipeline. (See Views of the Board in 8.2.6 for elaboration.)

Views of the Board

Hesitancy about the terms and conditions of access on the Mackenzie Valley Pipeline and the Mackenzie Gathering System has impaired the ability for non-owner shippers to negotiate contracts for service. This is to the detriment of potential shippers with stranded gas in the Mackenzie Delta and the public interest to which a successful project could contribute.

We note that several existing Codes of Conduct could serve as examples for the Proponents in drafting a thorough and appropriate Code of Conduct for an open-access pipeline system.

The Proponents are directed to file, for approval, a Code of Conduct for the Mackenzie Valley Pipeline and the Mackenzie Gathering System for all phases of development including pre-construction, construction and operation. The Code(s)

of Conduct are to be filed as soon as possible but in any event not later than 31 December 2011. At a minimum, the Code(s) of Conduct should address in detail:

  • prevention of undue preferential treatment;
  • governance of the interactions between shippers and transporters;
  • independence of transmission operations from affiliate operations;
  • governance of separation of business;
  • protection of confidential and commercially-sensitive information;
  • mechanisms and methodologies related to the design of an acceptable transfer pricing mechanism;
  • a Code of Conduct compliance plan with independent audits; and
  • penalties for breaches of the Code of Conduct and recourse to a third-party arbitrator.

8.2.11 Tolls and tariff task force

In written argument Suncor Energy Inc. recommended that, as a condition of approval, the Proponents be required to file with the National Energy Board formal procedures regarding the conduct of business at a Mackenzie Valley Pipeline shipper committee in a form similar to the formal procedures filed with the National Energy Board regarding NOVA Gas Transmission Ltd.'s Tolls, Tariff, Facilities & Procedures Committee. Suncor Energy Inc. asserted that such procedures would be a significant aid in conducting the work required to compile the tariff, as well as addressing many other issues which will likely arise over time.

The Proponents responded that this condition is unnecessary and there is no reason to formalize the procedures for consultation with potential shippers at this stage. They noted that development of a final tariff is not a near term critical path activity.

Views of the Board

While we have directed the Proponents to file a tariff no later than 31 December 2011, we do not see the need to direct the Proponents to file formal procedures for a toll and tariff task force at this time. However, the Proponents may wish to do so in the future.

8.3-Mackenzie Gathering System

8.3.1-Overview

Mackenzie Explorer Group contends that, although the Proponents describe the liquids line, the Inuvik Area Facility and the facilities upstream of the Inuvik Area Facility as a “gathering system”, it is difficult to conceive of a large diameter pipeline with a capacity near 31.1 Mm³/d (1.1 Bcf/d) as a “gathering pipeline” in any conventional sense. The same could be said for the 476 kilometre natural gas liquids pipeline and the Inuvik Area Facility. The Government of the Northwest Territories notes that these Mackenzie Gathering System facilities are more correctly described as “supply laterals”. The discussion of whether or not these facilities are appropriately characterized as a gathering system speaks to the issue of whether the methods used elsewhere for determining fees on a gathering system are suitable in this context.

During our hearing, the issues discussed around toll, tariff and access provisions on the Mackenzie Gathering System included:

  • the need for economic regulation and dispute resolution;
  • tolls on the system (excluding the natural gas liquids pipeline);
  • tolls on the natural gas liquids pipeline; and
  • the Code of Conduct.

8.3.2-The need for economic regulation on the Mackenzie Gathering System

The Proponents submitted their application for the Mackenzie Gathering System under the Canada Oil and Gas Operations Act. This legislation did not include any provision for the regulation of tolls, tariffs and access to the systems at the time the project was applied for and through the course of the hearings in 2006. However, we felt that this was an important matter and added “the appropriate tolls, access and tariff provisions for the Mackenzie Gathering System and the methods for resolving disputes on these matters” as Issue 13 on the List of Issues in the proceeding. In response to Mackenzie Explorer Group's motion which sought to have the Mackenzie Gathering System regulated under the National Energy Board Act, we ruled that the facilities were appropriately applied for under the Canada Oil and Gas Operations Act. However, we noted in our ruling that we remained concerned about Issue 13.

