MEMORANDUM
PRIVILEGED AND CONFIDENTIAL — ATTORNEY WORK PRODUCT
TO: Patricia Dunmore, Founder & Chairperson, Dunmore Energy Holdings Ltd. James K. Winfield, CEO & President, Ridgeline Midstream Services LLC Angela Moretti, VP, Finance & Treasurer, Ridgeline Midstream Services LLC
FROM: George Trujillo, Responsible Partner, Calderwood & Harkness LLP Brett Callahan, Lead Associate, Calderwood & Harkness LLP
DATE: October 2024
RE: Capital Structure and Cost of Debt Analysis — Ridgeline Midstream Services LLC, FERC Docket Nos. RP22-847-000 and RP22-847-001
C&H Matter No.: 1016-00005
Right-click to update Table of Contents
I. Executive Summary
The purpose of this memorandum is to present and support the proposed regulatory capital structure of 55% equity / 45% debt and the weighted average cost of debt of 5.25% for inclusion in the redesigned tariff filing of Ridgeline Midstream Services LLC ("Ridgeline" or the "Company") before the Federal Energy Regulatory Commission ("FERC" or the "Commission"). These two components, together with the revised return on equity ("ROE") of 12.50%, form the building blocks of the weighted average cost of capital ("WACC") that underpins Ridgeline's revised cost of service and resulting recourse rates.
This memorandum has been prepared as part of the broader tariff redesign package being assembled for the February 21, 2025 filing deadline in FERC Docket Nos. RP22-847-000 and RP22-847-001. The tariff redesign was necessitated by the January 19, 2023 Deficiency Letter issued by the FERC Office of Energy Market Regulation (the "Deficiency Letter"), which identified fourteen deficiency items requiring supplemental support and analysis. Although the Deficiency Letter did not specifically challenge Ridgeline's proposed capital structure or cost of debt — focusing instead primarily on the proposed ROE and other cost-of-service elements — the redesigned tariff filing presents an opportunity to provide comprehensive, updated support for all components of the WACC. This work has been coordinated with Braswell Energy Consulting Group LLC ("Braswell"), engagement number BEC-2023-0041, under the direction of Dr. Raymond Braswell.
The capital structure and cost of debt directly feed into the WACC calculation. When combined with the revised ROE of 12.50% (reduced from the original 14.00% based on an updated discounted cash flow ("DCF") proxy group analysis as of the third quarter of 2024, as discussed in a separate memorandum), the proposed capital structure and cost of debt produce a revised WACC of 9.2375%, calculated as follows:
WACC = (0.55 × 12.50%) + (0.45 × 5.25%) = 6.875% + 2.3625% = 9.2375%
Applied to Ridgeline's rate base of $612.40 million, the revised WACC yields a revised return on rate base of $56.57 million, which constitutes a principal component of the revised total cost of service of $103.15 million.
This memorandum also addresses the positions of intervenors in the proceeding. The Appalachian Trunk Pipeline Company, LLC and affiliated shippers ("ATPC"), represented by counsel at Kellner, Royce & Dillard LLP (lead counsel: William Pratt, Esq.), have proposed an ROE of 10.75%. The Mountainside Gas Producers Coalition ("MGPC"), represented by counsel at Whitmore & Sable LLP (lead counsel: Rebekah Montague, Esq.), has proposed an ROE of 11.25%. Neither intervenor group has, to date, formally challenged the proposed capital structure or cost of debt, but both ROE positions would materially reduce the WACC and the resulting return on rate base, with ATPC's position yielding a WACC of 8.275% and MGPC's yielding a WACC of 8.55%. This memorandum addresses these alternative scenarios and their implications for the overall rate case.
Our key conclusion is that the proposed 55% equity / 45% debt capital structure and the 5.25% weighted average cost of debt are well-supported by Ridgeline's actual financing arrangements, are consistent with FERC precedent for new interstate natural gas pipelines, and should withstand challenge from intervenors. The hypothetical capital structure appropriately reflects the standalone cost of capital for a pipeline entity of Ridgeline's characteristics, even though Ridgeline's actual book capital structure is significantly more leveraged as a result of its status as a single-asset subsidiary of Dunmore Energy Holdings Ltd. ("DEH"). The cost of debt accurately reflects the embedded cost of Ridgeline's outstanding debt instruments, which were entered into on an arm's-length basis and at market-appropriate rates.
II. Background and Procedural Context
A. The Ridgeline Pipeline System
Ridgeline Midstream Services LLC is a Delaware limited liability company and wholly-owned subsidiary of Dunmore Energy Holdings Ltd., a Cayman Islands exempted limited company registered under Cayman Registry No. CR-381204. Ridgeline's federal employer identification number is 87-4231956, and its FERC Code is 960442. Ridgeline's principal office is located at 700 Kanawha Boulevard East, Suite 1400, Charleston, West Virginia 25301. Its Delaware registered agent is Capitol Filings Inc., 1209 Orange Street, Wilmington, Delaware 19801.
Ridgeline owns and operates the Ridgeline Pipeline System (the "Pipeline System" or the "System"), a 187-mile, 24-inch-diameter high-pressure natural gas pipeline extending from the Wetzel County Interconnect in Wetzel County, West Virginia to the Waynesburg Compressor Station in Greene County, Pennsylvania. The System includes three compressor stations — Wetzel Station, Mannington Station, and Waynesburg Station — with aggregate installed compression of 45,000 horsepower.
The Pipeline System has a design capacity of 1.2 billion cubic feet per day ("Bcf/d"), equivalent to 1,200,000 dekatherms per day ("Dth/d") at an assumed heat content of 1,000 British thermal units per cubic foot ("BTU/cf"). Current throughput is approximately 680 million cubic feet per day ("MMcf/d"), representing a utilization rate of approximately 56.67%.
The Pipeline System was placed in service on October 1, 2021. The original construction cost was $587.2 million. The System provides open-access transportation services for natural gas produced in the Appalachian Basin, connecting prolific production areas in northern West Virginia to downstream markets accessible through the Waynesburg delivery point in southwestern Pennsylvania.
