Legislature(2017 - 2018)Anch LIO Lg Conf Rm
07/11/2018 09:00 AM House RESOURCES
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| Start | |
| Aklng Quarterly Update | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| + | TELECONFERENCED | ||
ALASKA STATE LEGISLATURE
JOINT MEETING
SENATE RESOURCES STANDING COMMITTEE
HOUSE RESOURCES STANDING COMMITTEE
July 11, 2018
9:00 a.m.
MEMBERS PRESENT
SENATE RESOURCES
Senator Cathy Giessel, Chair
Senator Natasha von Imhof
Senator Kevin Meyer
Senator Bert Stedman
Senator Bill Wielechowski
Senator Click Bishop
HOUSE RESOURCES
Representative Andy Josephson, Co-Chair
Representative Geran Tarr, Co-Chair
Representative Harriet Drummond
Representative Justin Parish, online
Representative Chris Birch
Representative DeLena Johnson
Representative George Rauscher
Representative David Talerico
Representative Mike Chenault
MEMBERS ABSENT
SENATE RESOURCES
Senator John Coghill, Vice Chair
HOUSE RESOURCES
Representative John Lincoln, Vice-Chair
Representative Chris Tuck
OTHER LEGISLATORS PRESENT
Senator Peter Micciche
Senator Shelley Hughes
Representative Bryce Edgmon, online
Representative Jason Grenn
Representative Jennifer Johnston
Representative Charisse Millet, online
Representative Dan Ortiz, online
Representative David Guttenberg, online
Representative Paul Seaton, online
COMMITTEE CALENDAR
OVERVIEW: AKLNG QUARTERLY UPDATE
- HEARD
PREVIOUS COMMITTEE ACTION
No previous action to record
WITNESS REGISTER
DAVE CRUZ, Chair
Alaska Gasline Development Corporation (AGDC)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
FRANK RICHARDS, Vice President
Project Management
Alaska Gasline Development Corporation (AGDC)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
LEIZA WILCOX, Vice President
Economics and Communication
Alaska Gasline Development Corporation (AGDC)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
MIKE BARNHILL, Deputy Commissioner
Department of Revenue (DOR)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
MARIA TSU, Alaska Gasline Project Financing Specialist
Department of Revenue (DOR)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
ANDY MACK, Commissioner
Department of Natural Resources (DNR)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
MARK WIGGIN, Deputy Commissioner
Department of Natural Resources (DNR)
Anchorage, Alaska
POSITION STATEMENT: Participated in AKLNG quarterly update.
STEVE WRIGHT, Consultant and Advisor
Department of Natural Resources (DNR)
Anchorage, AK
POSITION STATEMENT: Participated in AKLNG quarterly update.
ACTION NARRATIVE
9:00:11 AM
CHAIR CATHY GIESSEL called the joint meeting of the Senate and
House Resources Standing Committee to order at 9:00 a.m. Present
at the call to order were Senators Stedman, von Imhof,
Wielechowski, Bishop, and Chair Giessel; Senator Coghill was
excused.
CO-CHAIR TARR said that Representatives Birch, Johnson,
Talerico, Co-chair Josephson, and Co-chair Tarr were present at
the call to order. Representative Johnston was in the audience.
CHAIR GIESSEL said that Senators Micciche and Hughes were in
attendance.
^AKLNG Quarterly Update
AKLNG Quarterly Update
9:02:41 AM
CHAIR GIESSEL said the purpose of today's meeting was to hold a
quarterly update on the Alaska LNG (AKLNG) project, which is
required by Senate Bill 138 that was passed in 2014. They would
hear from the Alaska Gasline Development Corporation (AGDC), the
Department of Natural Resources (DNR), and the Department of
Revenue (DOR), and the agencies and instrumentalities of the
state charged with carrying out this project.
SENATOR MEYER joined the meeting.
CO-CHAIR TARR said that she appreciates AGDC willingness to
share information such as semi-monthly reports, financial
reports, responses to individual legislators, and meetings as
required by Senate Bill 138. Confidentiality agreements have
been signed in some instances. She had put together a notebook
of all the communications with AGDC that was available to
members.
REPRESENTATIVE DRUMMOND joined the committee.
CO-CHAIR TARR said that Representative Chenault was in the
audience and Representative Parish was online.
9:05:18 AM
CHAIR GIESSEL said she had chaired this committee for six years
and it has been suggested to her many times that the folks
testifying be placed under oath and that AS 24.25.060 allows her
and other committee chairs, the president of the Senate and
Speaker of the House to do so, and that a person who willfully
swears or affirms falsely concerning any matter material to the
subject under investigation or inquiry is guilty of perjury and
upon conviction is punishable by imprisonment for not less than
one year nor more than five years. She would not place anyone
under oath today, but she wanted to emphasize that these
meetings are recorded, and minutes are prepared. This is a very
serious subject with significant implications for the state. She
noted that Alaska legislative energy consultants were listening
online, but their purpose today is to listen, not to testify.
She reminded them that hard questions would be asked and the
folks sitting at this table were placed here by the citizens of
Alaska who represent them. Most private citizens wouldn't know
what AGDC stands for and have entrusted the people sitting at
this table to do the due diligence for them.
CO-CHAIR JOSEPHSON also invited a discussion of what they have
delegated to AGDC under Title 31, because it is important, too.
CHAIR GIESSEL said the committee had submitted questions to AGDC
and the answers were in the committees' packets.
CO-CHAIR TARR recognized Representatives David Guttenberg and
Paul Seaton who were online.
9:09:36 AM
DAVE CRUZ, Chair, Alaska Gasline Development Corporation (AGDC),
Anchorage, Alaska, said this project operates under the
guidelines mandated in SB 138. He said staff will present more
details about progress over the last five months in the
technical and regulatory world as well as their efforts in the
commercial and financial arena. In the technical and regulatory
process, they would hear about the completion of the Alaska
Stand Alone Pipeline (ASAP) Supplemental Environmental Impact
Statement (SEIS), one of the project's largest milestones they
have been able to get done, and about how it will benefit the
AKLNG project. He explained that most Alaska projects he has
been involved in go through a process of conception, getting a
customer and a contractor, and getting a supply, but then find
out getting the federal permit is a problem. It has happened
repeatedly. It should take six months in his opinion instead of
the 4.5 years coupled with the continual efforts of their
technical committee and U.S. Senators interfacing with the Corps
of Engineers. The project went through three different project
managers, which means they had to start over three times. But
today they have the permit. It gives the project a right-of-way
from Prudhoe Bay to Point MacKenzie as well as a 404 wetlands
permit, another huge milestone.
9:12:06 AM
MR. CRUZ said he would also address the answers to the nearly
1,400 Federal Energy Regulatory Commission (FERC) questions, the
publication of the first national Environmental Policy Act
(NEPA) schedule, air quality permitting, U.S.-based pipe
manufacturing, and outreach to Alaskans on impacts to the Kenai
Spur relocation. For commercial and financial progress, the
committee will also hear about completion of 15 letters of
intent and the MOUs for the sale of LNG.
He has been amazed at the reception they have had from the Asian
countries. Progress with their Chinese joint development
agreement (JDA) counterparts and the first gas sales agreement
with BP will be addressed along with work with Goldman Sachs for
financing, cooperation with Department of Natural Resources
(DNR) and Department of Revenue (DOR), and modeling efforts with
DOR and with Legislative Budget and Audit Committee (LB&A).
MR. CRUZ said he is personally excited about the progress AGDC
has made toward the goals and directions set by their board of
directors. The board is not a once-a-month, rubber-stamp board
and is extremely engaged in this project. Many of the members
are actively on committees and are working daily with staff to
help the corporation achieve its goals. Their attitude is that
they are not here to study this project but to build it.
9:15:42 AM
FRANK RICHARDS, Vice President, Project Management, Alaska
Gasline Development Corporation (AGDC), Anchorage, Alaska, said
he would provide an update on the technical and regulatory
aspects of the project and then Ms. Wilcox would provide
commercial and financial updates. He said AGDC has completed the
pre-FEED activities with their former project partners and on
January 2017, AGDC took over that responsibility. Their main
focus in 2017 was to advance the project through three primary
goals: to de-risk the regulatory process, market the project to
Asian markets, and seek financing opportunities to execute the
project.
