The State of the Energy Industry                                                        ScottMadden-Energy Central Webcast...
Today’s Agenda and Your Presenters                                          Welcome and Introduction                      ...
Cristin LyonsPartner and Transmission, Distribution, andSmart Grid Practice LeaderCristin Lyons is a partner with ScottMad...
Energy Infrastructure Issues and Trends    Key Trends     Energy efficiency continues to drive year-over-year growth in e...
Efficiency, Demand, and Rate RegulationShifting the Utility Model?   Lost Revenue Adjustment and Revenue Decoupling Mechan...
Electric Transmission:Some Driving and Restraining Forces                  Driving Forces                                 ...
Gas-Power Interdependence:Implications of the “Dash to Gas”   Divergence of Fates of Coal- and Gas-Fired Generation       ...
Gas-Power Interdependence:Regional Differences Mean Different Concerns                                                    ...
Gas-Power Interdependence:Regional Differences Mean Different Concerns (Cont’d)Northwest/Mountain West Large intermittent...
Todd WilliamsPartnerTodd Williams is a partner with ScottMadden and co-leadsthe firm’s fossil practice. He has extensive e...
Latest Outlook for Fossil Generation    Key Trends     Anticipated coal-fired plant retirements spurred by EPA regulation...
The 2012 Election and Policy Shifts:Implications for the Power Generation Business                                        ...
NERC’s Latest Long-Term Reliability Assessment:Some Good News and Some Cautionary Notes 2012 Key Reliability Findings  Si...
NERC’s Latest Long-Term Reliability Assessment:Regional Variation in the Reliability Outlook                              ...
Potential Coal Plant Retirements: The Latest Tally  Selected U.S. Coal Plant Retirement Forecasts:                        ...
Coal Generation By the Numbers                                                               U.S. Coal-Fired Power Generat...
Power Plant Replacement and Retrofit Supply Chain:Timing Is Everything        If Retrofit Decision on Coal Unit Has Not Be...
Ed BakerPartnerEd Baker is a partner with ScottMadden and leads thefirms gas practice. He has been a consultant, and withS...
Latest Outlook for Natural Gas    Key Trends     Natural gas prices remain low by historical standards, with ample supply...
Natural Gas Price PredictionsHave Been Difficult and Often Unreliable                                                     ...
Shale Gas, Especially Marcellus,Continues to Have Competitive Breakeven Costs               NYMEX Price Required for 12% I...
Shale Gas: Risks to Bullish View     Production curves (output yield from fields and wells) vary within and across variou...
Bulls and Bears Views on United States as the“Saudi Arabia of Natural Gas”                                 The Bullish Vie...
For New Natural Gas Resources,A Need for New Pipeline Capacity    New Pipelines Needed; NGLs Are Current Focus     Pipeli...
Greg LitraPartner and Energy, Clean Tech, andSustainability Research LeaderGreg Litra joined the firm in 1995 after practi...
Contact Us   Cristin Lyons                        ScottMadden, Inc.     Todd Williams                   ScottMadden, Inc. ...
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The State of the Energy Industry

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This complimentary online event offered top experts discussing ScottMadden’s recently released Energy Industry Update, a semi-annual publication featuring our view of recent significant events and emerging trends.

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The State of the Energy Industry

  1. 1. The State of the Energy Industry ScottMadden-Energy Central Webcast March 27, 2013Copyright © 2013 by ScottMadden. All rights reserved.
