Legislature(2005 - 2006)HOUSE FINANCE 519
03/06/2006 12:30 PM House FINANCE
| Audio | Topic |
|---|---|
| Start | |
| HB488 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
HOUSE FINANCE COMMITTEE
AND
HOUSE RESOURCES COMMITTEE
March 6, 2006
12:38 p.m.
CALL TO ORDER
Co-Chair Samuels called the joint meeting of the House
Finance Committee and the House Resources Committee to order
at 12:38:00 PM.
MEMBERS PRESENT
Representative Mike Chenault, Co-Chair
Representative Kevin Meyer, Co-Chair
Representative Bill Stoltze, Vice-Chair
Representative Mike Hawker
Representative Jim Holm
Representative Reggie Joule
Representative Mike Kelly
Representative Beth Kerttula
Representative Jay Ramras, Co-Chair
Representative Ralph Samuels, Co-Chair
Representative Carl Gatto
Representative Gabrielle LeDoux
Representative Kurt Olson
Representative Paul Seaton
Representative Harry Crawford
Representative Mary Kapsner
MEMBERS ABSENT
Representative Carl Moses
Representative Bruce Weyhrauch
Representative Richard Foster
Representative Jim Elkins
ALSO PRESENT
Daniel Johnston, Legislative Consultant, Daniel Johnston &
Co., Inc.; Representative Norm Rokeberg; Representative
Berta Gardner; Representative Mark Neuman; Representative
Peggy Wilson; Representative Ethan Berkowitz; Representative
Les Gara; Representative John Coghill; Representative John
Harris; William Corbus, Commissioner, Department of Revenue
PRESENT VIA TELECONFERENCE
None
SUMMARY
^
OIL AND GAS PRODUCTION TAXES
12:38:06 PM
DANIEL JOHNSTON, LEGISLATIVE CONSULTANT, DANIEL JOHNSTON &
CO., Inc., referred throughout his presentation to a handout
entitled "Alaska's Proposed Production Tax - PPT 20/20/%"
(copy on file), which analyzes issues related to SB 305 and
HB 488. He explained the services he provides: consulting,
teaching, and expert witness work. The past 15 years his
work has been equally divided between oil companies and
government work. He shared that his philosophy is that
mineral resources are a gift from God and this work is a
sacred trust.
Mr. Johnston shared his mandate in the analysis and
discussion of PPT 20/20%. He stated an objective to share
analysis, research, discussion and recommendations, to help
design a fair production tax system, and to avoid a punitive
arrangement. He opined that future generations would ask
questions about the design, negotiations, and management of
this policy.
Mr. Johnston pointed out that on page 5 of his handout is a
disclaimer about some of the restrictions and limitations of
his presentation. He noted the report should be viewed as a
preliminary indication of things that will be addressed when
there is more time.
12:47:21 PM
Mr. Johnston shared conclusions that Alaska has every right
to change its current regressive, inefficient tax system.
The new system should increase revenues to the state and
enhance exploration activity. Those objectives are not
mutually exclusive. Increasing taxes on existing production
is relatively inelastic. Proposed incentives can work and
there is solid justification for having credits.
Mr. Johnston related that the new system would be a well-
designed, modern system that is flexible, progressive,
simple, and transparent. Trying to craft one system to fit
all situations in Alaska may be impossible. The producers
want "fiscal certainty".
12:53:41 PM
Mr. Johnston discussed the debate regarding government take.
With the gas pipeline project, a government take statistic
is much less meaningful. It is time to address this issue.
Crafting language to avoid "leakage" deserves appropriate
terms on the front end. He suggested that Alaska should get
the deal right the first time. There are several issues of
critical importance: relinquishment provisions, abandonment
provisions such as site restoration, cleanup, and
dismantlement, and the proposed "linkage" with the gas
pipeline deal, which is risky.
12:55:36 PM
Mr. Johnston related other perspectives on ELF; the
alignment of interests is not good because the tax is based
on production not profits. He referenced the Indonesian
story and its fiscal device where the oil companies had five
years of royalty-free living, which resulted in a strong
incentive for the oil companies to produce the oil quickly
and to obtain separate field status. He discussed problems
with separate field status. He shared the California story
where the state lost in two ways: lower royalty and lower
taxes. He suggested that with new elements it often takes
10 years.
