Legislature(2007 - 2008)BARNES 124

03/15/2007 03:00 PM OIL & GAS

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03:04:58 PM Start
03:05:17 PM HB177
05:31:52 PM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
Heard & Held
+ Bills Previously Heard/Scheduled TELECONFERENCED
                    ALASKA STATE LEGISLATURE                                                                                  
             HOUSE SPECIAL COMMITTEE ON OIL AND GAS                                                                           
                         March 15, 2007                                                                                         
                           3:04 p.m.                                                                                            
MEMBERS PRESENT                                                                                                               
Representative Vic Kohring, Chair                                                                                               
Representative Kurt Olson, Vice Chair                                                                                           
Representative Nancy Dahlstrom                                                                                                  
Representative Jay Ramras                                                                                                       
Representative Ralph Samuels                                                                                                    
Representative Mike Doogan                                                                                                      
Representative Scott Kawasaki                                                                                                   
MEMBERS ABSENT                                                                                                                
All members present                                                                                                             
OTHER LEGISLATORS PRESENT                                                                                                     
Senator Charlie Huggins                                                                                                         
Representative David Guttenberg                                                                                                 
COMMITTEE CALENDAR                                                                                                            
HOUSE BILL NO. 177                                                                                                              
"An  Act   relating  to  the   Alaska  Gasline   Inducement  Act;                                                               
establishing   the  Alaska   Gasline   Inducement  Act   matching                                                               
contribution  fund; providing  for an  Alaska Gasline  Inducement                                                               
Act coordinator; making conforming  amendments; and providing for                                                               
an effective date."                                                                                                             
     - HEARD AND HELD                                                                                                           
PREVIOUS COMMITTEE ACTION                                                                                                     
BILL: HB 177                                                                                                                  
SHORT TITLE: NATURAL GAS PIPELINE PROJECT                                                                                       
SPONSOR(s): RULES BY REQUEST OF THE GOVERNOR                                                                                    
03/05/07       (H)       READ THE FIRST TIME - REFERRALS                                                                        
03/05/07       (H)       O&G, RES, FIN                                                                                          
03/06/07       (H)       O&G AT 3:00 PM BARNES 124                                                                              
03/06/07       (H)       -- MEETING CANCELED --                                                                                 
03/08/07       (H)       O&G AT 3:00 PM BARNES 124                                                                              
03/08/07       (H)       -- MEETING CANCELED --                                                                                 
03/13/07       (H)       O&G AT 3:30 PM HOUSE FINANCE 519                                                                       
03/13/07       (H)       Heard & Held                                                                                           
03/13/07       (H)       MINUTE(O&G)                                                                                            
03/15/07       (H)       O&G AT 3:00 PM BARNES 124                                                                              
WITNESS REGISTER                                                                                                              
PATRICK GALVIN, Commissioner                                                                                                    
Department of Revenue (DOR)                                                                                                     
Anchorage, Alaska                                                                                                               
POSITION  STATEMENT:   On behalf  of the  governor, presented  HB                                                               
KEVIN BANKS, Acting Director                                                                                                    
Division of Oil and Gas                                                                                                         
Department of Natural Resources (DNR)                                                                                           
Anchorage, Alaska                                                                                                               
POSITION STATEMENT:  Presented portions of HB 177.                                                                              
MARCIA DAVIS, Deputy Commissioner                                                                                               
Department of Revenue (DOR)                                                                                                     
Anchorage, Alaska                                                                                                               
POSITION STATEMENT: Presented portions of HB 177.                                                                               
LARRY OSTROVSKY, Chief Assistant Attorney General                                                                               
Statewide Section Supervisor                                                                                                    
Oil, Gas & Mining Section                                                                                                       
Department of Law (DOL)                                                                                                         
Anchorage, Alaska                                                                                                               
POSITION STATEMENT:   Explained possible legal  issues associated                                                               
with HB 177.                                                                                                                    
ACTION NARRATIVE                                                                                                              
CHAIR VIC KOHRING  called the House Special Committee  on Oil and                                                             
Gas  meeting to  order at  3:04:58 PM.   Present  at the  call to                                                             
order  were  Representatives  Kohring, Doogan,  Kawasaki,  Olson,                                                               
Dahlstrom, Samuels,  and Ramras.   Representative  Guttenberg and                                                               
Senator Charlie Huggins were also in attendance.                                                                                
HB 177-NATURAL GAS PIPELINE PROJECT                                                                                           
3:05:17 PM                                                                                                                    
CHAIR KOHRING announced that the  only order of business would be                                                               
HOUSE  BILL NO.  177,  "An  Act relating  to  the Alaska  Gasline                                                               
Inducement Act;  establishing the  Alaska Gasline  Inducement Act                                                               
matching  contribution  fund;  providing for  an  Alaska  Gasline                                                               
Inducement  Act coordinator;  making  conforming amendments;  and                                                               
providing for an effective date."                                                                                               
3:06:50 PM                                                                                                                    
PATRICK GALVIN,  Commissioner, Department of Revenue  (DOR), gave                                                               
an overview  of today's  planned testimony,  noting that  some of                                                               
the  planned testimony  was in  response to  questions raised  by                                                               
committee members.                                                                                                              
3:08:36 PM                                                                                                                    
KEVIN  BANKS,   Acting  Director,   Division  of  Oil   and  Gas,                                                               
Department of  Natural Resources (DNR), referred  to a PowerPoint                                                               
presentation  and  explained the  concept  of  "in-state use"  as                                                               
contained  in  the Alaska  Gasline  Inducement  Act (AGIA).    He                                                               
stated that  AGIA requires  that there  be five  off-take points,                                                               
distance sensitive rates, and  expansion provisions, and referred                                                               
to slide 4 titled "In-State Use."   The act requires an applicant                                                               
to describe where the off-take points  will be and to explain how                                                               
