20050902Supply Risk Management Program.pdf

INTERMOUNTAIN GAS COMPANY
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EXECUTIVE OFFICES
555 SOUTH COLE ROAD. P.O. BOX 7608. BOISE, IDAHO 83707 . [phone]. FAX: [phone] za05 SEP -I Pr" 4= 20
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September 2 , 2005
Ms. Jean Jewell
Commission Secretary
Idaho Public Utilities Commission
472 W. Washington St.
O. Box 83720
Boise, Idaho 83720-0074
RE:Intermountain Gas Company
Case No. INT-04-
IPUC Order No. 29540
Dear Ms. Jewell:
Enclosed for filing with this Commission are an original and seven copies of Intermountain Gas
Company s Gas Supply Risk Management Program - Objectives, Policy, Guidelines & Procedures.
The above referenced Order No. directed the Company and Commission Staff to work together in
developing a risk management strategy that would accomplish certain goals and objectives as outlined in
the Order. The attached Program represents the culmination of those efforts by the Company and Staff.
Intermountain is committed to work with the Staff on an ongoing basis to enhance and refine the enclosed
document as necessary to adapt to the changing marketplace.
If you have any questions or require additional information regarding the attached, please contact me at
377-6168.
MPMlbf
Enclosures
W. C. Glynn
P. R. Powell
M. E. Rich
M. W. Richards
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INTERMOUNTAIN GAS COMPANY
GAS SUPPLY RISK MANAGEMENT PROGRAM
OBJECTIVES, POLICY, GUIDELINES & PROCEDURES
INTERMOUNTAIN GAS COMPANY
GAS SUPPLY RISK MANAGEMENT PROGRAM
OBJECTIVES, POLICY, ,GUIDELINES AND PROCEDURES
TABLE OF CONTENTS
II.
PRO GRAM 0 BJE C TIVE S
....................................................................
ORGANIZATIONAL STRUCTURE
..................................................
A. BOARD OF DIRECTORS
.........................................................
B. PRE SID ENT ....... .........................................................................C. GAS SUPPLY RISK MANAGEMENT COMMITTEE
.........
III. ADEQUATE AND RELIABLE NATURAL GAS SUPPLIES,
STORA TE AND TRANSPORTATION
..............................................
IV. MITIGATE THE ADVERSE IMPACT OF COMMODITY
PRICE RISK INHERENT IN THE MARKET
.................................
CREDIT RISK
............................................ .............. ....... .... ... ........... ....
VI. FINANCIAL RISK MANAGEMENT EXECUTION
.......................
APPENDIX A:HEDGE POLICY BOARD RESOLUTION
......................................
APPENDIX B:GAS SUPPLY RISK MANAGEMENT COMMITTEE MEMBERS......
APPENDIX C:CURRENTL Y APPROVED FINANCIAL COUNTERP ARTIES
.........
APPENDIX D:RISK MANAGEMENT INSTRUMENT EXAMPLES
........................
APPENDIX E:HEDGING GUIDELINES................................................. ............
PROGRAM OBJECTIVES
The objectives of Intermountain Gas Company s ("Intermountain or the Company
Gas Supply Risk Management Program ("Program ) are:
a) help insure adequate natural gas supplies, transportation and storage are
available for its customers needs
b) to mitigate the adverse impact that significant price movements in the natural
gas commodity can have on the Company s supplies, customers and other
operations, and
c) minimize the credit risk inherent in the implementation of certain price risk
reducing strategies.
The measures employed in meeting these objectives include the use of operational
measures as well as the effectuation of risk-reducing financial instruments.
The Program objectives acknowledge that natural gas is a commodity and that
fundamental elements of a free market commodity include its price is largely
influenced by actual, as well as perceived, market and supply imbalances and that
its intermediate and longer term price should trade around the commodity s cost of
production.
It is not the objective of this program, as more fully explained herein, to realize the
lowest cost of actual natural gas purchases for delivery to its customers.
SPECULATION IS PROHIBITED UNDER ANY CIRCUMSTANCE. Speculation is
defined as using financial instruments based on expected price trends without being
matched to a physical natural gas purchase requirement.
ORGANIZATIONAL STRUCTUREII.