  2. 2. Today’s Agenda and Your Presenters Welcome and Introduction Fossil Generation  2012 Election and Policy Developments  NERC’s Latest View  Coal Plant Retirement Risks  Supply Chain Issues for Retrofit and Replacement Stu Pearman Todd Williams Partner and Energy Practice Partner and Fossil Leader Generation Practice Leader Energy Infrastructure Natural Gas  Efficiency, Demand, and Rate  Price Predictions Regulation  Shale Gas  Electric Transmission  The United States as the “Saudi Arabia  Gas-Power Interdependence of Natural Gas”  New Pipeline Capacity Needs Cristin Lyons Ed Baker Partner and Transmission, Partner and Natural Gas Distribution, and Smart Grid Practice Leader Practice Leader Questions and Answers Greg Litra Partner and Energy, Clean Tech, and Sustainability Research LeaderCopyright © 2013 by ScottMadden. All rights reserved. 1
  3. 3. Cristin LyonsPartner and Transmission, Distribution, andSmart Grid Practice LeaderCristin Lyons is a partner with ScottMadden where sheleads the firm’s transmission, distribution, and Smart Gridpractice. Her areas of expertise include T&D operations,mergers and acquisitions, and organization design. Shejoined the firm in 1999 and has been a partner for morethan six years. Energy Infrastructure
  4. 4. Energy Infrastructure Issues and Trends Key Trends  Energy efficiency continues to drive year-over-year growth in energy demand lower; utilities are seeking alternative recovery mechanisms in this slow demand growth environment—sometimes also entailing lower allowable ROEs  While the outlook for transmission remains positive, there are many factors that could impact the speed and length of this build out  As power generation becomes increasingly dependent upon natural gas as a baseload or swing fuel source, federal and reliability officials are turning their attention to infrastructure adequacy and coordination of the gas and electric industries, increasingly important issues Discussion Overview  Efficiency, Demand, and Rate Regulation  Electric Transmission  Gas-Power InterdependenceCopyright © 2013 by ScottMadden. All rights reserved. 3
  5. 5. Efficiency, Demand, and Rate RegulationShifting the Utility Model? Lost Revenue Adjustment and Revenue Decoupling Mechanisms Electric Rate Cases Settled for Electric Utilities (as of July 2012) and Median Allowed Returns on Equity (by Year) 12.5 70 Number of Rate Cases Settled 12.0 60 Return on Equity (%) 11.5 50 11.0 40 10.5 30 10.0 20 9.5 Allowed ROEs 10 No. of Electric Rate Cases 9.0 0 Revenue Decoupling Mechanism (Elec. Utils.) Lost Revenue Adjustment Mechanism (Elec. Utils.) Pending  Even without direct mandates like energy efficiency resource  Amid the ongoing low interest rate environment, allowed returns standards, indirect effects from federal mandates, building on equity (ROE) continue to fall codes, and improved materials and technologies, continue to  In an effort to rein in rate awards, some commissions are reduce energy intensity requiring more frequent rate cases, while utilities continue to seek  Fitch considers energy efficiency “a significant threat to the automatic adjustment mechanisms to combat regulatory lag credit profile of the electric utility sector and the first major  There is continuing divergence of transmission and other utility challenge to the otherwise monopolistic utility franchise” businesses with regard to regulatory construct and returns. Transmission ROEs generally remain in the 10%–12% range in  Increasingly, utilities will have to develop business and many regions, formula rates remain commonplace, and FERC regulatory models that provide a return on investment in recently reaffirmed its transmission incentive ROE policy demand-side energy infrastructure  On the horizon, further activity to recover increasing costs of  Some utilities contemplate partial decoupling mechanisms or system hardening, infrastructure upgrades, and pension and similar strategies; many jurisdictions have these in place benefits  Alternative rate structures can impact allowed ROEs because of the perceived reduced revenue risk for the utility and complicated peer comparisons Sources: DSIREUSA; Institute for Electric Efficiency; FitchRatings; SNL FinancialCopyright © 2013 by ScottMadden. All rights reserved. 4
