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Understanding electricity in Montana : a guide to electricity, natural gas and coal produced and consumed in Montana (Volume 2002) online

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2001).

There is no unused firm capacity on the NWE system. This means that no one else of significant
size, such as a large industrial company, can obtain guaranteed, uninterrupted gas delivery on
the current system. By 2003, customer peak daily demand on the system will be an estimated
300 mmcf, and the system's maximum daily capacity will be matched by peak demand. At that
time, the system will have to expand to meet its projected peak load. The projected growth rate
of maximum daily load and thus of required daily pipeline capacity, excluding the proposed
Silver-Bow plant and the Montana First Megawatts plant, is 1.7 percent annually or 5 mmcf/day
annually. This growth would come almost solely from core customers (Waterman 2001).
Meeting the demands of the Montana First Megawatts gas-fired plant under construction (240
MW when completed) will require pipeline upgrades beyond those already needed in 2003. The
same is true for the proposed 500 MW Silver-Bow plant near Butte.

Montana-Dakota Utilities Co. (MDU) is the second largest natural gas utility in Montana and
accounts for about 25-30 percent of all gas sales in Montana. It distributes natural gas to most
of the eastern third of the state— Billings and areas further east. MDU uses the Williston Basin
Interstate/Warren (WBI) line for the transmission of its purchased gas. The WBI gas pipeline
provides service for other utilities and is regulated at the federal level by FERC. MDU buys its
gas from over 20 different suppliers. Most of its purchased gas is domestic with about 50
percent coming from Wyoming, various percentages coming from North Dakota and Montana,



III-6



and about 10 percent coming from Canada. MDU buys a certain amount of pipeline capacity on
the WBI to match what it feels will be needed for the busiest usage day, based on the number
of homes in its area. MDU expects less than 1 percent growth per year in its sales (Ball 2001).

Energy West (formerly Great Falls Gas Co.) is the third largest gas provider in Montana,
accounting for about 11-13 percent of all gas sales in Montana. The other Montana utilities
account for about 1 percent of all gas sales and include the Cut Bank Gas Company and Shelby
Gas Association. All of these rely on NWE to provide transmission service.

5. Natural Gas Prices in Montana and the U.S.

Natural gas prices are measured at different points in the gas supply system. The "wellhead"
price is the price of the gas itself right out of the ground. The "citygate" price typically reflects
the wellhead price /7/6/s pipeline transmission fees. The "delivered" price we pay in our homes
and businesses is the citygate price p/us\oca\ distribution fees and other miscellaneous charges
from the utility. Transmission and distribution fees are set by utilities and/or pipelines and are
regulated by state and federal agencies. The delivered price for natural gas is currently at least
twice the wellhead price in Montana. Thus, less than 50 percent of what residences pay in their
gas bill typically is for the actual gas itself, although this varies greatly by location.

Natural gas prices in the marketplace are measured in several ways. There are spot market
prices for immediate sales, and futures market prices for long-term contracts. Spot prices are
volatile and represent a small portion of market sales. One pays the current market price on the
spot market for natural gas, just as one would pay the current price for a stock in a financial
market. Futures prices is the cost of natural gas obtained by contract for delivery at some future
point at a set price. Futures contracts are more commonly used by larger buyers than spot
prices and cover purchases over some length of time. Northwestern Energy, as an example,
buys much of its natural gas for core customers using long-term contracts (1 year) to lock in an
acceptable price and to avoid large price swings on the spot market (Smith 2001).

Gas prices are measured at different market locations throughout the United States including
the Gulf Coast, the U.S. -Canadian border and the Northeast. Prices are also measured for
different end-user groups such as residential, commercial, or industrial consumers and electric
utilities.

The wellhead price for natural gas (which varies a bit from region to region) is set in the
national wholesale market, which was deregulated by the federal government in 1978. No state,
including Montana, can regulate this wholesale market. Because Montana continues to rely on
Alberta for much of its natural gas, what happens with Alberta gas directly affects Montana.
Alberta basically sets the wellhead price for natural gas in Montana and in other parts of the
U.S. that directly obtain their supply from there. The wellhead price of Alberta natural gas, in
turn, is determined by the North American free market, subject to the contract conditions
agreed to by each buyer and seller.