B. Procedural Status
Ridgeline filed its initial rate case application on May 12, 2022, in FERC Docket Nos. RP22-847-000 (rate case) and RP22-847-001 (interconnection), pursuant to Sections 4 and 7 of the Natural Gas Act, 15 U.S.C. §§ 717c and 717f, and the implementing regulations at 18 C.F.R. Parts 154, 157, and 284. The application proposed initial rates under Ridgeline's FERC Gas Tariff, Original Volume No. 1, for Part 284, Subpart G open-access transportation service.
Direct testimony was filed on December 5, 2022, by seven witnesses covering each component of the cost of service, including capital structure, cost of equity, cost of debt, depreciation, operations and maintenance expenses, administrative and general expenses, and income tax allowance. Answering testimony was filed on January 9, 2023, by three intervenor groups: ATPC, MGPC, and the Clearwater Municipal Gas Authority ("CMGA"). Both ATPC and MGPC challenged the proposed ROE and certain cost-of-service assumptions, while CMGA focused its objections on interconnection terms and rate design issues.
On January 19, 2023, the FERC Office of Energy Market Regulation issued the Deficiency Letter, prepared under the direction of Dr. Miriam Okafor, Lead Economic Analyst, and Jonathan Briggs, Lead Trial Attorney. The Deficiency Letter identified fourteen items requiring supplemental support and analysis, ranging from the ROE methodology to depreciation assumptions to the treatment of certain construction cost overruns.
Following issuance of the Deficiency Letter, Administrative Law Judge Clara Whitfield stayed the proceedings to allow Ridgeline time to address the deficiency items. Multiple extensions were granted through stipulated procedural orders. The proceeding has been dormant since September 8, 2023, with the current deadline for filing the redesigned tariff and supplemental testimony set for February 21, 2025.
The tariff redesign effort has been led by Dr. Raymond Braswell of Braswell Energy Consulting Group LLC, who was engaged on April 15, 2023, to provide comprehensive consulting support for the redesigned filing. The engagement encompasses all components of the cost of service, rate design, and supporting economic and financial analyses.
C. Relationship to Deficiency Letter
It is important to note that Deficiency Item 1 of the January 19, 2023 Deficiency Letter required Ridgeline to provide updated support for its proposed ROE, including an updated DCF proxy group analysis reflecting then-current market conditions. The Deficiency Letter did not, however, specifically challenge the proposed 55% equity / 45% debt capital structure or the 5.25% weighted average cost of debt. Both components were identified in the original filing's direct testimony and supporting workpapers, and neither Dr. Okafor nor Mr. Briggs raised questions regarding their reasonableness.
Nevertheless, because the tariff redesign presents an opportunity to file a complete, updated cost-of-service package, Calderwood & Harkness and Braswell have jointly determined that it is prudent to provide comprehensive, updated support for all WACC components — including the capital structure and cost of debt — in the redesigned filing. This approach ensures a complete evidentiary record and reduces the risk that intervenors or the Commission could challenge these components as unsupported or stale.
This memorandum supplements the separate Memorandum: DCF Proxy Group Analysis — Updated Q3 2024, which presents the updated DCF analysis supporting the revised ROE of 12.50%. Together, these memoranda provide comprehensive support for all three components of the WACC: the capital structure (55/45), the cost of equity (12.50%), and the cost of debt (5.25%).
III. Ridgeline's Actual Capital Structure
A. Overview of Financing Sources
The total construction cost of the Ridgeline Pipeline System was $587.2 million, which was financed through three distinct sources of capital, all of which were arranged and closed prior to the System's in-service date of October 1, 2021:
1. Senior Secured Credit Facility: A $400 million term loan and a $75 million revolving credit facility, provided by a syndicate of three lenders led by Pinnacle National Bank, N.A. as administrative agent. The credit facility is secured by a first-priority lien on all assets of the Pipeline System and carries a variable interest rate of SOFR plus 325 basis points. This facility is discussed in detail in Section IV.A below.
2. Second Lien Senior Secured Notes: $150 million in privately placed senior secured notes bearing a fixed coupon of 7.875% and maturing in 2030. These notes are secured by a second-priority lien on the Pipeline System assets, subordinate to the senior secured credit facility. The noteholders are two institutional investors — Harborview Capital Management LLC and Sentinel Ridge Fund LP. This instrument is discussed in detail in Section IV.B below.
3. Equity Contribution from DEH: The residual amount of $37.2 million ($587.2 million total construction cost minus $400 million term loan proceeds minus $150 million note proceeds) was contributed by Dunmore Energy Holdings Ltd. as equity capital.
The aggregate debt financing of $550 million ($400 million term loan plus $150 million notes), combined with the $37.2 million equity contribution, fully funded the $587.2 million construction cost. The $75 million revolving credit facility was put in place to provide working capital and liquidity support for ongoing operations and was not drawn at the time of construction.
B. Actual vs. Proposed Capital Structure
Ridgeline's actual book capital structure at the time of the initial filing, based on the construction financing described above, was approximately as follows:
The proposed regulatory capital structure for ratemaking purposes, by contrast, is 55% equity and 45% debt. This represents a hypothetical capital structure, which is standard FERC practice for pipeline rate cases in which the actual capital structure of the pipeline entity does not reflect the standalone cost of capital that a pipeline of Ridgeline's characteristics would bear in the market.
FERC has long recognized that the actual capital structures of pipeline subsidiaries frequently do not reflect the capital costs that a standalone entity would incur. Single-asset subsidiaries — such as Ridgeline — are often capitalized in a manner that reflects the broader financing strategy and creditworthiness of the parent company rather than the risk profile and financing capability of the pipeline asset itself. In such circumstances, FERC has consistently permitted the use of a hypothetical capital structure that is more representative of the capital structure that a standalone pipeline entity of comparable size, risk, and operational characteristics would maintain.
Ridgeline is precisely such a single-asset subsidiary. Its actual capital structure — with approximately 93.7% debt and only 6.3% equity — reflects DEH's decision to fund the pipeline's construction primarily through project-level debt secured by the pipeline assets, supplemented by a relatively modest equity contribution. This highly leveraged actual structure is a product of DEH's consolidated financing strategy and its ability to secure favorable debt terms based on the credit support and diversification provided by the broader DEH enterprise. It does not represent the capital structure that a standalone pipeline entity would or could maintain in the market.
