Legislature(2015 - 2016)HOUSE FINANCE 519
04/04/2016 08:30 AM House FINANCE
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| Audio | Topic |
|---|---|
| Start | |
| HB247 | |
| Industry Testimony | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | HB 247 | TELECONFERENCED | |
| + | TELECONFERENCED | ||
| + | TELECONFERENCED |
HOUSE BILL NO. 247
"An Act relating to confidential information status
and public record status of information in the
possession of the Department of Revenue; relating to
interest applicable to delinquent tax; relating to
disclosure of oil and gas production tax credit
information; relating to refunds for the gas storage
facility tax credit, the liquefied natural gas storage
facility tax credit, and the qualified in-state oil
refinery infrastructure expenditures tax credit;
relating to the minimum tax for certain oil and gas
production; relating to the minimum tax calculation
for monthly installment payments of estimated tax;
relating to interest on monthly installment payments
of estimated tax; relating to limitations for the
application of tax credits; relating to oil and gas
production tax credits for certain losses and
expenditures; relating to limitations for
nontransferable oil and gas production tax credits
based on oil production and the alternative tax credit
for oil and gas exploration; relating to purchase of
tax credit certificates from the oil and gas tax
credit fund; relating to a minimum for gross value at
the point of production; relating to lease
expenditures and tax credits for municipal entities;
adding a definition for "qualified capital
expenditure"; adding a definition for "outstanding
liability to the state"; repealing oil and gas
exploration incentive credits; repealing the
limitation on the application of credits against tax
liability for lease expenditures incurred before
January 1, 2011; repealing provisions related to the
monthly installment payments for estimated tax for oil
and gas produced before January 1, 2014; repealing the
oil and gas production tax credit for qualified
capital expenditures and certain well expenditures;
repealing the calculation for certain lease
expenditures applicable before January 1, 2011; making
conforming amendments; and providing for an effective
date."
8:33:36 AM
^INDUSTRY TESTIMONY
8:34:14 AM
BRUCE WEBB, VICE PRESIDENT, FURIE, provided background
information on the company that began producing natural gas
in November 2015 in Alaska. He remarked that the most
recent oil and gas tax restructuring had enabled the
company to raise a significant amount of capital.
8:36:04 AM
DAVID ELDER, CFO, FURIE, relayed that the company viewed
the tax credits as vital to the industry and the state. The
company had invested over $700 million; the company only
had 11 employees. He believed the tax credits had done
exactly what they had been designed to do. They helped
lower the price of gas to the residents of Southeast
Alaska. He spoke to the return provided to the state; the
company had employed over 300 individuals on the project.
Without continued support through the tax credit program
the company would have to cut back significantly on its
lease acreage.
Representative Gattis asked for clarification on the
location.
Mr. Elder clarified that he meant Southcentral Alaska. He
discussed the House Resources Committee Substitute. The tax
credits were important to small companies' overall
financing; to repay their lenders.
Mr. Elder stated that the project had been an investment in
the state. The company had taken on a significant amount of
risk and was ready to begin paying back the state. The
company helped to bring back Nikiski and, the service
companies relied on the project that had used over 100
local suppliers. He spoke about property taxes. They
estimated the royalties they would pay to the state at $300
million. They had brought prices down to // on the
contracts.
8:43:47 AM
Representative Wilson asked if the company understood that
the credits were not necessarily paid in the present year.
Mr. Elder replied in the affirmative.
Representative Wilson remarked that the state was still
meeting its obligations, but may pay four years out. If the
state did not have the funding currently, the tax credits
remained good.
Mr. Elder answered that the company relied on the existing
program. The company did not anticipate that the tax
program would begin in the current year. If the company
knew with certainty what the future was they could plan
around it. To make a change in the middle of their process
would be difficult.
Representative Wilson stated that no changes had been made.
Mr. Elder replied that the company always understood that
it was a risk, if the change was going to be made, it was
hard in midstream to have the change. It would not be a
problem if they knew what to expect.
8:47:38 AM
Representative Wilson spoke about SB 21. She asked if it
was time for Cook Inlet to pay its share, as similar to the
North Slope structure.
Mr. Elder answered that he was not as familiar with the
North Slope tax structure. He there had been significant
consolidation in Cook Inlet.
Representative Gara appreciated the importance of the work
and what was provided to Cook Inlet. He thought the money
that was provided to the companies went to paying very high
interest rates.
Mr. Elder answered that the money was not going to pay the
debts; it had enabled them to take the credits and make
them liquid. He shared that the company had begun financing
the project in 2014-2015.
8:51:35 AM
Representative Gara spoke to statutory terms related to the
requirements the state would pay in tax credits. When the
company applied for the financing he gathered the state was
aware of the statute, and remarked that everyone would not
get paid in the current year.
Mr. Elder replied that the company always understood that
there was appropriation risk. The company was only asking
for transition. The company relied upon the tax credits and
had applied for the tax credits and received them in six
months. The company understood the pressures and knew that
things would get scaled back. He spoke to the high cost of
investing in the state.
Representative Gara clarified that the state was not
honoring its appropriations; it had a statute on the books
that he wanted to ensure the company would inform its
lenders about.
Mr. Elder replied that the company understood it was a
risk; however, it had not anticipated that the change would
occur so rapidly.
Representative Gara sympathized with the company, but the
state did not anticipate the change would come so rapidly
either. He asked what was wrong with the governor's
proposal to switch to a financing structure of low interest
loans in the marketplace. He spoke to the state's tight
budget situation.
