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“Right after I graduated, I interned with the Arms Control Association. It was terrific.”

– George Stephanopolous
ABC News
January 1, 2005
A Response to Thomas Neff’s ‘Decision Time for the HEU Deal’
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Philip Sewell

We want to call attention to some of the inaccuracies and distortions in Thomas Neff’s recent article in Arms Control Today (“Decision Time for the HEU Deal: U.S. Security vs. Private Interests,” June 2001) and the implications of a number of his recommendations, which, if implemented, would actually damage the continued success of the Highly Enriched Uranium Purchase Agreement (or “HEU deal”) and would endanger the economics of the domestic uranium enrichment industry. Rather than responding to each and every point Dr. Neff makes, we would like to examine them in the context of the issues he raises.

U.S. Security vs. Private Interests

The underlying premise of Dr. Neff’s article is that U.S. national security and private-sector interests are in basic conflict. Your readers will no doubt recognize the fallacy in that premise. Government national security goals are achieved through business partnerships every day. The fact is that U.S. national security interests and USEC’s commercial interests are aligned—not in conflict.

The government routinely partners with private-sector companies to achieve U.S. national security goals—from building stealth aircraft, submarines, satellites, tanks, and all the other military hardware our security depends upon, to designing, building, testing, and dismantling nuclear weapons. Clearly, there is no inconsistency in meeting the national security goals of the HEU deal through USEC as a commercial entity.

There are a number of ways in which the alignment of U.S. national security interests and USEC commercial interests support full and timely implementation of the Russian HEU contract to remove weapons-grade material from harm’s way.
First, both the U.S. government and USEC want Russian HEU from warheads converted to low-enriched uranium (LEU) fuel. We both want a stable, reliable supply of this HEU-derived fuel material. This ensures continued mutual success in implementing this important national security initiative, and it helps USEC optimize the sole domestic source of uranium enrichment production in a manner that supports domestic energy security.

Second, we both want to establish fair, equitable pricing under the Russian HEU contract. This provides Russia with a substantial, stable revenue stream for nuclear safety and environmental cleanup purposes. Pricing equity also allows USEC to maintain financial health and continue to economically provide nuclear fuel to U.S. utilities.

Third, we both want to ensure that nuclear utility orders for fuel are met when needed. This requires stable Russian HEU deliveries and the ability to minimize and manage supply interruptions through inventory use, infrastructure capabilities, logistic support, and market distribution channels—all attributes that an executive agent must have and which USEC possesses.

Clearly, the alignment of these interests supports, rather than puts at risk, successful implementation of this national security program.

To be sure, the HEU deal is unique. Its implementation by USEC as executive agent owes to the fact that USEC is the sole domestic producer of enriched uranium, that it has the market to dispose of the large amount of Russian material, that it has the inventory to assure customer orders can be met if supplies are interrupted, that it has the financial resources to fund this $8 billion program over its 20-year implementation period, and that it has the trained workforce to implement the program.

Government Control

Dr. Neff asserts that the government did not exercise enough control over the initial implementation of the deal and that, since the 1998 privatization of USEC, the company has been a virtual free agent in administering the deal with Russia. Dr. Neff has marketed such allegations and opinions consistently since USEC became executive agent. However strong his interpretations of events might sound, they are misleading and inaccurate.

USEC has always acted in consultation with the U.S. government. The facts are that, before and during every significant activity, USEC has consulted with the government, sought its approval, and followed its directions—what better example than the negotiations between USEC and Tenex (the Russian executive agent) for new pricing arrangements when the current terms expire at the end of 2001. Beginning in 1999, in consultation with their respective governments, USEC and Tenex worked for nearly a year to hammer out new terms going forward.

After receiving administration guidance on negotiations, in May 2000 USEC reached an agreement-in-principle with Tenex on a new contract amendment to implement market-based pricing and a firm commitment to purchase at least 30 metric tons per year of Russian weapons HEU blended down to LEU fuel through the end of the contract in 2013. We submitted it to the administration for final review and approval. The matter is under review at this time. This is one in a series of continuing actions taken by both USEC and the U.S. government to coordinate interests and to ensure actions are taken after government reviews and approvals are issued.

Contrary to Dr. Neff’s assertions, it has been amply demonstrated that USEC has consistently and scrupulously worked with the administration to achieve its national security objectives and to reconcile commercial realities with national security dictates. The government has always been in full control of this program.