Mackenzie Explorer Group, the Government of the Northwest Territories and MGM Energy Corp. contended that regulatory oversight was needed on significant portions of the Mackenzie Gathering System. Their reasons included the following:

 

  • the Proponents could exercise significant market power for each component of the Mackenzie Gathering System and therefore in the provision of transmission services for northern gas supplies;
  • the market power would be manifested in both higher fees/tolls for use of the various components of the Mackenzie Gas Project and an inefficiently small set of facilities;
  • access to the natural gas pipeline would be essentially meaningless without similar access to the liquids pipeline;
  • the public interest is served by regulation, or the threat of regulation, to discourage the potential abuse of a dominant position;
  • the tolling and tariff principles proposed by the Proponents are not adequately transparent nor predictable;
  • the anchor field producers would enjoy considerable economies of scale and together may acquire a dominant position in the regional market for gathering and processing services to the disadvantage of developers which have smaller volumes needing those services;
  • by focusing expansion, to the extent technically possible, on the applied-for gathering and processing facilities, the unnecessary duplication of facilities could be avoided, thereby minimizing the project’s environmental “footprint”;
  • the efficient development of the basin demands that potential producers have confidence the tolls and tariffs applicable to all of the Mackenzie Valley Pipeline, the natural gas liquids line, the Inuvik Area Facility and the gathering pipelines (supply laterals) will be developed in a transparent manner consistent with sound principles of pipeline rate design including that tolls be just and reasonable, non-discriminatory, fair, and charged equally to all persons at the same rate under substantially similar circumstances;
  • there needs to be open access to pipeline services; and
  • commercial processes should be transparent.

The Proponents agreed that these facilities have characteristics of a monopoly. However, they also noted the opportunity for others to acquire ownership in the Mackenzie Gathering System including the natural gas liquids pipeline, the opportunity to subscribe for transportation and processing services, and their proposal for dispute resolution would ensure that they could not exercise market power.

To address the concerns about the absence of financial regulation for Canada Oil and Gas Operations Actfacilities including the lack of provision for dispute resolution, and to be responsive to Issue 13, the Proponents put in place the Access Process in May of 2005. The Access Process would be used to resolve disputes involving non-owner access to the facilities, terms of facilities ownership, fees and other terms of service. This Access Process was intended to provide the Proponents with sufficient certainty about how fees would be set in the future.

The Access Process contained a provision stating it would be in effect until amendments were effective to the Canada Oil and Gas Operations Actlegislation or other legislative was enacted or amended which addresses access and fees related to Canada Oil and Gas Operations Actfacilities in the Northwest Territories.

When the amendments to the Canada Oil and Gas Operations Actwere passed by Parliament on 14 December 2007 giving the National Energy Board power to regulate tolls, tariffs and access on Canada Oil and Gas Operations Actregulated facilities, issues related to the need for economic regulation of these facilities were fully addressed. The Access Process terminated as it was no longer required and it was subsequently removed from the record of this proceeding.

8.3.3-Proposed method for setting Mackenzie Gathering System fees (excluding the natural gas liquids pipeline)

The Proponents believed the traditional cost of service method is not appropriate for producer-built gathering and processing facilities like the Mackenzie Gathering System. Rather, the Proponents have structured the project so that the fees for owners are set in a different manner than the fees for third-party shippers. The fees for shippers are a consequence of individual negotiations that occur at different times. Therefore, fees can vary significantly between owners and shippers as well as between various shippers.

At the time of the hearing the Proponents proposed to use the principles of the 2005 Jumping Pound Formula (Jumping Pound-05) as the basis for tolling negotiations on the Mackenzie Gathering System, other than the liquids line. Jumping Pound-05 provisions include, among other things, a capital structure based on 100 percent equity, a 20 percent before-tax return on equity, no depreciation

and an investment cost base for tolls negotiated between the historical cost and replacement cost.

However in October 2007, MGM Energy Corp. signed contracts for 2.83 Mm³/d (100 MMcf/d) on each of the Niglintgak and Taglu laterals. At that time, the fee principles for the Mackenzie Gathering System were revised to reflect the new principles for third-party use of the system. The after-tax return on equity was set at 150 basis points above the Mackenzie Valley Pipeline return on equity. While Jumping Pound-05 provided for the investment cost base used in the calculation of tolls to be negotiated between historical and replacement cost, the Proponents' fee principles were revised to set the investment cost base at actual historical cost. The capital structure was maintained at 100 percent equity.

