HomeMy WebLinkAbout2002-10-21 City Council (16)Citv of Pal
C ty Manager’s
TO:HONORABLE CITY COUNCIL
FROM:CITY MANAGER DEPARTMENT: UTILITIES
DATE:
SUBJECT:
OCTOBER 21, 2002 CMR:400:02
ENERGY RISK MANAGEMENT POLICIES .AND ADOPTION OF
A RESOLUTION APPROVING THE AMENDED AND RESTATED
UTILITIES ENERGY RISK MANAGEMENT POLICIES AND
-DELEGATING TO THE CITY MANAGER THE AUTHORITY TO
ESTABLISH AND PROMULGATE ENERGY RISK
MANAGEMENTGUIDELINES, RULES AND PROCEDURES
This memorandum is attached to CMR:400:02 to include recon~nendations made by the
Finance committee and by the City Attorney’s Office.
RECOMMENDATION
Staff recommends that the City Council adopt a resolution approving the amended and
restated City of Palo Alto Utilities Energy Risk Management Policies and delegating to
the City Manager the authority to establish and promulgate energy risk management
guidelines, rules and procedures.
The City Council approved Energy Risk Management Policies and Procedures (Policies)
on March 19, 2001 (CMR:103 :01) These Policies provide a broad overview of the
general attitude of Palo Alto towards risk and risk management. Detailed background
information is provided in the attachments.
Staff has submitted revised proposed Policies for Council approval. The UAC discussed
the proposed Energy Risk Managemem Policies at its July 10, 2002 and August 7, 2002
meetings. At the August 7 meeting, the UAC unanimously recommended the proposed
Policies with some small changes. The Finance Committee discussed the proposed
Page 1 of 2
Policies at its October 1, 2002 meeting. The Finance Committee unanimously
recommended the proposed Policies, with two small edits on page 4 of the Policies
document.
The City Attorney’s Office recommends that Council approve these policies by means of
a resolution, included as Attachment B. The resolution also clarifies the City Manager’s
delegated authority with respect to managing risk as described in the Policies.
ATTACHMENTS
No October 1, 2002 Finance Committee Packet
Resolution
City of Palo Alto Utilities Energy Risk Management Policies (October 2, 2002
which includes Finance Committee modifications)
PREPARED BY:
KARL E. KNAPP
Senior Resource Planner
DEPARTMENT HEAD:
CITY MANAGER APPROVAL:
of Utilities
BENES’
City Manager
Page 2 of 2
TO:HONORABLE CITY COUNCIL
ATTN:FINANCE COMMITTEE
FROM:CITY MANAGER DEPARTMENT: UTILITIES
DATE: ¯
SUBJECT:
OCTOBER 1, 2002
ENERGY RISK MANAGEMENT POLICIES
CMR:400:02
RECOMMENDATION
The Utilities Advisory Commission and staff recommend that the City Council approve
the proposed City of Palo Alto Utilities Energy Risk Management Policies.
BACKGROUND
The City Council approved Energy Risk Management Policies (Policies) on March 19,
2001 (CMR:103:01). The policies provide a broad overview of the general attitude of
Palo Alto towards risk and risk management. This attitude is one of risk limitation and
control, with financial health of the City and Utilities being high priorities. Prior to
adoption by Couhcil, the policies were included in the Interim Risk Management Policies
and Procedures that have guided staff since November 19, 1999. These Interim Policies
and Procedures were approved by the City Manager.
The City Auditor’s Office conducted an assessment of the Utility Risk Management
Procedures between November 2001 and June 2002. The audit report reinforced outside
consultant recommendations, and identified several specific recommendations for
improving utilities risk management practices and communication of risk management
issues with the UAC and City Council. The City Auditor presented results of the Utility
Risk Management Procedures Audit at the July 10, 2002 UAC meeting.
The City Auditor’s Report recommends: "In conjunction with the Risk Oversight
Committee (ROC) and the City Council, CPAU should (a) clearly define the roles,
responsibilities, and scope of authorities, for each oversight body in the risk management
process including the ROC, the Utilities Advisory Commission, and the City Council,
CMR:400:02 Page 1 of 3
and (b) establish formal policies and procedures commensurate with these oversight
roles."
The proposed Policies were developed by the ROC, and serve as the comprehensive
document that addresses these recommendations..They incorporate previously approved
Council policies and provide a coherent explanation of the City’s risk management
program in a single document.
The proposed Policies contain the components that were previously approved by the
Council, some proposed changes to those policies, and some new sections. These
outlined in the attached UAC reports. The draft version presented to the UAC has been
edited slightly for clarification and approved by the Risk Oversight Committee.
BOARD/COMMISSION REVIEW AND RECOMMENDATIONS
The UAC discussed the proposed Energy Risk Management Policies at its July 10, 2002
and August 7, 2002 meetings. -, At the August 7 meeting, the UAC unanimously
recommended the proposed Energy Risk Management Poli(ies.
POLICY IMPLICATIONS AND UTILITIES STRATEGIC PLAN
The proposed Energy Risk Management Policies are consistent with the Utilities
Strategic Plan and its Key Strategies:
Strategy 2: "Preserve a supply cost advantage compared to the market price" and a
tactic supporting that strategy is "Manage exposure to energy commodity price risk."
Strategy 3: "Streamline and manage business processes to allow CPAU to work
efficiently and cost-effectively."
Strategy 4: "Deliver products and services for competitive markets" notes the
provision and delivery of customer valued commodity products.
Strategy 6: "Maximize the General Fund transfers and maintain financial strength"
lists the tactic, "Maintain stable transfers to the General Fund", for which risk
management is a key part of the implementation plan.
RESOURCE IMPACT
See Attachment D (UAC Report on the Energy Risk Management Policies) for resource
impact. The risk of not approving the Energy Risk Management Policies at this time is
that staff will continue under the existing Council approved policies and the Interim Risk
Management Policies and Procedures. However, these are not necessarily consistent with
current practice and with the reconmaendations of the City Auditor.
CMR:400:02 Page 2 of 3
TIMELINE
See Attachment D (UAC Report on the Energy Risk Management Policies) under "Next
Steps".
ATTACHMENTS
No
No
C.
D.
E.
Proposed City of Palo Alto Utilities Energy Risk Management Policies (August
21, 2002 DRAFT)
July 10, 2002 Report to the UAC: Energy Risk Management Policies
Minutes from the July 10, 2002 UAC meeting
August 7, 2002 Report to the UAC: Energy Risk Management Policies
Minutes from the August 7, 2002 UAC meeting
PREPARED BY:
Planner
DEPARTMENT HEAD:
CITY MANAGER APPROVAL:
of Utilities
HARRISON
Assistant City Manager
CMR:400!02 Page 3 of 3
City of Palo Alto U~l~tie
Energy Risk Managemem
Policie:
August 21, 2002 draft
CITY OF PALO ALTO
UTILITIES
City of Palo Alto Utilities Energy Risk Management Policies
Table of Contents
I.INTRODUCTION ......................................’ ...... .................................................................................................1
II.ENERGY RISK MANAGEMENT PHILOSOPHY ......................................................................................1
III.ENERGY RISK MANAGEMENT OBJECTIVES ........................................................................................1
1.RETAIL RATE STABILITY .......................................................................................................: .........................2
2.PRESERVE A SUPPLY COST ADVANTAGE ........................................................................................................i 2
3.EFFICIENT AND COST EFFECTIVE BUSINESS PROCESSES .................................................................................2
IV.SCOPE ...............................................................................................................................................................3
V.GENERAL TRANSACTING POLICY ..........................................................................................................3
1.ANTI-SPECULATION ............................’ii. ........................................................i .................................................3
2.MAXIMUM TRANSACTION TERM .....................................................................................................................3
3.’ PORTFOLIO PERFORMANCE AND VALUE REPORTING ......................................................................................3
4.COMPETITIVE PROCESS ............................................................................................................................. ......4
VI.OVERSIGHT BOD]~S ....... ...............................................................................................................................4
2.
3.
4.
5.
CITY COUNCIL - ...............................................................................................................................................4
UTILITIES ADVIS CRY COMMIS SION .................................................................................................................4
CITY MANAGER .....................i ........................................................................................................................4
RISK OVERSIGHT COMMITTEE ........................................................................................................................4
MANAGEMENT OVERSIGHT .............................................................................................................................5
Front Office -Planning and Procurement .................................................: ..............................................5
Middle Office- ConWols and Reporting ...................................................................................................5
Back Office - Settlement and Recording .............................: .................: ....................................................6
COMMODITY PRICING POLICY ...........................................................................................................6
POLICY STATEMENT ......................................................................... ...............................................................6 .
a.Direct Cost Recovery .................................................................................................................................7
b.Risk Management. ......................................................................................................................................7
c.Indirect Cost Recovery ...........................................................: ..................................................................7d.Nondiscrimination .....................................................................................................................................7
e.Nonsubsidization .........’. ...................................................................................................................~ .........7
VIH.CUSTOMER CONTRACT POLICY ..........................................................................................................7
1.OVERSIGHT ................................................................................: ....................................................................7
2,REVIEW AND APPROVAL .................................................................................................................................8
3.PRICING ...........................................................................................................................................................8
4.REPORTING .....................................................................................................................................................9
IX.COUNTERPARTY CREDIT POLICY ........................................................; .................................................9
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1.OBJECTIVES .....................................................................................................................................................9
2.ORGANIZATIONAL ROLES AND RESPONSIBILITIES .........................................................................................10
3.GUIDELINES TO QUALIFY SUPPLIERS ............................................................................................................10
4.ASSIGNMENT OF TRANSACTION LIMITS AND CREDIT EXPOSURE LIMITS TO COUNTERPARTIES ....................10
5.MONITORING AND REPORTING ON THE COUNTERPARTY CREDIT EXPOSURES ...............................................10
X.POLICY REVIEW AND REPORTING ON TRANSACTING ..................................................................10
1.FOR THE CITY COUNCIL: ...............................................................................................................................10
2.FOR THE UAC: ..............................................................................................................................................11
3.FOR THE ROC: ..............................................................................................................................................11
XI.AUTHORIZED TRANSACTING PRODUCTS ..........................................................................................11
XII.PROHIBITED TRANSACTING PRODUCTS .......................................................................................11
XIII.TRANSACTING AUTHORITY ................................." ..............................................................................12
XIV.CONFLICT OF INTEREST .....................................................................................................................12
APPENDIX A - RISK OVERSIGHT COMMITTEE CHARTER ......................................................................13
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I.INTRODUCTION
This document contains the City of Palo Alto Utilities (CPAU) energy risk management policies
as well as a list of the oversight bodies and a description of their roles and responsibilities. It
summarizes delegated authorities, management expectations, approved transacting products,
CPAU’s energy risk management methodology, management reporting, and violationactions.
As such, it acts as an umbrella document to all CPAU’s energy risk tuanagement control
infrastructure. This Energy Risk Management Policies document, the Energy Risk Management
Guidelines, and the Energy Risk Management Procedures are known collectively as the Energy
Risk Management Policies, Guidelines, and Procedures (RMPG&P). The RMPG&P serves as
Utilities’ guide for purchasing and selling electricity and natural gas to meet the needs of its end-
use customers.
II.ENERGY RISK MANAGEMENT PHILOSOPHY
The mission statement of the Utilities~ !~epartment is "To build value for our citizen owners, to
provide dependable returns to the City and citizens of Palo Alto, and to be the preferred full
service utility provider while sustaining the envirolarnent." The Utilities Strategic Plan, adopted
by the Council on November 13, 20001 contains four supporting objectives: 1) Enhance
customer satisfaction by delivering valued products and services; 2) Invest in utility
infrastructure to deliver reliable service; 3) Provide superior financial performance to the City
and competitive rates to customers; and 4) To identify and maintain the unique advantages of
municipal ownership.
CPAU recognizes that certain risks are inherent in the deregulated energy business environment.
CPAU seeks to minimize risks .in order to provide retail rate stability to its retail customers and a
stable financial return to the City’s General Fund. The basic premise underlying CPAU’s energy
risk management attitude is that no activities related to energy purchase and sales should expose
the City to the possibility of large financial losses in relation to the size of the electricity and gas
reserve funds.
III. ENERGY RISK MANAGEMENT OBJECTIVES
The primary objectives of energy risk management activities are to balance the business
objectives of (1) providing stable gas and electric rates to end users, (2) preserving a supply cost
advantage through obtaining the best available price, and (3) managing business processes to
allow CPAU to work efficiently and cost effectively.
L Council approved the Utilities Strategic Plan on Nov. 13, 2000 (CMR:418:00) and the Utilities Strategic
Implementation Plan on May 21, 2001 (CMR:223:01).
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1.Retail Rate Stability
Stable rates are of high value to the citizens and businesses in Palo Alto. However, energy
commodity market prices are extremely volatile. Therefore, a primary objective is to manage the
risks inherent in the energy commodity markets in which CPAU participates. The rate stability
objective will be to mitigate market risk and credit risk.
