Keeping maintenance costs in line over the long haul
Long-term service agreements might be the right choice for gas power plants
Of special interest to:
Chief financial officer
Chief operating officer
Chief risk officer
Chief procurement officer
Head of power generation
Long-term service agreements – a valuable proposition
LTSAs are tailored to meet the business requirements
of individual customers across a range of services,
which can include all aspects of gas-fired turbine
support (e.g., fleet management, inventory
management, repair and overhaul, provision of
day-to-day technical support). LTSAs help utilities
achieve more predictable maintenance and asset
management costs. In addition, LTSAs can reduce
total cost to own and drive up capacity factors
through higher-performance parts.
Shale gas
Gas plant
capacity
factors
Gas
prices
Exhibit 1 – Natural gas build-out stimulated by
variety of factors
As depressed natural gas prices continue to limit power prices and abundant
shale gas deposits remain accessible, natural gas-fired plants are the most
attractive fossil fuel for new capacity. An increasing number of utilities and
independent power producers have built, or are in the process of building,
new natural gas-fired power plants. As these units come on line, questions
about non-fuel operations and maintenance (NFOM) costs, maintenance
philosophy, and asset management trade-offs are emerging as critical risk and
cost factors. Given an aging workforce in the utility sector the question of who
will handle vital maintenance tasks becomes more important than ever.
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| 5: insights for executives
Given these fundamentals, it is no surprise that
there is a significant upswing in natural gas
generation facilities. Coal plant retirements are
at an all-time high, which amplifies natural gas
plants’ growing position as both the prevailing fuel
on the margin and as a vital “firming” resource for
intermittent growing renewable production. Gas
plant additions are dominating the market for new
fossil-fired capacity.
EPA’s
Clean
Air Act
Macro
factors
Coal plant
retirements
Firming
wind
resources
Gas plant
additions
Exhibit 2 – Natural gas-fired generation vs. other sources
Gas prices are forecast to be below $4.00 per mmBTU
through 2019 and below $4.50 until 2022,2 a low level that
shale gas discoveries and development efforts are expected
to sustain. Low gas prices move gas-fired units up in the
dispatch queue, which increases capacity factors and requires
stronger plant maintenance regimes. Further, the expected
impact of Section 111(d) the US Environmental Protection
Agency’s Clean Air Act is widely viewed as another stimulus
for natural gas production, as the act is expected to displace
coal while making gas-fired units more economically viable.
Projected US new capacity by operating date
GWs
30
Legend:
Solar thermal
Solar PV rooftop
Onshore wind
Nuclear
Gas OC
Gas CC
Bituminous
Sub-bituminous
Lignite
20
10
2010
2015
2020
2025
2030
Source: Composite new energy
forecast from EIA, Ventyx,
Bloomberg and SEIA.
What’s the issue?
Attractive gas prices and increasingly stringent environmental requirements
for coal units have many fleet owners considering buying or building natural
gas units and/or converting existing coal units to gas. At the same time,
original equipment manufacturers (OEMs) are contending with a relatively
strong demand for new units. The increased demand for new plants impacts
1
the availability, quality and pricing for long-term maintenance options from
OEMs. At the same time, owners are looking to bring maintenance costs
down while optimizing operating flexibility and reliability. Most operators
and their procurement teams are focused on obtaining maximum value from
LTSAs and/or optimizing the in-house skill set to self-perform maintenance.
Future prices at Henry Hub, November 2014.
5: insights for executives |
3
Why now?
Long-term maintenance commitments for any generating equipment are a
strategic consideration and require careful, advanced deliberation as new
unit contracts are negotiated. Combustion and hot gas path parts are of
particular concern. They carry a high price tag stemming from the hightech, space-age technology coatings applied to withstand extreme heat
exposure. These parts are frequently under patent protection, are produced
in small batches and require skilled labor for installation and maintenance.
Equipment availability is a critical consideration when determining a supply
chain strategy for gas-fired turbines. Along with availability comes the
requirement for top-notch repair facilities qualified to restore the parts
removed during each maintenance event. Needless to say, a number of
these parts carry price tags above $1 million, and the associated parts risk
(availability, repair-ability, cycle time) must be considered when making a
long-term maintenance decision. Hence, the right time to plan for long-term
maintenance is now and throughout the lifetime of the asset.
