With the implementation of Federal Energy Regulatory Commission (FERC) Order 636, many observers of the gas pipeline industry felt the worst was over. The big problem of the 1980s, take-or-pay, was finally put to rest through a full pass-through of GSR (gas supply realignment) transition costs.

Unfortunately, the respite was short-lived. The current decade has brought its own set of hurdles for gas transportation: local distribution company (LDC) unbundling, mandated standardization, restructuring of the electric industry, and a divergence from the straight fixed-variable (SFV) rate method. Each issue noted can alone materially affect a pipeline's operations, but regarded in tandem these issues have the potential to synergistically increase the complexity and number of transactions a pipeline processes beyond its ability to handle them efficiently with its current processes and information systems.

Fragmented Capacity; Back-Office Anxiety

Much attention has focused on how pipelines will deal with LDC unbundling and the consequent capacity turnbacks. Unsubscribed, this released capacity poses financial problems. Resubscribed, as it eventually will be, by retail marketers, aggregators, and end users this capacity becomes a back-office problem for pipelines. Capacity that was once used by only one customer will be fragmented among many. Capacity that was marketed, nominated, scheduled, and invoiced to one LDC will, when fragmented, have to go through that process for multiple marketers or end users. The number of shippers and nominations a pipeline handles are direct cost drivers for many of its functions, including the scheduling, balancing, and invoicing functions.

In addition, marketers and end users tend to be higher maintenance as customers for pipelines than large LDCs. While typically more advanced in their use of electronic communication than an LDC, marketers more than offset this benefit to pipelines by being less predictable and handling a wider variety of deals (e.g., end-user and off-system transport deals, being active in both field and market areas, higher frequency of nomination changes).

Shorter Cycle Time

Having received recommendations on gas pipeline business practices from the Gas Industry Standards Board (GISB), the FERC released its Notice of Proposed Rulemaking¹ on gas pipeline business practices on April 26, 1996. In that proposal, the FERC decreed format and time requirements for nominations and confirmations:

• Shipper nomination delivered to pipeline: 11:45 a.m. (central time zone).
• Pipeline confirmation to shipper: 4:30 p.m. (central time zone).
• Cycle time: 4.75 hours

An informal survey of eight pipelines reveals that the proposed standards will shorten pipeline-to-shipper response time (see Table).

Also, currently shippers have staggered cut-off times for their nominations, because each pipeline has defined its own nomination deadline. With a single cut-off time, shippers', especially marketers', nominations will likely be more rushed, hence more inclined to change. If the new deadlines prove unmanageable for shippers, then standardization of the nomination deadline could actually have the opposite of its intended effect and result in a de facto wider accepted window of nominations through late and real-time nominations.

Flexible Prices, New Services

Historically, pipeline prices have been tariff based. The FERC's recent statement on alternative rates² now gives pipelines greater freedom to pursue nontraditional pricing structures. Additionally, as more long-term contracts expire and capacity turnbacks increase, the FERC will allow pipelines to depart from the SFV rate structure for unsubscribed capacity.³ Convergence of gas and electric markets will also foster new deals with nontraditional pricing. Marketers increasingly will demand nontraditional capacity deals that mirror the financial instruments they use (em such as capacity prices tied to basis differentials between energy hubs. The challenge to pipelines will lie in developing processes and systems that can accommodate flexible prices and track daily fluctuating prices through invoicing.

Services, like prices, have remained tied to tariffs and have proved slow to change. After a decade of intense cost-cutting and reengineering, pipelines will find the richest net-income increases not in cost reduction but in maximizing revenue through new services. The changes that took place in the telecommunications industry after deregulation revealed a heightened focus on new services. As AT&T lost its monopoly, new products and services emerged quickly. Marketing became more aggressive than before. Call waiting and caller ID serve as but two examples. In addition, new types of services evolved to meet the needs of specialized groups of customers. Consider the numerous calling plans based on the usage of various customer groups.

