HomeMy WebLinkAboutMinutes - August 20, 2002 SSCITY OF LODI
INFORMAL INFORMATIONAL MEETING
"SHIRTSLEEVE" SESSION
CARNEGIE FORUM, 305 WEST PINE STREET
TUESDAY, AUGUST 20, 2002
An Informal Informational Meeting ("Shirtsleeve" Session) of the Lodi City Council was held Tuesday,
August 20, 2002 commencing at 7:05 a.m.
A. ROLL CALL
Present: Council Members — Hitchcock, Howard, Land, and Nakanishi (arrived at 7:08 a.m.)
Absent: Council Members — Mayor Pennino
Also Present: City Manager Flynn, City Attorney Hays, and Deputy City Clerk Taylor
B. CITY COUNCIL CALENDAR UPDATE
Deputy City Clerk Taylor reviewed the weekly calendar (filed).
C. TOPIC(S)
C-1 "Energy Portfolio Restructure"
Electric Utility Director Vallow distributed copies of a chart depicting Lodi power costs with
and without restructuring (filed), and presented a report on current negotiations to
restructure the City of Lodi Energy Portfolio with the use of overheads (filed).
Mr. Vallow reported that last year consumers reduced their usage to save money and
conserve energy, and that currently the market and energy costs are more stable and
moderate. He shared that Lodi has experienced more than 31 straight days of 90° plus
weather this year, a record for the last 10 years. As a result, conservation efforts have
relaxed, and customers are using approximately 15% more energy than last year in
communities across the state. He shared that so far in July Lodi's billing process is
exceeding the Home Comfort Discount quarterly allotment of $450,000, with August and
September billing still to be calculated, which proves the discount was positive and the
outcome has been valuable to the community.
In response to Council Member Nakanishi, Mr. Vallow reported that the average customer
savings is $12 to $15 dollars on the electric service portion of their statements. He added
that some bills may be lower, but many would appear higher because customers used
more energy during this unusually hot July, and statements not only include electric
usage, but fees for water, sewer, and garbage services.
Mr. Vallow read from a recent article in the American Public Power Association (APPA)
newsletter, a quote by Moody Senior Vice President Dan Ashenbach which stated, "We
also note that public power's decisions to maintain ownership of generation have made
them long on resources, thus limiting exposure to wholesale market volatility." He shared
that this is the same Moody representative who in 1999 wanted to downgrade all
municipal utilities for holding on to electric generation. Mr. Vallow pointed out that City
activity is based on making sound decisions in response to rating agency opinions on
building regeneration, entering into long-term contracts, or chancing an industry
downgrade. He shared that the report further stated, "If utilities do not know the credit
standing of a supplier with whom they are doing business, they run the risk that the
supplier could default on the contract and create difficulties for the municipal electric
facility." Mr. Vallow shared that while that appeared absurd talk in 2000, with Enron and
Calpine corporations in the lead, all power marketers are currently rated at or below junk
bond status at this time, a reflection of how quickly the market has changed in two years.
Continued August 20, 2002
Electric Utility Director Vallow reported that Lodi reacted conservatively in entering into an
April 2001 contract with Calpine for $65 per Megawatt -hour (MWh) when the State was
entering into $110 MWh contracts. Lodi specifically went with Calpine, which was actually
building facilities at that time, making them a more stable counterpart. Recently, Calpine
has been downgraded indicating a perceived risk for Lodi. Should Calpine follow the path
of Enron, the power market will rise and Lodi will have to return to the market to replace
the existing high-cost contract with a more expensive one. Since February, the Electric
Utility Department (EUD) focus has been to refinance existing debt and take out working
capital for a restructured portfolio. In March, market activity slowed due to industry
investigations and drops in the stability of power marketers. The situation is now
improved, and EUD has engaged in negotiations to restructure the Calpine agreement to
reduce Lodi's level of counter -party credit risk of approximately 20% of peak load, which
is only 30% of Lodi's energy over an annual basis. EUD is conservatively working to
shape bulk power cost to more closely match load and revenue growth, reduce the cost,
and accelerate cash reserve growth, enhancing our financial status with rating agencies.