Prices in Alberta's main trading forms are determined by the AECOC index. This index, named
after the AECO C storage hub in Alberta, is the equivalent in our area of the New York

III-7



Mercantile Exchange (NYMEX) for gas and is very liquid for trading. The AECOC index generally
tracks the Henry Hub Index with some price differential. The Henry Hub Index is measured at
the Henry Hub in southern Louisiana, a major pipeline interconnection and transshipment point.
It is America's largest natural gas index and basically sets the nationwide price. AECOC's price is
often 20 to 30 cents cheaper per thousand cubic feet (Mcf) than the Henry Hub price due
mainly to its geographic location. Using the AECOC, gas can be bought in spot or futures
markets (Morris 2001).

Increases in demand for Alberta gas tend to cause contracted gas prices to rise in Montana, all
else being equal. Conversely, as exploration and drilling increase and Alberta's supply increases,
prices in Montana tend to go down, all else being equal. It is the interplay between the supply
and demand of Alberta's gas that has the greatest effect on the gas prices paid in Montana.
Today, this interplay occurs both on a national level and regionally for both supply and demand.

6. Future Price Increases and Price Volatility

The wellhead price Montana pays for gas is likely to remain fairly close (within the 30 cent
differential mentioned above) to average U.S. prices on the national market. Average U.S.
wellhead prices are expected to increase about 3 percent annually in the next 20 years. They
are expected to average $2.04/Mcf in 2002 and $3.20-$3.70/Mcf in 2020 using current dollars
(U.S. EIA 2001c). This modest increase will be driven by natural gas demand growth,
particularly in electric generation, and the natural progression of the discovery process from
larger and more profitable fields to smaller, more costly ones. The U.S. price this spring was in
the $2.50-$3.00/Mcf range. In contrast, the average U.S. gas price for 2001 was just over
$4.00/Mcf at the wellhead due in part to the energy crisis in California.

The Northwest Power Planning Council predicts that prices in our region in the long-term will be
about $0.30/Mcf below national prices due to AECOC's price differential with Henry Hub. It is
likely that any price differential will partially depend both upon how much Canadian supply is
available and how much pipeline capacity there is to get that gas to its demand base. Because
natural gas prices are determined on a national level, any single large project built in Montana
such as the proposed Silver-Bow plant should have no significant effect on the Alberta gas price
and thus no long-term effect on Montana's price (Smith 2001).

The U.S. Energy Information Administration, in its current short-term outlook, predicts that
wellhead natural gas prices over the next five months should remain in the $2-$3 range, with
prices easing toward the lower end of that range during the off-season in 2002. The U.S. EIA
predicts that the relatively low gas prices should persist throughout 2002 due to weak industrial
demand and relatively high gas inventories that are likely to continue throughout the winter,
assuming normal weather and barring any major supply disruptions. Expected reductions in gas
drilling due to currently falling prices, are likely to produce an increase in natural gas prices
going into 2003, especially if the U.S. economy stages a solid economic recovery beginning by
mid 2002 (U.S. EIA 2002). In 2002, EIA expects gas inventories to remain at relatively high
levels and expects the average annual wellhead price to be about $2.04/Mcf or about 50
percent of 2001 levels (U.S. EIA 2001c).



III-8



The final delivered price Montana customers pay (wellhead fees + transmission fees + delivery
and other fees) is likely to be significantly lower than average U.S. prices due mainly to
relatively low transmission fees in this state since we live fairly close to large gas producing
regions in Alberta. Average delivered natural gas prices for the U.S. are forecast to increase
slowly over the next 20 years at a rate of about 0.5 percent per year. Montana residences can
expect to pay a home delivered price of around $5.00-$5.50/Mcf through 2010 (in current
dollars), while the average U.S. residence can expect to pay $6.00-$7.00/Mcf (U.S. EIA 2001c).
These forecasts represent long-term averages.

Despite slow expected price growth over the next 20 years, many Montanans will likely see an
increase in their gas bill in July 2002. Although NWE currently has access to inexpensive Alberta
gas, these low price contracts for its core customers will end June 30, 2002. At that time, NWE
may not be able to secure such low prices and its Montana customers may have to pay gas
prices closer to average U.S. prices than at present. This could lead to an increase in gas bills
for NWE customers, all else equal. (Smith 2001).

