IAMU Natural Gas Pricing Impact to the Iowa Electric Power Generator 10/2/13 Jim Borowicz Key Energy Services, LLC

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1 IAMU Natural Gas Pricing Impact to the Iowa Electric Power Generator 10/2/13 Jim Borowicz Key Energy Services, LLC

2 Natural Gas Pricing Supply Transportation Capacity

3 How Natural Gas is Priced

4 Futures Contract A natural gas futures contract is a standardized contract between two parties to buy or sell 10,000 MMBtu s for a price agreed upon today with delivery and payment occurring at a specified future date. It is traded electronically on Globex, with the open cry method on the Nymex and on CME (ClearPort) off the floor voice broker for block trades.

5 Market Mechanics The natural gas futures market is an auction. Buyers bidding against each other cause prices to go up. Sellers selling against other sellers cause prices to go down.

6 Technicals Crude Oil Speculation Closing Positions Market Dynamics Options Fundamentals Price of Coal

7 Market Concept Summary The Futures market is not about Supply and Demand. Its much more. The Futures market is about all Buyers and Sellers.

8 Futures vs. Cash (physical) September 2013 Henry Hub Cash October 2013 Futures $4.00 $3.90 HUB CASH October Futures HENRY FOM INDEX $3.80 $3.70 $3.60 $/MMBtu $3.50 $3.40 $3.30 $3.20 $3.10 Note: generally, the futures market makes the move first and $ Days cash then follows Source: Telvent dtn

9 Liquid Wholesale Locations Cash Markets NIT / AECO Ventura Chicago Demarc Henry Hub Each wholesale point will have it s own index listed in Platts Source: eia

10 Financial Basis Link that ties the NYMEX futures market to the physical cash market for the multiple number of liquid cash locations across the US. Financial basis is the relationship between the futures price and the spot gas price at a location other than the Henry Hub. On average the difference between gas prices in two locations is the cost of transportation between the two points and the supply and demand balances in each region. NYMEX Futures Market Financial Basis Market Physical Cash Market

11 US Pipeline Grid Auction NIT / AECO Ventura The grid acts like a large balloon where gas can get anywhere and seeks out the highest price. Consequently, at the auction (daily or bid week) gas goes to the highest bidder first. When that demand is filled the market drops to the next highest bidder. Demarc Chicago Henry Hub Source: eia

12 The Cash Auction Mechanics In the pipeline grid, the buyer tends to drive the clearing bids for gas and the shipper tends to be passive in the Market Area. In the Field Area of the grid, the producer tends to be the driver in determining the clearing ask prices and the holder of transportation is passive. The highest price market receives gas first Pipeline Capacity to Market has space The field receives market price less transport The highest price market receives gas first Pipeline Capacity to Market is full The field price gets heavily discounted as it tries to find a home Separate auctions occur at both ends of the pipe simultaneously.

13 $ / MMBtu Mid Continent Cash Chicago is the January 2013 Mid Continent Cash Spreads GDA ANR sw GDA NGPL "Mid Cont" GDA PEPL GDA Southern Star GDA Demarc GDA Chicago GDA Ventura benchmark. NNG is short gas and must out bid Chicago to attract the necessary volume. Source: Telvent dtn

14 Chicago Ventura Demarc - Relationship $4.00 $3.90 September 2013 NNG PRICE TRENDS Chicago is the benchmark. Demarc and Ventura follow Chicago move for move. $/MMBtu $3.80 $3.70 $3.60 $3.50 GDA Ventura GDA Chicago GDA Demarc Days Source: Telvent dtn

15 Economic Dispatch September 2013 Chicago Spark Spread $ / MW hr $ $95.00 $90.00 $85.00 $80.00 $75.00 $70.00 $65.00 $60.00 $55.00 $50.00 $45.00 $40.00 $35.00 $30.00 $25.00 $20.00 $15.00 $10.00 $5.00 $ Efficiency rating times the price of natural gas in Chicago Next Day 'On Peak' N. Illinois (Com. Ed.) GDA Chicago "7200 Heat Rate" GDA Chicago "11000 Heat Rate" Source: Telvent dtn

