RECOMMENDATION

Staff requests that the City Council adopt a proposed Ordinance and Resolution which will enable the General Manager of Burbank Water and Power (�BWP�) to execute a Natural Gas Project (�Project�) Gas Sales Agreement (�Gas Sales Agreement�) with Southern California Public Power Authority (�SCPPA�), for the acquisition of 1,000 Deca-Therms of energy per day (Dth/day) of natural gas reserves for BWP�s natural gas fuel portfolio pursuant to the terms and conditions described in Appendix A.  A Deca-Therm represents 1,000,000 British Thermal Units of energy, approximately the amount of energy in eight gallons of gasoline.

BACKGROUND

On May 20, 2004, SCPPA established a Natural Gas Study Project and entered into project development agreements with certain of its members and three non-SCPPA public utilities to study the feasibility of purchasing non-operating working interests in natural gas producing properties.

On June 29, 2004, the City Council authorized BWP to become a participant in the aforementioned SCPPA Project.  That effort was to identify potential reserves, identify consultants, prepare a Gas Sales Agreement and begin work on the financing documents.  Of these activities, the Gas Sales Agreement requires the City Council�s approval.  As anticipated, work has now progressed to the point where the Gas Sales Agreement is to be approved by the participants.  The authority requested under this item is for BWP to enter into this Gas Sales Agreement to purchase 1,000 Dth/day of gas reserves with SCPPA.

DISCUSSION

In the last few years, natural gas prices have become very volatile with prices ranging from $3/Dth to as high as $58/Dth.  Natural gas price volatility is expected to continue.  Considering the amount of volatility of prices in the short-term gas market combined with the large amount of gas BWP requires, typically 3,000 to 20,000 Dth/day, BWP seeks to pursue the strategy to secure natural gas at a stable fixed price and have the assurance to rely on its availability for the next 5-20 years.

At this point, BWP has determined that it would be prudent to acquire a small portion of its fuel portfolio, reserved for long term purchases, by procuring 1,000 Dth/day of natural gas reserves.  The remaining long term portion of the portfolio could come from contracts with either marketers or importers of liquefied natural gas when  attractively priced arrangements can be made.  The remaining fuel portfolio will be a combination of mid-term (3 to 5 years in length) and short-term (less than 3 years in length) gas supply contracts, monthly purchases such as those currently in use for our local generating facilities, and the use of natural gas storage to take advantage of seasonal price variations. 

Risk Mitigation

Owning reserves has a production risk -- the risk associated with the capability of a gas well to perform.  To reduce the production risk associated with gas reserves and the risk of the gas market falling below the unit cost of gas delivered from the reserve properties, SCPPA will pursue a diversified portfolio of up to eight gas property acquisitions in different locations, purchased at different times and will evaluate all acquisitions thoroughly.  The large amount of gas sought by the consortium under the Natural Gas Project Development Agreement (�Development Agreement�) makes this diversification possible.

Pursuant to the Development Agreement, in early October 2004, SCPPA staff, certain member representatives and Petrie Parkman (a nationally recognized firm retained by SCPPA on September 8, 2003 to assist in identifying potential properties) conducted a market survey of potential domestic gas property sellers.  This market survey indicated that at least six gas reserve owners expressed an interest in entertaining offers to purchase a portion of their gas reserves.  SCPPA will pursue at least a 10% discount compared to a simple long-term gas purchase in determining a price for offers to purchase gas properties.

Once purchased, the gas rights and related facilities will be real property holdings and will not be subject to market price volatility or counterparty risk as might other long-term gas purchase agreements.  The reserves will have an estimated life provided by an independent reservoir engineer, however, SCPPA will retain a perpetual right to all gas associated with the property.  Therefore, there is a possibility that the properties will yield more gas than originally estimated.  It should be noted that traditional contracts for the long-term purchase of forward gas are typically not available for more than ten years.  Only by owning reserves can gas supplies be assured for ten years or more.