Figure NG3. Price of natural gas in Montana



Fig. 3. Price of Natural Gas In Montana
(Adjusted for lnflation-2000 dollars)



o
o



$12.00
$10.00
$8.00
$6.00
$4.00
$2.00
$0.00




1


o


ID


O


ID


O


LO


O


IT)


o


in


o


LO


LD


CD


CD


r^


1^


00


00


CD


CD


o


CD


CD


CD


CD


CD


CD


CD


CD


CD


en


o

CM



- Residential
Commercial

■ Industrial

■ All Customers



Year



Source: Table NG3.

Figure NG3 shows de//vered natural gas prices in Montana adjusted for inflation and reported in
2000 dollars. These are the prices that residents and businesses see in their final energy bill
reflecting all charges. It is clear that prices for all consumer classes including residential,
commercial and industrial, were relatively low in real dollars (below $4/Mcf) until the 1980's.
Prices then rose in the mid-80's and have since settled in the $5-6 range. Natural gas still
remains a relatively inexpensive way to perform certain services such as heating one's home.



III-9



Although gas prices are expected to increase slowly in the long run, Montanans may be subject
to increasing gas price volatility from extreme or unexpected events such as the California
energy crisis of last year. One reason for this is the increased pipeline capacity from Alberta out
to the U.S. Midwest and East Coast. This increased capacity means that the wellhead price paid
in Montana today is closely tied to prices paid nationwide. National prices are sometimes
affected by unexpected events worldwide like cold snaps and political turmoil. The Pacific
Northwest, for example, now feels the effects of cold snaps in the Northeast that drain storage
fields and compete for gas with new gas-fired generators from California to Florida (WA OTED).
Events outside of Montana will affect prices in Montana more than ever before.

Price volatility also can be expected due to increased use of natural gas nationwide for electric
generation. Wholesale electric and natural gas prices are becoming intimately linked. Increasing
convergence of the electricity and natural gas markets means that extreme events like the
California energy crisis are likely to affect both electricity and gas markets simultaneously.
Increases in the price of electricity nationwide could increase the demand for and price of
natural gas as occurred in 2000-2001. Gas prices rose nationwide because supplies of natural
gas were temporarily tight, due in part to low storage and pipeline constraints. Utilities paid
more for natural gas than they did before, but high electricity prices encouraged them to
produce electricity anyway, further straining gas supply (Morlan 2001).

All of these factors affected gas prices in parts of Montana and much of the U.S. During 1998
and 1999, wellhead gas prices hovered around $2.00/Mcf at the Henry Hub. In the summer of
2000, wellhead prices had increased to about $3.60/Mcf and then shot up to $5/Mcf in the fall.
This was more than double the average spot price a year earlier. In late November, gas spot
prices moved past $6/Mcf, reaching as high as $10.53 on December 29, 2000. Since that point
spot wellhead prices have fallen and are back down to "normal" levels under $3 on the NYMEX.

The effects of new gas-fired power plants around the nation upon Montana's gas supply and
price will depend on the number and timing of both the new plants coming on line and available
gas supplies (WA OTED 2001). While the demand from new gas-fired power plants in California
and other western states will place pressure on the Northwest's natural gas infrastructure,
Montana's infrastructure that runs directly from Alberta and Wyoming will likely not be as
strained. Thus, Montana will likely experience more moderate price fluctuations than in other
areas of the U.S.

This convergence of the electricity and gas markets bears a number of implications for regional
electricity and natural gas utility systems and for industrial customers purchasing their supplies
directly. Electric utilities that were caught short in the 2000 energy crisis will likely pursue
strategies that provide better insurance against future price volatility. New electric generating
facilities that do not use natural gas will be more attractive options. For example, BPA
announced in Februar/ 2001 that it would seek to acquire up to 1000 MW of wind power, at
least partially because of the hedge that fixed-priced wind power could provide against volatile
natural gas prices. NWE included 150 MW of wind generated power into its proposed default
supply portfolio. Finally, energy efficiency investments are also more attractive than they have
been in recent years. BPA, for example, announced that its conservation and renewables
discount plan would begin several months earlier than previously planned.



