The Barbados Light & Power Company Ltd Application for Approval to Implement a Fuel Hedging Programme and to Apply the Results and Costs of Hedging to the Calculation of the Fuel Clause Adjustment

• Jurisdiction: Barbados
• Court: Fair Trading Commission (Barbados)
• Judgment Date: 21 October 2021
• Docket Number: Document No.: FTC/UR/DECBL&P/2021-02

The Barbados Light & Power Company Limited Application for Approval to Implement a Fuel Hedging Programme and to Apply the Results and Costs of Hedging to the Calculation of the Fuel Clause Adjustment

Document No.: FTC/UR/DECBL&P/2021-02

FAIR TRADING COMMISSION

DECISION

Table of Contents

GLOSSARY	4
SECTION 1 – DECISION SUMMARY	6
SECTION 2 – BACKGROUND	9
SECTION 3 – PROCEEDINGS	12
SECTION 4 – LEGISLATIVE FRAMEWORK	14
SECTION 5 – ISSUES	16
ISSUE A: DESIRABILITY OF FUEL HEDGING	16
ISSUE B: THE RISK OF THE PROPOSED HEDGING PROGRAMME	31
ISSUE C: WHETHER THE BL&P SHOULD BE PERMITTED TO RECOVER THE COSTS OF THE FUEL HEDGING PROGRAMME VIA THE FCA, INCLUDING:	41
SECTION 6 – THE DETERMINATION	54

GLOSSARY

Call option	A form of an option contract (more particularly defined below) between two parties where the buyer of the call option earns a right (not an obligation) to exercise the option to buy a particular asset from the call option seller for a stipulated period of time. If the buyer chooses to buy, the seller must sell.
Collars	Collar strategy involves the purchase (or sale) of a call, which is offset by the sale (or purchase) of a put (more particularly defined below). The call and put have out-of-the-money strike prices and expire in the same month.
Derivatives	Derivatives are instruments, the financial value of which is determined by the value of an underlying asset. Examples of derivatives used in the management of commodity risks include: swaps, collars, options, futures and forwards.
Forward contract An informal agreement, traded through a broker-dealer network, to buy and sell specified assets, at a specified price at a certain future date.	Investment Policy Statement The Investment Policy Statement (IPS) is a strategic guide in the planning and implementation of an investment program. Issues related to governance of the investment program, planning for appropriate asset allocation, implementation of an investment program with external and/or internal managers, monitoring the results, risk management and appropriate reporting. The IPS establishes accountability for the various entities that may work on behalf of an investor. The IPS serves as a policy guide that offers an objective course of action to be followed during periods of market disruption when emotional or instinctive responses might otherwise motivate less prudent actions 1.
Option	A contract which provides the contract buyer with the right, but not the obligation, to purchase or sell a particular amount of a specific commodity (or the financial equivalent thereof), on or before a specific date or period of time at an agreed price. Most market participants choose to buy or sell their physical supplies through existing channels, using futures or options to manage price risk and liquidating their positions before delivery.
Put option	A put option is an option where the buyer of the put earns the right (not an obligation) to exercise his option to sell a particular asset to the put option seller for a stipulated period of time. Once the holder of the put exercises his option (before the expiry date) the holder of the put must buy at the strike price.
Strike price	The predetermined price at which the buyer and seller of an option agree on a contract or exercise a valid and unexpired option.
Swap	A swap refers to an exchange of one financial instrument for another between the parties concerned. A swap is generally an over-the-counter (OTC) instrument where two parties agree to exchange cash flows at a future date according to an agreed upon formula.

SECTION 1 – DECISION SUMMARY

1 On May 8, 2020, the Barbados Light & Power Company Limited (the “BL&P”) notified the Fair Trading Commission (the “Commission”) of its intention to implement a fuel hedging programme and made an application to the Commission for its approval to apply the results and costs of the said hedging programme to the calculation of the Fuel Clause Adjustment (the “FCA”) (the “Application”).