Due Diligence

Of course, ownership introduces other risks associated with the amount of gas in the ground and the extraction of the gas, but these risks are mitigated by the type of reserves being pursued, i.e., proven, developed, producing reserves and the due diligence program employed prior to the acquisitions.  The due diligence program will include an analysis by a nationally recognized reservoir engineering firm to estimate the amount of gas associated with the reserve field and the cost of production over the life of the reserve.  Land-title and environmental consultants will also be employed during the due diligence process to ensure clear title and limit environmental liability associated with the reserves.  SCPPA will utilize the services of environmental consultants under contract with SCPPA and the Development Agreement project manager. SCPPA issued an RFP for independent reservoir engineering services on September 3, 2004 and has retained several firms with expertise in the desired gas basins.

Project Structure

Each acquisition will include an undivided interest in existing oil and gas leases for proven, developed and producing (low risk) gas properties and the associated extraction facilities.  SCPPA will likely have a minority interest in each acquisition, with the gas field operator holding the majority interest.  The Los Angeles Department of Water and Power, the Turlock Irrigation District will also enter into separate purchase agreements with each seller and hold undivided shares of the same properties as SCPPA, under identical terms and conditions.  SCPPA will sell 100% of the gas produced by its interest in the acquisitions to certain of its members, i.e., Anaheim, Burbank, Colton, Glendale and Pasadena, under the Gas Sales Agreements recommended for approval hereunder.  SCPPA will also be required to enter into an operating agreement that will establish the relationship among the gas field owners and provide a means of extracting, processing and delivering the gas from the property to the inlet of an interstate pipeline.

Those utilities using SCPPA to acquire these reserves include Anaheim, Burbank, Colton, Glendale, and Pasadena.  Glendale and Pasadena will provide capital rather than participate in a bond issue.  Burbank may contribute capital, but will initially participate in the interim financing for the bonding.  The production capacity each of these utilities seek to secure is listed below:

Financing

Currently, Anaheim, Burbank and Colton are requesting SCPPA to provide financing for their part of the Project which will be known as �Project A.�  Also, Glendale and Pasadena currently are proposing to provide contributed capital for their share of the Project which will be known as �Project B.�  Burbank is also proposing to preserve its option to provide contributive capital for its share of the Project; therefore, Burbank will maintain its flexibility for using the Project B Agreement.  The Gas Sales Agreements for Project A and Project B will only differ with regard to the Project indebtedness.

SCPPA has chosen Merrill Lynch as the lead underwriter for Project A.  SCPPA will secure interim financing for the initial purchase of the acquisitions.  After the acquisitions are complete, SCPPA will issue permanent financing at the direction of the Project A participants.  The Gas Sales Agreement will serve as the security for the bonds, including rate covenants and step-ups as required by the bond indentures.

Fulbright and Jaworski were retained by SCPPA as bond and tax counsel under the Development Agreement.  Fulbright has the opinion that it is possible for SCPPA to issue bonds yielding interest that is exempt from income tax for the Project.  The opinion is based on the Project fact sheet provided in Appendix B.  This opinion allows SCPPA to secure the funds to make these acquisitions at the lowest rate of interest.  

The Gas Sales Agreement between Burbank and SCPPA will require Burbank to use 95 percent of the gas to generate electricity for sale in its electric service area.

As a requirement of the contract, Burbank will have to maintain records showing that the gas was used to serve Burbank customers without displacing energy from other tax-exempt resources held by Burbank, i.e. Intermountain Power Project, Palo Verde Project, and Boulder Canyon Project. The amount of gas purchased under the Agreement is expected to generate approximately 6 megawatts of energy from the Magnolia Power Project, which amounts to about 4 percent of Burbank�s average demand, so contract compliance should be easily fulfilled. Also, to further facilitate compliance, the tax regulations allow the use of a gas intermediary to bank surplus gas during plant outages for use by Burbank within a rolling 12-month period. Finally, the gas can be burned in any other Burbank generator if Magnolia experiences a sustained outage.