8:57:15 AM
Mr. Elder responded that the governor's proposal of $25
million would not benefit the company that much; its
capital program would slow. He asked the committee to keep
in mind that the company had spent over $300 million in the
past two years.
Representative Gara felt that the company would not really
be paying production taxes, but rather would be paying
royalty of roughly 12.5 percent. He asked if the company
believed it was fair to his company and to the state.
Mr. Webb answered that Cook Inlet was unique and not like
the North Slope. He remarked that, in 2014, the Anchorage
Chamber of Commerce drafted a report on the benefits of oil
and gas to the Cook Inlet region. That report stated that
the benefits were more than production tax. The industry in
the Cook Inlet was approximately $2.5 billion per year. He
remarked that Anchorage was the economic hub in the state.
He stated that all oil produced in the Cook Inlet was
converted into diesel fuel and jet fuel, which supported
the Port of Anchorage, airport, military base, and locally
used natural gas. He remarked that the benefits of the
production would be much higher than the production tax to
the state.
Representative Gara felt that not imposing a production tax
in the Cook Inlet require the other residents who do not
receive that revenue to pay for that difference.
9:00:58 AM
Representative Guttenberg remarked state received economic
activity, but that happened anyway. He asked about the
company's confidentiality plan.
Mr. Elder answered that he had concern about disclosing the
company's confidential information. The financing as
proposed did not help it to transition out. He reminded the
committee that they were structuring plans two years out.
9:07:13 AM
Representative Guttenberg stated that the credits were like
grants. He spoke to the value of providing the money to the
companies. He noted that there were many people in the
state who did not see an effect from the companies. He
stated that his region did not see the impact. Determining
the value of the credit program was a challenge. He asked
how the company defined transition.
Mr. Elder asked that any changes not go into effect until
January 1, 2016. He was not concerned about credits being
paid out over one or two years; they had based their
financing on a practice that had been in place.
Co-Chair Thompson stated that there had been a shortage of
supply. The credits had worked to increase production. He
remarked that the State of Alaska is a big business and
needed to stop the bleeding.
9:12:29 AM
Vice-Chair Saddler asked for the company's royalty rate on
its leases.
Mr. Elder answered that the royalty rate was 12.5 percent.
Vice-Chair Saddler queried the impact of the tax credit
regime in the current version.
Mr. Elder replied that it would enable completion of
development, and meet the obligations. He stated that there
would be some reductions in development.
Vice-Chair Saddler queried the impact of the prospect of
the tax holiday ending in 2022.
Mr. Elder responded that the tax holiday allowed for
planning time. He pointed out that there was some
technology that may be used to bring gas to other parts of
Alaska. He shared that there was technology to deliver gas
other than Liquid Natural Gas (LNG). He remarked that his
company was not able to begin selling gas until the current
year. The next contract that would be in the nineteenth
time frame. He stressed that it was important that his
company rely on the payments.
Vice-Chair Saddler asked how the tax credit regime would
impact the in the industry overall.
Mr. Elder replied that he would tell industry that Alaska
was a great place to do business.
9:16:47 AM
PAT GALVIN, CCO, GENERAL COUNSEL, GREAT BEAR, provided a
PowerPoint presentation titled "Great Bear Petroleum: House
Finance, HB 247" dated April 4, 2016 (copy on file). He
turned to slide 3:
· Original Target -> North Slope Shale Play (aka
"source rock play", aka "unconventional play")
· Soon Faced an "Alaska Shale Play Catch-22"
· Not economic without cost reductions
· Costs reduction requires a critical mass of
drilling activity, such as that generated by a
shale play
· Re-directed focus to extensive conventional
prospectivity
· Still believe a North Slope unconventional play
can be
· economic following a conventional play build-out
· New Management Team - focus on performance -
expanding
· technical capabilities
Mr. Galvin addressed slide 4 titled "Great Bear - Leasehold
Position and Activities (2012-Present)." He stated that the
wells had been targeting the unconventional shale play, and
there was a conventional exploration well that was located
on an ice pad about three miles off the haul road. He
remarked that Great Bear had only been able to finish one.
9:23:51 AM
Mr. Galvin turned to slide 5 and discussed Great Bear's
immediate work plan.
1. Complete our seismic program
2. Complete our prospect inventory
3. Execute a multi-year, multi-well exploration
program
4. Secure cost-effective services by using the
multi-well commitment
Mr. Galvin moved to slide 6 and addressed four myths about
North Slope exploration companies:
· Exploration companies are "financed" by
Alaska tax credits.
· Exploration companies don't have "skin in the
game".
· Alaska could get the same level of exploration
activity with lower exploration tax credits.
· Tax credit payments can be delayed with little
impact to exploration companies.
Mr. Galvin addressed the first of the "myths" related to
financing.
9:26:44 AM
Mr. Galvin turned to slide 8 and addressed the second myth
related to companies with skin in the game:
· Total Gross Spend of Approximately $220 Million
· Approximately $140M has been or will be
reimbursed by State of
· Alaska
· Net Operating Loss Credits (25 percent -> 45
percent -> 35 percent)
· 40 percent Exploration Incentive Credit for
Seismic
· 30 percent Exploration Incentive Credit for Wells
· Great Bear Petroleum and Partners have spent
approximately $80M that will not be recovered
through tax credits
· As a result, Great Bear has been very prudent and
deliberate in what activities we have conducted
· Tax Credits bought valuable exploration data -
State now has extensive new data about its
resources on the Great
· Bear leases
9:28:39 AM
Mr. Galvin spoke to slide 9 titled "How tax credits dictate
exploration drilling volume." The slide stated that if the
state offered a higher tax credit it would see much higher
exploration. In order to understand the role of the tax
credit in the exploration process it was necessary to know
that exploration was risky. The program had been
implemented because Alaska had not been seeing high
exploration; the state wanted to lower the hurdle.
