Legislature(2009 - 2010)BARNES 124

03/09/2009 01:00 PM House RESOURCES


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01:06:22 PM Start
01:06:42 PM Presentation by Armstrong Oil & Gas: the Difficulties of Doing Business in Alaska
02:26:34 PM Adjourn
* first hearing in first committee of referral
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+ Presentation by Armstrong Oil & Gas: TELECONFERENCED
"The Difficulties of Doing Business in
Alaska"
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                    ALASKA STATE LEGISLATURE                                                                                  
               HOUSE RESOURCES STANDING COMMITTEE                                                                             
                         March 9, 2009                                                                                          
                           1:06 p.m.                                                                                            
                                                                                                                              
MEMBERS PRESENT                                                                                                               
                                                                                                                                
Representative Craig Johnson, Co-Chair                                                                                          
Representative Mark Neuman, Co-Chair                                                                                            
Representative Bryce Edgmon                                                                                                     
Representative Kurt Olson                                                                                                       
Representative Paul Seaton                                                                                                      
Representative David Guttenberg                                                                                                 
Representative Scott Kawasaki                                                                                                   
Representative Chris Tuck                                                                                                       
                                                                                                                                
MEMBERS ABSENT                                                                                                                
                                                                                                                                
Representative Peggy Wilson                                                                                                     
                                                                                                                                
COMMITTEE CALENDAR                                                                                                            
                                                                                                                                
PRESENTATION BY ARMSTRONG OIL & GAS:  THE DIFFICULTIES OF DOING                                                                 
BUSINESS IN ALASKA                                                                                                              
                                                                                                                                
PREVIOUS COMMITTEE ACTION                                                                                                     
                                                                                                                                
No previous action to report                                                                                                    
                                                                                                                                
WITNESS REGISTER                                                                                                              
                                                                                                                                
ED KERR, Vice President                                                                                                         
Land & Business Development                                                                                                     
Armstrong Oil & Gas, Inc.                                                                                                       
Denver, Colorado                                                                                                                
POSITION STATEMENT:  Provided an overview of the difficulties of                                                              
doing business in Alaska, primarily in regard to gas exploration                                                                
and development in the Cook Inlet.                                                                                              
                                                                                                                                
                                                                                                                                
ACTION NARRATIVE                                                                                                              
                                                                                                                                
1:06:22 PM                                                                                                                    
                                                                                                                                
CO-CHAIR  CRAIG  JOHNSON  called  the  House  Resources  Standing                                                             
Committee  meeting  to  order  at   1:06  p.m.    Representatives                                                               
Johnson,  Neuman,  Kawasaki,  Olson,   Seaton,  and  Edgmon  were                                                               
present  at  the  call  to   order.    Representatives  Tuck  and                                                               
Guttenberg arrived as the meeting was in progress.                                                                              
                                                                                                                                
^PRESENTATION BY ARMSTRONG OIL &  GAS:  THE DIFFICULTIES OF DOING                                                             
BUSINESS IN ALASKA                                                                                                            
                                                                                                                              
1:06:42 PM                                                                                                                    
                                                                                                                                
CO-CHAIR JOHNSON announced that the  only order of business would                                                               
be  a  presentation   by  Armstrong  Oil  &   Gas  regarding  the                                                               
difficulties of doing business in Alaska.                                                                                       
                                                                                                                                
ED KERR,  Vice President, Land &  Business Development, Armstrong                                                               
Oil &  Gas, Inc., began  with a history  of Armstrong Oil  & Gas,                                                               
Inc.  (AOG),  a  23-year-old company  [headquartered  in  Denver,                                                               
Colorado].   He  said  AOG  is a  true  independent  oil and  gas                                                               
company that carries no debt, so  anything AOG does is out of its                                                               
own hip  pocket.  The  company became  active in Alaska  about 10                                                               
years ago and won  its first lease on the North  Slope in 2000 or                                                               
2001.   To date, AOG has  drilled 11 wildcats on  the North Slope                                                               
and has  had various  degrees of success.   The  Oooguruk project                                                               
recently placed on  line by Pioneer Oil Company  was an Armstrong                                                               
Project,  as was  the Nikaitchuq  project that  Eni is  currently                                                               
working on.   The projects were  sold to Pioneer and  Eni because                                                               
the  capital expenditures  associated with  the two  projects and                                                               
the pace  at which  Armstrong's partners wanted  to go  were more                                                               
than  what  Armstrong  was  ready to  do,  given  that  Armstrong                                                               
carries no debt.                                                                                                                
                                                                                                                                