EXPECTED COST OF GAS

Before SCPPA acquires a particular reserve property, an analysis will be undertaken to determine that its gas is competitively priced.  Only parcels that are attractively priced will be acquired.  It is estimated that the actual cost of gas acquired under this Project will be at a relatively stable price below the long-term forward market over the life of the reserves.

IMPACT ON RATES

This effort to acquire a secure supply of 1,000 Dth/day of competitively priced natural gas is expected to lower the cost of electricity and will result in lower costs for power to our customers than would other purchases of gas.

RECOMMENDATION

It is recommended that the City Council adopt the proposed Ordinance and approve the proposed Resolution authorizing the General Manager of BWP to enter into a Natural Gas Project Sales Agreement with SCPPA to facilitate the acquisition of 1,000 Dth/day of natural reserves for BWP�s natural gas fuel portfolio.

If the Council concurs, the appropriate action would be a motion to adopt the Ordinance and approve the Resolution entitled �RESOLUTION OF THE COUNCIL OF THE CITY OF BURBANK AUTHORIZING OFFICIALS TO EXECUTE AND DELIVER (I) THE NATURAL GAS PROJECT GAS SALES AGREEMENT (PROJECT A) AND (II) APPROVING THE SHARE OF PRODUCTION CAPACITY  TO BE PURCHASED PURSUANT TO SUCH GAS SALES AGREEMENT.

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Natural Gas Sales Agreement - council 6-14-05

Attachment

APPENDIX A

Natural Gas Project Gas Sales Agreement

Term Sheet

1. Purchasers & Participants: Anaheim, Burbank, Colton, Glendale, Pasadena.

2. Product Entitlement and Cost Shares: Members will select a maximum daily quantity of gas that will be used to compute a pro-rata Entitlement and Cost Share percentages for each Participant.

3. Debt Participants (Project A): Certain Participants (Anaheim, Burbank, and Colton) desire to finance their share of the capital required for acquiring, financing, developing, and improving the Project through Debt issued by SCPPA. Each Debt Participant shall be solely responsible for its associated Debt Service Costs. The part of the Project financed by SCPPA Debt shall be known as Project A.

4. Contributed Capital Participants (Project B): The other Participants (Glendale and Pasadena) desire to pay for their share of the capital required for acquiring, developing, and improving the Project through prepaid contributed capital, which shall be due and payable to SCPPA, in accordance with their Product Cost Shares, contemporaneously with the receipt of Debt proceeds for Project A.

5. Debt: SCPPA intends to finance the costs of acquiring, financing, developing, and improving Project A on behalf of the Debt Participants, and intends to enter into Gas Sales Agreements with all Participants. In order to enable SCPPA to issue Debt, it is necessary for SCPPA to have binding agreements with the Participants, and all payments required to be made in accordance with the provisions of the Gas Sales Agreements entered into by the Participants, including payments required to be made by the Debt Participants under the Gas Sales Agreements, may be pledged by SCPPA as security for the repayment of such Debt, and the interest thereon, subject to the application thereof to such purposes and on such terms as provided in the Indenture(s) and as required by the Act. The Debt Obligations may be in any form approved by the Debt Participants, including but not limited to, temporary drawdown bonds, commercial paper, other bonds, certificates of participation, or other evidences of indebtedness.

6. Debt Service Costs: SCPPA will issue initial drawdown bonds on behalf of Anaheim,  Burbank, and Colton, and they will be responsible for their pro-rata share of all costs associated with said issuance (�Debt Service Costs�). Debt Service Costs for each subsequent debt issuance will be established based on each Participant�s share of the associated debt issuance. If a particular debt issuance allows prepayment, then a Participant may prepay all or part of its share, at no cost to the other Participants, and its Debt Service Costs for that debt issuance shall be reduced accordingly.