Representative Guttenberg pointed to slide 9. He was an
advocate for strong exploration activity. He wondered when
an exploration well became a development well.
Mr. Galvin responded that there was a proxy for determining
exploration. He explained that more than three miles from
and preexisting well, then the well would be eligible for a
30 percent credit. He stated that a well that was both more
than three miles from a preexisting well, and more than 25
miles from a unit, the well would be eligible for a 40
percent credit. Additionally, the Department of Natural
Resources (DNR) needed to make a determination before a
company drilled.
Representative Guttenberg wondered if a new well near an
exploration well would keep that explorations well's status
intact.
Mr. Galvin responded that it would no longer be considered
an exploration well.
9:34:19 AM
Mr. Galvin addressed slide 10 related to the impact of tax
credit payment uncertainty:
· Delay in tax credit payments will result in increasing
financing costs for explorers
· Additional interest payments & higher interest rates
· Less money goes into the ground - more goes to the
banks
· Uncertainty or surprises in tax credit payments by the
state causes financing sources to leave the market or
freeze existing credit agreements
· Makes tax credit financing far more expensive, or
completely unavailable
· Dramatically reduces the exploration activity that is
bought by the tax credits
Mr. Galvin discussed tax credits - keep what is working
(slide 11):
· Alaska Has Emphasized North Slope Exploration in State
Oil and Gas
· Policy for the Past 15 Years
o Area wide Leasing Program
o Exploration Incentive Credit (EIC) Program
o Net Operating Loss Credits
o Tax Credit Certificate Payments
o Collateralization of Tax Credit Certificates
· It Took A While, But That Effort is Now Showing
Success
o Diversified Group of North Slope Explorers
o Recent Discoveries
o New Production Coming On-Line
· Elimination/Reduction of Credits Will Be Costly
o Likely to Slow Down or Stop Exploration
o Lower Likelihood of New Discoveries
· Getting Momentum Back Will Take A Long Time
9:39:45 AM
Mr. Galvin addressed a summary on slide 12:
· Great Bear is a highly active North Slope explorer
· Great Bear's investment to date has been substantial
and well spent
· Great Bear's pace and volume of future exploration
activity will be directly related to tax credit
program
· Risk is reduced, and likelihood of success is
increased by more exploration
· Reducing exploration risk of Alaska's North Slope
resources is a good investment for the State of Alaska
· The Exploration Incentive Credit Program ("025
Credits") is a valuable catalyst for North Slope
exploration activities
Representative Guttenberg wondered about a slowdown in the
rest of the world on industry investments. He asked how the
state would look at the state curtailing the credits. He
believed the state was acting prudently.
Mr. Galvin distinguished the two decisions that
Representative Guttenberg had combined. It was not the
state's role to look at individual investment decisions. He
noted the self-correcting aspect of the credit program; if
an investment was not good, it would preserve the state
from having to make a payment. If the exploration bar cost
for an explorer was raised, the explorers would make the
decision on whether or not to invest in exploration.
9:46:32 AM
Representative Guttenberg remarked that most companies did
not do exploration because it was too risky, and asked if
the state should be involved at that point. He surmised
that at that point credits should become loans. He thought
at that point the risk was downgraded to moderate.
Mr. Galvin replied that there were positive and negative
conversations regarding a credit program and loan program.
He felt that a loan program would put the state in a
different position as it related to the companies, so it
makes efforts complicated. He felt that the credit program
allowed for the private industry to make decisions based on
a certain level of criteria.
Representative Guttenberg noted that he had been combining
former Commissioner Galvin's (former Department of Revenue
commissioner) role with his current role.
Representative Gara wondered when Mr. Galvin served as
commissioner for DOR.
Mr. Galvin replied that he had been commissioner of DOR for
about a month after Great Bear had come in - 2010.
Representative Gara surmised that the Great Bear had one of
the best shale plays in the country at one point. He
wondered if that assertion had been overly optimistic,
because of the many years of paid tax credits.
Mr. Galvin replied that Great Bear began looking at a shale
play. Soon the company realized that the shale play would
not be economic without conventional work. He stated that
the company had invested about $80 million to get $220
million of exploration information. He shared that current
seismic data could be used to identify the conventional
plays that the company believed would be economically
producible. He shared that there would be a significant
amount of risk capital to explore and determine that
possibility. He stressed that the tax credits were an
overwhelming catalyst to the amount of activity Great Bear
was able to achieve, and advance the state's interest in
developing that acreage. He shared that there were only
eleven exploration wells in 600,000 prior to Great Bear.
Representative Gara asked if Mr. Galvin had any realistic
calculations of how much production would come out of the
area.
Mr. Galvin replied that Great Bear had confidence that
there was an overwhelming amount of hydrocarbons in the
acreage. He stressed that there was a concern whether those
hydrocarbons could be drawn from the type of rock that
would facilitate economic development. He stressed that
there were many unknown variables that would not be known
until the wells were drilled. He shared that he was
optimistic that a significant amount of oil would be
development from the acreage, but more work was required to
determine the absolute outcome.
9:52:53 AM
Representative Gara surmised that companies invested based
on a positive net present value rather than a negative net
present value. He queried any issue with a tax that might
be better than no production tax up to $73 dollars per
barrel with the knowledge of application for royalty
relief. He shared that royalty relief could be used with
proof.