USEC’s Trade Action

Again, the facts do not support Dr. Neff’s assertion that USEC’s trade action against European competitors is wrong and that it will lead to a USEC monopoly. U.S. trade laws do not create monopolies. They are there to restore fair pricing and fair competition to the U.S. market. This helps U.S. consumers and workers by protecting domestic producers from unfair market practices. Competitors that are affected by the imposition of duties by the U.S. government are not precluded or excluded from the U.S. market; they are merely required to sell their products at price levels that are not below cost or subsidized and that are not injurious to U.S. producers.

It is anticipated that foreign enrichment suppliers will be able to supply the U.S. market at fair market prices that will not harm the U.S. nuclear industry. The cost of nuclear fuel is only about 10 percent of the cost of generating electricity. With nuclear power as the low-cost producer of electricity in the United States (about 1.83 cents per kilowatt-hour, according to the Nuclear Energy Institute), any increase in enrichment costs due to the restoration of fair market pricing would not affect the low-cost leadership of nuclear power.

Regardless of the outcome of the trade action and USEC’s role as executive agent, the allegation of a potential monopoly position by USEC falls flat on its face given some simple math. Having closed one of its plants in response in part to increased import penetration, USEC cannot economically service total U.S. utility demand under current economic conditions, meaning the remaining demand must come from other supply sources. Although the remaining U.S plant is capable of greater production levels, USEC’s economic production under current conditions is about 5 million SWU (separative work units) and Russian HEU SWU purchases amount to 5.5-6.0 million SWU. This results in a total supply of about 11 million SWU. After accounting for USEC’s foreign sales commitments of about 4 million SWU, USEC is not in a position to economically meet all U.S. demand. Therefore, foreign competitors can meet this remaining demand, and a competitive, multiple-supplier market will remain available to U.S. utilities. USEC’s trade action will not preclude U.S. utilities from purchasing enrichment services in a competitive market with alternative supplies. In fact, our foreign competition is continuing to successfully sell in the United States.

The Pending Contract Terms

A proposed amendment to the Russian HEU contract with new contract terms involving market-based pricing is pending approval by the Bush administration. Both parties to the proposed agreement have concluded that the commercial terms are fair, equitable, and supportive in terms of ensuring stable, reliable contract implementation.

Dr. Neff’s assertions that USEC would earn a 50 percent profit under the proposed market-based pricing terms and that the proposed pricing mechanism is detrimental to continued contract implementation are completely wrong.

The actual margin is far, far lower than the 50 percent Dr. Neff alleges. The price to purchase Russian HEU is based on a modest margin from a three-year average of published market prices by independent sources. This three-year average dampens the effect of abrupt price changes—both up and down—and thereby ensures predictable, stable pricing and revenues for both U.S. and Russian executive agents. The market-based pricing terms therefore ensure that over time the price paid for Russian HEU will be equivalent to a modest margin from market.

Dr. Neff’s high figures fail to account for costs that are incurred by USEC in implementing the contract. These costs include maintenance of a sizeable inventory to protect against supply interruptions (which have occurred because of unilateral Russian actions four times over the last seven years), hardware and transport costs, and administrative costs for the delivery, distribution, and management of material representing 50 percent of the U.S. demand.

Another pricing feature that Dr. Neff fails to recognize involves a provision whereby both parties can revisit and adjust the pricing margin if the published price indices do not reflect actual market sales prices that USEC and the Russian executive agent are experiencing. This represents a protective mechanism to ensure pricing equity is preserved.

Taken in full context and recognizing how the proposed new market-based pricing arrangement works, the new terms are fair, equitable, and beneficial to both parties.

USEC’s Non-Proliferation Record

USEC has a seven-year track record of success in implementing the Russian HEU contract. We are ahead of the original delivery schedule, having purchased 118 metric tons of weapons-derived HEU, which is equivalent to the elimination of nearly 5,000 nuclear warheads. One provision left out of Dr. Neff’s article is that the proposed agreement provides for the Russians to make up delivery of 8.7 metric tons that were ordered by USEC but not yet delivered by Russia. Nuclear safety upgrades and environmental cleanup programs in Russia have benefited from the payment of $2 billion that USEC has made to Russia for this material.

Dr. Neff resurrects old allegations of foot-dragging and conflicts that the record does not support. For example, USEC signed the contract in January 1994 and ordered LEU derived from 10 metric tons of HEU. Although Russia was unable to downblend the HEU to commercial specifications until June 1995, USEC worked with its Russian counterpart to resolve this issue and then take as much material as possible in both 1995 and 1996.

