Vectren 2012 Annual Report Download - page 65

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63
are insignificant in terms of value and volume at December 31, 2012. However, it is possible that the utilization of these
instruments may grow in the future.
Wholesale Power Marketing
The Company’s wholesale power marketing activities undertake strategies to optimize electric generating capacity beyond that
needed for native load. In recent years, the primary strategy involves the sale of generation into the MISO Day Ahead and Real-
time markets. The Company accounts for any energy contracts that are derivatives at fair value with the offset marked to
market through earnings. No market sensitive derivative positions were outstanding on December 31, 2012 and 2011.
For retail sales of electricity, the Company receives the majority of its NOx and SO2 allowances at zero cost through an
allocation process. Based on arrangements with regulators, wholesale operations can purchase allowances from retail
operations at current market values, the value of which is distributed back to retail customers through a MISO cost recovery
tracking mechanism. Wholesale operations are therefore at risk for the cost of allowances, which for the recent past have been
volatile. The Company manages this risk by purchasing allowances from retail operations as needed and occasionally from
other third parties in advance of usage. In the past, the Company also used derivative financial instruments to hedge this risk,
but no such derivative instruments were outstanding at December 31, 2012 or 2011.
Other Operations
Other commodity-related operations are exposed to commodity price risk associated with gasoline/diesel, coal, and natural gas
through ProLiance. Open positions in terms of price, volume, and specified delivery points may occur and are managed using
methods described below with frequent management reporting.
The Company, as well as ProLiance, purchase and sell natural gas and coal to meet customer demands. Forward contracts,
and occasionally option contracts, commit them to purchase and sell commodities in the future. Price risk from forward sell
positions is mitigated using stored inventory and, for ProLiance, offsetting forward purchase contracts. Related to coal mining
operations, contracts are expected to be settled by physical receipt or delivery of the commodity. ProLiance more frequently
uses financial instruments that are derivatives to hedge its market exposures that arise from gas in storage, imbalances, and
fixed-price forward purchase and sale contracts. Occasionally, the Company will hedge a portion of its gasoline requirements
using financial instruments. However, during the years presented such utilization has not been significant.
Interest Rate Risk
The Company is exposed to interest rate risk associated with its borrowing arrangements. Its risk management program seeks
to reduce the potentially adverse effects that market volatility may have on interest expense. The Company limits this risk by
allowing only an annual average of 15 percent to 25 percent of its total debt to be exposed to variable rate volatility. However,
this targeted range may not always be attained during the seasonal increases in short-term borrowings. To manage this
exposure, the Company may use derivative financial instruments.
Market risk is estimated as the potential impact resulting from fluctuations in interest rates on adjustable rate borrowing
arrangements exposed to short-term interest rate volatility. During 2012 and 2011, the weighted average combined borrowings
under these arrangements approximated $287 million and $206 million, respectively. At December 31, 2012, combined
borrowings under these arrangements were $420 million. As of December 31, 2011 combined borrowings under these
arrangements were $368 million, which excludes the impact of a $100 million long-term debt issuance occurring February 2012.
Based upon average borrowing rates under these facilities during the years ended December 31, 2012 and 2011, an increase of
100 basis points (one percentage point) in the rates would have increased interest expense by approximately $2.9 million in
2012 and $2.0 million in 2011.
Other Risks
By using financial instruments to manage risk, the Company, as well as ProLiance, creates exposure to counter-party credit risk
and market risk. The Company manages exposure to counter-party credit risk by entering into contracts with companies that