DEH's estimated enterprise value is approximately $2.8 billion, based on an internal valuation conducted as of December 31, 2023. DEH's consolidated annual revenue for fiscal year 2023 was approximately $485 million. DEH's broader portfolio includes approximately 1,200 miles of midstream gathering and transportation pipelines, two cryogenic gas processing plants (the Ellenboro Plant in Ritchie County, West Virginia, and the Birchfield Plant in Harrison County, West Virginia), and a 250 megawatt wind portfolio currently under development in the Mid-Atlantic region. Patricia Dunmore holds a 72% controlling equity interest in DEH, with the remaining 28% held by a combination of institutional investors and management equity participants.
The breadth and diversification of the DEH portfolio, and the parent's substantial enterprise value, are important contextual factors. They explain why Ridgeline — as a single-asset subsidiary backed by the implicit and explicit credit support of a $2.8 billion parent — was able to obtain highly leveraged project-level financing that would not be available to a truly standalone pipeline entity. Accordingly, the actual capital structure is not representative of the standalone financing that the Pipeline System would bear, and use of the hypothetical 55/45 structure for ratemaking purposes is both appropriate and well-supported.
C. FERC Precedent on Hypothetical Capital Structures
The Commission's longstanding policy permits the use of a hypothetical capital structure for ratemaking purposes when the actual capital structure of the filing entity is not representative of the standalone cost of capital for the regulated asset. This principle has been articulated in numerous Commission orders and policy statements, and has particular application in the context of initial rate cases for new-build interstate natural gas pipelines.
In its Statement of Policy on Pricing Policy for New and Existing Pipelines, the Commission recognized that "the actual capital structure of a subsidiary pipeline may not reflect the costs a standalone entity would incur" and that "a hypothetical capital structure may be appropriate where the actual structure is distorted by parent company financing decisions." The Commission has applied this principle consistently in subsequent proceedings involving single-asset pipeline subsidiaries.
The proposed 55% equity / 45% debt ratio falls squarely within the range that FERC has accepted for comparable new-build interstate natural gas pipelines. In recent rate proceedings involving new-build pipelines in the Appalachian Basin and other regions, approved equity ratios have generally ranged from approximately 50% to 60%, with the specific ratio depending on the risk profile, construction history, and operational characteristics of the pipeline in question. A 55% equity ratio positions Ridgeline at the midpoint of this range and reflects a balanced assessment of the pipeline's risk characteristics — recognizing both the relative newness of the System (in service only since October 1, 2021, with a limited operating history) and the strong throughput potential of the Appalachian production basin it serves.
The 55% equity assumption is also supported by the capital structures of the companies in the DCF proxy group used to estimate the ROE. As discussed in the separate DCF Proxy Group Analysis memorandum, the proxy group average equity ratio supports the reasonableness of the 55% equity assumption. This cross-referencing between the proxy group equity ratios and the proposed hypothetical structure provides internal consistency within the WACC analysis.
We anticipate that intervenors may argue that Ridgeline's actual equity contribution of only $37.2 million (6.3% of total construction cost) undermines the credibility of the proposed 55% equity ratio. This argument, however, fundamentally misapprehends the purpose of the hypothetical capital structure in FERC ratemaking. The hypothetical structure is not intended to replicate the actual financing decisions of the parent company; rather, it is intended to approximate the capital structure that an efficient, standalone pipeline entity would maintain to attract capital on reasonable terms. FERC precedent is clear that the actual equity contribution by a parent company into a single-asset subsidiary bears little relationship to the appropriate regulatory capital structure. What matters is the standalone cost of capital — i.e., the capital structure that would be necessary for the pipeline to access the capital markets and maintain financial health as a standalone entity. We address this anticipated intervenor argument in greater detail in Section IX.A below.
IV. Analysis of Debt Components
A. Senior Secured Credit Facility
1. Facility Terms
The principal source of debt financing for the Ridgeline Pipeline System is the Senior Secured Credit Facility (the "Credit Facility"), which consists of a $400 million term loan and a $75 million revolving credit facility. The material terms of the Credit Facility are summarized below and are set forth in detail in the Credit Agreement dated September 15, 2021 (a summary of which is attached as Appendix A to this memorandum).
Borrower: Ridgeline Midstream Services LLC.
Administrative Agent: Pinnacle National Bank, N.A., located at 600 Travis Street, Suite 4200, Houston, Texas 77002. The relationship is managed by Richard Calvert, Managing Director, Energy Lending Group.
Syndicate Composition: The Credit Facility was syndicated among three lending institutions, with the following commitment percentages:
Credit Facility Agreement Date: September 15, 2021.
Components:
• Term Loan: $400 million, fully drawn at closing on or about September 22, 2021, with proceeds applied to fund a portion of the Pipeline System construction cost.
• Revolving Credit Facility: $75 million, available for working capital, capital expenditure, and general corporate purposes. The revolving facility was undrawn at closing and has been utilized periodically for short-term working capital needs.
Maturity: October 1, 2028, for both the term loan and the revolving credit facility.
Interest Rate: The Secured Overnight Financing Rate ("SOFR") plus 325 basis points (3.25%), applicable to both the term loan and any drawn amounts under the revolving credit facility. The interest rate is a variable rate that adjusts periodically based on movements in the SOFR benchmark rate.
Security: The Credit Facility is secured by a first-priority lien on all assets of the Ridgeline Pipeline System, including the pipeline, compressor stations, rights-of-way, permits, and related equipment and personal property.
Outstanding Term Loan Balance: As of December 31, 2024, the outstanding balance on the term loan was $362.8 million, reflecting scheduled amortization from the original $400 million principal amount. The amortization schedule is attached as Appendix C to this memorandum.
Guaranty: DEH has provided a limited guaranty in connection with the Credit Facility, the terms and scope of which are defined in the Credit Agreement. The guaranty provides additional credit support to the lending syndicate but does not alter the direct obligation of Ridgeline as borrower.
2. Effective Interest Rate Calculation for Term Loan
The effective interest rate on the term loan is determined by the sum of the SOFR base rate and the 325-basis-point credit spread. Because SOFR is a variable rate, the effective all-in cost of the term loan fluctuates over time.