Board of Directors
The Board of Directors of the Company recognizes the need for management to use
certain risk mitigation tools to reduce risk and its corporate governance obligation
inherent in risk management. In 1995 , the Board of Directors adopted by Board
Resolution a Risk Management Policy dealing with Hedging that provides policy
guidance to this Program. Such resolution is attached hereto as Appendix A.
President
The President of Intermountain is responsible for the development of the strategic
direction for the Company and as such is responsible for the establishment of and
overseeing the structure, direction conduct and control of the Company s Gas
Supply Risk Management Program. A Gas Supply Risk Management Committee
Committee ) has been established to assist the President in these responsibilities.
Gas Supply Risk Management Committee
The Gas Supply Risk Management Committee consists of senior level
management team (see Attachment B), established by the President, responsible for
developing and implementing the Company s Gas Supply Risk Management
Program. The performance of this function will include and incorporate the
elements of:
a) adequate and reliable natural gas supplies
b) adequate and reliable natural gas transportation and storage
c) customer price stability in light of the price risk inherent in the commodity
markets
d) appropriateness and accessibility of certain risk-reducing financial instruments
e) credit risks inherent in the implementation of the above noted elements.
The Committee shall recognize that timely information and prompt management
attention are also important elements in the realization of the Program objectives
and, in that regard, the Committee will hold regularly scheduled, as well as on an as
needed basis, meetings in the performance of their duties. Minutes will be kept for
each meeting, which will serve as documented Committee authorizations and
actions.
III.ADEQUATE AND RELIABLE NATURAL GAS SUPPLIES,
TRANSPORTATION AND STORAGE
To help insure that this Program objective is met, the Committee will perform an
assessment of long-term (one to five year) natural gas demand supply,
transportation and storage on a regular basis. This assessment incorporates the same
elements found in the Company s Integrated Resource Plan filed Bi-annually with
the Idaho Public Utilities Commission. This demand forecast will be reviewed in
aggregate form as well as a Load Duration Curve that examines the daily gas
requirement needs during the winter and shoulder month periods. The demand
forecast will be viewed in light of the available transportation, storage, and
contracted gas supply resources to identify any deficits in the available delivery or
supply volumes. Supply resource deficits typically take the form of 1) base load
deficits that can be supplied with annual supply contracts, 2) shoulder month
deficits that can be met with a combination of storage and seasonal supply
contracts, and 3) needle peaking deficits that, although generally met with storage
mayor economically should require short-term or spot market purchases.
The Company may use an outside representative to help it carry out its gas supply
responsibilities. Currently Intermountain has under contract, IGI Resources , Inc.
IGI" - a BP Energy Company) who is directed by the Committee to solicit on
Intermountain s behalf the necessary supply, transportation and or storage resources
to meet any projected needs and deficits.
The Committee will ensure that no gas supply, transportation or storage contract
either long-term or short-term, is consummated without due diligence as to its need
or the related aspects of security, reliability, credit risk and price. The Committee
will recognize and place emphasis on the value in longer term contractual
arrangements when implementing the Company supply, transportation and
storage portfolios and insure that these arrangements are staggered as to their
renewal date in such a way as to enhance the Company s ability to renegotiate the
same.
Once the supply portfolio is in place, it will then be managed on a day-to-day basis
matching the supply resources to the daily needs of Intermountain s customers. The
Company s Gas Control Department will provide IGI with a "one month ahead"
look at its anticipated demand. This forecast will embody the aforementioned Load
Duration Curve as well as, inter alia, the latest outlook for the weather. IGI will
again match this shorter-term updated demand forecast against the contracted
supplies already in place to determine if existing supplies are adequate , whether or
not additional short-term supplies are necessary, opportunities for off-system sales
and opportunities for short-term transportation acquisitions or releases.
Additionally, a daily requirements forecast will be performed by Intermountain
Gas Control Department and transmitted to IGI at least 24 hours in advance of the
gas day which will "fine tune" Intermountain s daily gas needs and incorporate the
most up-to-date weather outlook.
IV.MITIGA TE THE ADVERSE IMP ACT OF COMMODITY PRICE
RISK INHERENT IN THE MARKET
Another of the objectives of the Company s Gas Supply Risk Management Program
is to mitigate the adverse impact that significant price movements in the natural gas
commodity can have on the Company s customers and other operations. If, in the
determination of the Committee, there is a material likelihood that projected
wholesale prices will rise significantly from current levels the Committee will begin
to consider the effectuation of certain risk-reducing transactions to include, but not
limited to, those outlined in Appendix D attached hereto.
