In this issue:

• Spot Market Overview
• Managing Your Electricity Risk
• Hydro-Generation

Spot Market Overview

Spot prices during Summer 2007 were below average for the period. The lower than average prices were the result of healthy hydro storage levels at the beginning of the period, settled weather and lower demand for the majority of the month. Towards the end of the quarter, spot prices began to rise as hydro levels fell.

A period of continued dry weather late in the quarter saw soil moisture levels fall and hydro levels recede, although this was partially offset by rainfall in March. Hydro storage levels remained high for the first half of the quarter, the national storage level not dropping below 70% until 1 March. All major catchment levels fell significantly during the last half of the quarter, with North Island storage falling from 74% to 53%, and South Island storage falling from 85% to 68%. Overall New Zealand storage has fallen from 83% to 65%.

National Storage

Prices for the period have averaged 5.76c/kWh at the Haywards node. These were significantly above the 3.83c/kWh for the last quarter of 2006, and well below the 11.88c/kWh for the same period in 2006. Daily average electricity pricing (at Haywards) for the period has ranged from a low of 1.47c/kWh to a high of 6.65c/kWh.

Recent developments in generation include: the ongoing commission of the new Genesis 385MW e3p unit at Huntly; Mighty River Power’s new 45MW gas-turbine at Southdown; and the company’s commencement of construction of the new 90MW geothermal plant at Kawerau.

Key Statistics

• New Zealand storage levels have fallen from 83% to 65%.
• Prices for the Summer period averaged 5.76c/kWh at Haywards.

Average Daily Prices

Managing Your Electricity Risk

How does the Spot Market Work?
The Spot Market is where electricity is sold by generators and purchased by retailers, in a market similar to trading in financial products or commodities. From this market you are able to purchase electricity at the prevailing rate, measured half-hourly, with additional costs for losses, metering and lines, plus management and miscellaneous market fees (such as Electricity Commission levies). The nature of this ‘pure’ market trading is that there is no commitment to an agreed volume, which allows you to take advantage of low spot prices when they occur.

Many factors influence the spot price, which is predominantly based on the traditional supply and demand curve. On the supply side, New Zealand has a wealth of renewable energy sources such as hydro, wind and geothermal generation.

When the conditions are favourable, these assets dominate energy supply and prices are low. Conversely, when necessary, thermal generation such as coal and gas turbines run at a higher unit cost, which can result in considerably higher prices. When demand is high, constraints in the national grid can force prices to rise significantly. In some instances the market is forced to control supply, such as using ripple control on hot water cylinders.

Hedging your Electricity Price Risk
In reality, the ability of most businesses to significantly reduce or increase their electricity usage is limited.

Production processes and normal business practice dictate when electricity is consumed, and as such exposure to the Spot Market can have significant impact on your business when spot prices are high.

Electricity hedge products allow you to manage the risk associated with purchasing electricity off the Spot Market, by shielding your electricity consumption from unpredictable shifts in spot prices.

Swap Contracts
A Swap sets a fixed ‘strike’ price for a predetermined quantity
of electricity. Under this agreement, if the average spot price
for the month exceeds the agreed upon strike price, then Mercury Energy will pay the difference to you. Likewise, if the average spot price is lower than the strike price, then you are required to pay the difference to Mercury Energy.

The Mercury Energy Swap is a purely financial agreement (derivative), settled on a monthly basis. This is separate from the physical procurement of electricity, which is purchased at the spot rate as set by the market.

Pricing
When you enter into a Swap arrangement you are agreeing to share price risk exposure. If we can accurately predict the volume of electricity you will purchase we can reduce our Spot Market exposure, and as such we can offer more competitive pricing than may be provided by a Fixed Price Variable Volume contract.

Prices offered for Swaps will be based on the current price expectation of the market price for a fixed period into the future.

Selecting Swap Volumes
Electricity Swap volumes can be purchased in two ways, either as a base load or a customised (customer specific) Swap. A base load contract is a measure of constant usage over time. A customised hedge is a reflection of how your business actually expects to use its electricity over a given period of time. Base load hedges are traditionally priced lower than customised hedges due to our ability to better manage the price risk associated with the agreement.

Swap volumes can be determined based on your electricity usage patterns, either in consultation with Mercury Energy or through an independent consultant. To be eligible for the benefits of a Swap contract you must have your electricity measured using half-hourly Time of Use (TOU) meters, and demonstrate a level of familiarity with and experience in derivative products. If you think that a Swap contract might be suitable for your business, contact us on 0800 49 00 10.

Our Account Managers can discuss how hedge arrangements can work best for you.

Hydro-Generation

Approximately 70% of the energy consumed each year in New Zealand is produced from hydro-generation. Hydro-generation is reliant on rainfall, and as such many generators have embarked on the development of other projects, to reduce the market’s dependence on hydro-generation.

Other renewable sources such as wind and geothermal allow hydro-generators to mitigate their reliance on rainfall. Mighty River Power is currently building a 90MW geothermal power station at Kawerau, which is due for completion in late 2008. The key feature of geothermal production is that it is not dependent upon the weather, like wind and hydro, so it operates 24 hours a day, seven days a week.

Hydro-generation continues to be a major feature of Mighty River Power’s generation portfolio and combined with its geothermal assets, the company currently generates approximately 80% of its electricity from renewable resources.

Waikato River Hydro-system
Mighty River Power’s hydro-generation is based on the Waikato River. A centralised control room in Hamilton monitors, controls and co-ordinates in real time the output of each of the eight dams and nine power stations on the river. The dams are situated from Taupo to Karapiro and comprise a total of 39 turbines, producing approximately 4,200GWh each year.

Mighty River Power is subject to 15 resource consents and 151 conditions around its operations on the Waikato River.These include consents to upgrade and maintain structureson the river bed, take and discharge water for generation, andcontrol the water levels and operation of the hydro-system.The company was recently granted a 35-year resource consent for the hydro-system.

How Hydro-generation Works
Hydro-electric power stations create electricity from the energy released by water falling to a lower level. Dams are used to store water in lakes behind the power station so that there is a relatively constant supply of water. The water is collected and the potential energy of the stored water is converted to kinetic energy as it passes through the power station. The falling water spins the turbines which in turn spin the generator to create a steady stream of electricity. This effectively converts the kinetic energy of the falling water to mechanical energy, and then to electrical energy.