7. Tax Exempt Debt: To minimize Debt Costs, whenever practicable, SCPPA intends to issue Debt bearing interest that is exempt from State and Federal income taxes. Debt Participants shall comply with any restrictions associated with the Debt Obligations, and the issuance of such debt shall not impose any use restrictions on the gas output of the Prepaid Capital Participants.

8. Point(s) of Delivery: The applicable interstate pipeline receipt point for each Acquisition.

9. Transportation: SCPPA shall arrange for transportation (capacity or displacement) for all Participants to deliver their Gas from the Point(s) of Delivery to Southern California Gas Company receipt points. Expenses related to transportation will be billed to each Participant as an operating expense based on the costs relating to the transportation of such Participant�s Product Entitlement Share.

10. Project: One or more Acquisitions, which are expected to have an aggregate production capacity of up to 7,000 mmBtu/day at the Point of Delivery, including all appurtenant equipment thereto, the applicable portion of any common facilities and all related facilities. For diversification, the Project is expected to include multiple Acquisitions purchased at different times from different gas fields and feeding into different pipelines. The Project shall be separated into Project A (debt financed) and Project B (cash financed) for financing purposes. General Project expenses applying to both Project A and Project B shall be allocated pro-rata based on Product Cost Shares.

11. Acquisition: Each purchase of natural gas rights and related facilities as part of the Project.

12. Title: SCPPA shall hold title to all Project Acquisitions and act as principal in all Project Agreements.

13. Project Benefits and Obligations:  SCPPA shall pass through all Project benefits and obligations to the Participants based on their Product Entitlement Shares. 

14. Annual Budget and Monthly Costs: All Project costs, except Debt Costs, shall be paid by all Participants based on Product Cost Shares. Each Debt Participant shall pay all Debt Service Costs associated with its Product Entitlement Share. SCPPA shall develop an Annual Budget based on estimated monthly costs, including reasonable debt service and operating reserves. Billing statements will be based on these estimates including annual true-ups.

15. Coordinating Committee: The Coordinating Committee shall consist of one representative from each Participant and one non-voting SCPPA representative.

1. Project Votes: All actions taken by the Coordinating Committee on non-Debt related matters shall require an affirmative vote of Participants having Product Entitlement Shares aggregating at least sixty-four percent (64%).

2. Debt Votes: All actions taken by the Coordinating Committee on Debt related matters shall require an affirmative vote of at least sixty percent (60%) of the Participants obligated to pay the debt obligation in question.

3. Board Votes: All debt issuances shall receive a majority vote of the SCPPA Board of Directors.

16. Project Management: SCPPA may retain a Project Manager to administer the Project Agreements, represent SCPPA with regard to operational and expansion matters, account for gas royalty payments, and report to the Participants. The cost associated with the Project Management Agreement shall be paid by all Participants.

17. Debt Management: SCPPA may retain trustees, accountants, and advisors to manage the outstanding debt, as required. The cost associated with such debt management shall be paid by the Debt Participants only.

18. Scheduling: Participants shall schedule, or cause to be scheduled, gas from the Point of Delivery utilizing transportation provided by SCPPA for the Project.

19. Project Agreements (one each per Acquisition): The agreements associated with the Project, excluding Debt agreements are as follows:

1. Acquisition Purchase and Joint Ownership Agreements: The agreements executed upon the purchase of each Acquisition, which define the terms of the purchase and the ownership coordination if the gas reserves are to be held with a third party.

2. Operating Agreements: The agreement that defines the operation of the gas field, including gas extraction, gathering, processing, and decisions to drill more wells.

3. Transportation Agreements: The agreements for the transportation, or re-delivery equivalent gas, or value of gas, from the Acquisition property to Southern California Gas Company receipt points.

20. Effective Date and Term:

1. This Agreement shall become effective on the first day when this Agreement has been duly executed and delivered by SCPPA and Purchaser and the Gas Sales Agreements between SCPPA and the other Participants covering the entire output of the Project have been duly executed and delivered by the parties thereto.