On a regular basis, the Committee will review the actual and anticipated natural gas
commodity prices (Weighted Average Cost of Gas or "W ACOG") delivered into
Intermountain s system. This review will include a forecasted ACOG price for
the current as well as subsequent Purchased Gas Cost Adjustment or "PGA"
periods. These W ACOG projections, with the assistance of IGI, will incorporate at
a minimum 1) an outlook for the impact Intermountain storage resources
delivered during the winter heating season will have on the projected W ACOG, 2) a
point in time reference to future gas prices as predicted by the futures market for
those supplies currently subj ected to a market index, and 3) any natural gas supplies
with a fixed price secured through the employment of various financial instruments
or otherwise. The Committee will then decide upon certain risk management
actions by applying its judgement, based upon, inter alia, market supply and
demand fundamentals technical trends from the trading environment and
anticipated future price movements in evaluating the market risk inherent in these
ACOG projections.
Natural gas is a commodity traded on the open market like other commodities such
as oil, coffee or lumber. As with most commodities , natural gas prices are
ultimately determined by the balance of supply and demand in regional
marketplace. When demand is high in relation to supply, natural gas prices tend to
rise. When supply is high in relation to demand, prices tend to fall.
There are numerous factors that affect natural gas supply and demand. The actual
supply and demand for natural gas relies on a variety of interrelated factors making
it difficult to predict how these factors will combine to shape the overall supply and
demand curve and resultant price.
Given the relationship between natural gas prices and the supply and demand for
natural gas, Intermountain s Gas Supply Risk Management Committee looks at a
variety of "fundamental natural gas supply and demand price drivers" when
anticipating future natural gas prices. The more pertinent drivers are more fully
delineated below. Some of these drivers impact the near term price while others can
be more pertinent to longer term pricing making it even more difficult to determine
reasonable price estimates beyond three years.
Fundamental Natural Gas SuWly And Demand Price Drivers
Electrical 2eneration - Natural gas consumed by electrical generation now
rivals the residential market in size. Gas fired electric generation typically
increases with summer air conditioning loads. Natural gas , which
traditionally injected into storage during the summer, now has additional
summer market demand influencing its price (see "Weather ). Electric
generation has, in some instances, moved the emphasis of storage injections
from the middle of the summer to the more price volatile "shoulder months.
Snow pack/stream flow - Lower stream flows force hydroelectric generators
to seek other fuel alternatives - usually natural gas.
B!.2 counts - A high level of natural gas rig counts will tend to offset decline
curves and moderate current prices as well as futures prices as increased
production is brought to market.
Weather - Natural gas demand typically peaks during the coldest months and
tapers off during the warmer months, with an increase during the summer to
meet the demands of gas fired electric generators. The actual, as well as the
anticipated, weather during any particular season can affect the cyclical price
and demand for natural gas:
Summer Warm summer weather brings with it greater cooling
demands causing an increase in gas fired electric generation thereby
influencing the market price of natural gas. The price for natural gas
injected into storage during the summer is impacted by the level of gas
consumed by electric generation.
Winter - Colder winter weather brings with it more pronounced natural
gas consumption. Conversely, a warm winter results in less
pronounced consumption. A significant "winter peak" depletes storage
stocks at an accelerated rate and results in a greater demand for storage
injection gas in the summer.
Moderate weather for both summer and winter generally provide more
stable supply and demand balance.
Industrial Demand - Supply and demand in the marketplace determine the
short term price for natural gas. However, this can work in reverse as well.
The price of natural gas can affect its demand. This is particularly true for
those consumers who have the capacity to "fuel switch." While most
residential and commercial customers rely solely on natural gas to meet many
of their energy requirements, some industrial and electric generation
consumers have the capacity to switch between fuels. For instance, during a
period of extremely high natural gas prices, many electric generators may
switch from using natural gas to using cheaper coal, thus decreasing the
demand and thereby the price, for natural gas. For some industries , a
sustained high price for natural gas can actually result in a permanent
regional "destruction" of that demand due to plant closures or relocations.
Economy - The state of the U.S. economy in general can have a considerable
effect on the demand for natural gas in the short term, particularly for
industrial consumers. When the economy is expanding, output from
industrial sectors is generally increasing at a similar rate. When the economy
is in recession, output from industrial sectors typically drops. These
fluctuations in industrial output accompanying economic upswings and
downturns affects the amount of natural gas needed by these industrial users.