III-IO



The California energy crisis and high gas prices during that time point out three lessons for
Montana. First, our natural gas prices are affected by a number of factors beyond any one
entity's or state's control. Second, the growing use of natural gas for electricity generation has
the potential to upset the traditional seasonal patterns of natural gas storage and withdrawals.
This could lead to high or volatile prices not experienced before. Finally, to the extent that the
western United States depends on natural gas for new electricity generation, the price of natural
gas will be a key determinant of future electricity prices. Economic theory suggests that in the
long run electricity prices will be equal to the cost of new sources of gas.

7. November 2002 Addendum

Price Increase for Northwestern Energy Customers

The majority of natural gas consumers in Montana soon will be exposed to market prices as a
result of energy deregulation. NoriihWestern Energy's (NWE) 158,000 consumers may face a 35
percent increase in their natural gas bills by mid-December under a proposed rate hike filed with
the state Public Service Commission (PSC) on November 13, 2002. NWE (formeriy Montana
Power Company) seeks a $54.2 million annual increase in natural gas revenue in Montana due
to higher projected costs of supplying gas.

According to the company, the typical NWE customer using 10 dekatherms of natural gas
monthly would pay $16.10 more in natural gas bills each month if the PSC approves the full
request. The total bill for this consumer would increase from the current $46.04 to $62.14 a
month. NWE asked the PSC to allow the requested rate increase go into effect on a temporary
or interim basis on December 15, 2002. When the PSC makes a final decision, rates could be
adjusted for any differences between temporary and final rates.

Natural gas customers of NWE historically have paid relatively low energy rates. Prior to the
restructuring of the natural gas industry, government regulations kept prices low. Then, in
1997, as part of Montana Power's deregulation process, MPC sold the natural gas assets of its
affiliate NARCO to Pan-Canadian (now merged into ENCANA). Through that deal, MPC received
a five-year, inexpensive gas contract fixing the price of gas at about $1.60/Mcf through June 30,
2002. NWE received around 40% of its gas from this fixed-price contract. When the contract
expired last summer, the price of gas on the open market was about double that under the
contract.

The price change requested by NWE must be approved by the Public Service Commission in
what is called a 'tracker' hearing. A tracker hearing covers only the cost of purchased gas, and
not any of the other costs of the utility. Trackers usually are routine procedures. Due to the
potentially large increase in gas prices for the next tracker filing, however, this hearing may be
less routine. The two main issues at this hearing will be deciding whether the contracts into
which NWE entered were prudent (and therefore the extent to which the costs should be ■
passed on to the consumer), and determining how to phase in the large rate hikes to consumers
caused by increased exposure to the market.



III-ll



National Situation

In the U.S. as a whole, supplies of natural gas should be sufficient to satisfy all residential
consumers' needs through the 2002-2003 winter season. This is assuming normal winter
weather and no catastrophic disruptions of supply. According to its "Winter Fuels Outlook: 2002-
2003, October 2002," the U.S. Department of Energy Information Administration estimates that
the average residential price of natural gas will be about 6 percent higher than last winter, and
that the total amount paid for gas consumed by residential customers during this winter will be
about 19 percent more than last winter

(http://www.eia.doe.gov/emeu/steo/pub/pdf/win0203.pdf). These estimates are based on two
assumptions: First, a return to normal winter temperatures will result in colder weather than the
relatively mild weather of last winter, thereby increasing the amount of gas used per household.
Second, along with increased gas use per customer, the increased overall demand is expected
to result in higher prices. How these national trends will affect Montanans, in addition to the
NWE price hike, remains to be seen.

Extensions of Current Northwestern Pipeline System

Northwestern Energy's natural gas pipeline system will require expansion in the next few years
to meet the growing demand from its customer base. This growth is largely due to new
residential and commercial development and a growing population in the system area. NWE has
some remaining excess capacity on its current system, and plans no expansions in 2003. In the
future, NWE intends to build partial loops (in addition to existing loops) on its gas lines to
Kalispell and Missoula in order to increase capacity to those areas. The Bitterroot Valley (fed by
the Missoula line) and the Flathead Valley (fed by the Kalispell line) were two of the fastest
growing areas in Montana in the 1990's. The time scope of these two loop extensions is within
the next two or three years.

