Homework__5_Solutions

Homework_5_Solution - Management Science Engineering 369 Homework#5 Due Beginning of class May 13 1 Flex quantity contracts for electricity Spring

Info iconThis preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon
Spring, 2008 Homework #5 Due: Beginning of class, May 13 1. Flex quantity contracts for electricity Not long ago all electricity markets were regulated. Utilities, as monopoly suppliers in their geographic regions, were obligated to meet all of their customers’ requirements, and charged prices set by regulators. In many areas electricity markets are now at least partially deregulated. A common model is for commercial and industrial customers to buy power at market prices, while residential customers continue to buy from their local utility at a fixed price. Imagine you are the manager of a utility, and deregulation has just been proposed for your region. Your company has long term flex quantity, fixed price contracts in place with many local commercial and industrial customers. As part of the deregulation process, some of these customers have asked that their contracts be voided, since they believe prices will drop after deregulation. a) Would you support the customer requests to void the contracts? Why or why not? What analysis would you conduct in order to make your decision? Voiding the contracts would probably be a good thing, but the right answer will depend on the degree of the quantity flex the contracts provide, and on your expectations for market prices after deregulation relative to the fixed prices of the contracts. Specifically, because the contracts have a fixed price and flexible quantity, in a market environment your customer will be able to take high levels of power from you if the market price is high, costing you money vs. the opportunity to sell the power in the market, and to take low levels of power when the market price is low, thereby eliminating your opportunity to benefit from the higher contract price during those periods. If the level of flex specified in the contracts is high, this “optionality” will be very valuable to customer (and costly to you), and so you will be better off voiding the contracts. If the level of flex is low and you anticipate that market prices will in fact often be below the contract price you may be better off fighting to keep the contracts in place. You can analyze these value and risk trade-offs quite easily by simulating the future
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 2
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 06/16/2010 for the course MS&E 369 taught by Professor Blakejohnson during the Spring '08 term at Stanford.

Page1 / 3

Homework_5_Solution - Management Science Engineering 369 Homework#5 Due Beginning of class May 13 1 Flex quantity contracts for electricity Spring

This preview shows document pages 1 - 2. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online