F or instance, during the economic downturn of 200 1 , industrial natural gas
consumption fell by 6 percent. Thus the short term status of the economy has
an effect on the amount of natural gas consumed in the United States. Global
economies can also come into play. Products manufactured in the U.S. for
foreign export which include natural gas in the manufacturing process can
influence the price of natural gas. The price for Liquid Natural Gas ("LNG"
imports can fluctuate with the market demands placed on LNG by other
countries.
Natural Gas Stora2e Levels - Natural gas storage facilities are a vital factor
in offsetting seasonal fluctuations in demand. In summer when demand is
low, natural gas is injected into storage facilities and withdrawn again during
the winter when demand is high. Increased national attention has been given
to "working gas in storage." High storage levels in relation to "average
storage levels have a dampening affect on natural gas prices and the opposite
is true in relation to low storage levels.
Natural Gas Pipeline Grid - The natural gas pipeline transportation
infrastructure continues to expand the connection between supply basins and
the consuming markets. Natural gas supplies that were once dedicated to
single consuming regions are now available to multiple consuming markets
through the interconnection of intra and interstate pipelines. As these
interconnections continue to grow, the price paid for natural gas in Southern
Idaho will increasingly mirror national price levels.
Financial markets - While these markets bring important tools which help to
stabilize future prices, they also have introduced speculation and its attendant
volatility that can cloud the effect that physical supply and demand
fundamentals should have on the pricing equation. The shrinking of
trading/hedging market players has also resulted in degradation to the
liquidity" of natural gas pricing in certain markets and has also masked the
pricing impact that would otherwise take place given the physicalcharacteristics of the market.
Other Commodities - The price of oil and its ability to be substituted for
natural gas for energy requirements influences the price of natural gas given
the duel fuel capability of many electric generation units and other industrial
users.
Technoloeical and Efficiency Advancements - In the longer term, the
advancement of new and existing natural gas technologies and improvements
in efficiencies will play an increasing role in the demand for natural gas.
Distributed generation, for instance, offers promise in the industrial sector.
The reliability and flexibility offered by the on-site generation of electricity is
particularly important for the industrial sector, where loss of electricity could
have negative consequences , including spoiled products for a manufacturer
dependent on electricity. Advancements in the more efficient use of natural
gas continues to have a dampening affect on the residential, commercial and
industrial demand for natural gas.
Additionally, the market has begun to correlate movements in oil prices to movement's in natural gas
prices and, in so doing, changes to NYMEX oil prices have begun to influence even our regional natural
gas prices.
LNG - The pricing for this form of natural gas is increasingly subjected to
global influences like crude oil is today. This will add volatility and
additional risk when predicting prices beyond three years.
World events - World events , such as conflict in oil-producing regions and
growing energy demand from developing countries, can influence the price
of crude oil. This in turn influences the price of natural gas as industries
switch between fuels, driving up the demand for natural gas.
Again, it is very difficult to predict how these factors will combine to shape overall
demand and therefore influence price. A study of these fundamentals will, however
be used on a regular basis to influence Intermountain s Gas Supply Risk
Management Committee when applying its judgment as to price direction and in
evaluating the market risk inherent in certain W ACOG projections. In conjunction
with the application of these supply and demand fundamentals as well as other
judgmental applications , the Committee will also overlay historical prices onto
these projected prices as an added measure in determining the potential for future
significant price changes.
This Program and its Committee shall recognize that any decision by an entity as to
fixing or not fixing the purchase price of its natural gas requires the exercise of
considerable judgment. The decision to fix represents the entity's belief that prices
are going to or likely will rise significantly in the future and protection against such
a rise is desired. It can also represent the entity s desire to stabilize prices against
possible future price increases at a level that is considered workable in a particular
circumstance. The Committee must always remember that the ability to enter into
fixed price arrangements means the counterparty (selling party) believes the price
of the commodity is going to move in the opposite direction that the buying party
believes the commodity will move. In other words , any entity that enters into a
fixed price transaction must understand and accept the fact that the very next day
and every day thereafter the decision to fix the price will likely prove to be
incorrect (positively or negatively). That is why, in part, it is not an objective of this
Program to realize the lowest price for its purchase requirements.