Any new gas fired electrical generation would require pipeline expansion beyond that described
above. Additional expansions would depend, in part, upon the progress of generation projects
such as Montana First Megawatts (Great Falls), Basin Creek (Butte) and Silver Bow (just west of
Butte). The first two developments are under construction. Currently, the status of the Silver
Bow plant is uncertain. It has not yet begun construction and its permits currently are being
challenged in court. The amount of pipeline expansion needed will depend on which plants
actually get built. Nationwide, many gas plants proposed to go online in the next few years have
been cancelled due to a variety of factors including lower electricity prices and slower growth in
demand for electricity.

Update On Coal Bed Methane

Coal bed methane (CBM) gas development in the Powder River Basin of Southeastern Montana
is currently on hold until the final Environmental Impact Statement is released. The U.S. Bureau
of Land Management and the Montana Department of Environmental Quality are the co-authors
of this document. The final EIS probably will be out in January 2003. Recent higher natural gas
prices in the $3.50/Mcf range are likely to increase the interest in developing CBM. Some
residents in Montana have forcefully opposed methane development, especially in or near the



III-12



Powder River Basin and in Park and Gallatin counties. A development timetable is unknown at
this point.

References

Ball 2001

Ball, Don. Montana-Dakota Utilities. Personal communication. November 2001.

MBOGC2001

Montana Board of Oil and Gas Conservation, 2000 Annual Review.

Morlan 2001

Morlan, Terry. Northwest Power Planning Council. Personal communication. November
2001.

Morris 2001

Morris, Dave. EUB Communications. Personal communication. November 2001.

Smith 2001

Smith, John. Northwestern Energy. Personal communication. November 2001.

US EIA various

United States Energy Information Administration. Natural Gas Annual Report, 1950-
1999.

US EIA 2000

United States Energy Information Administration. Annual Energy Outlook 2001.
December 2000.

US EIA 2001a

United States Energy Information Administration. Short-Term Energy Outlook, February

2001. February 2001.

US EIA 2001b

United States Energy Information Administration. Summar/ Statement of Beth Campbell
Energy Information Administration, Department of Energy before the
Subcommittee on Energy and Air Quality, Committee on Energy and Commerce,
U. S. House of Representatives on Natural Gas February 28, 2001.

US EIA 2001c

United States Energy Information Administration. U.S. Natural Gas Markets: Mid-Term
Prospects for Natural Gas Supply. December 200 1 .
US EIA 2002

United States Energy Information Administration. Short-Term Energy Outlook, February

2002. February 2002.



III-13



WAOTED2001

Washington State Office of Trade & Economic Development (WA OTED). Convergence:
Natural Gas and Electricity in Washington, A Survey of the Pacific Northwest
Natural Gas Industry on the Eve of a New Era in Electric Generation. May 2001.

Waterman 2001

Waterman, Jay. Northwestern Energy. Personal communication. November 2001.



III-14



Table NG1. Natural Gas Production and Average Wellhead Price, 1950-1999





Federal Statistics










Gross Value




Gross


Marketed


Average^


of Montana




Withdrawal'


Production^


Wellhead Price


Production


Year


(MMcf)


(MMcf)


(S per Mcf)


(thousand $)


1950


40,975


38,972


$0,053


$2,066


1951


36,897


36,225


0.055


1,992


1952


29,140


28,557


0.061


1,742


1953


28,245


27,736


0.059


1,636


1954


30,532


30,087


0.068


2.046


1955


28,841


28,100


0.067


1,883


1956


26,852


25,706


0.068


1,748


1957


30,830


28,481


0.072


2,051


1958


30,830


27,836


0.068


1,893


1959


32,819


30,575


0.075


2,293


1960


37,792


33,235


0.071


2,360


1961


36,798


33,716


0.074


2,495


1962


32,621


29,791


0.074


2,205


1963


31,228


29,862


0.075


2,240


1964


26,653


25,050


0.078


1,954


1965


29,800


28,105


0.082


2,305


1966


36,048


30,685


0.083


2,547


1967


31,610


25,866


0.084


2,173


1968


32.229


19,313


0.091


1,757


1969


68,064


41,229


0.102


4,205


1970


48,302


42,705


0.103


4,399


1971


38,136


32,720


0.121


3,959


1972


38,137


33,474


0.123


4,117


1973


60,931


56,175


0.236


13,257


1974


59,524


54.873


0.253


13,883


1975


44,547


40.734


0.433


17,638


1976


45,097


42.563


0.445


18,941


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