distance sensitive  rates will be  established in the state.   He                                                               
noted that off-take  points could also be in-take  points at some                                                               
point,  which  he thinks  should  be  addressed in  gas  pipeline                                                               
proposals  the state  receives.   He  opined  that the  important                                                               
point  is not  where off-take  points  will be  located, but  how                                                               
tariffs will be  calculated and how expansion  of off-take points                                                               
will be developed in the future.                                                                                                
3:13:19 PM                                                                                                                    
MR. BANKS referred to slide  5 titled "Hypothetical: Gas Off-take                                                               
in Fairbanks," and stated that  the assumption is that the tariff                                                               
from the  North Slope to the  Canadian border is about  72 cents.                                                               
He went  on to explain  that mileage-based rates would  suggest a                                                               
tariff of  46 to  47 cents  to Fairbanks.   He referred  to slide                                                               
five  titled  "Fairbanks  Gas  Prices  if  capacity  acquired  at                                                               
initial or subsequent  Open Season," to explain  what a Fairbanks                                                               
utility may  pay for gas.   Assuming a $5.50 Alberta,  Canada gas                                                               
price, one would  subtract a tariff of $2.14 to  move gas all the                                                               
way  to Alberta.   The  netback  value would  then be  $3.36.   A                                                               
producer that  wished to  ship gas to  Fairbanks through  the gas                                                               
line would  have to pay the  gas treatment plant (GTP)  fee of 49                                                               
cents and Fairbanks's  tariff of 47 cents, which  would bring the                                                               
price of  gas at  Fairbanks up  to $4.32.   He said  that without                                                               
distance sensitive  rates and  a Fairbanks  off-take destination,                                                               
the price of  gas delivered to Fairbanks would be  $4.62. He said                                                               
this is because  the border tariff would be 72  cents all the way                                                               
to the border.                                                                                                                  
3:16:30 PM                                                                                                                    
REPRESENTATIVE RAMRAS  asked whether the Alberta  gas price means                                                               
the Henry  Hub price  and referenced the  need to  use consistent                                                               
terminology for clarity.                                                                                                        
MR. BANKS  explained that  the Alberta gas  price is  the Alberta                                                               
Energy  Company  Ltd., (AEC),  hub  price  and  that there  is  a                                                               
vigorously traded  liquid market  in Alberta.   He opined  that a                                                               
North Slope  producer selling  gas to  a Fairbanks  utility would                                                               
want to  achieve the same  netback the producer would  receive by                                                               
selling  to the  AEC  hub.   Under the  example  presented, if  a                                                               
producer is selling  to the AEC hub for $5,50,  the netback would                                                               
be  $3.36.    The  alternative  would  be  to  ship  the  gas  to                                                               
Fairbanks.  However, to achieve  the same netback price of $3.36,                                                               
the producer  will have to charge  $4.32 for gas in  Fairbanks to                                                               
cover the  costs of  shipping and  processing using  the distance                                                               
based tariff.                                                                                                                   
REPRESENTATIVE   RAMRAS  told   the   committee  that   currently                                                               
Fairbanks  Natural Gas  charges  $16.80 per  thousand cubic  feet                                                               
(Mcf),  while  the Henry  Hub  price  is close  to  $  7.00.   He                                                               
observed  that  it  appears under  these  calculations  that  the                                                               
energy  cost for  gas in  Fairbanks will  be cut  by almost  two-                                                               
thirds.  He  asked whether AGIA requires that  producers be price                                                               
sensitive as  well as  distance sensitive.   He also  asked about                                                               
any  possibility that  the pricing  may  not meet  constitutional                                                               
requirements of maximum use of natural resources.                                                                               
MR. BANKS  said that the aforementioned  hypothetical assumes the                                                               
producer that  will sell  gas the Fairbanks  utility at  the same                                                               
price they would have received had  they sold the gas in Alberta.                                                               
He noted that AGIA does  not address issues regarding the state's                                                               
decisions regarding royalty in kind (RIK).                                                                                      
REPRESENTATIVE SAMUELS  asked whether,  even if tariffs  could be                                                               
reduced for  local use, the price  of gas will remain  the market                                                               
MR. BANKS  replied that the state  has to achieve some  parity in                                                               
the price  when it switches  from for  royalty in value  (RIV) to                                                               
RIK.  He noted that  commercial producers could make arrangements                                                               
to sell  gas at prices  higher or  lower than those  contained in                                                               
the state's presentation.                                                                                                       
REPRESENTATIVE SAMUELS asked if the  rate charged to the consumer                                                               
would  be set  by the  utility and  the Regulatory  Commission of                                                               
Alaska (RCA).                                                                                                                   
COMMISSIONER  GALVIN explained  that  other  mechanisms in  state                                                               
law,  primarily the  RCA, work  to  protect the  consumer in  the                                                               
determination of utility services costs.                                                                                        
3:24:15 PM                                                                                                                    
REPRESENTATIVE  DOOGAN asked  if distance  sensitive rates  are a                                                               
common feature in gas pipelines.                                                                                                
MR.  BANKS  answered   yes.    He  referenced   slide  7,  titled                                                               
"Fairbanks   Gas  Prices   if  no   capacity  available   through                                                               
expansion,"  to  explain  what   happens  when  there  is  narrow                                                               
REPRESENTATIVE  RAMRAS  set forth  the  possibility  that it  may                                                               
difficult  for communities  to switch  from primarily  using fuel                                                               
for energy  to primarily using gas  because of the time  it takes                                                               
to replace boilers.   With that in mind, he  set forth his desire                                                               
that a mechanism  be proposed to assist  communities in switching                                                               
to gas use.                                                                                                                     
MR.  GALVIN opined  that during  the initial  open season,  it is                                                               
unlikely  that  many  communities  will  be  ready  to  use  gas.                                                               
However,  he predicted  that the  market will  expand as  the gas                                                               
pipeline expands.   He noted  that communities will  benefit from                                                               
the expandability of the gas  pipeline, not necessarily just from                                                               
the five in-state  off-take points, which may not be  in the line                                                               
when it is  initially built.  However, the  pipeline builder must                                                               
commit  to  make arrangements  for  future  off-take points  when                                                               
needed, he explained.                                                                                                           