In response to Council Member Land, Mr. Vallow reported the City's reserve fluctuates
daily as receivables and payables shift, but at the end of July it was approximately $4.5
million including reserves and cash. Further, Lodi is eligible for approximately $3 million
through Northern California Power Agency (NCPA) as a result of pending settlements with
Pacific Gas and Electric (PG&E) and other NCPA members as a result of activities and
agreements during 2001. He stated that during the next ten years, EUD would focus on
delivering a reasonably competitive rate to customers, lower than Stockton and other
outlying areas. The contract with Calpine has value, a term, and a cash flow associated
with it, similar to that of a bond. Like a bond payment stream, the energy contract varies
as interest rates and underlying values affect it. The City has successfully taken an
opportunity in the past to refinance bond debt, most recently restructuring a bond for a
savings of 12%, far exceeding the normal guide of 5%. Lodi would like to repeat that
success with the current Calpine power contract.
At the request of Mayor Pro Tempore Hitchcock and Council Member Howard, Mr. Vallow
shared that the City pays $65 KWh on our current Calpine contract, and identified the
specific language within the contract that allows for negotiations toward restructure. The
contract signed last year was for a ten-year term, expiring December 31, 2011, but noted
that recently long-term power prices have dropped to historically low levels, just like
interest rates. Mr. Vallow reported that the City has measured the current contract value
at $65 KWh x cost of energy x ten years, and has set a goal to refinance the contract and
capture the savings.
In response to Council Member Nakanishi, Mr. Vallow clarified this would not be a
contract prepayment, but rather buying out the value of the contract so it could be
destroyed. The City would capture the savings of the difference between the current
market value and the contract value, and Calpine, who has no access to capital markets,
would receive the cash flow it needs right now to continue building. The benchmark has
been that saving 5% or more makes good financial sense. Lowering risk and leveling
cash flow are two additional points to consider, but just lowering the cost is a good reason
to move forward.
Council Member Land commented that the many changes since last year should dictate
that Calpine be approached to provide a good contract or renegotiate the current one.
Electric Utility Director Vallow stated the current contract is valid, and was negotiated,
signed, and accepted by both parties, and that the City would be best served by
negotiating a restructure to permit taking advantage of the current market value difference
and releasing its exclusive dependence on Calpine.
Council Member Hitchcock commented that the City should not be responsible for
continuing to meet the terms of its contract with Calpine should it fail to remain solvent.
Mr. Vallow noted that specific contract language actually provides that if a company does
not exist or fails to supply power, the City must buy power from the market. For example,
if the City buys power from the market at $20 below the contract value, the City still owes
2
Continued August 20, 2002
either the bankruptcy court or the company's successors that $20 difference. If the City
buys power from the market at $20 above the contract value, it would be due the
difference, but would also be responsible to collect this amount through bankruptcy or a
non-existent corporation. He stated this contract is still better than most, as it allows the
City to compel through the counts for a renegotiation. At the time staff was shopping for a
long-term contract, only Enron and Calpine were available, and the State, the biggest
buyer during that time, now has several cases pending in court.
At the request of Council Member Nakanishi, Mr. Vallow stated that ensuring the Lodi
load is lower than the restructured cost is vital, and that comparisons must be made on a
KWh basis, not an expenditure basis. He shared that while NCPA is an active and
successful advocate in representing the needs of its organization, it represents all
members as a whole and does not address individual member needs. EUD recently hired
Sandra McDonald, an investment-banking consultant, to lead the renegotiation along with
Boris Prokop of Borismetrics. With cost and load fluctuation, Lodi has a summer surplus
and an energy deficit in the winter. The goal is to lose the summer surplus as a retail
seller, and lower our exposure to the market in buying energy for peak load. Lodi had to
enter into a long-term contract that covered our largest risk position to ensure we met our
highest load needs. Current renegotiations include reducing the contract from ten- to
three-year terms with one-year renewal options. The cost to be rid of the current contract
will be about $40 million, and then Lodi will refinance a new agreement. The sum of the
two documents will be less than the current contract, but will possess added value of
lower cost and increased control.