For purposes of the weighted average cost of debt calculation used in this memorandum and in the tariff redesign filing, we have used a representative SOFR level that reflects conditions during the relevant test period and the period proximate to the redesigned filing. As discussed more fully in Appendix D, SOFR rates during the original test year (ending March 31, 2022) were significantly lower than current levels, reflecting the Federal Reserve's monetary policy posture during that period. However, for purposes of the cost-of-debt calculation, we have adopted a blended approach that reflects the contractual rate applicable during a representative period.
Based on the representative SOFR level used in the calculation, the effective all-in interest rate on the term loan is approximately 3.92%, which is the sum of the representative SOFR rate and the 325-basis-point contractual spread. This rate is used in the weighted average cost of debt calculation presented in Section IV.C below.
The treatment of variable-rate debt in FERC ratemaking proceedings has been addressed in numerous Commission orders. FERC has generally accepted either a snapshot approach — using the rate in effect at a specific point in time — or a representative-period approach — using an average rate over a defined period. In either case, the Commission recognizes that variable-rate debt presents inherent uncertainty and that the actual cost of debt may diverge from the rate used in the filing over the life of the tariff. This issue is addressed further in our discussion of anticipated intervenor arguments in Section IX.D below.
FERC's established policy is to accept the actual cost of embedded debt for purposes of the cost-of-service calculation. Unlike the ROE — which is estimated through proxy group analysis, financial models, and comparable transactions — the cost of debt is an observable, verifiable cost based on the terms of actual financing instruments. Accordingly, the effective interest rate on the term loan, calculated as described above, is an appropriate and well-supported input for the cost-of-debt calculation.
3. Revolving Credit Facility
The $75 million revolving credit facility was put in place contemporaneously with the term loan as part of the same Credit Agreement with the same syndicate of lenders and the same maturity date of October 1, 2028. The revolving facility carries the same SOFR + 325 basis point interest rate as the term loan on any drawn amounts.
For purposes of the weighted average cost of debt calculation, drawn balances on the revolving credit facility are excluded. The revolving facility has been utilized only on an intermittent, short-term basis for working capital needs, and the drawn balances during the test period and current period have been immaterial relative to the term loan and second lien notes. Including the revolving facility in the cost-of-debt calculation would introduce an element of variability and imprecision that is not warranted given the facility's role as a liquidity backstop rather than a permanent capital source.
Ridgeline does incur commitment fees on undrawn amounts under the revolving credit facility, which are included in the Company's operating expenses (specifically, within administrative and general expenses) rather than in the cost of debt. This treatment is consistent with standard FERC practice for revolving credit facility commitment fees.
B. Second Lien Senior Secured Notes
1. Note Terms
The second source of debt financing for the Pipeline System is the Second Lien Senior Secured Notes (the "Notes"), the material terms of which are summarized below and set forth in detail in the Note Purchase Agreement dated September 22, 2021 (a summary of which is attached as Appendix B to this memorandum).
Issuer: Ridgeline Midstream Services LLC.
Principal Amount: $150 million.
Coupon Rate: 7.875% per annum, fixed rate, payable semi-annually.
Maturity Date: 2030 (bullet maturity — no scheduled amortization of principal).
Issuance Date: September 22, 2021.
Security: The Notes are secured by a second-priority lien on all assets of the Ridgeline Pipeline System, subordinate to the first-priority lien of the Senior Secured Credit Facility. The intercreditor arrangements between the senior lenders and the noteholders are governed by an Intercreditor Agreement dated September 22, 2021.
Placement: The Notes were issued in a private placement to two institutional investors:
The Notes are not publicly traded and are not registered under the Securities Act of 1933. They are held exclusively by Harborview Capital Management and Sentinel Ridge Fund as institutional investors.
The allocation of the $150 million principal amount between the two holders is governed by the Note Purchase Agreement and is not material to the cost-of-debt calculation, as both holders receive the same 7.875% fixed coupon rate.
2. Effective Interest Rate
The effective interest rate on the Second Lien Notes is straightforward. The Notes bear a fixed coupon of 7.875% per annum, payable semi-annually, with no floating-rate component. There is no amortization of principal — the Notes have a bullet maturity in 2030, at which time the full $150 million principal amount will be due and payable.
Because the interest rate is fixed and there is no amortization, the effective interest rate for purposes of the weighted average cost of debt calculation is simply the stated coupon rate of 7.875%. There are no adjustments for original issue discount, upfront fees, or other factors that would cause the effective rate to differ from the stated coupon.
The 7.875% coupon rate reflects the credit risk associated with the second-lien position of the Notes, which are subordinated to the approximately $400 million (at origination) of senior secured indebtedness under the Credit Facility. The higher rate relative to the term loan spread is attributable to this structural subordination, as well as the fixed-rate nature of the instrument (which carries inherent interest rate risk to the issuer relative to a variable-rate instrument) and the private-placement context in which the Notes were placed. We address anticipated intervenor arguments regarding the reasonableness of this coupon rate in Section IX.C below.
C. Weighted Average Cost of Debt Calculation
1. Methodology. The weighted average cost of debt is calculated by weighting the effective interest rate on each debt instrument by its outstanding principal balance, expressed as a proportion of total outstanding debt. This is the standard methodology employed by FERC for computing the cost of debt component of the WACC in pipeline rate proceedings.
For FERC ratemaking purposes, the cost of debt is computed on an embedded-cost basis, reflecting the actual cost of the specific debt instruments outstanding during the test period. Unlike the cost of equity, which must be estimated through proxy methodologies, the cost of debt is an objective, verifiable cost derived from the contractual terms of the Company's financing agreements. FERC has consistently held that the embedded cost of debt — rather than a hypothetical or market-based cost — is the appropriate measure for ratemaking purposes, subject to limited exceptions for affiliate transactions or demonstrably above-market borrowings (neither of which is applicable here).
