Welcome! To the Power Supply Issues for Cooperatives: Forecasting - PDF document

Welcome! To the Power Supply Issues for Cooperatives: Forecasting Fuel and Power Supply Cost Web conference. July 28, 2010 1 How to Submit Your Questions Step 1: Type your question here. Step 2: Press “Send” to submit your question. Power Supply Issues for Cooperatives: Forecasting Fuel and Power Supply Cost For: NRECA’s Cooperative Financial Professional Certificate By: John Sturm, VP Corporate Development, ACES Power Marketing July 28, 2010 3

Polling Question What is your biggest concern with fuel and power cost forecasting for your cooperative or your G&T? A. I do not like the unpredictability fuel causes in the cost of power B. There is no transparency in measuring and reporting the uncertainty in fuel and/or power costs C. I do not understand the opportunities, costs, and benefits of hedging fuel and/or power costs D. Uncertainty has a big impact on my margins and cash management E. All the above 4 Training Objectives and Webinar Outline Objectives Webinar Outline • To identify the primary 1. Fuel and power cost commodities that volatility cause power cost 2. Primary energy risks uncertainty 3. Methods of forecasting • To explain fuel/power price volatility fuel and power prices • To examine how firms 4. Hedging 101 forecast fuel/power costs • To summarize alternative methods for managing commodity price risk 5 Fuel and Power Cost Volatility Overview • Commodity price uncertainty is as common as uncertainty in the forecast of future temperature, levels of rain and snow, the economy, the stock market, and the price of eggs. • Power prices are highly correlated with the primary fuels used in the region, but many external factors influence power prices also. • An evaluation of historical prices can illustrate volatility and explain some of the events that make forecasting fuel and power prices difficult. 6

Fuel and Power Cost Volatility Eastern Markets Historical Spot Prices • Power prices $250.00 vary and are PJM West on peak $200.00 correlated with PJM West off peak different $/MWh $150.00 variables in each region of the $100.00 country. $50.00 • For example, in PJM, natural gas $0.00 prices have a big $14.00 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 $9.00 influence on $12.00 $8.00 NYMEX Gas power prices $/mmBtu (Gas) Eastern Coal * $/mmBtu (Coal) $7.00 $10.00 while both $6.00 natural gas and $8.00 $5.00 coal prices have $6.00 $4.00 a bigger $3.00 $4.00 influence on off- $2.00 peak prices. $2.00 $1.00 $0.00 $0.00 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 Jul-10 * Capp Big Sandy 1200 1.2 7 Fuel and Power Cost Volatility Texas Markets H is t o r ic a l S p o t P r ic e s • In Texas (ERCOT $ 1 6 0 .0 0 market) natural $ 1 4 0 .0 0 gas is the primary E R C O T - o n p e a k fuel stock for $ 1 2 0 .0 0 E R C O T - o ff p e a k generation and $ 1 0 0 .0 0 correlates highly $/MWh $ 8 0 .0 0 with power prices, both on and off $ 6 0 .0 0 peak. $ 4 0 .0 0 • However, the $ 2 0 .0 0 addition of wind generation is $ 0 .0 0 $ 1 4 .0 0 beginning to affect $ 1 .9 0 power prices $ 1 2 .0 0 $ 1 .7 0 especially during off-peak hours. $ 1 0 .0 0 $ 1 .5 0 N Y M E X G a s $/mmBtu (Gas) $/mmBtu (Coal) W e s te r n C o a l * • Sometimes off $ 1 .3 0 $ 8 .0 0 peak hours can $ 1 .1 0 $ 6 .0 0 have negative $ 0 .9 0 prices. $ 4 .0 0 $ 0 .7 0 $ 2 .0 0 $ 0 .5 0 $ 0 .0 0 $ 0 .3 0 Mar-07 Jun-07 Sep-07 Dec-07 Mar-08 Jun-08 Sep-08 Dec-08 Mar-09 Jun-09 Sep-09 Dec-09 Mar-10 Jun-10 * PRB BNSF UP 8800 0.8 8 Fuel and Power Cost Volatility Northwest Market Power Prices and Average Reservoir Levels 7 7 8 8 8 9 9 9 0 7 0 8 8 0 8 0 9 9 0 9 0 0 0 1 0 0 0 0 0 - 0 0 0 0 - 0 0 1 1 - 1 - p - v - - r - y - p - v - - r - y - p - v - - r - y - l e o n a a l e o n a a l e o n a a l u S N a M M u S N a M M u S N a M M u J J J J J J J 10000000 $100.00 9500000 $80.00 9000000 Acre-feet $/MWh $60.00 8500000 $40.00 8000000 COB Power ($/MWh) $20.00 7500000 Reservoir Level (Acre-feet) $0.00 7000000 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 • In the Northwest, hydro generation is abundant and influences power prices heavily. • Rain, snow melt, and the resulting reservoir levels have a huge influence on the price of power. • Hydro power is somewhat “storable” so power prices are related to reservoir levels. • Fuels, mostly natural gas, impact western power price but its overall impact is highly dependant on very specific locations. 9