REPRESENTATIVE  RAMRAS noted  that  Fairbanks is  perhaps only  5                                                               
percent  developed for  gas,  with the  potential  for much  more                                                               
development in its ability to use gas.                                                                                          
3:30:13 PM                                                                                                                    
MR. BANKS opined that off-take points  are part of the issue, but                                                               
the main point  is the desire for a distance-based  tariff to the                                                               
off-take  point,  wherever it  may  be.    Further, if  there  is                                                               
failure to  take advantage  of the  open season  and there  is no                                                               
expansion ability  built into  the pipeline, there  is a  risk of                                                               
having  to pay  an AEC  price in  Fairbanks because  of "stranded                                                               
capacity  beyond  Fairbanks  to  the  marketplace",  which  would                                                               
result in one having to pay the full tariff price.                                                                              
REPRESENTATIVE GUTTENBERG  asked about the mechanism  in AGIA for                                                               
determining the correct size and structure of take-off points.                                                                  
COMMISSIONER GALVIN  agreed that there are  significant issues to                                                               
be considered to prepare the state  of in-state gas use.  He said                                                               
he does not expect the initial  proposals to detail the volume of                                                               
off-take points.   When the open season occurs,  the location and                                                               
volume of  gas in-take  and off-take  points will  be established                                                               
for  the initial  design of  the project.   He  opined that  as a                                                               
practical matter,  not all areas  of the  state will be  ready to                                                               
receive  gas  at the  time  of  the  open  season.   However  the                                                               
expansion   opportunities  provide   the  ultimate   solution  by                                                               
allowing  communities to  receive gas  when ready,  he indicated.                                                               
He noted  that there needs  to be discussion  regarding readiness                                                               
for open season, but stated that  "we need to get AGIA going" for                                                               
that discussion to occur.                                                                                                       
3:34:23 PM                                                                                                                    
CHAIR KOHRING expressed his desire  that the gas pipeline include                                                               
appropriate off-take points for various areas of the state.                                                                     
MR.  BANKS   stated  AGIA  will   establish  within   the  tariff                                                               
calculations that  various pipeline segments will  have different                                                               
rates for  delivery of gas  to off-take  points.  He  opined that                                                               
there would be sufficient numbers  of in-take and off-take points                                                               
along  the line  to  allow  for expansion.    He reiterated  that                                                               
recipients  of gas  would know  they would  be paying  a distance                                                               
sensitive tariff.                                                                                                               
3:36:08 PM                                                                                                                    
COMMISSIONER  GALVIN  said  that AGIA  contains  two  significant                                                               
evaluation  criteria:   value  to  the  state and  likelihood  of                                                               
success.   Consideration of these  criteria involves use  of data                                                               
and modeling  to determine likely  benefits to the state  and the                                                               
likelihood  of success.   Various  sub-factors that  are part  of                                                               
this   evaluation  include   timing,  cost   overrun  mitigation,                                                               
favorable  tariffs, initial  capacity  and  expansion, and  state                                                               
match after  open season.  He  noted that there are  many factors                                                               
to  consider in  the area  of tariffs  as producer  proposals may                                                               
vary.    He set  forth  the  possibility  that a  producer  could                                                               
propose something with a greater debt  to equity ratio than 70 to                                                               
30 percent  to provide  a more favorable  tariff.   Producers may                                                               
ask for a commitment for greater  return on the equity that could                                                               
also provide greater  value to the state through  a lower tariff.                                                               
He  went  on   to  say  that  initial  gas   flow  and  expansion                                                               
opportunities would  be evaluated.   The state will  provide "one                                                               
to  one, 50  percent of  the  cost to  get to  open season,"  but                                                               
beyond  that  producers  will  make   their  proposals  for  cost                                                               
sharing, which the  state will evaluate in  determining the value                                                               
of the proposal.  A review  of the likelihood of success includes                                                               
many  factors  such as  the  feasibility  of  the work  plan  and                                                               
budget,  financial   strength,  technical  expertise   and  track                                                               
record, he said.                                                                                                                
3:40:13 PM                                                                                                                    
REPRESENTATIVE  DOOGAN  asked  whether the  take-off  points  are                                                               
considered in the initial evaluation of proposals.                                                                              
COMMISSIONER  GALVIN explained  that  there are  certain items  a                                                               
proposal must contain in order to  be considered.  For example, a                                                               
producer must  have at least  70 percent debt, or  their proposal                                                               
will not  be considered.  He  said that the five  off-take points                                                               
are  not listed  in  the initial  evaluation  criteria because  a                                                               
proposal  for  more than  five  does  not convey  a  quantifiable                                                               
increased  value  in  terms  of   comparing  one  application  to                                                               
another.   The  "must haves"  are minimums  qualifications for  a                                                               
proposal  to be  considered.   Proposals  that  meet the  minimum                                                               
qualifications are evaluated  against each other.   He noted that                                                               
additions  beyond  the  "must  have"   list  move  into  and  are                                                               
considered in the evaluation criteria.                                                                                          
REPRESENTATIVE DOOGAN  clarified that if an  application does not                                                               
contain  even  one   of  the  "must  have"  points,   it  is  not                                                               
considered.    If  the  application  has all  16  points,  it  is                                                               
evaluated in accordance with the 7 criteria in the legislation.                                                                 
COMMISSIONER  GALVIN  said  he  agreed  with  the  aforementioned                                                               
REPRESENTATIVE SAMUELS  asked how  about the process  of weighing                                                               
the different application components.                                                                                           
COMMISSIONER GALVIN  explained that  much consideration  had gone                                                               
into the evaluation criteria,  including consideration of whether                                                               
to  assign  points  to  various criteria  and  how  objective  or                                                               
subjective evaluation should be.   He opined that there are risks                                                               
to  either  option.   He  said  one  concern was  that  requiring                                                               
extreme  specificity  could  result  in a  proposal  meeting  the                                                               
criteria,  but not  actually providing  the best  benefit to  the                                                               
state.   Additionally, one of  the risks associated  with keeping                                                               
