Legislature(2007 - 2008)BELTZ 211

05/07/2007 01:30 PM Senate JUDICIARY


Download Mp3. <- Right click and save file as

Audio Topic
01:35:30 PM Start
01:36:04 PM Spencer Hosie: Duty to Produce
02:25:49 PM Kenneth M. Minesinger:antitrust Matters
02:40:05 PM William H. Sparger: Construction Issues, Economic Certainty and Financial Risks
02:54:49 PM Rick Harper: Independent Advisor to the Legislature
03:19:13 PM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ Presentations: TELECONFERENCED
Spencer Hosie: Duty to Produce
Rick Harper & W.H. Sparger: Pipeline
Economics
+ Bills Previously Heard/Scheduled TELECONFERENCED
                    ALASKA STATE LEGISLATURE                                                                                  
              SENATE JUDICIARY STANDING COMMITTEE                                                                             
                          May 7, 2007                                                                                           
                           1:35 p.m.                                                                                            
                                                                                                                                
MEMBERS PRESENT                                                                                                               
                                                                                                                                
Senator Hollis French, Chair                                                                                                    
Senator Bill Wielechowski                                                                                                       
Senator Lesil McGuire                                                                                                           
Senator Gene Therriault                                                                                                         
                                                                                                                                
MEMBERS ABSENT                                                                                                                
                                                                                                                                
Senator Charlie Huggins, Vice Chair                                                                                             
                                                                                                                                
COMMITTEE CALENDAR                                                                                                            
                                                                                                                                
Presentations:                                                                                                                  
     Spencer Hosie: Duty to Produce                                                                                             
     Rick Harper and W.H. Sparger: Pipeline Economics                                                                           
          HEARD                                                                                                                 
                                                                                                                                
PREVIOUS COMMITTEE ACTION                                                                                                     
                                                                                                                                
No previous action to record.                                                                                                   
                                                                                                                                
WITNESS REGISTER                                                                                                              
                                                                                                                                
Spencer Hosie                                                                                                                   
Hosie McArthur LLP                                                                                                              
San Francisco, CA                                                                                                               
POSITION STATEMENT:  Discussed the duty to produce                                                                            
                                                                                                                                
Kenneth M. Minesinger, Attorney                                                                                                 
Greenberg Traurig                                                                                                               
Washington D.C.                                                                                                                 
POSITION STATEMENT: Discussed gas pipeline economics.                                                                         
                                                                                                                                
William H. Sparger                                                                                                              
Energy Project Consultants, LLC                                                                                                 
Colorado Springs, CO                                                                                                            
POSITION STATEMENT: Discussed gas pipeline economics.                                                                         
                                                                                                                                
W.R. Harper, Consultant                                                                                                         
Econ One Research, Inc.                                                                                                         
Los Angeles, CA                                                                                                                 
POSITION STATEMENT: Discussed gas pipeline economics.                                                                         
                                                                                                                                
ACTION NARRATIVE                                                                                                              
                                                                                                                                
CHAIR  HOLLIS   FRENCH  called  the  Senate   Judiciary  Standing                                                             
Committee meeting to order at 1:35:30  PM. Present at the call to                                                             
order were  Senator Wielechowski,  Senator Therriault,  and Chair                                                               
French. Senator McGuire arrived shortly thereafter.                                                                             
                                                                                                                                
^SPENCER HOSIE: Duty to Produce                                                                                                 
CHAIR FRENCH  announced the committee  would hear from  Mr. Hosie                                                               
about the duty to produce.                                                                                                      
                                                                                                                                
