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HomeMy WebLinkAboutStaff Report 164-08City of Palo A]lto Manager’s epor TO: FROM: HONORABLE CITY COUNCIL CITY MANAGER DEPARTMENT: ADMINISTRATIVE SERVICES DATE:MARCH 17, 2008 CMR:164:08 SUBJECT:CITY OF PALO ALTO’S ENERGY RISK MANAGEMENT REPORT FOR THE SECOND 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 $7.8 million for electricity, up from $6.0 million from last quarter. The mark to market (MTM) value of purchases of renewable power is $1.2 million. The value of Western hydro is $10.4 million, while the value of Calaveras hydro is negative $1.6 million. The City’s credit exposure in gas is negative $0.2 million, down from $1.2 million last quarter. The City’s price risk exposure from the yet-to-be-purchased portion of its electric and gas portfolio, kno~vn as Value at Risk or VaR, is well within current guidelines. The gas reserves are increasing and are considered adequate for current risk profile. Electricity supply reserves are fully adequate for the current risk profile. However, it is anticipated that significant reductions in the electric supply reserve will occur over the next fiscal years as a result of the poor hydro conditions in 2007 and the planned draw-down of the reserve. BACKGROUND The purpose of this report is to inform the City Council of the status of the City’s energy portfolio and transactions executed with energy suppliers as of the end of the second 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. Table 1 and Table 2 below summarize the current position and exposure of the City with the electricity and gas commodity portfolios, respectively. Table 1 summarizes the electric portfolio in terms of forward purchase volumes, headroom (volume limit less current purchases volumes), and mark to market value (current market price less purchase price). Table 2 summarizes the gas portfolio in terms of transaction volume, market value, mark to market value and limits. CMR:164:08 Page 1 of 12 ooooo ooo oo oo oooo DISCUSSION Electricity Purchases. As of December 31, 2007, the electric portfolio consisted of long-term contracts providing deliveries through March 2010. These deliveries are contracted under 78 transactions through 9 Electricity Master Agreements. Figure 1 below- illustrates the sources of electricity supplies by month for the next 36 months. The City currently has purchased supplies of electricity totaling 515,330 MWh for delivery between January 1, 2008 and March 31, 2010. The average price for all of the fixed-price purchases was $56.12 per MWh, up from $53.53 last quarter. The forward purchases have been transacted with three approved counterparties: Coral Energy, Sempra Energy, and British Petroleum. In Figure 1, the Seattle City Light (SCL) volumes represent an "exchange" whereby Palo Alto supplies power to Seattle City Light in the winter months and Seattle provides power to Palo Alto during the summer months. Figure 1. Load Resource Balance for Next 36 Months 120,000 ,- 100,000 80,000 60,000 40 000 20,000 r---q Western Month r---q Calaveras ~ SCL r---] Landfill Gas Gen Wind Gen k-RX~ Planned Renewables ~ Forward Market Purchases +Total Load The MTM value of the City’s forward transactions for wholesale power increased from $6.0 million at the end of last quarter to $7.8 million. Figure 2 presents the forward volumes and MTM positions for each electric supplier by month of delivery. The value of the swap with Seattle City Light is negative $80,000. Non Carbon Emitting Electricity. The City utilizes non-carbon emitting electricity sources for approximately 70% of the total annual load. In all cases, the market price used to mark all non- carbon emitting power is identical to that for wholesale power. The 12-month MTM value of the City’s forward positions for renewable green power is $1.2 million. The MTM value of Western CMR:164:08 Page 4 of 12 Hydro is $10.4 million, while the MTM value of Calaveras hydro is negative $1.6 million. This means that the costs of Calaveras are greater than the value of electricity for the next 12 months. Figure 2. Electric For~vard Volumes and Mark to Market Electric Forward Mark to Market $1,000,000 8oo,ooo $(4oo,ooo) ..................................