the timeline going  is that there may be a  judicial challenge to                                                               
the license selection.   He set forth that it  may be more likely                                                               
a  court will  enjoin the  project if  the court  feels it  could                                                               
substitute its  judgment for  that of the  agency.   He explained                                                               
that   discretionary  agency   decisions  usually   receive  more                                                               
deference when a court reviews them.   He opined that the risk of                                                               
the project being  delayed by litigation is less  if the decision                                                               
makers  have  more  discretion and  subjectivity  in  the  agency                                                               
evaluation process.  He stated that  there needs to be clarity in                                                               
what the state  is looking for in a gas  pipeline project, and he                                                               
believes  that  the  criteria  provided  in  AGIA  provides  that                                                               
clarity.   Ultimately,  the decision  makers will  consider which                                                               
project is  in the best  interest of the  state.  He  opined that                                                               
state  agencies, such  as DNR,  have substantial  experience with                                                               
weighing various  factors to determine the  state's best interest                                                               
in complex  resource decisions.   He said  the decision  would be                                                               
explained to the public and  ultimately be subject to legislative                                                               
3:48:54 PM                                                                                                                    
COMMISSIONER  GALVIN explained  in  response to  a question  that                                                               
inclusion of  a weighted point  system for the evaluation  of the                                                               
seven  initial criteria  could result  in an  application scoring                                                               
the  highest, yet  not really  being  the best  proposal for  the                                                               
REPRESENTATIVE DOOGAN  asked whether  weighted criteria  would be                                                               
preferable to determine the state's best interest.                                                                              
COMMISSION GALVIN  responded that a weighted  criteria method for                                                               
evaluation  could be  preferable if  such  a method  was sure  to                                                               
result in  the best project for  the state.  However,  because of                                                               
the  complexity  of  the  project and  the  probable  variety  of                                                               
proposals  that  will  be  received,  the  decision  makers  need                                                               
flexibility to  carefully weigh  and consider  the risks  of each                                                               
project, he said.                                                                                                               
REPRESENTATIVE  RAMRAS noted  that one  criteria is  to make  the                                                               
applications public.   He opined that  tariff-holders were likely                                                               
to  gain  significant revenues.  He  said  he was  interested  in                                                               
seeing  the  alignment  of different  groups  with  the  pipeline                                                               
project.  He  further stated a desire to  explore the possibility                                                               
of a scoring mechanism that  would consider inclusion of in-state                                                               
agencies or  organizations' investment  in the equity  portion of                                                               
the pipeline.   He noted  some larger organizations, such  as the                                                               
Alaska   Permanent  Fund   Corporation,  the   Alaska  Retirement                                                               
Management Board  (ARMB), or  Native corporations  could possibly                                                               
participate in  ownership of the  pipeline, and noted  that great                                                               
financial benefits that could result from such participation.                                                                   
3:56:28 PM                                                                                                                    
COMMISSIONER  GALVIN  explained  that  item six  of  the  initial                                                               
criteria  requires an  applicant to  demonstrate its  familiarity                                                               
with the  tasks that are  required to  build a pipeline,  such as                                                               
obtainment of  necessary permits from Canada.   Additionally, the                                                               
applicant  will   have  to   describe  its   work  plan   in  the                                                               
REPRESENTATIVE SAMUELS asked about  possible delays that could be                                                               
caused by  legal challenges and expressed  some concern regarding                                                               
the application evaluation process.                                                                                             
COMMISSIONER GALVIN replied  that there is a risk  to assigning a                                                               
point  value to  each component  because of  the difficulties  in                                                               
coming up  with a  number that  would differentiate  one proposal                                                               
from another.  He agreed  that consideration of many issues would                                                               
be part of the evaluation process.   He set forth that one reason                                                               
for  providing  a legislative  opportunity  to  disapprove is  to                                                               
provide  further analysis  of the  commissioners'  decision.   He                                                               
went on  to opine that there  may not be  an easy way to  build a                                                               
foolproof  evaluation  process into  AGIA.    He agreed  with  an                                                               
observation  that  the Commissioners  of  DNR  and DOR  would  in                                                               
essence  make a  best interest  finding based  on the  evaluation                                                               
criteria and comparison of proposals to each other.                                                                             
4:01:13 PM                                                                                                                    
REPRESENTATIVE SAMUELS  raised the  issue of business  ethics and                                                               
how such a  subjective term is judged.  He  also noted that there                                                               
may be considerable legislative debate on this issue.                                                                           
COMMISSIONER GALVIN  noted there were possible  difficulties with                                                               
the  definition   of  the  term  "best   interest  finding,"  but                                                               
explained  that  such  an  approach  would  allow  the  state  to                                                               
consider factors  that are  not in the  application, such  as the                                                               
possibility that an applicant has  a negative business history in                                                               
another country.                                                                                                                
REPRESENTATIVE OLSON  asked whether the administration  has begun                                                               
dialog with First Nations' representatives.                                                                                     
COMMISSIONER GALVIN replied  that some groups have  spoken to the                                                               
state  about concerns  regarding  the pipeline  route, but  noted                                                               
there is not  a proposed route as yet.   There are concerns about                                                               
the pipeline route,  tanker placement and other  issues and those                                                               
concerns would be  particular to the project, which  is why there                                                               
is some flexibility in the evaluation process, he explained.                                                                    
REPRESENTATIVE GUTTENBERG  referred the need for  a public record                                                               
of the evaluation process.                                                                                                      
COMMISSIONER GALVIN  stated that  the bill contains  the criteria                                                               
to be  considered by the  commissioners and opined that  the best                                                               
way  to  withstand  judicial  review is  to  have  a  substantive                                                               
finding that weighs the issues identified by the legislature.                                                                   
REPRESENTATIVE DOOGAN  expressed concern over going  forward with                                                               
undifferentiated criteria and questioned whether  there is a need                                                               
