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January 2014

Vol. 19, No. 4 Week of January 26, 2014

Demand driving Interior Energy Project

The leaders of the public-private partnership are looking at Fairbanks North Star Borough distribution as they make decisions

Eric Lidji

For Petroleum News

When it comes to Alaska energy policies, the conversation is usually about supply or transmission, but the Interior Energy Project is shaping up to be largely about demand.

The success of the state-backed effort to bring North Slope natural gas to the Interior by late 2015 depends in large part on whether government and industry can expand distribution in the Fairbanks North Star Borough and convince consumers to connect.

In late December, the Regulatory Commission of Alaska gave the Interior Alaska Natural Gas Utility a certificate to serve much of the borough because the municipal utility promised an ambitious timetable to build out distribution lines. In mid-January, the Alaska Industrial Development and Export Authority chose MWH Americas Inc. to be its partner on a North Slope liquefied natural gas facility largely because the deep pockets of the global infrastructure would allow more public dollars to go toward distribution.

Downstream

The RCA decision favored access over experience.

While the Interior Gas Utility counts many experienced business leaders among its board, it is a relatively new entity. The three local governments in the Fairbanks North Star Borough created the utility in late 2012 as an alternative to Fairbanks Natural Gas LLC.

The privately held Fairbanks Natural Gas currently serves a small customer base in the city of Fairbanks, but also wanted to expand into less populated corners of the borough.

The two utilities presented two “very different worldviews” over the months of deliberations, according to a statement from RCA Commissioner Robert Pickett.

“Driven by traditional, private sector sustainable economics,” as Pickett phrased it, Fairbanks Natural Gas would give only a general sense of its schedule for building out distribution. The company estimated the amount of pipeline it expected to lay by 2021, but CEO Dan Britton said any actual decisions would depend on economics. “I think that’s really the only way a system can be built out,” he testified during hearings.

Utility economics consider both supply and demand — the fixed costs of acquiring a commodity and the ways to spread those costs across all customers — and the RCA ultimately rejected the Fairbanks Natural Gas proposal because it relied too heavily on the electric utility Golden Valley Electric Association as an industrial anchor.

The Interior Gas Utility, on the other hand, committed to reach 80 percent market penetration among the homes and businesses in the higher density sections of its service area by 2021, which Pickett called “a huge task to accomplish in a very tight timeframe” and “unprecedented for any natural gas utility in Alaska” and possibly the country.

The utility could tackle this challenge because it is motivated by the twin goals of reducing energy costs and improving air quality, rather than by economics. Its financing would come from grants, bonds and tax exemptions afforded only to municipalities.

“State support will be necessary for the build-out to occur in the less economic areas of the community,” the Interior Gas Utility told the RCA during the deliberation process.

While the RCA decision focused on demand and scheduling, RCA Commissioner Paul Lisankie believed it should have focused on Senate Bill 23, which in May 2013 made $332.5 million available to the Interior Energy Project through grants, loans and bonds.

The financial package “reflected a broad consensus (which nothing in our long hearing caused me to question) that obtaining natural gas and distributing it throughout the Fairbanks North Star Borough could not be done without substantial subsidies,” he wrote.

Even though the RCA rejected the Fairbanks Natural Gas request, it encouraged the private utility to expand within its existing service area as supplies become available.

Commissioner Norman Rokeberg put an even finer point on it. While voting for the Interior Gas Utility, he praised Fairbanks Natural Gas for the “innovation and entrepreneurial risks” it took to bring gas to Fairbanks in the first place. Should Fairbanks Natural Gas someday saturate its existing service area and the Interior Gas Utility flounder, Rokeberg wrote, Fairbanks Natural Gas should take another stab at expansion.

Upstream

While the downstream decision depended on the responsibilities unique to the public sector, the upstream decision depended on the possibilities unique to the private sector.

All three proposals before the Alaska Industrial Development and Export Authority met the primary goal of Interior Energy Project: to bring natural gas to the Interior at half the cost of fuel oil by late 2015. With a 9 billion cubic foot per year plant, the average household would save $2,795 per year under the MWH plan, $2,829 under the Pentex Alaska Natural Gas Co. LLC plan and $2,883 under the Spectrum Alaska LLC plan.

With such a tight spread, the decision came down to other factors.

The Spectrum proposal included different technical specifications than the other two. It promised to provide the cheapest gas to consumers, but raised safety and reliability concerns for AIDEA. The proposal also featured the highest rate of return for any of the projects and shifted some risk to AIDEA if the project failed to materialize as intended.

The Pentex and MWH proposals were technically similar, but their financial structures differed greatly. The $175 million Pentex proposal used a $35 million grant from AIDEA, a $110 million loan from the AIDEA-administered Sustainable Energy Transmission and Supply Development Fund, the minimum $20 million contribution in private equity and $10 million in private debt. The $185.5 million MWH proposal also used a $35 million AIDEA grant, but only $68 million from SETS and made up the remainder using $28.9 million in private equity and $53.6 million in private debt.

The Interior Energy Project included $125 million in SETS loans. So while the Pentex proposal set aside $15 million for distribution, the MWH proposal set aside $57 million.

Connecting the pieces

That ultimately made the difference, but another factor may have also come into play.

Pentex is the parent company of Fairbanks Natural Gas and made its ability to handle the upstream and downstream components of the complex project one of its selling points.

The RCA decision upended that advantage. The hearings became so contentious that the RCA ruling scolded the Interior Gas Utility for its attacks on Fairbanks Natural Gas.

While saying that Pentex is already “actively involved” in expanding distribution in the Fairbanks North Star Borough through its Fairbanks Natural Gas subsidiary, the AIDEA report comparing the proposals noted “MWH is well-suited to working with all utilities.”

The Interior Gas Utility recently “engaged” MWH to “assist in planning and development of the new utility’s storage, regasification and distribution facilities,” AIDEA wrote.

The AIDEA timeline calls for signing a project development agreement with MWH by mid-March. Among other things, the agreement would start bringing all the parties to the table to get a better sense of how the upstream and downstream components would relate.






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