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Have you seen your company's natural-gas bill lately? If the numbers make you blanch, find out how to audit your energy program and tap into some real savings.

A large food processing company decided to perform a natural-gas audit for five of its plants. These plants are located throughout the United States and consume a total of 4.3 billion cubic feet of natural gas per year, at an annual cost of $11 million. Before the audit began, the company's director of energy purchasing and several energy experts interviewed plant personnel to gain a clear understanding of each plant's process and natural-gas usage patterns and hammered out the corporate gas-purchasing objectives. Then they began looking at cost-cutting opportunities.

The audit revealed more than $2 million per year in potential natural-gas savings. It showed two of the plants should arrange their own gas supply and transportation instead of buying a bundled service from their host local distribution company, and another was unnecessarily incurring additional expenses, even though its process and location made alternatives possible.

The audit prompted the company to be introspective about its energy needs and sources, something few companies do. Energy costs related to natural gas and electricity command a large portion of an industrial company's budget. The typical large industrial consumes at least one billion cubic feet of natural gas per year, while a small industrial consumes approximately one-third this amount. But gas costs don't necessarily correlate with size. Companies that aggressively manage their gas costs can pay as little as $1.75 per thousand cubic feet (Mcf) at the burnertip (or final gas cost). By contrast, burnertip costs of more than $3.50 per Mcf aren't unusual for unsophisticated companies.

Until recently, companies didn't have much control over their energy costs, short of ceasing production. Natural-gas producers sold to pipelines, which sold to local distribution companies, which in turn sold to corporations. All these separate transactions added to the ultimate price companies paid for gas.

But in the last few years, the Federal Energy Regulatory Commission has revolutionized the natural-gas industry through a series of orders mandating the unbundling of pipeline sales, storage and transportation. Some call this deregulation, but that falsely implies all regulations have been lifted. The term "reregulation" more accurately portrays the new, less stringent controls that allow for more competition.

Today, reregulation of the interstate pipeline network means you can now buy gas directly from producers or marketers and transport it to the burnertip under your own authority. In fact, some corporate decision makers are realizing six-figure savings by doing this. The key to achieving such savings for your company is strategic thinking and careful planning to improve your gas-purchasing efficiency and avoid being left behind.

The first thing you need to do is conduct an audit of your company's natural-gas procurement program. The audit will tell you how your company is spending money on its energy needs in relation to its goals and objectives and show how you can spend or save your dollars more efficiently. Before performing the audit, set goals for your natural-gas consumption. These may include reducing overall energy spending, establishing ready and dependable long-term supplies of energy and finding alternative sources of fuel. Once you've established these objectives, you're ready to proceed with the natural-gas audit. Here are some important issues to consider when evaluating your natural-gas procurement program.

FROM THE GROUND UP

How are you currently purchasing your natural gas and from whom? If your company relies on a local distribution company to supply all of its gas needs, odds are you're spending a lot of money unnecessarily on natural gas. Distribution companies will obtain the same pipeline transportation you could get on your own. Then they'll increase the cost and combine it with the cost of their gas. By buying a package, you're often overpaying for your supplies by the amount of the markup on the rebundled purchase. If you're a small company that lacks competitive alternatives, such as the ability to bypass the local distribution company or set up alternative fuel systems, you may be better off buying a bundled package. Still, check into the possibility of direct purchasing first. It may be more feasible than you think.

To maximize savings, you need to evaluate and negotiate each piece of the transportation and supply process separately. In making the transition to direct purchasing, it's not uncommon for each division of a large industrial company to go from dealing with a single local distribution company to supply and transport all of its gas to using several interstate pipelines, fed by more than 20 suppliers and aided by several storage accounts. Remember that you can negotiate your own contracts with a transporter or gas supplier. More important, you can terminate these contracts and take your business elsewhere if the relationship proves unsatisfactory in terms of either service or price.