Mr. Johnston discussed what criteria should be used if the
system is going to be changed. He emphasized that the
system must be progressive. When comparing times with low
and high oil prices, with progressive systems the government
take increased on an average of 10 percent. The system
must have a fair division of profits, have no unhealthy dis-
incentives, and be simple and transparent. One critical
issue centers on whether or not raising or lowering taxes
has an effect on investment activity in the petroleum
sector. He opined that the proposed PPT system, as it is
currently designed, would not be a problem.
1:01:31 PM
Mr. Johnston spoke to the uniqueness of Alaska's needs.
There are boundary conditions and high costs with being
land-locked. There are high transportation costs. High
costs exist in the Arctic, and there are field size
distribution expectations relative to Arctic conditions. He
opined that exploration in northern Alaska is not a place
that most of the major oil companies would be interested in.
The fields are not big enough to attract a large amount of
capital. Independent oil companies may express interest
there.
Mr. Johnston referred to page 11 as the balance sheet -
things to consider about fiscal system analysis and design
relating to prospectivity and contract terms. He pointed
out the importance of expected field size distributions, the
petrophysical characteristics of the rock, the delivery
rates of an oil well, estimated success rates, if the
province is gas or oil prone, and the quality and quantity
of the oil or gas. Other factors are exploration drilling
costs and costs after the discovery is made. Exploration
drilling is more expensive. He discussed transportation
costs, water depth, climate, and political risks.
Mr. Johnston highlighted contract terms as the other side of
the equation. He pointed out that government take, one of
the elements, has weaknesses. One country's government take
may have better terms than another's. There are many
factors regarding government take, some with immediate
implications. The most important is the limit to the number
of barrels.
Mr. Johnston related that the type of tax system is very
important to oil companies. Most provinces with the kind of
field size distribution Alaska has, use production-sharing
contracts, which have some implications unfavorable to oil
companies. Most companies would prefer royalty tax
arrangements. Work programs, seismic data, and drilling are
important contract terms. In the area of timing,
relinquishment, and guarantees, Alaska distinguishes itself.
Unlike in many parts of the world, Alaska is able to hold
onto substantial acreage, which may weaken Alaska's
bargaining position and is something to consider for the
future.
Mr. Johnston stated that royalty rates are average in Alaska
by world standards. By changing the severance tax to a PPT
as proposed, the royalty is reduced to 12 percent. He
suggested that 20 percent is an acceptable royalty rate.
"Entitlement" is the number of barrels a company is
physically, legally able to lift and report to shareholders.
He defined "ringfencing" as an important issue regarding
trading credits. The PPT proposal is outstanding in terms
of ringfencing. Alaska does not qualify as high risk
regarding "Crypto" taxes. Contract stability is an area
worth looking closely at. "Allocation strategy" is the
method of allocating licenses to the oil companies. Alaska
uses area-wide leasing, which is painless to oil companies.
There are a variety of issues where Alaska has advantages.
1:12:32 PM
Mr. Johnston related that comparing Alaska to an appropriate
peer group is important. He took issue with some of the
peer groups that have been mentioned so far in other
presentations. The proposed PPT is trying to accommodate
the legacy assets in Prudhoe Bay and Kuparek, and in Arctic
Frontier explorations, which are vastly different. It is
difficult to find a peer group with a similar situation.
The United Kingdom is not a good example of an appropriate
peer group for Alaska. It has a government take of 50
percent, but also a government take of 75 percent for the
old legacy fields. Picking a peer group that fits the
exploration of Alaska's legacy fields is quite another
matter. Angola falls into the same category with a 75
percent government take. He suggested that there is work to
be done to provide better examples of peer groups because of
the bi-modal distribution quality found in Alaska.
Mr. Johnston mentioned that another problem is how
government take is calculated. He referred to the Wood
Mackenzie Report from 2004, which excludes one of the four
main means by which governments "get a piece of the pie"
called government participation. The government can take up
a working interest in a commercial oil company discovery,
called a risk-free government carry. Oil companies do not
like this form of government participation because it is
inefficient for them. The Wood Mackenzie Report excludes
this in their analysis. He suggested a hearing with Wood
Mackenzie in attendance. If the government take is factored
in worldwide, 5 percentage points would be added to the Wood
Mackenzie Report because Alaska does not have government
participation.