for more  participation at  the decision  making level  to lessen                                                               
subjectivity in the making of the final decision.                                                                               
MR. GALVIN  responded that part  of the reason for  the suggested                                                               
procedure was  timing and  predicted that  a board  process would                                                               
take longer to come to a decision.                                                                                              
REPRESENTATIVE   DAHLSTROM  suggested   that  perhaps   one  more                                                               
commissioner be added to the decision-making team.                                                                              
COMMISSIONER  GALVIN stated  he understands  the nature  of trust                                                               
required  to approve  the proposed  decision-making process.   He                                                               
reiterated  that  timing  is  of  concern as  DOR  would  like  a                                                               
decision made in a timely fashion.                                                                                              
REPRESENTATIVE SAMUELS noted  that the decision may be  made by a                                                               
different governor  and different commissioners depending  on the                                                               
timing of proposals received under AGIA.                                                                                        
COMMISSIONER GALVIN  referenced other  decision-making guidelines                                                               
in  Alaska law  and noted  that in  other areas,  the legislature                                                               
gives  the  guidelines,  but  the   executive  branch  makes  the                                                               
decision.   He  suggested it  would be  more unusual  to tie  the                                                               
decision-making process down to  more quantifiable point process.                                                               
He suggested that  the model presented here exists  in Alaska law                                                               
and has  the added  safety valve of  legislative approval  of the                                                               
4:16:01 PM                                                                                                                    
COMMISSIONER GALVIN stated that  increased predictability for the                                                               
producers is a key component of AGIA.                                                                                           
MR. BANKS relayed that AGIA  is designed to avoid royalty payment                                                               
adjustments  by creating  a clear,  easily used  royalty formula.                                                               
He referenced prior lengthy litigation  regarding royalty oil and                                                               
noted  that DOR  seeks to  establish fiscal  certainty and  avoid                                                               
litigation.   He opined that  the state  can offer real  value to                                                               
the  producers by  providing clear  royalty value  definitions in                                                               
the leases.  He  went on to say that several  aspects of the past                                                               
DL-1  leases  have  been  adjudicated.    In  1980  there  was  a                                                               
settlement termed  the "field  cost settlement"  which determined                                                               
what  costs the  state would  allow for  deductions based  on GTP                                                               
costs.   At the  time, the state  anticipated gas  production and                                                               
wanted to be  prepared, he explained.  In the  early 1990s, there                                                               
was a settlement between the  state and producers on the question                                                               
of  royalty  oil  valuation.    In  each  of  those  settlements,                                                               
formulas  were   established  to  clarify  lease   provisions  he                                                               
described as "most confusing" to  the lessees.  He explained that                                                               
the DL-1  lease defines five  different values, two of  which are                                                               
not  relevant as  they concern  posted prices.   The  other three                                                               
provisions cover:  what the lessee  actually receives for  oil or                                                               
gas sold;  what others receive  in the  same field, and  what the                                                               
market value for  oil or gas is as determined  by market factors.                                                               
The lease requires  the lessee to pay the highest  of these three                                                               
factors, he explained.                                                                                                          
4:20:34 PM                                                                                                                    
MR. BANKS  pointed out that a  lessee will know what  it receives                                                               
for oil  or gas sold,  but will  not necessarily know  what other                                                               
lessees receive.   In the third  option, there may be  a question                                                               
about  what mechanism  the  state will  use  to determine  market                                                               
value.   With the prior  mechanism, the  lessee does not  know at                                                               
the  time of  payment whether  it  has paid  the correct  royalty                                                               
value, he opined.  Because  of this uncertainty, AGIA proposes to                                                               
calculate royalty  value based on  market value where the  gas is                                                               
sold.   He indicated one  possible indices  the state may  use to                                                               
determine market value for gas is  the AEC hub price because that                                                               
price  represents a  widely  traded, publicized  gas  price.   He                                                               
noted that  the indices used  to determine gas price  will likely                                                               
be based on the format for the  final project.  He noted that the                                                               
DL-1 leases  also allow the  state to  take its royalty  share in                                                               
value on a  three month notice to  the lessee.  He  said that the                                                               
three month  provision allows  the state to  plan ahead  and know                                                               
how much oil to take in-kind for customer's future needs.                                                                       
4:24:58 PM                                                                                                                    
REPRESENTATIVE RAMRAS noted that the  commodity market for oil is                                                               
broad and  queried whether there  is the same kind  of elasticity                                                               
in  the spot  market  for gas.   He  cautioned  that perhaps  the                                                               
market for gas is less flexible than that for oil                                                                               
MR. BANKS suggested  that the issue is whether the  state will be                                                               
in the  position to modify  its request as  to the amount  of gas                                                               
volume it  wishes to  take in  kind so as  to participate  in the                                                               
spot market.  He indicated that in  the Lower 48, there is a fair                                                               
amount  of  daily  trading  activity to  meet  demands  based  on                                                               
factors such as  weather.  He said that a  long term gas contract                                                               
may  be  for under  a  year.    However,  Alaska will  likely  be                                                               
concerned with providing gas to  its local communities, and would                                                               
more  than  likely  participate in  longer  term  contracts  with                                                               
buyers.  He suggested that the  impact of the decision of whether                                                               
to take royalty-in-kind will occur  at the time the commitment is                                                               
made.  For  example, the pipeline may be sized  to move a certain                                                               
quantity of gas  to the Alberta hub  or to Valdez.   If the state                                                               
then decides later  to enter a contract with  an in-state utility                                                               
to take some of that royalty  gas, it could leave the lessee with                                                               
stranded  capacity.   He  explained that  AGIA  proposes to  give                                                               
reasonable terms when  the state switches from RIV to  RIK.  This                                                               
will  be  accomplished by  giving  lessees  sufficient notice  to                                                               
adjust  their own  capacity and  to make  commercial arrangements                                                               
for the lessee to absorb some of  the costs they may incur due to                                                               