Notwithstanding the above , the Committee is authorized to effectuate risk-reducing
transactions in an effort to mitigate the impact of significant price movements and
thereby stabilize customer prices. The application of these transactions will
2 Additionally, the market has begun to correlate movements in oil prices to movement's in natural gas
prices and , in so doing, changes to NYMEX oil prices have begun to influence even our regional natural
gas prices.
consider the overall fundamentals inherent in commodity pricing, and be directed
towards, 1) the volatility inherent in each of the Company s supply basins and, 2)
the volatility inherent in the natural gas commodity purchasing "seasons . In other
words, application of certain risk reducing transactions may be supply basin and
season specific.
The application of these risk-reducing transactions may be triggered by the real or
anticipated availability in the futures market of certain fixed price targets
established by the Committee in the application of the above mentioned
evaluations. The Committee will effectuate the application of certain risk
management transactions when and if the futures market affords the Committee the
option of fixing its un-hedged gas supplies at a price at or near those gas prices
currently embedded within the approved tariffs of the Company. The Committee
will also apply its judgment in determining what portion, if any, of its overall
supply needs should then be risk management transacted when and if these price
targets materialize in the marketplace. Additionally, the Committee will use its
judgment as to the type of risk management tool or product to utilize in the
application of these transactions. Appendix E more specifically describes the
Committee s hedging guidelines.
IGI will supply regular reports to the Committee that summarize existing financial
positions as well the corresponding W ACOG for a given PGA period(s).
CREDIT RISK
Credit Risk for the Company and its customers will be defined for the purposes of
this Risk Management Program as:
the uncertainty that a counterparty to a hedging transaction will be able to
fulfill its present and future financial obligation under that transaction and
the extent to which the Company existing credit capacity might be
constrained do to the incremental borrowing requirements (margin calls)
brought on by either rising natural gas prices or the failure of a hedging
counterparty to fulfill its contractual obligation.
The credit risk of each counterparty to a transaction will be researched by the
Company s Treasury Department and reported to the Committee. The Committee
will then determine the appropriateness of consummating a financial transaction
with those counterparties given the reported risk and recommend measures to
mitigate any risk delineated by the Treasurer s Report which the Committee feels
can be rectified.
The Treasury Department shall also report to the Committee what the "in or out of
the money" status is on existing financial contracts as well as perform "stress testsor functionally equivalent tests to measure the possible credit capacity
requirements of existing or contemplated transactions.
VI.FINANCIAL RISK MANAGEMENT EXECUTION
Intermountain will execute risk-reducing financial transactions pursuant to Hedge
Policy authority provided by Board Resolution and as directed by the Committee
only through its outside representative, IGI. IGI will then provide all trade
documentation in a form satisfactory to the Company.
Risk-reducing financial instruments will include, but may not be limited to, Over
the Counter ("OTC") financial instruments, as approved by the President for use by
the Committee. Examples of certain financial instruments available for the
Committee s consideration and use are outlined in Appendix D hereto. The market
parameters inherent in these instruments will be regularly reviewed by the
Committee in helping to determine the appropriateness of their use. The Committee
may also recommend that additional risk-reducing financial instruments be
considered. By the approval of the President, such additional risk-reducing financial
instruments may be employed by the Committee.
The Committee will approve financial counterparty criteria. The selection criteria
used to evaluate the attractiveness of potential and existing counterparties will
include credit risk, derivative pricing, quality of execution, margin requirements
back office" support, reliability, account executive, and confidentiality. Multiple
counter parties may be desirable. Appendix C hereto provides a list of currently
approved financial counterparties.
APPEND IX A
HEDGE POLICY BOARD RESOLUTION
CERTIFICATE
, JAMES E. SIMMERMAN, Assistant Secretary and Assistant Treasurer of
Intermountain Gas Company, DO HEREBY CERTIFY that the following is a true and
exact copy of a resolution duly adopted by the Board of Directors at a regular meeting
held May 3 2005.
RESOLVED, that for the purpose of stabilizing customer prices (but not
for speculation), Intermountain Gas Company (the "Company ) is directed and
authorized to enter into valid, legally binding natural gas and substitute energy
commodities and related currency futures contracts and swaps, as well as related
transportation basis swaps with one or more solvent, reputable and responsible
financial institutions( the "Gas Supply Risk Management Program
).