1:19:03 PM
Mr. Johnston discussed if increasing tax rates would reduce
investment in Alaska and result in job loss, as implied in a
presentation last week. He pointed out that the PPT system
is designed to both take and give. He referred to page 14,
a BP graph of production tax vs. the tax rate in the UK
sector of the North Sea. He argued that the graph is not a
fair representation of what the result of lowering the tax
rate would be. He pointed out that the government take was
around 85 percent until 1993 when it dropped to 33 percent,
a dramatic reduction. The graph shows that investment
increased at this point, but it does not show prior years of
extensive exploration, which would have affected investment
increases.
Mr. Johnston showed, on page 15, that the actual investment
activity in the UK contradicts the idea that production
after 1993 was strongly influenced by the tax reduction.
The graph depicts, by year, the royalty rate, the
supplementary petroleum duty, the petroleum revenue tax,
corporate tax, and marginal tax rate on old and new fields.
The term marginal take and government take are the same, but
statistics vary by report, depending on who writes the
report. He highlighted annual expenditures for exploration
and development throughout the years 1974-2005. He noted
that in the 1980's, the UK sector of the North Sea
instituted a policy similar to that which is being proposed
in Alaska - a credit system. He referred to it as a two-
dimensional change that kept the investment activity very
high. He suggested that the graph is a bit misleading. He
referred to the BP presentation and a disaster in 1988, when
many were killed and the industry had to spend an extra five
billion pounds over five years. Exploration drilling after
1993 decreased. He suggested that the committee obtain more
information on this topic.
1:24:37 PM
Mr. Johnston referred to page 16, UK drilling activity
history. It confirms the fallacy of the claim that the
reduction of government take from around 85 percent to 33
percent enhanced investment activity in the UK in 1993.
Exploratory drilling was quite high in the 80's. He related
that the North Sea was maturing at this time, also.
1:25:47 PM
Mr. Johnston referred to the "risk vs. reward" in the PPT
credit plan on page 17. He spoke in favor of a credit plan
that would allow companies direct credits that could be sold
or traded. He provided as an example, grass roots oil
exploration in Indonesia. He explained the process for cost
recovery and how much the government would pay for dry hole
costs. Countries would take the risk because new
discoveries are profitable. Norway is the best comparison;
it partly justifies the high government take. It is a new
system so it is too early to tell.
Mr. Johnston mentioned that in the 1980's, the UK's North
System government take was 85 percent. He maintained that
in the North Sea you could not take advantage of the
"credit" unless there was sufficient new production. This
illustrates that these credits work, and the industry will
find a way to "soak it all up". Canada's Petroleum
Incentive Payments (PIP) Grants is another example of a
credit plan that worked. They only risked 20 cents on the
dollar. The Alaska's PPT proposal risks 39 cents on the
dollar and could go lower in order to incentivize
exploration, and the government take could be higher.
1:32:09 PM
Mr. Johnston summarized the key fiscal elements of PPT
20/20%. The PPT rate is 20 percent, and the PPT base is
company cash flow, which is greater than capital
expenditures. The tax credit rate is 20 percent and tax
credit base is capital expenditures. TLCF or Net Operating
Loss is another component of PPT. Mr. Johnston recalled two
quotes by Dr. Van Meurs: "Negative Cash flow can also be
converted into a tax credit by taking the 20 percent tax
value of these yearly losses." "A loss in any year can be
converted into a tax credit by taking the 25% tax value."
Mr. Johnston reported that the base allowance rate is a
standard deduction of $73 million, and the base allowance
base is the same as the PPT base "deductible" for PPT
calculation purposes. The transition provision is past
capital expenditures from July 2001 to June 2006, to be
amortized over 6 years and deductible for tax purposes.
1:36:47 PM
Mr. Johnston summarized the key fiscal elements of PPT
20/20%. The proposed structure shifts some of the risk from
the industry to the State of Alaska. The shift is multi-
dimensional. By shifting the tax base from "net production"
to "profits" it takes some of the risk away from the oil
companies and puts the burden on the government. It is
sometimes called a "proxy for profits" because no
depreciation is required. The shift applies a 20% credit on
capital expenditures and allows credits to be traded. He
addressed the $73 million allowance and noted that it is
difficult and awkward. It is difficult to design a one-
size-fits-all system. He said he is still uncomfortable
with it. PPT also has no ringfence.