In 2018, they provided the Federal Energy Regulatory Commission
(FERC) with over 120,000 pages of documents, went through
numerous rounds of marketing to potential buyers, and obtained
letters of intent from potential partners as well as a joint
development agreement (JDA) with Chinese counterparts, efforts
that are still under way.
On the technical side, folks are focused on de-risking the
project through the regulatory process so that potential
customers and suppliers can be assured that the budget is
executable and that the project has the federal permits
necessary to be constructed.
In the regulatory arena, both state and federal entities must
interface with FERC, primarily, as the lead federal agency,
which has the responsibility under the Natural Gas Act for the
siting and authorization of LNG projects. This project is called
the Integrated Project, because it incorporates not only the LNG
plant, but the pipeline, and the gas treatment plant (GTP) on
the North Slope.
MR. RICHARDS said the U.S. Department of Interior (DOI) is a
very large landowner in the State of Alaska and the project must
also work with them to acquire the right-of-way (ROW) to federal
lands. A right-of-way grant will be the outcome of the EIS. They
are also working with the Trump Administration through DOI
Secretary Ryan Zienke and Assistant Interior Secretary Joe
Balash on some "federal overreach" by agencies of the National
Park Service and the U.S. Fish and Wild Service that want to
extend their purview of Clean Air Act requirements in Alaska.
9:19:04 AM
He explained that within Alaska there are two primary
distinctions of wetlands: Class 1, which are the Denali National
Park and Sydney National Wildlife Refuge, and Class 2, which is
the rest of Alaska. Unfortunately, some Department of Interior
folks are asking that Class 1 protections be extended into Class
2 areas. So, they are bringing that to the notice of the DOI
Secretary's Office and they are now working to bring that policy
back in line with the Trump Administration, so they are not
having that federal overreach. That's working in consultation
with the Department of Environmental Conservation (DEC) that has
the responsibility for clean air monitoring and permitting in
the State of Alaska, so they are in alignment with the
Department of Interior.
The Army Corps of Engineers is a key player, because they are
the ones who are going to be providing the Section 404 wetlands
permit authorizing fill to be placed in waters of the United
States. To get a permit, they must provide FERC with list of
what wetlands will likely be impacted and get from them the
jurisdictional determination on those wetlands.
MR. RICHARDS said the ASAP project already has a jurisdictional
determination on the project, which essentially encompasses 80
percent of the land that will also be used for the AKLNG
Project. This is key to the completion of a wetlands mitigation
plan for the final record of decision for the ASAP that was a
precursor that is available to the AKLNG project. So, they feel
they are making great progress and an MOA was signed between EPA
and the Army Corps of Engineers on wetlands mitigation in
Alaska. This is specific guidance that allows the Corps and the
EPA the ability to work on wetlands mitigation, to allow for
greater opportunities for mitigation outside the specific
watershed where the fill is to be placed. This is an allowance
to projects like this one that crosses significant number of
wetlands. This is very key outcome (from within the Trump
Administration) to other large natural resource developments
moving forward.
9:22:03 AM
Within Alaska, particularly within the Alaska Department of
Environmental Conservation (DEC), Mr. Richards said they applied
for air quality permits for two major plants: the LNG plant in
Nikiski and the gas treatment plant on the North Slope. Those
applications go to DEC because they have been delegated the
responsibility for the Clean Air Act permitting by EPA at the
direction of the Alaska State Legislature. They were able to
chime in on this DOI question on federal land overreach and that
is key to being heard at the federal level.
9:23:49 AM
MR. RICHARDS said the Department of Transportation and Public
Facilities (DOTPF) has ongoing coordination for project planning
and scheduling of DOTPF projects as they move forward including
major road projects, State Transportation Improvement Program
(STIP) projects under construction at the timeframe near and
around execution of the projects. DOTPF was part of the state's
discussion of rerouting in the Kenai Spur Highway area.
He reviewed that they applied to FERC in April 2017 and they
asked questions to determine if they have sufficient information
to publish a schedule. After the AGDC's responses were provided
to them, the schedule was published, and it gives them 18 months
to complete the FEIS, with a record of decision at the end of
2019. This is a major milestone.
Since April 2017 they have had about 1,400 FERC requests and
have responded expeditiously to about 98 percent of them. The
rest require field work relating to cultural resource, wetlands
validation, ichthyoplankton trawls in front of the LNG plant,
and air quality monitoring, and some of that data will be
gathered over the summer.
MR. RICHARDS said the ASAP has validity and benefit to Alaska.
Through the direction of the state legislature they continue to
work forward to get to the point of obtaining the final SEIS.
This milestone and record of decision that will come in August
will give them a permit to be able to construct that project
should the desire ever be there, but for the AKLNG project it
means now there is a published National Environmental Policy Act
(NEPA) document that FERC can now reference. So, following
President Trump's Executive Order 13.807 (EO), which established
discipline and accountability in the environmental and
permitting process for the infrastructure, FERC is directed to
utilize the existing NEPA document and not duplicate efforts and
to work with the cooperating agencies that have already gone
through this review for the very same pipeline. The projects are
similar; they are both buried pipelines and have a common GTP
location and the ASAP pipeline covers about 80 percent of the
AKLNG route.
9:27:18 AM
On the technical side they have been advancing key plans and
strategies to be ready for the next stage of project
development. Their project execution plan has been updated to
respond to the FERC questions that resulted in changes in
sequencing of the pipeline construction rather than going north
to south to go from south to north. This will create
efficiencies in camp and equipment movements. They have also
continued discussions with world-class engineering permit and
construction contractors for execution of the FEED. This will
allow them to ultimately get to a chance to have additional
funding to execute those contracts to provide a lump sum turn
key estimate for final investment decision (FID). Working with
their key sourcing strategies they are seeing that real cost
savings are available in the world market for materials and
equipment. They have also engaged again with the JDA member,
Sinopec, in looking at technical interactions where they had to
do their own due diligence with the project. They spent
countless days and hours of going over discrete details.
They also looked where the steel for the pipeline would come
from beginning with the tariff talks that are under way.
Certainly, there are world providers in Europe and Asia. Most
recently, they have had discussions with U.S. producers about
steel coil and pipe. This is very positive, because previously
they didn't see 42-inch X80 pipe being rolled in the U.S. But
last week they learned of pipe manufacturing in Arkansas and
coil manufacturing in Illinois that could provide pipe that will
meet project specifications. This is a huge benefit for U.S.
sourcing for this project.
9:30:25 AM
MR. RICHARDS said AGDC understands the project will have a big
impact on Alaskans not only in construction but in energy
delivery and lower cost energy. The community of Nikiski where
the LNG plant is located will be the most impacted, because in
order to construct the plant, the Kenai Spur Highway, which runs
right through the plant site, must be rerouted. The route has
been selected after taking comments from the community about the
options. It is called the West LNG Route, which essentially
routes directly around the plant. It is the shortest of the
routes and the least expensive; it also impacts the least number
of landowners and is something they can be executed in a very
timely manner. Since the rerouted highway will become part of
the national highway system, AGDC has been working with DOTPF to
make sure the route is in compliance with federal highway system
design standards.
9:32:24 AM
CHAIR GIESSEL asked for questions.
SENATOR BISHOP asked the sequencing for pipeline construction
during winter versus summer.
MR. RICHARDS answered they would look at how to best utilize the
construction camps and equipment necessary with the various
seasons. So, they would optimize the construction cadence that
would work best with the challenges of break up and freeze up.
CO-CHAIR TARR recognized Representative Millett.
SENATOR MICCICHE thanked them for the meeting in Nikiski, adding
that there is more work to do.
SENATOR MEYER said they mentioned having to cross several
streams and wetlands and asked how the "Stand for Salmon"
initiative impacts the project if it passes.
MR. RICHARDS answered that the ADF&G permitting system works
currently, and the initiative adds more regulatory actions and
uncertainty, which translates into additional construction risk
for the project.
9:35:35 AM
REPRESENTATIVE BIRCH said the 2020-2030 forecast demand growth
world-wide for LNG is about 20 bcf/day, but projects that are
under construction and consideration are approximately 100
bcf/day, five times the forecast demand growth and asked who
looks at that competition objectively? Where do we measure up?