The
entering into and performance of such futures contracts and swaps, together with
necessary or convenient related agreements;md activities' shall be authorized
overseen and controlled by the Company s Gas Supply Risk Management
Committee consisting at a minimum of it's Chainnan, President and Chief
Financial Officer, and such other person or persons as the Chairman or, with the
Chainnan s prior authorization, the President may appoint in writing, which
appointment shall be reported to the board of directors at its next meeting. The
Gas Supply Management Committee shall designate authorized company
representatives and establish trading limits and aggregate transaction levels for
each of them and the Company. A review of the Gas Supply Risk Management
Program will be part of each audit by the Company s independent public
accountants as part of the annual audit of the Company s financial statements. It
is the intent of the Company not to act as agent in any commodities futures
contract or swap. The Company will act solely as principal in the transactions
and activities that comprise the Gas Supply Risk Management Program described
above except when expressly approved in writing by the Chainnan or President
circumstances justifying exception to this policy and provided that acting as agent
will not subject the Company to registration, licensing or reporting requirements
or regulation under any state or federal securities or commodities law or
re gulati on.
IN WITNESS WHEREOF, the undersigned has hereunto set his hand and the seal
of Intermountain Gas Company this 19th day of August, 2005.
APPEND IX B
GAS SUPPLY RISK MANAGEMENT COMMITTEE
MEMBERS
Gas SuWly Risk Management Committee Members
Chainnan
President
Executive Vice President Finance, Investments and CFO
Senior Vice President, General Manager Utility Operations
Vice President, Treasurer
Director, Gas Supply and Regulatory Affairs
Representative, IGI Resources, Inc.
Richard Hokin
William C. Glynn
Paul R. Powell
Eldon Book
Michael E. Rich
Michael P. McGrath
Randy Schultz
APPEND IX C
CURRENTLY APPROVED FINANCIAL
COUNTERP ARTIES
Currently Approved Financial Counterparties
B. P. Corporation North America
Prime Contact: Manager, Financial Risk Products
P. O. Box 3092
501 Westlake Park Blvd.
Houston, Texas 77079
Phone: ([phone]
Bank of America
Prime Contact: Jon Efken
111-003-27-
233 South Wacker Drive
Chicago, Illinois 60606
Phone: [phone]
CIBC
Prime Contact: TBD
crnc WorId Markets
11 th Floor
161 Bay Street BCE Place
Toronto, Ontario, Canada M5J158
Phone: [phone]
APPEND IX D
RISK MANAGEMENT INSTRUMENTS
Following is a list and short description of certain financial instruments available
to the Company for utilization in managing its commodity natural gas price risk
and exposure to volatility. While this list is not all-inclusive , it represents some of
the more common products utilized in the industry and available for review and
approval by the Committee. The first instrument listed, the "fixed for floating
swap , is the primary instrument currently utilized by the Company. As it relates
to most all, if not all, of the remaining instruments, it is imperative for the
Committee to include in its evaluation of the use of any such instrument (1) the
potentially significant embedded incremental cost of the instrument and (2) the
downside risk to the Company s and its customers' natural gas pricing under
certain price movement scenarios.
Fixed for Floatine Price Swat!
The most commonly used instrument, the fixed for floating price swap provides the
buyer the ability to convert its physical natural gas supply, which is being
purchased at a stated monthly or daily published index price, to a fixed price for a
selected period.
For example, assume a buyer is purchasing its gas supply for the one year period
beginning November 1 8t and priced at a published first of month index price for the
applicable delivery point. The current fixed price quote for such one-year period at
the delivery point is $3.75. The buyer of the fixed for floating price swap therefore
converts his indexed based gas price to a fixed price of $3.75 for the volume
chosen for each of the twelve months beginning November 1 8t
Price Cat!
A price cap is an instrument that provides the buyer of the cap the firm assurance
that his index price for the period chosen will never be higher than the cap strike
price. Each month the index price for the current month is measured against the
cap strike price. If the index price is higher than the cap strike price, the buyer
pays the cap strike price. If the index price is lower than the cap strike price, the
buyer pays the lower index price.
The buyer of this instrument pays for this assurance in form of a "premium . The
premium is generally paid up front when the buyer agrees to purchase the cap.
When the buyer purchases the cap, it will be more expensive if the cap strike price
is closer to the current market price (see example below). Also, the cap will
typically be more expensive the longer the term before the option expires.