Mr. Johnston addressed the "lookback" provision. He noted
that there is a fairness issue. He suggested that it would
be politically difficult to sell to the public and deserves
further consideration.
1:40:18 PM
Mr. Johnston briefly mentioned, on page 21, the hierarchy of
arithmetic one would expect in any given accounting period.
He provided information about government take on page 22,
depicting a simple royalty/tax system with a 15% royalty and
a 50% tax. He described several scenarios to explain a
regressive fiscal system. Column C can be viewed in several
ways, as the difference between $20 per barrel and $60 per
barrel, or windfall profits. Marginal government take
assumes that there are no costs.
1:43:39 PM
Mr. Johnston explained the variations on government take
calculations on page 23. This scenario involves a
royalty/tax system with a 15% royalty and a 50% tax, but
also a 30% government participation element, which Mr.
Johnston included in all calculations, as did the
administration. He mentioned Azerbaijan as a country that
deals with government participation "heads up" from day one.
He agreed with Dr. Van Meurs with his treatment of
Azerbaijan. He mentioned that contractor take is
significantly different in each scenario. Much money is
involved and a mistake could be very costly. He noted the
similarities between Azerbaijan and Alaska's proposed PPT
system.
1:47:25 PM
Page 24 depicts the definition of the Wood Mackenzie
treatment of government participation. In calculating the
government take, all elements of the fiscal regime such as
royalty, income tax, production sharing contract profit
shares, and additional profits taxes have been included.
Cash flow that would be derived by the government, or a
national oil company having an equity interest in a field,
was not included. He referred to it as the government
participation controversy.
1:48:15 PM
Mr. Johnston referenced page 26, take calculations with and
without factoring in participation. The examples show for a
"world average" system with government participation of
13.5%, which should be close to world average for all
systems, and how different the take statistics look
regarding government participation. The graph on page 27 is
a reproduction of a graph from Conoco Phillips indicating
four cost/tax scenarios. The lines shift up by 5% when
including government participation. Countries are more
likely to have government participation when the costs are
low and the tax is high.
The credit system would make it appear that the costs are
lower and that they would not have to put the amount up
front, but that was already factored in.
Representative Kapsner asked for further explanation of page
27.
1:51:21 PM
Mr. Johnston explained that the graph indicates the
government take on the left scale relative to the costs in a
given country. He spoke to countries with high government
take and low cost. When there are high costs there is a
downward trend, as shown by the scale on the right. In this
case, the government take is artificially off by 5%. The
credit system makes it appear that costs could be reduced,
which makes Alaska look less "painful".
1:53:05 PM
Mr. Johnston continued by highlighting pages 28-30 on
government participation. The government participation at
30% could cause financial pain for oil companies. He noted
the financial "painometer" on page 30.
Page 31 highlights efficiency and flexibility in fiscal
design systems. A flexible system can accommodate a wide
variety of circumstances such as high and low prices. An
efficient system gets a fair share for the government. The
theory is that a progressive system will be more stable and
prices will triple.
Page 32 is a graph that shows a typical regressive system
and regressive signature. When systems are evaluated,
several different field sizes are shown, and three different
cost assumptions and three price scenarios are evaluated to
show the government take. As profitability increases, the
government take declines. Government take for such a system
would be approximately 65%.
1:55:36 PM
Mr. Johnston highlighted, on page 33, the regional
distribution of petroleum fiscal systems. He addressed the
highlighted box:
* ROR systems
* "R" Factor
* +Price-based formulas
These systems are the systems that are most likely to be
progressive. The rate-of-return-systems have some heavy
baggage.
1:57:28 PM
Mr. Johnston addressed page 39, indicating industry
statistics. Page 40 highlights the weakness of the
government take statistic, which is not a perfect statistic.
It is important to know the strengths and weaknesses. It
does not adequately capture signature bonuses, does not
address the "how" of government take, says nothing of
timing, and the scope of the material is too narrow as it
does not indicate benefits such as jobs. The government
take statistic also says nothing of ringfencing, or the
ability to tax deduct costs incurred in one area against
other license areas. It does not measure contract
stability, nor account for reserve/lifting entitlements and
ownership. It does not differentiate between diverse work
program provisions, and crypto taxes don't get captured.
Finally, the government take statistic is not relevant in
some important situations such as exploration and
development.
2:01:10 PM
Mr. Johnston stated that Alaska is low on the painometer.