2 The primary aims of the proposed fuel hedging programme stated by BL&P in the Application were to reduce the fluctuations in the fuel component of customers' bills and to take advantage of the existing favourable fuel price environment. In the Application, the BL&P also referred to the Government of Barbados' (the “GoB”) policy direction articulated by the Prime Minister of Barbados, the Honourable Mia Amor Mottley, during the 65th sitting of the House of Assembly, 2018–2023 Estimates. The GoB's said policy direction supported the hedging of energy products and encouraged the BL&P to engage in hedging to lock in the then low oil prices.

3 Although the BL&P does not require the approval of the Commission to engage in a fuel hedging programme, it does require the Commission's permission to pass on the related results and costs to the consumer through the FCA or otherwise. In this regard, the BL&P has indicated that it will not engage in fuel hedging without the Commission's approval to pass the related costs and results onto the consumer 2.

4 The Application was subject to a public consultation, per section 4(4) of the Fair Trading Commission Act, Cap 326B (the “FTCA”). The Commission also invited the public to intervene in the proceedings and hosted a Procedural and Issues Conference, on June 5, 2020 (the “Conference”) which provided the interested parties with an opportunity to participate in the proceedings and make

submissions, ensuring that there was transparency in the decision of the Commission. Ultimately, three interested parties met the criteria to participate in the Conference through the submission of their respective letters of intervention

5 The Commission carefully considered all relevant information, including the submissions made by the interested parties, and determined that the BL&P is permitted to initiate a fuel hedging programme on a pilot basis in accordance with the following measures/requirements:

This Decision shall be reviewed by the Commission three (3) months prior to the end of the twenty-four (24) month pilot period.

• a. The duration of the pilot fuel hedging programme shall not exceed twenty-four (24) months (2 years);

• b. The pilot fuel hedging programme shall be limited to no more than 40% of fuel volumes being hedged;

• c. The results and costs associated with the said pilot fuel hedging programme shall be shared evenly (50/50) between the BL&P and the consumer;

• d. The IPS and all strategies employed therein, including hedging, shall require the prior written approval of the Commission.

• e. Any amendments to the IPS shall require the prior written approval of the Commission;

• f. The BL&P and the Commission shall determine the investment manager;

• g. The cost of hedging shall include costs borne by the Commission in the management/establishment of the fuel hedging programme by the BL&P. These costs will be passed to the BL&P, 50% of which will be passed through the FCA;

• h. The equation used to calculate the FCA shall be revised to account for:

  • i. the passing on of the results and costs of hedging to the consumers; and

  • ii. the inclusion in the divisor of the equation the generation losses itemised by generation plant, including renewable energy generation.

• i. The Commission reserves the right to audit the pilot hedge programme on a quarterly basis or on such basis as the Commission deems fit;

• j. The BL&P shall submit to the Commission within 45 days after the end of each quarter the investment performance report from the investment manager.

6 The Commission's approval for the BL&P to commence the aforementioned pilot fuel hedging programme is also conditional and shall not become effective until the date on which the BL&P submits, to the Commission's satisfaction, the BL&P's IPS. In this regard, the Commission reserves the right to comment on/request amendments to the BL&P's IPS documents before the BL&P's permission to commence the pilot fuel hedging programme becomes effective.

7 Further details of the Commission's reasoning may be found in the body of this Decision. The Commission, in making its decision, considers that the respective submissions of the intervening parties have assisted the Commission and thanks them for their contributions.

The revised FCA equations are as follows:

Equation 1 (for months other than February):

Equation 2 (for the month of February):

SECTION 2 – BACKGROUND

8 On April 27, 2020, the BL&P submitted an incomplete application seeking the Commission's approval to implement a hedging programme and apply the results and administration fees of this programme to the calculation of the FCA. The BL&P thereafter submitted an amended and complete application dated May 8, 2020 (i.e., the Application, as defined above) seeking the Commission's aforementioned approval, pursuant to section 16 of the URA.

9 The proposed fuel hedging programme sought the Commission's permission for the BL&P to hedge up to 90% of its Heavy Fuel Oil (“HFO”) consumption volumes with a third party, using financial hedge transactions such as fixed price swaps. The annual administrative cost (estimated at BDS$720,000.00), along with the results of the programme, would be passed on to...