Does FERC play a role?
LEIZA WILCOX, Vice President, Economics and Communication,
Alaska Gasline Development Corporation (AGDC), answered that
FERC does not look at the worldwide demand and supply for the
project, because all the LNG projects are visibly selling into
the market and all markets will have more opportunities behind
the scenes than the actual demand, because that is the nature of
competition. The Department of Energy in granting export
licenses has to make sure that U.S. demand is satisfied. So,
Alaska LNG, when it was granted the 30-year license, went
through that test.
9:37:41 AM
SENATOR VON IMHOF asked her thoughts on an article in the front
page of today's paper saying that renewable resources are
decreasing in cost and that LNG projects around the world are
renegotiating their contracts to try to lower their costs, also.
MS. WILCOX answered that renewable resources are clearly a huge
growth area but still take up a very small portion of the
worldwide energy demand. However, they have been beating
forecasts in rate of growth. A huge portion of the energy mix is
still coming from coal and nuclear power, but nuclear power is
being phased out in several countries. Also, renewable resources
frequently, while taking up a large portion of the demand, are
not rate baseload sources of energy and as coal is being phased
out, natural gas is replacing that baseload as the cleaner fuel.
There is no question that renewable resources on some level will
compete with all energy sources, but in the market the buyers
are still very interested in clean natural gas, primarily to
replace the baseload of power generation from coal and in some
cases, nuclear.
REPRESENTATIVE TALERICO said Mr. Richards mentioned that 80
percent of the corridor is covered by the Corps of Engineers
currently and asked if the Corps is actively looking at the
other 20 percent of the route in the SEIS.
MR. RICHARDS answered that they are looking at the remaining 20
percent right now.
CHAIR GIESSEL announced that the committee would now move on to
the marketing and finance update, the meat of today's
presentation.
9:41:24 AM
MS. WILCOX said to make sure she covered all the overall
messages she would highlight the major commercial and financial
milestones and activities taken since she was last before the
committee. The major announcement has been securing the first
set of binding terms on a gas sale and a "gas purchase for major
gas sale" between BP and AGDC that was reached in May. Work is
progressing on detailed agreements with BP and the other major
suppliers for the project. This sets the stage for major
analysis and decision making on the royalty gas, as well.
The other milestones on the financial front are the engagement
of Goldman Sachs and Bank of China as capital coordinators for
the project. These parties have been brought up to speed on the
details of the project and are now working on the next level of
detail on project financial models with those parties as well as
legal and finance counsel. All of this is in preparation for the
initial look at the project by the financial investors for
equity considerations, and she expects a work product to come
out at the end of the 3rd or 4th quarter.
MS. WILCOX said she will highlight for this body the initial
overview of the project. Just like they have to do with the
market in Asia, they need to get the potential investors who
will need to go through due diligence familiar with the project,
as well.
She would also provide slides on the evolution of AGDC's
economic and financial modeling as they get more detailed and
more specific to the project structure and she would finish
reviewing the steps AGDC has taken to cooperate with the state
agencies that are doing their own evaluation of their key
decisions as well as the evaluation on the overall financial
impact of the project on the State of Alaska.
9:44:54 AM
Slide 11: Balancing three drivers in the evolution of the
economic and financial modeling
MS. WILCOX said all infrastructure and resource development
projects have similarities. Three key drivers have to be
balanced to make the project economic. One group is customers
who want the competitive price. They are looking at the variety
of projects in the market and comparing them to each other. That
price has to be competitive for the long term. They look at
other factors such as proximity, reliability, political
stability of the suppliers, diversification of their portfolio
(key consideration for customers that rely on the LNG as their
baseload for power), but price in the end is the major factor.
Another group that needs to be satisfied is the resource owner,
the State of Alaska, and the lessees on the North Slope that are
selling their gas. So, the price of the gas has to be sufficient
to justify its production.
The third group is financing, and the price needs to be adequate
for debt and equity market returns. Risks and returns have to be
balanced.
9:46:43 AM
Slide 12: Economic Value Drivers
MS. WILCOX said the illustration shows the impact on project
economics from various components of the value chain. Some
things have a very large impact on project economics and cost of
supply such as market price, but AGDC has very little influence
over them.
The things the State of Alaska will focus on are major decisions
associated with payment in lieu of tax (PILT) and the upstream
gas price to the extent that it's involved in the RIK/RIV
deliberations, key decisions on which the legislature will have
a large degree of influence. They are key to everything else on
the project.
MS. WILCOX said on the surface the PILT has the lowest impact on
project economics just because the per unit number is the lowest
of all the factors. However, 100 percent of that payment goes to
Alaskan communities and the State of Alaska, one of the reasons
that even though AGDC is the current owner of the project, is
exempt from property taxes. That factor has been in all of their
models, economics, and negotiations. The upstream gas price, for
example, while potentially a higher number than that, only a
quarter of it ultimately goes to the state.
9:49:29 AM
Slide 13: Status of Agreements
MS. WLCOX explained that they look at the agreements with the
market as having a key assumption in the split as to where the
LNG is going. So, they are progressing the anchor capacity of
roughly 75 percent, which the party in the joint development
agreement (JDA), Sinopec, still expresses interest in with the
JDA parties. Roughly 75 percent of the LNG exported from Nikiski
would go to that anchor customer.
She said the other 25 percent of LNG exported (net of in-state
gas) is reserved for any of the other customers. They have 15
letters of intent and MOUs signed and expect a subset of these
agreements will be turned into definitive agreements. Some very
high-quality parties are in that stack and the quality of the
party, the credit worthiness of the buyer, the ability of the
buyer to commit for the long term, the price offered, and the
speed with which they are willing to move on the definitive
agreement will all be part of the decision-making on which ones
of these are going to become definitive agreements. Goldman
Sachs and Bank of China are going to be engaged in the step by
step in all of these discussions to vet the contracts to make
sure the contracts can ultimately be financed, because the
purchase of LNG contracts ultimately is what will backstop the
financing.
MS. WILCOX said she had already made most of the points on slide
14, other than to say they had a meeting with a work team of
about 40 people in March, but that is hardly the only
interaction they have had with these parties. They had good
meetings at the World Gas Conference two weeks ago where JDA
parties affirmed their desire to conclude the definitive
agreements this year. They have worked through a framework
period of defining their roles and worked through major project
due diligence. Currently, they are helping Sinopec interact with
the producing companies to conduct due diligence on the
resource.
9:51:28 AM
Slide 15: Gas Supply Agreements
Additionally, Ms. Wilcox said, they consider gas supply
agreements key to the next step in the project financing, which
is the raising of equity, and that is why they have been very
focused on this for the first half of the year. Because the gas
supply is coming from two anchor fields and LNG can go almost
anywhere in the Asian market, but the gas can only come from two
places for the financing period of the project, it is clearly a
key consideration for financing of the project.
Slide 16: Modeling Status and Development
MS. WILCOX said when they started their modeling it was focused
on a tolling structure, which is still the underlying structure
of the project: so, that the mid-stream invests and receives a
toll for capacity. While the commercial structure has shifted a
bit to have a gas purchase and an LNG sale component in it, they
have been modifying and basically making the models more
sophisticated. So, the basic cash flow numbers they shared with
the legislature came from that generation of models prior to
Goldman Sachs coming in and starting the work on conducting due
diligence and making sure the model is detailed enough to be a
true project finance model. That work is now on-going, and she
expects that as they roll out that first equity look at the
project in 4th quarter it will be presented with that new
generation of numbers behind it with a new level of detail. As
they go along the investment model becomes more complex and
includes more detailed assumptions and has more oversite by the
capital coordinators such as Goldman Sachs. In addition, the DOR
has full access to information in the model and state agencies
are doing their own evaluation of the project.
9:54:05 AM
MS. WILCOX said slide 17 had nothing particularly new on the
model structure; they are current inputs. However, the in-state
number should be $500 million not $600 million. The assumption
will remain the same broadly but the level of detail in the
model will increase. AGDC's price expectation is $8.00-$9.00
delivered to Asian, with $0.80 shipping (for 15-20-year offtake
agreements).
9:55:34 AM
SENATOR VON IMHOF had a question on slide 14. The middle of the
page says Sinopec is on track for 75 percent of the project
offtake. What does this exactly mean? Is there an exchange for
what? And is there a minimum offtake that they must take at any
point?
