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HomeMy WebLinkAboutStaff Report 118-08City of Palo Alto City Manager’s Report TO:HONORABLE CITY COUNCIL FROM:CITY MANAGER DEPARTMENT: ADMINISTRATIVE SERVICES DATE:JANUARY 22, 2008 CMR:ll8:08 SUBJECT:CITY OF PALO ALTO’S ENERGY RISK MANAGEMENT REPORT FOR THE FIRST QUARTER, FISCAL YEAR 2007-2008 This is an information report and no Council action is required. OVERVIEW Staff has continued to purchase electricity and gas in full compliance with the City’s Energy Risk Management policies and procedures. There are no exceptions to report. The City’s credit exposure to wholesale electricity purchases is $6.0 million for electricity, do’an from $9.2 million from last quarter. The mark to market value of purchases of renewable power is $0.6 million. The value of Western hydro is positive $12.1 million, while the value of Calaveras hydro is negative $4.1 million. The City’s credit exposure in gas is negative $1.2 million, down from $0.8 million last quarter. The City’s price risk exposure from the yet-to-be-purchased portion of its electric and gas portfolio, ka~own as Value at Risk or VAR, is well within current guidelines. The gas reserves are increasing and are considered adequate for the cun’ent risk profile. Electricity supply reserves are fully adequate for the current risk profile; however, it is anticipated that significant reductions in the reserve will occur next fiscal year as a result of the poor hydro conditions in 2007. BACKGROUND The pro-pose of this report is to inform the Cit3~ Council of the status of the City’s energy portfolio and transactions executed with energy suppliers as of the end of the first quarter of Fiscal Year 2007-08. The City’s Energy Risk Management Policy requires that staff report on a quarterly basis to Council on: 1) the City’s energy portfolio; 2) the City’s credit and market risk profile; 3) portfolio performance; and 4) other key market and risk information. DISCUSSION Attachments 1 and 2 summarize the cmxent position and exposure of the City with the electricity and gas commodity portfolios, respectively. Attachment 1 summarizes the electric portfolio in terms of forward purchase volumes, headroom (volume limit less cun-ent purchases volumes), CMR: 118:08 Page 1 of 9 and mark to market value (cun’ent market price less purchase price). Attaclm~ent 2 summarizes the gas portfolio in terms of transaction volume, market value, mark to market value and limits. Electricity Purchases. As of September 30, 2007, the electric portfolio of long-term contracts consisted of deliveries through December 2009. The City currently has purchased supplies of electricity totaling 702,435 MWh for delivery between October 1, 2007 and March 31, 2010. The forward purchases have been transacted with four approved counterparties: JP Morgan Chase~. Coral Energy, Sempra Energy, and British Petroleum. The Mark to Market (MTM) value of the Cib"s forward transactions for wholesale power declined from $9.2 million at the end of last quarter to $5.9 million. Figure 1 presents the MTM positions for each supplier by month. The MTM value of the City’s forward positions for renewable green power is $0.8 million. The MTM value of Western Hydro is $12.1 million, while the MTM value of Calaveras hydro is negative $4.1 million. This means that the costs of Calaveras are greater than the marketvalue of electricity for the next 12 months. This reduction is due to the reduction in generation resulting from the poor hydro conditions in 2007. Figure 1. Forward Electric Mark to Market Exposure $1,ooo,o00!S8oo,o0o: S600,O00 1 $400,000 _!!!!, El Sempra ElJP Morgan Chase [] Coral Power ElBP -$800,000 J Delivery Date Natural Gas: As of September 30, 2007, the gas portfolio consisted of 63 separate transactions. The City currently has purchased supplies of gas totaling 4.8 million MMBtu for deliver, betaYeen October 1, 2007 and March 31, 2010. The average price for all of the fixed-price purchases was $8.0 per MMBtu, up from $7.92 last quarter. The forward purchases have been transacted with three approved counterparties: ConocoPhillips, Coral Energy, and Sempra Energy. The current MTM value of gas transactions is negative $1.2 million. The MTM value by month and by counterparty is presented in Figure 2. The MTM history is presented in Figure 3. CMR: llS:0S Page 2 of 9 $100,000 Figure 2. Forward Gas Mark to Market Exposure $50,000 $o- -$50,0 ~ -$100,000 -$150,000 ~ -$200,000 i--~ -$250,000 -- E] Sempra [] Powerex [] Coral Energy i [] ConocoPhillips -$300,000 Delivery Date Figure 3. Mark to Market History $20 ~+ Electricity $15 ~Gas $5 $0 ~ate Value at Risk The "riskiness’: of the energy pol~folio is measured through the "value at risk’~ (or VaR). ~he VaR measures the risk that adverse market conditions could force CPAU to use reserves to cover costs on future purchases over what is reflected in current rates. Specifically, VaR measures how much projected 12-month net revenue could change in one week due to a potential adverse market change. Staff uses the VaR as one of the key measures of market price risk to CPAU. CMR: !18:08 Page 3 of 9 In compliance with the Risk Management Guidelines, the Utilities staff and the Energy Risk Manager monitor the VaR level relative to the projected end-of-year supply Rate Stabilization Reserve (RSR) levels for both electricity and gas. Cun’ently, the VaR for the electricity portfolio is less than 1% of the RSR. This indicates that the electric portfolio for the next 12 months has very little price exposure when compared to the cmxent state of the supply reserve. The VaR for gas has continued to stay below the 10% benchmark and is currently at 5% of supply reserve. Credit Risk To manage credit risk, staff reports on major credit rating agency’s (S&P and Moody’s) scores, and calculates