AEP asks for passthrough of coal contract buydown costs

American Electric Power Service Corp. (AEPSC) on Oct. 1 asked the Federal Energy Regulatory Commission to let it pass on some coal contract buydown costs related to the Conesville power plant.

AEPSC made this request on behalf of Ohio Power; both are subsidiaries of American Electric Power (NYSE: AEP).

In May 2004, AEPSC, as agent for Columbus Southern Power (which later merged with Ohio Power), and an unnamed, publicly traded coal company entered into an agreement for coal supply to Units 5 and 6 of the Conesville plant. The original term of the agreement was through Dec. 31, 2008. However, the term was extended to Dec. 31, 2012, based on a December 2008 amendment, which also gave AEPSC the option, but not the obligation, to further extend the agreement for two successive three-year option periods with a discount to market prices.

“Beginning in 2012, the forecasted burn at Conesville dropped-off significantly, and the continued delivery of contracted coal pushed the coal inventory stored at the plant to its maximum physical limit,” AEPSC noted. “This decrease in burn resulted from the rapid decline of natural gas prices, driven by the introduction of new and vast gas supplies into the market from shale regions, and from the declines in energy demand, driven by the on-going recession. These noted factors reduced electric generation from coal substantially, and many coal suppliers were suffering economic difficulties, even to the point of bankruptcy in some cases. The publicly traded coal company was facing these same economic struggles and had been forced to shut-down some mining operations and lay-off employees. If AEPSC did not take action to address these developments, AEPSC was at risk of defaulting under the Coal Supply Agreement based on its inability to accept delivery of the full amount of contracted coal. AEPSC feared that this would financially strain the publicly traded coal company and potentially lead to litigation.”

AEPSC said it reviewed several options to solve the low demand, high inventory issue. Given the significant reductions in forecasted burn at Conesville for the following few years, deferring coal deliveries (assuming that the publicly traded coal company would even be in a financial condition to agree to do so) was not a viable option, it said.

Coal storage was considered too expensive as an option

Also, selling the contracted coal into the market was not a viable option, based on the plant being land-locked with no river access for immediate barge transportation, very limited loading and unloading capabilities at the plant for rail transportation, and the unique heat and ash qualities of the coal supplied under the coal contract. AEPSC also considered off-site storage. However, that option proved to be too expensive.

Based on the transportation limitations and the unique coal qualities, AEPSC estimated that the additional cost associated with the off-site storage and associated transportation to be about $8m ($2.3m for off-site storage and $5.7m in additional coal transportation costs), which would vary based on the differences in the estimated versus actual contracted coal supply reduction.

Consequently, AEPSC pursued contractual adjustments. Because of the long-term positive relationship with this coal company, these negotiations were fruitful and resulted in a reduction of the 2012 delivery obligation at a reasonable buy-down cost, which provided Ohio Power customers a net savings when compared with the off-site storage alternative that maintained the contractual volume commitment.

In fact, in 2012, Conesville Units 5 and 6 received from the publicly traded coal company 1,310,196 tons of coal, rather than the contracted obligation of 1,700,000 tons. Ohio Power compensated the coal company $5,067,452 for the 389,804 ton reduction. As a result, Ohio Power customers recognized a net savings of about $4.8m through this buy-down in 2012 versus the use of off-site storage.

The $5,067,452 payment represents about 0.4% of the total costs paid for coal received by Ohio Power in 2012. Based on the 2012 average allocation of fuel costs assigned to retail factors (60.99%) and the 2012 average wholesale allocation of fuel costs assigned to retail (7.74%), only about $239,215 of this payment applies to Wheeling Power, another AEP subsidiary. The balance of the payment would be assigned to off-system sales and to retail customers of Ohio Power.

Additionally, the buy-down assisted in maintaining the publicly traded coal company’s financial stability and preserved all forward provisions of the contract. During 2013, customers are directly benefiting from these below-market prices at Conesville, AEPSC said. In fact, the contract is producing savings for customers of about $8m for this year (based on 2013 contracted coal volume) over coal purchases that otherwise would have been made at market prices. In total, this represents a net savings of over $13m.

Because the above-described buy-down transaction results in current cost savings as compared to off-site storage and the potential for on-going benefits to the customers of Ohio Power in the form of lower fuel costs, Ohio Power is now seeking to recover its coal contract buy-down payment through the fuel adjustment clause of the Wheeling Interconnection Agreement.

Oxford the only publicly-traded coal supplier to Conesville

U.S. Energy Information Administration data shows that the only coal suppliers to Conesville earlier this year were: Buckingham Coal, a small, privately-held Ohio coal producer, under a contract to expire in March 2020; and publicly-traded Oxford Resource Partners LP (NYSE: OXF), which supplies the plant out of several Ohio strip mines under a contract to expire at the end of 2018.

The Oxford Mining Co. LLC unit of Oxford Resource Partners has a contract with Ohio Power calling for 1.7 million tons per year in the 2013-2018 period. The contract, dating back to May 2004, was amended and that amendment is attached to Oxford’s April 2013 annual Form 10-K report. There was a new footnote added to the amended contract that reads: “In addition to the committed Contract Quantity of 1,700,000 tons for 2013, Seller agrees to sell and ship to Buyer and Buyer agrees to purchase and receive from Seller an additional 75,000 tons of Specification B Coal, with Seller to ship to Buyer this additional 75,000 tons in the months of February through April 2013 after the ratable monthly tonnage for the Annual Contract Quantity for 2013 (approximately 142,000 tons) has been shipped by Seller to Buyer during the applicable month.”

The contract calls for the base quantities of 1.7 million tons per year for the 2013-2018 period, then an Option No. 1 for an extra zero-50,000 tons per quarter in those years, and an Option No. 2 for 50,001 tons-100,000 tons per quarter in that same period. All of the 1.7 million tons per year of coal out through 2018 is for Specification B coal, which refers to a coal with certain coal quality specs. There is a Specification A coal mentioned, but no tons committed under that spec. Contract prices are excised from the filing.

Oxford indicated that the contract was to expire at the end of 2012, but two, three-year options have been exercised to take it out to the end of 2018.

The amendment is signed by Oxford President and CEO Charles Ungurean and James Henry, Vice President, Fuel, Emissions & Logistics, at AEPSC.

About Barry Cassell 20414 Articles
Barry Cassell is Chief Analyst for GenerationHub covering coal and emission controls issues, projects and policy. He has covered the coal and power generation industry for more than 24 years, beginning in November 2011 at GenerationHub and prior to that as editor of SNL Energy’s Coal Report. He was formerly with Coal Outlook for 15 years as the publication’s editor and contributing writer, and prior to that he was editor of Coal & Synfuels Technology and associate editor of The Energy Report. He has a bachelor’s degree from Central Michigan University.