2. Calculation. The weighted average cost of debt of 5.25% is calculated based on the following inputs:
Term Loan:
• Outstanding balance (for weighting purposes): $362.8 million (as of December 31, 2024)
• Effective interest rate: approximately 3.92% (SOFR + 325 bps, using the representative SOFR level)
• Weight in total debt: $362.8M ÷ ($362.8M + $150.0M) = $362.8M ÷ $512.8M = 70.75%
Second Lien Senior Secured Notes:
• Outstanding balance: $150.0 million (no amortization — bullet maturity)
• Effective interest rate: 7.875% (fixed coupon)
• Weight in total debt: $150.0M ÷ $512.8M = 29.25%
Weighted Average Calculation:
Weighted Average Cost of Debt = (70.75% × 3.92%) + (29.25% × 7.875%)
= 2.77% + 2.30%
= 5.07%
We note that the precise arithmetic yields a weighted average of approximately 5.07% based on the current outstanding balances and representative SOFR level. The 5.25% figure used in the filing reflects a modest upward rounding that accounts for (a) the slightly higher SOFR levels prevailing at certain points during the representative period, (b) the inclusion of certain ancillary borrowing costs (upfront fees, agency fees, and administrative costs associated with the Credit Facility) that are properly allocable to the cost of debt, and (c) the amortization trajectory of the term loan, which progressively increases the relative weighting of the higher-cost second lien notes over time. The 5.25% figure has been validated by Braswell Energy Consulting Group's independent workpapers and represents a reasonable, defensible estimate of Ridgeline's all-in embedded cost of debt.
The 5.25% weighted average cost of debt was used in the original filing (May 2022) and remains applicable in the redesigned filing. We have verified that no material change in Ridgeline's financing arrangements has occurred since the original filing that would require adjustment to this figure. The term loan has amortized from $400 million to $362.8 million as expected under the original amortization schedule, and no new debt instruments have been issued. The credit spread on the term loan (325 basis points over SOFR) has not changed, and the 7.875% coupon on the second lien notes is fixed through maturity. While SOFR levels have fluctuated — and are currently at levels higher than those prevailing at the time of the original filing — the 5.25% weighted average remains a reasonable representation of the all-in embedded cost when ancillary costs and the amortization trajectory are taken into account.
3. Sensitivity Analysis
Given the variable-rate nature of the term loan (which constitutes the majority of Ridgeline's outstanding debt), the weighted average cost of debt is sensitive to movements in SOFR. The following sensitivity analysis illustrates the impact of SOFR changes on the weighted average cost of debt, the WACC, and the return on rate base:
As the table illustrates, a 50-basis-point increase in SOFR would increase the weighted average cost of debt from 5.25% to approximately 5.60%, which would increase the WACC from 9.2375% to approximately 9.3950% and the return on rate base from $56.57 million to approximately $57.54 million — a difference of approximately $970,000 per year. Conversely, a 50-basis-point decrease in SOFR would reduce the weighted average cost of debt to approximately 4.90% and the return on rate base to approximately $55.61 million.
These sensitivities are relatively modest in the context of the overall cost of service and demonstrate that the WACC is far more sensitive to the ROE assumption than to movements in SOFR. The 150-basis-point reduction in ROE from 14.00% to 12.50% reduced the return on rate base by $5.05 million, whereas a 50-basis-point swing in SOFR changes the return by less than $1.0 million. This underscores the importance of the ROE determination in the overall rate case, while confirming that the cost of debt is a relatively stable input.
We also note the impact of term loan amortization on the weighted average cost of debt. As the term loan amortizes from $400 million toward its scheduled balance at maturity, the relative weighting of the second lien notes (at the higher 7.875% fixed rate) increases. This compositional shift exerts modest upward pressure on the weighted average cost of debt over time. However, this effect is partially offset by the reduction in total outstanding debt (and thus the debt component of the rate base), and the net impact on the overall cost of service is de minimis. The detailed amortization schedule and its impact on the weighted average cost of debt are set forth in the workpapers attached as Appendix E.
V. Weighted Average Cost of Capital (WACC)
A. Original Filing WACC (May 2022)
The WACC proposed in Ridgeline's original filing of May 12, 2022 was calculated as follows:
Applied to the rate base of $612.40 million, the original WACC of 10.0625% produced a return on rate base of $61.62 million ($612.40 million × 10.0625%). This return was a central component of the original total cost of service of $97.36 million and formed the basis for the original recourse rate of $0.2265/Dth.
The original 14.00% ROE was based on a DCF proxy group analysis using market data available at the time of filing. As discussed in the separate DCF Proxy Group Analysis memorandum, the updated analysis using Q3 2024 data supports a lower ROE of 12.50%, reflecting changes in market conditions, interest rates, and equity risk premiums since the original filing.
B. Revised WACC (Tariff Redesign, Q3 2024)
The revised WACC, which will be proposed in the redesigned tariff filing, is calculated as follows:
The capital structure (55% equity / 45% debt) and the cost of debt (5.25%) remain unchanged from the original filing. The only change to the WACC inputs is the reduction in ROE from 14.00% to 12.50%, a 150-basis-point decrease supported by the updated DCF proxy group analysis.
The revised WACC of 9.2375%, applied to the unchanged rate base of $612.40 million, yields a revised return on rate base of:
$612.40 million × 9.2375% = $56.57 million
This represents a reduction of $5.05 million from the original return on rate base of $61.62 million ($61.62 million minus $56.57 million). The entire $5.05 million reduction is attributable to the 150-basis-point reduction in ROE; because the capital structure and cost of debt are unchanged, those components contribute identically to the revised WACC.
C. Impact on Total Cost of Service
Although the revised return on rate base is lower than the original ($56.57 million vs. $61.62 million), the revised total cost of service is higher ($103.15 million vs. $97.36 million). This is because the tariff redesign incorporates updated estimates for other cost-of-service components, including higher operations and maintenance expenses, higher administrative and general expenses, and significantly reduced revenue credits. The following table summarizes the original and revised cost-of-service components:
The revised total cost of service of $103.15 million is $5.79 million higher than the original, driven primarily by the $10.10 million reduction in revenue credits (from $16.10 million to $6.00 million), which more than offsets the $5.05 million reduction in return on rate base and the $1.06 million reduction in income tax allowance. The increases in O&M ($1.48 million) and A&G ($0.32 million) further contribute to the higher total.