1:09:09 PM                                                                                                                    
                                                                                                                                
MR. KERR  said AOG is active  in multiple states and  the Gulf of                                                               
Mexico  and  every  state  or   location  has  its  strength  and                                                               
weakness.   The  change  in tax  laws  in the  Cook  Inlet was  a                                                               
catalyst for AOG  to look into making  capital investments there,                                                               
he pointed  out.  Armstrong  really scrutinizes an area  prior to                                                               
making capital investments  because the company is in  it to make                                                               
a reasonable profit  for its investment.   Armstrong acquired the                                                               
Northfork Unit  in Cook Inlet  three years ago after  clearing up                                                               
several  pre-existing legal  situations with  it.   The Northfork                                                               
Unit was established  in the 1960s and had only  one well when it                                                               
was acquired  by AOG.   In 2008 Armstrong successfully  drilled a                                                               
second well in  the unit.  However, he reported,  the wells being                                                               
found today are not as good as those found in the past.                                                                         
                                                                                                                                
1:12:00 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN inquired whether  the problems with the Northfork                                                               
Unit were government or business related.                                                                                       
                                                                                                                                
MR.  KERR said  Armstrong's overall  experience dealing  with the                                                               
State of Alaska  has been outstanding.  On  some narrow instances                                                               
there  are  some  challenges,  he continued,  but  staff  at  the                                                               
Division of Oil  & Gas has been very amenable  and has tried hard                                                               
to work through any problems.   The Northfork issues were created                                                               
by the  unit's previous owners,  he explained.  It  was initially                                                               
drilled  by Union  Oil  Company of  California  (Unocal) and  was                                                               
owned by  large oil companies for  a long period of  time.  While                                                               
these companies  did not develop  the unit,  they did keep  it in                                                               
good legal  standing.  In the  late 1990s the unit  was purchased                                                               
by a  series of  small individuals  who parceled  it out  to even                                                               
smaller  individuals   and  that  created  the   problems.    The                                                               
predominant  problem  was  a  lack  of  performance  and  another                                                               
problem was the drafting of the granting documents.                                                                             
                                                                                                                                
1:13:48 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN related his concern  about state regulations that                                                               
are  imposed  on  industry  and asked  whether  there  are  other                                                               
regulations imposed by communities that make it difficult.                                                                      
                                                                                                                                
MR. KERR replied  that at times AOG has had  some challenges with                                                               
communities, but for  the most part the company has  been able to                                                               
work those out.  However,  he continued, some colleagues have had                                                               
more  significant issues  than Armstrong.   It  is AOG's  goal to                                                               
move forward in getting a  gas contract with any utility possible                                                               
and to sell this gas to whatever communities is deemed best.                                                                    
                                                                                                                                
REPRESENTATIVE OLSON  surmised that Armstrong is  looking for gas                                                               
on the Northfork  Unit even though Unocal  was originally looking                                                               
for oil.                                                                                                                        
                                                                                                                                
MR. KERR  responded correct.   The well drilled by  Armstrong has                                                               
confirmed  gas in  the Tyonek  Formation.   There  is still  some                                                               
potential for  oil in the Hemlock  Formation and if AOG  can work                                                               
out the scenario for gas then it can pursue that oil as well.                                                                   
                                                                                                                                
1:16:59 PM                                                                                                                    
                                                                                                                                
MR.  KERR continued  his presentation,  stating that  he will  be                                                               
talking  with the  Regulatory  Commission of  Alaska  (RCA) in  a                                                               
couple of days.  It is a  good idea to keep people informed about                                                               
Armstrong's  activities  and  plans,  he  said.    This  prevents                                                               
miscommunication and  helps assure that  AOG does not  waste time                                                               
negotiating  a gas  contract that  will not  be agreeable  to the                                                               
RCA.  If a project is not going  to be agreeable to the RCA, then                                                               
Armstrong is better off to pursue projects elsewhere.                                                                           
                                                                                                                                
CO-CHAIR JOHNSON requested that  discussion be avoided about what                                                               
may or  may not be  happening before a  regulatory body.   If the                                                               
legislature wants to  fix something it will pass a  law, he said,                                                               
but  it  is  not  the   legislature's  position  to  influence  a                                                               
regulatory agency.                                                                                                              
                                                                                                                                
1:18:45 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE SEATON  pointed out that  this area is  within his                                                               
district.  He  said that in the past things  have happened before                                                               
the RCA  that the community  of Homer was  not made aware  of and                                                               
the  community fears  that this  gas  will be  exported from  the                                                               
local area, whether  it be to Anchorage or  overseas, without the                                                               
building of infrastructure for local supply.                                                                                    
                                                                                                                                
CO-CHAIR JOHNSON  said this type  of thing can be  discussed, but                                                               
he wants  to avoid any specific  docket that might be  before the                                                               
RCA.  He added that he  and Co-Chair Neuman have discussed having                                                               
the RCA speak before the committee.                                                                                             
                                                                                                                                
REPRESENTATIVE  SEATON  responded  that  he would  like  to  know                                                               
whether AOG  can contract with  communities or is  prevented from                                                               
doing so by the RCA.                                                                                                            
                                                                                                                                
CO-CHAIR JOHNSON said this type of question would be okay.                                                                      
                                                                                                                                