the "estimated default frequency" (EDF) using the Moody’s I~MV CreditEdge© system. The EDF is an estimated probability that a counterparty will default in the next !2 months. Electricity CPAU’s electric supplier counterparty credit exposure and the supplier credit ratings are presented below. CPAU’s largest exposure, in excess of $7.8 million, is with Coral, a company rated A- by Standard and Poor’s. Coral is a wholly owned subsidiary of Royal Dutch Shell which is rated AAA, the highest rating given. All of the counterparties from whom the City currently purchases electricity have very high credit ratings and exposure is very low. Table 1. Electrici~~ Suppliers - Credit Exposure and Credit Ratings as of September 30, 2007 Counter parD’ Total Credit Exposure S&P Ranking Previous Quarter Expected Default Frequency Current Expected Default Frequency Expected "Loss" (Exposure x Default) BP $ -698,032 AA+.02 .02 $0 Coral $7,860,969 A-.05 .05 $3,930 Sempra $ -995,993 BBB+.02 .02 $0 JP Morgan $-’~’~’~ 396 AA .02 .02 $0Chase’ -~’~-’ Total $ 6,055,649 $3,930 CMR: 118:08 Page 4 of 9 Natural Gas As Table 3 shows, the City has exposure to five counterparties totaling $0.8 million over the next 36 months. Table 2 below calculates the loss which the City would suffer should one of its gas counterparties default. This loss is calculated as the product of Estimated Default Frequency and the MTM value. Because all the purchases of gas currently have a negative Mark to Market value, the City has no credit exposure. Table 2. Credit Exposure and Default Ratings of Natural Gas Suppliers (September 30, 2007) Counter part3’ ConocoPhillips Coral Sempra Powerex Total Total Credit Exposure S 0 S 0 $ -1,015,966 S-60,676 $ -113,139 $ -1,189,780 S&P Ranking AA+ BBB+ AAA Previous Expected Default Frequency .02 Current Expected Default Frequency .02 .03 .03 ¯ 05 .05 .03 .02 .02 .O2 Expected Loss2 (Exposure Default) S 0 $ 0 $0 S0 S0 X Reserve Adequacy A key premise to the City’s risk management practices centers on ensuring the adequacy of supply reserves with respect to the risks undertaken as a result of purchases of gas and electricity commodities. Table 3 below sumlnarizes the current and projected supply reserve levels for gas and electricity as of June 30, 2007. The current formulas for calculation maximum reserve balances are 103% and 75% of purchase costs for electric mad gas respectively. The minimum reserve levels are 50% of the maximum levels for both gas and electricitT. CMR: 118:08 Page 5 of 9 Table 3. Supply Reserve Levels for Electricit3~ and Gas ($ Millions) (Preliminary figures*) Commodity Beginning Reserve Balance as of 6/30/07 Budgeted Reserve Guideline Range for FY 06/07 Current Projected Reserve Balance for FY07/08 As of 9/30/07 Min Max Electricity $ 60.6 $ 28.5 $ 56.9 $59.0 Gas $ 6.7 $ 10.0 $ 20.0 $-6.9 * ,,4 CCOZt~TtilTg activity for current year reJTects wkat has been booked hTto tke CiO, ’s accounting system (SAP). These figures are p:’elimi~a~v until outside auditors km, e completed tkeh" review and the Comprehensive Annual Fh~ancial Report is" produced. There cozdd be significant changes to the RSR balances based on year end adjustments that /rove not as yet been booked. The information regarding the beginning rese~a,e balance as of 6/30/0 has been audited and the G4FR is published. The current reserves for electricity are well above the minimum mad well above credit, regulatory and other risks for the next 12 months. Total risks associated with the electric supply reserve for the next 12 months include $4.5 million for credit reserves (using best practice of 50% of largest single exposure); $10 million for hydro risk; $2 million for market risk of the yet-to-be- purchased positions in the next 12 months; and $2 million for possible regulatory and other risks. These risks total $18.5 million. The current electric reserve balance of $60.6 million does not take into account the increase in future costs of power due to the on-going drought conditions. The current electricity reserve will be reduced significantly as a result of the on-going drought, and may reduce further depending on next winter’s precipitation patterns. With regard to gas, the current reserve levels of $6.8 million are below the minimum level of $!0.0 million as set by current policy. However, reserve levels have grown and are closer to meeting the existing risks than anytime in the past 18 months. Reserve levels are adequate for the current risks they are intended to mitigate given current market dynamics. Total risks associated with the gas supply reserve include $0.3 million for credit reserves, $1.2 million for unhedged commodities in the next 12 months, and $1 million for possible regulatory and other risks. This totals $2.5 million. The current projected balance for the gas supply reserve is negative. This is primm’ily a result of the timing of accounting entries. Supply costs are expensed during the fiscal year, while revenues from the sale of that gas are not recognized until received, and may not be recognized during the fiscal year. It is expected that reserve balances will slightly decline to $5.7 million. Additional reserve information will be provided in the next quarterly report. CMR: 118:08 Page 6 of 9 As always, changing market dynamics, international events, and other factors outside the City’s control, can have a significant and adverse impact on the adequacy of reserves for both gas and electricity over a short timeframe. PREPARED BY: DEPARTMENT HEAD APPROVAL: CITY MANAGER APPROVAL: KARL VAN 0RSDOL Energy Risk Manager /" LALO PEREZ / Director, Administrative Services E5~IL’Y HAR~ON Assistant City Manager ATTACHMENTS Attachment 1: Summary of Forward Electricity Positions m~d Exposures Attachlnent 2: Summary of Forward Gas Positions and Exposures CMR: 118:08 Page 7 of 9