MS. WILCOX replied that means they could take up to 75 percent
of the three-train export volume from Nikiski. Roughly speaking,
if the maximum capacity of the three trains is 10 million tons
per year, they would sign up for 15 million tons of it. That is
an indication of what they are willing to sign an offtake
agreement for. There may be some downshift provisions in an LNG
agreement, some come in on the Gulf Coast contracts, but for
greenfield facilities they are generally limited, because every
greenfield facility needs to know that it can pay for its
financing. The banks that are financing 75 percent of the
project cost through the debt will make sure that those
agreements contain the appropriate take or pay provisions to
ensure that financing.
9:57:22 AM
SENATOR VON IMHOF said that answered everything except for in
exchange for what. Would Sinopec pay a tariff in order to cover
the cost of that in exchange for what, a slightly smaller price
at the pump?
MS. WILCOX answered that the exchange will be for an LNG price.
Part of what they are seeking from the JDA parties in the deal
are beneficial financing terms from the Bank of China to allow
for a customer price that doesn't harm the project but provides
for a beneficial deal for the off-taker. It is frequently part
of LNG project financing that the buyer country banks step up
and finance on beneficial terms with buyer country off-takers.
To the extent there are savings from capital coming from China,
she would expect the buyer to take advantage of it but without
creating harm to the project.
9:59:47 AM
REPRESENTATIVE BIRCH said one of her slides indicated that the
lease price is the component that the state has the least
influence on but that it has the most impact and said as
recently as last week prices for gas in British Columbia (BC),
which is attempting export through Kitimat, were as low as
$0.82/mmbcf; Henry Hub was around $2.85 at the same time. Given
the sensitivity of price on making this project successful or
not, and 75 percent going to Sinopec, they witnessed dynamics in
the tariff world in terms of impacting Alaska seafood sales. He
asked how that risk is evaluated and who accepts that risk.
MS. WILCOX replied clearly for a project of this size the trade
considerations are key generally on the buyer's side, because
they are the ones needing to pay the tariff into the market. It
will be a consideration in the buyer's decision to conclude the
contract, because once it is concluded the price won't be
discounted for tariffs. She assumed they have similar
consideration for any of the source of LNG that they are buying,
because different countries have different issues. That being
said, this project is very well regarded in the government and
trade circles of both countries.
10:01:50 AM
SENATOR MICCICHE referenced slide 12 and said upstream prices
and gas sales agreements as one of the most impactful value
drivers and asked percentage of the required supply BP has
secured? How much further can a financing package move without
securing the additional minimum volumes. What kind of risk is
included in the JDA's to the state?
MS. WILCOX replied that BP is the working interest owner of
about 26 percent in Prudhoe Bay and 32 percent at Point Thomson.
So, BP's gas supply agreement reflects the full major gas sale
contribution from that working interest owner. The state's share
(RIK or RIV) is also within that working interest owner share.
So, in the end that gas will come as part of the RIV that BP
produces or if the state chooses to RIK it will have a separate
agreement for the purchase of that gas.
She related that they don't expect partial production out of the
fields. They expect all of the gas supply to come to the project
at the same time in those percentages. That is why they are
working diligently on the other gas supply, as well. They don't
expect any risks to the state to be present in the agreements
from the gas supply. How much risk the project will have is
subject to negotiation and they will certainly be working to
minimize that. Their project model expects to pass on the cost
of the gas supply to the customer to the extent there is any
requirements to buy a certain amount of gas at a certain price.
MS. WILCOX said that the financing is very much a matter of
degree. Just the fact of reaching this milestone is a benchmark
that a potential equity investor can look at and say okay the
project is making progress. Every time a milestone is reached it
de-risks the project. One-hundred percent of the gas supply
would have to be locked up in order to raise the post FID equity
to actually close the deal. It doesn't mean you can't keep
working on the terms, but those will be conditional. As more of
these agreements are concluded and included in the project
considerations, so the price and volumes and terms are known and
essentially, the financing will become more certain and cheaper.
10:05:36 AM
CO-CHAIR TARR recognized Representatives Rauscher and Ortiz and
Speaker Edgmon online. She asked for an update on the impacts on
the project of the President's trade conflicts with China.
MR. RICHARDS responded that steel pipe is included in President
Trump's tariff and that would be impacted. What they didn't see
particularly related to this project is module construction for
the plants and compressor stations. The modular units for
compressor stations were not in the code. China did not include
LNG in their tariff code, a positive sign. Alaska gas has high
visibility in China and hopefully will not be impacted much by
the tariffs.
SENATOR WIELECHOWSKI said for many years ExxonMobil testified
that the breakeven point on this project was $12 and asked what
the breakeven point is now and what would the tariff be. Also,
what return does he expect at $8 or $9 LNG purchase. What kind
of progress is there in the agreements for the minimum gas
supply?
10:08:42 AM
MS. WILCOX answered the fact that the breakeven point for the
project has gone from $12 to $8-ish is a reflection of the fact
that the commercial structure has changed. It is not just
through the state stepping in and continuing the project; it is
also through the fact that the project finance model is being
used for the entire project and seeks investors wanting a
utility-level rate of return rather than an oil and gas company
upstream rate of return, which requires a higher pricing in
order to execute the project in the competitive market. A
project finance structure is necessary in the current price
environment. It achieves a return of about 8-10 percent with
current assumptions. At $9, the return would be higher. The
state could invest in the project and if it chose to, that is
what it could expect that kind of return.
SENATOR WIELECHOWSKI asked what tariff she anticipates and what
progress they have had with other producers on the remaining
minimum gas supply agreements.
10:11:18 AM
MS. WILCOX responded by explaining the project setup: the
project buys the gas; it sells the LNG and receives a price for
the LNG and then it pays a toll. The toll to the project at the
price levels it can afford is somewhere around $6. The toll
generates the return for the project investor and covers debt
and operations. The pricing of the LNG gas supply agreements
need to be structured so that the seller of the LNG can afford
the toll and doesn't face excessive risk on downside prices.
Gulf Coast projects have covered this risk exclusively with
tolls in the pricing structure for the LNG. They have a
commodity price, which is indexed to Henry Hub and then they
have a tolling part of the project.
Progress they are making with the other major gas sellers: they
are nearing completion on the similar level of detail on the
binding terms that was concluded with BP, and in some cases, at
the same time they are negotiating detailed gas sales agreements
or sections of them, because not every producer has an interest
in including a term sheet and might go straight to a detailed
agreement, which takes longer.
10:13:14 AM
CHAIR GIESSEL asked for more detail on what expansion
opportunity is available to additional producers and the $1 to
$1 spread for wellhead gas purchase on slide 17. She then
invited the Department of Revenue to comment.
10:13:50 AM
MIKE BARNHILL, Deputy Commissioner, Department of Revenue (DOR),
said he organized his presentation around a progress report on
the five questions from the co-chair:
? DOR Fiscal Model(s)
? DOR Work Plan
? Overview of Risks to State of Alaska
? Payment-in-lieu-of-Taxes (PILT)
? Fiscal implications of Upstream Infrastructure Costs
He shared an organizational chart and said they are considering
consultants that the legislature funded for FY19 and that
several staff within the Tax Division are subject matter experts
for institutional knowledge and complex tax questions.
10:18:04 AM
MARIA TSU, Alaska Gasline Project Financing Specialist,
Department of Revenue (DOR), related her finance background of
about 20 years. She started as the project financing specialist
is February and works closely with the AGDC team half the time
and with the Department of Revenue and DNR staff for the half of
her time. Close cooperation has proved to be very beneficial to
what DOR is trying to achieve in terms of understanding all the
moving parts of this project.
10:19:52 AM
Slide 4
MS. TSU said she would provide an update on the various models
DOR is responsible for and their goals, which are to provide an
objective view of project posed in terms of the opportunity as
well as the risks to the state. They hope to evaluate the
various fiscal implications of the project for the state broken
into three different aspects. The first is if the state were not
a direct investor in the project, what kind of revenues flow to
the state from royalties, taxes, and PILT.
Second would be in the event the state does take an equity
ownership position, whether that is through an appropriation
made to AGDC where they invest in the project or otherwise
secure financing resources, or whether other state sources of
capital are invested in the project: what revenues would flow to
the state from that.