1:21:54 PM                                                                                                                    
                                                                                                                                
MR.  KERR remarked  that the  aforementioned  discussion is  duly                                                               
noted.   He reiterated that gas  was found in the  second well at                                                               
the Northfork  Unit and Armstrong's goal  is to enter into  a gas                                                               
contract.  He  explained that the unique thing about  oil and gas                                                               
exploration and development is that  until there is expansion and                                                               
the drilling of additional wells, it  is unknown how big or small                                                               
an asset is.   At this time Armstrong is  comfortable saying that                                                               
the Northfork  asset is between  7.5 and 12.5 billion  cubic feet                                                               
(Bcf) of gas, he  reported, and it may well be  20-60 Bcf or even                                                               
larger.   The issue  associated with these  numbers is  that they                                                               
are risk  numbers and  AOG will not  know until  additional wells                                                               
are  drilled.   Armstrong has  made a  substantial investment  to                                                               
date in the Northfork  Unit, he said.  The next step  is to get a                                                               
gas contract and  then AOG will move forward  with developing the                                                               
asset and drilling additional wells.   Capital expenditures could                                                               
be anywhere from $40 million  to substantially more, depending on                                                               
the well results.                                                                                                               
                                                                                                                                
1:24:02 PM                                                                                                                    
                                                                                                                                
CO-CHAIR JOHNSON asked whether it  is typical to get the contract                                                               
prior to proving the reserve instead of the other way around.                                                                   
                                                                                                                                
MR. KERR  replied that  Armstrong is in  between because  the two                                                               
wells have proven  the reserves and now what needs  to be done is                                                               
proving the  size of the  reserves.  This  is the norm,  he said.                                                               
The unique  situation in Cook Inlet  compared to the Lower  48 is                                                               
that there are a limited number  of gas buyers.  In addition, the                                                               
Lower 48  has lots of  gas pipelines  already in place,  which is                                                               
not  the case  in the  Cook Inlet.   The  challenge before  Kenai                                                               
Peninsula and Cook Inlet producers  is that most of the currently                                                               
producing fields were found in the  1960s.  They used to be world                                                               
class oil  and gas fields, but  now they are declining.   He said                                                               
this puts the  Kenai Peninsula in a gas market  that he has never                                                               
seen before  - a significant  decline associated with  96 percent                                                               
of  the  production and  a  limited  number  of new  wells  being                                                               
drilled.                                                                                                                        
                                                                                                                                
1:26:49 PM                                                                                                                    
                                                                                                                                
MR. KERR compared  the Cook Inlet to two other  basins of similar                                                               
size, the  Bighorn Basin and the  San Juan Basin, both  about 100                                                               
miles  long by  100 miles  wide.   To  date, the  Cook Inlet  has                                                               
produced a total of 7.6 trillion  cubic feet (Tcf) of gas and 1.3                                                               
billion  barrels of  oil,  he  related.   The  Bighorn Basin  has                                                               
produced 2.4  Tcf of gas and  3.1 billion barrels of  oil and the                                                               
San  Juan Basin  has produced  41.5 Tcf  of gas  and 380  million                                                               
barrels  of  oil.   He  said  he  researched this  comparison  to                                                               
determine for  himself whether the  challenges of the  Cook Inlet                                                               
were  real or  imagined.   In response  to Co-Chair  Johnson, Mr.                                                               
Kerr said the  Bighorn Basin is in northwest Wyoming  and the San                                                               
Juan Basin is in northwest New Mexico.                                                                                          
                                                                                                                                
1:28:21 PM                                                                                                                    
                                                                                                                                
CO-CHAIR  NEUMAN voiced  his concern  that when  the 24-inch  gas                                                               
line from Prudhoe  Bay to Southcentral is  turned on, exploration                                                               
in Cook  Inlet will come to  a halt, causing job  loss and impact                                                               
to Southcentral's  economy, as  well as  the loss  of investments                                                               
made by the Cook Inlet explorers.                                                                                               
                                                                                                                                
CO-CHAIR JOHNSON inquired as to  the timing for deliverability of                                                               
Armstrong's gas.                                                                                                                
                                                                                                                                
MR. KERR said his opinion, based  on 26 years in the business, is                                                               
that  Co-Chair  Neuman's  concern   could  be  accurate  if  both                                                               
projects  were happening  at the  same time.   He  predicted that                                                               
Armstrong's  project will  be on  line well  before the  proposed                                                               
"bullet line"  from Prudhoe Bay  is built  and that a  project of                                                               
the  size  and scope  of  the  bullet line  will  have  a lot  of                                                               
challenges.  Armstrong intends to sell  gas as soon as a pipeline                                                               
is  built which  would be  late 2010.   In  response to  Co-Chair                                                               
Johnson, Mr.  Kerr clarified  that the 2010  pipeline is  the one                                                               
from his project.  In  response to Representative Olson, Mr. Kerr                                                               
said  his  project's  pipeline  would be  about  20  miles  long.                                                               
Armstrong  has  wells ready  to  produce  today, subject  to  the                                                               
permitting process,  and more wells  could be drilled  during the                                                               
permitting interim.                                                                                                             
                                                                                                                                