Better Technology: Decreased Average Customer Sophistication

As products like Williams's Streamline and Enersoft's Channel 4 on the commodity side, and TransCapacity's T/Nominator on the capacity side, increase in sophistication, users farther and farther downstream will be able to make their own deals. The trip downstream yields steadily decreasing volumes, hence decreasing economic motivation on the part of pipeline customers to fully understand the gas flow process. A

residential user ordering gas via his PC would be the extreme example. Pipelines hoping to serve these new, less-sophisticated shippers must consider the likely increase in customer-service costs per revenue dollar that they will incur if they maintain a relatively generic level of customer service for all shippers.

Strategies for Success

• Upgrade Info Systems. The growth in the number of transactions will have a significant effect on pipeline information systems. Transaction-sensitive systems that run daily (em such as capacity allocation and balancing programs (em might now take three hours where they once took only one. Pipelines will find that this increase in processing time conflicts with their goal of serving an energy industry that regards fast information as a competitive advantage. Thus, competitive pipelines will align their processes with the energy industry's expectations by upgrading their current information systems.
• Open Electronic Links. For pipelines to meet the GISB-suggested compressed cycle of nomination and confirmation requires a dramatic improvement in the current third-party confirmation processes. The current system of matching contracts between shippers and operators via phone calls and fax simply will not suffice. Expect to see more pipelines setting up direct electronic links with their third parties.
  (Restrict Flexibility. An alternative to improving electronic communications to manage the increased flux caused by greater shipper reliance on late and real-time nominations would be for a pipeline to limit such nominations by only fulfilling the minimum GISB requirements (e.g., cutting off all nominations for the next gas day at 11:45 a.m., allowing only one intra-day nomination change.)
• Measure Profit by Customer. Pipelines must understand how much each of their shippers brings to the bottom line in order to establish a new mechanism for pricing nonstandard deals. In theory, cost-of-service methods used by the FERC to set rates should give pipelines the data to determine profitability by customer, making the minimum tariff rate the floor a pipeline can price at without losing money. But even a casual observer of the gas industry knows that rates based on cost of service often bear little resemblance to the true cost of serving any individual customer. The resulting cross-subsidization of less profitable shippers by more profitable shippers obscures the proper discounting range for maximizing profitability for any individual shipper.
• Calculate Profitability by Transaction. As the number of nominations increases and deals become more short-term, pipelines must migrate from pricing desks where shippers call to price a deal and preset rates posted on their electronic bulletin boards, to a more dynamic pricing mechanism. Pricing desks will be expensive to maintain as calls increase and preset posted rates lack the flexibility to respond to the energy market's quickly changing variables. Pipelines should strive for a pricing system that is linked to their SCADA (system control and data acquisition) systems (one capable of analyzing the marginal cost of doing a deal at any point in time. For example, a deal that causes another compressor to come on line will have a high marginal cost and should be priced accordingly.)
• Formalize a Process to Create New Services. Pipelines historically have not had to create new products and services continuously to serve their markets. Instead they generally sought, on an ad-hoc basis, new ways to market existing services. In the future, successful pipelines will formalize a process of innovation that should increase the number of new products and services brought to the market as well as how quickly they are implemented.
• Consult with Shippers. Be more than an order-taker. As the complexity of the business changes, so will the role of the pipeline employee. For example, as the logistics of gas flow become more electronic, a scheduler's focus can shift from taking orders to actively helping customers accomplish their business in a timely and efficient manner. To prepare pipeline employees for their new roles will require that they have a detailed understanding of the pipeline's business as well as that of their customers. Employees can gain this knowledge in a number of ways (for example, internal and external training and face-to-face interaction with their peers on the customer side.)

Endnotes:

1. Standards for Business Practices of Interstate Nat. Gas Pipelines, Dkt. No. RM96-1-000, 75 FERC (pp 61,077.

2. Alternatives to Traditional Cost-of-Service Ratemaking for Nat. Gas Pipelines, Dkt. No. RM95-600, Jan. 31, 1996, 74 FERC (pp 61,076.

3. See, e.g., Natural Gas Pipeline Co. of America, Dkt. RP95-326, Oct. 11, 1995, 73 FERC (pp 61,050, and the proposed settlement for Tennessee and El Paso.