How does it affect you?
Given high gas plant capacity factors, maintenance needs and construction
trends, the delivery of LTSAs and related services is likely to suffer. Typically,
the best and brightest of the OEM’s resources are focused on new plant
development. The most severe impacts of any constraints will be felt by those
operators with the least contractual protection and/or those lacking the size
to attract OEMs’ attention. The cost impacts from interruptions in gas turbine
maintenance can be severe, ranging from cost overruns during scheduled
maintenance to extended outages in cases where spare parts are not
available and the turbine is idle while parts are out for repair. If precautions
are not taken, disruptive events like these can seriously impact profitability.
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| 5: insights for executives
What’s the fix?
As managers continue to hone their long-term maintenance philosophy, it’s
vital to clarify their in-house maintenance capabilities. On one end of the
spectrum are organizations with deep gas turbine maintenance experience,
a large gas turbine fleet and a well-staffed maintenance department. These
organizations can realize lower costs and more effective risk management
by performing gas turbine maintenance in-house. On the other end of the
spectrum are generators that are new to gas turbines, have little experience
with asset management and maintenance requirements, and possess
a small maintenance department that is ill-equipped to perform major
maintenance work on gas turbines.
The first step is a critical skills assessment to help determine the most
appropriate long-term maintenance philosophy. From there, it makes
sense to develop the total cost of ownership (TCO) for several long-term
maintenance approaches, accounting for the various levels of risks involved
in each approach. These TCO models should be updated continuously during
negotiations and beyond to compare assumptions to actual performance.
A viable supplier relationship management (SRM) process involves
continuous assessment and implementation of internal and external
improvement opportunities. LTSAs are a strong candidate for more mature
supplier partnerships due to their cost, duration and complexity. A well-run
SRM process would encompass the following key elements:
Exhibit 3 – LTSA SRM process
Adjust LTSAs to reflect agreed-upon opportunities
• Engage suppliers to test opportunity hypothesis in formal
periodic meetings
• Negotiate to establish cost savings and implementation plans
• Adjust agreements
• Develop joint implementation plans, communications plans
and change management plan
• Adjust savings forecast and timing of benefits
GenCo internal opportunity assessment review
• Apply SRM levers to each category to identify additional
opportunities
• Conduct formal assessment of market dynamics and supplier
costs
• Conduct analysis and cost modeling of opportunities
• Evaluate and prioritize opportunities
• Develop list of hypothesis to test with suppliers
Establish and communicate category expectations
Adjust
agreements
to reflect
agreed-upon
opportunities
Internal
opportunity
assessment
review
Establish and
communicate
category
expectations
Ongoing .
improvement
cycle
Track and measure
supplier and GenCo
performance
• Communicate product and service expectations internally
and with suppliers
• Implement service-level agreements (SLAs) that include
penalties and incentives
• Define and communicate supplier’s reporting requirements
Implement continuous improvement and
development programs
Implement
improvements
and supplier
development
programs
• Identify and implement agreed-upon changes
• Own problem resolution and mitigation process
Track and measure supplier and generation fleet
performance
• Implement supplier scorecards to track supplier
performance relative to metrics
• Establish and maintain processes and tools to
consistently track volume and pricing terms
• Track realized benefits vs. planned
5: insights for executives |
5
What’s the bottom line?
A well-developed long-term maintenance strategy can help inform decisions
for years to come. As more natural gas-fired capacity comes on the market
and gas prices stay at a historical low, a main differentiator for operators will
be NFOM expenses. Maintenance cost is a major component of NFOM and can
6
| 5: insights for executives
be managed for cost and risk ahead of time. Large cost savings and reduced
risk are the products of a well-planned and -executed maintenance philosophy.
Want to
learn more?
The answers in
this issue are
supplied by:
Mark Scherluebbe
Dana Hanson
Manager
Power & Utilities Advisory,
Strategy
Ernst & Young LLP
+1 215 448 5544
[email protected]
Power & Utilities Leader
Americas
Ernst & Young LLP
+1 704 491 0894
[email protected]
Andrew Patterson
Principal
Advisory Services
Ernst & Young LLP
+1 404 433 4040
[email protected]
For related thought leadership, visit ey.com/5.
5: insights for executives |
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