  6. 6. Electric Transmission:Some Driving and Restraining Forces Driving Forces Restraining Forces  FERC recently reaffirmed and clarified its  Load growth has slowed due to the incentive rate policy recession and weak recovery  Continues to provide solid returns (>12%  Energy efficiency and demand response ROE) when compared to distribution continue to impact load growth and peak (~10%) loads  Aging infrastructure presents ongoing  Energy intensity is increasing opportunities  Distributed energy resources are  Coal retirements are driving the need for proliferating in certain regions new projects  Siting and lack of federal backstop  Renewables driven both by economics authority slow development (read production tax credit) and renewable portfolio standards will require  Retail rate pressure continues, interconnection exacerbated by the weak economy Complicating  Recent challenges to ROEs (MA, MD, Factors others…)  Compliance filings suggest that elimination of the right of first refusal will require significantly more work; no clear path to new development by non-incumbents in many regions  Timing of implementation of EPA standards limiting coal will challenge transmission development; lack of clarity has cascading effects  Electric and gas convergence presents new contingencies in the planning process and reliability concerns in certain regions  Timelines for deployment of supply side alternatives are significantly shorter than for transmission (distributed energy resources, demand response, energy efficiency, gas-fired generation), further complicating planning Sources: ScottMadden analysisCopyright © 2013 by ScottMadden. All rights reserved. 5
  7. 7. Gas-Power Interdependence:Implications of the “Dash to Gas” Divergence of Fates of Coal- and Gas-Fired Generation For Power, Natural Gas Is Increasingly in Demand NERC-Wide Coal- and Gas-Fired Generation Outlook: Daily U.S. Natural Gas Burn for Power Generation: 2008–2012 LTRA Reference Case Comparison 2005–2011 vs. 2012 (through Sept.) More gas, less coal: a story evolves over past several forecasts Historic “Longitudinal” Flow Pattern Shifting to Today’s Developing “Grid” Flow Patterns Sources: EIA, “Natural Gas Markets: Recent Changes and Key Drivers,” at LDC Gas Forum (Sept. 2012); Midwest ISO gas-power workshop (May 2012)Copyright © 2013 by ScottMadden. All rights reserved. www.midwestiso.org/Events/Pages/GE20120510.aspx; 6 NERC gas-power interdependence report (released Dec. 2011) www.nerc.com/files/Gas_Electric_Interdependencies_Phase_I.pdf
  8. 8. Gas-Power Interdependence:Regional Differences Mean Different Concerns New England  End-of-the-(gas) line; history of gas issues  High winter gas demand; large gas demand centers  Nearby sources declining  Constrained interfaces—gas and power  Bid-based market  LNG import capability  Problem identified and being worked Midwest  Massive anticipated gas-fired replacements  High winter gas demand; large gas demand centers  Bid-based market  Shale supply in adjacent regions  Problem identified and being worked Depending upon variables such as existing Southeast and anticipated gas resources and  Coal retirements; gas-fired replacements infrastructure, volume and timing of coal-fired  Modest winter gas demand power plant retirements and retrofits, market Complicates solution  Bilateral market; traditional cost-based structure, and a history of collaboration Facilitates solution regulation of generation among regional players, solutions to gas-  Shale supply in adjacent regions power interdependence complexities can be facilitated or hampered.Source: ScottMadden white paper, “Gas-Power Interdependence” (Jan. 2013), available at http://www.scottmadden.com/insight/598/GasPower-Interdependence.htmlCopyright © 2013 by ScottMadden. All rights reserved. 7
  9. 9. Gas-Power Interdependence:Regional Differences Mean Different Concerns (Cont’d)Northwest/Mountain West Large intermittent resource build-out Significant hydro resources, but need to distinguish capacity and energy needs Significant coal-fired capacity; massive retirements not expected immediately Available Rockies, Canadian supply Largely traditional (non-bid-based) market Recent pipeline expansions Working group established for Northwest California  Large intermittent resource build-out, aggressive targets  Heavy reliance upon gas-fired generation  “Peaky,” low cap-factor gas needs for renewable capacity backstop  Available gas supply in West  Complicates solution  Generally more temperate  Facilitates solution  Large gas demand centers (SF, LA)  Bid-based market Desert Southwest  Generator, gas transmission  Heavy reliance upon gas-fired generation, communication taking place with more on horizon Source: ScottMadden white paper, “Gas-Power Interdependence” (Jan. 2013), available at http://www.scottmadden.com/insight/598/GasPower-Interdependence.htmlCopyright © 2013 by ScottMadden. All rights reserved. 8