2. The term of this Agreement shall begin on the day this Agreement becomes effective as described above and shall expire on the later of the date SCPPA�s Joint Powers Agreement (including any extensions thereof) expires or the date on which all Project and Debt agreements are terminated. Notwithstanding the foregoing, this agreement may be terminated by mutual agreement of the Participants and SCPPA on the date which all Debt and the interest thereon shall have been paid in full or adequate provision for such payment shall have been made and the Debt is no longer outstanding.

21. Transfer of Project to Participants: Subject to obtaining all necessary consents and assignments from co-owners, upon the expiration of the term of this Agreement SCPPA shall transfer to the Participants and the Participants shall assume an undivided ownership interest in the Project (including all rights and obligations of SCPPA under any Project Agreements) as evidenced by a co-ownership agreement developed by SCPPA and the Participants, unless otherwise agreed to by SCPPA and all of the Participants. The purchase price and consideration to be paid to SCPPA by Purchaser for such transfer shall consist of the payments made by Purchaser pursuant to this Agreement prior to the date of such transfer.

22. Charges and Billings:

1. Billing Statement:  By the fifteenth (15^th) calendar day of each Month during the Term, SCPPA shall prepare and deliver a Billing Statement to Purchaser for its Product Cost Share and any Debt Cost Share based on the Annual Budget.  Purchaser shall pay SCPPA amounts due under said Billing Statement on or before the twenty-fifth (25^th) day of said Month.

2. Disputed Monthly Billing Statement: In case any portion of any Billing Statement received by Purchaser from SCPPA shall be in bona fide dispute, Purchaser shall pay SCPPA the full amount of such Billing Statement and, upon determination of the correct amount, the difference between such correct amount and such full amount, will be credited to Purchaser by SCPPA after such determination. In the event such Billing Statement is in dispute, SCPPA will give consideration to such dispute and will advise Purchaser with regard to SCPPA�s position relative thereto within 30 days following receipt of written notification by Purchaser of such dispute.

3. Interest on Late Payments: If Purchaser fails to pay any Billing Statement when due, interest shall accrue, to the extent permitted by law, and shall bear interest on the unpaid balance at an annual rate equal to two (2%) percent plus the average daily prime rate as determined from the "Money Rates" section of the West Coast Edition of the Wall Street Journal for the days of the late payment period multiplied by the number of days elapsed from and including the day after the due date, to and including the payment date. Interest shall be computed on the basis of a 365-day year.  In the event this index is discontinued or its basis is substantially modified, the Parties shall agree on a substitute equivalent index.

23. Non-Performance and Payment Default:

1. Nonperformance by Participant: Subject to the provisions regarding a Payment Default, if a Participant shall fail to perform any covenant, agreement or obligation under its Gas Sales Agreement, SCPPA may, in the event the performance of any such obligation under this Agreement remains unsatisfied after 30 days� prior written notice thereof to such Participant and a demand to so perform, take any action permitted by law to enforce its rights under its Gas Sales Agreement and/or bring any suit, action or proceeding at law or in equity as may be necessary or appropriate to recover damages and/or enforce any covenant, agreement or obligation against such Participant with regard to its failure to so perform.

2. Notice of Payment Default: Promptly following a Payment Default by a Participant, SCPPA shall provide written notice to such Participant that as a result of a Payment Default it is a defaulting Participant whose rights, including its Product Entitlement Share, under its Gas Sales Agreement are subject to discontinuance, termination and disposal within 30 days of the date of such notice (�Payment Default Period�).  Notice of such Payment Default shall be provided promptly by SCPPA to all other Participants.