16 Economic Dispatch September 2013 MISO Hub Spark Spread $ / MW hr $75.00 $70.00 $65.00 $60.00 $55.00 $50.00 $45.00 $40.00 $35.00 $30.00 $25.00 $20.00 $15.00 $10.00 $5.00 $0.00 MISO: Minnesota Hub Next Day 'On Peak' GDA Demarc "7200 Heat Rate" GDA Demarc "11000 Heat Rate" Efficiency rating times the price of natural gas plus the pipeline transportation cost Source: Telvent dtn

17 Coal Displacement Henry Hub needed to trade around $3.13/MMBtu to be competitive with and potentially displace 10% of coal in March To displace 20% of coal in March 2012, Henry Hub needed to be as low as $2.40. Source: Barclays Gas and Power Weekly Kaleidoscope The $3.13 bounce confirms market floor 1 st 10% 2 nd 10% Source: Telvent dtn

18 Putting Things Into Perspective NYMEX Monthly Price History Using price to forecast price suggests the market could trade lower from here? Source: Telvent dtn

19 Nymex Weekly Chart Using +1 & -1 Standard Deviation, we would expected the market to trade between $ $4.60, 66% of the time The market has an affinity to mean revert Source: Telvent dtn Lows that are greater than - 2 standard deviations fall in the 2 ½% of the distribution tail

20 Five Year Forward Nymex Futures $7.00 $ Month Forward Curve An extremely flat forward curve implies the market is unwilling to pay to store gas and is not fearful of the future $5.00 $4.00 $3.00 $2.00 $1.00 Slope $ / MMBtu y = x $0.00 Feb 14 Nov 13 Aug 16 May 16 Feb 16 Nov 15 Aug 15 May 15 Feb 15 Nov 14 Aug 14 May 14 Aug 17 May 17 Feb 17 Nov 16 Aug 18 May 18 Feb 18 Nov 17 Source: Telvent dtn

21 Natural gas prices rise with an expected increase in production costs after 2015 What is wrong with this forecast? It assumes that forecasting reserves is an exact science. Over time, the depletion of resources in inexpensive areas leads producers to basins where recovery of the gas is more difficult and more expensive, causing the cost of production to rise gradually. Source: eia

22 Supply

23 Production Forecast On shore natural gas production is forecasted to increase.6 Bcfd in 2014

24

25 US Pipeline Grid NIT / AECO Bakken Ventura Antrim Marcellus Demarc Chicago Woodford Fayetteville Barnett Haynesville Eagle Ford Henry Hub Source: eia

26 Shale Gas Production

27 Chesapeake Energy Production Source: Business Wire/Allbusiness.com

28 Chesapeake Energy Production Source: Business Wire/Allbusiness.com

29 Chesapeake Energy Production Source: Business Wire/Allbusiness.com

30 Chesapeake Energy Production Source: Business Wire/Allbusiness.com

31 Chesapeake Energy Production Source: Business Wire/Allbusiness.com

32 Making a Shale Produce - Hydraulic Fracturing When the backlog of drilled wells but not yet brought on line diminish, the steep decline will show up Source: Frac Tech The drainage of the fractures created by the Frac treatment causes the steep 1 st year declines

33 Design Flow of Gas Thru the Grid Source: eia The development of the Marcellus Shale is backing gas up back into Canada and the mid continent on ANR and Viking

34 Natural Gas Rig Count vs. NYMEX 1,800 1,600 1,400 Rig count is bottoming $18.00 out where $4.00 appears $16.00 to be a break even price $14.00 level. 1,200 $ , Rigs $/MMBtu $10.00 $8.00 $6.00 $4.00 $2.00 $0.00 Jun-07 Mar-07 Jan-07 Dec-07 Sep-07 Aug-08 May-08 Feb-08 Jan-09 Nov-08 Jul-09 Apr-09 Dec-09 Oct-09 Sep-10 Jun-10 Mar-10 Feb-11 Dec-10 Nov-11 Aug-11 May-11 Apr-12 Jan-12 Jul-12 Dec-12 Oct-12 Jun-13 Mar-13 Gas Rigs Nymex Source: Baker Hughes / DTN