Mr. Galvin accepted the premise that the state needed a
return on production. He suggested that the assertion that
there would be no money back up to $73 dollars was
simplistic. He stressed that there were many variable, and
the picture would have to include an evaluation of all
variables.
Representative Gara understood that the $73 estimate may be
altered for different fields. He remarked that the DVR
level was generous to companies. He queried any problem
with a modest tax change, knowing that there may be an
option for royalty relief.
Mr. Galvin replied that the companies did not negotiate a
tax rate with the state. He stressed that the state would
set the tax rate, and the companies would determine how
much production could occur at what cost. He remarked that
the tax policy set the framework to determine whether the
company could meet the hurdle, and then decide to apply for
royalty relief.
Vice-Chair Saddler asked Mr. Galvin to address the argument
that if oil required a tax credit in order to be developed,
it was uneconomic. Therefore, it should not be developed
until a profit could be made.
Mr. Galvin replied that it was a valid position. He
referred to conversation years back about turning off
production from Trans-Alaska Pipeline System (TAPS) during
low prices. He believed the program was an investment by
the state and important for the economy in the state.
9:59:50 AM
Vice-Chair Saddler asked if Great Bear understood the risks
that the credits were subject to appropriation.
Mr. Galvin replied in the affirmative, and he had a
different memory of the statute when it had been formed and
its intent. The expectation was that tax for the fund would
be a "placeholder" to keep funds flowing through the fund,
so the annual appropriation process could be based on that
placeholder. He felt that it was intended to begin the
appropriations process.
Representative Guttenberg asked on what evidence he had
related to the topic.
Mr. Galvin responded that he had been present when it had
been written, as the commissioner of DOR at the time. He
shared that he advised his staff to determine the fund
level in order to keep the fund functional.
Vice-Chair Saddler asked about the proposal to have Alaska
Industrial Development and Export Authority (AIDEA) // loan
program.
Mr. Galvin stated that there could not be a loan program
during the exploration phase because there was nothing to
loan against.
Vice-Chair Saddler asked about the current Committee
Substitute and how it would impact the company.
Mr. Galvin answered that it would not have significant
impact on the company's activity, except that it did not
include an extension of the exploration incentive program.
Representative Wilson wondered whether the company
anticipated the state's current budget position.
Mr. Galvin replied that he did not believe anyone expected
the current fiscal climate. He remarked that there was an
expectation at the time of the creation of the structure,
it was thought that the state would have enough in savings
to provide the tax credits.
Representative Wilson stressed that "timely" may be seen
differently between the legislature and industry.
10:06:55 AM
J. BENJAMIN JOHNSON, PRESIDENT AND CEO, BLUECREST ENERGY,
spoke about the company and its presence in Alaska. He
shared information about the company executives. He
provided a PowerPoint presentation dated April 4, 2016
(copy on file). He read from a prepared statement:
Thank you for the opportunity to comment on this very
important issue of proposed changes to Alaska's oil
and gas tax laws.
For the record, my name is J. Benjamin Johnson, and
I'm the president and CEO of BlueCrest Energy Inc.
Although BlueCrest is based in Texas, we definitely
have Alaskan roots. My family first moved to Anchor
Point in the early 1950's.
I grew up in Kenai and graduated from Kenai Central
High. I worked my way through college on Cook Inlet
platforms and at Prudhoe Bay. Then after college, I
came back home to Alaska, doing some of the early
engineering work for ARCO on Prudhoe Bay and Kuparuk.
In total, BlueCrest senior management has over 40
years of collective experience working in Alaska's oil
and gas industry. Since BlueCrest only has operations
in the Cook Inlet at this time, I will only speak to
the issues particular to the Cook Inlet, with a
specific focus on the following points:
First, I want to emphasize that, specifically with
regard to what BlueCrest is doing in the Cook Inlet,
the tax credit program is a very good investment for
the State. And I want to strongly encourage you to
consider that any changes made to the system (whatever
they may be) need to be well-planned with regard to
the long-term consequences and done in an orderly
progression over time.
BlueCrest has not been involved in drilling "wildcat"
exploratory wells. We have focused on low-risk
development of previously-identified resources of oil
and gas. In the process of delineating the field in
2013, we discovered several new oil and gas zones that
added to the total reserves, but the underlying basis
of the oil and gas accumulation was already known at
that time. The bottom line is that the State's
investment in development of known reserves has a much
lower risk factor than support for higher-risk
exploratory drilling.
BlueCrest Energy was formed by a group of former major
oil company executives, each of whom have extensive
experience in developing and managing large oil and
gas assets. Our original business plan was to find
some oil and gas properties with already-identified
reserves that could potentially be improved using our
backgrounds and knowledge of industry technology. We
evaluated dozens of acquisition opportunities around
the US (offshore California, Gulf of Mexico, Wyoming,
Colorado, Texas, Louisiana and Alaska). Alaska's huge
handicap was - and continues to be - that the
exploration, development and operating costs in the
State are at least three hundred percent of any other
major hydrocarbon basin in the US. But we ultimately
decided to invest in Alaska because, through the
credit programs, the
State was investing in itself, and that investment -
the State's credits - somewhat offset the higher costs
of drilling and development.
BlueCrest is in Alaska today directly as a result of
the State's incentives programs. And it is the State's
investment through the tax credits that has
facilitated success in the Cosmopolitan Unit, which we
are now moving into its first production. As I will
demonstrate today, these credits will provide
substantial future positive value to the State. I'm
going to show you that the State's investments in the
Cosmopolitan tax credits will provide high returns
even at low oil prices. In fact, the tax credit
investments under the current laws can actually
provide higher rates of return to the State than the
average investments in the Permanent Fund.