1:32:20 PM                                                                                                                    
                                                                                                                                
MR.  KERR, in  further  response to  Co-Chair Johnson,  explained                                                               
that the gas  is traditional Cook Inlet gas with  no inert gases,                                                               
[so no processing would be needed].                                                                                             
                                                                                                                                
REPRESENTATIVE OLSON  surmised that Armstrong has  a ready market                                                               
for the oil.                                                                                                                    
                                                                                                                                
MR. KERR responded, "Yes".                                                                                                      
                                                                                                                                
REPRESENTATIVE  OLSON further  surmised  that  since "Tesoro"  is                                                               
only  using 25  percent Cook  Inlet oil,  it would  likely pay  a                                                               
premium to get more of that oil.                                                                                                
                                                                                                                                
MR. KERR replied, "Exactly".  Oil  is not as formidable a problem                                                               
as  gas  because   it  can  be  safely   transported  in  trucks.                                                               
Armstrong is  advocating a  pipeline as  the best  way to  go for                                                               
natural gas rather than trucking compressed natural gas by road.                                                                
                                                                                                                                
1:33:29 PM                                                                                                                    
                                                                                                                                
MR. KERR  returned to his  presentation, noting that in  2007 the                                                               
San Juan Basin  had 984 wells drilled, the Bighorn  Basin had 100                                                               
wells drilled, and the Cook Inlet  only had 8 or 14, depending on                                                               
whether staked  versus completed  wells are  counted.   Thus, the                                                               
Cook Inlet only had 10 percent  the number of wells as drilled in                                                               
the Bighorn Basin  and 1 percent of the wells  drilled in the San                                                               
Juan Basin.  The total number  of wells completed in the San Juan                                                               
Basin  is  approximately  44,700, the  Bighorn  is  approximately                                                               
12,800, and  the Cook Inlet  is 1,312.   In response  to Co-Chair                                                               
Johnson,  Mr. Kerr  agreed to  provide in  writing the  source of                                                               
this information to committee members.                                                                                          
                                                                                                                                
MR. KERR posited that  while this is a signal that  not a lot has                                                               
been done  in the  Cook Inlet,  it is  also a  signal that  a lot                                                               
could be done  in the future.  The bulk  of Cook Inlet production                                                               
has come  from traditional  structures that  were drilled  in the                                                               
1960s and  early 1970s.  However,  in the Lower 48  today, exotic                                                               
production  such as  shale has  dropped the  price of  gas.   The                                                               
price dropped  because a  tremendous amount of  gas was  found in                                                               
the  shale  and  because  competition  was  created  between  the                                                               
service companies.                                                                                                              
                                                                                                                                
1:36:28 PM                                                                                                                    
                                                                                                                                
MR. KERR pointed out that the cost  of drilling a gas well in the                                                               
Cook Inlet  can be  400-600 percent  more than  in the  Lower 48.                                                               
Such an  exorbitant cost  necessitates selling  the product  at a                                                               
given price in order to not  lose money.  The large easy reserves                                                               
have been found in the Cook  Inlet, but he said he believes there                                                               
is still a lot  more gas to be found even though  it will be more                                                               
challenging.   The best  way to  promote finding  that gas  is to                                                               
create an environment  where independents can come  to Alaska and                                                               
feel  like   they  will   get  a   reasonable  return   on  their                                                               
investments.   It can be seen  by the number of  wells drilled to                                                               
date in the  Bighorn and San Juan basins,  that independents have                                                               
felt it will be a challenge to  get a return on investment in the                                                               
Cook Inlet.   For  its size, an  extraordinarily small  number of                                                               
wells have been drilled in the Cook Inlet.                                                                                      
                                                                                                                                
MR. KERR said  the Alaska State Legislature is  doing a wonderful                                                               
job  in the  Cook  Inlet from  a tax  structure  viewpoint.   The                                                               
legislature has  recognized that  something needs  to be  done to                                                               
encourage  drilling and  not a  lot more  could be  done in  this                                                               
regard.   Armstrong is in  the process  of seeing whether  it can                                                               
get a  return and if an  arrangement can be made,  Armstrong will                                                               
drill more  wells.  If  an arrangement  cannot be made  that will                                                               
give AOG a return, then the project will be mothballed.                                                                         
                                                                                                                                
1:39:12 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN asked  whether AOG is talking  to other companies                                                               
about  added-value  that would  create  more  jobs for  Alaskans,                                                               
although he  acknowledged that  the Cook Inlet's  gas is  dry and                                                               
does not have a lot of natural gas liquids for added-value.                                                                     
                                                                                                                                
MR.  KERR  responded  that  AOG has  offices  in  many  locations                                                               
throughout  the U.S.  and  world, and  therefore  talks to  other                                                               
companies and takes on partners  in many projects.  The pervasive                                                               
nature of the Cook Inlet is  such that there is skepticism for an                                                               
independent to  go in  there and  be able  to work  a contractual                                                               
arrangement to sell  the gas at a price that  allows a reasonable                                                               
return.   It  is  surprising how  much it  boils  down to  others                                                               
looking and watching that first guy,  he said.  For example, when                                                               
AOG  first  went to  the  North  Slope  the  theory was  that  an                                                               
independent  could  not do  business  there.   But  the  Oooguruk                                                               
project  is  now on  line  and  the  Nikaitchuq wells  are  being                                                               
drilled.    The  capital  expenditure  committed  for  those  two                                                               
projects is a little over $2 billion.                                                                                           
                                                                                                                                
