Steve and Dave,

As a follow up from our meeting on August 16, we all had the question about what, if any, price risk we had on the fuel portion of the Index to Index deals.  Here are my thoughts...

For purposes of this discussion, let's just talk about how the Dynegy, San Juan to SoCal Needles firm transport for 35,000 MMBtu/d for Calendar 2003 could impact our fuel risk.  Dynegy will not be giving us fuel in-kind for this transaction.  All fuel needed for scheduled volumes on this contract will have to be provided by TW.   In a normal year TW over collects approximately 25,000 MMBtu/d in fuel.  Because we will now need some of this over collected amount to provide the fuel for the Dynegy deal, we actually have something less than the 25,000 MMBtu/d for the total 2003 fuel over collection.  To make the math easy to follow for purposes of discussion, let's assume after all of the Index to Index deals for 2003, we will only have 20,000 MMBtu/d of over collected fuel on the system.  We will need the remaining 5,000 MMBtu/d as fuel for the Index to Index deals.  Let's also assume that we have hedged or plan to hedge (by means of the whole calendar year, seasonally or monthly) the 20,000 MMBtu/d of 2003 over collected fuel.  The remaining 5,000 MMBtu/d of over collected unhedged fuel is what will be used to provide the fuel for the Dynegy deal.  

It is my thought that the price risk question surrounds the 5,000 MMBtu/d of the remaining over collected fuel that is not hedged.   On any day where Dynegy would schedule the full 35,000 MMBtu/d to flow, the fuel actually burned on that day for Dynegy would have the same value as all other shippers who provided in-kind fuel on that same day.  The other shipper's in-kind fuel (I'm referring to the 5,000 MMBtu/d that is not hedged) is what is actually used to provide fuel for Dynegy.  On this particular day, we do not have additional adverse price risk.  However, on any day that Dynegy does not have the full 35,000 MMBtu/d scheduled to flow, we have an opportunity loss on the value of this fuel.  If Dynegy does not flow all or any volumes on their contract on any given day, there is no fuel burned.  This means that we now have extra gas, that was not previously hedged, in the pipe provided by the other in-kind shippers that we do not need for Dynegy on this particular day.  Now we are subject to selling this extra gas at current cash prices verses having the ability to hedge this volume ahead of time at a price that we felt meet our fuel hedging strategy, thus creating an opportunity loss.  

Would you agree that our risk is when Dynegy does not flow?  Would you agree that there is no additional price risk when Dynegy does flow?  

Thanks, Kim.