Market risk is the risk that value will be lost due to a exposure to the market
price of a commodity. For example, if CPAU purchased energy supplies at a
point intime for a fixed-price, there is a risk that the market value of that supply
fallsso that the cost of the energy is more than could be recovered if it were sold
back into the market.
Credit risk is the risk that a financial loss will be incurred if a counterparty does
not perform under its obligations to CPAU. For example, if CPAU contracted
with a supplier to provide electricity for a certain period of time at a fixed price,
CPAU would have to find replacement electricity from another source if that
supplier could not or did not deliver the energy for the contracted fixed price.
That price of the replacement energy could be more than the contract price,
causing CPAU to pay more than planned.
2.Preserve a Supply Cost Advantage
Wholesale transactions are effected to maximize the value of assets for the benefit of Palo Alto’s
retail customers. CPAU will take actions to: (a) reduce exposure to potential adverse energy
price movements; (b) enhance revenue by taking advantage of flexibility inherent in CPAU
contracts and resources; and (c) enhance revenue by offering commodity products that address
customer needs and adequately cover costs.
Reserve balances maintained by the gas and electric utilities provide financial liquidity and
flexibility in entering into other shorter-term contracts and purchases of energy in the spot and
forward market as needed to meet the projected load. Maintaining the safety of these reserve
funds is a matter of high priority for CPAU and the City.
3.Efficient and Cost Effective Business Processes
City staff will utilize business practices and controls that are sufficient to identify, evaluate, and
manage risks, and are designed to streamline and minimize recording, analysis and reporting
requirements. Staff will strive to improve the risk management procedures to enhance
productivity, reduce the cost of conducting risk management activities, and maintain
transparency and value of the risk management process.
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CdTY OF PALO ALTO
UTILITIES
SCOPE
This Energy Risk Management Policy shall apply to the electric and natural gas supply
business units. These are the part of the electric and natural gas enterprise funds that deal
directly with .the acquisition of energy supply resources.
This Energy Risk Management Policy prescribes the management, organization,
authority, processes, tools and systems to monitor, measure, and control market risks to
which CPAU is exposed in its normal course of business, including wholesale and retail
operations, capital projects (related to generation, transmission, transportation, or storage,
not distribution projects), and participation in joint powers authorities.
The policy does not address general business risks such as fire, accident, casualty, worker
health and safety, and general liability.
The policy does not cover the water fund or the electric and natural gas distribution
business units. " .....
V.GENERAL TRANSACTING POLICY
1.Anti-speculation
Speculative buying and selling of energy products is prohibited. Speculation is defined as
buying energy not needed for meeting forecasted load or selling energy that is not owned. In no
event shall transactions be entered into to speculate on market conditions.
2.Maximum Transaction Term
The maximum term of any supply resource transaction (purchase or sale) should be ten years,
unless specifically approved by the City Council, to meet long-term portfolio planning
objectives.
3.Portfolio Performance and V~atueReporting
Staff shall prepare performance reports containing an analysis of physical and financial positions
of all electric and gas commodity contracts. The frequency and content of performance reports
for each oversight body shall be prescribed in the Energy Risk Management Guidelines. Should
the ratio of the market value 0fthe portfolio tothe cost of the portfolio fall outside of the risk
limits prescribed in the Energy Risk Management Guidelines, CPAU will report this fact to the
City Council within a reasonable period and evaluate whether there is any risk of holding any of
the contracts in the portfolio to delivery.
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UTILITIES
4.Competitive Process
Whenever possible, CPAU will obtain three or more quotations when making a purchase or sale
transaction and select the best price from a responsible bidder.
VI.OVERSIGHT BODIES
1. City Council
The City Council is responsible for malting high-level broad policy and strategy statements.
These statements shall guide the general vision of CPAU business practices, articulating the
City’s risk philosophy, and establishing risk tolerances. The Council has established CPAU
business objectives by its adoption of the Utilities Strategic Plan. This plan serves as the
foundation of the Energy Risk Management Policy. The ~ity Council adopts the Energy Risk
Management Policy as developed and approved by the Risk Oversight Committee and delegates
the City Manager to execute it. ~
2.Utilities Advisory Commissioti ....
The Utilities Advisory Commission (UAC) is responsible for advising the City Council on long-
range planning and policy matters relating to the electricity, gas and water utilities. While it has
no formal responsibility in Risk Management, the UAC does receive and review regular
management reports prepared by the Risk Oversight Committee for the City Council. In
addition, the UAC can serve as an important source of advice and comment to the City Council
on risk management.
3.City Manager
The City Manager has overall responsibility for executing and ensuring compliance with policy
adopted by the City Council. The City Manager reports regularly to the City Council regarding
energy risk management activities.
4.Risk Oversight Committee
The Risk Oversight Committee (ROC) consists of the Director of Utilities (Chairperson), the
Director of Administrative Services, and the Assistant City Manager. The Senior Assistant City
Attorney assigned to Utilities and the City Auditor act as advisors to the ROC.
The ROC is the primary body responsible for creating and implementing a sound approach to
managing risk consistent with the ~business strategy and risk tolerance of the organization as
defined by the City Council. As such, the ROC is critical to overseeing and reviewing the risk
management process and infrastructure and managing the Utilities’ risk exposure. Specifically,
the ROC is responsible for the following activities:
[]Understanding energy risk management concepts;
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[]Developing and approving the Energy Risk Management Policy document consistent
with the Utility Strategic Plan, and submitting said Policy to City Council;
[]Approving and updating as necessary the Energy Risk Management Guidelines to guide
risk management activities in conformance with the Council-adopted Energy Risk
Management Policy;
[]Understanding the Energy Risk.Management Procedures as maintained and conducted by
the Front, Middle and Back Offices.
[]Reviewing and approving appropriate market and credit risk limits, and ensuring that all
risk limits are observed;
[]Prescribing energy risk management activities;
[]Monitoring the City’s risk exposures including market risk, volumetric risk, and credit
risk and administrative risk and ensure compliance with the RMPG&P;
[]Ensuring that proper ontrdls are in place;.
[]Understanding and approving methodologies used to measure and control risk taking;
[]Reviewing and approving exceptions and amendments to policies;
[]Evaluating portfolio risk;
[]Reviewing profitalsility and performance;
[]Reporting to the City Council on risk and performance of energy transacting activities
and providing assistance to the City Council on risk management concepts and
teclmiques.
5.Management Oversight
Risk management oversight at an operational level ig accomplished through supervisory review
and approval and appropriate separation of duties. Risk management functions are separated as
follows:
a. Front Office - Planning and Procurement
The Front Office is primarily responsible for resource planning and procuring energy
supplies and services. The FrontOffice oyersight role is accomplished through
supervisory review and approval.
b. Middle Office - Controls and Reporting
The Middle Office provides the primary independent management oversight role. The
Middle Office institutes, supervises, and reviews all risk management activities. Its
responsibilities include monitoring CPAU’s risk exposures and ensuring compliance with
policies, guidelines, and procedures.
The Middle Office adopts and updates as necessary the Energy Risk Management
Procedures so that portfolio management functions occur in compliance with the
Council-adopted Energy Risk Management Policy and ROC-adopted Energy Risk
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VII.
Management Guidelines. The functions of the Middle Office can be broadly defined as
Quantitative Analysis, Compliance Review, Credit Administration, and Management
Reporting.
Quantitative Analysis
The Middle Office performs rigorous risk analysis to evaluate the risk exposure
on both a transaction and portfolio basis. The Middle Office also maintains
official settlement price, forward price curves, volatility and other market price
databases.
Compliance Review
The Middle Office monitors all transactions to ensure compliance with the
RMPG&P.
Credit Administration
The Middle Office monitors counterparty creditworthiness. The Middle Office
objectively measures and monitors credit limits and credit histories.
Management Reporting
The Middle Office administers reports to the ROC related to risk management,
and performance in alignment with the Risk Policy and Guidelines and the
requests of the ROC. At a minimum, such reports must describe compliance with
RMPG&P, the closed position, the open position marked-to-market, the open
position value at risk, and the credit risk exposure. The Middle Office must
ensure the accuracy and reliability of the system for keeping records and ad-hoc
reports.
e. Back Office - Settlement and Recording
The Back Office is primarily responsible for settlement of bills, recording transactions,
booldceeping and accounting, and Contract admlnistrzition. The Back Office roles in
oversight areensuring that bills reflect orders, independently monitoring and recording
transactions into a tracking database, and verifying and reporting on compliance with
procedures as reflected in the deal tracking documentation.
COMMODITY PRICING POLICY
1.Policy Statement
Retail prices for energy supplies will be fair and equitable to all customers and will recover all
incurred costs. The commodity pricing policy will be used both for the development of
standardized commodity tariffs and for long-term, or customized, customer contract rates. The
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City Manager is regponsible for implementing this policy by overseeing the process of all
commodity rate development and ensuring that all procedures are followed ci)nsistently and that
all calculations are appropriately documented.
The commodity pricing policy is composed of the following five principles with the first
principle having priority over the remaining four:
a. Direct Cost Recovery
All direct costs of providing cormnodity service will be recovered in commodity rates.
b. Risk Management
Because gas and electricity supplies are unpredictable, generation output, market prices,
and market demand must be carefully managed to match approved risk limits. To the
extent practicable, all risks must be insured, and contract terms must protect CPAU from
major contingencies. To the extent that CPAU assumes risk to provide commodity
products to customers, the customer shall pay reasonable compensation for bearing that
risk.
c. Indirect Cost Recovery
To the extent practicable, it is an objective to recover all indirect costs of commodity
service from commodity customers.
d. Nondiscrimination
All customers within a customer class shall be treated in a fair and impartial manner and
be entitled to acquire commodities at the same or substantially similar terms and
conditions.
e. Nonsubsidization
To the extent practicable, costs will be allocated to customers and customer classes
according to how those costs are incurred. Thus, cormzaodity rates will not be established
in a maimer that permits one class of customers to be subsidized by another.
VIII. CUSTOMER CONTRACT POLICY
Guidelines for oversight, review, approval, pricing, and reporting of customer contracts and
fixed-term commodity rates are necessary to ensure staff is implementing contracts as directed
by Council.
Oversight
1.The City Auditor, at the direction of City Council, shall perform periodic reviews,
independent of CPAU, to ensure that sales contracts are implemented in accordance
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with Council-approved policies and guidelines. In addition, the Risk Oversight
Committee performs this oversight on a regular basis.
2.The Auditor and Risk Oversight Committee will provide reports to the Council.
q Review and Approval
1. The UAC shall review the methodology underlying the calculation of the commodity
rate, including the risk premium, and provide recommendations to the Council.
2.The UAC shall reviewa proposed range of commodity rates applicable to fixed-term
rate schedules and custom rate schedules and provide recommendations to Council.
Council shall adopt a range of commodity rates applicable to fixed-term and custom
commodity service rate schedules.
The City Manager shall be delegated the authority to designate a price for a customer
that is within the Council-approved rate range for a fixed-term contract rate or custom
contract rate. The City Manager may delegate such authority to the Director of
Utilities.
The City Manager shall be delegated the authority to develop, approve and modify
any contract language, confirmation schedules, and/or forms needed to implement
energy sales contracts. The City Manager may delegate such authority to the Director
of Utilities. All forms and contracts shall be reviewed and approved by the City
Attorney.
Pricing
1. Rates for fixed-term commodity rates and custom commodity contracts will adhere to
the principles set forth in the Council approved Commodity Pricing Policy and
Guidelines for Utility Customer Contracts.
Only the commodity portion of the rate will be fixed under custom commodity rates
and fixed-term commodity rates. Rate schedule cost components such as electric
distribution, gas transportation, administrative fees, public benefits, tax, and other
non-bypassable charges will be adopted by Council and will be equivalent to
corresponding charges in applicable full-service rate schedules. Council may change
such charges during the term of the contract.
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3.The available rates for fixed-term rate options and custom rate options will be public
information, and will be published by CPAU.
Reporting
1. Staff shall prepare performance reports containing an analysis of cost recovery and
revenue impact. The UAC and Council will receive a minimum of two reports per
year.
Council shall be notified of fixed term and custom commodity contracts on a semi-
annual basis. The confidentiality of specific contract provisions such as price and
customer usage profile shall be maintained unless the customer consents to its
disclosure to the public. However, such information shall be made available for any
Council member to review in the City Clerk’s Office.
IX.COUNTERPARTY CREDIT POLICY
1.Objectives
The objective of the Counterparty Credit Policy is to minimize the potential adverse financial
impacts on the City in the event of a defaulting counterparty. For example, the City may be
adversely affected if a supplier fails to deliver energy the City had previously contracted to
purchase, thereby, forcing the city to purchase energy in the open market at potentially higher
prices. The Counterparty Credit Policy will be implemented according to the Energy Risk
Management Guidelines adopted by the ROC. The guidelines are designed to minimize the
City’s credit exposure and potential adverse financial impacts by:
ao Establishing a credit risk management governance and oversight structure within the
existing energy risk management program;
Establishing credit risk management organizational roles and responsibilities;
Providing a framework to enable the City to qualify energy suppliers and transact with
approved counterparties;
Providing counterparty transacting parameters (limits) to control and measure the City’s
exposure to any one supplier; and
Implementing a mechanism to monitor and report on supply portfolio related
counterparty credit exposures.