Second, I'd like to give you a quick overview of the
Cosmopolitan Unit, or "Cosmo" as we call it. And I
will show you the calculations made by both BlueCrest
and the DOR showing the very favorable investment
returns to the State as a result of the tax credits.
And finally, I will address the direct impact to
BlueCrest of critical specific factors in HB 247 and
the CS.
10:12:21 AM
Mr. Johnson turned to slide 2:
The Cosmopolitan Unit is located about three miles
offshore in the Cook Inlet, a few miles north of
Anchor Point. All of the productive area in the unit
is on State leases. We also have an onshore surface
lease that contains the production facilities and the
drill sites for drilling wells to the offshore leases.
For the interest of time, I won't repeat my prior
testimony to House Resources concerning the lengthy
Cosmo history. But suffice it to say that the field
was originally discovered in 1967. BlueCrest acquired
the leases in 2012, and we are about to finally start-
up the initial production this month. We drilled a
very critical well in 2013 and gained new information
that has allowed us to finally develop the field
employing technology currently available today.
Mr. Johnson addressed slide 3:
The Cosmopolitan Unit actually consists of two
separate development projects. The oil zones are deep
enough that they can all be reached from an onshore
drill site, using a very powerful land-based drilling
rig.
We are now proceeding with development of the oil
zones from onshore, but the offshore gas development
is on hold due to economic limitations on costs and
confirmation of sufficient market demand. The
Cosmopolitan gas zones are simply too shallow to make
drilling from onshore a possibility. So the gas zones
will need to be developed by drilling gas wells
offshore with a jack-up rig and setting small dry-gas
production platforms over the wells. The gas will then
be piped through sub-sea pipelines from the platforms
to the onshore oil production facility. This is, of
course, quite expensive. The Cook Inlet gas market is
quite unique, in that the limited current demand for
the gas (without some larger user such as Agrium) does
not facilitate development of large new gas field like
Cosmopolitan to spend all the money to get it on
production and then shut it in. It is important to
understand that, although we know there is a large
quantity of gas, it will take several years to get it
developed. And we are faced with another particular
challenge, in that the one currently available
offshore rig we could use cannot afford to sit idle in
the Cook Inlet for years into the future without being
put to work now. Once that rig leaves, it may be very
difficult (and will certainly be very expensive) to
bring in another rig in the future.
But with regard to the oil development that we could
start right away and given the success of our 2013
drilling program, we were then faced with the
challenge of how to pay for development of the new
field. Right now, BlueCrest is a small private company
with a singular focus of developing the Cosmopolitan
Unit. The members of our management team all have
extensive technical and business experience in
developing projects like this, but the potential costs
far exceeded our personal financial capabilities. So
we teamed with a group of oil industry investors who
have much greater financial capabilities, and we very
carefully created our plan with them for financing the
development of Cosmopolitan.
10:15:40 AM
Mr. Johnson turned to slide 4:
Now I'd like to digress for just a minute to explain
something that's really important to understand about
oil and gas developments. This next chart figuratively
shows the cumulative cash flow over time for a typical
life cycle of a successful oil or gas development.
When the curve goes down, it means that the company is
spending more cash in a month than it is bringing in.
When the curve is rising, it means that the company is
receiving more revenues than it is spending. But as
long as the curve is below the horizontal axis, it
means that the company has cumulatively spent more
money than it has received on the project. When the
curve (hopefully) eventually goes above the axis,
that's when the company finally begins to receive a
return on its investment. There can be no profits
whatsoever until the curve is above the axis. And
prudent oil or gas developers will never begin such a
project unless they believe that it will eventually
provide enough future revenues to justify the large
initial expenditures.
What is important to note about this chart is that the
successful development of a new oil or gas field is a
very long process and requires a lot of money to be
spent before any profits can be generated. You can see
that the very first stage is spending money to
explore. At this stage, there is no assurance that
anything will be found. The only way to know that an
area will be productive is to spend lots of money to
drill expensive wells, and then test them if it looks
like there may be some potential. The vast majority of
exploration prospects are, in fact, dry holes - the
money spent will never be recovered. Just because you
might drill a lot of wells does not guarantee you're
going to discover anything.
But in the minority situation where the exploration
process is successful, then the really huge cost of
developing the field comes into play. In many other
basins around the world, producers can just simply set
up a tank and start flowing a new oil well into it
with the produced gas either being flared or venting
into the atmosphere. In Alaska, however, we have
higher standards. BlueCrest takes a very strong stance
on safety and protecting the environment, and it costs
a lot of money to do it right. Before we can sell the
first barrel of oil from a new well, we have to have a
way to collect all the associated gas and water to
make sure that nothing makes its way into the
atmosphere or the environment. That means construction
of drilling sites and sophisticated production
facilities with the ability to safely handle
everything that comes out of the wells. So you can see
that, after the discoveries have already been made,
this curve starts to go very negative. Whenever this
curve goes lower, it means that we have had to come
out of pocket to put more investment into the project.
In our case with developing the Cosmopolitan oil
zones, we expect that we will have to spend about $525
million dollars before we can - hopefully - get to the
point that we are finally generating enough money from
sales of the oil to cover the monthly costs. It will
have taken decades to get from the first exploratory
well to the point where we don't have to keep spending
more money than we are receiving.
