DOE Bans China-Connected Transactions in BPS Equipment Serving Critical Defense Facilities

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On Dec. 17, 2020, the U.S. Department of Energy (DOE) issued a prohibition order, in accordance with President Trump’s Executive Order 13920 of May 3, 2020 (EO). The prohibition order bars electric utilities from acquiring, importing, transferring or installing certain electric equipment with a nexus to China that will then serve designated defense facilities.

As detailed in a prior McGuireWoods alert, the EO is broadly worded, prohibiting the “acquisition, importation, transfer, or installation” of certain bulk-power system electric equipment tied to a “foreign adversary” in the U.S. power grid. Consequently, the EO has generated uncertainty for transactions involving electric generation, transmission and distribution infrastructure and many questions which were raised by the EO remain unanswered. However, the prohibition order is more narrowly targeted and, while it will have significant implications for certain utilities and may cause ripple effects throughout the supply chain, it likely will not cause significant issues for a wide swath of stakeholders. However, additional prohibitions and rulemaking implementing the EO could be forthcoming.

Prohibited Transactions

The prohibition order prohibits “Responsible Utilities” — i.e., those that own or operate “Defense Critical Infrastructure” (DCEI) that actively serves a “Critical Defense Facility” (CDF), each as defined in the Federal Power Act — from entering into certain transactions with respect to certain bulk power system equipment rated for or operating at 69 kV or higher that has a nexus with China. The prohibition order applies to certain equipment that is proximate to the CDF, rather than further upstream. Indeed, the prohibition order states that restricted equipment is that which is “for use by the Responsible Utility as a component of its DCEI serving the CDF at a service voltage level of 69 kV or higher, from the point of electrical interconnection (at a service voltage level of 69 kV of higher) with the CDF up to and including the next ‘upstream’ transmission substation” (emphasis added). Last, the prohibition order covers only regulated equipment “that has been manufactured or supplied by persons owned by, controlled by, or subject to the jurisdiction or direction of the PRC [People’s Republic of China].” However, the prohibition order does not define how to determine whether persons are “subject to the jurisdiction or direction of the PRC” and such determination likely will be fact-intensive.

Compliance

The DOE is notifying Responsible Utilities that they have received that designation and that the prohibition order is applicable to them. The prohibition order takes effect Jan. 16, 2021, and will apply to “any Prohibited Transaction initiated on or after” such date.

Not later than March 17, 2021, and every three years thereafter, each Responsible Utility must file a certification that it has not entered into a prohibited transaction and has established an internal monitoring system to track compliance. Additionally, not later than Feb. 15, 2021, each Responsible Utility must file a certification that it has designated each CDF as a priority load.

Likely Transaction Impacts

While the prohibition order is more tailored than the EO, it still poses significant compliance risks to those entities to which it applies, given worldwide supply chains. More generally, the prohibition order’s ripple effects may impact global supply chains in electrical equipment for some time. Regulated equipment can consist of many subcomponents served by complex and long supply chains. Utilities will need to sharpen their focus on the many vendors involved in the components of this equipment and will need to ensure visibility beyond the immediate vendor supplying a component that could fall under the purview of the prohibition order.

Stakeholders should consider compliance risks for transactions involving both new and existing infrastructure. Because the prohibition order covers “acquiring, importing, transferring, or installing” equipment, a transaction involving the acquisition of existing assets containing prohibited equipment could trigger liability. Thus, vigilant compliance is required, not only for new transmission and generation investments, but also for transactions where existing assets are acquired.

Additional Government Actions Must Be Considered

In addition to the prohibition order, stakeholders need to be aware of other related threats and government requirements. For instance, Congress and the Federal Communications Commission have identified threats from the use of communication equipment from certain Chinese firms. The electric generation industry will still need to comply with North American Electric Reliability Corporation standards related to cybersecurity and equipment, including Critical Infrastructure Protection Standard (CIP)-013 – Cyber Security Supply Chain Management. Furthermore, on Sept. 17, 2020, the Federal Energy Regulatory Commission (FERC) issued a notice of inquiry on the potential risks to the bulk electric system posed by the use of equipment and services produced or provided by certain entities identified as risks to national security. FERC is also seeking comments on strategies to mitigate potential risks posed by telecommunications equipment and services and whether standards should be modified. FERC action on these items could result in further requirements to protect the bulk power system.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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