1:42:15 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN inquired what AOG thinks  it will be able to sell                                                               
its gas for.                                                                                                                    
                                                                                                                                
MR. KERR estimated  that AOG will need to receive  a price in the                                                               
range of $7-$10  [per million British Thermal Units  (BTU)].  The                                                               
challenge  is  that  AOG  knows   the  gas  is  there,  but  will                                                               
potentially  have  to spend  $40-$80  million  in costs;  so  the                                                               
prices must allow  a reasonable return.  If Armstrong  says it is                                                               
going to  do something and  does not do it,  then it does  not do                                                               
anything for the State of Alaska.                                                                                               
                                                                                                                                
CO-CHAIR NEUMAN commented  that $7-$10 is good  information as he                                                               
had anticipated $15-$17.                                                                                                        
                                                                                                                                
MR. KERR  added that AOG knows  it has gas, but  the challenge is                                                               
that it  does not yet  have absolutes  as far as  how significant                                                               
the reserves  are and what  the cost  structure will be.   Issues                                                               
inevitably  arise in  the exploration  and development  business,                                                               
such as problems with drilling, the  pipe gets stuck in the hole,                                                               
or things  get lost in the  hole, and all of  these things create                                                               
cost overruns.  He  said AOG must have a price  that allows it to                                                               
stay in business  in order to do  good for itself as  well as for                                                               
the state.                                                                                                                      
                                                                                                                                
CO-CHAIR  NEUMAN  remarked  that  he wants  Armstrong  and  other                                                               
companies that  come to Alaska  to make a profit,  otherwise they                                                               
will go somewhere else.                                                                                                         
                                                                                                                                
1:46:35 PM                                                                                                                    
                                                                                                                                
                                                                                                                                
REPRESENTATIVE SEATON asked  what the current sales  price is for                                                               
Cook Inlet gas under current contracts.                                                                                         
                                                                                                                                
MR. KERR said he thinks some are  over $8 and some are under.  In                                                               
further  response to  Representative  Seaton, Mr.  Kerr said  the                                                               
Kenai Kachemak Gas Pipeline is a 12-inch pipeline.                                                                              
                                                                                                                                
REPRESENTATIVE  SEATON  understood  that existing  gas  suppliers                                                               
have contracted  through 2014 for  95 percent of the  capacity of                                                               
the Kenai Kachemak  Gas Pipeline, leaving 5  percent available to                                                               
additional suppliers.  He asked Mr.  Kerr to discuss the issue of                                                               
an  intra-state pipeline  that  is by  contract  versus a  common                                                               
carrier pipeline.                                                                                                               
                                                                                                                                
MR.  KERR agreed  that there  is plenty  of space  for additional                                                               
gas, but  that he  does not  know who owns  that capacity.   When                                                               
there is  spare capacity available,  folks are  generally anxious                                                               
for  that capacity  to be  utilized.   He said  he would  like to                                                               
think  that  Armstrong could  work  through  that issue,  but  he                                                               
cannot answer the question specifically at this point.                                                                          
                                                                                                                                
1:49:29 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE SEATON noted that  there is legislation that would                                                               
change  the Pipeline  Act in  Alaska.   Currently, pipelines  are                                                               
supposed  to  be  common  carriers,  but  instead  contracts  and                                                               
settlements are  being allowed which basically  makes them closed                                                               
carriers.   He asked what size  line and how many  cubic feet per                                                               
day Armstrong would  need if it were to contract  the gas that it                                                               
has today.                                                                                                                      
                                                                                                                                
MR. KERR first explained that  the only thing preventing AOG from                                                               
providing more  gas than it  has today is  that it has  not spent                                                               
the money to drill additional  wells.  Since Armstrong carries no                                                               
debt and is  not a public company, it is  not saddled with having                                                               
to  do an  engineering  report  on reserves  like  what a  public                                                               
company  must do.    In that  context,  Armstrong is  comfortable                                                               
enough with  its current reserves.   It has spent a  lot of money                                                               
to date and  is willing to spend  more to find more gas.   As far                                                               
as what AOG  could ship today, he  said it would take  at least a                                                               
year to build  the pipeline and AOG could drill  more wells while                                                               
the pipeline  was being  built.  Providing  six to  seven million                                                               
cubic feet  per day  consistently is very  obtainable and  if AOG                                                               
drilled  additional wells  it could  be  substantially more  than                                                               
that.  In  further response to Representative Seaton,  he said he                                                               
thinks that six  to seven million cubic feet could  be shipped on                                                               
a  six-inch  pipeline,  but  the  pipeline  could  be  larger  if                                                               
desired.                                                                                                                        
                                                                                                                                