The revised fee principles form a basis for negotiation between the Proponents and potential shippers. The Proponents noted that if negotiations fail and the National Energy Board is asked to adjudicate a process, the National Energy Board can decide at that time what principles will be used to determine the fee.

In its evidence and testimony, MGM Energy Corp. did not accept the use of JP-05. It stated that the Mackenzie Gathering System tolls should be cost-based and the system should be regulated as a Group 2 company which means that it would be regulated on a complaint basis. Mackenzie Explorer Group suggested that the Proponents have not shown that the Mackenzie Gathering System is distinguishable from the

Mackenzie Valley Pipeline in terms of cost of capital. It recommends the same cost of service parameters for the Mackenzie Gathering System as are recommended for the Mackenzie Valley Pipeline including a capital structure of 70 percent debt and 30 percent equity, the same

return on equity and a four percent depreciation rate. The impact of Mackenzie Explorer Group's assumptions would be to reduce Mackenzie Gathering System tolls by about 45 percent. Mackenzie Explorer Group asserts that the use of Jumping Pound-05 results in much higher

On the record

The Jumping Pound Formula

Jumping Pound-05 and its predecessors, Jumping Pound-95 and Jumping Pound-90 were originally developed as a framework for negotiating gathering and processing fees in Alberta. Jumping Pound-05 contains provisions for determining the level of fees and emphasizes the use of negotiation and alternative dispute resolution among facility owners and potential users of the facilities. In Alberta, if parties are unable to reach agreement, they can take their dispute to the regulator, Alberta's Energy Resources Conservation Board, for adjudication.

Initially, the Proponents had proposed to use the Jumping Pound-95 formula but changed to Jumping Pound-05 when it was adopted as the industry standard. Both Jumping Pound-05 and Jumping Pound-95 provide for a range of fees with the intent that parties would settle on a fee within those ranges. The difference between the ranges of Jumping Pound-95 and Jumping Pound-05 are shown in the figure below which is drawn from the Jumping Pound-05 document. While Jumping Pound-95 has a lower and upper limit, the Proponents had formulated their fee structure based on the lower limit.

There are two major differences between Jumping Pound-95 and Jumping Pound-05 in terms of the effect on tolls. The first is the elimination of the depreciation component of the capital charge in Jumping Pound-05 so that tolls no longer decrease over time as a result of depreciation. The second major difference is the return on investment, which is fixed at 20 percent before tax in Jumping Pound-05 versus a formula-based return in Jumping Pound-95. However, the Proponents have agreed to an after-tax return on equity which is set at 150 basis points above the return on the Mackenzie Valley Pipeline, rather than the before-tax return of 20 percent provided for in JP-05.

Figure 8-3 JP-05 / JP-95 fee comparison (20 year life)

Figure 8-3 JP-05 / JP-95 fee comparison (20 year life)

tolls than under conventional cost of service regulation. (It should be noted that the evidence of both of these parties was provided prior to the fee principles being revised in October 2007 as a result of negotiations between the Proponents and MGM Energy Corp.)

Mackenzie Explorer Group contended that under the Proponents' proposal, the owners of the Mackenzie Gathering System will be in a fundamentally different relationship with the Mackenzie Valley Pipeline than will either the sponsors or their affiliates. In order to avoid unjust discrimination, and to ensure that tolls for using the Mackenzie Gathering System appropriately reflect the cost of providing service, it is essential that all shippers, including the sponsors and their affiliates, receive service on terms that are verifiably the same. The only way to ensure this result is to require all shippers to enter the same form of service agreement, be subject to the same tariff, and pay tolls that are verifiably the same for all shippers receiving the same service.

The Government of the Northwest Territories stated that Jumping Pound-05 is “very rich” compared to the return parameters for the Mackenzie Valley Pipeline, particularly when there does not appear to be any fundamental difference in supply risk, market risk, natural risk, completion risk, regulatory risk and so on.

Views of the Board

In response to concerns about the lack of toll and tariff regulation and our concern that this pipeline be accessible to third-party shippers, we added Issue 13 to the List of Issues. Issue 13 is:

The appropriate tolls, access and tariff provisions for the Mackenzie Gathering System and the methods for resolving disputes on these matters.