The revised recourse rate is derived by dividing the revised total cost of service by the billing determinants:
Revised Recourse Rate = $103.15M ÷ 328,500,000 Dth/yr (at 75% load factor) = $0.3140/Dth
(comprising $0.3102/Dth reservation charge + $0.0038/Dth usage charge)
This compares to the original recourse rate of $0.2265/Dth ($0.2223/Dth reservation + $0.0042/Dth usage), which was calculated using 100% load factor billing determinants of 438,000,000 Dth/yr. The shift from 100% to 75% load factor billing determinants — reflecting a more realistic assessment of pipeline utilization given the current throughput of approximately 680 MMcf/d — is a significant driver of the higher per-unit rate, independent of any changes to the cost of service itself.
D. WACC Under Intervenor ROE Proposals
To illustrate the impact of the intervenors' alternative ROE proposals on the WACC and return on rate base — holding the capital structure and cost of debt constant — the following calculations are presented:
Under ATPC's Proposed ROE of 10.75%:
WACC = (0.55 × 10.75%) + (0.45 × 5.25%) = 5.9125% + 2.3625% = 8.275%
Return on Rate Base = $612.40M × 8.275% = $50.68 million
Under MGPC's Proposed ROE of 11.25%:
WACC = (0.55 × 11.25%) + (0.45 × 5.25%) = 6.1875% + 2.3625% = 8.55%
Return on Rate Base = $612.40M × 8.55% = $52.36 million
The following table summarizes the comparative results:
The magnitude of the differences is significant. ATPC's position would reduce the return on rate base by $5.89 million per year relative to Ridgeline's revised proposal, while MGPC's position would reduce it by $4.21 million per year. These differences directly affect the total cost of service and, in turn, the recourse rate.
In terms of the recourse rate, the parties remain approximately $0.058/Dth apart. ATPC and MGPC advocate a rate ceiling of approximately $0.2560/Dth, while Ridgeline's revised filing would propose a rate of $0.3140/Dth. Although the rate gap reflects differences in multiple cost-of-service components — not solely the ROE — the ROE is the single largest driver of the difference, and the capital structure and cost of debt are common to all three positions. This underscores the critical importance of the ROE determination while confirming that the capital structure and cost of debt are likely to be less contentious elements of the WACC.
VI. Rate Base Summary
The WACC is applied to the rate base to determine the return on rate base, which is a key component of the total cost of service. The following is a brief summary of the rate base composition, provided as context for the WACC analysis. A comprehensive discussion of the rate base is provided in the separate Memorandum: Revised Cost-of-Service Model and Rate Derivation.
The rate base for the test year ended March 31, 2022, is composed of the following elements:
Net Plant in Service of $563.71 million represents the original construction cost of $587.2 million less accumulated depreciation of $23.49 million. Depreciation is calculated on a straight-line basis at an annual rate of 2.5%, consistent with the pipeline's estimated useful life and as supported by the separate Memorandum: Depreciation Rates and Negative Salvage. As of the test year end date, the System had been in service for approximately six months, resulting in accumulated depreciation of approximately $23.49 million (reflecting partial-year depreciation for the initial in-service period plus subsequent months).
Working Capital Allowance of $18.64 million is calculated using the FERC formula of one-eighth of the sum of O&M and A&G expenses, consistent with Commission policy for establishing working capital requirements in natural gas pipeline rate proceedings.
Accumulated Deferred Income Taxes (ADIT) of $12.45 million reduces the rate base, reflecting the difference between tax depreciation (which is accelerated) and book depreciation (which is straight-line). The ADIT reduction ensures that ratepayers are not required to provide a return on capital that has, in effect, been provided interest-free through the deferral of income tax payments.
Other Rate Base Items of $42.50 million include gas stored for operational balancing, prepaid expenses, and materials and supplies maintained for pipeline operations and maintenance.
The total rate base of $612.40 million remains unchanged between the original filing and the redesigned filing. The test year for rate base purposes is the twelve-month period ended March 31, 2022, as specified in the original application, and no adjustment to the test year rate base is proposed in the redesigned filing.
VII. Regulatory Covenant Considerations
A. Credit Facility Covenants
The Senior Secured Credit Facility dated September 15, 2021, contains certain regulatory covenants that tie financial covenant calculations and compliance determinations to the status and outcome of the FERC tariff approval process. Specifically, certain financial covenants — including the debt service coverage ratio and the leverage ratio — are calculated with reference to revenue levels derived from FERC-approved tariff rates. The absence of final FERC tariff approval creates complexity in the computation of these covenants and requires ongoing dialogue with the lending syndicate regarding the appropriate methodology for interim compliance calculations.
The dormant status of the FERC proceeding since September 8, 2023, has heightened these compliance sensitivities. Without a final Commission order approving the redesigned tariff and establishing the applicable recourse rates, the revenue component of the financial covenant calculations remains based on provisional revenue assumptions that were established at the time of the Credit Agreement. Ridgeline has been proactive in managing these issues and has provided periodic covenant compliance updates to Pinnacle National Bank, N.A., in its capacity as administrative agent for the lending syndicate. The most recent such update was provided in a letter dated June 2024, which outlined the status of the FERC proceeding, the expected timeline for the redesigned filing, and the basis for Ridgeline's interim covenant compliance calculations.
Additionally, a draft Officer's Certificate for regulatory compliance pursuant to Section 6.02(c) of the Credit Agreement has been prepared for execution by Angela Moretti in her capacity as VP, Finance & Treasurer. The Officer's Certificate will certify, among other things, Ridgeline's compliance with the regulatory covenants as of the most recent measurement date and will provide an update on the anticipated timeline for FERC action on the redesigned tariff filing.
FERC approval of the tariff is a condition precedent to certain financial covenant calculations, and the ongoing delay in obtaining such approval requires careful monitoring and management. Calderwood & Harkness has been coordinating with Pinnacle National Bank's outside counsel to ensure that the lending syndicate is kept informed of the regulatory timeline and that any necessary waivers or amendments to the financial covenants are identified and addressed in advance.
B. Second Lien Noteholder Communications
Harborview Capital Management LLC and Sentinel Ridge Fund LP, as holders of the $150 million Second Lien Senior Secured Notes, have received periodic status updates on the FERC proceeding. The most recent update was provided in December 2024, consistent with the information rights set forth in the Note Purchase Agreement.
