Curtailment: It Can Happen To You

September 2014, Vol. 241, No. 9

Neal Shaw, U.S. Energy Services, Kansas City, MO

It’s no secret that last winter was one of the worst on record for the United States. The natural gas industry may have been hit the hardest, with prices rising due to the high level of demand that comes along with below zero temperatures and diminishing supply.

Due to the extreme temperatures, the interstate pipelines worked hard to keep the gas flowing at maximum capacity in order to meet the high energy demands of the pipeline’s customers. Absolutely nothing in the pipeline could fail without causing some fluctuation in price or supply at some point in the delivery chain.

TransCanada Pipeline (TCPL) experienced a fire on the Emerson lateral on Jan. 25 which caused prices for natural gas to skyrocket. Many interruptible and firm natural gas customers in the Midwest were curtailed, facing a reduction of gas deliveries for hours and even days due to a shortage of supply as demand for service exceeded capacity.

Some plants and facilities were prepared with emergency plans in place and access to alternative fuels; others were not. As a natural gas customer, it is important to know how to prepare for curtailment and the necessary plans to engage during curtailment. This article will explore how plants and facilities can do just that, rather than be caught off guard when curtailment occurs.

Expecting Curtailment
There are two types of curtailment. The first is what several major natural gas pipelines experienced in January, when the cold was so widespread from coast to coast and border to border that pipelines were unable to deliver adequate supplies. On these extended cold days, the pipeline does not have a chance to recover. The natural gas stored during the warmer months is often very low late in the winter due to heavy withdrawals and the lack of opportunities for replenishing storage volumes.

Normally, there are chances to increase this local inventory as the country experiences warmer days over the course of the winter season. Last winter, however, was especially bad due to the duration and frequency of each cold snap and the large geographic area affected. There was never an opportune time to refill gas storage, resulting in a higher probability of curtailment.

The other type of curtailment is caused by a rupture, which is an extremely severe issue as both firm and interruptible customers can be affected. When a rupture occurs, pipelines are unable to meet load demand, so loads are cut drastically. Prices tend to follow supply and demand rules: demand gets tight, prices rise.

Effects Of Curtailment

Robust capacity and flow through some segments of the pipeline make certain geographic areas much more likely to remain fully supplied even under peak demand conditions, such as rural areas where less natural gas is used. Depending on the weather, certain areas of the pipeline may still be able to deliver the amount of gas needed, even if other regions have called critical days – when a pipeline is unable to attain the proper pressure needed to deliver gas.

Critical or penalty days are implemented by the pipeline when it may be unable to maintain the necessary pressure/supply to deliver gas. Some pipelines are spread across such a large geographic area that a single pipeline can be affected by multiple weather patterns at the same time. During periods of extreme cold, a pipeline’s foremost job is to manage its supply and pressures to maintain deliverability.

If the pipeline operator knows where there will be difficulty delivering gas, he will call a critical or a penalty day to “encourage” customers to carefully manage their use. Interruptible service customers will be told when they’ll be curtailed so they can scale back. If customers take more gas than originally nominated, they’ll pay severe penalties, which can add up to many thousands of dollars.

When facing a potential curtailment period, facilities and plants have to consider more than simply losing natural gas supply – the cost of natural gas must also be considered. Extreme cold snaps can cause the demand to increase significantly, resulting in prices increasing alongside demand before a curtailment goes into effect. Knowing how the supply and cost of natural gas will affect a company’s operations is key to planning and weathering curtailment.

For both firm and interruptible customers, curtailment periods can upset a company’s operations and ultimately the bottom line. Below are recommendations to get companies through these periods with maximum peace of mind and minimum economic impact.

Interrupted Service
Interruptible customers are the first to be curtailed, a less-than-ideal situation for most. If pipelines can alert customers in advance of their inability to deliver natural gas, some may willingly shut down, especially those that don’t need extra gas to simply maintain appropriate indoor temperatures and operations. This allows pipelines to focus on other life-threatening gas demands such as those at hospitals.

Ruptures can result in serious price increases, which is exactly what happened in the Midwest last January. The explosion in Canada affected deliveries to the middle of the heartland, which resulted in high gas prices in the $40-80/Dth range, plus penalties of as much as $113/Dth for taking more gas than originally nominated. This represented an extremely expensive price increase from the normal price range of $3-5.