Finally, bringing the two pieces together they are looking at
the implications for the state's fiscal situation with or
without the project. The DOR is providing a role in evaluating
financial risks to the state and whether there are ways to
mitigate those risks. Finally, they see an important goal for
the DOR to assist the state and the legislature in making the
decision to invest in the project as an equity investor and what
the financing options would be.
10:22:36 AM
MS. TSU said several modeling efforts are under way. One is to
work with AGDC to model the project economics, which is
sometimes referred to as the mid-stream. A second model looks at
the up-stream in terms of implications for taxes and royalties
and the net revenues that would flow to the state.
The PILT needs its own special modeling effort: how it compares
to a property tax structure, the pros and cons of one approach
versus another, and the impacts on the project economics as well
as the payments to the state and communities.
Fourth is a fiscal model that provides an overview of how the
first three pieces work together and how revenues flow to the
state in the different scenarios.
A fifth model is of the broader economic benefits to the state
of Alaska, which would require additional consultant resources.
MS. TSU explained that they are approaching these models by key
functionalities: first calculate the economics of the project
around key assumptions and then do scenario analysis around the
base case assumptions. Conduct stress testing to better
understand risks and effectiveness of mitigation measures and
then review the benefits and the risks to the state.
10:25:19 AM
Slide 6 Status of DOR's fiscal models
MS. TSU said the DOR project model is still under development
and models the economics of the project to the state, so that
would be directly associated with the state's equity ownership
in the project, whether that is through AGDC or other state
investment, which could be other sources of capital appropriated
by the legislature, or other state funds which would have their
own fiduciary process to review the opportunity. She is engaging
with the outside consultant, Greengate LLC, who has a lot of
expertise in the area.
10:26:40 AM
The DOR royalty and tax fiscal model models the upstream, which
will focus on the royalty and tax and this is where the Tax
Division will be particularly helpful to the extent the DOR has
an existing fiscal model that is used to create the Revenue
Sources book every year as well as the forward-looking
projections to revenues. It's very detailed and seems like an
ideal tool for this purpose to provide the state a look at
assumptions with and without project scenarios. They are in the
early stages of assessing the data needs with the help of DNR.
MS. TSU said a vital part of the question that came to them was
to discuss the project benchmarks that DOR needs to complete its
work and she said in this endeavor it is helpful for her to
split her time with AGDC and have access to their model and
commercial teams. And as AGDC starts to finalize various
portions, to the extent that their model can closely model what
AGDC is doing will allow progress to be made. She said that
concludes her remarks on the modeling question.
10:28:49 AM
CHAIR GIESSEL thanked the department for answering each question
through the power point. She said Ms. Tsu's name was listed with
state employees who are not primarily AGDC employees who are
working part time or on call for AGDC it is important to note
that she works with AGDC but not for AGDC.
MS. TSU agreed and added that her role has evolved since she was
first hired. As time went on, it became clear that the DOR
needed its own modeling effort to model the questions the state
has and to address the issues that it is responsible for. They
also understand that given the importance of the state's role in
this project, there is a clear understanding that DOR needs
quite a bit of transparency into the project negotiations and
how things are structured.
CHAIR GIESSEL said she is comforted by that clarity, because Ms.
Tsu's role is to stand with the state, which is separate from
that semi-independent organization called AGDC. There is concern
that there is not an executive branch interference in what
should be a separate stand-alone entity called AGDC.
MR. BARNHILL remarked that this modeling effort is foundational
to everything the DOR is doing.
10:32:47 AM
REPRESENTATIVE BIRCH said one of his concerns is over the "push"
to compel an investment by the Alaska Permanent Fund Corporation
in a project that may not have been fully vetted. Part of that
concern is offset by the prudent man investment rule that
governs the fund's investments. He asked if Ms. Tsu could
explain her understanding of this rule as it relates to
responsible investment decisions by the Permanent Fund board,
based on her experience with the fund.
MS. TSU explained the concept like this: as the Permanent Fund
considers a particular investment opportunity, they consider how
a similarly situated investor with similar opportunities would
see that as an investment to undertake, whether it's beneficial
in the context of the overall diversification in the portfolio
structure to ultimately achieve the investment results that they
are looking for.
10:35:28 AM
CHAIR GIESSEL went on to question 2 about Alaska's potential
investment.
MR. BARNHILL said the second question is to describe the DOR's
work plan and the department looks to authorities that are set
out in law, regulations, and administrative orders (slide 7) to
define what their role is and therefore their work plan going
forward.
The first law that guides what they do is SB 138 that set out
five roles for DOR in conjunction with the AKLNG project. These
continuing tasks are: report to legislature on a range of
financing options for the state to invest in this project. The
DOR didn't participate in the development of the draft interim
report which was submitted to the legislature in 2015. That was
done under the auspicious of an investment firm called Lazard.
They did a very thorough analysis. SB 138 called upon the
department to submit that and they did. It also calls upon the
DOR to convert that draft interim report to a final report
submitted concurrently with when the DNR submits an agreement
under AS 38.05.020(b)(11) for legislative approval. A variety of
agreements are set out in that statute; for example, a gas sales
agreement to which the state is a party. They remain in constant
communication with the DNR; one way is with their weekly
meetings on Thursdays. At this point, they don't have Lazard on
contract, but they will bring someone on going forward.
Another point: submit a report to legislature on a plan and
recommend legislation to permit co-owners with the state in any
investment in the AKLNG project. SB 138 specified
municipalities, regional corporations and residents. Lazard's
report has some slides on this. The timing is concurrent with
the DOR submitting agreements to the legislature for approval.
There may be a scenario in which the DNR doesn't submit
agreements for legislative approval under that statute, and
everyone will find out at roughly the same time if that scenario
comes to pass. In the event it does, the DOR will still finalize
the Lazard report within a reasonable period of time and will
provide advice and recommendations to the legislature on co-
owner participation by municipalities, regional corporations and
Alaska residents. He assured them that they won't use that as an
opportunity to duck responsibilities.
MR. BARNHILL said the next goal is to consult with the DNR on
gas sales agreements under AS 38.05.020(b)(11) and they are
doing that.
Next, they are re-engaging the Municipal Advisory Gas Project
Review Board (MAGPR Board). He explained that SB 138 called upon
the governor to establish an advisory group made up of
representatives from the municipal community. By the time it was
passed, Governor Parnell had already established such a group
under Administrative Order (AO) 269 and that is where the
acronym comes from.
Both the AO and SB 138 task the governor with engaging with the
municipal community and asking this advisory group to report to
the governor on a number of items: should there be adjustments
or changes to the state's oil and gas property tax under AS
43.56, changes or adjustments to the municipal analogue to that
in AS 29.45, there should be an evaluation of the impacts of a
project like on municipalities.
10:43:05 AM
The MAGPR Board has 12 members and is chaired by the DOR
commissioner or his designee. Mr. Barnhill said he is currently
the commissioner's designee, but the board has not met in quite
a while. A report was submitted to the governor in early 2016
and it is posted on their website. People have asked what the
board plans to do, and the DOR needs to quickly "climb the
learning curve" on community impact issues as well as how PILT
works through the remainder of this year. Sometime in Q4 2018
they will engage with the board. They have had informal
communications with members of the municipal community and see
this as an opportunity for constructive engagement on these
issues. Various folks have indicated that there is a range of
perspectives on how PILT should be constructed, distributed,
allocated, and measured. The ability to achieve concrete
consensus in the municipal community may be strained, but that
doesn't mean they shouldn't engage with them, and they intend to
do that.
MR. BARNHILL concluded that is what they see as SB 138 tasks in
front of them and they are committed to fulfilling all of them
within the time specified.
10:45:16 AM
Outside the parameters of SB 138, Mr. Barnhill said, AGDC is
doing a "first equity look" at the end of this year. He
anticipates part of that will be an invitation to the state as
an investor to also take a look, and they want to be prepared
for that. Ms. Tsu is on staff to help with that effort.