This policy applies only to market-based commodity transactions and does not apply to physical
asset-based transactions related to generation, transmission, gas wells, pipeline capacity, natural
gas storage, etc.
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2. Organizational Roles and Responsibilities
The Middle Office has the responsibility to ensure that energy procurement transacting activities
and supply portfolio management conform to the Counterparty Credit Policy.
3. Guidelines to Qualify Suppliers
Counterparty credit risk management involves selecting reputable companies to supply the City
and allocating purchases amongst multiple suppliers. The Energy Risk Management Guidelines
implement and formalize this approach and establish a process with specific parameters. The
guidelines set out qualification criteria for potential counterparties of the City. The ROC
maintains a list of approved counterparties (those which qualify with the credit criteria).
4.Assignment of Transaction Limits and Credit Exposure Limits to Counterparties
The ROC establishes Counterparty Credit Limits that are designed to diversify the credit
exposure of the City as it relates to energy supply procurement activities. This objective is
accomplished through the establishment of transaction (volumetric) limits and credit exposure
limits.
Transaction Limits define the maximum quantity of electric energy or maximum volume of
natural gas that may be purchased from an approved counterparty. Credit exposure limits are
limits on the amount of market exposure for transactions executed with each approved
counterparty. Transaction and Credit Exposure Limits are established by evaluating a
count~rparty’ s credit worthiness, net worth of assets held by the counterparty, quality of
guarantees, market intelligence, and credit enhancement tools provided by counterparty, as set
forth in the Energy Risk Management Guidelines.
5.,~lonitoring and Reporting on the Counterparty Credit Exposures
All transactions will be with approved counterparties and within Transaction and Credit
Exposure Limits as established by the ROC. Counterparty credit exposures and transactions
volumes relative to the established limits are to be monitored on an ongoing basis and reported to
the ROC on a monthly basis.
X.POLICY REVIEW AND REPORTING ON TRANSACTING
Key to energy risk management is the monitoring of risks. Accurate and timely information
must be provided to all parties involved in any aspects of energy risk management to allow them
to perform their functions appropriately. A number of reports will be provided for distribution to
the ROC, the UAC, and the City Council. Many of the internal reports to the ROC contain
highly sensitive and proprietary information, and therefore must be confidential.
For the City Council:
The purpose of reports to the City Council is to allow it to review the City’s risk position.
DRAFT August 21, 2002
Approved by the ROC .03-Jul-2002
OlTY OF PALO ALTO
UTILITIES
Page 10
For the UAC:
Reports for the UAC should allow it to review the City’s risk position to carry out its
advisory role to the City Council.
For the ROC:
The purpose of reports to the ROC is to allow it to undertake its responsibilities of
monitoring the City’s trading position, risk exposure, and transaction authorization.
XI.. AUTHORIZED TRANSACTING PRODUCTS
Products allowed for electric transactions include energy, capacity, transmission, and ancillary
services. Products allowed for natural gas transactions include energy, transportation, and
storage.
The Risk Oversight Committee is responsible for authorizing all products and commodity types
for transacting as further detailed in the Energy Risk Management Guidelines. At this time, only
physical transacting products are approved. Transactions of products not approved by the Risk
Oversight Committee is strictly prohibited.
All transactions at CPAU must follow certain requirements as described throughout this Policy.
Key elements of CPAU’s transaction policy are as follows:
o All transactions must be committed to by authorized transacting personnel.
¯All transactions must be with counterparties with executed Master Agreements.
~All transactions must be with counterparties with adequate available credit.
o All transactions must be committed over recorded phone lines (when available).
~All transactions must be Approved Transaction Types.
¯All transactions must be consistent with Strategy and Policy as described in this
document.
Failure to observe the above minimum requirements when executing energy transaction is a
violation of Policy and is subject to disciplinary action.
XII. PROHIBITED TRANSACTING PRODUCTS
Includes all products not specified above and, in particular:
No financial instruments are allowed.
Due to the unlimited downside potential, selling physical options is not allowed.
Any product not on approved transacting product list.
DRAFT August 21, 2002
Approved by the ROC 03-Jul-2002
CITY OF PALO ALTO
UTILITIES
Page 11
The Energy Risk Management Guidelines provides a more detailed description of transacting
products, which are prohibited, for CPAU commodity transacting.
XIII. TRANSACTING AUTHORITY
Transactihg for the electric and natural gas supply portfolios is the responsibility of CPAU.
CPAU is the responsibility of Director of Utilities, who is subject to.the direction and
supervision of the City Manager.
The City Manager has the authority to purchase energy commodities for terms of up to three
years under open purchase contracts. The Director of Utilities is granted the authority to
negotiate for the purchase and sale energy commodities. Purchases are subject to signature
authority limits as defined in the municipal code. Currently, energy purchases exceeding $65,000
require City Council approval.
City Manager authori,ties may be delegated by the City Manager. Authorization levels for City
staff as delegated are maintained in the-Risk Management Procedures manual by the Middle
Office. The Middle Office also establishes and maintains the list of individuals authorized to
make wholesale transactions.
XIV. CONFLICT OF INTEREST
Persolmel involved in transacting and oversight of the Utilities supply resource acquisition
programs are not allowed to have any financial interest in any of CPAU’s counterparties, unless
the conflict is waived by the City. The Energy Risk Management Guidelines contain detailed
requirements for staff conflict of interest disclosure and prohibitions as to acquiring or
maintaining financial interest in energy trading counterparties.
DRAFT August 21, 2002
..........Approved by the ROC 03-Ju!-2002
\i ’~ .....Page 12
CITY O1: PALO ALTO
UTILITIES
APPENDIX A - RISK OVERSIGHT COMMITTEE CHARTER
The mission of the City of Palo Alto Utilities (CPAU) is "To build value for our citizen owners,
to provide dependable to returns to the City and citizens of Palo Alto, and to be the preferred full
service utility provider while sustaining the environment".
The primary objectives of energy risk management activiti;s are to balance the business
objectives, of (1) providing stable gas and electric rates to end users, (2) preserving a supply cost
advantage through obtaining the best available price, and (3) managing business processes to
allow CPAU to work efficiently and cost effectively.
These objectives necessitate that CPAU enters into transactions with outside counterparties for
the purchase and sale of energy and gas .and related products and services to balance load in line
with its key strategies.
The City Manager is responsible formanaging exposure to imarket, volume, credit and
administrative risks resulting from these transactions.
The City Manager has authorized thd fdrmation of the Risk Oversight Committee (ROC)
composed of the Director of Utilities (Chairperson), Director of Administrative Services
Division, Assistant City Manager as permanent members and advised by the City Attorney’s
Office and the City Auditor’s Office.
The ROC has the primary responsibility for creating and implementing a sound approach to
managing risk consistent with the business strategy and risk tolerance of the organization as
approved by the City Council. As such it is responsible for overseeing and implementing the
Ci~uncil-approved Energy Risk Management Policies. The Policies include the steps needed to
execute the business strategy as defined by the City Council. The ROC shall monitor and report
to the City Manager on the conformity of business activities within the risk parameters as
defined by the Energy Risk Management Policies. On an ongoing basis, the ROC must evaluate
proposed changes in policy, review the level of risk exposure and ensure compliance with
Policies. Any proposed change in Energy Risk Management Policies approved by the ROC will
be forwarded to the City Council for its approval.
The ROC shall approve Energy Risk Management Guidelines consistent with the Energy Risk
Management Policies.
The ROC recognizes that the consistent and accurate measurement of risk exposure is key to
maintaining risk exposure within the risk tolerances established by the City Council. As such,
the ROC shall require timely and accurate reports relating to key market, credit and
administrative risks. The ROC also recognizes that a critical role is in ensuring that the City
Council and UAC are fully informed about risk management issues pertaining to CPAU.
DRAFT August 21, 2002
CITY OF PALO ALTO
UTILITIES
Approved by the ROC 03-Jul-2002
Page 13
MEMORANDUM
TO:Utilities Advisory Commission
FROM:Utilities Department
DATE:July 10, 2002
SUBJECT:Energy Risk Management Policies
REQUEST
Staff requests the UAC recommend the City Council approve the proposed City of Palo
Alto Energy Risk Management Policies.
BACKGROUND
The City Council, at its January 11, 1999 meeting, raised a number of concerns regarding the
ability to hedge risks. At that meeting, the Council directed staff and the City Attorney to
respond to a number of issues regarding Council oversight of Utilities’ activities in the new
competitive business, environment.
In July 1998, the City Manager established the Risk Oversight Committee (ROC), consisting
of the Director of Utilities, the Director of the Administrative Services Department and the
Assistant City Manager, to provide oversight to the City ofPalo AltolUtilities’ emerging risk
management program. In Spring 1999, staff retained the services of Deloitte and Touche,
LLP, a business consulting firm, to further assist in the development and implementation of
an energy risk management program. Based on its evaluation, Deloitte and Touche
reconnnended that CPAU take a comprehensive approach to respond to the competitive
environment.
Subsequently, on November 19, 1999, the City Manager approved the recommendation of the
ROC to approve the Interim Risk Management Policies and Procedures (IRMP&P). Since
then, staff has been operating under the IRMP&P. Besides the energy risk management
policies, the IRMP&P includes other elements relation to the management of the wholesale
supply portfolios of the gas and electric utilities such as: 1) the designation of personnel with
authority to approve transactions; 2) supply portfolio management strategies and procedures;
3) personnel authorized to make transactions; 4) functional responsibilities of all personnel
involved in managing the supply portfolios; and 5) procedures and forms used to track all
transactions.
Page 1 of 6
In April 2001, the ROC approved interim credit risk management guidelines which staff has
been transacting under since then. These guidelines ensure CPAU minimizes counterparty
credit risk by: 1) engaging only with counterparties deemed to be creditworthy; 2)
diversifying counterparty risk through the use of multiple counterparties, when appropriate;
and 3) limiting the size and type of transactions allowed per counterparty.
Staff has also brought certain policy elements to the City Council for approval. The City
Council approved the electric and natural gas commodity pricing policy and methodology on
February 22, 2000 (CMR:387:99). The policy contains key principles for the development of
commodity rates: direct cost recovery, risk management, indirect cost recovery,
nondiscrimination, and nonsubsidization. The policy was needed in an era of customer
choice as to commodity supplier when term of a customer’s commitment to purchase the
commodity, the market price, and cost recovery are .important considerations in establishing
prices.
On November 13, 2000, the City ~uncil approved in concept the mission statement, key
objectives and strategies of the Utilities Strategic Plan (CMR:418:00), and on May 21, 2001,
Council approved the Utilities Strategic Implementation Plan (CMR:223:01). As discussed
in the Utilities Strategic Implementation Plan, risk management is key initiative for the
financial management of Utilities. The underlying philosophy of the Utilities Strategic Plan
is to provide superior service to the City and Utilities customers. This goal is the driver
behind the proposed Energy Risk Management Policy.
On December 18, 2000, the City Council approved guidelines for electric and gas sales
contracts with customers (CMR:449:00). The guidelines, incorporated in Utilities Rule and
Regulation 5, were established to ensure that staff implement energy sales contracts in a
consistent and impartial manner. New "fixed-term" commodity rate schedules were also
introduced as an option for customers who want fixed prices for 12- or 24-m0nth terms.
The City Council approved Energy Risk Management Policies on March 19, 2001
(CMR: 103:01). The policies provide a broad overview of the general attitude of Palo Alto
towards risk and risk management. This attitude is one of risk limitation and control with
financial health of the City and Utilities being high priorities. Prior to adoption by Council,
the policies were included in the Interim Risk Management Policies and Procedures that
guided staff since November. 19, 1999 when approved by the City Manager.
The City Auditor’s Office conducted an assessment of the Utility Risk Management
Procedures between November 2001 and June 2002. The audit report reinforces the Deloitte
& Touche recommendations, and identified several specific recommendations for improving
Page 2 of 6
utilities risk management practices and communication of risk management issues with the
UAC and City Council.
DISCUSSION
One of Deloitte and Touche’s recommendations was to bring more of the risk management
policies that CPAU has been operating under to the Council for formal approval. The
recommendation was to bring comprehensive Energy Risk Management Policies to the
Council for approval and for annual review thereafter. The City Auditor’s Report also
recommends "In conjunction with the ROC and the City Council, CPAU should (a) clearly
define the roles, responsibilities, and scope of authorities for each oversight body in the risk
management process including the ROC, the Utilities Advisory Commission, and the City
Council, and (b) establish’ formal policies and procedures commensurate with these oversight
roles."
The proposed Energy Risk Management Policies (ERMP) were developed by the Risk
Oversight Committee, and serve as the comprehensive document that addresses these
recommendations. It incorporate; previously ’ approved Council policies and provides a
coherent explanation of the City’s risk management program in a single document.