1:52:47 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE SEATON  recalled that eight  to ten years  ago the                                                               
Homer  Electric  Association  and   ENSTAR  Natural  Gas  Company                                                               
("ENSTAR") competed before  the RCA for the right  to service the                                                               
Homer  and  Anchor  Point  areas.   ENSTAR  won.    The  contract                                                               
required "Northstar",  owner of the  unit at that time,  to build                                                               
an eight-mile-long pipeline  to Anchor Point and  ENSTAR to build                                                               
a distribution line  from there to Homer.  He  said he has always                                                               
been concerned about someone in  the drilling business building a                                                               
pipeline.  Is AOG prepared to build a pipeline, he asked.                                                                       
                                                                                                                                
MR.  KERR  replied that  if  everyone  was agreeable,  AOG  could                                                               
accommodate building a pipeline to Anchor Point.                                                                                
                                                                                                                                
CO-CHAIR  JOHNSON added  that regulations  may or  may not  allow                                                               
Armstrong to build that pipeline.                                                                                               
                                                                                                                                
1:54:55 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE  TUCK inquired  whether  Armstrong is  considering                                                               
using directional  wells in addition  to the two wells  that have                                                               
been drilled at the Northfork Unit.                                                                                             
                                                                                                                                
MR. KERR  explained that the gas  is in the Tyonek  Formation and                                                               
this  formation is  composed of  lenticular sands.   There  is an                                                               
abundance of these lenticular sands,  but they come and go rather                                                               
than being one  big continuous sand.  The  drilling of additional                                                               
wells will define what the best  way to drill is.  Armstrong will                                                               
therefore  start out  with conventional  vertical wells.   Deeper                                                               
under the  Tyonek Formation  is the  Hemlock Formation  which has                                                               
produced most of  the Cook Inlet oil; this is  the formation that                                                               
was originally  drilled in 1965  by Unocal.  With  new technology                                                               
such  as  horizontal  drilling,  it could  be  that  the  Hemlock                                                               
Formation is  commercial.  Because  it is extremely  expensive to                                                               
drill a  well to find this  out, it must be  underpinned with gas                                                               
production.   He said he thinks  there are two things  that could                                                               
dramatically  change production  in the  Cook Inlet:   horizontal                                                               
drilling  and fracturing  ("fracing").   So few  wells have  been                                                               
drilled in  the Cook  Inlet that the  service companies  have not                                                               
put  their manpower  toward either  of these  technologies as  is                                                               
being done  in the Lower  48.   Right now the  economic threshold                                                               
has  not  been  reached  in  the Cook  Inlet  for  applying  this                                                               
technology.                                                                                                                     
                                                                                                                                
1:58:29 PM                                                                                                                    
                                                                                                                                
CO-CHAIR  JOHNSON interjected  that the  Northfork Unit  would be                                                               
characterized as a traditional gas play.                                                                                        
                                                                                                                                
MR. KERR agreed.  He said the  unique aspect of the Cook Inlet is                                                               
that  there  have not  been  enough  wells  drilled to  rule  out                                                               
unconventional gas plays.                                                                                                       
                                                                                                                                
CO-CHAIR  NEUMAN   requested  that  the  Department   of  Natural                                                               
Resources be asked  to talk to the committee  about the different                                                               
gas formations in Cook Inlet and who is working where.                                                                          
                                                                                                                                
CO-CHAIR JOHNSON agreed.                                                                                                        
                                                                                                                                
2:00:06 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN inquired as to  how many companies are working in                                                               
Cook Inlet and how many people are employed.                                                                                    
                                                                                                                                
MR.  KERR  answered  that  there   are  the  large  companies  of                                                               
"Marathon-ConocoPhillips, Chevron,  and Texaco"  but he  does not                                                               
want to guess  the number of people they employ.   "Pelican Hill"                                                               
was there for a  period of time but has left the  Cook Inlet.  He                                                               
said  he  is unsure  to  what  extent  "Aurora Gas"  is  actively                                                               
exploring.   The big  three have  been in Cook  Inlet for  a long                                                               
time  and  that has  been  a  challenge  for  the Cook  Inlet  as                                                               
indicated by the number of wells  that have been drilled.  In the                                                               
Lower  48, it  is  the  independents that  drill  the wells,  the                                                               
independents drive the engine.   He offered his opinion that Cook                                                               
Inlet  suffers from  not having  independents.   A lot  of people                                                               
will  be  watching  to  see  what  happens  in  Cook  Inlet  with                                                               
Armstrong.   In  further response  to Co-Chair  Neuman, Mr.  Kerr                                                               
estimated  that  100-200  people  were  employed  when  Armstrong                                                               
drilled its Cook Inlet well,  including people working as mudmen,                                                               
mud  engineers, drilling  engineers, drilling  contractors, hands                                                               
on the rigs, surveyors, and road and fence builders.                                                                            
                                                                                                                                
2:03:38 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE SEATON reviewed the  history of the Northfork Unit                                                               
in regard  to the previous  owners not  coming through.   He said                                                               
independents are  vitally important,  but cautioned that  not all                                                               
independents should  be classified as somebody  who will complete                                                               
the job.   He  added that  he is  pleased with  Armstrong because                                                               
they have followed through with every commitment.                                                                               
                                                                                                                                