  10. 10. Todd WilliamsPartnerTodd Williams is a partner with ScottMadden and co-leadsthe firm’s fossil practice. He has extensive experienceassisting large companies align their operations with theirstrategic vision. From operational performanceimprovement to organizational restructuring, Todd hasdesigned and implemented large scale initiatives to help hisclients succeed. He has experience working withcompanies that need a turn around, are planning a mergerintegration, or just want to drive performance improvement.Todd combines extensive project management skills with alarge variety of previous engagements to bring creativesolutions to his clients. Fossil Generation
  11. 11. Latest Outlook for Fossil Generation Key Trends  Anticipated coal-fired plant retirements spurred by EPA regulations and persistent low natural gas prices continue to increase, however some owners will hold on (at least for a while) for various reasons: retrofit technology successes, performance of other plants, rate impacts, and reliability  For coal plant owners contemplating retrofits, the supply chain is increasingly cause for concern in regions such as the Midwest as EPA deadlines and large volumes of plants stress capability to complete refurbishment in a timely manner Discussion Overview  2012 Election and Policy Developments  NERC’s Latest View  Coal Plant Retirement Risks  Supply Chain Issues for Retrofit and ReplacementCopyright © 2013 by ScottMadden. All rights reserved. 10
  12. 12. The 2012 Election and Policy Shifts:Implications for the Power Generation Business Current Views and Recent Area Implications Developments Power plant emissions  For CSAPR, MATS, and other rules, cycle of  Emissions markets likely “dead” for a while regulation new proposed and final rules under statutory with legal wrangling over regulations deadlines forced by “citizens suits” plus cycle of revisions driven by court challenges; pundits are split on whether rule-making will be more or less aggressive  Nomination of EPA Air chief McCarthy Climate change and  Pres. Obama signals focus on climate  Split Congress likely limits comprehensive carbon regulation change in SOTU GHG legislation  New source GHG regulations for fossil-fired  Obama and Reid comments on new focus on power plants and refineries will be released, climate creates some possibility of a carbon but may be constrained (slightly) by tax in any budget “grand bargain” – a “sleeper” Congressional oversight issue  Possible expansion of GHG controls via regulation of existing facilities Production tax credits  Extended through 2013 for renewable  Final dash to renewables construction in facilities 2013?  Potential grants of relief in some states to near-term RPS deadlinesCopyright © 2013 by ScottMadden. All rights reserved. 11
  13. 13. NERC’s Latest Long-Term Reliability Assessment:Some Good News and Some Cautionary Notes 2012 Key Reliability Findings  Significant  NERC estimates nearly 71 GWs of retirements NERC‐Wide Cumulative Summer Fossil‐Fired fossil-fired by 2022, with 90% of that retiring by 2017 Capacity Resource Retirements generator  Estimates are highly uncertain, as generation 80 Unconfirmed retirements owners are still evaluating options and many 70 Gas Petroleum over the next have not announced retirement decisions. Per 60 Coal Gigawatts five years NERC, about 44 GWs of retirements are 50 40.9 41.5 42.6 42.7 43.4 43.4 43.5 confirmed based upon announcements and 40 36.1 resource plans 30 23.3 18.3  Next three or four years may see system 20 13.5 stability issues in some areas, need 10 6.1 transmission enhancements 0 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022  Long-term  Most controls are required by 2016 (MATS compliance), and NERC estimates that about 339 unit-level generator retrofits covering 160 GWs will be required maintenance  NERC’s “unconfirmed” maintenance outages schedules still unknown, leaving less than 50 GWs (of the 160 outages for GWs) confirmed, may result in generation capacity not being available during shoulder months and off‐peak environmental times during the operating day in the near term (2013–2016) retrofits Increased  NERC estimates almost 100 GWs of planned and “conceptual” new capacity over the next 10 years will be dependence gas-fired on natural gas  NERC continues to study impacts on operations and planning of this interdependence between gas and for electricity power generation, especially: generation —Availability of gas‐fired generation with neither firm transportation nor dual‐fuel capabilities, especially during extreme cold weather —Impact of significant gas supply or pipeline disruption Source: NERC, 2012 Long-Term Reliability Assessment (Nov. 2012)Copyright © 2013 by ScottMadden. All rights reserved. 12