The first step will be to identify and provide a recommendation
to the governor and the legislature on the sources of capital
that could be used to participate in the opportunity. Three
sources of capital are seen. They are not mutually exclusive and
can be used in combination. The biggest one is the $65 billion
Permanent Fund. He emphasized they don't speak for the Permanent
Fund; it has its own process, board, and authorities. Another is
the Retirement Management Board; the DOR sits on that board but
it doesn't control the decisions on how to invest in it. The
treasury staff is under the DOR commissioner's supervision.
MR. BARNHILL said various pots of money are invested under the
authority of the DOR commissioner and include the General Fund
(GF), the Constitutional Budget Reserve (CBR), and the Board of
Cost Equalization. There are dozens of types of funds and the
legislature's ability to appropriate from each of those varies
based on statute. To the extent they believe as part of
evaluating an opportunity to invest, the legislature should
participate through appropriation and the DOR will provide the
information on the statutes that govern that.
Second is issuance of debt: various entities within the State of
Alaska have been give the power statutorily to issue debt for
various purposes relating to the gas pipeline. The role of the
DOR in approving those may differ depending on the statute, but
that is a source of capital.
Finally, investment of state funds is separate from
appropriation of state funds. The Permanent Fund has the power
to invest its assets under its purview pursuant to the prudent
investor rule, its statutes, and its requirements for due
diligence. Likewise, the commissioner has the ability to invest
state funds - the CBR, the GF, and Power Cost Equalization -
pursuant to the requirements set out in statute with respect to
the commissioner's funds, the prudent investor rule, and the
fiduciary standard of care set out in AS 37.10.071. There are
also specific statutory authorities in some cases on what can't
be invested in. These used to be called the legal list, but in
most cases the legislature has dispensed with legal list
requirements in favor of the prudent investor rule.
Investing state funds without getting an appropriation from the
legislature has some substantial hurdles; the biggest one is the
due diligence and compliance with statutory duties.
10:50:25 AM
Finally, Mr. Barnhill said, every case needs an approval of a
fiduciary before an investment is made. This all begs the
question of what if they go through the whole analysis and the
fiduciary decides to pass on it. That is not necessarily the end
of the story. In some cases, the legislature still has the power
to appropriate state funds, but not for retirement system
assets. The legislature could return to some sort of a legal
list and authorize investment in a particular type of investment
so long as its compliant with the prudent investor rule and has
fiduciary approval.
MR. BARNHILL explained that he spent time talking about the
three approaches because this project has been on the radar of
every gubernatorial administration since 1977, and the
department is staffing up to provide recommendations at the
appropriate time.
The next point is to identify and recommend a capital structure,
and Ms. Tsu has expertise in how to combine these sources of
capital, particularly debt and equity, that make the most sense
and achieves the best return at the lowest cost of capital.
10:53:18 AM
SENATOR WIELECHOWSKI said in the last presentation they were
trying to get the price of state participation down to around
$6-$10 billion.
MR. BARNHILL responded that $44 billion is what they are using
for a total project cost, and at 25 percent, the State of Alaska
would be investing $11 billion. Within that $11 billion is where
structuring analysis would be done on debt versus equity.
SENATOR BISHOP commented that one of the most important things
the state can do is the modeling, and asked how it is weighted:
on the side of caution or optimism?
MS. TSU replied that it starts out by being objective in terms
of taking the base case set of assumptions based on the most
likely set of commercial terms that AGDC is looking to negotiate
and then looks at sensitivities around those assumptions. Having
an experienced LNG project finance expert, such as Greengate
LLC, who works with other government sponsors of the LNG
projects, they have the perspective of the lenders who tend to
be banks and very risk averse. He brings that perspective to the
table. He spent two days with staff last week and one of the
work plans they discussed was after building the mechanics of
the model and looking at base case assumptions that there would
be an effort to calibrate the model to current market conditions
and try to be as realistic as possible about available financing
and make other adjustments in terms of trying to inject some
realism. For instance, projects like this have delays and it's
reasonable to look at a set of assumptions where construction
delays occur and how that impacts the project economics.
In conclusion, she didn't want to say whether the modeling is
optimistic versus pessimistic. It's trying to be objective and
realistic, and then having the benefit of an expert consultant
to guide assumptions that are reasonable in the marketplace, and
then looking at a reasonable set of stress conditions that could
cause the project to experience downside risk and what that
would mean for the state.
10:57:45 AM
MR. BARNHILL added that between the Permanent Fund and the
retirement system the state has about $90 billion of capital
invested in various capital markets around the world. It's not
unusual to evaluate investments in "bite sizes" of $1-$500
million. For every one of those proposed investments, there is a
standard and very rigorous set of due diligence practices that
are applied looking at risks. Ultimately, you are trying to
answer the question: is the projected return commensurate with
the expected risks and are you being compensated for the risk?
Risk is wanted in an investment context, he said, but the state
needs to be adequately compensated for it. That is where it gets
the bang for the buck.
10:59:03 AM
SENATOR STEDMAN said some are concerned about the state's
exposure as an equity investor, because it's normal for mega
projects to go over by 20 percent - if it's only 20 percent it's
a success and it's not so good if you're over by 100 percent.
Once you are in, you are in. He knows AGDC has put in
contingencies, but that is different than cost overruns, and $10
billion isn't out of the realm of possibilities. How can they
factor in the state exposure at capital calls if they draw on
the Permanent Fund or some other fund?
MR. BARNHILL agreed absolutely that cost overrun is a risk and
remembered the TransAlaska Pipeline System (TAPS) ended up going
three times over the original estimate. That risk has to be
evaluated. The downstream ramifications of cost overruns will be
part of the analysis. Additional state liability with respect to
equity exposure in this project is probably a question for the
Department of Law. Probably the more this project can be
constructed in a way that is non-recourse to the state, the
better.
11:01:43 AM
CO-CHAIR TARR said if the state takes over the project, the
return on investment can be lower than with previous partners
and asked if the department uses a standard rate of return on
investment in the evaluation. Is it anticipated that there will
be additional joint venture agreements to put the overall
financing package together and what responsibility would the
state have to those other entities?
MS. TSU answered that the return to the state must be
commensurate with the risk. To the extent the state is
potentially taking a lot of risk on this project just by the
nature of it being a green field project, it should be
compensated. A project can be de-risked by setting up key
milestones to meet as it progresses, and as the project is de-
risked the level of return the state might expect to receive on
a going forward basis might be less than at a very early stage
of the project when risks are quite high. "So, there are ways
the state can potentially get comfortable with accepting a lower
return, for example, by waiting until more of the milestones are
met and more of the project is de-risked..."
MS. TSU said she thought the state would have to participate in
order to move the project forward, to prevent the state's equity
interest from being diluted, and for the state to not lose
control of the project. The construction development is one of
the high-risk phases of the project. For example, if the state
would make an investment in the project when it is largely de-
risked, at that point it can evaluate a solid projection of
returns to the project and potentially get comfortable with
making an investment in the project where it would be expected
to earn infrastructure-like returns of mid to high single digits
with a very stable inflation protected revenue stream. She
summarized that the risks to the state depend on what phase of
the project the state decides to invest in and the returns need
to reflect that level of risk.
CO-CHAIR TARR asked if she was talking about the CBR or other
opportunities for investment; did she evaluate those as just
that entity participating in a lump sum sort of way or is it
anticipated that there would be other business arrangements. For
example, AGDC has already formed other subsidiaries for some of
the work. How complicated does the structure get as these
different things are evaluated?
MS. TSU responded that how the state invests will depend on a
legal structure that holds the state's investment. If it's
through an appropriation, AGDC in some ways represents the legal
structure through which that investment is made. Similarly, if
one of the other funds would make an investment a legal entity
would have to be created to hold that structure. If it's a
source of capital that is not the state, it is AGDC's
responsibility to form whatever structures, joint ventures, or
limited liability vehicles needed.
CHAIR GIESSEL noted that Ms. Tsu was referring to the risk chart
on slide 11, which they wouldn't get to today.
SENATOR STEDMAN followed up that the Permanent Fund is the
ultimate backup plan the state has for its pension plan,
economic mayhem, or whatever may happen to us, and the AGDC is
insulated from the Permanent Fund, the CBR, the pension plan and
any other asset they may have. Anything AGDC owns, the state
owns, too. And since Arctic projects have a higher probability
of substantial cost overruns in the billions, he asked if the
department could in its analysis isolate the Arctic projects
from other world-wide projects. He summarized: "I don't mind
betting the cow, but there is no way I'm betting the farm."
