Contrary to a recent preliminary determination (PD) by FERC, Red Lake Gas Storage LP has argued the California and southwestern gas marketplace has changed dramatically since the energy crisis of 2000-2001, and its proposed 12 Bcf Arizona storage project should be allowed to charge market-based rates.

Weak gas demand (down 18% from the peak in mid-2001) in the Southwest and California, new pipeline and storage capacity (37% slack capacity this year on interstate pipelines in the region), and changing capacity allocation schemes on El Paso make it impossible for the new storage project to wield market power and drive up prices, Red Lake said in a request for rehearing of the Commission’s January order.

FERC’s decision was based on market conditions that no longer exist, Red Lake said. Furthermore, company officials told the Commission that the storage project probably will not go forward without market-based rates because during soft market conditions cost-of-service rates will have to be discounted below a rate that recovers capital investment. There’s no chance of making up for those discounts during more favorable conditions because of the changes in the marketplace, officials told FERC.

Red Lake is planning to develop its high-deliverability storage field about 30 miles north of Kingman, AZ, in Mohave County. It would have 12 Bcf of working gas capacity, injection capability of 450 MMcf/d, and 900 MMcf/d of deliverability. The project would include two salt caverns with 4-8 Bcf of working capacity and 1.5 Bcf of cushion gas in each, 31 miles of header pipeline and 33,000 horsepower of compression. The field would be connected to El Paso Natural Gas, Transwestern Pipeline and Southern Trails.

The Federal Energy Regulatory Commission granted the project a favorable PD on non environmental grounds in January, but rejected a market-based rate design, concluding that Red Lake’s market power analysis was flawed. FERC found that Red Lake, which would be the only storage facility serving markets in Arizona, Nevada and western New Mexico, mistakenly included storage facilities outside its geographic service territory as potential competitors. A more restricted geographic analysis showed excessive market power.

The Commission determined that capacity constraints on various pipelines in the region prevented a number of other existing regional storage projects from competing with Red Lake’s proposed field. The Commission also said that sold-out firm transportation conditions at all of the regions other storage and pipeline facilities would give Red Lake a significant amount of market power with its new high deliverability storage field.

Testimony provided on behalf of Red Lake, however, indicated the Commission made a number of errors in its analysis. “The error most critical” was the exclusion from Red Lake’s geographic market of storage facilities in Northern California, Red Lake said. The Lodi, Wild Goose and PG&E gas storage facilities all will compete with Red Lake for customers and will actually be in a better position than Red Lake by being closer to the highest priced market. Transportation and storage services already are provided by these Northern California facilities to customers in the same market area that will be served by Red Lake.

An affidavit of LECG LLC consultant James Wilson submitted by Red Lake in its request for rehearing shows that a large amount of slack pipeline capacity will exist in the Southwest and California markets over the next few years. Pipeline capacity in the Southwest currently provides much of the region’s storage-like services because there are no storage fields other than one El Paso uses for pipeline balancing.

Wilson found that the four-state region of California, Nevada, Arizona and New Mexico had 31% slack interstate pipeline capacity in 2002 and will have 37% slack capacity in 2003. “Expressed instead as a ‘reserve margin’ over annual average demand levels, the reserve margin would be 44% and 58% for 2002 and 2003, respectively,” said Wilson. “Even based on the very high demands that occurred during 2000-2001, with recent capacity additions this market area will have considerable slack capacity; using demand for the June 2000 through May 2001 period (the all-time high), slack will be 22% using 2003 capacity.”

Wilson also noted that the California Energy Commission recently determined that there also will be significant slack capacity within California: 21% on PG&E’s system through 2007; and 37% in 2003 on SoCalGas, dropping to 18% in 2007. Wilson said recent comments by officials at El Paso Natural Gas also indicate that pipeline is no longer constrained. Furthermore, basis differentials have declined to substantially below transportation rates.

Given all these factors, Red Lake’s revised calculations show it will have a market share of less than 5% for working gas and less than 14% for peak day deliverability, and that excludes the consideration of slack capacity on interstate pipelines, which currently provide much of the region’s storage-like services.

“Today there is at least 32.5 Bcf of firm unsubscribed storage capacity at California storage facilities,” Red Lake said, adding that current storage providers are significantly discounting service. “In 2004, more firm, unsubscribed storage capacity will be available from the Wild Goose expansion and from PG&E’s noncore storage…for a total of at least 43.1 Bcf of firm unsubscribed storage capacity.”

The unconstrained and competitive western natural gas market “limits the value of storage services, the prices storage providers can ask for such services and significantly mitigates if not extinguishes the potential for a storage facility to exercise market power,” Red Lake told FERC.

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