stranded capacity.                                                                                                              
REPRESENTATIVE SAMUELS  suggested it is  not practical to  have a                                                               
90 days' provision due to the risk of varying capacity.                                                                         
COMMISSIONER GALVIN said  that because of the  gas contracts with                                                               
lessees,  they are  at  a commercial  risk  position because  the                                                               
state has  the right to  take RIK, but does  not have to  use it.                                                               
He  characterized  this provision  as  "real  value" because  the                                                               
lessees  would be  concerned about  having  stranded capacity  or                                                               
having to displace their gas.   He opined that this is a valuable                                                               
REPRESENTATIVE  SAMUELS offered  his belief  that this  provision                                                               
will  discourage  producers  from participating  in  open  season                                                               
since there is the risk of  the state will change its position to                                                               
the detriment of the lessees.                                                                                                   
COMMISSIONER GALVIN replied that this  is a significant issue for                                                               
lessees, which is  why it is appropriate to include  in the bill.                                                               
He  said that  inclusion  of the  provision  would help  overcome                                                               
concern and to provide a level  of certainty.  If a producer does                                                               
not participate  in the  initial open season,  it is  likely that                                                               
the  producer will  want  to discuss  possible  changes with  the                                                               
state.   He explained  it will  be the  prerogative of  the state                                                               
whether to change it or not.                                                                                                    
REPRESENTATIVE GUTTENBERG  commented that economic  factors built                                                               
in to the contract must be compensated.                                                                                         
COMMISSIONER  GALVIN replied  that  the state  currently has  the                                                               
right to switch  between RIK and RIV, and has  had this provision                                                               
in its  leases for 30 years.   However, in the  "gas world" these                                                               
provisions  can  be  problematic  because lessees  have  to  take                                                               
positions in regard  to contracts and sales  contracts that could                                                               
be adversely  affected if the  state switches it position  on its                                                               
royalty  take.   Therefore, there  are reasons  for lessees  will                                                               
want restrictions on  the state's ability to switch  how it takes                                                               
its  royalty share,  and that  is a  proper bargaining  point, he                                                               
MR. BANKS  answered a question  by explaining that  although Cook                                                               
Inlet gas contracts  contain RIK provisions, the  state has never                                                               
exercised its right to take the gas in-kind.                                                                                    
COMMISSIONER GALVIN  said that the  next issue is  the production                                                               
tax  aspect  of  AGIA.    He noted  there  is  concern  over  the                                                               
constitutionality of  some provisions which limit  the applicable                                                               
tax  rate.   He  offered his  belief that  the  drafters of  AGIA                                                               
structured  this  as  strongly  as  possible  for  constitutional                                                               
reasons.  He  explained that it is being offered  as an incentive                                                               
for the gas  community and opined that its value  is based on its                                                               
likelihood of  withstanding constitutional  challenge.   He noted                                                               
that  this provision  is a  discrete part  of AGIA,  therefore it                                                               
would  not cause  harm  to  the bill  if  this  provision is  not                                                               
MARCIA DAVIS, Deputy Commissioner,  Department of Revenue, opined                                                               
that  AGIA's  production  tax exemption  provision  is  allowable                                                               
under the state  constitution.  She explained that  it provides a                                                               
production tax  exemption that  is measured as  the value  of the                                                               
gas  production  tax  obligation  minus the  gas  production  tax                                                               
obligation during the  open season.  She explained  that the open                                                               
season is the  benchmark year in which to set  the economic value                                                               
of the  expectation for the producer.   It is only  available for                                                               
gas shipped in the same capacity  as acquired in the binding open                                                               
season because DOR views this as  a contract.  She explained that                                                               
in exchange for  this economic benefit, the  producer must commit                                                               
its  gas in  the first  binding open  season.   Secondly, DOR  is                                                               
requesting  that producers  agree not  to protest  the rolled  in                                                               
tariff  provisions  that  will  be  required  of  the  successful                                                               
licensee.   This  benefit  is limited  to 10  years  of gas  flow                                                               
because  10  years is  a  reasonable  time  frame for  return  of                                                               
capital investment, she opined.  It  is also the same time period                                                               
as in the  Alaska Industrial Incentive Act, and so  has a history                                                               
as a reasonable time period.                                                                                                    
4:42:24 PM                                                                                                                    
REPRESENTATIVE  SAMUELS asked  about  discussions establishing  a                                                               
tax rate  and whether there  was consideration that the  tax rate                                                               
be retroactive.                                                                                                                 
COMMISSIONER  GALVIN   emphasized  DOR   desires  to   provide  a                                                               
structure    with    the    strongest   legal    arguments    for                                                               
constitutionality.   He  explained this  is being  provided as  a                                                               
contractual   relationship,   not   as  a   limitation   on   the                                                               
legislature's  ability  to   change  the  tax  rate.     Since  a                                                               
contractual arrangement  requires an exchange, he  opined that it                                                               
made sense  to have  the tax  rate that applies  at the  time the                                                               
open season commitment  is made be the tax rate  that applies for                                                               
those 10 years.                                                                                                                 
REPRESENTATIVE DOOGAN  asked how  the oil companies  would assign                                                               
value to this provision.                                                                                                        
MS. DAVIS explained that oil  companies have significant business                                                               
experience  in  many  places  besides Alaska,  and  are  used  to                                                               
weighing various  levels of risk  factors and legal issues.   She                                                               
opined this  is not a very  complex legal issue, but  one that is                                                               
based on  a determination  of the  intent of  the framers  of the                                                               
Alaska Constitution.   This determination will  ultimately be for                                                               
the Alaska Supreme court she  said, but opined that guiding legal                                                               
principles favor  the constitutionality  of this provision.   She                                                               
explained that  oil companies are  competent at  considering many                                                               
factors  when  deciding whether  to  enter  a contract  with  the                                                               
COMMISSIONER GALVIN  predicted oil companies  would independently                                                               