CO-CHAIR  JOHNSON agreed  and said  he looks  at independents  as                                                               
well as the major producers as  partners with the state.  He said                                                               
his goal  is for the  state to be a  good partner and  help mate,                                                               
rather than an obstacle.                                                                                                        
                                                                                                                                
REPRESENTATIVE  SEATON  further added  that  what  is needed  are                                                               
independents  that follow  through with  work commitments  so the                                                               
state's resources are not tied up.                                                                                              
                                                                                                                                
2:07:12 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE OLSON  pointed out  that up  until about  10 years                                                               
ago  virtually  all  of  Cook  Inlet's  gas  had  been  found  by                                                               
geologists looking  for oil.  This  is why gas in  Cook Inlet has                                                               
not  had the  priority  that  oil has  had,  he  continued.   Now                                                               
companies like Armstrong and "Marathon" are looking for gas.                                                                    
                                                                                                                                
MR.  KERR addressed  Representative  Seaton's  point.   Armstrong                                                               
scrutinizes potential partners, both  business and government, to                                                               
make  sure that  they can  be worked  with, he  said.   Armstrong                                                               
takes pride in  doing what it says it will  do, however it cannot                                                               
drill more wells in Cook Inlet without a workable arrangement.                                                                  
                                                                                                                                
MR.  KERR concluded  his presentation,  stating that  while there                                                               
are real  challenges to doing  business in Alaska,  Armstrong has                                                               
successfully worked  with Alaska's government agencies  and finds                                                               
them responsive.   Armstrong tries not to get ahead  of itself by                                                               
promising something  that it  cannot deliver, he  said.   In this                                                               
context Armstrong  can say  that it  can find  gas but  it cannot                                                               
guarantee the quantity until more wells  have been drilled.  If a                                                               
workable arrangement can be found,  then Armstrong will spend its                                                               
money  to drill  those  wells.   He  said AOG  would  like to  do                                                               
business in Alaska and the Cook Inlet.                                                                                          
                                                                                                                                
2:10:46 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN asked what the state  can do to set the stage for                                                               
a good working environment and  ensuring that companies will want                                                               
to invest in Alaska.                                                                                                            
                                                                                                                                
MR. KERR  replied that  a good working  environment is  one where                                                               
permits can be  obtained and where there is the  ability to drill                                                               
wells in a  safe and efficient manner.  With  respect to the Cook                                                               
Inlet,  he continued,  it is  getting the  product to  market and                                                               
selling it at a price that  allows a reasonable rate of return on                                                               
investment.   A good  working environment  also allows  access to                                                               
supplies  and services  in a  fashion that  is not  so exorbitant                                                               
that  it precludes  a reasonable  return on  investment.   All of                                                               
this is much the same with respect to the North Slope.                                                                          
                                                                                                                                
2:12:34 PM                                                                                                                    
                                                                                                                                
MR.  KERR,  in further  response  to  Co-Chair Neuman,  said  the                                                               
people at  the Department of  Natural Resources and  the Division                                                               
of Oil &  Gas are part of  what is good about  working in Alaska.                                                               
They  sit down  and  try to  work  with the  companies.   When  a                                                               
company honors its  side of the equation, these  people will work                                                               
hard to  ensure success  in finding hydrocarbons  in Alaska.   He                                                               
said  a  downside  about  working in  Alaska  is  the  historical                                                               
precedent in the  Cook Inlet.  Armstrong needs to  make sure that                                                               
it can  obtain a gas contract  and get access to  a pipeline that                                                               
allows for a reasonable rate  of return; without that, AOG cannot                                                               
move  forward in  the Cook  Inlet.   In  addition, accessing  and                                                               
permitting  for   pipelines  and   wells  has   been  challenging                                                               
historically, he  continued, although Armstrong has  been able to                                                               
work  through them.   By  and  large, AOG  is a  big advocate  of                                                               
Alaska.                                                                                                                         
                                                                                                                                
Mr. Kerr, in  response to Co-Chair Johnson, said  Armstrong Oil &                                                               
Gas does not  deal with the Federal  Energy Regulatory Commission                                                               
(FERC) very often.                                                                                                              
                                                                                                                                
2:15:13 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE  SEATON  asked  whether Armstrong  would  consider                                                               
multiple contracts with various  communities or would it consider                                                               
only one contract with one sole source of exit for its gas.                                                                     
                                                                                                                                
MR.  KERR  responded  that  there are  challenges  with  a  split                                                               
stream,  but as  long  as  a reasonable  rate  of  return can  be                                                               
received then  it can be  worked out.   The issues for  AOG would                                                               
be:  how much  capital must be put in, how difficult  it is to do                                                               
operationally, how  much can be  received for the  commodity, and                                                               
the cost  of producing the  commodity.  He  said this might  be a                                                               
better question for  the transporter rather than AOG  since it is                                                               
an issue that would be more  in the transporter's lap than AOG's.                                                               
Also  of  importance  is  having an  environment  where  one  can                                                               
continue  to do  business and  where the  rules are  not changed,                                                               
thus providing consistency.                                                                                                     
                                                                                                                                