On this topic, things evolved over the course of the proceeding and events overtook the discussion in a number of ways. The issue of the need for regulation of the Mackenzie Gathering System was addressed when Parliament amended the Canadian Oil and Gas Operations Act in December 2007 allowing us to regulate tolls, tariffs and access on these facilities. In addition, the Proponent's proposed basis for negotiations of the fees moved from Jumping Pound-95 to Jumping Pound-05 to the fee principles established in October 2007 as a result of negotiations with MGM Energy Corp.

We acknowledge that the Proponents did not ask for approval of the toll principles for the Mackenzie Gathering System as they did for the Mackenzie Valley Pipeline. We also note that the Proponents expected us to address any concerns about the proposed methodology in our decision.

Mackenzie Explorer Group sought a more traditional cost of service regulation reflecting risks for the Mackenzie Gathering System and the Mackenzie Valley Pipeline which were similar. The Government of the Northwest Territories did not see any fundamental difference in risks between the two systems. However, we are of the view that the risks, and therefore the cost of service parameters for the two systems are not necessarily the same. Potential differences include the character of the physical facilities, contract terms and dependence of some components of the Mackenzie Gathering System on specific fields.

Given the unique features of the Mackenzie Gathering System, we accept the Proponents' proposal to negotiate fees for use of the Mackenzie Gathering System which will be regulated on a complaint basis. If parties are not successful in their negotiations, then any party has recourse to the National Energy Board. The National Energy Board would at that time decide what principles would be used to determine fees.

We note Mackenzie Explorer Group's concern about owners and third parties being under different forms of service agreements, not subject to the same tariff and not necessarily paying the same fee. However, parties have the option at any time of bringing a complaint to the National Energy Board. We also note in this case that contracting shippers have the same priority

of access to capacity on the Mackenzie Gathering System as the owner-shippers. In addition, all parties have the option of becoming either owners or shippers.

8.3.4-Proposed method for tolls on the natural gas liquids pipeline

Similar to the contractual arrangements for the rest of the Mackenzie Gathering System, a potential shipper on the natural gas liquids pipeline would sign a Capacity Request Agreement and could then choose either an ownership option or third-party transportation option for use of the Mackenzie Gathering System. If they chose the ownership option, they would be subject to the Development and Operating Agreement. The transportation option would be subject to the Natural Gas Liquids Pipeline Firm Transportation Agreement.

Rather than using the Jumping Pound framework, the Proponents proposed to use traditional cost of service regulation on the natural gas liquids pipeline and assumed a 65/35 debt equity ratio, a 12 percent return on equity and five percent depreciation. However, these parameters would form the basis of negotiation, meaning that the fees on the natural gas liquids pipeline could also be negotiable.

Although the Proponents are proposing to use a conventional cost of service method on the natural gas liquids pipeline, subject to negotiation, Mackenzie Explorer Group does not accept the Proponents' proposed

parameters. Mackenzie Explorer Group asserts that the debt equity ratio and the return on equity should be the same as is applicable to the Mackenzie Valley Pipeline and the depreciation rate should be four percent. This formula would reduce the toll on the natural gas liquids pipeline by 22 percent.

MGM Energy Corp. contends that there needs to be adequate disclosure of information and data on tolls and tariffs on the natural gas liquids line.

Views of the Board

As with the other components of the Mackenzie Gathering System, we accept the Proponents' proposal to negotiate fees for the natural gas liquids pipeline. If parties are not successful in their negotiations, then any party has recourse to the National Energy Board. The National Energy Board would at that time decide what principles would be used to determine fees.

In accordance with the National Energy Board's publication entitled Financial Regulation of Pipeline Companies under the Board's Jurisdiction, it is the responsibility of a company regulated on a complaint basis to provide its shippers and interested parties with sufficient information to enable them to determine whether a complaint to the National Energy Board is warranted.

8.3.5-Code of Conduct

As discussed previously, the Proponents established a Code of Conduct for all predevelopment activities of the Mackenzie Valley pipeline but not for the construction and operating phases, nor for any phase on the Mackenzie Gathering System. The Proponents stated they had been following the principles of the Mackenzie Valley Pipeline Code of Conduct for all matters relating to the Mackenzie Gathering System. The concerns of intervenors discussed in Section 8.2.10 applied to the Mackenzie Gathering System as well as the Mackenzie Valley Pipeline.

Views of the Board

As explained in Section 8.2.10, the Proponents are directed to file, for approval, a Code of Conduct for the Mackenzie Valley Pipeline and the Mackenzie Gathering System