In 1995, the 74^th Legislature significantly changed the historical framework of utility regulation in Texas.  Until that time, electric utilities were involved in producing, generating, transmitting, distributing, selling, or furnishing electricity in Texas.  PURA § 31.002(1).  These were fully regulated activities.  The 74^th Legislature determined that the development of a competitive wholesale market was in the public interest.  PURA § 31.001(c).  The Acts of 1995 revised PURA to exclude exempt wholesale generators (owners of generating facilities certified by the Federal Energy Commission under 15 U.S.C. Section 79z-5a to make wholesale sales of electricity)[1], qualifying facilities (qualifying cogenerators and qualifying small power producers), and power marketers (owners of electricity who purchase electricity for purposes of reselling the electricity to wholesale customers) from the definition of “electric utility.”  These entities were authorized to compete to sell power.  PURA § 35.002.  At the same time, the 74^th Legislature required the electric utilities that owned transmission facilities to provide wholesale transmission service at non-discriminatory rates.  PURA § 35.004.  The PUC was directed to police open access transmission, order access to the transmission system when necessary, and adopt rules relating to wholesale service, rates and access.  PURA §§ 35.004-35.006.  Electric utilities subject to rate jurisdiction were allowed to charge rates that reflected less than the fully allocated cost of service, but were greater than marginal cost.  PURA §§ 36.007 and 36.351.  In 1996, by rule, the Commission implemented PURA § 39.151 and established ERCOT (with a revised board that more reasonably represented all stakeholders) as the independent system operator (“ISO”) to serve as the gatekeeper for the ERCOT transmission system.  This was the beginning of competition in the Texas electric industry.

ERCOT is one of ten reliability councils that control the electric grid within the United States.  The ERCOT transmission network is located completely within Texas and is, for the most part, subject to the wholesale jurisdiction of the PUC.  There are geographic regions in the Panhandle, the El Paso area and in parts of East Texas that fall within the boundaries of other reliability councils.  Transmission facilities located in these non-ERCOT regions of Texas are subject to FERC wholesale jurisdiction.  ERCOT, as the ISO, is responsible for (1) ensuring open access to the transmission system on a non-discriminatory basis; (2) ensuring the reliability and adequacy of the regional electrical network; (3) ensuring that needed customer information is timely exchanged by market participants; and (4) ensuring that electricity generation and production are accurately accounted for among the generators and the wholesale buyers and sellers within the region.  PURA § 39.151(a).

Through a stakeholder process, ERCOT develops and adopts very detailed requirements and procedures, called “protocols”, which govern both wholesale and retail market operations.  ERCOT protocols cover a diverse range of mission critical topics from scheduling and dispatch to customer registration to settlement and billing.  The first set of ERCOT protocols relating to retail competition was approved by the PUC in June 2001.  Many revisions have occurred since then, some of which were pursuant to requests from the stakeholders and some of which were at the direction of the PUC.

Power is traded within ERCOT primarily through bilateral contracts.  The obligation to acquire and maintain ancillary services -- the services that are necessary to facilitate the operation of the electric system -- is assigned to market participants by ERCOT.  Market participants can acquire or provide ancillary services themselves or they can rely on ERCOT to obtain such services for them through a centralized auction conducted by ERCOT.

In the Texas market design, a qualified scheduling entity (“QSE”) represents generators and/or loads.  A QSE is responsible for scheduling power and settlement.  ERCOT compares scheduled generation to its forecast of demand by fifteen minute intervals.  ERCOT administers the balancing energy market to address the imbalances in real time between supply and demand.  QSEs submit bids to both increase and decrease generation, called up and down balancing energy, for the generators that the QSE represents.  For example, ERCOT acquires up balancing energy when anticipated load exceeds the generation available based on the resource schedules.  ERCOT creates a “bid stack” based on prices bid for up and down balancing energy.  The generation excess or the shortfall for each fifteen minute period determines how far up or down the bid stack ERCOT must go to balance the system.  Initially, the last quantity of balancing energy procured sets the price -- known as the market clearing price -- for both the balancing energy and the other ancillary services for that fifteen minute interval.  In May 2003, the Commission changed the process so that under some circumstances the highest bid for the energy procured no longer sets the price.

With the foundation for full competition firmly established by implementing wholesale competition four years earlier, the 76^th Legislature addressed retail competition in electricity in 1999.  Under SB 7, the integrated investor-owned utilities were first required to separate competitive energy services out from their regulated activities, and then, not later than January 1, 2002, they were required to functionally separate into a power generating company, a transmission and distribution utility and a retail electric provider (“REP”).  PURA § 39.051.  REPS provide electricity to retail end-users, somewhat like long distance providers provide long distance service using the lines of the local phone company.  The transmission and distribution function remained fully regulated.  New, slightly reduced rates were established effective January 1, 2002, and these rates were frozen until forty percent of the residential customers and forty percent of the small commercial customers of the old integrated utility had switched service to an unaffiliated REP, or January 1, 2007.  PURA §§ 39.052 and 39.202(e).  This rate is called the “price to beat.”  Although the price to beat was based on a frozen rate, it could be adjusted for significant changes in the price of natural gas and purchased energy used to serve retail customers.  PURA § 39.202(l).  Municipally-owned utilities and cooperatives were not required by SB 7 to implement retail competition, but they could choose to opt-in.  PURA Chapters 40 and 41.

In addition to providing for customer choice among REPs, addressing the utilities’ recovery of any stranded costs associated with a change in value of certain assets in a competitive environment, and providing for the recovery of environmental cleanup costs associated with plant upgrades to improve air quality (PURA Chapter 39, Subchapter F), SB 7 also included very specific market power provisions (PURA §§ 39.155-39.157).  The Commission was given expressed authority to assess market power; consider and adopt market mitigation plans filed by any electric company or power generation company owning or controlling more than twenty percent of the installed generation capacity in a power region; and, monitor market power and mitigate market power abuses.  PURA §§ 39.155-39.157.  SB 7 defines the term “market power abuses” as “practices by persons possessing market power that are unreasonably discriminatory or tend to unreasonably restrict, impair, or reduce the level of competition, including practices that tie unregulated products or services to regulated products or services or unreasonably discriminate in the provision of regulated services.”  PURA § 39.157(a).  Market power abuses include “predatory pricing, withholding of production, precluding entry, and collusion.”  Id.  While it is only a person with market power that can engage in a market power abuse, SB 7 does not contain a specific definition of the term “market power.”  The Commission’s ability to reasonably mitigate market power upon a finding of market power abuse is limited to (1) ordering the construction of additional transmission or distribution facilities; (2) seeking an injunction or civil penalties to eliminate or remedy the market power abuse or compliance issue; (3) imposing an administrative penalty; or, (4) suspending, revoking, or amending a certificate or registration.  Id.