2:17:20 PM                                                                                                                    
                                                                                                                                
REPRESENTATIVE   SEATON  inquired   whether   Armstrong,  as   an                                                               
independent, would be  making its gas sales to the  shipper or to                                                               
the purchaser.   For example, would  AOG deal with ENSTAR  as the                                                               
shipper or the purchaser, or with the "Marathon-Conoco" plant.                                                                  
                                                                                                                                
MR. KERR replied that there is  not an absolute answer, but AOG's                                                               
preference would  be to sell to  a utility at the  wellhead or at                                                               
Anchor Point.   There would need to be some  certainty as to what                                                               
would be  received for the product.   He explained that  when the                                                               
price of commodities goes up so  do the costs because the service                                                               
companies are always there in  that regard.  Armstrong would need                                                               
to set a  floor for the price  of its commodity, and  then if the                                                               
price goes up AOG will take  the business risk that any uptick in                                                               
service costs is mitigated by the uptick in commodity price.                                                                    
                                                                                                                                
2:19:16 PM                                                                                                                    
                                                                                                                                
CO-CHAIR NEUMAN asked how Armstrong  coordinates efforts with its                                                               
peers in Cook Inlet to  negotiate firm transportation commitments                                                               
(FTs) with the utility companies and other buyers of its gas.                                                                   
                                                                                                                                
MR.  KERR  said  Cook  Inlet is  a  unique  business  environment                                                               
because  it is  a  captured  market in  terms  of  the amount  of                                                               
production and not  being tied to any other pipelines.   To date,                                                               
AOG is  a new  player in  the Cook  Inlet and  does not  have any                                                               
coordination for  jointly pursuing a  gas contract.  He  said AOG                                                               
has not  asked "Marathon" or  "Chevron" about piggybacking  a gas                                                               
contract because  of Armstrong's belief that  those two companies                                                               
would want to work their arrangements on their own.                                                                             
                                                                                                                                
CO-CHAIR NEUMAN commented  that competition is a good  thing.  He                                                               
surmised that Armstrong is basically on its own.                                                                                
                                                                                                                                
MR. KERR  answered correct,  AOG has  not partnered  with anyone.                                                               
He  qualified  that  Armstrong  has  three  partners  within  the                                                               
Northfork Unit  that are  independent oil  and gas  companies AOG                                                               
has done  business with in  the past.   So, they are  pursuing it                                                               
independently as a group.                                                                                                       
                                                                                                                                
CO-CHAIR  NEUMAN   presumed  that  Armstrong  would   go  to  the                                                               
purchasers of its gas to come up with a contract.                                                                               
                                                                                                                                
MR.  KERR said  correct.   For example,  as the  operator of  the                                                               
Northfork Unit,  AOG would go  to entities like  Chugach Electric                                                               
Association or ENSTAR to work out  a gas contract.  Armstrong has                                                               
never  contacted  "ConocoPhillips"  about   doing  a  tandem  gas                                                               
contract.                                                                                                                       
                                                                                                                                
REPRESENTATIVE  SEATON inquired  whether ENSTAR,  a purchaser  of                                                               
gas   with   the  Kenai   Kachemak   Gas   Pipeline,  would   act                                                               
independently as a  shipper for gas from AOG  that was contracted                                                               
by another entity.                                                                                                              
                                                                                                                                
MR.  KERR presumed  ENSTAR would,  but  he said  he cannot  speak                                                               
definitively to that.                                                                                                           
                                                                                                                                
2:23:53 PM                                                                                                                    
                                                                                                                                
CO-CHAIR  JOHNSON,  in  response  to  Co-Chair  Neuman,  said  he                                                               
anticipates having  ENSTAR speak to  the committee in  the future                                                               
because Cook Inlet gas is important.                                                                                            
                                                                                                                                
REPRESENTATIVE SEATON remarked  that it was good  to have today's                                                               
presentation in relation  to what effect a bullet  line and cheap                                                               
gas  could  have  on  companies that  are  actively  drilling  in                                                               
[Southcentral].   No companies  have come to  say there  would be                                                               
negative impacts from  a bullet line such as was  brought up as a                                                               
possibility by Co-Chair Neuman.                                                                                                 
                                                                                                                                
CO-CHAIR JOHNSON  said that what  he is taking away  from today's                                                               
presentation is  that there could be  gas in two years  from Cook                                                               
Inlet.   He discouraged the use  of the term "cheap"  gas because                                                               
the issue is what the cost would be if there is not any gas.                                                                    
                                                                                                                                
2:26:34 PM                                                                                                                    
                                                                                                                                
ADJOURNMENT                                                                                                                   
                                                                                                                                
There being no  further business before the  committee, the House                                                               
Resources Standing Committee meeting was adjourned at 2:27 p.m.                                                                 

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