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Indiana Gasification Answers Critics

Vectren Attacks on Indiana Gasification Project Are Suspicious and Misleading

ROCKPORT, Ind., Oct. 10, 2012 /PRNewswire-USNewswire/ -- Indiana Gasification (IG) today answered critics of its coal-to-natural gas plant to be built in Spencer County. IG is responding to recent comments made by State Senate Minority Leader Vi Simpson, who last week stated, "I don't think it's appropriate for the state on behalf of the ratepayers to speculate in the natural gas market."


IG co-developer Bill Rosenberg answered. "Under the status quo, the state leaves ratepayers 100 percent exposed to volatile swings in the commodity markets. There couldn't be anything more risky for ratepayers than what the state already does. That's precisely what the IG project addresses. For a fraction of supply, it replaces the economics of gas with the economics of coal, which is much more stable," Rosenberg said.

Rosenberg said Simpson was probably referring to the fact that the state acts as the intermediary to achieve this supply diversification. "Senator Simpson said that the IG-IFA contract was against all the free market principles she believes in. But forcing consumers to remain captive to a state-sanctioned monopoly is hardly a free market. The IG project will bring a dose of competition that will benefit everyone," Rosenberg said.

In an op-ed in the Sunday edition of the Indianapolis Star, Rosenberg and IG Project Director Mark Lubbers answered recent criticisms leveled at the IG plant by Vectren Corporation. The previous week Vectren publicized a claim that the IG project would cost ratepayers more than a billion dollars in the first eight years of operation when in fact the IG project guarantees consumers will save $100 million over the course of its contract with the state. 

"Vectren cooked the books," said Lubbers. "And Vectren understands completely why its analysis is flawed. They know that thinly traded futures options are no predictor of future gas prices. They know that if gas prices are as low as they say, then coal prices will also be low and the price of substitute natural gas (SNG) has to be adjusted downward. And Vectren knows that the only right way to assess the economics for the consumer is to consider the entire gas bill, not just the 17 percent of the gas bill represented by IG's gas."

"It is quite curious," said Lubbers. "Here is a company with no apparent stake in this policy pulling out all the stops to kill this project. There is definitely more to this story."

Rosenberg said that it was highly suspicious that Vectren was trying to kill a plant that will provide billions of dollars in economic benefits to Indiana over the term of the contract. "Since Vectren is trying to kill the plant," Rosenberg said, "the economic analysis that's really needed would compare what will happen to ratepayers if they are left 100 percent captive to Vectren. And if you run those numbers you stumble into some amazing facts."

When Vectren calculated its so-called "consumer losses," it compared the SNG price to the Henry Hub (HH) price for natural gas, the price set at a major transportation center off the coast of Louisiana. But Vectren customers don't pay the HH price; they pay Vectren's cost of gas, which is the amount it pays to its unregulated subsidiary, ProLiance. (Vectren purchased 97% of its gas from ProLiance last year, up from 71% in 2007.)

According to Vectren's 2011 Annual Report, the average price paid by Vectren for its gas over the last five years is $7/MMbtu. On average, this is $1.37 more than the HH price.

Data from Vectren's Annual Report and government sources show:

  • Vectren has paid an average price for natural gas that is 24 percent, or $1.37 per million Btu above Henry Hub prices over the last five years (sources: Vectren's 2011 Annual Report, page 15, and EIA Henry Hub price data).
  • Vectren's gas purchases, 97 percent of which were from its own ProLiance subsidiary in 2011, cost $628 million more than HH prices over five years (sources: Vectren Annual Reports and EIA Henry Hub price data).  
  • Vectren continues to lose money from its natural gas investments at an alarming rate. It lost $23 million in 2011, $7.9 million in 2010 and $2.3 million in 2009 from its investment in ProLiance (source: Vectren's 2011 Annual Report, page 48). Year-to-date through June 30, 2012, Vectren lost $11.1 million from ProLiance (Vectren press release, August 1, 2012).

Rosenberg said the transportation cost from Henry Hub would only be a fraction of the $1.37 mark-up and that it wasn't easy to tell what the rest is. "For the entire period under review, Chicago City Gate prices were within pennies of the HH price and it doesn't cost much to move gas from Chicago to the Vectren service territory, so there's a lot of cost to explain," he said.