In November 1996, after considerable negotiations with Russia and approval by the U.S. government, USEC and Tenex adopted a five-year, fixed-price term and an accelerated delivery schedule. When combined with the fact that USEC has made nearly $500 million in advance payments under the contract to facilitate Russian implementation, the record indicates that USEC has consistently supported full and timely implementation of the Russian HEU contract.

Dr. Neff also fails to inform your readers that four supply interruptions experienced over the first seven years were caused by unilateral actions by the Russians for their own purposes and were not due to any action by USEC. In fact, the failure by Russia to deliver on the schedule to which USEC and the Russians had agreed caused production changes and inventory schedule issues that were costly to USEC. Despite these problems, USEC was able to meet its order commitments and then identify a procedure under which the shortfall of deliveries caused by the Russians could be recovered.

The comments by Dr. Neff relating to the “inheritance” by USEC at privatization in July 1998 of above-market contracts and credits against advance payments made by the Department of Energy(DOE) are also misleading. The fact is that about 40,000 investors paid the government nearly $2 billion for assets, including those contracts and credits against advance payments (which expired in 1999) that USEC, not DOE, made to Russia. Therefore, the government received full value for this asset, and there was no gift to USEC as Dr. Neff purports.

Multiple Executive Agents

USEC’s performance as executive agent has been successful in achieving the national security goals assigned to it and there is no need to fix what is not broken. In fact, replacement or additional U.S. executive agents will have unintended consequences for domestic energy security and national security.

In order to achieve the most effective implementation of the Russian HEU contract, USEC has adjusted its business as the sole domestic uranium enricher to fully accommodate and integrate Russian HEU material into its market base, including domestic nuclear utilities. The combination of lower cost enrichment from Russian HEU with higher cost of production at the Paducah, Kentucky, plant allows USEC to economically meet nuclear utility orders for enriched product, and it supports the continued implementation of the HEU agreement.

If USEC were replaced or other agents were added, there would be several ramifications. Because it would have to rely more on its domestic production, USEC would have to increase prices to customers, resulting in higher U.S. energy costs. This potential outcome would encourage foreign competitors to increase prices to U.S. utilities, again resulting in higher U.S. energy costs.

With the Russian HEU material, USEC can economically meet its large volume of existing U.S. annual customer commitments. Altering this balance will diminish domestic energy security from the sole U.S. enricher and increase reliance on foreign sources at a critical time when the nation is already facing an energy shortage of other fuels.

USEC’s concerns aside, unnecessary adjustments to a deal that is working well with Russia puts at risk continued implementation success. Multiple executive agents introduce the likelihood of conflict that could interrupt implementation. It has been widely reported that a few U.S. utilities are eager to become executive agents. To allow multiple U.S. agents that do not include “all” U.S. utilities would result in an unfair competitive advantage for some utilities over others and would only further complicate the matter.

The logistical complexities, supply fluctuations, and frequent special needs of Russia for delivery and revenue changes are complications that would be more difficult to handle with multiple executive agents who would have varying capabilities and needs. USEC has in place unique infrastructure capabilities that are needed to address the many complex issues related to the Russian HEU contract implementation.

  • USEC maintains a 2 million SWU inventory buffer against previously demonstrated Russian supply interruptions, which represents a substantial cost to build and maintain.
  • Significant hardware and transportation logistics are in place at an annual cost of $10 million. These include the purchase of 1,000 product cylinders and overpacks, arrangement and payment for 40 or more shipments from Russia to the United States and back again, as well as U.S. inland transport.
  • USEC arranges and implements monitoring and product sampling at the Russian plants while also paying insurance, customs fees, and harbor maintenance taxes.
  • Resources and distribution channels are also in place to execute transfers, swaps, or transport to Russia of 9 million kilograms of natural uranium at an annual cost of $1 million.


To replicate these capabilities with multiple executive agents would be difficult, expensive, and time-consuming.

In conclusion, USEC’s commercial interests are aligned with U.S. national security and non-proliferation goals. Approval of the pending new contract amendment, with fair, equitable pricing terms that will stabilize deliveries through 2013, needs to be secured soon. Per contract provisions, USEC must place its order with Russia soon for it to be able to downblend HEU to commercial fuel in time for deliveries to begin in early 2002 and therefore meet Russian revenue objectives, U.S. non-proliferation goals, and USEC customer order requirements for 2002.

We submit that this is a national security program that is being successfully implemented on a sound commercial basis with our Russian partner. The consequences of fixing what is not broken are fraught with unintended negative consequences.

 


Philip Sewell is senior vice president of USEC, Inc.