  14. 14. NERC’s Latest Long-Term Reliability Assessment:Regional Variation in the Reliability Outlook Trouble in Texas  ERCOT’s Anticipated Reserve Margin below NERC Reference Margin Level in every year and is zero by 2020 unless more capacity is added  NERC fears that capacity deficiencies could trigger emergency operating procedures that may include the shedding of firm load Reserve Margins  While acknowledging some progress, NERC Falling Below “strongly recommends” the Texas PUC and NERC ERCOT develop policies that bring capacity Reference online in near and long term Level by 2014 Expanding Concerns But Less Urgent  Longer-term, reserve margins begin to fall below reference levels in some other regions  These regions (except ERCOT) have at least five years to enhance capacity  “Conceptual resources”—generation in early stages of assessment—not Reserve considered for the reserve margin Margins forecast, could be sufficient to aid regions Falling Below including WECC, PJM, and Ontario, but NERC their eventual construction is uncertain Reference Level by 2022Source: NERC, 2012 Long-Term Reliability Assessment (Nov. 2012)Copyright © 2013 by ScottMadden. All rights reserved. 13
  15. 15. Potential Coal Plant Retirements: The Latest Tally Selected U.S. Coal Plant Retirement Forecasts: Announced Coal-Fired Plant Retirements 30 GWs to 100 GWs between 2015 and 2020 as of Jan. 2013 (26 GWs through 2022) Analyst Projected Retirements Union of Concerned 59 GWs “ripe for retirement” in add’n to est. Scientists 41 GWs announced (100 GWs total) Brattle 59–77 GWs Sanford Bernstein 58 GWs by 2015 Bipartisan Policy Center 56 GWs by 2016 Friedman Billings Ramsay 50–55 GWs by 2018 Guggenheim Partners 50 GWs by 2015 ICF 50 GWs by 2015 EIA 49 GWs by 2020 Reuters/Factbox 35 GWs by 2015 Wood Mackenzie 30 GWs by 2015, add’l 45 GWs by 2025  Regulatory “tsunami”: With re-election of President Obama, the “tsunami” (no longer “train wreck”) of EPA regulations affecting power generation is now expected to be promulgated and implemented  Gas vs. coal: The story remains centered on the natural gas vs. coal price differential, as natural gas prices continue to remain low by historical standards. Meanwhile, coal mines have ramped back production in response to lower demand, and production costs are rising in response to increased mining regulation  Regional impacts: EIA projects that most retirements will be older, inefficient units concentrated in the Mid-Atlantic, Ohio River Valley, and Southeast, which have excess capacity. The Midwest ISO could be particularly affected by a large number of unit retirements  East vs. West: Generation using lower sulfur Powder River Basin (PRB) and Illinois coal is expected to fare better than Appalachian coal- fired plants. Coal producer Peabody Energy estimates that PRB is competitive with $2.50 to $2.75/MMBTU natural gas, while for Illinois it is $3.25 to $3.50 and $4.50 for Appalachian coal  “Unretirements” and temporary deferrals: Some utilities may reconsider retirement of selected coal plants for varied reasons — Detroit Edison, e.g., told regulators that it planned to keep some (albeit large) units open that it had originally slated for closure as new controls technology works better than projected — Otter Tail Power is delaying retirement of its Hoot Lake plant from 2015 to 2020 to reduce ratepayer impacts — TVA has had to delay idling of five coal units because of unanticipated operating challenges at a large pumped storage plant — At PJM’s request, First Energy delayed some unit retirements to 2015, pending upgrades, in order to provide voltage support Sources: Industry news; SNL Financial; ScottMadden analysisCopyright © 2013 by ScottMadden. All rights reserved. 14
  16. 16. Coal Generation By the Numbers U.S. Coal-Fired Power Generation and Air Quality Control System Status (No. of Units) 1,000 FRCC WECC ERCOT 900 800 SPP MRO NPCC No. of Operating Units 700 600 Reliability 500 First SERC 400 300 200 100 0 Total Units FGD & Just FGD Just SCR Other NOx Other NOx Other SO2 None None SCR and SO2 Only Only (But (No Plan) Planned)  There are almost 1,000 coal units in US with a total nameplate capacity of 327.3 GW, representing 44% of total generation in 2011  611 units (151 GW) of those units do not have FGD or SCR installed and can be considered ‘at risk’ for compliance with the Utility MACT rule Note: Reflects units large enough to be CEMS monitored (roughly greater than 25 MWs) and includes both utility and non-utility generation Sources: Ventyx Energy Velocity Suite; ScottMadden analysisCopyright © 2013 by ScottMadden. All rights reserved. 15