He spoke to government risk and said that Alaska is not a
risky place on the planet. He referenced the statistics on
page 42. He addressed the difference between oil and gas
exploration. Gas discoveries are not nearly as valuable as
oil discoveries for the same volume of reservoir rock.
Mr. Johnston highlighted statistics from various companies
regarding deepwater projects on page 43. He said that 72
of the systems were regressive, 23 were progressive, and 5
were neutral. He pointed out the 5 points of increase on
government take.
2:03:30 PM
Mr. Johnston spoke of international petroleum exploration
and contracts as shown on the graph on page 44. It is close
to a statistically significant sampling. It is not
appropriate for Alaska because of North Slope requirements.
He cautioned members to be wary of a graph like this. He
pointed out that government participation, as seen in the
left hand column, is factored in. On either side of
Azerbaijan are two countries with no government
participation
The graph on page 45 is based on cash flow analysis. Most
systems are regressive and government take has dropped some.
The left side shows government take increases in progressive
systems. On page 46, graph 3 is not conclusive, but it
depicts what has happened to the government take in the UK
during the last five years. It is not appropriate as a
comparison to Alaska's legacy fields. He said he had to
mention that the government take in the North Sea was 75
percent, but he warned the members to be careful.
Mr. Johnston also warned against page 47, graph #4. He
hoped to assist in determining what a fair share would be.
He asked what kind of terms would yield the same economic
benefit at $60 per barrel that was obtained at $20 per
barrel. He referred to the article about Libya and the
company's bid terms, which are consistent with the graph.
2:09:34 PM
Mr. Johnston spoke to contract duration. He said he does
not believe that contracts should last about 50-60 years.
He clarified that most contracts are much shorter and are
two-dimensional: exploration years and production years.
Mr. Johnston looked at the graph on page 51, the expected
value theory or risk analysis. He showed how rewards
balance the risks. He analyzed the estimated probability of
success. Credits are now structured in such a way that the
average field size is lower and risks are lowered by half.
Mr. Johnston contradicted BP's presentation from February
28, 2006 on the proposed PPT. He highlighted Sonangol to
explain that if non-associated natural gas is found, there
are re-opener clauses in place. "Always" is not the
appropriate word.
2:15:54 PM
Mr. Johnston defined ringfencing on page 53.
Co-Chair Samuels asked about the $73 million figure. Mr.
Johnston responded that it won't work for many companies in
this state and needs to be replaced by something.
Representative Gatto asked about the relationship between
"backing in" and getting a royalty. Mr. Johnston responded
that they are not the same in the industry's language. From
a financial point of view, they are similar because when the
government receives a royalty the oil companies have paid
for everything right up to the point of production and the
government gets something that they did not pay for.
Representative Gatto referred to page 20 and asked if the
lookback should be layered 80/60 and then 40/20/0, or not
even considered. Mr. Johnston replied that it is a complex
issue dealing with how far back to go, and with fairness and
expectations. The issue is that Alaskans are behind and
have not been receiving their due. He said he is not
comfortable with elements of the lookback and is not happy
just saying five years.
2:20:15 PM
Co-Chair Ramras asked how long Mr. Johnston would be
available. He asked for the optimum rate: 25/20 or 20/20
or something else. Mr. Johnston replied that he has only
two weeks available in the next few months. He said he
would be in Juneau for two more days. He opined that the
system that is chosen must be progressive because it would
be stable and dignified. The terms must be designed now in
order to be stable and comfortable. He mentioned the
problem of Cook Inlet being so different than the legacy
fields. Representative Ramras suggested excluding Cook
Inlet. Mr. Johnston suggested he is not happy with 20/20.
He hesitated to state numbers. Many sliding scales don't
work well. It is nearly impossible to predict a rate with
Cook Inlet involved. Representative Ramras asked how it
would be to deal with everything but Cook Inlet. He
wondered what would happen if exploration costs are several
points higher than the tax rate. Mr. Johnston said the
system should accommodate a wide variety of oil prices and
encourage exploration. He said he would like to see greater
credits for exploration. It has to be decided how much
exploration is wanted.
2:26:51 PM
Representative LeDoux asked Mr. Johnston to state his own
opinion about what system would bring the most money into
Alaska. Mr. Johnston responded he would structure the
system to segregate different provinces and different
classes of investors. Representative LeDoux asked if that
is illegal. Mr. Johnston suggested it could be fixed.