Mr. Johnson continued to address slide 4:
Now, what a lot of people get confused with is this
point at the bottom of the curve where it begins to
turn up for the first time. That simply means that the
project is finally paying out more money on a monthly
basis than we are putting into it. But that DOES NOT
mean that any profits have been made or that the
project has broken even. No profits can be generated
until the curve comes all the way back up to the zero
point. The zero line here is the break-even point. Or,
in other words, all of the investments over time have
been repaid at that point but no profits have yet been
generated.
To further complicate the issue is that we have to
consider the fact that this curve represents
development of a successful exploratory prospect. In
fact, the vast majority (anywhere from 2/3 to 90
percent) of exploration projects do not find economic
oil or gas. So, for the industry to survive, we have
to at least be able to generate enough profits on the
successful developments to pay for the losses on the
exploration failures.
10:20:02 AM
Mr. Johnson addressed slide 5:
So let's talk more specifically about Cosmopolitan.
Right now, we are just days away from the very first
commercial production of oil that will begin with
minor production from one of the old wells. Next, we
have to bring in our new specialized drilling rig and
start spending over $40 million per well to bring on
the new production that can finally start paying off
the loans. And that can't happen until we have
finished the drill sites and the production
facilities, which will occur mostly in the second half
of this year and the first half of 2017.
These photos show the progress we have made so far
with the onshore Cosmo production facility after about
two years of construction. The total site is 38 acres,
and contains the drill sites for up to 20 wells and
the facilities to process up to approximately 10,000
barrels per day of new oil production. The site
includes a 50-person camp for housing our operations
and drilling workers, and we are already connected
into the EnStar gas line for sales of our gas into the
Southcentral gas supply. We are also designed to allow
expansion of this facility as needed to handle
additional production increases in the future. Of
course that's going to depend on the performance and
number of new wells that we can drill. We are now
almost complete in our construction process, and we
are now running the final operational tests of all the
components. We are on schedule for starting the first
oil production later this month.
Mr. Johnson turned to slide 6:
So let's look at what the tax credits from a
successful development project like Cosmopolitan
actually mean to Alaska. When the tax credits are used
for development of new proven reserves in the State,
they are - without question - a valuable low-risk
investment. Speaking of the credits as a cost or a
"give-away" completely ignores the substantial value
that is received by the State. The tax credits make
new projects work, and they bring new sources of long-
term revenues to the State for decades into the
future.
At Cosmo, we are sitting on a large proven resource of
future oil and gas that now simply requires additional
new investments to bring it to full production. On
February 19, the DOR provided its analysis of the
financial impact to the State on development of a new
Cook Inlet oil field, assuming that no changes are
ever made to the existing tax laws (including tax
credits and production tax rates). DOR's analysis
modeled an example Cook Inlet field that is somewhat
more expensive and less productive than the actual
Cosmopolitan oil development. So the DOR's
calculations are, in fact, conservative.
Mr. Johnson moved to slide 7:
This chart is a summary of the calculations the DOR
provided. It includes a summary of the total net
benefit received by the State and municipalities,
including taxes and royalties, as a function of
various future oil prices. It shows that, if oil
prices over the entire field life average only about
$35 per barrel, the State would break-even. In other
words, the State would receive back 100 percent of its
investments in the tax credits (unchanged from current
law for many years into the future). At about $47 per
barrel average oil price, the State would receive back
double the amount of its investment in the tax
credits. And at about $59 per barrel average oil
price, the State would receive back triple its
investment in the tax credits.
Mr. Johnson pointed to slide 8:
The DOR also provided their calculations showing the
impact of the tax credits as a pure investment, with a
head-to-head comparison to the investments by the
Permanent Fund. According to the DOR, the Permanent
Fund's September 2015 earnings were 6.15 percent. So
if an alternative investment earned less than 6.15
percent, it would have a worse performance than the
average investments in the Permanent Fund. On the
other hand, if an alternative investment earned more
than 6.15 percent, it would be a better investment
than what the Permanent Fund had in place in September
2015. This chart shows that, even in the case where
there are never any changes to the tax system in the
Cook Inlet (that is, all tax credits stay in place and
there are no oil production taxes until 2022), the
State's investment in those tax credits for the
example field is still better than the average
investment in the Permanent Fund as long as oil prices
over the next 30 years average only $44 per barrel.
Now I'd like to provide our additional comments on
particular portions of the bill specific to BlueCrest
and the Cosmopolitan Unit.
Mr. Johnson addressed slide 9:
First of all, termination of the 023(a) and 023(l)
credits would result in a significant reduction in our
ability to continue making investments in the Cosmo
oil wells, resulting in less future revenues to the
State. The Governor's original bill completely
eliminated the 023(l) (Well Lease Expenditure)
credits, effective immediately. The House Resources
Committee Substitute temporarily retained the 023(l)
credit but effectively scaled it down to 20 percent
over two years from the current 40 percent and reduced
the NOL credit from 25 percent to 10 percent.
10:25:22 AM
Mr. Johnson discussed slide 10:
We've done some interesting analyses of the value to
the State in keeping both the 023(a) and 023(l)
credits as they apply to Cosmopolitan. We looked at
the effective return to the State using a simple and
conservative calculation including only the
incremental royalty for each single new Cosmopolitan
oil well drilled. This calculation does not even
include the production taxes that would be paid after
2022 nor does it include property taxes. The bottom
line is that, in periods of low oil prices, the 023(a)
and 023(l) credits allow us to continue drilling the
Cosmopolitan oil wells at approximately $10 lower oil
prices than without the credits. This is likely to be
an important factor in our 2017 capital program.