consider and value this provision's worth to them.                                                                              
REPRESENTATIVE DOOGAN  expressed concern  that this  provision is                                                               
designed   to   be   a   main    incentive,   yet   is   possibly                                                               
unconstitutional.   He  asked  if there  has  been discussion  on                                                               
other, possibly less problematic, incentive provisions.                                                                         
COMMISSIONER GALVIN  replied that oil  companies want to  lock in                                                               
the fiscal terms for some period  of time.  He explained that DOR                                                               
has  structured   the  provision  as  strongly   as  possible  to                                                               
withstand a  legal challenge  and to  provide the  best mechanism                                                               
absent a constitutional amendment.                                                                                              
REPRESENTATIVE  SAMUELS asked  about the  additional risk  to oil                                                               
companies of not knowing the future tax rate.                                                                                   
COMMISSIONER   GALVIN  explained   that  this   issue  has   been                                                               
considered.    He  opined  that  the  state  cannot  control  the                                                               
companies' perception  of the risks  of investing in Alaska.   He                                                               
went on to say that  each company evaluates the risk differently.                                                               
He noted he does not consider it  "too late" if the risks are not                                                               
fully known  at the time the  proposals are due because  the risk                                                               
is not  the "driving factor" at  that particular moment.   He set                                                               
forth  that  the provision  is  intended  to  result in  the  gas                                                               
commitment.   The risk DOR is  addressing is the tax  rate at the                                                               
time of open season  and the tax rate at the  time the gas begins                                                               
to flow, he said.                                                                                                               
4:55:02 PM                                                                                                                    
REPRESENTATIVE  SAMUELS  posed  the possibility  that  there  are                                                               
greater rewards  for acceptance of  greater risk and  whether DOR                                                               
considered this issue in this way.                                                                                              
MS. DAVIS  explained that oil  companies will look  for alignment                                                               
and  opined   that  the  companies   have  confidence   that  the                                                               
legislature  will be  not  increase  taxes at  the  time of  open                                                               
REPRESENTATIVE  SAMUELS  asked  about the  possibility  that  oil                                                               
companies will have the leverage at the time of open season.                                                                    
MS.  DAVIS replied  that the  state cannot  change the  fact that                                                               
leverage exists when  the state wants a certain  behavior and the                                                               
companies are in the position to  provide it.  She said the state                                                               
cannot  effect  when  the  companies act,  but  said  that  other                                                               
provisions of AGIA  address elements of certainty  in the state's                                                               
favor.    She  explained  that AGIA  resolves  commercial  issues                                                               
outside  of  the state's  control,  such  as pricing  and  design                                                               
capacity, in such a way as  to make it problematic for a producer                                                               
to attempt to leverage the state at a late stage.                                                                               
LARRY  OSTROVSKY,  Chief  Assistant Attorney  General,  Statewide                                                               
Section Supervisor, Oil, Gas &  Mining Section, Department of Law                                                               
(DOL) informed  the committee  that the  question of  whether the                                                               
state can  offer fiscal  stability is  a matter  of opinion.   He                                                               
said the DOL's position is  that a fiscal stability provision has                                                               
a better chance of surviving a  legal challenge if it is narrowly                                                               
focused,  limited in  time, and  consistent with  past practices.                                                               
He said  he believes that  providing production tax  stability in                                                               
AGIA  will  survive  constitutional challenge  under  the  Alaska                                                               
State Constitution, Article 9, Section 1 which provides:                                                                        
     The  power  of  taxation shall  never  be  surrendered.                                                                    
     This power  shall not be suspended  or contracted away,                                                                    
     except as provided in this article.                                                                                        
He explained that  the language of many  state constitutions, and                                                               
as originally  proposed to  the Alaska  Constitutional Convention                                                               
by the  Public Advisory Service,  ends at  the comma.   There was                                                               
some  debate  on  this point  during  the  Alaska  Constitutional                                                               
Convention  because  the  Public Advisory  Service  informed  the                                                               
convention that  states had on  occasion suspended  or contracted                                                               
away  their taxing  powers.   He opined  that there  would be  no                                                               
question  that there  would  be an  absolute  prohibition on  the                                                               
legislature's authority  to provide  tax certainty if  Article 9,                                                               
section  1 ended  after the  word  "away."   However, the  Alaska                                                               
Constitutional  Convention  delegates   rejected  that  approach,                                                               
leaving the  meaning of  the phrase "except  as provided  in this                                                               
article" to be determined.   He opined that "just about everyone"                                                               
who  has considered  this issue  agrees  that there  is only  one                                                               
section  in  Article  9  of   the  Alaska  Constitution  that  is                                                               
applicable here and that is section 4 which reads in part:                                                                      
     The  real and  personal property  of the  State or  its                                                                    
     political  subdivisions shall  be exempt  from taxation                                                                    
     ...   [P]roperty   used  exclusively   for   non-profit                                                                    
     religious,   charitable,   cemetery,   or   educational                                                                    
     purposes,  ... shall  be exempt  for  taxation.   Other                                                                    
     exemptions of like or different  kind may be granted by                                                                    
     general law.   All  valid existing exemptions  shall be                                                                    
     retained until otherwise provided by law.                                                                                  
MR. OSTROVSKY  told the committee  DOL believes that  the phrases                                                               
in Article 9, sections 1 and  4, provide the legislature with the                                                               
ability  to suspend  or  contract away,  to  some degree,  taxing                                                               
authority.    He offered  that  rules  of statutory  construction                                                               
support  this conclusion.   One  rule  of statutory  construction                                                               
provides that  every word,  sentence, or  provision in  a statute                                                               
has  some force  or  effect.   He  opined that  if  there was  an                                                               
absolute  prohibition on  the  legislature's  ability to  suspend                                                               
taxation authority,  one would not  expect the clause  "except as                                                               
provided   in  this   article"  to   be  in   the  Alaska   State                                                               
Constitution, Article 9, section 1.                                                                                             
5:05:00 PM                                                                                                                    
