Eversource 2008 Annual Report Download - page 34

NU Enterprises Contracts
Wholesale Derivative Contracts: On January 1, 2008, we implemented SFAS No. 157.
For further information on SFAS No. 157, see Note 1F, “Summary of Significant Accounting
Policies - Fair Value Measurements,” and Note4, “Fair Value Measurements,” to the
consolidated financial statements, and the “Critical Accounting Policies and Estimates”
section of this Management’s Discussion and Analysis.
At December 31, 2008 and 2007, the fair value of NU Enterprises’ wholesale derivative
assets and derivative liabilities (through its subsidiary Select Energy), which are subject
to mark-to-market accounting, are as follows:
December 31,
(Millions of Dollars) 2008 2007
Current wholesale derivative assets $ - $ 36.2
Long-term wholesale derivative assets - 7.2
Current wholesale derivative liabilities (14.5 ) (64.9 )
Long-term wholesale derivative liabilities (49.4 ) (72.5 )
Portfolio position $ (63.9 ) $ (94.0
)
Numerous factors could either positively or negatively aect the realization of the
wholesale derivative net fair value amounts in cash. These factors include the volatility
of commodity prices until the derivative contracts are exited or expire, dierences
between expected and actual volumes, the performance of counterparties, and other
factors.
Select Energy has policies and procedures requiring all of its wholesale derivative
energy positions to be valued daily and segregating responsibilities between the
individuals actually transacting (front oce) and those confirming the trades (middle
oce). The middle oce is responsible for determining the portfolio’s fair value
independent from the front oce.
The methods Select Energy used to determine the fair value of its wholesale derivative
contracts are identified and segregated in the table of fair value of wholesale derivative
contracts at December 31, 2008 and 2007. A description of each method is as follows:
1) prices actively quoted primarily represent NYMEX futures and swaps that are marked
to closing exchange prices; and 2) prices provided by external sources primarily include
over-the-counter forwards and options, including bilateral contracts for the purchase or
sale of electricity, and are marked to the mid-point of bid and ask market prices. The
mid-points of market prices are adjusted to include all applicable market information, such
as historical experience with intramonth price volatility and bilateral contract prices in
illiquid periods. Currently, Select Energy also has a derivative contract for which a portion
of the contract’s fair value is determined based upon a model. The model utilizes natural
gas prices and a heat rate conversion factor to determine o-peak electricity prices for
one New York routinely quoted hub zone for 2013. For the balance of hub zones, broker
quotes for electricity prices are generally available on-peak through 2013 and o-peak
through 2012.
Generally, valuations of short-term derivative contracts derived from quotes or other
external sources are more reliable should there be a need to liquidate the contracts, while
valuations for longer-term derivative contracts are less certain. Accordingly, there is a risk
that derivative contracts will not be realized at the amounts recorded.
The tables below disaggregate the estimated fair value of the wholesale derivative
contracts. Valuations of individual contracts are broken into their component parts
based upon prices actively quoted, prices provided by external sources and model-based
amounts. Under SFAS No. 157, contracts are classified in their entirety according to the
lowest level for which there is at least one input that is significant to the valuation.
Therefore, these contracts are classified as Level 3 under SFAS No. 157. At December 31,
2008 and 2007, the sources of the fair value of wholesale derivative contracts are included
in the following tables:
(Millions of Dollars) Fair Value of Wholesale Contracts at December 31, 2008
Maturity in
Maturity Less Maturity of One Excess Total Fair
Sources of Fair Value than One Year to Four Years of Four Years Value
Prices actively quoted $ (10.1 ) $ (7.3 ) $ (1.2 ) $ (18.6 )
Prices provided by external
sources (2.7 ) (21.2 ) (10.0 ) (33.9 )
Model-based (1) (1.7 ) (6.7 ) (3.0 ) (11.4 )
Totals $ (14.5 ) $ (35.2 ) $ (14.2 ) $ (63.9
)
(1) The model-based amounts include the eects of implementing SFAS No. 157.
(Millions of Dollars) Fair Value of Wholesale Contracts at December 31, 2007
Maturity in
Maturity Less Maturity of One Excess Total Fair
Sources of Fair Value than One Year to Four Years of Four Years Value
Prices actively quoted $ (4.7 ) $ (0.2 ) $ 1.4 $ (3.5 )
Prices provided
by external sources (24.0 ) (38.8 ) (13.4 ) (76.2 )
Model-based - 4.3 (18.6 ) (14.3 )
Totals $ (28.7 ) $ (34.7 ) $ (30.6 ) $ (94.0 )
For the years ended December 31, 2008 and 2007, the changes in fair value of these
derivative contracts are included in the table:
Total Portfolio Fair Value
(Millions of Dollars) 2008 2007
Fair value of wholesale contracts outstanding
at the beginning of the year $ (94.0 ) $ (126.5 )
Pre-tax effects of implementing SFAS
No. 157 ($3.2 million after-tax) (1) (6.1 ) -
Contracts realized or otherwise settled during the year (2) 29.2 38.9
Change in unrealized gains/(losses) included in earnings 7.0 (6.4 )
Fair value of wholesale contracts
outstanding at the end of the year $ (63.9 ) $ (94.0 )
(1) Pre-tax eect recorded in fuel, purchased and net interchange power on the consolidated
statement of income.
(2) The 2008 amount includes purchases, issuances and settlements of $24.2 million and realized
intra-month gains of $5 million.
For further information regarding Select Energy’s derivative contracts, see Note 3,
“Derivative Instruments,” to the consolidated financial statements.
Counterparty Credit: Counterparty credit risk relates to the risk of loss that Select
Energy would incur because of non-performance by counterparties pursuant to the
terms of their contractual obligations. Select Energy has established credit policies
with regard to its counterparties to minimize overall credit risk. These policies require
an evaluation of potential counterparties’ financial condition (including credit ratings),
collateral requirements under certain circumstances (including cash advances, LOCs, and
parent guarantees), and the use of standardized agreements that allow for the netting
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