  17. 17. Power Plant Replacement and Retrofit Supply Chain:Timing Is Everything If Retrofit Decision on Coal Unit Has Not Been Made, With EPA compliance deadlines (esp. MATS*) approaching, Technology Options May Be Limited Given Compliance Timeframes the power plant construction and maintenance supply chain will be stretched Selected Estimates of Retrofit Timing by Technology  Both significant new construction (replacement of retiring units) and retrofits will be occurring contemporaneously  Retrofit windows will be limited—shoulder months and perhaps some winter outages  Compliance is required by Q1 2015, with possible extensions into early 2016, leaving only about 24 to 36 months to complete ASI – Active Sorbent Injection  Per a MISO-commissioned study, the most single-year DSI – Dry Sorbent Injection SCR – Selected Catalytic Reduction retrofits and new build of 89 GWs**, which it deems a “soft FGD – Flue Gas Desulfurization cap” Available skilled labor supply may be stretched thin  A shortage of skilled labor persists, despite relatively high Source: MISO/Brattle construction unemployment (11+% as of 3Q 2012) MATS compliance deadline MATS compliance deadline  This is manifesting itself in increased cost: craft labor is (if T0 = 1/1/13) + 12-month extension seeing a gradual, nationwide increase in wages and fringe (if T0 = 1/1/13) benefits  Boilermakers in particular could be in short supply: MISO 12-Month Trailing Index Cost Changes for Selected Facilities, found that 10% of boilermakers are in utility construction, Categories, and Items (3Q 2012 and Projected 3Q 2013) while retrofit/build workload will require about 30% of all 4% boilermakers over the next several years 3Q 2012 Cost Change (YOY%) 3% 3Q 2013 Contractor performance and liquidity should be monitored 2%  Increased competition and aggressive bidding on projects 1% has increased risk of liquidity and performance issues with Source: Power Advocate general and sub-contractors 0%  Rising materials costs exacerbate this risk Equipment Matl & Services Simple-Cycle Construction Construction Construction Boilermakers Construction Laborers Emissions Construction Combined- Construction Control Scrubber -1% Services Labor Cycle -2% Notes: *Mercury and Air Toxics Standard; **normalized as wet FGD-equivalent MWs Sources: Midwest ISO-The Brattle Group, “Supply Chain and Outage Analysis of MISO Coal -3% Retrofits for MATS” (May 2012); Power Advocate, Cost Intelligence Report for the Energy Industry (Nov. 2012); EEI; EPA; Engineering News-Record; ScottMadden analysisCopyright © 2013 by ScottMadden. All rights reserved. 16
  18. 18. Ed BakerPartnerEd Baker is a partner with ScottMadden and leads thefirms gas practice. He has been a consultant, and withScottMadden, since 2001. Recent projects have been inperformance improvement, process standardization,organization design and staffing, and business planning. Natural Gas
  19. 19. Latest Outlook for Natural Gas Key Trends  Natural gas prices remain low by historical standards, with ample supply and relatively mild winter demand  Shale gas continues to be the major part of this U.S. energy story, but there are risks to low gas prices (significantly increased demand, greater and multiple levels of regulation, pricing uncertainty/miscalculations) Discussion Overview  Price Predictions  Shale Gas  The United States as the “Saudi Arabia of Natural Gas”  New Pipeline Capacity NeedsCopyright © 2013 by ScottMadden. All rights reserved. 18
  20. 20. Natural Gas Price PredictionsHave Been Difficult and Often Unreliable EIA Actual and Projected Henry Hub Average Spot Price and Selected Gas Prices Remain Depressed Forecasts ($/MMBTU*) (in 2010$)  Natural gas prices are not projected to return to pre- $10 recession levels in the near to intermediate term 2009 Forecast $8.94  Through 2014, EIA expects prices will gradually rise but 2007 Forecast still remain relatively low. EIA expects the Henry Hub $8 2011 Forecast price will average $3.41 per MMBtu in 2013 (compared to $2.75 per MMBtu in 2012) and $3.63 per MMBtu in 2014 2005 Forecast Price in $/MMBTU  Some contrarians, however, posit $6/MMBTU natural gas $6 Jan. 2012 Forecast by 2015 Demand May Pull up Prices, but Supply Response and $4.80 $4.59 $4.72 Impact of Worldwide Demand Create Uncertainty $4 $4.39 $4.27 $4.30 $4.42 $4.00 $4.11 $4.16 $3.94 Selected 2013 Gas Price Forecasts ($/MMBTU)  