2:29:14 PM
Representative Kapsner addressed the topic of tax credits
and asked if the focus should be on exploration costs or on
fields already explored. Mr. Johnston replied that it is
good to ask what needs to be incentivized. He suggested
that companies explore within their own fields. Pilot
studies would qualify for exploratory investments. He
listed, in order, how investment dollars could be spent:
first in existing fields, then in exploration within
existing fields, and finally in wildcatting or frontier
exploration.
2:31:45 PM
Representative Holm asked how strong the legislature's
bargaining position is in light of the fact that the
legislature does not negotiate the contracts. He wondered
how much control the legislature has over "whether they lift
or don't lift". Mr. Johnston replied that it is an
uncomfortable question. The legislature's bargaining
position is more a function of just how much strength
Alaskans have, and not quite as much a function of who is
doing the negotiating. He defined bargaining power as a
combination of the legislature's and the administration's
bargaining power. This issue is one of the most widely
published subjects in the world. Mineral resources, and
especially oil revenues, contribute greatly to the nation's
budget. He mentioned the strength of the lobbying power of
the oil companies. He opined that Alaska is not in the
strongest position he has ever seen. Representative Holm
asked about walking away from the negotiation table. He
said he is uncomfortable not knowing where the line is. Mr.
Johnston pointed out that the problem is that walking away
would lead to more loss of money to the state.
2:35:12 PM
Representative Holm asked about the difference between
giving a check, rather than giving a credit, and which is
better to do. Mr. Johnston responded that they are
virtually identical. The credits proposed could be sold,
which is tantamount to getting a check.
Representative Seaton asked about the complexity of
combining oil and gas in the PPT system. He wondered if gas
should be taken out of the mix or left in. Mr. Johnston
replied that it is premature for him to say because he does
not know enough about it. PPT will influence future
exploration of gas because gas discoveries bring in less
money. He suggested providing additional gas exploration
incentives. The credit system needs more attention.
Representative Seaton requested future feedback on this
consideration.
2:38:43 PM
Representative Kelly asked about tax and credit sensitivity
on the profit side overshadowed by the credit side, by
possibly ten times. If that is the case, he wondered how
the credit side could be fine-tuned. Mr. Johnston said the
working number is five to one. It is the tax that is the
most sensitive. Representative Kelly agreed that the
progressive system is the way to go, but asked about
providing a safety net, such as ELF, so it does not bottom
out. Mr. Johnston thought Alaska would be protected, but
that a number should be determined so it would never do
worse than what ELF yielded. He suggested calculating the
tax in two ways: calculate ELF and the new PPT and take the
higher of the two.
Representative Kelly asked about boundary concerns. Mr.
Johnston said the biggest boundary condition is one-size-
fits-all. He referred to Dr. Van Meurs' presentation and
stated that a credit system is necessary, and it is
important to get the tax right, also. He continued to
explain that Cook Inlet could not sustain a tax increase -
73 percent is an attempt to separate the different
provinces. He remained skeptical.
2:44:50 PM
Representative Kerttula asked if any other countries group
all of the credits together up front, all at once. Mr.
Johnston said no. She asked if incentives are allowed,
should the legacy and newer fields be broken apart. Mr.
Johnston replied yes, but that has its problems, too. He
related problems in Pakistan and Algeria - offshore terms
and onshore terms. Representative Kerttula asked if any
countries allow dollar for dollar credits - gas against oil
or any other mineral. Mr. Johnston said that many countries
allow "credits to cross the fence". When governments have
different terms for gas, the statistics show that the
government take is about 67-70 percent. The world average
government take for oil, as reported by Wood Mackenzie, is
71 percent and for gas, 61 percent. There are problems if
the tax system is not the same for both oil and gas.
2:48:39 PM
Representative Olson asked how to address both the companies
in Cook Inlet and those up on the slope. Mr. Johnston
responded that in the 80's many companies invested at $60
per barrel. He related the pain felt at $40 per barrel. He
suggested that exploration should be encouraged. North
Slope producers are smiling now, but in the 80's and 90's
exploration was discouraging.