The proposed ERMP contain the components that were previously approved by the Council,
some proposed.changes to those policies, and some new sections. The Policy sections are
outlined below with any modifications to previously approved policies noted:
1.The Energy Risk Management Policies approved by the Council (CMR: 103:01) contained "
the following sections:
a. Business Objective - in the previously approved policies, this section was as follows:
"The primary business objective in developing and implementing an
Energy Risk Management Program is to benefit Palo Alto’s retail
customers. WholeSale transactions are effected to maximize the value of
assets for the benefit of Palo Alt0’s retail customers. CPAU will take
actions to: (a) reduce exposure to potential adverse energy price
movements; (b) enhance revenue by taking advantage of flexibility inherent
in CPAU contracts and resources; and (c) enhance revenues by offering
competitively priced commodity products that address customer needs."
The Proposed ERMP contains a slightly different set of primary business objectives,
each of which is elaborated on in the Policies:
"The primary objectives of energy risk management activities are to
balance the business objectives of (1) providing stable gas. and electric
rates to end users, (2) preserving a supply cost advantage through obtaining
Page 3 of 6
o
o
the best available price, and (3) managing business processes to allow
CPAU to work efficiently and cost effectively."
Authority and Responsibility - the proposed ERMP offer a much expanded section
on authority and responsibility. The modifications address the City Auditor’s
recommendation regarding delegation of authority.
Co Separation of Duties - CPAU’s proposed energy risk management program contains
much more separation of duties than was outlined in the previously approved policies.
The ERMP defines the "Middle Office’.’ as performing the primary risk management
oversight function. This function will be separated from the personnel authorizing
and executing transactions.
d.Operational Policy - this section was removed as it is of a more operational than
policy nature.
e.Counterparty Credit Policy Lthe section in the ERMP on counterparty credit risk was
greatly expanded.
Performance Reporting - the ERMP contains more detail on reporting requirements
and purpose.
Customer Contract Guidelines previously approved by the Council (CMR:449:.00) is
copied with four minor edits in the proposed ERMP, with the role of the City Auditor
revised to reflect periodic review.
The Commodity Pricing Policy previously approved by the Council (CMR:387:99) is
copied with. One minor edit in the proposed ERMP.
Additional sections in the ERMP include the following:
a. Scope - defines to what the policies do and do not apply.
b. General Transacting Guidelines - Clarifies "load" as "forecasted load" in definition of
speculation, adds guideline for maximum transaction term of ten years, and clarifies
portfolio reporting requirements and competitive procurement.
c. Oversight Bodies - lists the duties of each group responsible for some aspect of risk
management oversight.
d. Authorized Transacting Products- lists key elements of the transaction policy and key
characteristics of allowed products. The ROC is charged with approving the list of
transacting products, which are to be detailed in the Energy Risk Management
Guidelines~
Page 4 of 6
e. Conflict of Interest - states that the personnel involved in transacting and risk
management oversight may not have a financial interest in any energy trading
counterparties.
f. Risk Oversight Con~nittee Charter -is an appendix to the ERMP.
RESOURCE IMPACT
Approval of the Energy Risk Management Policies will not directly impact resource needs as
it formalizes operational policies and guidelines that have been observed previously.
However, implementation of the risk management organizational structure described in the
proposed Policies are expected to require personnel and financial resources that are not
reflected in the current budget and work plans. Additional consultant resources were
explained and appropriated from existing budget resources on June 24, 2002 (CMR:285:02).
Potential resource impacts of the overall Risk Management Program Plan will be addressed
in a future report.
POLICY IMPLICATIONS
The proposed Energy Risk Manageinent Policies are consistent with the Utilities Strategic
Plan and its Key Strategies:
Strategy 2: "Preserve a supply cost advantage compared to the market price" and a tactic
supporting that strategy is "Manage exposure to energy commodity price risk."
Strategy 3: "Streamline and manage business processes to allow CPAU to work
efficiently and cost-effectively."
® Strategy 4: "Deliver products and services for competitive markets" notes the provision
and delivery of customer valued commodity products.
®Strategy 6: "Maximize the General Fund transfers and maintain financial strength" lists
the tactic, "Maintain stable transfers to the General Fund", for which risk management is
a key part of the implementation plan.
ENVIRONMENTAL REVIEW
Approval of the proposed Energy Risk Management Policies does not constitute a project
under the California Environmental Quality Act and, therefore, is exempt from the
environmental assessment requirement.
NEXT STEPS
As part of its duties, the ROC will adopt Energy Risk Management Guidelines that support
and implement these Energy Risk Management Policies. In addition, the interim risk
management procedures will be revised and will provide detailed instructions to effect
transactions allowed under the Energy Risk Management Policies and Guidelines. A ROC-
approved inter-departmental Internal Risk Oversight Committee will approve, periodically
update, and report to the ROC about these Energy Risk Management Procedures. Staff is
Page 5 of 6
finalizing the overall Risk Management Program Plan for review and recommendation by the
UAC and the Finance Committee, and approval by City Council. These future reports will
provide details on the schedule and potential resource impacts of the proposed
implementation plan, anticipated to be presented to Council by September, 2002.
ATTACHMENTS ¯
A: Proposed City of Palo Alto Energy Risk Management Policies
B: Existing City of Palo Alto Energy Risk Management Policies and Procedures
PREPARED BY:
REVIEWED BY:-
Karl I~app, Senior Resource Planner
Jane Ratchye, Senior Resource Planner
Girish Balachandran, Assistant Director, Resource Management
DEPARTMENT HEAD APPROVAL:
JOHN ULRICH
Director of Utilities
Page 6 of 6
Attachment
RISK MANAGEMENT POLICIES AND PROCEDURES
General Attitude Towards Risk
The City of Palo Alto Utilities (CPAU) recognizes that certain risks are inherent in the
deregulated energy business. CPAU will manage risk by limiting its activities to those in which
CPAU has a particular expertise and that are related to its normal business operations. Because
of the volatility inherent to the markets CPAU participates in, particular attention will be paid to
volatility. CPAU will conduct all business activities within approved policies and procedures.
The attitude that individual CPAU employees have toward risk will be consistent with CPAU’s
risk philosophy.
The CPAU management is expected to manage business risks at acceptable levels. Employees
may not engage in activities that expose the City to risk beyond acceptable levels. Employees
are expected to fully understand the extent to which their decisions and actions may expose the
City to risk. Activities that are not relgted to the normal business activities of CPAU and have
the effect or potential of increasing risk shall be avoided.
The basic premise underlying CPAU’s risk management attitude is that no activities related to
energy purchase and sales should unnecessarily expose the City to excessive risks or the
possibility of large financial losses in relation to the size of the electricity and gas reserve funds.
Reserve balances maintained by the gas and electric utilities also provide financial liquidity and
flexibility in entering into other shorter term contracts and purchases of energy in the spot and
forward market as needed to meet the projected load. Maintaining the safety of these reserve
funds is a matter of high priority for the CPAU and the City.
. Energy Risk Management Program Policies
CPAU’s basic Energy Risk Management Program policies are described below.
1.Business Obiective
The primary business obj ective in developing and implementing an Energy Risk Management
Program is to benefit Palo Alto’s retail customers. Wholesale transactions are effected to
maximize the value of assets for the benefit ofPalo Alto’s retail customers. CPAU will take
actions to: (a) reduce exposure to potential adverse energy price movements; (b) enhance
revenue by talcing advantage of flexibility inherent in CPAU contracts and resources; and (c)
enhance revenues by offering competitively priced commodity products that address customer
needs.
Approved by the City Council
CITY OF PALO ALTO
UTILITIES
Effective 3/19/01
RISK MANAGEMENT POLICIES AND PROCEDURES
2. Anti-Speculation
Speculative buying and selling of energy products is prohibited. Speculation is defined as
buying energy not needed for meeting load or selling energy that is not owned. In no event
should transactions be entered into to speculate on market conditions.
3.Authority and Responsibility
After the City Council has approved these risk management policies, the City Manager will
assure that the Utilities Department is acting prudently in mitigating risks that are inherent in
operating in a conapetitive environment. The Director of Utilities is responsible to develop and
implement procedures consistent with the risk management policies
4. Separation of Duties to Preserve the Integrity of the Market Transaction Process
The person who makes an approved transaction must not be the same person who confirms the
transaction or the same person who monitors and reports on performance of that transaction.
5.Operational Policy
CPAU will be responsible for all electric and gas transactions for a month before the month
begins. After the beginning of the month, the Northern California Power Agency (NCPA) will
have responsibility for electric transactions and CPAU’s gas supplier/operator (currently, Texas
Utilities) will have responsibility for gas transactions that are completed on CPAU’s behalf.
6. Counterparty Credit Policy
As a policy, CPAU will attempt to minimize counterparty credit risk by: 1) engaging only with
counterparties deemed to be creditworthy; 2) diversifying counterparty risk through the use of
multiple counterparties, when appropriate; 3) limiting the size and type of transactions allowed
per counterparty; and 4) not knowingly participating in sleeve transactions (i.e. acting as a
middleman to facilitate, a trade between two parties who do not have credit with each other).
7.Performance Reporting
CPAU will develop parameters to measure the performance of risk management activities and
will report results periodically to the City Council and the Utilities Advisory Commission.
Approved by the City Council
CITY OF PALO ALTO
UTILIT ES
Effective 3/19/01
UAC MEETING MINUTES
July 10, 2002
EXCERPT
RISK MANAGEMENT POLICIES
Carlson: Any questions? Any further discussion on this issue? Or should we move on to our
final item of risk management policies -- which we’re not acting on, but we’re introducing
tonight?
Ulrich: This goes hand in hand. You can see that a lot of work has been done, is being done on
the energy risk management policies. Listed in the background of the memo is all of the steps,
all of the things that have been done~o make improvements (inaudible) policy. Staff brought
certain policy elements to the City Council for approval. We’ve been operating under an Interim
Risk Management Policy and Procedure - it’s an IRMP&P which will be the last time i’ll refer
to it that way.
Bechtel: Can’t you put some vowels in it?
Ulrich: We didn’t spend much time on that obviously. We listed a number of steps of
improvements that have been made. What we’re at today is using reconmaendations that we have
coming up with improvements in policies. They’re articulated in outline form on page 3 of 6
under discussion highlights. The risk management policies that were approved by the Council
contain a clear business objective. The proposed energy risk management policy contains a
slightly different set of primary and business objectives, each of which are elaborated in the
policies. You want to go through that summary?
Carlson: You have some slides, don’t you?
Bechtel: I have a question under 4, page 4. It has general transacting guidelines and it says
maximum transaction term of 10 years. I assume that if we were to deal with the Western
contract, and we have already done it, which is for a longer contract, the 10 years would fit a
guideline only if you go to Council. These are just guidelines I’m assuming. Is this correct?
Ulrich: Yes, the 10 years seem like a long term in today’s market.
Bechtel: Then in the case of Western, it may not ...
Ulrich: Right, we’re not going to go back to Western and ask them to reduce our contract term.
Carlson: We’ll take as many years we can get.
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02
Ulrich: Yes, I know you can never get enough. Is this a good way to go through this?
Bechtel: That was the only question I have on the entire document.
Ulrich: I guess we spent a lot of time about risk management policies. You’ve see this one, it’s
a definition of risk. This one we talked at some length and it’s a very good pictorial of how the
risk management structure is and where it’s transitioning to. City Council has approved risk
policies. The City Manager oversees that and then discussion about the roles of the ROC. Down
where the middle office in the area blue is the transition to where we’re going. All of those
functions are currently being done in Utilities. We now have the ability to transfer these and
have more of a barrier between the front and back office by having the risk manager assume
those responsibilities. So, the risk manager will provide risk measurement reports to the ROC,
will come to the ROC with dilemmas that can’t be solved in negotiations between the front and
the back office, providemanagement reports, will question how the front office is forecasting
and their purchasing plan. So you have give and take and a clear commitment once each of the
offices have done their role, that we’re doing timely and accurate transactions, and there is
appropriate oversight. ¯ .......
This one is summarizing that we’re going to continue to make improvements and develop
(inaudible) best practices as soon as we find (inaudible) best practices, we’ll move on to
(inaudible). The summary of the risk management program continues to evolve all the time.
We’re supporting everything we’re doing with our strategic plan. Strategies 2, 3, 4 and 6 are
clearly involved. We’re going to incorporate recommendations from our outside consultants and
from the City Auditor. I’m kind of repeating things I’ve already said. Sections from existing
policies are incorporated in our improvements. I think this is quite a good summary of business
objectives that reflect the balance of stable rates, low cost and efficient processes. Speculation
definition refers to forecasted load so we have clarity over that. Authorities and responsibilities
clarify delegation of authority. Separation of .duties is more clearly defined under roles and
responsibilities of oversight bodies. Operational policy moved to the guidelines and procedures.
And our counterparty present policy is (inaudible). Our reporting requirements are more
detailed.
Bechtel: John, you didn’t say, though, of all these new reports, how man~y we will get to see?
Ulrich: We’re really not quite sure. That is obviously (inaudible).