Industrial gas demand: growth is due to the bolster of $3.60 JP Morgan $4.25 2012 Actual: petrochemical plants and production by the energy- Morgan Stanley 3.95 $2 $2.75 hungry metals NGW** Scorecard Avg. 3.93 Latest EIA UBS, RBC, Raymond James 3.75  Short-term gas demand from power generation is forecast: Moody’s ≥3.00 projected to increase, but that demand growth levels off $3.41 longer term (~10 years) $0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020  More Canadian gas may go to Asia as LNG export facilities in western Canada emerge to take Canadian Despite the apparent smooth trajectory, gas price volatility may gas traditionally exported to the United States—now remain, driven by pipeline constraints, increased gas consumption for displaced by shale gas power generation, and changing basis relationships.  Some big question marks: the impact of production efficiencies, drilling inventory, and gas demand response Notes: *2005 forecast is in $/MCF and is an average wellhead price, not a Henry Hub average price. **Natural Gas Week (Aug. 6, 2012 and Nov. 12, 2012). Sources: Industry news; EIA; IEA; FERC; SNL Financial; Natural Gas WeekCopyright © 2013 by ScottMadden. All rights reserved. 19
  21. 21. Shale Gas, Especially Marcellus,Continues to Have Competitive Breakeven Costs NYMEX Price Required for 12% IRR for Selected Shale Plays ($/MCF) Shale Gas Economics Remain Favorable $7.00  Shale play economics have been resilient, even with abundant supply and “rock-bottom” $6.00 prices Sources: Range Resources (citing Goldman Sachs) $5.00  Natural gas liquids (NGLs) continue to buoy economics of “wet” plays like Marcellus and $4.00 Barnett$/MCF $3.00  Some supply response emerging (e.g., Chesapeake pull-back)? $2.00 Utica—The Next Big Shale Play? $1.00  Utica Shale, a 170,000 square mile formation $0.00 deeper than the Marcellus, is seen by some as the next major shale play  ExxonMobil, Chesapeake, Hess, and others are making significant investments in leases, largely in Ohio  Little production to date, so Utica’s productivity is uncertain Henry Hub Futures 2013 Strip High (1/1/11–12/31/12) “Natural gas is going to enter a golden age we Henry Hub Futures 2013 Strip Low (1/1/11–12/31/12) havent seen since the 1950s.” Bob Best Sources: Range Resources Company Presentation (Oct. 2011) (citing Goldman Sachs); Executive Chairman, Atmos Energy *Carol Freedenthal, Jofree Consulting, quoted in Natural Gas Week (Oct. 31, 2011); El Paso Midstream; Kinder Morgan; Enterprise Products Partners; PennEnergy; Reuters: SNL Financial (historical gas strip prices)Copyright © 2013 by ScottMadden. All rights reserved. 20
  22. 22. Shale Gas: Risks to Bullish View  Production curves (output yield from fields and wells) vary within and across various shale plays — Some skeptics point to rapid decline rates — No “one-size-fits-all” assessment of shale play productivity; assessments still evolving  Reserves and ultimate supply are smaller than technically recoverable resources—a key question is how much at what price  Externalities—and responses thereto—could play a role in slowing development — Stringent EPA regulation or local opposition, such as New York’s ban on fracking, could make availability of the shale resource moot  Economics are brutal in the current environment — Series of write-downs on North American shale Average Freshwater Use per Shale Well (000s of Gallons) stakes by BHP Billiton ($2.84B), BP ($2.1B), BG ($1.3B), and others as “land rush” meets Drilling Hydraulic Fracturing $3 natural gas prices Barnett 4,600 250 — While current gas prices offer breakeven for some wet plays, most dry gas is not in the Eagle Ford 5,000 125 money at $3 Haynesville 600 5,000  Water consumption remains a concern in some areas — Water usage rates in recently drought-prone Marcellus 85 5,600 areas like Texas are emerging as a point of concern Niobrara 300 3,000 — Industry proponents, however, point to the large Source: GAO percentage of water consumed by municipalities and irrigation Notes: *Based upon paper for Society of Petroleum Engineers and assuming EURs as of 2009 **Monthly futures prices as of Oct. 23, 2012 Sources: The American Oil & Gas Reporter (May 2011); World Oil (July 2012); UBS Investment Research, “NYT Shale Gas Allegations Seem Exaggerated” (June 27, 2011); industry publicationsCopyright © 2013 by ScottMadden. All rights reserved. 21
