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Massive Merchant Power Push Will Test Gas Infrastructure

Massive Merchant Power Push Will Test Gas Infrastructure

If current bullish projections for adding another 5 Tcf of gas demand nationally over the next 10 years is going to become a reality, the pace of merchant power plant development will have to accelerate and the gas business will have to catch up with it, according to a panel of experts at GasMart/Power 2000 in Denver last week.

Right now neither of those goals appears a sure thing. Brad Porlier, vice president for business development at Duke Energy North America, said he's unsure that the current gas industry can meet the challenge, assuming merchant development can overcome a growing list of hurdles from siting to political issues.

Actions on both coasts --- in California and New York --- have cast doubts on whether sufficient incentives will fully develop to support projected merchant power growth.

"In California right now energy prices are too low to justify new generation," said John Stout, Reliant's Houston-based vice president of asset commercialization. "To make a project work in California you need to establish some of these extra values [ancillary services]."

California regulators over the past two years have changed the rules and that "causes a distortion in price signals," Stout told a packed session at the annual industry conference and trade fair. Those changes, he noted, caused his company to pull back plans to add about 500 MW of ancillary services into the California market. Even though Cal-ISO recently raised its price cap for this summer from $250/MWh to $750/MWh, the economic incentives are still inadequate.

In the meantime, New York regulators have asked FERC to eliminate ancillary services markets and penalize power plants that made money offering these services recently in their state.

Joining his fellow panelists' assessment that price caps are harmful to the orderly development of new merchant power plants, Richard Carlson a consultant with Sacramento, CA-based Henwood Energy Services, emphasized that the caps make it very difficult for any economic model to work adequately as they complicate price forecasts.

"Price caps in one market can be a de facto cap in other markets through arbitrage," Carlson said. "It is hard to predict the level and the timing of price caps." A counter to this hurdle is being provided, he said, through various "rational buyer rules" that have been adopted by the California independent system operator (Cal-ISO) and replicated by others in the East Coast and Alberta, Canada under other names.

Carlson recommended a new economic modeling approach to merchant plants called "real options valuation" to replace the traditional "discounted cash flow" (DCF) approach. In essence, unlike DCF which Carlson sees as biased toward baseload generating units, the real options model give value to an array of ancillary services and other uncertainties of the developing restructured power industry.

The ultimate solution to an orderly market and adequate merchant power goes beyond the current crop of proposed new plants, Stout said. In the next five to ten years, he said, there needs to be what he calls "an influx of demand elasticity technology," meaning applications such as microturbines and fuel cells that will begin to shave peaks in the demand curve. "Without a new shaping of the loads," there will never be a downward pressure on pricing.

Aside from price, actual siting and permitting of new powerplants is an increasing challenge, Duke's Porlier said. "It is important to get 'down in the weeds' at the project level to understand where a given merchant plant development is at any point in time. Land is getting increasingly difficult to find for plant development. I think we too often circle the crossings where major electricity transmission lines and major gas transmission pipelines meet. That's not the end of the story. It is only the beginning." Among the increasingly complex siting/permitting issues affecting both gas and electricity infrastructure additions are growing shortages of private land, water and the political will to support such development, particularly in the West and near load centers.

"We have to challenge zoning, challenge special use permits and challenge people who will not vote for power plants or pipelines," Porlier said. "State legislatures are increasingly getting more and more active in the siting process. It is a highly charged political process now. Their constituents are saying they want something to say about this [new energy infrastructure].

Gas demand is projected to increase by 5 Tcf/year and 210,000 MW of new power plants are expected to be added to the grid. "About 60% of the projected new plants are combined-cycle plants, where we have an opportunity to make margin over a good portion of the year. And about 40% of the gas demand will come from combustion turbines," Porlier said. "So all of the merchant power plants are going to want big time gas supplies at the same time. We all know what this means in terms of increased opportunities..... This kind of gas demand is going to have major implications for all of us --- from the wellhead, to processing, to the pipelines, marketers and power providers."

Where is all the new gas going to come from? There will be some self-correction to both the discrepancy between power supplies and new plants proposed as well as between projected gas demands and projected future supplies, Porlier said.

"Press releases are not the same as actual plants being built," he added, referring to the continuing stream of new merchant power plant proposals, each of which can cost up to $20 million just to get to the permitting stage. "Many of the present projects proposed will not be successful.

"We sort of take it for granted that there is enough fuel that will be available, on time, in the right places to allow these projects to be built. We're not so sure, and people here will have a lot to do about it."

Richard Nemec, Denver

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