2:50:32 PM
REPRESENTATIVE ETHAN BERKOWITZ asked about elasticity of
production for legacy fields. He asked Mr. Johnston to
quantify an increase in tax rates and how it would affect
production decisions. He wondered if legacy fields should
be treated differently. Mr. Johnston said he was speaking
about the elasticity of investment, relative to fluctuation
in taxes. Research and experience has shown that it is not
extremely elastic, but when the tax was dropped from 85 to
30, investment activity in dollars really slowed down. He
noted that the three years prior to 1993 and the three years
after, there were a few more wells drilled, but the change
was only 3 percent. If taxes are raised there will be a
change in production on the North Slope. It is a tradeoff.
The question is what would be reasonable. He suggested
increasing taxes would be beneficial.
2:54:18 PM
REPRESENTATIVE NORM ROKEBERG asked about the variability of
different provinces. He wondered about making distinctions
between fields. He noted possible legal issues. He
wondered if legal issues are taken care of, what an ideal
structure would look like. He also inquired about tax
credits for heavy oil. Mr. Johnston noted the flexibility
surrounding a heavy oil field, and the means by which to
reduce the royalty. He deemed it appropriated to provide a
means of fiscal relief. He suggested Alaska seek that kind
of flexibility on an area-wide basis. He spoke in support
of such an idea.
2:57:51 PM
Representative Gatto referred to predictability and
durability in earlier presentations. He asked if PPT
provides for those more than ELF. Mr. Johnston said those
terms go beyond contract terms to stability provisions,
which are very predictable and durable, but high risk.
2:59:48 PM
Co-Chair Ramras asked for an opinion on number ratios. Mr.
Johnston related the question to predictability. He
suggested a sliding scale based on prices, which would
influence a production-based tax.
3:01:54 PM
Co-Chair Samuels noted that there is auditing of fields
around the world. He asked about cost recovery and "games
playing". Mr. Johnston replied that it is a huge issue.
Many companies have a strong incentive to keep costs down.
If they keep costs down, they get to keep a percentage, say
41 percent. 59 cents on a dollar is a high incentive
compared to Indonesia where it is only 15 cents. One
practice is to procure a vendor for goods and services
through a bidding process. He addressed cheating and how it
is measured. He mentioned severe penalties, AFE in the
budget process, and working industry partners, as ways to
provide transparency. One difficulty for governments is
administrative overhead charges, which are more difficult to
measure.
3:07:15 PM
Representative Seaton asked about the $73 million allowance
and how it was constructed. He wondered if a different
formulation would work. Mr. Johnston replied that there was
a bit of art involved by Dr. Van Meurs when constructing the
formula. $40 per barrel, times 5,000 per day, equals $73
million. But that allowance is applied against cash flow,
not gross revenues. He suggested that the number 5,000 is a
realty check. He said he is not comfortable with $73
million, but it worked for Cook Inlet companies.
3:10:09 PM
Representative Seaton wondered about progressivity based on
a production model, rather than a profits model. Mr.
Johnston said he preferred that levies are profits based.
Under the proposed system, with a sliding scale, if there
were a tax rate change, the credit rate would also change.
It would be regressive. Representative Seaton asked if it
is necessary to have the change in credit. Mr. Johnston
said it would take another formula to accommodate that. It
would cause more problems.
3:13:03 PM
REPRESENTATIVE LES GARA requested a range of fair tax rates
on the legacy fields. Mr. Johnston replied that he is
uncomfortable answering that question. At $20 per barrel
the producers would be feeling pain; at $60 it would not be
so bad. He suggested that a sliding scale would accommodate
the down side and the up side. The take should be a
function of a flexible sliding scale and require some
modeling. He stated comfort with a flexible system.
3:16:01 PM
Representative Rokeberg referred to an earlier comment
regarding a progressive system, and reverting to ELF if the
price drops. He voiced concern with that idea. He wondered
if other countries do that. He also asked about the "two
knives" system. Mr. Johnston replied that there is "no
going back" language in some sliding scales. The "knives"
terminology came from Kazakhstan, which has three sliding
scales.
He summarized that he would not want to see a system with
maximum flexibility because "if you want to go the full
distance with a truly progressive system", the government
take is greatly reduced. He emphasized that he does not
want to see Alaska under worse circumstances. A sliding
scale has a high likelihood for unforeseen circumstances.
He suggested that if PPT drops down below what would have
been earned under ELF, reverting to ELF is better than
nothing.
ADJOURNMENT
The meeting was adjourned at 3:20 PM.
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