35 Producer Drilling Decision The producers don t like current natural gas prices, they would be happy with a price between $7.50 and $8.50 is what I was hearing, but they run a business. Recently I asked a CFO for a large independent producer why they continued to drill for natural gas when the prices were this low. His responses was: as long as he can borrow the money at these low interest rates, drill the well and make 15% to 20% he will do that all day. By no means are they aggressively getting after it though. The producer is currently allocating more of their investment dollars towards drilling for oil than for natural gas, so we would not look for an over supply condition to last forever.

36 Transportation Capacity

37 Firm Capacity Natural gas pipelines do not have excess firm capacity available for sale that may meet your needs. F.E.R.C. doesn't allow them to build beyond a project peak capacity. Consequently, if you need firm capacity, it is highly likely that new pipeline construction may be necessary. Good news: pipeline companies are always eager to increase their through put and expand their system. Bad news: they like to bundle which can then make the timing of your project dependent on the timing and closure of their project.

38 Firm Transportation Choices Work with the pipeline Open season for New Construction Summit bids in the ROFR process for existing capacity Single project for New Construction Re-contracting Work with a third party Construct new private pipe to the interstate pipeline

39 Mid Continent Pipelines Northern Border Ventura Chicago Demarc Source: Bentek Energy LLC Four major interstate natural gas pipelines transport gas through the state of Iowa: Northern Border Northern Natural Gas ANR Natural Gas Pipeline Company Of America (NGPL)

40 Source: Northern Natural Gas Northern Natural Gas

41 Source: Northern Natural Gas Gas Supplies into NNG

42 NNG Direct Connect Power Plants Source: Northern Natural Gas

43 Northern Border Pipeline Source: Northern Border Pipeline Harper to Chicago tends to have capacity constraints

44 Northern Border Supply Sources Source: Northern Border Pipeline

45 Bakken Gas Capacity Balance Source: Northern Border Pipeline

46 Pipeline Expansion Timeline Source: Northern Natural Gas

47 Pipeline Project Timeline Estimate Project greater than $30.8 million Project Start 1 month Scope Route 2 months Cost Estimates 1 month Purchase Agreements executed 2 months National Environmental Policy Act (NEPA) Pre-filing File FERC 7-C FERC Certificate Received Land Acquired Start Construction Availabe for Service 6-9 months 4 months 9 months 8 months 8 months 3 months +/- 36 months

48 Iowa Utility Commission Guidelines Project Size < $10 million Time line: months Designation as distribution (single customer) or transmission (multiple customers) Distribution < 5 miles, operate < 150 psi on private land can avoid informational community meeting and permitting process as long as they adhere to the state engineering and construction code. Distribution or transmission > 5 miles, operate at =/> 150 psi on public land The Iowa Utility Commission within its formal permitting process will review engineering, design and project criteria to ensure each project meets predetermined state pipeline standards. When the state is satisfied all the proper projects requirements have been met, an internal commission approval is granted and a permit number is issued. Source: Iowa Utility Commission

49 Disclaimer This report is for informational purposes only and is not intended as an offer or solicitation to purchase or sell any commodity, futures, or option contract. The information in this report has been obtained from and are based upon various sources that Key Energy Services, LLC believes to be reliable, we do not guarantee their accuracy or completeness. All opinions, estimates and market views constitute Key Energy Service's judgment as of the date of this report and are subject to change without notice. Opinions in this report are based on different analytical techniques, disciplines, different criteria and time frames, therefore different opinions may result when applied to the same market. Strategies and opinions outlined in this report have inherent risks and are not appropriate for every investor or situation. You should reframe from entering into transactions in futures or options unless you fully understand the terms and risks of the transactions. Additional information is available upon request.

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