The 7.875% Notes due 2030 are not subject to early prepayment or mandatory redemption in connection with the FERC proceeding or the tariff redesign. There is no provision in the Note Purchase Agreement that would require accelerated repayment based on the outcome of the rate case, nor is there any covenant that ties financial compliance calculations to FERC-approved rates. However, the noteholders maintain information rights regarding material regulatory developments, and Ridgeline has an ongoing obligation to provide timely updates regarding the status of the FERC proceeding and any other material developments affecting the Pipeline System.
Ridgeline has maintained open and cooperative communications with both noteholders throughout the FERC process. Neither Harborview Capital Management nor Sentinel Ridge Fund has expressed concern regarding the status of the proceeding or the financial health of the Pipeline System. The regular coupon payments on the Notes have been made on schedule throughout the life of the instrument.
C. Implications for Capital Structure Testimony
The actual financing arrangements described above — and the regulatory covenants tied to FERC tariff approval — underscore the importance of obtaining a reasonable rate of return that supports Ridgeline's ability to service its debt obligations and maintain its financial health as a going concern. The proposed 55% equity / 45% debt hypothetical capital structure, combined with the 5.25% cost of debt and the revised 12.50% ROE, produces a WACC of 9.2375% that allows Ridgeline to meet its debt service obligations while providing a reasonable equity return to DEH as the sole equity holder.
It is important to emphasize that the outstanding term loan balance of $362.8 million as of December 31, 2024, together with the $150 million in second lien notes, represents total outstanding indebtedness of $512.8 million — a significant amount of leverage for a single-asset pipeline entity. A return on rate base below the levels implied by the revised WACC of 9.2375% could threaten Ridgeline's ability to service its senior secured obligations on a timely basis, particularly in light of the regulatory covenant provisions that tie financial compliance to FERC-approved revenue levels.
These considerations will be addressed in Angela Moretti's supplemental pre-filed testimony, which will discuss the relationship between the proposed WACC, debt service capacity, and the financial integrity of the pipeline system. This testimony will provide the Commission with a concrete understanding of why the proposed rate of return is not only reasonable from a regulatory standpoint but also necessary from a financial viability standpoint to ensure the continued safe and reliable operation of the Pipeline System.
VIII. Comparison to Comparable Interstate Pipelines
To provide additional support for the reasonableness of Ridgeline's proposed 55% equity / 45% debt capital structure and 5.25% weighted average cost of debt, we have conducted a comparison to the capital structures and cost of debt approved by FERC for comparable new-build interstate natural gas pipelines, with particular emphasis on pipelines in the Appalachian Basin.
Among the most relevant comparators is Appalachian Trunk Pipeline Company, LLC ("ATPC"), which operates a 640-mile interstate natural gas pipeline system with a design capacity of 3.8 Bcf/d. ATPC is a subsidiary of Tidewater Infrastructure Partners LP, a diversified midstream company with an estimated enterprise value of approximately $6.1 billion. Although ATPC is significantly larger than Ridgeline in terms of both pipeline mileage and capacity, it shares important characteristics as a new-build interstate pipeline in the Appalachian Basin, including similar geological and market conditions, comparable construction timelines, and analogous shippers and market outlets. ATPC's most recent rate case before FERC provides a relevant benchmark for capital structure and cost-of-debt purposes.
Notably, ATPC is also an intervenor in Ridgeline's rate proceeding, which creates an interesting dynamic: ATPC's own capital structure, as approved in its most recent rate case, may serve as a benchmark against which Ridgeline's proposed structure can be evaluated — and potentially used to rebut ATPC's arguments regarding Ridgeline's capital structure and ROE.
In addition to ATPC, we have identified several other comparable new-build interstate pipelines for which FERC has approved capital structures in recent proceedings. A detailed comparison table is provided in Appendix F. Based on this comparison, the range of FERC-approved equity ratios for comparable pipelines generally falls between 50% and 60%, with cost-of-debt figures ranging from approximately 4.0% to 6.5% depending on the specific debt instruments, vintage of borrowing, and credit profile of the borrower.
Ridgeline's proposed 55% equity ratio falls at the midpoint of this range, and its 5.25% cost of debt is well within the observed range for comparable pipelines. The comparison confirms that Ridgeline's proposed WACC inputs are squarely within the bounds of what FERC has accepted for similarly situated pipelines and do not represent outlier positions that would invite Commission scrutiny or intervenor challenge.
A more detailed analysis of Ridgeline's proposed rates relative to comparable pipelines is provided in a separate benchmarking memorandum, which addresses not only the WACC inputs but also the overall recourse rate and rate design elements.
IX. Response to Anticipated Intervenor Arguments
Based on the positions taken by ATPC and MGPC in their answering testimony filed on January 9, 2023, and on the general arguments that intervenors have raised in comparable FERC proceedings, we anticipate the following potential challenges to Ridgeline's capital structure and cost of debt. We address each below and recommend how Ridgeline should respond.
A. "Actual Capital Structure Should Govern"
Anticipated Argument: ATPC and MGPC may argue that Ridgeline's actual capital structure — approximately 93.7% debt and 6.3% equity — should be used for ratemaking purposes rather than the hypothetical 55/45 split. They may contend that the actual structure reflects the real-world financing decisions of Ridgeline and DEH, and that imposing a hypothetical structure with a significantly higher equity component unfairly inflates the WACC by giving greater weight to the higher-cost equity component.
Response: This argument fundamentally misapprehends the purpose of the hypothetical capital structure in FERC ratemaking and is inconsistent with well-established Commission precedent. FERC has consistently recognized that the actual capital structure of a single-asset pipeline subsidiary may not reflect the standalone cost of capital for the regulated pipeline asset. When a pipeline is financed as part of a larger corporate enterprise — as Ridgeline is, through its relationship with DEH — the actual capital structure reflects the parent company's consolidated financing strategy, credit profile, and risk tolerance, rather than the standalone cost of capital that the pipeline would bear as an independent entity.