  23. 23. Bulls and Bears Views on United States as the“Saudi Arabia of Natural Gas” The Bullish View The Bearish View European gas production is dropping—the U.K., for example,  Soft economic could contain gas demand growth, and Asian has become a net importer of LNG demand is uncertain Spain’s gas is 80% LNG  Somewhere from 60%+ of European gas needs locked in with long-term contracts of unknown duration Japan’s possible dismantling of its nuclear sector will put pressure on gas supply, already seen in its landed LNG prices;  Hard to develop LNG export capacity quickly, and it will require perhaps a similar situation emerging in Germany long-term contracts with anchor tenants to justify investment Europe is highly dependent upon Russia, which has used  Plenty of competition: Canada, Qatar, Australia, and others resources as geopolitical levers, for gas supply now; possible rich shale resources in China, Russia, and Africa; Russia, as swing producer, could be a spoiler Several U.S. LNG facilities are considering reversing trains for export, with Sabine Pass (LA) fully approved  Potential for political impediments at home to gas exports Potential U.S. LNG will make global LNG supply curve more  Price relationships and influenced by currency exchange rate, elastic, limiting long-term increases in price which could change with different policy All-In U.S. LNG Cost at Gulf (Illustrative) Selected International LNG Price Trends vs. Japan and U.K. LNG Hub Prices (Various Locations) $14 Source: K. Medlock (Rice U.) Japan U.K. $12 Regas Tariff $10 Panama Canal $/MCF $8 Boiloff $6 Fuel $4 Vessel Charter $2 15% + $2.25 Henry Hub - Jan 2015 $0 Gulf to JCC Gulf to NBP Japan Forward U.K. Forward Henry Hub NBP JKM LNG-Crude Index Source: B. Schlesinger & Assocs. (citing Deutsche Bank) Notes: NBP is National Balancing Point (U.K.); JCC is Japan Customs-Cleared Crude; JKM is Japan/Korea Marker. All are market hubs used for LNG pricing.Copyright © 2013 by ScottMadden. All rights reserved. Sources: EIA International Natural Gas Workshop (Aug. 13, 2012), presentations by Brattle 22 Group; Benjamin Schlesinger and Associates, Kenneth Medlock (Rice Univ.), Howard Rogers (Oxford Institute for Energy Studies)
  24. 24. For New Natural Gas Resources,A Need for New Pipeline Capacity New Pipelines Needed; NGLs Are Current Focus  Pipeline expansion proposals: Marcellus and other shale plays Pipeline Capacity from Selected Basins to Selected Demand Centers as of Sept. 2008 (BCF/Day)  Some liquids-focused pipelines moving NGLs to the upper Midwest and Canada or Gulf Coast  Expansion of dry natural gas pipelines to East Coast urban centers could be contentious: ROW negotiations, new battleground for fracking opponents Additional Capacity, Basis Changes?  Approximately 6 BCF/day in new gas pipeline capacity proposed for Marcellus  With new pipeline capacity from shale gas resources to markets, basis relationships may change  Falling premiums: NY, New England vs. market centers like Henry Hub  But increased gas-fired generation along with winter heating demand may continue to constrain pipeline capacity, leading to volatile winter gas prices Sources: EIA; FERC; Morgan Stanley; Credit Suisse; SNL Financial; ScottMadden analysisCopyright © 2013 by ScottMadden. All rights reserved. 23
  25. 25. Greg LitraPartner and Energy, Clean Tech, andSustainability Research LeaderGreg Litra joined the firm in 1995 after practicing corporatelaw for several years. He specializes in the energy andutilities business sectors, supporting consultingengagements in the areas of strategy development, marketassessment, energy regulation, and industry trend analysis.Additionally, Greg leads the firm’s energy and clean techresearch activities, and he spearheads the publication ofScottMadden’s semi-annual Energy Industry Update. Questions and Answers
  26. 26. Contact Us Cristin Lyons ScottMadden, Inc. Todd Williams ScottMadden, Inc. Ed Baker ScottMadden, Inc. Partner 2626 Glenwood Ave Partner 3495 Piedmont Rd, Bldg 10 Partner 3495 Piedmont Rd, Bldg 10 Suite 480 Suite 805 Suite 805 Raleigh, NC 27608 Atlanta, GA 30305 Atlanta, GA 30305 Phone: 919-781-4191 Phone: 404-814-0020 Phone: 404-814-0020 cmlyons@scottmadden.com toddwilliams@scottmadden.com edbaker@scottmadden.com Greg Litra ScottMadden, Inc. Stu Pearman ScottMadden, Inc. Partner 2626 Glenwood Ave Partner and 2626 Glenwood Ave Energy Practice Leader Suite 480 Suite 480 Raleigh, NC 27608 Raleigh, NC 27608 Phone: 919-781-4191 Phone: 919-781-4191 glitra@scottmadden.com spearman@scottmadden.com See the link below for the Winter 2012–2013 Energy Industry Update http://www.scottmadden.com/insight/605/The-Energy-Industry-Update.htmlCopyright © 2013 by ScottMadden. All rights reserved. 25

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