Bechtel: The one that would be fascinating to see, but I’m not sure we ought to, is the portfolio
one with the transaction l~g on a daily basis. We’ve been looking at that and the reason it’s
interesting to me is that we have been looking at that with respect to our long-term plan. We’re
going to be looking at a similar chart that says our load and what we’re using to fill it. And the
purchase report and so on will be almost an actual of the plan you and Girish and the rest are
putting together for the next year because you’re going to be using your laddering and contracts
and be buying so much on that. Now, is that what that transaction report will be, the line by line
spreadsheet graph of how that’s being bought?
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02
Ulrich: It could be produced where you see each and every transaction, but more of...
Bechtel: Not that we should it, but I’m just saying that the end result will be a chart; could be a
chart to reflect our mix that (inaudible).
Ulrich: We have brought those charts for you to look at. One (inaudible) of this is that we’ve
learned where we have a forecast for whatever it is we need, we have a laddering strategy we are
able to see how we’re purchasing to fill that load and then will be able to see what we’re paying
for it over time. And it will also get to the concern, are you ever at any time buying more than
your load? You will be able to see what we purchased as compared with the load. You will be
able to have that kind of dynamic review. We’re trying to find a way to have those reports and
see how well we’re doing.
Bechtel: But I can see a very complex report because you’re also not only buying by the month,
but by the day, by the hour, essentially.
Balachandran: Yes, that’s level of detail that.
Bechtel: You’re not going to go that far ...
Balachandran: It is unnecessary, but I think over here on the policies we have a couple of places,
I think the general statement over here, reports for the UAC should allow it to review the City’s
risk position to carry out its advisory role to the City Council. So, the .way we’re looking at it is,
reports that go to the City Council at (inaudible) you can see that. And maybe some reports of
more detail. It’s going to be an evolving process; we’re giving you a set of draft reports and
you’re going to give us feedback. Say, you lmow, this is going to be more useful if I see it in
this format or that, just as we’ve gone through other reports’ formats. And we’ve gone through
the same kind of process with the ROC, but the RQC, yes, this is the kind I want to see, I want to
see something else. The City Auditor has made some additional suggestions about your reports.
That’s also going to.be evolving. The general theme of the UAC is going to be longer term and
strategic, but also it’s a duller -- there’s going to be a lot of reports that you haven’t seen that
you’re going to get to see.
Swaminathan: We look at daily reports (inaudible). (Inaudible) at daily reports (inaudible) but it
will not be a part of this reporting structure.
Balachandran: If you’re interested, I can provide it to you, but I don’t think it’s appropriate as a
UAC.
Ulrich: Our objective is still going to be one that I think you made clear to me and staff, that you
want to be able to see information that tells you how well we’re doing in meeting the strategic
plan goals and objectives that we have, that you want those down to a relatively small number
that we can monitor on an ongoing basis. That also means that you have other more detailed
UAC MTG MINUTES 07 10 02 -.APPROVED 8/7/02 3
reports to give you satisfaction that we’re meeting some of the more important goals of the
overall strategy. That’s what we plan to do.
Fer~uson: Just a couple of comments on this. We’re headed in the right direction. The first time
-- two years ago now -- Girish introduced the risk management committee concept to us, I had
my doubts and said I was worried about the "paralysis by analysis" phenomenon, and being over-
consultanted. It’s worked out pretty well. It has served us well in this wild, crazy price
environment. We didn’t expect that environment to hit so immediately. It was nice to have
thought about some of these things ahead of time. I’m glad we’re taking this step. The
introduction of a middle office function meets the auditor’s needs. That is well and good.
Having a professional person’s second set of eyes looking at the checklist, the punch list of risk
management procedural guidelines, is a benefit. If it takes five people to do that, if there are five
different parts of city government doing that, we’re doing the wrong thing. But one smart person
doing that -- if we can attract a person to do that job -- that is not too much analysis to add.
We were talking about reporting here a minute ago and my second comment goes to how this
manifests as practical results. What is it that changes as a result of this new person’s work?
Rather than get lots more detailed reports coming automatically to UAC or to the Council, I
would like to see the CMRs that come out -- where decisions indicate a particular risk, big dollar
value, or change of strategy, or something, like that -- those reports should have a half-page
checklist of 8 items -- I don’t know, more than 5 and less than 20. Those are the bullet labels for
the things we think are important, the procedural hoops that should have been cleared in the
course of making this decimon. The new middle office person adds his or her signature to the
report and certifies, "Yep, I watched this transaction develop and I’m satisfied that the staffers
cleared these hurdles." (Inaudible) written so that for under 10 years, whatever (inaudible) down
¯ to (inaudible). It doesn’t matter too much to me, the exact label. But visually, for our purposes,
to ease your workload and to communicate to the public, it would be nice to get that down to a
short little checklist.
Balachandran: That is the role that middle office, the risk manager would play for the large part
with the Risk Oversight Committee and would extend in some manner to (inaudible).
Rosenbaum: I’d like to make a couple of comments. First, I want to commend Sharon and Mr.
Young for what I thought was a remarkable job for people who came into this not knowing
(inaudible) business. You picked it up very quickly. Let me ask a question to get to my point.
This middle office, are they going to review the future price forecast that the front office makes,
which are really the basis for our buying decisions?
Balachandran: The middle office will have to have access to their own forward curve and they
can decide how they’re going to do it. They can decide whether they want to depend on us or
they can do samples or they can subscribe directly to sources. So we could be getting e-mails
and faxes of market prices and they could be doing the same thing. But that’s something that the
middle office, the risk manager will work out according to his or her satisfaction and to the ROC.
That is that person’s responsibility. So they’ll have access to (inaudible).
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02 4
Carlson: So they’re not just reviewing transactions. They’re dong their own forecasting?
Balachandran: They need to get access to their own prices. So that’s what I’m saying.
Rosenbaum: Well, they may use the same prices. Let’s distinguish between forecasting ....
Balachandran: I’m talking about forward price.
Rosenbaum: Well, you’re talking about forward prices as obtained from the market, as opposed
to Henwood. They were the people who have come up with the curves, which will be then be the
basis from which you make decisions as to what actions to take.
Balachandran: Not necessarily, right, because the Henwood price is (inaudible). It’s based on
certain assumptions and the market is market which is the actual price we transact at. And we
have to make a judgment as to which you are going to use. So, we look at both and, you know,
the front once will look at the charts - it’s a risk assumption office, so we make a judgment call
based on the strategies (inaudible)the recommendation. The middle office is going to look at the
recommendation and provide his or her critique to the ROC, saying we think its okay, we think
that, uh uh, we’ve looked at the Henwood forecast, prices are dropping. Because of this, we
don’t think the front office should buying this much.
Rosenbaum: All right. I guess that’s my point. I question whether that’s the role of the middle
office, but I think the middle office ought to be trying to prevent rogue trades that put the City at
great financial risk.
Balachandran: That is one role that they do. They verify and they advise the ROC too. This is
appropriate risk (inaudible).
Dawes: It’s a second-guessing function?
Carlson: Yeah, that’s what it sounds like. I think that’s pushing the envelope to (inaudible).
Ulrich: Do you want to delve into that or do you want us to come back for some more
discussion?
Carlson: Definitely worth some discussion.
Ulrich: We’ll work out all those details with the IROC (inaudible).
Balachandran: Why don’t you just look at the policies to clarify what exactly the policy says
about the middle office? Maybe that’s what ...
Bechtel: So where is that, what page?
Balachandran: Page 5.
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02 5
Ulrich: It says here that the Middle Office provides the primary independent management
oversight role. The Middle Office institutes, supervises, and reviews all risk management
activities. Its responsibilities include monitoring CPAU’s risk exposures and ensuring
compliance with policies, guidelines, and procedures.. The Middle Office adopts and updates as
necessary the Energy Risk Management Procedures so that portfolio management functions
occur in compliance with Council-adopted Energy Risk Management Policy and ROC-adopted
Energy Risk Management Guidelines. The functions of the Middle Office can be broadly
defined as quantitative analysis, compliance review, credit administration, and management
reporting. Each of those functions are defined below.
Balachandran: I think a lot of what I talked about was in the quantitative analysis but there are a
number of other functions that they do, which is, I think, what you are talking about, which is
compliance review, credit administration and management reporting. In the quantitative analysis
function, they .maintain settlement price, they maintain forward pride curves (inaudible) other
market price database and they would evaluate on both a transaction bagis and a portfolio basis.
Karl?
Van Orsdol: I’m Karl Van Orsdol with Deloitte & Touche. Basically, the middle office can use
the forward curves developed by the front office, but because they have to do independent
valuation of, for example, value at risk, the value of the portfolio, they have to take an
independent look at what future prices are so they can do the method, the quantitative analysis of
risk and exposure. That is, they’re not doing any sort of second guessing. They’re just ensuring
that they have an independent view of the market.
Dawes: Is this a mark-to-market function basically?
Van Orsdol: Mark-to-market or value at risk.
??: __ value at risk and that is certainly worth going_
¯ Van Orsdol: The purpose is not to second guess what the front office does. The purpose is to
ensure that the front office is doing correctly and there is an independent source to look at it. But
really the primary function of the middle office is to ensure that traders are held within their
risks, both in terms of credit or in terms of exposure to serve as second set of eyes; to ensure that
.each transaction, when each transaction’s ticket is filled out, all the iriformation is filled out, all
the information is filled out correctly and is entered into a system for recording; to ensure that the
back office, then, can confirm all the transactions that are taking place; ensure that the activities
of the front office are within the set Policies & Procedures set forth.
Balachandran: Just to clarify over here, I may have overstated the role of the middle office in
terms of second guessing by the front office.
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02 ii 6
Van Orsdol: I wouldn’t think of it as second guessing. I would think of it as being able to access
independent information to ensure that the valuation of the portfolio and the estimation of the
risks are correct.
Carlson: I think the concern we all had is a new party stepping in saying you shouldn’t have
signed that contract (inaudible). (Inaudible) adding a week to the decision (inaudible),
Van Orsdol: Actually, the way we’ve seen this develop, it actually should free the traders up
much more. What’s gone on is that when there’s been individual transactions, there’s been
concerns and comments from a variety of parties as to whether this was a correct or an
appropriate transaction. What the risk manager, the middle office, does is he sets out the
parameters so that every trader when they come to the office that morning, they know their
position and they know where they are in respect to the limits that they have in terms of specific
counterparties, in ternas of credit, in terms of their risk exposure. So it allows them to be operate
much more effectively because they know exactly where they.stand. "
Rosenbaum: It seems to me the primary risk to our customers, in terms of paying more than they
might otherwise pay, is the accuracyof-the forecast from the front office. Someone has to say, "I
don’t think we ought to buy for four years, buy for six years or two years, go with the market for a
while." The decision to buy the Enron contract, that was something we all bought into and it
turned out that was a bad decision which put our customers at risk. We thoroughly reviewed and
approved, but it seems to me that the real risk is in -- it is my view the auditors are more
interested in the rogue transactions. When you in your audit report mention that when we
entered into the Enron contract, there was a lot of risk there. That’s certainly true, but we could
have made other choices. But that’s not the sort of risk I thought an auditor is concerned with.
Carl~on: We knew the risk. At least we knew the risk was there. We just stumbled into it.
Ferguson: It was not a bad decision. It was a good decision with a bad outcome.
Carlson: Go ahead, Karl.
Knap_p_2." Actually the other three forms of risk that the risk manager (inaudible) can be just as
large as the forecast (inaudible) risks so another type of forecast (inaudible) over or under
forecast what we needed to buy and then end up being exposed. Operational risks (inaudible)
could be a really big problem if you don’t have controls and credit risks (inaudible)you bought
something (inaudible) money,, yet they run out of business even though they’re under contract.
So that’s the other pieces that the risk manager has to deal with all of those (inaudible). I think
that one person centrally managing (inaudible).
Bechtel: Karl, with respect to what you mentioned about I guess the demand side. I was just
thinking that the front office is going to (inaudible) demand side forecast. How is that risk
mitigated? Not through the middle office as I look through this. It mitigates through us in some
cases because we discuss it on an annual basis (inaudible) so the long range demand forecast is
usually put together by the resource planning group and then we discuss it (inaudible).
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02 7
Balachandran: Yeah, I think there is. I think over here what the ways we mitigate that risk, the
risk of demand being higher or lower, we can take the portfolio approach and in the electric side
particularly we have all different recommendations we make for purchases we accounted for
(inaudible). And so we can predict load relatively well, maybe a couple of years out. So, you
know, in the long term we (inaudible) pretty big gap (inaudible) to account for them. There are
ways to hedge load which are pretty expensive, which essentially (inaudible) buying insurance.
But that, just like some of the weather products that we’ve seen - Shiva explained the hydro side -
they’re very expensive.
Bechtel: My question was really in the context of middle office vs. front office.
Knap_p_2." To answer that, one piece of that is to make sure that you’re errors are due to variables
that are moving around, not because your forecast has (inaudible) issues. That’s one of the
recommendations that they had up there, that the middle office is. responsible for making sure
that the models we’re using don’t have errors in them.
Bechtel: Okay.
Balachandran: Verifying...