Rosenberg and Lubbers said that it doesn't appear that Vectren's business practices are aligned with its customers. In contrast, the Indiana Gasification contract with the state assures complete alignment of interests between the company and the consumer, including the fact that IG's entire net worth could be forfeited to meet its consumer savings guarantee of $100 million. That is why the Indiana Utility Regulatory Commission (IURC) found that the Indiana Gasification project will provide "unprecedented consumer protections," not cost consumers $1.1 billion as Vectren has claimed.  

In addition, the Indiana Gasification project will diversify the supply of natural gas for Indiana consumers, reducing exposure to volatile natural gas prices and keeping billions of Hoosier dollars in the state while bolstering America's energy security and leading the way on environmental quality.

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Indiana Gasification Responses to Recent Claims

Claim:  The Indiana coal-gasification plant obligates Indiana customers to pay for the plant's gas, which would add $1.1 billion to utility bills over eight years. Vectren Corp. estimates all residential gas customers would see their gas bills increase an average of about $3.90 per month during the period for a total cost of $375 per consumer.

Response:  False. Vectren is inappropriately relying on a thinly traded options market as a predictor of market prices 10 or more years in the future. The options market is not a predictor of future prices and is so thinly traded more than about three years out that it is pure hyperbole to use as a price indicator (Attachment 1)

The reality is that natural gas prices are highly uncertain and subject to unpredictable spikes, which is a reason why the Indiana Gasification project makes so much sense. The Indiana Utility Regulatory Commission said it best after considering thousands of pages of testimony leading to its approval of the SNG Agreement:

We find there is only one clear and undisputable conclusion that can be reached, which is that there is considerable uncertainty with future natural gas supply and prices, and gas prices are volatile and unpredictable. Even natural gas experts have diametrically opposed views on future market and pricing expectations. The SNG Contract must be considered in light of this undeniable uncertainty. Fundamentally, the Commission views price uncertainty as supporting the case for supply portfolio diversification.

Vectren is making up numbers based on made up numbers. What is not a made up number is that Vectren's cost of natural gas over the last five years has averaged $7/MMBtu, which is $1.37/MMBtu (24%) higher than Henry Hub prices (the options market Vectren is basing its future prices on are options traded around Henry Hub prices) and resulted in $628 million of added cost over the period (Attachment 2).

Prices for natural gas traded in Chicago were nearly identical to Henry Hub prices during this period. Vectren purchases the vast majority of its gas (97% in 2011) from its own unregulated affiliate at much higher prices. 

The Indiana Gasification project is contractually guaranteed to save consumers $100 million over 30 years. Nobody knows for certain what natural gas prices will be in five years when the Indiana Gasification plant begins commercial production, but there is significant evidence they will be much higher than today - natural gas drilling has fallen drastically because it is uneconomical (Attachment 3), the power industry is using more and more natural gas as coal plants are replaced, and efforts are underway to begin exporting gas from the U.S.

Claim:  "When this project was first announced, it made a lot of sense because there wasn't this same amount of gas in the marketplace as there is today," Vectren CEO Carl Chapman said. "Times have changed. Shale gas has driven the cost of natural gas lower. The plant is not right at this time."

Response:  The plant is not open "at this time."  It would not begin commercial production for five years. Overproduction of natural gas in recent years, largely due to overdrilling of shale gas, has depressed current prices. However, substantial evidence now shows that shale gas producers "are losing our shirts," as ExxonMobil CEO Rex Tillerson said last summer, and have dramatically curtailed drilling.   

SEC filings from major producers indicate the average cost of production is around $7/MMBtu (Attachment 4). This is with nothing added for profit. Companies are in distress, cutting and shifting production, selling assets, and taking write downs. Markets do correct, and in the energy industry corrections create price spikes and volatility - these cyclical trends are what Indiana Gasification's project will help protect consumers against.

It is now projected shale gas will provide more than 50 percent of all U.S. natural gas in the future and that all other major supply sources in the U.S. (as well as imports from Canada and Mexico) will decline or remain flat (Attachment 5).

A recent report by the U.S. Geological Survey summarized its assessments of gas recovery (estimated ultimate recovery, or EUR) expected from various shale gas plays. The USGS assessment indicates substantially lower expected gas recovery (about 50% lower) than the estimates used by the Energy Information Administration.    

Claim:  "The Energy Information Administration projects prices to remain below $5 until 2023," said Teri Viswanath of investment banker BNP Paribas in New York.