[] sere;-& $(600,000) !ElJP Morgan Chase ’~ [] Coral PowerS(800,O00) Date 80,000 70,000 60,000 50,000 40,000 30,000 20,000 IO,OO0 Electric Forward Volumes []Sempra ~NJP Morgan Chase ...................................................... .[]Coral Po_~ver Delivery Date Natural Gas. As of December 31, 2007, the gas portfolio consisted of 109 separate deliveries. The City currently has purchased supplies of gas totaling 4.9 million MMBtu for delivery between January 1, 2008 and September 30, 2010. The average price for all of the fixed-price purchases was $7.92 per MMBtu, up from $7.64 last quarter. The forward purchases have been transacted with four approved counterparties: ConocoPhillips, Coral Energy, Sempra Energy and British Petroleum. The current MTM value of gas transactions is $0.8 million. The forward volumes and MTM values by month and by counterparty are presented in Figure 3. CMR:164:08 Page 5 of 12 Figure 3. Gas For~vard Volumes and MTM Exposures 800,000 700,000 600,000 500,000 400,000 300,000 200,000 100,000 Gas Forward Volumes I~ Sempra t[] Powerex ~-- ! [] Coral Energy 4 [] ConocoPhillips - Delivery Date $150,000 $100,000 $50,000 $- $(5o,oo~ Gas Forward MTM Exposure $(150,000)i [] Sempra 5(200,000) ..............................................i [] Powerex $(250,000) ...............................~ E]Coral Energy ]~B ConocoPhillips Delivery Date CMR: 164:08 Page 6 of 12 Figure 4 presents the Mark to Market history for both gas and electricity. 25 20 15 10 5 0 Figure 4. Mark to Market History Date Value at Risk The ~riskiness" of the energy portfolio is measured through the "value at risk" (or VaR). The 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. 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. Currently, the VaR for the electricity portfolio is less than 1% of the RSR. The VaR for gas has continued to stay below the 10% benchmark and is currently at 8% of supply reserve. The historic levels of the VaR values for electricity and gas are presented in Figure 5. Note that the 10% benchmark is also shown. CMR: 164:08 Page 7 of 12 Figure 5. Value at Risk History 16.00% 14.00% 12.00% 10.00% Electric i ---~- Gas % 8.oo% i 6.00% 4.00% 2.00% 0.00% Date Credit Risk To manage credit risk, staff reports on major credit rating agency’s (S&P and Moody’s) scores, and, in addition, the :’estimated default frequency" (EDF) using the Moody’s KMV CreditEdge© system. The EDF is an estimated probability that a counterparty will default in the next 12 months. Electricity. CPAU’s electric supplier counterparty credit exposure and the supplier credit ratings are presented in Table 3 below. CPAU’s largest exposure, in excess of $9.7 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. CMR:164:08 Page 8 of 12 Table 3. Electricity Suppliers - Credit Exposure and Credit Ratings as of December 31, 2007 Counter party Coral JP Morgan Chase Sempra Total Total Credit Exposure $ 8,298,013 -127,900 $ -354,956 $ 7,815,157 S&P Ranking AA- BBB+ Previous Quarter Expected Default Frequency .O5 .O5 .O2 Current Expected Default Frequency .O5 .O5 .05 Expected "Loss" (Exposure x Default) $ 4,149 $0 $0 $ 4,149 Renewable Electricity. Palo Alto’s contracts for renewable "green" energy include both wind contracts with Pacificorp Power Marketing (PPM) as well as contracts to convert landfill gas to electricity with Ameresco, Inc. The credit exposure and EDF ratings for these counterparties are presented in Table 4 below. Table 4. Renewable Ener~’ Credit Exposure and Credit Ratings as of December 31, 2007 Counterpart)’Total Credit Exposure Previous Quarter Calculated Expected Default Frequency 0.28 Current Calculated Expected Default Frequency Expected "Loss" (Exposure x Default) Ameresco, Inc.$253,021 0.28 $708 Pacificorp Power $ 898,096 0.01 0.01 $ 89Marketing Total $ 1,151,117 $ 797 Natural Gas. As Table 3 shows, the City has exposure to five counterparties totaling negative $0.2 million over the next 36 months. Table 5 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. CMR:164:08 Page 9 of 12 Table 5. Credit Exposure and Default Ratings of Natural Gas Suppliers (December 30, 2007) Counter part), Total Credit S&P Previous Exposure Ranking Expected Loss"Expected Default Frequency .02 .03 .05 N/A .03 Current Expected Default Frequency .02 .03 .05 .02 .02 (Exposure x Default) BP $ 24,934 AA+$5 ConocoPhillips $0 A-$0 Coral $ -379,707 A-$0 Powerex $ 21,353 AAA $4 Sempra $ 135,789 BBB+$ 140 Total $-197,6,~2, "$ 149 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 4 below summarizes the current and projected supply reserve levels for gas and electricity as of June 30, 2007. The current formulas for calculating maximum reserve balances are 103% and 75% of purchase costs for electric and gas respectively. The minimum reserve levels are 50% of the maximum levels for both gas and electricity. CMR:164:08 Page 10 of 12 Commodity Table 6. Supply Reserve Levels for Electricity and Gas ($ Millions) (Preliminary figures) Beginning Reserve Balance as of 6/30/07 Budgeted Reserwe Guideline Range for FY 06/07 Unaudited Actual Reserve Balance as of 12/31/07 FY (06-07)* Projected Reserve Balance for FY07/08 Min Max Electricity $ 60.6 $ 28.5 $ 56.9 $60.6 $53.2 Gas $ 6.7 $ 10.0 $ 20.0 $ 6.7 $-5.9 * Accounting activity figures to dctte reflect what has been booked into the City’s accounting .system (SAP). These jigures are prelimina~T until outside auditors have completed their review cmd the Coz~&rehensive Annual Financial Report is produced. There could be sign~cant changes to the RSR balances based on year end adjustments that have not as yet been booked. The current reserves for electricity are well above the minimum and 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 $1.8 million for credit reserves; $13 million for hydro risk; $7 million for market risk of the yet-to-be-purchased positions in the next 12 months; and $12 million for possible regulatory, operational and other risks. These risks total $34 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 hydrological conditions. As can be seen in the farthest right column of Table 6, financial projections indicate that the purchase of wholesale power to offset the below-normal generation of hydro electricity will likely lead to a decline in the supply reserve in the upcoming years. These projections indicate the supply reserve could decline to $38 million by the end of Fiscal Year 07/08 depending on precipitation for the rest of the hydro year. The current electricity reserve will be reduced significantly as a result of the on-going hydrological conditions, and may be reduced further depending on next winter’s precipitation patterns. Current projections on future reserve levels, assuming average hydro supply indicate levels dropping to approximately $32 million at the end of the decade and then slowly rising. Therefore, with average annual risks of approximately $34 million, the portfolio risk for the electric supply will require careful monitoring over the next few years to ensure that reserves are adequate for the City’s risk exposure. With regard to gas, the current projected reserve levels of $6.7 million are below the minimum level of $10.0 million set by current policy. However, reserve levels have grown and are closer to meeting the existing risks than anytime in the past 18 months. While the current projected balance for the gas supply reserve is negative, this is primarily accounting timing, as supply costs are expensed for the entire fiscal year, while future revenues from the sale of that gas are not yet recognized. It is expected that reserve balances will decline slightly to $5.7 million. Reserve CMR:164:08 Page 11 of 12 levels are barely adequate for the current risks they are intended to mitigate given current market dynamics. Total risks associated with the gas supply reserve include $1.0 million for credit reserves, and $5.5 million for unhedged commodities in the next 12 months. Therefore, total risks to the gas supply reserve total $6.5 million. 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: KARL VAN ORSDOL’- Energy Risk Manager DEPARTMENT HEAD APPROVAL: CITY MANAGER APPROVAL: LALO PEREZ Director, Administrative Services EMIL~Y HARRISON Assistant City Manager Appendix A. Detailed Natural Gas Transaction List. Appendix B. Detailed Electric Transaction List. CMR:!64:08 Page 12 of 12 oi 0 0 0 0 0 0 0 ¢0 0 0 0 0 D’~. 0 0 0 0 0 o -o O00~O00!O000000000~O0~O~OOi~O0000~O0 !o’o, ooo o ooooooooooo ooooooooo z z z~ c c c ~ ~ c c c c c c c ~ c c c c c~.£ ~ .£i~ c c c c ~ o ~ ~ o~ o ~ o o ~ oi ~ o o ~ o ~ ~ o ~ o o o ~ o o o m o o o ~ ~ o o 0 "~. Z Z Z Z Z ZZ Z zzzzzzzzzzzzzzzz ._.!._j .d _j._.1~ ~WWW !o o oo ooo ~ZZZZZ 000oo0 5 5 ~o oooooooo ooooooo oooooo Z Z ZZZZ