Weighing Cost-Benefit

One way to avoid unexpected gas price spikes is to consider hedging gas ahead of time – buying a certain amount in advance at a fixed price. Before the cold winter, the importance of hedging had been somewhat diminished due to the excess gas on the market brought about by the shale phenomenon. Many companies don’t want to risk paying a higher price for gas, so they purchase gas daily or monthly to stay on top of price fluctuations.

However, volatile weather can have a huge impact on the natural gas market as it did last winter, catching everyone off guard with its extended below-zero temperatures. Companies should consider hedging gas to avoid playing extremely high natural gas supply prices during both the summer and winter months. They should also weigh the cost-benefit analysis of hedging a portion of their natural gas supply as opportunities are presented for the upcoming winter. Hedging both the basis as well as commodity should be considered.

Municipalities and some select corporations may need an alternate source of backup power. The costs of a backup generation system can pay for itself in the long run and is an important line item that should be considered in assessing energy requirements. While backup options, such as propane air systems and peaking generators can be expensive to maintain and may be rarely used, their value in an energy crisis is unquestionable.

Any backup plan needs to be tested to ensure that it will be ready for operation at any moment. This means ensuring that plant and facility operators have thought through and tested all the elements of a backup system without using natural gas. To avoid critical production issues, testing of backup fuel sources should happen at the beginning of each winter to ensure they are ready to perform.

Staying On Top Of Weather

The United States experienced more volatile, severe weather last winter and climatologists expect this trend to continue. With the increase in severe cold comes an increase in the potential for curtailment.

Any natural gas pipeline distribution system is built to serve the coldest hour of the coldest day of the year for all of its firm service customers, but it would be economically impossible to deliver gas to its interruptible customers as well. It’s difficult to predict when this extreme cold will hit, the level of severity or how long the cold snap will last. Therefore, forecasting curtailments and duration of natural gas reductions is tricky.

Having access to accurate and clear weather forecasts, including how long a cold snap is predicted to last and the severity of the weather event, will allow a company to make decisions before a curtailment hits.

Know Pricing

Curtailment can be expensive. If a company chooses to continue operations during curtailment, fines can be extremely high. Make sure to weigh the costs of stopping or cutting back operations against continuing operations with a penalty. This means calling the pipeline, utility or an energy management services provider to fully understand if continuing to run production is even a possibility, and if so, what the cost will be. Figuring out how much it will cost to shut down operations completely or rely on an alternative fuel source due to curtailment will allow a company to make informed decisions based on cost-benefit analysis.

It’s important to remember that curtailment can happen, even if it’s never happened before – whether for a couple of hours or for days at a time – and companies should have a plan in place before it does. Even if weather-related curtailments have not occurred in a specific region before, rare force majeure events could occur. Events such as the TransCanada rupture can affect even firm natural gas customers.

Firm Or Interruptible Service?
If a company faced curtailment last winter, they should reconsider whether firm or interruptible service makes more sense financially. Although companies will pay more per unit with firm service, they are higher on the priority list when curtailment happens. Another option is to contract service with a natural gas supplier that can supply firm services for a portion or all of the year.

When curtailment is a possibility, companies need to communicate with the pipeline, an energy management service provider or the utility to remain informed at all times. A checklist of information to collect to avoid incremental fees should include: how long a curtailment is projected to last, the fees/penalties associated with the curtailment and if notification will be given when the curtailment is over.

One Step Ahead
As we continue to experience extremely severe and volatile winter weather in the United States, it will become a requirement of all facilities to know what to do when faced with curtailment. Reliable plans that illustrate how a company will operate during curtailment and also the financial implications will be extremely important. When a company looks ahead at a winter forecast it should have the appropriate knowledge to consider what options make the most sense.

Author: Neal Shaw joined U.S. Energy as an account manager responsible for business development and account maintenance in 2001. He specializes in transportation issues, energy resource planning, price risk management and contract negotiations. Previously, Shaw worked for Northern Natural Gas of Omaha, NB. He holds a bachelor’s degree in finance from the University of South Alabama at Mobile and a master’s of business administration from Creighton University in Omaha.

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