1:36:04 PM                                                                                                                    
SPENCER HOSIE,  Founding Member  of Hosie  McArthur LLP,  said he                                                               
was asked to testify on the  subject of duty to develop under the                                                               
Alaska lease  form specifically, and  oil and gas  law generally.                                                               
He began  with an outline of  his background in the  area and the                                                               
perspective he brings to the  duty to develop question. He's been                                                               
an oil and gas lawyer for about  25 years and he began his career                                                               
working for  the State of  Alaska on what  was then known  as the                                                               
Amerada Hess  case. His company now  runs a national oil  and gas                                                               
practice from San Francisco representing  both private and public                                                               
royalty owners.  For about  a decade  he has  served as  the lead                                                               
outside lawyer for  the State of Louisiana in  its energy matters                                                               
related   to  litigation   and   regulation.   The  company   has                                                               
represented  the State  of Hawaii  and has  also worked  with the                                                               
U.S.  Department of  Justice in  federal royalty  matters in  the                                                               
whistleblower  context. Over  the last  several decades  he's had                                                               
the  opportunity to  see  and  review millions  of  pages of  oil                                                               
company documents.  Some that were  produced in  litigation. From                                                               
that he  has a deep  and detailed understanding of  the processes                                                               
that oil companies  bring to the question of  a capital intensive                                                               
upstream  investment. That  includes what  matters, what  doesn't                                                               
matter,  why things  get built,  and why  other things  don't get                                                               
built.  "And  it's that  perspective  that  I  bring to  duty  to                                                               
develop," he stated.                                                                                                            
                                                                                                                                
1:38:01 PM                                                                                                                    
MR. HOSIE said  that with regard to the substance  of the duty to                                                               
develop, it's  necessary to  understand the  basic nature  of the                                                               
relationship  that an  oil and  gas creates  between the  royalty                                                               
owner  and  the oil  producer.  That  relationship is  profoundly                                                               
unlike  a  traditional  arms-length commercial  relationship,  he                                                               
stated.  The process  begins with  a landowner  with real  estate                                                               
that  may  or  may  not   have  mineral  resources.  Because  the                                                               
landowner  doesn't  have the  knowledge  or  expertise to  drill,                                                               
explore,  develop  and  market the  hydrocarbons  that  might  be                                                               
found, the  landowner needs  a partner  that has  that particular                                                               
set of skills. Of course, that is a major oil company.                                                                          
                                                                                                                                
MR.  HOSIE  explained that  the  landowner  and the  oil  company                                                               
execute an oil  and gas lease, which is often  a short and simple                                                               
contract to govern a relationship over  50- to 70- years. In that                                                               
relationship the  landowner contributes  the real estate  and the                                                               
oil  company contributes  the  promise to  use  its expertise  to                                                               
explore and  develop the  property diligently  and to  market the                                                               
production for  the mutual benefit  of the landowner  and itself.                                                               
That's the deal  that the oil company strikes to  get the initial                                                               
lease, he stated. As a  consequence of making that promise, which                                                               
includes the  promise of diligent development,  the oil companies                                                               
get most  of the value  of the  production. In Alaska,  under the                                                               
Division of Lands 1 Lease Form  (DL1), the oil companies get 87.5                                                               
percent of the value of  the production while the state's royalty                                                               
share is  12.5 percent. That  is low under modern  standards, but                                                               
it was the norm  when the DL1 lease form was  drafted in the late                                                               
1950s.                                                                                                                          
                                                                                                                                
MR. HOSIE  emphasized that the  main point is that  the producers                                                               
get the  lion's share of the  value because of the  promises they                                                               
make  to get  the initial  lease.  That includes  the promise  to                                                               
explore, to develop, and to market  for the mutual benefit of the                                                               
royalty owner and the oil company.                                                                                              
                                                                                                                                
1:40:35 PM                                                                                                                    
MR.  HOSIE informed  members  that for  decades  the courts  have                                                               
recognized that  an oil and  gas lease creates a  relationship of                                                               
mutual  interdependence  and  mutual benefit.  Importantly,  that                                                               
means that  the oil company  that is under  a lease is  no longer                                                               
able  to make  decisions based  on its  unilateral economic  best                                                               
interest. "It can't  say 'This is how we make  the most money; we                                                               
want to spend  our dollars here and not there.'"  Rather, it must                                                               
make development  decisions based  on both  its interest  and the                                                               
economic  best  interest of  the  royalty  owner. They're  in  it                                                               
together and that covenant to  make decisions based on the mutual                                                               
best  interest of  both parties  is a  promise the  oil companies                                                               
make in the initial lease agreement, he stated.                                                                                 
                                                                                                                                