Response:  The Energy Information Administration (EIA) provides a variety of different scenarios for forecasting future gas prices. In its most recent Annual Energy Outlook, the EIA included 30 different forecast scenarios (Attachment 6). In a scenario consistent with recent findings about shale gas production, gas prices rise to $7.95 per MBTU by 2023. The reality is, however, the EIA has a terrible track record predicting natural gas prices -  its own self-evaluation shows it does worse predicting natural gas prices than any other energy commodity and has a track record of significantly under predicting prices. All long-term energy price forecasts are driven by a vast array of underlying assumptions that make accurate forecasts almost impossible, which is why EIA and others produce so many different scenarios. Many analysts agree that a higher price scenario is likely due to increasing demand and lower production as more is learned about shale gas production and economic uncertainties.  

Claim: If the state makes a profit, the money would be split evenly between Leucadia and natural gas customers who would see their rates reduced. But if the state loses money on the deal, ratepayers would make up the entire loss in their utility bills. 

Response:  This is a reference to the market differential that will be calculated each month during the contract, and it is not correct. Which party benefits from the profits or bears the losses is dependent on the cumulative performance to date. If there are losses, the first $150 million are covered by the Consumer Protection Reserve established by IG for the benefit of ratepayers. Losses beyond the $150 million are covered by ratepayers. If there is a profit, 100 percent of it goes first to whichever party has a negative cumulative account. If both IG and IFA are cumulatively negative or positive, the profit is split 50-50.     

Claim:  The abundant supply of shale gas led Illinois Gov. Pat Quinn last month to veto legislation that would have forced many Illinois gas ratepayers to help finance another synthetic gas plant proposed by Leucadia.

Response:  The State of Illinois in July fully approved 30-year SNG contracts between two major gas utility companies and another Leucadia affiliate, representing an economic structure similar to the Indiana Gasification contracts. These contracts have been vetted by numerous state agencies, with capital costs, operating costs and rate of return fully scrutinized and approved.  Governor Quinn vetoed a bill in August that would have made technical changes to some of the allocations of costs underlying those contracts. However, the current contracts do continue in effect and the governor has stated publicly that he wants the project to go forward.  Previously the governor signed four other bills into law supporting the project. The Chicago project is exploring options for moving forward, and Leucadia remains committed to the project's success.

Claim:  Indiana Gasification has publicly said that the requirement that it provides a guarantee only means that IG promises that it will make a commitment and not that IG will actually fulfill its commitment. In furtherance of its "promise," Indiana Gasification has proposed to fund an account of $150 million.

Response:  This is completely false. The guarantee of savings is far more than a promise. The guarantee is secured by a lien held on the plant by the IFA. The unrefuted testimony in the IURC consideration of the IFA-IG contract is that the nominal value of the plant at the end of the contract is $4.5 billion, which is more than even the worst-case scenario presented to the IURC by Vectren.

The $150 million Consumer Protection Reserve (CPR) is IN ADDITION to the savings guarantee, not "in furtherance of it." The CPR simply provides an extra layer of protection in the early years of the contract when the IFA believed it was most likely that the SNG price might be higher than the volatile spot market price.

Claim: "Using today's NYMEX price, we (Vectren) can purchase gas years into the future below the SNG cost."

Response:  How many futures market contracts to take delivery on gas during the first 10 years of the plant's life (2018-2028) does Vectren or Proliance hold?  If Vectren "can" do this, they should be locking in these low prices NOW to fill the 83 percent of supply that they are still responsible for.

Claim: "The developers of the SNG plant are now seeking a federal loan guarantee similar to the one provided to Solyndra." (Vectren Release)

Response:  False. The loan guarantee that would help finance the SNG plant is NOT "similar to the one provided to Solyndra." The IG loan guarantee is a Section 1703 loan guarantee (passed and signed into law in 2005). Solyndra received a loan guarantee under the Section 1705 program (passed and signed into law in 2009).

Under section 1703, the project must be rated by outside ratings agencies (like S&P or Moody's) and the borrower must pay any credit subsidy fee to cover the risk of default.

In the 1705 loan guarantee program that Solyndra participated in, Congress paid for the credit subsidy that borrowers owed, inviting abuse by projects that were not credit-worthy.

SOURCE Indiana Gasification