Additionally,  rules  of   statutory  construction  provide  that                                                               
statutes be construed  so that effect is given  to all provisions                                                               
and  no  parts  are  left   inoperative,  superfluous,  void,  or                                                               
insignificant.    He opined  that  this  requires there  be  some                                                               
meaning given  to the last  phrase of Article  9, section 1.   He                                                               
stated  it is  reasonable  to  find that  meaning  in Article  9,                                                               
section  4 which  allows  exemptions to  be  granted "by  general                                                               
law."    He offered  that  AGIA  is  a  general law  because  the                                                               
exemption is  available to anyone  who participates in  the first                                                               
open season.  A related question  is whether there are any limits                                                               
on this power  to suspend or contract the power  of taxation.  He                                                               
said  that  in  the  past,  legislation  has  been  passed  which                                                               
authorized tax  credits for a 10-year  period in what were  to be                                                               
considered contracts between  the state and taxpayers.   He noted                                                               
that  contracts are  generally protected  by the  Constitution of                                                               
the United States, although he  indicated there is no direct case                                                               
law on this point.  He opined  that AGIA is crafted to be limited                                                               
to  a   narrowly  described  tax   exemption  that   follows  the                                                               
legislative model.                                                                                                              
5:08:37 PM                                                                                                                    
MR. OSTROVSKY referred  to some discussion on this  last year and                                                               
stated that  nobody knows for  certain where the state  can cross                                                               
the law  of fiscal  certainty.  However,  he opined  that certain                                                               
facts are more likely to  withstand a constitutional challenge --                                                               
AGIA's provisions  are limited to  one tax for a  10-year period,                                                               
which  he indicated  is  identical to  past  state statutes  that                                                               
"were  tied  to  Article  9."   In  contrast,  the  Stranded  Gas                                                               
Development  Act   (SGDA)  contained  sweeping   provisions  that                                                               
covered  all state  taxes for  up to  45 years.   He  opined that                                                               
AGIA's   provisions   are   much   more   likely   to   withstand                                                               
constitutional scrutiny.                                                                                                        
REPRESENTATIVE  DOOGAN  asked how  long  a  legal challenge  will                                                               
MR.  OSTROVSKY  responded that  AGIA  contains  a provision  that                                                               
requires  constitutional challenges  to it  be brought  within 90                                                               
days.  He offered his belief  that a challenge would present only                                                               
a legal  issue which  he hoped  could be  resolved expeditiously,                                                               
but noted that nobody knows an exact time period.                                                                               
REPRESENTATIVE  RAMRAS relayed  the possibility  that uncertainty                                                               
is damaging to development and  indicated that he likes AGIA, but                                                               
he needs "for this AGIA project  to be tightened up."  He offered                                                               
that  the production  tax exemption,  even though  severable from                                                               
the rest of AGIA, creates an element of uncertainty.                                                                            
5:18:10 PM                                                                                                                    
COMMISSIONER  GALVIN discussed  how much  gas is  needed to  make                                                               
project work.   He explained that AGIA is open  to a wide variety                                                               
of projects and offers to  the interested parties the opportunity                                                               
to relay  what the appropriate project  size will be.   He opined                                                               
that the  size of the  project will  become more apparent  as the                                                               
project moves  forward.  He  reminded the committee  that Prudhoe                                                               
Bay is  the primary source  for proven North Slope  gas reserves.                                                               
He  noted  that  recently  an Alaska  Oil  and  Gas  Conservation                                                               
Commission (AOGCC)  staff report concluded that  the AOGCC cannot                                                               
at this time recommend a specific  gas off-take rate.  He went on                                                               
to  say that  the report  warned  that an  "early, high-rate  gas                                                               
sale"  could  result  in  a  loss  of  a  substantial  volume  of                                                               
hydrocarbons.   However,  the report  went on  to say  that "even                                                               
greater  volumes may  be at  risk if  gas sales  are indefinitely                                                               
delayed,"  he said.    He offered  that the  AOGCC  is tasked  to                                                               
prevent physical  waste and is  authorized to allow  gas off-take                                                               
as  long as  it  results  in the  maximum  amount of  hydrocarbon                                                               
recovery.    He  reminded  the  committee  that  AOGCC  does  not                                                               
consider the  economic value of  various approaches,  but instead                                                               
considers "how much  physically" will be removed.   He noted that                                                               
the issue of how much gas can be  taken off, and at what rate, is                                                               
currently  an open  question that  he hopes  will be  resolved by                                                               
open season.                                                                                                                    
5:22:07 PM                                                                                                                    
COMMISSIONER  GALVIN  reminded  the   committee  that  the  Point                                                               
Thompson leases  terminations are currently being  litigated.  He                                                               
opined  that the  is likely  to prevail  in that  litigation, but                                                               
that it will likely take three  years to reach the Alaska Supreme                                                               
Court.  If  the state prevails, the Point  Thompson reserves will                                                               
be available  for the gas  pipeline project.  In  addition, there                                                               
is some  ongoing exploration  in other areas  of the  North Slope                                                               
which may uncover some additional gas reserves.                                                                                 
5:26:20 PM                                                                                                                    
COMMISSIONER  GALVIN  summarized  that  AGIA  provides  increased                                                               
predictability  and incentives  for the  producers, referring  to                                                               
slide 17.  He opined it  would provide jobs and gas for Alaskans.                                                               
He  went on  to opine  that development  of the  North Slope  gas                                                               
basin is key  to Alaska's long-term future economic  success.  He                                                               
stressed that the gas pipeline  project needs to "get moving," so                                                               
as to provide  gas revenue before oil  revenues drop drastically,                                                               
which  will reduce  Alaska's leverage.   He  opined that  AGIA is                                                               
designed to  eliminate uncertainties  so as to  positively change                                                               
the commercial perception of the project.                                                                                       
[HB 177 was held in committee.]                                                                                                 
There being no  further business before the  committee, the House                                                               
Special  Committee  on  Oil  and Gas  meeting  was  adjourned  at                                                               
5:31:52 PM.                                                                                                                   

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