For example , a buyer can purchase a $6.30 cap for a given published index (Cap
Strike Price 3) for the coming winter (November through March). The buyer
would be required to pay $1.08 / MMBtu for the assurance that he would never be
charged more than $6.30 from November through March for volumes purchased at
the delivery point. However, the premium cost for this price cap assurance if
purchased for 10 000 MMBtu per day for the winter period would
approximately $1.63 million.
Current Market Price (Nov-Mar)$5.
Cap Strike Price
Cap Premium Cost
$5.
$1.
Cap Strike Price 2
Cap Premium Cost
$5.
$1.
Cap Strike Price 3
Cap Premium Cost
$6.
$1.08
Price Collar
price collar is an instrument consisting of both a cap and a floor. This
instrument can be structured so that the buyer pays no premium (costless). The
buyer gets the firm assurance that the index price will never go higher than the cap
strike price and they avoid the premium cost of the cap. However, the cap
premium is "funded" by the buyer providing a floor for the index price to their
supplier. The buyer s price is locked into a range between the floor and the cap
during the term.
For example, a buyer can purchase a $6.10 cap for a given published index (Cap
Strike Price 1) for the coming winter (November through March). The buyer
would not be required to pay for the assurance that he would never be charged
more than $6.30 for volumes he purchases at the delivery point. However, the cap
is funded with a $5.32 floor the buyer provides to the supplier. In effect, the buyer
guarantees that he will pay between $5.32 and $6.10 for such supplies during the
winter.
Current Market Price (Nov-Mar)$5.
Cap Strike Price
Floor Strike Price 1
$6.
$5.
Cap Strike Price 2
Floor Strike Price 2
$6.
$5.
Cap Strike Price 3
Floor Strike Price 3
$7.42
$4.
Portfolio Pricing
Portfolio pricing is a methodical process whereby the buyer determines a time
frame (usually 3 to 5 years on-going) over which to periodically lock-in or fix a
portion of the pricing of its annual natural gas requirements. Typically a minimum
and maximum percentage of such annual requirements is identified such that at
certain points in time the buyer s usage for the multi year time period has been
fixed within the minimum and maximum range. The portfolio is structured such
that at the beginning of year one of the period the majority of that year s usage has
been fixed and a smaller percent of each subsequent year s usage has been fixed.
F or example, a portfolio of 5 years could be structured such that at the beginning
of year one the following percentage of annual requirements would be fixed as to
prIcIng:
Beqinninq of Period
Annual Requirements Percentaqe FixedMinimum Maximum
Year
Year 2
Year 3
Year 4
Year 5
800/0
600/0
400/0
200/0
100
1000/0
800/0
500/0
400/0
250/0
Extendables
An extendable is an instrument that allows a buyer to lock in a fixed price
substantially below the current market. The buyer gets the discounted fixed price
but funds the discount by providing the supplier the option (at the supplier s sole
election) to extend the term of the sale an additional year at the same fixed price.
For example, a buyer can purchase gas at a given delivery point at a fixed price of
$4.35 for April through October when the current market is actually $4.80. The
first year fixed price discount of $0.45 is funded when the buyer allows the
supplier (at the supplier s sole election) to extend the term of the sale at the same
price ($4.35) and for the same volume for an additional 12 months. The notice
period for the supplier to execute its right to extend is anytime up to 5 days prior to
the beginning of the second year
Current Market Price (Apr-Oct)$4.
Fixed Price if supplier has
the right to extend 1 year
at the same volume and
price
$4.
First Year Discount - $0.45
Participating,Qptions (Double URl
double up is an instrument that allows a buyer to obtain a discount to the
monthly index price. The discount is funded when the buyer provides the supplier
the option to double the volume any day or days during the delivery month for any
month of the term of the option. The price for any additional volume is the first-
of-the month index price.
F or example, a buyer can purchase gas at a given delivery point at a published
index minus $0.15 per MMBtu. The index discount of -$0.15 is funded when the
buyer allows the supplier (at the supplier s sole election) to double the purchase
volume any day or days of the month.
Current Market Price $4.
Index discount if supplier has
the right to double volume
any day during any month
at the index price
- $0.
Discount on 1 st tier - FOM less
Price of 2nd tier if sourced
- $0.