I@laRp_i: Sometimes systematic error.
Carlson: Any more questions on this?
Bechtel: Chair, what should be our action here? Should we take a pseudo vote or no vote?
Carlson: I was going to ask John because I think we’ve gone over the (inaudible). I’m not sure I
want to do it again next time.
Ulrich: I want you to be comfortable with it. I’d appreciate a consent, I guess a support vote that
what you believe is that we’ve done all the things that we should. And I would recommend that
we bring it back briefly next meeting for you to formally act upon.
Ferguson: I move that the Commission indicate its support for the staff work on this report and
bring it back next meeting in final form reflecting our comments tonight.
Bechtel: Second.
Carlson: It’s been moved and seconded. I’m not sure if this needs a motion, but we may as well
go ahead. Anybody have any problems with it? All in favor?
Commission Members: Aye.
UAC MTG MINUTES 07 10 02 - APPROVED 8/7/02 8
MEMORANDUM
TO:
FROM:
DATE:
SUBJECT:
Utilities Advisory Cormr~ission
Utilities Department
August 7, 2002
Energy Risk Management Policies
REQUEST
Staffrequests the UAC recommend the City Council approve the proposed C.ity of Palo
Alto Energy Risk Management Policies.
BACKGROUND
The City Council approved Energy Risk Management Policies on March 19, 2001
(CMR: 103:01). The policies provide a broad overview of the general attitude of Palo Alto
towards risk and risk management. This attitude is one of risk limitation and control with
financial health of the City and Utilities being high priorities. Prior to adoption by Council,
the policies were included in the Interim Risk Management Policies and Procedures that
guided staff since November 19, 1999 when approved by the City Manager.
The City Auditor’s Office conducted an assessment of the Utility Risk Management
Procedures between November 2001 and June 2002. The audit report reinforced outside
consultant recormnendations, and identified several specific recommendations for improving
utilities risk management practices and communication of risk management issues with the
UAC and City Council. The City Auditor presented results of the Utility Risk Management
Procedures Audit at the July 10, 2002 UAC meeting.
A detailed report on the proposed revised Energy Risk Management Policies (ERM Policies)
was presented to the UAC at its July 10, 2002 meeting. That report contained detailed
background and discussion sections explaining the history and key elements of the Utilities
Energy Risk Management Policies and overall program. The revised Policies address many
of the recommendations presented in the audit report.
The attached ERM Policies document is resubmitted for formal approval, as it had been
indicated as an informational item on the July 10 UAC agenda.
Page 1 of 3
DISCUSSION
The UAC directed CPAU staff to resubmit the ERM Policies with changes from the July 10
version identified, incorporating the UAC comments from the July 10 meeting. UAC
comments consisted of clarifying questions, mostly relating to the role of the "middle office"
or risk manager function, and did not require any substantive changes to the wording of the
document. Only one word was changed. In Section VI. 1. City Council, the word "include" in
the second sentence was changed to "guide", so that the sentence reads, "These statements
shall guide the general vision of CPAU business practices, articulating the City’s risk
philosophy, and establishing risk tolerances."
The proposed Energy Risk Management Policies (ERMP) were developed by the Risk
Oversight Committee, and serve as the comprehensive document that addresses these
recommendations. It incorporates previously approved Council policies and provides a
coherent explanation of the City’s risk management program in a single document.
RESOURCE IMPACT
Approval of the Energy Risk Management Policies will not directly impact resource needs as
it formalizes operational policies and guidelines that have been observed previously.
However, implementation of the risk management organizational structure described in the
proposed Policies are expected to require personnel and financial resources that are not
reflected in the current budget and work plans. Additional consultant resources were
explained and appropriated from existing budget resources on June 24, 2002 (CMR:285:02).
Potential resource impacts of the overall Risk Management Program Plan will be addressed
in a future report.
POLICY IMPLICATIONS
The proposed Energy Risk Management Policies are consistent with the Utilities Strategic
Plan and its Key Strategies:
Strategy 2: "Preserve a supply cost advantage compared te the market price" and a tactic
supporting that strategy is "Manage exposure to energy commodity price risk."
Strategy 3: ."Streamline and manage business processes to allow CPAU to work
efficiently and cost-effectively."
~ Strategy 4: "Deliver products and services for competitive markets" notes the provision
and delivery of customer valued commodity products.
, Strategy 6: "Maximize the General Fund transfers and maintain financial strength" lists
the tactic, "Maintain stable transfers to the General Fund", for which risk management is
a key part of the implementation plan.
ENVIRONMENTAL REVIEW
Page 2 of 3
Approval of the proposed Energy Risk Management Policies does not constitute a project
under the California Environmental Quality Act and, therefore, is exempt from the
environmental assessment requirement.
NEXT STEPS
As part of its duties, the ROC will adopt Energy Risk Management Guidelines that support
and implement these Energy Risk Management Policies. In addition, the interim risk
management procedures will be revised and will provide detailed instructions to effect
transactions allowed under the Energy Risk Management Policies and Guidelines. A ROC-
approved inter-departmental Internal Risk Oversight Committee will approve, periodically
update, and report to the ROC about these Energy Risk Management Procedures. Staff is
finalizing the overall Risk Management Program Plan for review and recommendation by the
UAC and the Finance Colnmittee, and approval by City Council. These future reports will
provide details on the schedule and potential resource impacts of the proposed
implementation plan, anticipated to be presented to Council by September, 2002.
ATTACHMENTS
A: Proposed City of Palo Alto Energy Risk Management Policies: July 3, 2002 Draft
PREPARED BY: Karl Knapp, Senior Resource Planner
Jane Ratchye, Senior Resource Planner
REVIEWED BY: Girish Balachandran, Assistant Director, Resource Management
DEPARTMENT HEAD APPROVAL:
JOHN ULRICH
Director of Utilities
Page 3 of 3
UAC MINUTE S
AUGUST 7, 2002
EXCERPT
NEW BUSINESS
ENERGY RISK MANAGEMENT POLICIES
Carlson: Let’s move on to Energy Risk Management Policies, which we initially
reviewed last time. Do you haveanything more to say on that at this point John?
Ulrich: Nothing more, except to briefly summarize our request. You have a memo in
your package as Item 1 called Energy Risk Management Policies. I do not have prepared
slides to go through, because we’ve had a number of discussions on it. Tonight, you’re
being requested to approve the proposed City of Pale Alto’s Energy Risk Management
Policies. These policies were initially approved by tl~e City Council on March 19, 2001.
These are revisions to that policy on Risk Management. As you recall, the City Auditor’s
office conducted an assessment of the Utility’s Risk Management Procedures between
November 2001 and June, and a report was presented to the UAC at our July 10th
meeting. As a result of the audit, and other recommendations we received from our
Consultant who has been working on this, those have been formalized and put into the
Energy Risk Management Policies dated July 3, 2002. They’re shown as a draft, with the
expectation and a request that you approve them this evening.
The minor change one item that you requested be included was that the statement in
the second sentence under section 6.1 would say, "these statements shall guide the
general vision of CPAU business practices, articulating the City’s risk philosophy, and
establishing risk tolerances." That’s a slight change. Instead of "guide", it says
"include." So instead of saying, "these statements shall include", it now says, "these
statements shall guide." There are a number of other changes, but they are all based
around an attempt to focus with the Strategic Plan and mission of Pale Alto and to have
Risk Management Guidelines that truly manage risk in the business that we’re in. So
with that, I’d ask if you have any questions or other things you’d like to know about the
final recommendation.
Carlson: Are there any questions? Rick, go ahead.
Ferguson: No question. I was just going to make a motion.
UAC Minutes 080702 Page 1 of 2
Carlson: Dexter.
Dawes: The $65,000 limit has come up very recently and it concerns me that this would
make the process of buying, particularly small amounts of power - which is often over
$65,000 laborious, to go through the whole chain of command: UAC, Finance
Committee, City Council type approvals. It really depends on how you plan to buy your
product, but it seems like fairly tight limitations to me. Can you live with it or is this
going to be a problem?
Ulrich: Hopefully it’s not goil~g to be a problem. The intent here is to be absolutely clear
that we absolutely follow the rules set forth in the municipal code on who has authority to
sign and to approve expenditures. In this case, we believe that virtually all the terms and
conditions that we would set forth in an RFP to purchase electricity or gas would all be
negotiated and completed early on, and that we would be able then during the process to
settle on the price, and that the City Council would approve a band and a level that we
believe will be appropriate.
Dawes: So there’s some flexibil{t~0n both ends of the PO’s?
Ulrich: I think so. We’re compelled and committed to malting it Work, but you can be
assured if there are any problems with that, we’d come back and try to change or modify
that so that it would work. We’re not in the business of offsetting one risk and
superimposing another one on top.
Dawes: Thank you.
Carlson: Any other questions? Mr. Ferguson.
Ferguson: I move that the Commission recommend that the City Council approve the
proposed City of Palo Alto Energy Risk Management Policies.
Carlson: Is there a second?
Bechtel: Second.
Carlson: Seconded by Commissioner Bechtel. Any further discussion? All in favor?
All Commissioners: Aye.
Carlson: Any opposed? Any abstained? It’s 5-0, and I hope you appreciate the
efficiency with which we got to Item #2.
UAC Minutes 080702 Page 2 of 2
RESOLUTION NO.
RESOLUTION OF THE COUNCIL OF PALO ALTO APPROVING
THE AMENDED AND RESTATED UTILITIES ENERGY RISK
MANAGEMENT POLICIES AND DELEGATING TO THE CITY
MANAGER THE AUTHORITY TO ESTABLISH AND
PROMULGATE ENERGY RISK MANAGEMENT GUIDELINES,
RULES AND PROCEDURES
WHEREAS, the City of Palo Alto ("City") provides
electricity and natural gas services co residential and
commercial customers located within its jurisdictional
boundaries; and
WHEREAS, the City wishes to minimize energy price risks
that are inherent in th~ volatile electricity and natural gas
(energy) wholesale markets and maintain the stability of retail
electric prices that it charges zo its energy customers; and
WHEREAS, the City also wishes to mlnimlze the exposure
zo financial risks that the City’s electric and natural gas
enterprise funds could experience in the volatile wholesale
energy markets; and
WHEREAS, the City Auditor has recommended that certain
modifications and clarifications to the City’s current Energy
Risk Management Policmes, comprlsing the Risk Management
Policies and Procedures, dated as of March 19, 2001, the
Guidelines for Utility Customer Contracts, dated as of
December 18, 2000, and the Commodity Pricing Policy, dated as of
February 24, 2000, should be made; and
WHEREAS, the Finance Committee of the Council of the
City of Palo Alto, the City Manager and the City Manager-
appointed Risk Oversight Committee have unanimously recommended
the approval of the amended and restated Energy Risk Management
Policies;
NOW, THEREFORE, the Council of the City of Palo Alto
does hereby RESOLVE as follows:
SECTION i. The Council hereby approves the amended and
restated Energy Risk Management Policies, attached hereto and
incorporated herein by reference as "Exhibit A."
021007 syn 0072216
SECTION 2. The Council hereby delegates to the City
Manager the authority to establish and promulgate energy risk
management guidelines, rules and procedures, initially
incorporated in the Intermm Risk Management Pollcies and
Procedures, dated as of December 1999.
SECTION 3. The Council finds that the adoption of this
resolution does not constitute a project under the California
Environmental Quality Act, and therefore no environmental
assessment is required.
INTRODUCED AND PASSED:
AYES:
NOES:
ABSENT:
ABSTENTIONS:
ATTEST:APPROVED:
City Clerk Mayor
APPROVED AS TO FORM:City Manager
Senior Asst. City Attorney Director of
Administrative Services
Director of Utilities
021007 syn 0072216
2
C~y of Palo Alto Utilities
Energy Risk Management
Policies
October 2, 2002
CITY OF PALO ALTO
UTILITIES
City of Palo Alto Utilities Energy Risk Management Policies
Table of Contents
INTRODUCTION .............................................................................................................................................1
H.ENERGY RISK MANAGEMENT PHILOSOPHY ......................................................................................1
HI.ENERGY RISK MANAGEMENT OBJECTIVES ........................................................................................1
21.RETAIL RATE STABILITY ....................................................:..: .........................................................................
2.PRESERVE A SUPPLY COST ADVANTAGE .........................................................................................................2
3.EFFICIENT AND COST EFFECTIVE BUSINESS PROCESSES ....................................................: ............................2,
IV.SCOPE .....................................................................................................................................;’: .......................3
GENERAL TRANSACTING POLICY .......................................~ ..................................................................3
1.ANTI-SPECULATION ........................ii.iii .........................................................., .................................................3
2.MAXIMUM TRANSACTION TERM .....................................................................................................................3
3.PORTFOLIO PERFORMANCE AND VALUE REPORTING .................................................." ....................................3
4.COMPETITIVE PROCESS ......................" .............................................................................................................4
V,
2.
3.
4.
5.
VH.
OVERSIGHT BODIES ...........................................................~ .........................................................................4
CITY COUNCIL .........................................................................................................’ .......................................4
UTILITIES ADVISORY COMMISSION .2 ...............................................................................................................4
4CITY MANAGER ..............................................................................................................................................