What transportation contracts are in place, and what's the strategy behind them? Have you revised this strategy to reflect the regulatory changes in the natural-gas market? Since you now have some choices on how you obtain your gas, review any existing energy contracts and develop an all-encompassing plan of action. For example, you can transport on a firm or interruptible basis. A firm transportation contract represents the highest quality of transportation service. It operates under a fixed-rate schedule or an agreed-upon discount from this schedule that anticipates no planned interruption of gas delivery. Firm contracts give you reliability, but they're also generally much more expensive to use than an interruptible contract. Typical prices are 50 cents per Mcf for a firm contract and 20 cents per Mcf for an interruptible contract.

Interruptible contracts are subject to curtailment according to the operational guidelines of each pipeline. Strategically locating supplies and storage relative to pipeline bottlenecks, however, can reduce or eliminate interruptions. Using alternative fuel as a backup to operations is also a way to mitigate problems that might occur if your fuel supply is interrupted. The savings involved by using interruptible contracts are often large, which is something to consider when planning your transportation strategy. Monthly savings can range from $20,000 for a small end-user to $250,000 for a large manufacturing facility.

However, you also need to keep in mind the nature of your operations. For instance, an aluminum manufacturer uses certain processes in making aluminum that can't be interrupted. Such a manufacturer would probably choose a firm contract to ensure a steady supply of gas at all times. But a brick manufacturer doesn't have that restriction, so it could go with an interruptible contract for a portion of its transportation needs.

If you're negotiating with a variety of suppliers, how aggressive are you? Do you rate each supplier for reliability, responsiveness and competitive pricing? As a prudent buyer, you should compare all your options to your company's objectives on price, reliability and service.

Are you evaluating opportunities in the capacity-release market? Reregulation of the natural-gas marketplace has opened the door for companies to reassign interstate pipeline capacity to other companies on a firm basis. If such a secondary market exists, it may be wise to transport natural gas on a firm basis, increasing reliability without the worry of wasted capacity. Often the result is greater reliability at a significant discount.

Here's how it works: An owner of a firm transportation contract (assignor) that doesn't need all the capacity to which it's entitled can relinquish or release this capacity to another party (assignee) that does need it. The parties agree on the compensation between themselves, but it can't be more than the maximum fixed rates the interstate pipeline charges. In Canada, however, the assignor can charge whatever the market will bear. Thus, the assignor recovers some of its fixed expenses, while the assignee obtains needed capacity, often at a discounted price. The secondary market also provides maximum flexibility to negotiate capacity on the same pipeline, or between pipelines, and to have a source of more economical or reliable gas-supply packages. The assignor can also attach conditions to the agreement, such as the ability to recall the capacity within so many hours' notice.

WHERE TO KEEP IT ALL

What additional services is your company using and what are the objectives and costs of these services? For example, storage facilities are a way to store gas that's been transferred from its original location. These facilities usually consist of natural geological reservoirs like depleted oil and gas fields, underground salt domes or abandoned mines. Pipelines, local distribution companies and independent operators all may offer storage facilities. These services offer reliability, the means to meet peak plant usage and a tool to meet pipeline balancing requirements. For some companies, the cost of a storage facility isn't worth the extra value they get from storing the gas, but it can often be a useful option.

Market hubs have evolved to help companies take advantage of the opportunities that are a natural outgrowth of a competitive market, including the chance to reduce transportation and gas costs and to arbitrage gas prices. Market hub operators can also minimize risks like daily scheduling or monthly imbalance penalties through their parking, loan and wheeling services.

Parking simply means you leave or park your excess gas at the market hub for one day or more. A hub's loan service provides short-term loans of gas to companies that you can pay back (in gas) in a period of days. By using parking and loans, you can avoid daily scheduling penalties and minimize transportation costs.

You can also use hub parking and loan services to arbitrage gas prices. For example, you could purchase next month's gas requirements at the end of the current month (when prices may be lower), park the gas at the market hub for delivery next month and avoid next month's higher prices. Or you could bum loan gas this month, if you think this month's gas prices will be high, and repay the loan from purchases next month, when prices may be lower.

Market hubs also offer wheeling services, a way of moving gas from one pipeline to another through the hub. You designate gas on one pipeline to be delivered at the market hub and on a second pipeline to be received at the hub. This service is useful in routing gas around pipeline bottlenecks, relieving capacity constraints, enlarging your supply portfolio and more efficiently using released transportation capacity.