FOM
FOM = First of Month Index Price
IGI Pool
The IGI Pool is a purchasing strategy developed by IGI allowing a customer
manage its price for natural gas by entrusting the pricing decisions to the IGI staff
of traders. It works very simply. The customer can choose from up to three
pricing seasons and agrees to dedicate a daily baseload quantity of gas purchased
from IGI to a particular season. The seasons are:
November to March
November to October
April to October
IGI will then solely decide when to execute the various trades which ultimately
establishes a final fixed price for the selected season. IGI then reports its final
fixed price for the season to the customer usually within 30 days of the start of the
season. IGI through its expertise, timing and active participation in the daily
natural gas futures market believes it can develop a fixed price favorable to the
customer without the hassle of constant communication as to current pricing and
the "should we or should we not" decision which often times results in a buying
opportunity disappearing. The customer, however, must understand and accept the
fact that 101 cannot guarantee an ultimate savings versus the index.
APPEND IX E
HE GIN G G UID ELINE S
The Risk Management Committee is authorized to effectuate risk-reducing
transactions in an effort to mitigate the impact of significant price movements and
thereby stabilize customer prices. The terms "risk-reducing transactions
hedging , as used herein, refers to the option by the Committee to employ one or
more of the risk management instruments as more fully delineated in Appendix D.
The market parameters inherent in these instruments , which include the costs to
employ such instruments and their liquidity and credit implications to the
Company, will be regularly reviewed by the Committee in helping to determine the
appropriateness of their use.
The natural gas prices which make up the Company s Weighted Average Cost of
Gas are supply basin as well as seasonal specific. The application of risk-reducing
transactions will consider the overall fundamentals inherent in commodity pricing,
and be directed towards, 1) the volatility inherent in each of the Company s supply
basins and, 2) the volatility inherent in the natural gas commodity purchasing
seasons. In other words, in an effort to stabilize the Company s annual W ACOG
application of certain risk reducing transactions may be supply basin as well as
season specific.
The Committee has established certain "trigger" or "alert" points to help ascertain
when hedging actions by the Committee may be warranted. These alert points
represent a percentage variance as measured by the difference between the futures
market and the price points embedded within the ACOG included in the
Company s approved tariffs. The volatility of the natural gas futures market can be
extreme, both in terms of frequency as well as amplitude. The Committee will
employ risk-reducing transactions when, in the Committee s judgment, there is a
sustainable movement in futures prices. In other words , the Committee may not
employ hedging transactions based on short-term movements, or variances in the
futures market as compared to the W ACOG, if it does not believe these
movements or variances are sustainable. To do otherwise might subject the
Company s customers to unnecessary transaction costs and unsustainable prices as
well as subject the Company to burdensome liquidity risk.
The Committee will also apply its judgment in determining what portion of its
overall supply needs should be risk management transacted when and if these price
alert points begin to materialize in the marketplace in a sustainable fashion.
Minutes will be kept for each Risk Management Gas Supply Committee meeting
which will serve among other things, to document Committee decisions and
actions in relation to these hedging guidelines.
Attachment 1 to this Appendix illustrates the current trigger, or alert points
established by the Committee in relation to the currently filed W ACOG and what
volumes of flowing supply would be hedged transacted at each trigger point.
Appendix E, Attachment 1 , Page 1 of 1
Risk Management Committee
:J:!igger" or "A~ert" Points and Volumes Subject to Transactions
Triggerll or IIAlertll
+ 15%
+ 10%
% Volumes Subiect to Hedaina Transactions
Annual
WACOG
$8.42
$8.
$7.
$6.
$6.
10%
15%
$8.+ 15%Hedge additional 20% - 50%
$8.+ 10%Hedge 20% - 50%
$7.
Nov-Mar $6.10%Hedge 20%
WACOG $6.15%Hedge additional 20%
$5.- 20%Hedge additional 20%
$5.- 25%Hedge additional 20%
$5.- 30%Hedge additional 20%
$8.+ 15%Hedge additional 20% - 50%
$7.+ 10%Hedge 20% - 50%
$6.
Apr-Oct $6.10%Hedge 20%
WACOG $5.15%Hedge additional 20%
$5.- 20%Hedge additional 20%
$5.- 25%Hedge additional 20%
$4.- 30%Hedge additional 20%
(1) Variances between sustainable futures market prices and approved WACOG