RISK OVERSIGHT COMMITTEE ............................; ................., ......: ..................................................................4
MANAGEMENT OVERSIGHT .............................................................................................................................5
Front @rice - Planning and Procurement ................................................................................................5
5Middle Office- Controls and Reporting ......................................................................................: ............
Back Office - Settlement and Recording ...................................................................................................6
COMMODITY PRICING POLICY ......................................, ....................................................................7
1. POLICY STATEMENT ........................................................................................................................................7
a.Direct Cost Recovery ...................................................: .............................................................................7
b.Risk Management. .......................................................................................................................................7
7c. Indirect Cost Recovery ..............................................................................................................................7d. Nondiscrimination ............................................................. ........................................................................
7e. Nonsubsidization .......................................................................................................................................
VIII.CUSTOMER CONTRACT POLICY ......................................................................................................... 8
81.OVERSIGHT .....................................................................................................................................................
2.REVIEW AND APPROVAL .................................................................................................................................8
83. PRICING ...........................................................................................................................................................94. REPORTING .....................................................................................................................................................
Finance Committee 01-Oct-2002
CITY OF PALO ALTO
UTILITIES
Page i
IX.COUNTERPARTY CREDIT POLICY ..........................................................................................................9
2.
3.
4.
5.
OBJECTrVES .....................................................................................................................................................9
ORGANIZATIONAL ROLES AND RESPONSIBILITIES ........................................................................................10
GUIDELINES TO QUALIFY SUPPLIERS ............................................................................................................10
ASSIONMENT OF TRANSACTION LIMITS AND CREDIT EXPOSURE LIMITS TO COUNTERPARTIES ...................10
MONITORING AND REPORTING ON THE COUNTERPARTY CREDIT EXPOSURES ...............................................10
X.POLICY REVIEW AND REPORTING ON TRANSACTING ..................................................................11
FOR THE CITY COUNCIL: ...............................................................................................................................11
FOR THE UAC: ..............................................................................................................................................11
FOR THE ROC: ..............................................................................................................................................11
XI.AUTHORIZED TRANSACTING PRODUCTS ..........................................................................................11
XII.PROHIBITED TRANSACTING PRODUCTS .......................................................................................12
XIII. TRANSACTING AUTHORITY...,..: ...................." ....................................................................................12
XlV.CONFLICT OF INTEREST ......Jr .............................................................................................................12
APPENDIX A - RISK OVERSIGHT COMMITTEE CHARTER ......................................................................13
Finance Committee 01-Oct-2002
CITY OF PALO ALTO
UTILITIES Page ii
I.INTRODUCTION
This document contains the City of Palo Alto Utilities (CPAU) energy risk management policies
as well as a list of the oversight bodies and a description of their roles and responsibilities. It
summarizes delegated authorities, management expectations, approved transacting products,
CPAU’s energy risk management methodology, management reporting, and violation actions.
As such, it acts as an umbrella document to all CPAU’s energy risk management control
infrastructure. This Energy Risk Management Policies document, the Energy Risk Management
Guidelines, and the Energy Risk Management Procedures are known collectively as the Energy
Risk Management Policies, Guidelines, and Procedures (RMPG&P). The RMPG&P serves as
Utilities’ guide for purchasing and selling electricity and natural gas to meet the needs of its end-
use customers.
II.ENERGY RISK MANAGEMENT PHILOSOPHY
The mission statement of the Utilitie~ ~epartment is "To build value for our citizen owners, to
provide dependable returns to the City and citizens of Palo Alto, and to be the preferred full
service utility provider while sustaining the environment." The Utilities Strategic Plan, adopted
by the Council on November 13, 20001 contains four supporting objectives: 1) Enhance
customer satisfaction by delivering valued products and services; 2) Invest in utility
infrastructure to deliver reliable service; 3) Provide superior financial performance to the City
and competitive rates to customers; and 4) To identify, and maintain the unique advantages of
municipal ownership.
CPAU recognizes that certain risks are inherent in the deregulated energy business environment.
CPAU seeks to minimize risks in order to provide retail rate stability to its retail customers and a
stable financial return to the City’s General Fund. The basic premise underlying CPAU’s energy
risk management attitude is that no activities related to energy purchase and sales should expose
the City to the possibility of large financial losses in relation to the size of the electricity and gas
reserve funds.
III.ENERGY RISK MANAGEMENT OBJECTIVES
The primary objectives of energy risk management activities are to balance the business
objectives of (1) providing stable gas and electric rates to end users, (2) preserving a supply cost
advantage through obtaining the best available price, and (3) managing business processes to
allow CPAU to work efficiently and cost effectively.
1 Council approved the Utilities Strategic Plan on Nov. 13, 2000 (CMR:418:00) and the Utilities Strategic
Implementation Plan on May 21,2001 (CMR:223:01).
Finance Committee 01-Oct-2002
CITY OF PALO ALTO
UTILITIES Page 1
1.Retail Rate Stability
Stable rates are of high value to the citizens and businesses in Palo Alto. However, energy
commodity market prices are extremely volatile. Therefore, a primary objective is to manage the
risks inherent in the energy commodity markets in which CPAU participates. The rate stability
objective will be to mitigate market risk and credit risk.
Market risk is the risk that value will be lost due to a exposure to the market
price of a commodity. For example, if CPAU purchased energy supplies at a
point in time for a fixed-price, there is a risk that the market value of that supply
falls so that the cost of the energy is more than could be recovered if it were sold
back into the market.
Credit risk is the risk that a financial losswill be incurred if a counterparty does
not perform under its obligations to CPAU. For example, if CPAU contracted
with a supplier to provide electricity for a certain period of time at a fixed price,
CPAU would have to.find replacement electricity from another source if that
supplier could not or did not deliver the energy for the contracted fixed price.
That price of the replacement energy could be more than the contract price,
causing CPAU to pay more than planned.
2.Preserve a Supply Cost Advantage
Wholesale transactions are effected to maximiz~ the value of asse~s for the benefit ofPalo Alto’s
retail customers. CPAU will take actions to: (a) reduce exposure to potential adverse energy
price movements; (b) enhance revenue by taldng advantage of flexibility inherent in CPAU
contracts and resources; and (c) enhance revenue by offering commodity products that address
customer needs and adequately cover costs.
Reserve balances maintained by the gas and electric utilities provide financial liquidity and
flexibility in entering into other shorter-term contracts and purchases of energy in the spot and
forward market as needed to meet the projected load. Maintaining the safety of these reserve
funds is a matter of high priority for CPAU and the City.
3.Efficient and Cost Effective Business Processes
City staff will utilize business practices and controls that are sufficient to identify, evaluate, and
manage risks, and are designed to streamline and minimize recording, analysis and reporting
requirements. Staff will strive to improve the risk management procedures to enhance
productivity, reduce the cost of conducting risk management activities, and maintain
transparency and value of the risk management process.
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No
SCOPE
These Energy Risk Management Policies shall apply to the electric and natural gas
supply business units. These units are the part of the electric and natural gas enterprise
funds that deal directly with the acquisition of energy supply resources.
These Energy Risk Management Policies prescribe the management, organization,
authority, processes, tools and systems to monitor, measure, and control market risks to
which CPAU is expQsed in its normal course of business, including wholesale and retail
operations, capital projects (related to generation, transmission, transportation, or storage,
not distribution projects), and participation in joint powers authorities.
The policy does not address general business risks such as fire, accident, casualty, worker
health and safety, and general liability.
The policy does not cover the water fund or the electric and natural gas distribution
business units.
GENERAL TRANSACTING POLICY
1.Anti-speculation
Speculative buying and selling of energy products is prohibited. Speculation is defined as
buying energy not needed for meeting forecasted load or selling energy that is not owned. In no
event shall transactions be entered into to speculate on market conditions.
2.Maximum Transaction Term
The maximum term of any supply resource transaction (purchase or sale) should be ten years,
unless specifically approved by the City Council, to meet long-term portfolio planning
objectives.
3.Portfolio Performance and Value Reporting
Staff shall prepare performance reports containing an analysis of physical and financial positions
of all electric and gas commodity contracts. The frequency and content of performance reports
for each oversight body shall be prescribed in the EnergyRisk Management Guidelines. Should
the ratio of the market value of the portfolio to the cost of the portfolio fall outside of the risk
limits prescribed in the Energy Risk Management Guidelines, CPAU will report this fact to the
City Council within a reasonable period and evaluate whether there is any risk of holding any of
the contracts in the portfolio to delivery.
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4.Competitive Process
Whenever possible, CPAU will obtain three or more quotations when making a purchase or sale
transaction and select ~he best price from a responsible bidder.
VI.OVERSIGHT BODIES
1. City Council
The City Council is responsible for malting high-level broad¯ policy and strategy statements.
These statements shall guide the general vision of CPAU business practices, articulating the
City’s risk philosophy, and establishing risk tolerances. The Council has established CPAU
business objectives by its adoption of the Utilities Strategic Plan. This plan serves as the
foundation of the Energy.Risk Management Policies. The City Council adopts the Energy Risk
Management Policies as developed and recommended by the Risk Oversight Committee and
delegates the City Manager to execute it. The City Council shall receive reports biammally from
the City Manager regarding energy risk management activities.
2.Utilities Advisory Commission
The Utilities Advisory Commission (UAC) is responsible for advising the City Council on long-
range planning and policy matters relating to the electricity, gas and water utilities. While it has
no formal responsibility in Risk Management, the UAC does receive and review regular
management reports prepared by the Risk Oversight Committee for the City Council. In
addition, the UAC can serve as an important source of advice and comment to the City Council
on risk inanagement.
3. City Manager
The City Manager has overall responsibility for executing and ensuring compliance with policy
adopted by the City Council. The City Manager reports biannually to the City Council regarding
energy risk management ac{ivities.
4.Risk Oversight Committee
The Risk Oversight Committee (ROC) ~onsists of the Director of Utilities (Chairperson), the
¯ Director of Administrative Services, and the Assistant City Manager. The Senior Assistant City
Attorney assigned to Utilities and the City Auditor act as advisors to the ROC.
The ROC is the primary body responsible for creating and implementing a sound approach to
managing risk consistent with the business strategy and risk tolerance of the organization as
defined by the City Council. As such~ the ROC is critical to overseeing and reviewing the risk
management process and infrastructure and managing the Utilities’ risk exposure. Specifically,
the ROC is responsible for the following activities:
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CITY OF PALO ALTO Page 4
UTILITIES
,Understanding energy risk management concepts;
[]Developing and approving the Energy Risk Management Policies document consistem
with the Utility Strategic Plan, and submitting said Policies to City Council;
[]Approving and updating as necessary the Energy Risk Management Guidelines to guide
risk management activities in conformance with the Council-adopted Energy Risk
Management Policies;
[]Understanding the Energy Risk Management PrOcedures as maintained and conducted by
the Front, Middle and Back Offices.
[]Reviewing and approving appropriate market and credit risk limits, and ensuring that all
risk limits are observed;
[]Prescribing energy risk management activities;
[]Monitoring the City’s risk exposures including market risk, volumetric risk, and credit
risk and administrative risk and ensure compliance with the RMPG&P;
[]Ensuring that proper controls arein place~
-Understanding and approving m..ethodologies used to measure and control risk taking;
[]Reviewing and approving exceptions and amendments to policies;
[]Evaluating portfolio risk;
"Reviewing profitability and performance;
[]Reporting to the City Council on risk and performance of energy transacting activities
and providing assistance to the City Council on risk management concepts and
techniques.
5.Management Oversight
Risk management oversight at an operational level is accomplished through supervisory review
and approval and appropriate separation of duties. Risk management functions are separated as
follows:
a. Front Office - Planning and Procurement
The Front Office is primarily responsible for resource planning and procuring .energy
supplies and services. The Front Office oversight role is accomplished through
supervisory review and approval.
b. Middle Office- Controls and Reporting
The Middle Office provides the primary independent management oversight role. The
¯ Middle Office institutes, supervises, and reviews all risk management activities. Its
responsibilities include monitoring CPAU’s risk exposures and ensuring compliance with
policies, guidelines, and procedures.
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The Middle Office adopts and updates as necessary the Energy Risk Management
Procedures so that portfolio management functions occur in compliance with the
Council-adopted Energy Risk Management Policies and ROC-adopted Energy Risk
Management Guidelines. The functions of the Middle Office can be broadly defined as
Quantitative Analysis, Compliance Review, Credit Administration, and Management
Reporting.
Quantitative Analysis
The Middle office performs rigorous risk analysis to evaluate the risk exposure
on both a transaction and portfolio basis. The Middle Office also maintains
official settlement price, forward price curves, volatility and other market price
databases.
Compliance Review
The Middle Office monitors all transactions to ensure compliance with the
RMPG&P.
Credit Administration
The Middle Office monitors counterparty creditworthiness. The Middle Office
obj ectively measures and monitors credit limits and credit histories.