This next chart shows the calculated return on
investment to the State (including ONLY the royalties)
from the 023(a) and (l) credits. A 100 percent return
on investment means that 100 percent of the tax credit
would be repaid out of increased royalties over the
life of the well at an average oil price of only $24
per barrel. At $40 per barrel, the total return would
be about 170 percent, and at $60 per barrel, the
return would be about 250 percent. So you can see that
these credits, at least for Cosmo, are likely to be a
very good investment for the State.
Mr. Johnson referred to slide 11:
Another factor in the original bill was setting a
limitation in the amount of the credits that can be
paid annually. While the CS provided for a larger
limit (that probably would not negatively affect
BlueCrest), it still does not recognize the
differences in qualified investments made by different
parties. If this limit is too low, it would be
particularly damaging to small companies like
BlueCrest who have already invested in good faith,
based on the tax policy in existence when we entered
into the commitments for our investments. We came to
Alaska based on the credits. We invested our cash, and
we have borrowed a lot of money and committed to
spending a lot more - all based on the tax credits.
And the timing of the receipt of those payments for
the credits is paramount in our ability to make the
payments on the loan used for making those
investments.
Mr. Johnson discussed slide 12:
Most important of any of these provisions to BlueCrest
is the timing of implementation of any changes,
whatever they may be. It is now April, and the
proposed changes in the original HB247 are supposed to
take place on July 1. The Committee Substitute moved
that date back, which certainly helped but does not
completely solve the problem.
BlueCrest has been very careful in its financial
planning process. Before we ever started the oil
development project, we made sure that we would have
enough funds to allow us to complete construction of
the onshore drill site, production facilities, bring
in the most powerful drilling rig in Alaska, and to
drill at least the first two new oil wells. We
calculated that we would need approximately $525
million to reach the point of self-sufficiency (where
we no longer have to keep borrowing additional money
to put into the project). And we expect that should
happen in the first half of 2017. In order to make
that work, our shareholders invested approximately
$200 million in cash. We have borrowed $30 million
from AIDEA for a loan on the drilling rig. We secured
a $150 million high-interest development loan. We have
received $24 million to date in tax credits. And the
remaining $121 million was to come from credits earned
for 2015 and 2016 spending under the current tax laws.
We have spent a lot of money to get to the point where
we can now start drilling these new wells, but an
abrupt termination of the tax credits on which we have
based our entire financial planning would be
devastating.
We have finally reached the point - by completing all
this work and spending all this money- to where we
will finally have our drill site and rig ready to
drill in the second half of 2016 and the first quarter
of 2017. We need the production from the first new
wells to pay for the costs we have spent so far. Those
drilling costs - at least through early 2017 - are all
based upon the assumption that we will be able to
obtain the credits under existing law for those
investments. We have done all this work and spent all
this money to date, and it seems only reasonable for
us to be able to claim the existing credits for the
spending that is the result of our investments made in
good faith based on the expectation that the State
would honor its share of the investments. We need to
be able to be able to get to the finish line. If the
date for changes in the original bill (just three
months from now) was reinstated, we would not have the
full funding for finishing the initial part of the
project, although we have basically already committed
those investments. Not paying the credits that were
the basis for the investments we've made is like
saying "you can spend the money for a new house, but
now you just can't ever move into it."
Mr. Johnson concluded with slide 13:
In conclusion, I'd like to reemphasize the importance
of phasing-into any changes over a reasonable time
period. Everyone in this room today understands that
when we are driving on slippery icy roads (like the
State of Alaska and Alaska's oil and gas industry is
faced with today), the most dangerous thing we can do
is suddenly slam on the brakes.
We appreciate your careful consideration of these
important issues that will have far-reaching
implications into Alaska's future.
10:32:21 AM
Representative Wilson wondered if the presentation referred
to the change in tax credits or the payment in cash.
Mr. Johnson replied he was referring to payments of the
credits earned to date; and also what his company would
earn through the end of the year and into early the
following year. He stressed that the investments were made
based upon the current law. He stated that the company
would later decide to invest, based on the law at that
point.
Representative Wilson stressed that the law had not been
changed. She was tired of hearing that the state was not
honoring its commitments because it was untrue. She asked
how a delay of payment for one to two years would impact
the company's development.
Mr. Johnson replied that it would have a major impact on
the company. He understood that the law did not require the
payment, but it had been the state's practice.
Representative Wilson asked if $121 million was what the
company believed it was owed by the end of the current
year.
Mr. Johnson answered in the affirmative.
Representative Gara spoke to the primary purpose of the
Cook Inlet tax credits was to bring gas to the local
region, but the credits were paid for oil. He queried the
position of Mr. Johnson, should the state decide to put a
fair production tax on the oil in Cook Inlet.
Mr. Johnson replied that if there was a tax on oil the
company would pay it and would have to include the cost in
its future plan.
Representative Gara stated that legislators found it hard
to believe that no one was aware of the limit required to
pay on tax credits, based on the amount of production tax
in a given year. He noted a debate about limiting the
payments to statutory amounts in 2015. He wondered if Mr.
Johnson made the investments in 2016, with the knowledge of
the payment limits.
Mr. Johnson replied that the company had committed to the
work prior to the governor's veto. The company would adjust
to the situation, but it was important to receive the funds
over the next year or two.
10:38:25 AM
MATT BLOCK, GENERAL COUNSEL, AHTNA, introduced himself. He
stressed that the tax credit program was critical to the
company. He introduced a PowerPoint presentation titled
"Frontier Basins Tax Credits" dated April 4, 2016 (copy on
file). He explained that the company would not be moving
forward without the tax credits.