3. Retention of Rights During Payment Default Period: During a Payment Default Period with respect to a defaulting Participant, its rights, including its Product Entitlement Share, under its Gas Sales Agreement shall not be discontinued, terminated or disposed of as a result of the Payment Default.  During such Payment Default Period, SCPPA shall send to the defaulting Participant a separate default invoice (which shall include all unpaid amounts plus interest due for late payment).  If the defaulting Participant pays in full such default invoice within the Payment Default Period, the defaulting Participant shall no longer be deemed a defaulting Participant and its rights, including its Product Entitlement Share, under its Gas Sales Agreement shall not be subject to discontinuance, termination or disposal. The defaulting Participant shall make separate payments to SCPPA with respect to its Billing Statement and any default invoice.

4. Rights Under Gas Sales Agreement Terminated: If a defaulting Participant fails to pay its default invoice within the Payment Default Period, its rights, including its Product Entitlement Share, under its Gas Sales Agreement shall immediately and permanently be discontinued and terminated; provided, however, the defaulting Participant�s obligation to make payment of its default invoice(s) shall not be eliminated or reduced and the defaulting Participant�s other obligations to make payments under its Gas Sales Agreement shall not be eliminated or reduced except to the extent of moneys received by SCPPA as a result of the conveyance, transfer and assignment of its rights and obligations, less SCPPA�s related costs and expenses. SCPPA shall immediately notify each of the other Participants of such discontinuance and termination.

24. Step-up: If a defaulting Participant fails to pay its default invoice within the Payment Default Period, then the defaulting Participant�s Product Entitlement and non-Debt related Product Cost Shares under its Gas Sales Agreement shall be conveyed, transferred and assigned, on a pro rata basis, among the other Participants. Step-up pursuant to debt obligations shall be pursuant to the applicable Indenture(s). For example, there may be a debt service step-up obligation associated with the initial drawdown bonds among the Project A Participants only and no debt service step-up associated with the permanent financing because each Participant may have its own issuance series based on its own credit. The foregoing notwithstanding, a step-up shall not be required if the conveyance of the defaulting Participant�s Product Entitlement Share to a non-defaulting Participant would violate provisions of the applicable Indenture(s) and/or affect the tax status of the bonds.

25. Participants� Obligations Several:  Except as provided in Section 24 25 hereof, each Participant shall be solely responsible and liable for its performance under its Gas Sales Agreement. The obligation of each Participant to make payments under this Agreement is a several obligation and not a joint obligation with those of the other Participants under the other Gas Sales Agreements.

26. No Liability of SCPPA, Directors, Officers:  Participants agree that neither SCPPA nor any of its directors, officers, employees and agents shall be liable to Participants for loss of profits or direct or consequential loss or damage suffered by any Participant as a result of the performance or non-performance (whether negligent or otherwise) of SCPPA or any of its directors, officers, employees or agents under this Agreement.  Participants release SCPPA and its directors, officers, employees and agents from any claim or liability (whether negligent or otherwise) as a result of any actions or inactions of SCPPA under this Agreement. No such performance or non-performance by SCPPA shall relieve Participants from their obligation under this Agreement, including its obligation to make payments required under this Agreement, and such payments shall not be subject to any reduction, whether by offset, counterclaim or otherwise.  The provisions of this Section 26 shall not be construed so as to relieve SCPPA from any obligation under this Agreement.

27. Extent of Exculpation; Enforcement of Rights:  The exculpation provision set forth in Section 26 hereof shall apply to all types of claims or actions including, but not limited to, claims or actions based on contract or tort. Notwithstanding the foregoing, each Participant may protect and enforce its rights under this Agreement by a suit or suits in equity for specific performance of any obligations or duty of SCPPA, and each Participant shall at all times retain the right to recover, by appropriate legal proceedings, any amount determined to have been an overpayment by Participant.

28. Indemnification for Claims of Retail Customers:  Each of the Participants shall assume all liability for any claim, action or judgment, whether or not caused by negligence, arising out of or in connection with electric service to any of its retail customers caused by the operation or failure of operation of the Plant or any portion thereof, and shall indemnify and hold harmless each of the other Participants and SCPPA from any such claim, action or judgment (including reasonable attorneys� fees and other costs of defense).