Fuel and Power Cost Volatility Coal, Oil, and Gas Markets Historical Spot Prices • Natural gas and Heating $35.00 $35.00 oil (Diesel) have correlated price $30.00 $30.00 movements. Heating Oil $/mmBtu (Heating Oil) • Heating oil had a huge $25.00 $25.00 NYMEX Gas downturn in prices $/mmBtu (Gas) beginning July of 2008, $20.00 $20.00 due to the economic recession and the decline $15.00 $15.00 in the value of the dollar (oil is traded globally in $10.00 $10.00 US $, so a weakening $ causes oil price declines). $5.00 $5.00 • Coal prices correlate with oil because it $0.00 $0.00 requires diesel oil to run $30.00 $8.00 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 the mining process Heating Oil $7.00 machines. $25.00 Eastern Coal * $/mmBtu (Heating Oil) • Coal delivery charges $6.00 Western Coal ** $/mmBtu (Coal) (not illustrated) are $20.00 $5.00 highly correlated to oil prices. $15.00 $4.00 • Coal delivery can $3.00 represent 70% of the $10.00 Western Coal prices. $2.00 $5.00 $1.00 $0.00 $0.00 * Capp Big Sandy 1200 1.2 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 Sep-09 Nov-09 Jan-10 Mar-10 May-10 10 ** PRB BNSF UP 8800 0.8 Fuel and Power Cost Volatility Other Influences • The economy (i.e. demand for electricity) • Location – Primary generation sources – Generation reserve levels – Transmission availability to reach alternative markets/sources – Fuel availability and delivery cost • Your power supplier’s portfolio – Types of generation, reliability, and reserve levels – Fuels used and level of fuel hedging activities – Ability to optimize the assets • Regulatory action, for example – Carbon legislation – Renewable portfolio standards – Energy efficiency requirements 11 Polling Question What fuel related factors do you believe affect your power cost uncertainty the most? A. Cost of coal B. Cost of natural gas C. Availability of hydro power D. Delivery of power or fuel E. Other – please submit via the chat box 12

Primary Energy Risks Commodity market price risk • Risk of loss due to potential fluctuations in the prices of a commodity • Due to heavy reliance on fossil fuel generation units, most cooperatives have a natural short position in fuel • Commodity market price risk occurs across all tenors, from the hourly market to the long-term forward market (5 years +). • Cooperatives can be exposed to commodity price risk for power, coal, natural gas, emission allowance (SO 2 and NO X ), fuel oil and various bulk materials (e.g. ammonium, limestone) that exhibit price volatility. 13 Primary Energy Risks Credit & Margin Risk Operations Delivery Most risks Risk Risk eventually manifest Commodity themselves back Price Risk to commodity price risk Volumetric Congestion Risk Risk Commercial Operational Risk 14 Primary Energy Risks • Commercial operational risk – Risk of loss due to inadequate or failed internal processes, people, and systems. A lack of skills or tools to manage risk. • Credit and margin risk – The risk of a potential adverse occurrence of a counterparty’s ability to fulfill its obligations by declaring bankruptcy or abrogating a favorable contract – Cash margin risk is the risk associated with inadequate cash flow resulting from credit margin requirements of a contractual agreement. 15