CHRIS COOK, DIRECTOR OF FINANCE, AHTNA, shared that the
company was using the credits for risk mitigation. He moved
to slide 2 titled "Frontier Basins Experience"
· AS.43.55.025(a)(6) & (7) originally created in 2012
under HB 276 and merged with SB23
· Intent of Legislature -incentivize oil and gas
exploration in under explored Basins
· Reduce the risk of development of local rural energy
to Alaskans
· Create local energy source for rural residents
· Reduce or eliminate the Power Cost Equalization (PCE)
subsidies
Mr. Cook addressed slide 3:
· AS 43.55.025(a)(6) -The first two exploration wells
drilled inside each of the six Frontier Basins
receives 80 percent credit or up to $25M of qualified
expenditures
· AS 43.55.025(a)(7) -The first seismic project
performed inside each of the six Frontier Basins
receives 75 percent credit up to $7.5M of qualified
expenditures
· Ahtna would not consider any exploration activities
without tax credits
Mr. Cook addressed specific Frontier Basin regulations on
slide 4:
· ADNR-DOG pre-qualification approval for seismic and
well
· Various well depth and set back from previous wells
· Submission of all data to ADNR prior to credit award
· Public data disclosure of all data after 2 years
· Must provide energy source for rural energy needs!
· The AS.43.55.025(a)(6) & (7) tax credits are not
eligible for stacking
Mr. Cook addressed Ahtna's exploration program history on
slide 5:
· April 2012 Ahtna applies for SOA Exploration License
· May 2012 Legislature approves SB 23
· December 2013 Ahtna receives Tolsona Exploration
License
· June 2014 receive ADNR Commissioner pre-qualification
approval for seismic
· December 2014 completes 40-miles of 2D seismic over
exploration area
· April 2015 completed reprocessing of seismic data
identifying 12-sq. mile potential oil and gas trap
· May 2015 submit seismic data to ADNR-DOG
· September 2015 receive ADNR Commissioner pre-
qualification approval of new well
· February 2016 -majority of permits approved
· March 2016 final stages of new well engineering and
design
10:44:19 AM
Mr. Cook looked at a map of the Copper River Basin on slide
6:
· Proposed Tolsona well depth of 4,500' Vertical hole.
· Targeted structure is the Nelchina sandstone.
· 11 wells drilled in the basin since 1960's.
· Most recent well -drilled by Rutter in 2005-2008.
· Natural gas shows (approximately 94 percent methane).
· Tolsona number 1 potential for a great local fuel
source.
Mr. Cook addressed the purpose and need for gas in the
Copper River Basin on slide 7:
...To conduct exploration within the license area on a
single natural gas well, Tolsona #1, with the potential
to develop natural gas production for distribution to
local residents and electric utilities...
Community and Economic Development Benefits:
· Potential Opportunities for Local Employment
· Economic Benefits, Expanding Local Business
· Lowering High Energy Cost for Our Rural Economy
· Reducing Out-migration
· Building Infrastructure in the Region
Mr. Cook turned to slide 10 related to the project
schedule. He concluded with slide 11:
· Our Request: It is critical to our project that the
Frontier Basin AS 43.55.025(a)(6) & (7) credits are
extended from June 30th2016 to a future date, we
recommend 2022 to coincide with other credit
expiration dates.
o This will greatly help the Tolsona Project that
is under way with a committed investment and a
very tight schedule.
· Ahtna also supports the AS 43.55.023 and 025(a)(1-4)
Middle Earth tax credits to be kept in place, as an
incentive to the Frontier Basin exploration and
development efforts by explorers who have taken the
risk and committed investment based on these
incentives.
Representative Wilson pointed to the timetable on slide 10.
She queried the extension to 2020. She wondered if there
were other targets not included in the chart.
Mr. Cook replied in the affirmative and relayed that there
were additional targets.
Representative Wilson queried the type of resource provided
by his company.
Mr. Cook answered that it would be commercial gas.
Representative Gara stated that most of the companies were
paying no production taxes to the state. He asked if the
company paid a production tax.
Mr. Cook was unclear and believed the company paid
production taxes. He would follow up.
Co-Chair Thompson relayed that there was a provision for
production tax.
Vice-Chair Saddler asked if there was any formal or
informal understanding of who would be the ultimate
purchaser of the gas.
Mr. Cook answered that the company did not have commercial
commitments in place. The plan was to provide the resource,
and to evaluate whether there was enough resource to
provide for the local community. He stated that the intent
of the well was to provide energy for the local community.
HB 247 was HEARD and HELD in committee for further
consideration.
Co-Chair Thompson discussed the schedule for the following
meeting.
| Document Name | Date/Time | Subjects |
|---|---|---|
| HB 247 2016.04.04 - Great Bear - House Finance Testimony - Final.pdf |
HFIN 4/4/2016 8:30:00 AM |
HB 247 |
| HB 247 Ahtna House Finance Committee 4 4 2016_FINAL.pdf |
HFIN 4/4/2016 8:30:00 AM |
HB 247 |
| HB 247 04-01-2016 V3 Draft BlueCrest testimony to House Finance 04-04-16.pdf |
HFIN 4/4/2016 8:30:00 AM |
HB 247 |
| HB 247 BlueCrest Testimony Slides 04-04-2016 Final.pdf |
HFIN 4/4/2016 8:30:00 AM |
HB 247 |
| HB 247-Weissler Comments.pdf |
HFIN 4/4/2016 8:30:00 AM |
HB 247 |