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Today in Energy

February 27, 2018

Natural gas power plants purchase fuel using different types of contracts

natural gas purchases by U.S. power plants, as explained in the article text
Source: U.S. Energy Information Administration, EIA-923 Annual Power Plant Operations Report

Most natural gas-fired power plants in the continental United States fulfill all of their fuel requirements through firm contracts that obligate the natural gas producer and the pipeline operator to send the natural gas to the power plant when requested. These power plants reported receiving 71% of the natural gas purchased by power plants in 2016.

About 16% of natural gas used for power generation in 2016 was purchased by plants that reported using only interruptible contracts, in which the natural gas supplier or pipeline operator has the option of interrupting the fuel supply for contractually stipulated reasons. The remaining 13% of natural gas was purchased by plants through some mix of firm and interruptible contracts throughout the year.

The electric power sector, which surpassed the industrial sector in 2008 and the combined residential and commercial sectors in 2015, has become the largest consumer of natural gas in the United States. As the share of natural gas used for power generation has increased, so has the interdependence between natural gas supply and infrastructure and electric power generator operations.

One aspect of this evolving relationship is the approach to managing the risk of generator access to natural gas. Firm contracts and interruptible contracts are two broad types of contracts for purchasing natural gas, although the legal obligations for delivering natural gas between a fuel supplier and a natural gas-fired power plant can vary, depending on their specific agreements.

Transactions between power plants and natural gas suppliers generally include a supply component, which involves an agreement with a fuel producer or marketer to supply the commodity, and a delivery component, which involves an agreement with a pipeline operator to transport the fuel from the producer to the generator. For any transaction, one or both of these components can be firm or interruptible. In most cases, power plants rely on one type of contract (either firm or interruptible) for both the supply and delivery component of the natural gas purchase contract.

Firm contracts provide power plant operators with an agreed-upon capacity for the producer or pipeline to supply natural gas, establishing a high priority for fuel requested by the power plant. The supply or delivery of natural gas cannot be curtailed under a firm contract except under unforeseeable circumstances. Firm contracts are most prevalent in the West and South regions of the United States.

In contrast, interruptible contracts (also called nonfirm contracts) are lower-priority fuel supply and transportation arrangements. Under these contracts, the flow of natural gas to a power plant may be stopped or curtailed if firm contract holders use the available capacity or if other interruptible customers outbid the power plant. These contracts are generally set up for short periods, often for next-day delivery. Interruptible contracts are less expensive than firm contracts, reflecting the higher risk of disrupted fuel receipts. Interruptible contracts are most common in the Northeast; in 2016, more natural gas in this region was purchased using interruptible contracts than firm contracts.

EIA’s detailed power plant data show whether power plant fuel receipts were purchased under firm or interruptible arrangements. Only large power plants (larger than 200 megawatts for natural gas) are required to report fuel receipts to EIA, but these plants account for most of the natural gas consumed for electricity generation. In 2016, EIA began differentiating the type of arrangements for both the supply and delivery components of fuel purchase contracts.

Principal contributors: Tyler Hodge, Chris Cassar