29. SCPPA Directors, Officers, Employees, Agents Not Individually Liable; No General Liability of SCPPA:  It is hereby recognized and agreed that no member of SCPPA�s Board of Directors, officer, employee or agent of SCPPA or member of SCPPA in its capacity as a member of SCPPA shall be individually liable in respect of any undertakings by SCPPA under this Agreement.  The undertakings by SCPPA under the Power Sales Agreements shall never constitute a debt or indebtedness of SCPPA within the meaning of any provision or limitation of the Constitution or statutes of the State of California and shall not constitute or give rise to a charge against its general credit.

30. Severability: In case any one or more of the provisions of this Agreement shall for any reason be held to be illegal or invalid by a court of competent jurisdiction, it is the intention of each of the parties hereto that such illegality or invalidity shall not affect any other provision hereof, but this Agreement shall be construed and enforced as if such illegal or invalid provision had not been contained herein unless a court holds that the provisions are not separable from all other provisions of this Agreement.

31. Governing Law: This Agreement shall be interpreted, governed by and construed under the laws of the State of California.

32. Arbitration: If a dispute arises between the Parties which the Authorized Representatives are unable to resolve, the Parties may submit the dispute to arbitration.

33. Assignment: Unless otherwise mutually agreed to by the Parties, a Participant may assign some or all of its rights and obligations under its Gas Sales Agreement, including its Product Entitlement Share, only to other SCPPA members under the same terms and conditions of its Gas Sales Agreement. In the event of such an assignment, the applicable schedule of Product Entitlement Shares shall be revised by SCPPA to reflect the new Product Entitlement Share allocation and such revision shall not be considered an amendment to any Gas Sales Agreement. The foregoing notwithstanding, such assignments shall be subject to the provisions of the applicable Indenture(s) and shall maintain the underlying credit rating and tax covenants associated with any outstanding Debt.

APPENDIX B

Natural Gas Reserve Project Facts

1. Project Description:  SCPPA will purchase interests in oil/gas leases (together, the �Project�) covering existing gas fields located in the western United States containing proven gas reserves.  SCPPA�s rights also will include an interest in existing wells, equipment, facilities, associated contracts and other properties and rights associated with the properties.  SCPPA�s interest will most likely be a minority, non-operating interest and, from a federal income tax perspective, will constitute an economic interest in the properties.

2. Owners/Lessors:  The U.S. Bureau of Land Management, the respective states and private parties (such as farmers and ranchers) are expected to be the majority Owners (and Lessors) of the mineral interests.  The mineral interest owners will be the Lessors of the oil/gas leases to be held by the Sellers/Lessees.  One or more of the Sellers/Lessees will transfer a portion of their interests to SCPPA, and SCPPA will become a co-lessee of the properties.

3. Sellers/Lessees:  The Sellers/Lessees of Project interests are expected to be private entities.  SCPPA will enter into purchase agreements with the Sellers/Lessees in order to acquire the Project.  Once an Owner/Lessor sells a leasehold interest to a Seller/Lessee, such Owner/Lessor will typically retain a royalty interest in the production of oil and/or gas, a right to �delay rentals� (cash payments payable annually until the Seller/Lessee has established a producing well) and a reversionary interest in the leased acreage that will vest with the Owner/Lessor upon cessation of production.  It is SCPPA�s desire that after the sale the Seller/Lessee will have no continuing ownership interest of any nature in the interest sold to SCPPA, but, depending on the terms of the transaction, a particular Seller/Lessee might require an overriding royalty interest.

4. Leases:  The Project will include oil and gas leases that will be perpetual so long as production continues.  The interests in the leases will be conveyed to SCPPA via recorded assignments or conveyances.  They constitute interests in land, but the rights of SCPPA in the reserves in place (in the ground) are either real or personal property depending on the law of the state in which the lands are located. Rights in oil and gas once produced, however, are personal property rights.  Even if the Seller/Lessee or another co-lessee files for bankruptcy, SCPPA would retain its leasehold interest.