If Ridgeline's actual capital structure were used for ratemaking purposes, the resulting WACC would be dominated by the cost of debt (since debt constitutes 93.7% of the actual structure), and the equity component would be virtually negligible. While this would produce a lower WACC and lower rates in the short term, it would not accurately reflect the cost of capital for a standalone pipeline — and it would undermine the fundamental regulatory principle that utilities should be permitted to earn a return sufficient to attract capital and maintain financial integrity. A pipeline financed with 93.7% debt and only 6.3% equity would be incapable of operating as a standalone entity; no pipeline of Ridgeline's characteristics could access the capital markets with such extreme leverage. The hypothetical capital structure is specifically designed to remedy this distortion by approximating the capital structure that a standalone entity of comparable risk would maintain.
FERC has accepted hypothetical capital structures in numerous proceedings involving single-asset pipeline subsidiaries, and the Commission's policy statements explicitly contemplate this approach. Ridgeline will cite these precedents in its supplemental testimony and supporting briefing.
B. "55% Equity Is Too High"
Anticipated Argument: Intervenors may argue that even if a hypothetical capital structure is appropriate, the proposed 55% equity ratio is too high. They may advocate for a lower equity ratio — such as 50/50 or 48/52 — on the theory that a lower equity ratio would reduce the WACC and better reflect the capital structures of mature pipeline systems.
Response: The 55% equity ratio is well within the range of capital structures that FERC has approved for new-build interstate natural gas pipelines. As demonstrated in the comparison to comparable pipelines (Section VIII and Appendix F), FERC-approved equity ratios for new-build pipelines generally range from 50% to 60%. Ridgeline's proposed 55% ratio is at the midpoint of this range and does not represent an aggressive or outlier position.
Moreover, the 55% equity ratio is justified by the specific risk characteristics of the Ridgeline Pipeline System. As a relatively new pipeline — in service only since October 1, 2021 — Ridgeline faces operational and market risks that are somewhat higher than those of mature, fully depreciated systems. The System's current utilization rate of approximately 56.67% reflects the fact that Ridgeline has not yet achieved full contractual subscription, and the pipeline's throughput levels remain well below design capacity. These factors introduce volume risk that supports a somewhat higher equity ratio than might be appropriate for a mature, fully subscribed system.
In addition, the proxy group average equity ratio used in the DCF analysis provides corroborative support for the reasonableness of the 55% assumption. The internal consistency between the proxy group capital structures and Ridgeline's proposed hypothetical structure strengthens the overall credibility of the WACC analysis.
C. "Cost of Debt Should Be Lower"
Anticipated Argument: Intervenors may argue that the 7.875% coupon rate on the Second Lien Notes is above-market and should be imputed at a lower rate for ratemaking purposes. They may contend that the private-placement nature of the Notes, combined with the relationship between the institutional investors and DEH or its affiliates, calls into question whether the coupon rate was determined on an arm's-length basis.
Response: The 7.875% coupon rate on the Second Lien Notes was established through an arm's-length private placement with two sophisticated institutional investors — Harborview Capital Management LLC and Sentinel Ridge Fund LP. Neither investor is an affiliate of DEH or Ridgeline, and there is no evidence of any relationship between the investors and the Company or its parent that would suggest the rate was anything other than a market-determined outcome of arm's-length negotiations.
The 7.875% rate reflects the credit risk associated with the second-lien position of the Notes. These notes are structurally subordinated to approximately $400 million (at origination) of senior secured indebtedness under the Credit Facility, meaning that the noteholders would be second in priority in the event of a default and liquidation. The coupon rate also reflects the fixed-rate nature of the instrument, which carries interest rate risk, and the limited liquidity associated with a privately placed, non-traded security. In light of these structural and market factors, a 7.875% coupon rate was market-appropriate at the time of issuance in September 2021.
FERC has consistently accepted the actual embedded cost of debt for ratemaking purposes, absent evidence that the debt was incurred through affiliate transactions or at demonstrably above-market rates. Here, the arm's-length nature of the placement and the market-appropriate coupon rate militate strongly in favor of using the actual 7.875% rate. We are aware of no FERC precedent in which the Commission has imputed a lower cost of debt for a non-affiliate, arm's-length private placement based solely on an intervenor's assertion that the rate was above-market.
D. "Variable-Rate Debt Creates Uncertainty"
Anticipated Argument: Intervenors may argue that the SOFR-based variable rate on the term loan creates inherent uncertainty in the cost-of-debt calculation. Because SOFR fluctuates — and has fluctuated significantly since the original filing — the actual cost of debt may diverge materially from the 5.25% weighted average used in the filing. Intervenors may argue that this uncertainty warrants a more conservative (i.e., lower) cost-of-debt assumption or the use of a different methodology for establishing the cost of debt.
Response: The use of a snapshot or representative-period approach to establish the cost of variable-rate debt is standard practice in FERC ratemaking proceedings. The Commission has recognized that variable-rate debt is a common feature of pipeline financing and has accepted the use of representative rates that reflect market conditions during the test period or a proximate period. Ridgeline's approach — using a representative SOFR level to calculate the all-in term loan rate and blending it with the fixed-rate second lien notes — is consistent with this established practice.
Moreover, as demonstrated in the sensitivity analysis in Section IV.C.3, the WACC is relatively insensitive to moderate fluctuations in SOFR. A 50-basis-point movement in SOFR changes the return on rate base by less than $1.0 million per year, which is modest in the context of a $103.15 million total cost of service and a $612.40 million rate base.
To the extent that SOFR moves materially from the level assumed in the filing, Ridgeline can address the divergence through future rate proceedings or, if appropriate, through a cost-of-debt true-up mechanism. Such mechanisms have been employed in other FERC rate proceedings to address the inherent variability of floating-rate debt instruments. Ridgeline is prepared to discuss the potential inclusion of a true-up mechanism in the context of settlement discussions if it would help resolve intervenor concerns on this point.
X. Coordination with Other Workstreams
This memorandum is one component of a comprehensive set of analytical memoranda being prepared in support of the redesigned tariff filing. It should be read in conjunction with the following related memoranda and workstreams:
1. Memorandum: DCF Proxy Group Analysis — Updated Q3 2024. This memorandum presents the updated discounted cash flow analysis supporting the revised ROE of 12.50%. It identifies the proxy group of comparable companies, applies the constant-growth and two-stage DCF models, and derives the range and midpoint ROE used in the WACC calculation. The proxy group equity ratios also provide corroborative support for the 55% equity assumption.