Most companies purchase these services from a market hub operator. The more sophisticated and aggressive companies, particularly those with multiple locations in the same market regions, can create exclusive market hubs for their own use. These companies save money because they don't have to pay a hub operator, but they can still use parking and loan techniques. The difference is that if one of the company's facilities is short on gas, for example, it borrows gas from another company plant rather than the hub operator.

Should your company use alternative fuel sources? Both fuel oil and propane are good alternative sources of fuel, depending on your plant's operations. But note you can use fuel oil (No. 2 or No. 6) only in certain operations, and it may have environmental restrictions. You can use propane in any operation that uses natural gas, but it's expensive to install and requires a large amount of storage space.

How well are you managing daily tolerance limits in the pipeline? Every major interstate pipeline imposes scheduling and balancing requirements within its Federal Energy Regulation Commission-approved transportation tariffs. Balancing, either on a daily or monthly basis, means equalizing the gas you receive from the pipeline with the withdrawals you make out of the pipeline.

Until recently, most pipelines were ill-equipped to enforce scheduling and balancing requirements. Now, prodded by the changes in the marketplace, pipelines have come up to speed with increasingly sophisticated pipeline control systems that are poised to crack down on violating shippers. As a result, the operating tolerances, or the amount of gas each company is permitted to be out of balance, have been drastically reduced. If you exceed your established tolerance level, the pipeline can impose scheduling or balancing penalties of anywhere from 10 cents to $10 per Mcf.

Examine how much, on average, your company is paying in pipeline penalties and how much you're paying in management costs to avoid them. Also, find out whether you have any imbalances you should reconcile. For instance, does the pipeline or your supplier owe your company money because of natural-gas imbalances on the pipeline? Do you owe the pipeline money for taking more gas than you purchased?

While you're conducting your audit and deciding whether to purchase your gas directly (if you don't already), remember that your savings come with a price tag: the additional cost of administration and management functions that pipeline and local distribution companies used to perform. Where once you might have had only a few discrete contracts to administer, you may now have numerous supply contracts and transportation and storage agreements in place to meet plant requirements. You must maintain working relationships with a wide assortment of distribution companies, interstate pipelines, producers, marketers and brokers throughout the United States and Canada to monitor market conditions, target opportunities and avoid major mishaps and penalties.

Finally, bear in mind that the natural-gas marketplace is a relatively new animal, economically speaking. Therefore, you need to maintain reliability while maximizing cost savings and continually monitor changes in the forces affecting the regulations, supply, transportation and storage of natural gas. That way you'll know the best possible option in any market situation.

RELATED ARTICLE: PLUGGING INTO THE ELECTRICITY MARKET

On the heels of successful reregulation in the natural-gas industry, the electricity industry is undergoing fundamental structural changes that will introduce competition to the last of the major "natural" monopolies. What's ultimately at stake here is whether you'll be able to shop in the open market for electricity, instead of being forced to purchase power from a local utility.

Since the end user must still be physically connected to local distribution and transmission lines, the local utility would have to transmit, or "wheel," power purchased from another supplier to the end user. The concept of "retail wheeling" has shaken this normally static industry and will forever change the way companies buy electricity.

Why the drive for retail wheeling? Electricity prices are simply too high in many parts of the country. This is especially evident in areas where a high-priced utility is adjacent to a low-priced utility, a rate disparity that couldn't exist in a competitive market. In California, for example, the average industrial rate is 7.6 cents per kilowatt hour, while in neighboring Oregon, the average rate is only 3.2 cents per kilowatt hour. These high rates are especially debilitating to electricity-intensive companies like the steel, aluminum, oil and chemical industries.

Also, the restructuring of the natural-gas industry has shown the market can be trusted to meet society's needs while pushing down costs and increasing the quality of service. While industrial customers will be the primary beneficiaries of retail wheeling, there's no reason to believe residential-electricity customers won't enjoy lower electric bills as the entire industry becomes more efficient and cost-conscious.

- JB, DB and JMR 

Ms. Barnes, Mr. Boger and Ms. Rudick are senior energy consultants with Strategic Energy Ltd. in Pittsburgh.