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Enron Mail |
Cc: jennifer.burns@enron.com, george.wasaff@enron.com, mike.mcconnell@enron.com,
jennifer.medcalf@enron.com Mime-Version: 1.0 Content-Type: text/plain; charset=us-ascii Content-Transfer-Encoding: 7bit Bcc: jennifer.burns@enron.com, george.wasaff@enron.com, mike.mcconnell@enron.com, jennifer.medcalf@enron.com X-From: Sarah-Joy Hunter X-To: Jeffrey A Shankman X-cc: jennifer.burns@enron.com, George Wasaff, Mike McConnell, Jennifer Medcalf X-bcc: X-Folder: \John_Arnold_Nov2001\Notes Folders\All documents X-Origin: ARNOLD-J X-FileName: jarnold.nsf Mr. Shankman: In preparation for the meeting on December 12th with Larry Kellner, CFO, Continental Airlines, I have noted below some background on the Enron/Continental relationship and the purpose for the meeting. Mr. Shankman, please advise if you would like me to distribute this to the attendees. EXECUTIVE SUMMARY: Over the past several years Enron has been hedging Continental's crude oil. The relationship has been beneficial to both sides. As a result, since 1999 Enron has made over $9 million and Continental has saved over $45 million. The purpose for the December 12th meeting is to address three initiatives in order of economic value: (1) fuel management, (2) weather derivatives, and (3) plastics hedging -- VaR analysis. Several new initiatives being proposed to Continental include the following: exchanging call options on crude oil for airline tickets (Craig Breslau, Originator) transacting financial swaps on line (Larry Gagliardi, Originator) creating a weather derivative product for the airline industry (Mark Tawney and Gary Taylor, Originators) outsourcing Continental's antifreeze and plastics risks by hedging these products with Enron (Alan Engberg, Originator) Meeting Attendees from Continental Airlines: Ron Howard, Vice President, Food Services Larry Kellner, Chief Financial Officer Greg Hartford, Vice President, Fuel Management Company Jeff Misner, Vice President and Treasurer (tentative) Meeting Attendees from Enron: Jeff Shankman, President and COO, Enron Global Markets John Nowlan, Vice President, Enron Global Markets Craig Breslau, Vice President, Enron North America Mark Tawney, Director, Enron Global Markets (tentative) DISCUSSION: (Developed through conversations with Alan Engberg, Larry Gagliardi, Gary Taylor, Craig Breslau, Tracy Ramsey and Lucy Ortiz.) Enron Buy Side with Continental: Current Enron verifiable spend on Continental airline tickets was approximately $40 million in FY 1999 and $17.5 million for the first six months of 2000. Enron Sell Side with Continental: (1) FUEL MANAGEMENT: Current Business: Over the past 2 years, Craig Breslau and others have been managing a strong relationship with Greg Hartford, VP, Continental Fuel Management, hedging Continental's crude oil. The first transaction was on January 14, 1998 -- a one month Forward on Kero. Since then, Enron has completed 29 transactions with two commodities: KERO and Crude. Current business consists of three crude call options, settling in December 2000 ($31.00) and January, 2001 ($34.00 and $35.00) Value to Enron: Enron has earned $9,682,084 (1999-October 6, 2000) Value to Continental: Continental has saved $45,001,744 (1999-October 6, 2000) Possible next steps: (a) A transaction where Enron exchanges call options on crude oil for airline tickets. (b) Financial jet swaps on line: Larry Gagliardi has already spoken with Rick Pressly, Director, Continental Fuel Management, regarding financial jet swaps on line. At the time, Pressly was not interested in pursuing this product offering. Value to Continental for (b): a more perfect hedge as opposed to hedging with crude oil since hedging jet fuel with jet is a more perfect hedge. Enron could offer services for the whole year and explore multi-year options as well both with financial and physical jet fuel. Possible next steps: Would Larry Kellner be interested in (a) or (b)? Enron could also supply Continental with jet fuel physical in the following locations such as the US Gulf Coast, New York harbor, the US West Coast, and Europe. (Enron is doing this now with Delta airlines in New York harbor). If so, Gagliardi could provide a guest password and Enron Online identification number if Kellner's office wanted to review the product. (2) WEATHER DERIVATIVE PRODUCT: Business proposition: Create a basket of weather related risks - such that aggregate bad weather above a tolerable level would result in payment from Enron to Continental. Continental Airlines clearly has exposure to weather as indicated in their annual reports and periodic press releases - particularly those discussing earnings. It is extremely difficult to envision the perfect weather hedge for all of Continental's weather related exposure. However, it is not difficult to envision simple ways to reduce a large portion of it. Continental has hubs in Houston, Newark, and Cleveland. The weather conditions that create delays and increased costs in these areas include - rainfall above certain amounts, snowfall above certain amounts, temperatures below freezing (de-icing costs), winds above a certain speed, etc. Value to us: Create value by designing a basket of these risks. Value to them: Creation of a weather hedge to protect Continental's exposure. Possible next steps: Upper management would need to issue a directive to various groups within Continental to describe what weather conditions affect the bottom line, how much they affect the bottom line, and then ask each group to attach a "confidence level" to each of their estimates - Continental could start a weather risk management program by only hedging a weighted average of their exposure x their confidence level - or some portion thereof. Exposure areas would be categorized according to the following: Clear exposure. Quantifiable. Clear exposure. Difficult to quantify Potential exposure. Quantifiable Potential exposure. Difficult to quantify For each of the above categories, Enron would also need an indication of whether Continental has historical cost data against which we can regress historical weather data. Enron's weather derivatives team could then sit down with Kirk Rummel, Director and Airport Services Division Controller, and some of his team (or others designated by Kellner) and brainstorm about different types of weather that cause increased cost to Continental. (Gary Taylor made a brief presentation to Rummel on November 6th; no follow up action with Enron has taken place to date) (3) PLASTICS: Business proposition: Alan Engberg proposed that Continental outsource their antifreeze risk (ethylene glycol / propylene glycol) and plastics (high impact polystyrene, polyethylene) by hedging those products with Enron. Value to Continental: Cost/Budget certainty (assuming a perfect hedge whereby their purchase contracts are linked to the index used for hedging) and associated reduction in volatility of cash flows Value to Enron: The value is approximately $2 million notional value if they hedged 100% of their 4 million pound polystyrene exposure. Since Continental has not yet shared the size of their antifreeze buy, Engberg cannot comment on the potential value to Enron though he is fairly certain it would be much larger than $2 million. Possible next steps This proposition is being considered by Ron Howard's team at Continental. Continental needs to share their antifreeze spend with Enron. Enron could then develop a proposal to Continental that includes perceived benefits of outsourcing their commodity risk to Enron. Could a follow-up meeting with Ron Howard's team and Larry Kellner's designated contact be arranged to facilitate this process? Alan Engberg also recommends working with Continental on a strategic approach to modelling their overall exposures using VaR may prove extremely powerful and rewarding to both companies. David Port is already (x-39823) looking at ways to outsource Enron's expertise in this area. Continental could be a pioneer in the effort. Factors to model would include jet fuel, natural gas, electricity, currency, interest rates, plastics, antifreeze, paper, and, metal.
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