Management Reporting
The Middle Office administers reports to the ROC related to risk management,
and performance in alignment with the Energy Risk Management Policies and
Guidelines and the requests of the ROC. At a minimum, such reports must
describe compliance with RMPG&P, the closed position, the open position
marked-to-market, the open position value at risk, and the credit risk exposure.
The Middle Office must ensure the accuracy and reliability of the system for
keeping records and ad-hoc reports.
c. Back Office- Settlement and Recording
The Back Office is primarily responsible for settlement of bills, recording transactions,
booldceeping and accounting, and contract administration. The Back Office roles in
oversight are ensuring that bills reflect orders, independently monitoring and recording
transactions into a tracking database, and verifying and reporting on compliance with
procedures as reflected in the deal tracking documentation.
Page 6CITY OF PALO ALTO
Finance Committee 01-Oct-2002 ’ UTI L ITIES
VII. COMMODITY PRICING POLICY
1.Policy Statement
Retail prices for energy supplies will be fair and equitable to all customers and will recover all
incurred costs. The commodity pricing policy will be used both for the development of
standardized commodity tariffs and for long-term, or customized, customer contract rates. The
City Manager is responsible for implementing this policy by overseeing the process of all
commodity rate development and ensuring that all procedures are followed consistently and that
all calculations are appropriately documented.
The commodity pricing policy is composed of the following five principles with the first
principle having priority over the remaining four:
a. Direct Cost Recovery
All direct costs of providing colmaaodity service will be recovered in commodity rates.
b. Risk Management
Because gas and electricity supplies are unpredictable, generation output, market prices,
and market demand must be carefully managed to match approved risk limits. To the
extent practicable, all risks must be insured, and contract terms must protect CPAU from
maj or contingencies. To the extent that CPAU assumes risk to provide commodity
products to customers, the customer shall pay reasonable compensation for bearing that
risk.
e. Indirect Cost Recovery
To the extent practicable, it is an objective to recover all indirect costs of commodity
service from commodity customers.
d. Nondiscrimination
All customers within a customer class shall be treated in a fair and impartial manner and
be entitled to acquire commodities at the same or substantially similar terms and
conditions.
e. Nonsubsidization
To the extent practicable, costs will be allocated to customers and customer classes
according to how those costs are incurred. Thus, commodity rates will not be established
in a manner that permits one class of customers to be subsidized by another.
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VIII. CUSTOMER CONTRACT POLICY
Guidelines for oversight, review, approval, pricing, and reporting of customer contracts and
fixed-term commodity rates are necessary to ensure staff is implementing contracts as directed
by Council.
1.Oversight
ao The City Auditor, at the direction of City Council, shall perform periodic reviews,
independent of CPAU, to ensure that sales contracts are implemented in
accordance with Council-approved policies and guidelines. In addition, the Risk
Oversight Committee performs this oversight on a regular basis.
The Auditor and Risk Oversight Committee will provide reports to the Council.
o Review and Approval
ao The UAC shall reviev? the methodology underlying the calculation of the
co~mnodity rate, including the risk premium, and provide recommendations to the
Council.
bo The UAC shall review a proposed range of commodity rates applicable to fixed-
term rate schedules and custom rate schedules and provide recommendations to
Council.
dQ
Council shall adopt a range of commodity rates applicable to fixed-term and
custom commodity service rate s~hedules.
The City Manager shall be delegated the authority to designate a price for a
. customer that is within the Council-approved rate range for a fixed-term contract
rate or custom contract rate. The City Manager may delegate such authority to the
Director of Utilities. ~
The City Manager shall be delegated the authority to develop, approve and
modify any contract language, confirmation schedules, and/or forms needed to
implement energy sales contracts. The City Manager may delegate such authority
to the Director of Utilities, All forms and contracts shall be reviewed and
approved by the City Attorney.
Pricing
Rates for fixed-term commodity rates and custom commodity contracts will
adhere to the principles set forth in the Council approved Commodity Pricing
Policy and Guidelines for Utility Customer Contracts.
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IX.
Co
Only the commodity portion of the rate will be fixed under custom commodity
rates and fixed-term commodity rates. Rate schedule cost components such as
electric distribution, gas transportation, administrative fees, public benefits, tax,
and other non-bypassable charges willbe adopted by Council and will be
equivalent to corresponding charges in applicable full-selwice rate schedules.
Council may change such charges, during the term of the contract.
The available rates for fixed-term rate options and custom rate options will be
public information, and will be published by CPAU.
Reporting
ao Staff shall prepare performance reports containing an analysis of cost recovery
and revenue impact. The UAC and Council will receive a minimum of two
reports per year.
Council shall be notified of fixed term and custom commodity contracts on a
semi-annual basis. Theeonfidentiality of specific contract provisions such as
price.and customer usage profile shall be maintained unless the customer consents
to its disclosure to the public. However, such information shall be made available
for any Council member to review in the City Clerk’s Office.
COUNTERPARTY CREDIT POLICY
1.Objectives
The objective of the Counterparty Credit Policy is to minimize the potential adverse financial
impacts on the City in the event of a defaulting counterparty. For example, the City may be
adversely affected if a supplier fails to deliver energy the City had previously contracted to
purchase, thereby, forcing the City to purchase energy in the open market at potentially higher
prices. The Counterparty Credit Policy will be !mplemented according to the Energy Risk
Management Guidelines adopted by the_ROC. The guidelines are designed to minimize the
City’s credit exposure and potential adverse financial impacts by:
Establishing a credit risk management governance and oversight structure within
the existing energy risk management program;
Establishing credit risk management organizational roles and responsibilities;
CQ Providing a framework to enable the City to qualify energy suppliers and transact
with approved counterparties;
Providing counterparty transacting parameters (limits) to control and measure the
City’s exposure to any one supplier; and
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hnplementing a mechanism to monitor and report on supply portfolio related
counterparty credit exposures.
This policy applies 0nly to market-based commodity transactions and does not apply to physical
asset-based transactions related to generation, transmission, gas wells, pipeline capacity, natural
gas storage, etc.
2. Organizational Roles and Responsibilities
The Middle Office has the responsibility to ensure that energy procurement transacting activities
and supply portfolio management conform to the Counterparty Credit Policy.
3. Guidelines to Qualify Suppliers
Counterparty credit.risk management involves selecting reputable companies to supply the City
and allocating purchases amongst multiple suppliers. The Energy Risk Management Guidelines
implement and fornaalize this approach and establish a process with specific parameters. The -
guidelines set out qualification criteria for potential counterparties of the City. The ROC
maintains a list of approved counterparties (those which qualify with the credit criteria).
4. Assignment of Transaction Limits and Credit Exposure Limits to Counterparties
The ROC establishes Counterparty Credit Limits that are designed to diversify the credit
exposure 0fthe City as it relates to energy supply procurement activities. This objective is
accomplished through the establishment of transaction (volumetric) limits and credit exposure
limits.
Transaction Limits define the maximum quantity of electric energy or maximum volume of
natural gas that may be purchased from an approved counterparty. Credit exposure limits are
limits on the amount of market exposure for transactions executed with each approved
counterparty. Transaction and Credit Exposure Limits are established by evaluating a
counterparty’s credit worthiness, net worth of assets held by the counterparty, quality of
guarantees, market intelligence, and credit enhancement tools provided by counterparty, as set
forth in the Energy Risk Management Guidelines.
5.Monitoring and Reporting on the Counterparty Credit Exposures
All transactions will be with approved counterparties and within Transaction and Credit
Exposure Limits as established by the ROC, Counterparty credit exposures and transactions
volumes relative to the established limits are to be monitored on an ongoing basis and reported to
the ROC on a monthly basis,
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X. POLICY REVIEW AND REPORTING ON TRANSACTING
Key to energy risk management is the monitoring of risks. Accurate and timely information
must be provided to all parties involved in any aspects of energy risk management to allow them
to perform their functions appropriately. A number of reports will be provided for distribution to
the ROC, the UAC, and the City Council. Many of the internal reports to the ROC contain
highly sensitive and proprietary information, and therefore must be confidential.
For the City Council:
The purpose of reports to the City Council is to allow it to review the City’s risk position.
For the UAC:
Reports for the UAC should allow it to review the City’s risk position to carry out its
advisory role to the City Council.
o For the ROC:
The purpose of reports to theROC is to allow it to undertake its responsibilities of
monitoring the City’s trading position, risk exposure, and transaction authorization.
XI.AUTHORIZED TRANSACTING PRODUCTS
Products allowed for electric transactions include energy, capacity, transmission, and ancillary
services. Products allowed for natural gas transactions include energy, transportation, and
storage.
The Risk Oversight Committee is responsible for authorizing all products and commodity types
for transacting as further detailed in the Energy Risk Management Guidelines. At this time, only
physical transacting products are approved. Transactions of products not approved by the Risk
Oversight Committee is strictly prohibited.
All transactions at CPAU must follow certain requirements as described throughout this Policy.
Key elements of CPAU’s transaction policy are as follows:
o All transactions must be committed to by authorized transacting personnel.
¯All transactions must be with counterparties with executed Master Agreements.
~All transactions must be with counterparties with adequate available credit.
~All transactions must be committed over recorded phone lines (when available).
~All transactions must be Approved Transaction Types.
®All transactions must be consistent with Strategy and Policy as described in this
document.
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Failure to observe the above minimum requirements when executing energy transaction is a
violation of Policy and is subj ect to disciplinary action.
XII. PROHIBITED TRANSACTING PRODUCTS
Includes all products not specified above and, in particular:
No financial instruments are allowed.
Due to the unlimited downside potential, selling physical options is not allowed.
Any product not on approved transacting product list.
The Energy Risk Management Guidelines provides a more detailed description of transacting
products, which are prohibited, for CPAU commodity transacting.
XlII. TRANSACTING AUTHORITY
Transacting for the electric and natural gas supply portfolios is the responsibility of CPAU.
CPAU is the responsibility of Director of Utilities, who is subject to the direction and
supervision of the City Manager.
The City Manager has the authority to purchase energy commodities for terms of up to three
years under open purchase contracts. The Director of Utilities is granted the authority to
negotiate for the purchase and sale energy commoditi(s. Purchases are subject to signature
authority limits as defined in the municipal code. Currently, energy purchases exceeding $65,000
require City Council approval.
City Manager authorities may be delegated by the City Manager. Authorization levels for City
staff as delegated are maintained in the Risk Management Procedures manual by the Middle
Office. The Middle Office also establishes and maintains the list of individuals authorized to
make wholesale transactions.
XIV. CONFLICT OF INTEREST
Personnel involved in transacting and oversight of the Utilities supply resource acquisition
programs are not allowed to have any financial interest in any of CPAU’s counterparties, unless
the conflict is waived by the City. The Energy Risk Management Guidelines contain detailed
requirements for staff conflict of interest disclosure and prohibitions as to acquiring or
maintaining financial interest in energy trading counterparties.
Page 12CITY OF PALO ALTO
UTILITIESFinance Conmaittee 01-Oct-2002
APPENDIX A- RISK OVERSIGHT COMMITTEE CHARTER
The mission of the City of Palo Alto Utilities (CPAU) is ’°To build value for our citizen owners,
to provide dependable to returns to the City and citizens of Palo Alto, and to be the preferred full
service utility provider while sustaining the environment".
The primary objectives of energy risk management activities are to balance the business
objectives of (1) providing stable gas and electric rates to end users, (2) preserving a supply cost
advantage through obtaining the best available price, and (3) managing business processes to
allow CPAU to work efficiently and cost effectively.
These objectives necessitate that CPAU enters into transactions with outside ounterparties for
the purchase and sale of energy and gas and related products and services to balance load in line
with its key strategies.
The City Manager is responsible for managing exposure to market, volume, credit and
administrative risks resulting from these transactions.
The City Manager has authorized the fi~rmation of the Risk Oversight Committee (ROC)
composed of the Director of Utilities (Chairperson), Director of Administrative Services
Division, Assistant City Manager as permanent members and advised by the City Attorney’s
Office and the City Auditor’s Office.
The ROC has the primary responsibility for creating and implementing a sound approach to
managing risk consistent with the business strategy and risk tolerance of the organization as
approved by the City Council. As such it is responsible for overseeing and implementing the
Council-approved Energy Risk Management Policies. The Policies include the steps needed to
execute the business strategy as defined by the City Council. The ROC shall monitor and report
to the City Manager on the conformity of business activities within the risk parameters as
defined by the Energy Risk Management Policies. On an ongoing bagis, the ROC must evaluate
proposed changes in policy, review the level of risk exposure and ensure compliance with
Policies. Any proposed change in Energy Risk Management Policies approved by the ROC will
be forwarded to the City Council for its approval.
The ROC shall approve Energy Risk Management Guidelines consistent with the Energy Risk
Management Policies.
The ROC recognizes that the consistent and accurate measurement of risk exposure is key to
maintaining risk exposure within the risk tolerances established by the City Council. As such,
the ROC shall require timely and accurate reports relating to key market, credit and
administrative risks. The ROC also recognizes that a critical role is in ensuring that the City
Council and UAC are fully informed about risk management issues pertaining to CPAU.
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