5. Royalties:  The standard Owner/Lessor�s royalty is 1/8^th of the gross production; however, it may vary lease by lease.  The lease typically provides that the royalty oil may be taken in kind, but in practice it is typically sold by the operator for the Owner/Lessor.  The gas royalty is typically based upon the price actually received by the operator or the market value of gas at the well, and the Owner/Lessor will receive monthly cash payments for the royalty share of gas sold by the operator.  The royalty is part of the consideration for each lease.

6. Co-Lessees:  SCPPA likely will own a minority, undivided leasehold interest in the gas fields.

7. Operator:  The majority interest holder (another co-lessee) in a gas field will likely be the operator of the gas field, or own a subsidiary operating company in charge of gas field operations.  The operator will likely be a private entity.  All costs of operation, production and maintenance of the gas fields and associated equipment and facilities will, under the operating agreements, typically be shared by the co-lessees ratably in proportion to their respective leasehold interests.  Being a minority owner of mineral interests, SCPPA will not likely have the ability to unilaterally remove the operator, but there likely will be minority rights for the removal of the operator for fraud or misconduct.  The operating agreement is likely to be a pro-forma agreement (as modified by the parties thereto).  Bill Garner at Petrie Parkman has indicated that the 1989 model form of operating agreement (A.A.P.L. Form 610-1989) combined with the 1984 Onshore form of Accounting Procedure Joint Operations relating thereto recommended by COPAS (the Council of Petroleum Accountants Societies) will be close to the operating agreements used for the gas properties to be acquired by SCPPA.  Under the model form of operating agreement, the operator is compensated on a cost pass through basis without profit.

8. Gas Sales Agreements:  SCPPA will enter into Gas Sales Agreements with five SCPPA members (together, the �Participants�).  Anaheim, Burbank, and Colton are interested in SCPPA financing their share of capital costs, and Glendale and Pasadena will prepay their share of the capital costs.  Operation, maintenance, and transportation costs will be shared by all five Participants on a pro-rata basis.  Each Participant will have step-up obligations with respect to the operating and maintenance expenses incurred by SCPPA under the leases, effective in the case of a default by a Participant.

9. Transportation:  SCPPA will contract on behalf of the five Participants (with all five Participants being beneficiaries under a given contract) for the transportation of the gas output from the Project to a Southern California Gas Company (�SoCalGas�) receipt point for delivery to the Magnolia Power Project and Participant power plants for the production of electricity to be sold to public power customers within the Participants� respective service territories.  Alternatively, if the transportation cost is lower, SCPPA may arrange for a physical displacement of Project gas output at the first transmission point for re-delivery of an equal amount of gas at the SoCalGas receipt point for delivery to the Magnolia Power Project and Participant power plants for the production of electricity to be sold to public power customers within the Participants� respective service territories.  Finally, if the cost is lower than under a swapping or pooling arrangement, then SCPPA may arrange for the gas transportation company to store Project gas output at the first transmission point during temporary outages of the power plants.

10. Swapping or Pooling Contracts:  SCPPA may also want to enter into swapping or pooling contracts for the purpose of satisfying different peak load demands, accommodating temporary outages, diversifying supply or enhancing reliability in accordance with prudent reliability standards.

11. Sales of Surplus Gas by Participants:  The Participants will have surplus gas from the Project, from time to time, due to, for example, planned and forced power plant outages and the receipt of more gas than needed.  In the case of outages, such outages are expected to last up to approximately 30 days at a time.  Participants would like the opportunity to sell surplus gas to other public electric or gas utilities (including possibly Cerritos, which does not have a �qualified service area�) and/or to private entities.

12. Production Byproducts:  SCPPA is interested in the production of gas from the Project to produce electricity; however, some oil or other liquids or byproducts of value may also be produced.  These additional liquids or byproducts, if any, are expected to be sold by the operator, and the applicable portion of the revenue derived therefrom is expected to be paid to SCPPA.

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