Energy Future Holdings on Jan. 4 filed with its bankruptcy court a request for approval of a compromise deal with aluminum producer Alcoa Inc. related to coal-fired capacity that Energy Future’s Luminant subsidiary operates to supply Alcoa with firm power for a Texas smelter operation.
Last August, Energy Future asked the U.S. Bankruptcy Court for the District of Delaware to let it assume contracts and leases related Alcoa. It is a routine part of a bankruptcy case like this for the company to ask the court to let it assume or reject agreements as it pursues reorganization. Energy Future and related companies have been in Chapter 11 bankruptcy protection since April 2014. Alcoa disputed the motion, saying Luminant needed to cure certain claims before these agreements could be assumed.
The agreements relate to the coal-fired Sandow Units 4 and 5, and the Three Oaks lignite mine, which is operated by Luminant Mining. Energy Future said it will realize about $300 million in net present value by assuming these agreements.
The Alcoa contracts are effectively “cost-plus” agreements whereby the respective parties pay their portions of the current period operating costs and Alcoa remits to Luminant Generation (via the contract power price) a return on, and return of, Alcoa’s portion of plant and mine capital that has previously been spent by Luminant Generation. Generally, in times of high power prices, the Alcoa contracts benefit Alcoa, but when wholesale power prices decline, the Alcoa contracts benefit Luminant Generation.
For many years Alcoa had been on the favorable side of the various arrangements, said Energy Future in its August 2015 request to assume these agreements. But now, with the current and forecasted longer-term power prices being lower than historical forecasts, Alcoa is out of the money.
Notable is that Sandow Units 1-3 were retired in 2006, and Sandow Unit 5 was completed in 2010.
Robert Frenzel, the Senior Vice President and Chief Financial Officer of Luminant Holding Co. LLC, provided August 2015 supporting testimony that delved into the details of the agreements. For example:
- Unit 4 Agreement – It has been amended several times in the past 30 years, and currently obligates Alcoa to provide 100% of the fuel to Sandow Unit 4 and for Luminant Generation to provide Alcoa with approximately 83% of the total generation output of Sandow Unit 4. Of that 83%, 398 MW is “firm” energy, meaning that if Alcoa needs energy for purposes of operating its smelter facility when Sandow Unit 4 is not running, that power must be obtained elsewhere by Luminant Generation and provided to Alcoa at the contract price. The 398 MW of “firm” energy was determined because that constituted a significant portion of the smelter’s load requirements when it was operating. If Alcoa does not consume its share of the generation output of Sandow Unit 4 at the Rockdale Facility (or in satisfaction of the Mine Load Obligation), that “excess energy” is transferred to an energy reserve account (ERA) and repurchased monthly by Luminant Generation—half at an agreed market rate (the ERCOT Real Time Settled Price), and half at the contract rate. The Unit 4 Agreement is effective through Dec. 31, 2038, and continues in effect thereafter unless terminated in writing by either party upon three years’ notice.
- Unit 5 Agreement – Originally, this agreement set forth terms governing the design, construction, ownership, and operation of Sandow Unit 5 and provided for Alcoa to supply the lignite that powers Sandow Unit 5. The Unit 5 Agreement has since been amended to transfer to Sandow Power the responsibility for supplying lignite to Sandow Unit 5. Pursuant to a related ground lease, Luminant Generation leases from Alcoa the real property upon which Sandow Unit 5 is located. The Unit 5 Agreement is effective through Dec. 31, 2038, and continues in effect thereafter unless terminated in writing by either party upon one year of notice.
- Agreement Regarding Ownership of Lignite Interests – This agreement establishes the ownership of the interests in the lignite reserves in the Three Oaks Mine—Alcoa owns the lignite supplied to Sandow Unit 4 pursuant to the terms of the Unit 4 Agreement, and Sandow Power owns the lignite supplied to Sandow Unit 5 pursuant to the terms of the Unit 5 Agreement. Each party bears responsibility for the payment of royalties attributable to their respective ownership and leasehold interests in the lignite reserves in Three Oaks Mine.
- Contract Mining Agreement – Under this agreement, Luminant Mining acts as a contract miner to mine the lignite reserves at Three Oaks Mine, which are owned by Alcoa and Sandow Power, in order to satisfy Alcoa’s obligation to supply 100% of the lignite for Sandow Unit 4 and Sandow Power’s obligation to supply the lignite for Sandow Unit 5 pursuant to the Unit 4 Agreement and the Unit 5 Agreement, respectively.