11:09:26 AM
MR. BARNHILL responded that he would take his advice to heart.
CHAIR GIESSEL asked if he had any closing remarks.
MR. BARNHILL said he would go into more of the minutie of the
investment analysis process, but one concept he wanted to
introduce to the committee is the "investment policy statement,"
which looks at things like the investment horizon, asset
allocation, and appropriateness for particular types of
investments for different investment horizons.
CHAIR GIESSEL thanked him for his presentation and asked whether
the DOR in collaboration with the 3rd floor is planning to
propose any statute changes related to this project. Also,
Senator Stedman pointed out that there was a clear wall between
the AGDC and the State of Alaska and asked what scenario might
pierce that corporate veil and make the state liable for any
kinds of lawsuits or cost overruns.
MR. BARNHILL said that answer would come from the Department of
Law.
CHAIR GIESSEL said she would pose it to them and get the answer
to the committee. She thanked the department for the work they
are doing and related her confidence and trust.
11:11:59 AM
CHAIR GIESSEL welcomed the Department of Natural Resources (DNR)
to present saying they are responsible for safeguarding the
molecules. She noted a list of questions that were posed to the
department that they would be answering in their presentation.
11:13:00 AM
ANDY MACK, Commissioner, Department of Natural Resources (DNR),
said their presentation was based on seven questions in the
letter they received on June 26. (slide 2) The first 10 slides
addressed question 1 and there is no slide on question 7. He
thanked the legislature for the funding appropriated in this
year's budget and said having it is critical to moving forward.
The reason they have a lot of work to do is that they are very
optimistic about what they see happening. A joint development
agreement was signed that was the result of the Governor making
a very clear and strategic decision to go into the market and
find out what it might be interested in buying and how they
would view the State of Alaska and the resource that was in
place.
He was able to travel to Asia with the Governor for a couple of
days that resulted in the JDA the included the endorsement of
President Xi. It is a significant and strong indicator that
large companies - Sinopec, Bank of China, and CIC - are
interested in engaging in Alaska. Critical in the paradigm shift
is that the old process looked at an equity-based model which
required a certain level of return, particularly for the three
companies involved in that project. The risk profile of the
project has shifted entirely and 75 percent of the project cost,
if they can get to an agreement, is borne by the debtor.
The JDA is great and the announcement on May 7 that BP and AGDC
had come to some agreement regarding term and price was
critical. DNR had not experienced that event, and it caused them
to focus very clearly on defining their obligation. This
presentation is about the determination of RIK or RIV. Slide 9
describes where they stand in the process.
COMMISSIONER MACK asserted that the prudent investor rule for
the Permanent Fund is in AS 37.13.128. He is on the Board of
Trustees for the Permanent Fund and as such, he thought it was
premature to talk about the source of state funding as it had
not been discussed. He cautioned against speculation.
He said slide 3 illustrated the DNR team organizational chart.
When he came into this job in 2016, the existing team was
constructed to participate in the integrated AKLNG project and
was no longer needed. That team basically stood down while the
important pieces were retained. Black & Veatch was part of the
old team and is still on contract. He said $750,000 is going to
be used to supplement some of the contracts, which were cobbled
together to keep the process going. So, they might report back
that they are funding other contractors as needed.
Slide 4 shows the DNR's broad framework. Their obligation is to
maximize the value of the state resource. So, it is forward-
looking. It's something that every administration does, and they
take their responsibilities seriously. They are engaged in
extensive due diligence to enable a sound decision regarding
determination of RIK or RIV. This includes project modeling,
understanding project structure, and engaging with producers and
AGDC. He said the general best interest of the state statute,
which is unrelated to royalty sales and AGDC is covered in
AS.38.05.180(a) on slide 4 and that slides 5-10 will be covered
by Mr. Wiggin, and Mr. Wright will cover the rest.
11:21:17 AM
MARK WIGGIN, Deputy Commissioner, Department of Natural
Resources (DNR), said he would present DNR's stance on ongoing
efforts to analyze, support, and advance the AKLNG project. His
entire presentation would address question one of the seven
question from June 26. He said the flow chart on slide 9 would
help them understand DNR's statutory obligations as part of this
process. He said the legislature also has a role in reviewing
the DNR best interest finding process and pointed out key blocks
in the RIK/RIV process where the legislature could intervene.
MR. WIGGIN explained that this very good chart laid out three
paths: RIV, RIK, and the amending of the leases process, which
came out of SB 31.
Back to slide 5, on the potential RIK/RIV decisions. He said it
will not be "selection of" but rather "the determination of"
what is in the best interest of the state (should it take
royalty as gas or take royalty value from the AKLNG project in
monies). The second very large decision, which is somewhat of a
subset, is would DNR seek to agree to amend the leases per SB
31. The lease amendment process enshrined in SB 31 includes
particular items:
-Eliminating switching between RIK and RIV within the leases,
which the state now has the option of doing every six months.
-Establish a valuation methodology for RIV production. The
current evaluation methodology is a "higher of methodology." The
question is "is that the best and does it fit the project
structure."
-Issues related to royalty raised from net profit-sharing rates
(NPSR).
The third bullet on slide 5: should the process result in RIK as
being in the best interest of the state, then obviously they
will engage further discussions about gas sales terms and
ultimately gas sales agreements. This has begun already with a
draft term sheet.
The fourth bullet: should the process result in RIV, they will
have to engage in this valuation process in terms of how to
value production from the working interest owners, which isn't
simple.
11:28:28 AM
Slide 6: If RIV is determined, the legislature can revoke it. If
RIK is determined by the DNR commissioner to be in the best
interest of the state, the RIK contract will likewise be subject
to the Oil and Gas Royalty Board and the legislative process.
MR. WIGGIN said DNR will conduct and issue a Lease Modification
Best Interest Finding (BIF) for either RIK or RIV. Per current
leases, the state can switch between RIV and RIK on six months'
notice. If the determination is made that RIK is in the best
interest of the state, they will be in a position where (based
on all conversations and assumptions) AGDC will buy the state's
royalty gas volumes through a non-competitive process. The state
is very familiar with this and so is the legislature.
Slide 7: The best interest finding for this particular appraisal
will include:
-Price
-Impacts on state economy
-Impacts on private investment
-In-state needs for gas
-Local investment and jobs
-Social and environmental impacts
11:33:00 AM
Slide 8: The lease modification process was enshrined in SB 138
and permitted DNR to change lease terms potentially to advantage
the project. In doing so, there will be a very rigorous best
interest finding. The assessment will include:
-Confirmation that eliminating the switching between RIK and RIV
will materially improve the likelihood and success of the gas
project.
-The gas project will have to confirmation that has sufficient
financial commitment for a work plan and budget for major
permits and regulatory filings.
-The project has sufficient gas commitment from the lessees.
-Each lease will produce hydrocarbons that will be transported
by the gas project during the initial project term. (This has to
do with making sure that all leases are producing volumes of gas
to support the project.)
MR. WIGGIN said that was the end of his presentation and asked
for questions.
REPRESENTATIVE JOSEPHSON said in the original SB 138 model the
25 percent share was derived because they figured that was the
aggregate of 12.25 percent plus a 13 percent severance tax. He
asked if the lease modification on slide 8 could adjust the
royalty rate to a different figure altogether.
MR. WIGGIN replied that the main lease modification that would
take the vast majority of time is the issue of switching from
RIV to RIK. The royalty rate issue is not that significant. The
producers have expressed interest in the state selecting one and
sticking with it for the additional project term.
11:36:59 AM
COMMISSIONER MACK stated that with the knowledge that there is
an actual understanding between AGDC and BP on term price, they
have spent a great deal of time in evaluating moving forward on
their RIK determination. He said the RIK process is pretty well-
known. A royalty contract is run through the Royalty Board and
the legislature has the opportunity to vote for or against a
royalty contract.
What is the legislature's authority in an RIV situation? Does it
have the ability to object? Commissioner Mack answered that a
process is in place for an RIV selection, but the state's
priority is RIK. If they don't take RIK, they have to inform the
legislature of the RIV determination by letter in March 2019. If
they do so, they have to submit it at the start of the
legislative session per AS 38.05.182(a). then there is an open
period under AS 38.05.182(b) for 60 days in which the
legislature by concurrent resolution can revoke the
determination to select RIV. That would send the whole process
back to the starting line.