At the request of Mayor Pro Tempore Hitchcock, Mr. Vallow shared that building
generation is not a consideration while the City is involved in a purchase contract, and are
not in need of 'around-the-clock' resources. The subject will become a topic of discussion
in the future as agreements expire and more power marketers go out of business and are
downgraded. When feasible, Lodi would likely join with a group of NCPA members with
opposite load patterns to benefit swapping out peak needs on an equal value basis. He
shared that the current value of power is $37 MWh base load, escalating to as much as
$52 MWh over a twelve-year period of time based on the current power market. Mayor
Pro Tempore Hitchcock stated she would support Lodi becoming more aggressive in
buying generation and getting involved with NCPA as a long-term goal.
In response to Council Member Howard, Mr. Vallow stated signing multiple short-term
contracts with different companies would be a strong consideration, especially in
recognizing Lodi's need for a certain amount of risk exposure. He shared that Lodi
purchases, sells, and burns an enormous amount of wholesale gas, the most of any
member of NCPA, and would benefit from participating in a contract with a gas index.
This would leave Lodi options toward building generation and moving into it, and in fact
Lodi is participating as a member, in NCPA resource planning. While we enjoy the
benefits of joint action and partnership with NCPA, it is only to the extent that it is mutually
beneficial. Lodi currently has 25 megawatts of a 45 MWh deal through NCPA, but our
particular individual needs place us out in front. The City's first duty is to adhere to the
schedule to meet the needs and maintain quality service to the customer, and to
renegotiate the Calpine agreement toward lowering Lodi's risk position by at least 50%.
At the request of Mayor Pro Tempore Hitchcock, Mr. Vallow shared that during the energy
crisis a variety of solutions were implemented, among them buying contracts, relying on
cash reserves, or purchasing large amounts of energy from Western. While it now
appears that Western was a better buy, currently at $20 MWh, it was the more expensive
power when Western proposed building lines for shared power in 1988. He stated that in
retrospect the cheapest action would have been to wait out the market for four months,
but at that time it appeared Lodi would then be looking at a $220 MWh power market the
following year. Lodi looked for stability and the ability to weather out the market based on
financing and cash reserves. While we spent an extra $10 million due to rising costs, we
did not spend the expected $22 million.
N
Continued August 20, 2002
Council Member Nakanishi stated he would be comfortable with 80% generation and 20%
market purchase. Mr. Vallow stated that the future may call for municipalities to join an
Independent System Operator (ISO), which would call for a new structure, a metered
substation to be located just inside the City. He stated that every KWh generated would
be exempt from ISO charges, and that while not a moneymaker, this would generate
savings to Lodi by cutting and maintaining costs. He shared that the best strategy is to be
self-sufficient, and Lodi is moving in that direction while working to lower customer costs
through programs such as the Home Comfort Discount.
D. COMMENTS BY THE PUBLIC ON NON -AGENDA ITEMS
None.
E. ADJOURNMENT
No action was taken by the City Council. The meeting was adjourned at 8:18 a.m.
ATTEST:
Jacqueline L. Taylor
Deputy City Clerk
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Goals Of Restructuring
■ Reduce level of counter party risk
■ Shape resource portfolio to more closely
follow load profile
■ Shape bulk power cost to more closely
match load/revenue growth
■ Accelerate growth of cash reserves
■ Maintain regional advantage in terms of
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Current Conditions
■ We have a 10 year contract with Calpine
25mw — base load @ $65 / MWh
■ Contract results in an annual cash flow stream -
just like a bond payment stream
■ Long term power prices have dropped to
historically low levels (just like interest rates)
Proposal
■ Defease ("blowup") existing contract by paying "mark -
to -market" difference discounted at Calpine's cost of
capital
■ Finance present value of "mark -to -market" at our cost of
capital
■ Replace power contract with contract which is better
suited to our resource needs
■ Structure repayment stream to smooth out annual bulk
power costs
A Current Conversation
■ What if power prices rise after the restructuring? Shouldn't
we wait and see?
If power prices rise, it just means others are paying more. It would
not mean that we would have been paying less.
Our objective is to lower our costs, period.
■ We shouldn't have entered into the contract in the first place!
agree. After all, predicting the past is much more accurate then
predicting the future. (Care to make a bet on the last NBA playoff
series?)
■ When are our rates going to drop?
No promises during this fiscal year, but I can predict never if we
don't make concerted efforts to lower current costs now.
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