COMMISSIONER MACK said the confidentiality agreements are a
specific item in SB 138 (AS 38.05.020(b), section 12, and his
team has talked directly with the working interest owners and
focused on what they prefer and whether they need an absolute
decision on switching and other upstream questions. And as Mr.
Wiggin mentioned, they have been in direct dialogue with AGDC
about a gas sale for DNR; the most important parts of that are
term and price.
11:41:56 AM
CHAIR GIESSEL asked if the Prudhoe Bay leases have any
peculiarities that relate to the RIV/RIK determination.
COMMISSIONER MACK answered he thought not, but a more important
question from his perspective is the settlement agreement around
PTU. He anticipates discussions around that agreement and
binding it with what is going on in the project and what is
called for in SB 138 regarding switching. The basic thesis at
Prudhoe Bay is the royalty set out in the leases.
CHAIR GIESSEL said there is some controversy over where field
cost allowances come in in terms of deductibility to the
royalty. She understands that a disagreement exits between DNR
and some producers, and he is now a decision-maker in that.
COMMISSIONER MACK responded that he couldn't comment on that.
CHAIR GIESSEL asked him to explain the implications of field
cost allowance deductibility.
COMMISSIONER MACK replied there is a question on appeal to the
commissioner's office that primarily concerns leases, which are
not subject to current field cost allowance agreements or
settlements in other units. The question is the amount of
expenses if deducted and applied and their timing on state
finances.
CHAIR GIESSEL asked if field cost allowances are deductible
against royalty for oil or gas could have a material effect
going forward.
COMMISSIONER MACK replied that he couldn't comment on that,
because the issue is before the commissioner now, but that could
be one of the potential considerations.
11:45:44 AM
REPRESENTATIVE BIRCH said the Corps of Engineers released the
final SEIS on the Alaska Standalone Pipeline Project in June,
and within a week the administration attempted to intervene on
their independent assessment through an Environmental Impact
Statement (EIS) on the Pebble Project. As the only mining
engineer in the legislature, he was concerned about the process
he went through in evaluating which projects are permitted to
have that independent Environmental Impact Statement (EIS)
assessment by the Corp and which are not.
COMMISSIONER MACK said the department did not intervene in that
process. They have a very long history in Alaska of taking
definite positions on a variety of projects. They are actually
cooperating in the Environmental Impact Statement (EIS) he is
referring to. "We believe every project across the state has to
stand on its own merits," he said. There are a variety of
considerations:
1. Can it be done environmentally?
2. Does it have support from the state or the locality where it
is occurring?
3. Does it make financial sense for the state?
He explained that in 2017 the department provided a permit for
the project, and in 2018 another application contemplated some
84 holes to be drilled and those was permitted, as well. They
were very careful in ensuring that the project proponent was
mindful of the district's concerns. In 2018, they were
determined to be a cooperating agency in the process and asked
local communities and tribes to consider the scoping period but
got to the point where they didn't understand the size of that
project, because it had changed from older proposals.
11:49:52 AM
SENATOR MICCICHE said his question is about timing and DNR's
collaboration with DOR. While they are largely supportive of the
project, there is the upstream exposure to 35 percent deductions
on capex, O&M, the carry forwards losses, and the pre-'79 leases
for royalty on those costs to worry about. He asked if anything
is left in the early years to consider on RIK and RIV and how
DNR is dovetailing with DOR. Can you deliver some comfort that
collaboration is taking place and is there a point where he can
share with the legislature that both departments are comfortable
with the exposure in what may be remaining for the state's
share?
COMMISSIONER MACK responded that DNR and DOR have an excellent
relationship. They actually have a scheduled meeting every
Thursday with an open agenda. The obligation is in statute and
the process is often discussed at length. They are also very
cognizant of the requirement of many parts of the law including
SB 138 where it says "DNR in consultation with DOR shall or
may." Those words are repeated in that particular law about a
half dozen times.
SENATOR MICCICHE asked where the remaining revenue is on the
priority list of both departments.
COMMISSIONER MACK replied that they are getting ahead of
themselves in the process. They have been focused on the
determination of an RIK or an RIV. Once that is done, the
question is what is in the best interest of the state and if
revenue is being derived from AGDC and the sale of the royalty
gas, how that is harmonized and explained, and they just haven't
gotten there. However, they recognize it as a tension between
the need of the project to be financial and the obligation in
the constitutional and statutory requirement for DNR to maximize
the value of the resource. He said they would see the
departments doing their job to get to some decision points on
RIV/RIK. They will have to have additional discussions with AGDC
and they will have to report back to the legislature on what
they think their ability to provide income to the state is.
Those revenues will be in a very detailed discussion.
11:53:51 AM
MR. WIGGIN added that they had all asked themselves the same
questions. The organization chart illustrates a very good group
of commercial analysts at DNR, along with commercial consultant
from Black & Veatch who were on the prior version of the
project. Along with DOR staff are working this issue together.
Their commercial modelers have met and will be meeting
continuously to make sure to understand the issues related to
deductibility, etc. Part of Mr. Wright's presentation talks
about things like modeling.
CHAIR GIESSEL asked him to elaborate on slide 12 that talks
about risks and negative netback. Perhaps that draws in Senator
Micciche's question. She was interested in number 3 that says
the amount of state risk can be controlled by having a minimum
price provision.
11:55:09 AM
STEVE WRIGHT, Consultant and Advisor, Department of Natural
Resources (DNR), Anchorage, AK, answered they had been looking
mechanisms for mitigating risk associated with the project.
Slide 12 focuses on the opportunity and risk mitigation efforts
that are currently under way. When the JDA team signed the
agreement that really kicked off a new phase of the project for
DNR of identifying potential buyers and investors to the
project. However, the issue around risk exposure is one that DNR
has been working on for many years. Under the old equity model,
it was a significant effort by the commercial team and that has
carried over now with the commercial analysts in the Division of
Oil and Gas working with Black & Veatch. They have done the
modeling which the commissioner and deputy commissioner both
referenced. That information is on slide 10 and there isn't time
to address it now.
Negative netback risk mechanisms to mitigate that risk are front
and center on their priority list, Mr. Wright said. One is
developing a gas supply agreement with AGDC that allows setting
a minimum price provision. That would essentially set a floor
that would ensure that DNR's revenue from royalty gas sales, and
potentially TAG gas sales, would never fall below a minimum
level. This would be a significant mechanism for mitigating
negative netback risk. Another way of doing that is by electing
RIV rather than RIK, because in that scenario the state can
never receive zero or negative royalty value.
CHAIR GIESSEL said a zero netback is alarming and unacceptable.
MR. WRIGHT replied that their modeling will have a range of
probabilistic outcomes on what that could entail if the
department didn't have a minimum price provision in our
contracts. They are focused on that aspect of the project and
are looking to work with DOR and AGDC and their modeling efforts
to ensure they are using similar assumptions, using ranges of
uncertainty, in that quantitative modeling that assures that the
range of outcomes are being fully captured.
CHAIR GIESSEL said that was interesting especially in light of
the fact that AGDC talks about meeting the market's price, which
is getting lower as the supply increases. She said this
legislature has concern on behalf of the citizens of Alaska that
they will actually get significant value from a very significant
project. She remembered the workforce that appeared here during
TAPS construction: the impact on schools and health care, etc.
and wants to make sure all of that is mitigated and still come
out cash ahead.
12:00:07 PM
CHAIR GIESSEL said they are at the end of their time and invited
committee members to offer questions in writing; she had two.
They have heard about more than 600 water body crossings and she
wanted to know what his level of tolerance is for their impacts
on fisheries. Some other projects have had a zero tolerance on
fisheries. She had also asked DNR to comment on any potential
legislation they might be collaborating on with the third floor
related to this project in terms of increased authority or
responsibility.
12:01:39 PM
CO-CHAIR TARR said Representative Millet had a question on the
next milestones and their timelines.
12:02:20 PM
CHAIR GIESSEL thanked all of the departments and entities that
presented today and adjourned the Joint Senate House Resources
Committee meeting at 12:02 p.m.