MR. HOSIE said  that the economic interests of  the royalty owner                                                               
are often times  fully aligned with the economic  interest of the                                                               
oil company.  For example,  both are  interested in  high prices;                                                               
high  prices are  good for  the  oil company  and the  landowner.                                                               
However,  under some  circumstances  the  oil company's  economic                                                               
interest diverges  from the royalty owner's  economic interest. A                                                               
key  instance  where that  happens  is  with development.  Almost                                                               
invariably the  landowner wants their property  developed and the                                                               
hydrocarbons  produced and  sold, because  that activity  is what                                                               
generates the  royalty check.  "After all, they  went to  the oil                                                               
company  in  the  first  instance  precisely  to  have  the  land                                                               
developed and the property producing  and the hydrocarbons sold,"                                                               
he stated.                                                                                                                      
                                                                                                                                
MR. HOSIE explained that sometimes  an oil company is disinclined                                                               
to  develop and  produce--at least  right now.  For example:  the                                                               
company  might be  long on  a particular  resource so  it doesn't                                                               
value it  right now;  the company  might be  capital constrained;                                                               
the company might have a lot  of capital, but for various reasons                                                               
it  might want  to spend  it elsewhere.  "If you're  a major  oil                                                               
company with  a development opportunity  in Kazakhstan  or Qatar,                                                               
if you  don't spend your  dollars there,  if you don't  move that                                                               
project forward there's  likely to be an  unhappy consequence for                                                               
you. You have to go forward in those jurisdictions," he stated.                                                                 
                                                                                                                                
MR. HOSIE  relayed that another  reason for not  developing right                                                               
now is that the company might  have high internal hurdle rates or                                                               
ROI that,  as a corporate  policy, governs all investment  in the                                                               
company.  The  internal  hurdle  rate could  be  30  percent,  40                                                               
percent, or as  high as 45 percent and it  won't invest any money                                                               
in an  upstream project unless  it believes it will  achieve that                                                               
return. "That  may be its internal  hurdle rate and if  a project                                                               
is only 25  percent profitable it's not going to  pass the gating                                                               
test and won't get built," he stated.                                                                                           
                                                                                                                                
1:44:09 PM                                                                                                                    
MR. HOSIE said that for any  number of reasons an oil company can                                                               
decide  not  to  spend  money on  development  right  now.  Those                                                               
decisions   might  be   perfectly  sensible   and  from   company                                                               
perspective that  may be the  right decision. But that's  not the                                                               
right  question with  regard to  the duty  to develop.  The right                                                               
question there is, "Is the project  in Alaska, on its own merits,                                                               
reasonably  economic."  If it  is  reasonably  economic, the  oil                                                               
company has an  obligation to go forward. That's  how the implied                                                               
duty to develop solves this  conflict between a royalty owner who                                                               
wants his/her  field produced  and an oil  company that  wants to                                                               
spend its  dollars somewhere else.  Duty to develop  solves that.                                                               
It  says,  "If  the  project is…on  its  own  merits,  reasonably                                                               
economic, you  have an obligation  to go forward."  He emphasized                                                               
that  goes back  to  the  basic bargain  that  the royalty  owner                                                               
struck  with the  oil  company  to get  the  first lease  signed.                                                               
"That's the promise the oil company made then."                                                                                 
MR. HOSIE stated  that in this instance, the oil  company went to                                                               
the state  and said it would  produce diligently and that  is why                                                               
it  got 87.5  percent.  The oil  company said  it  would use  its                                                               
expertise to  explore, develop, and  market the  production. That                                                               
is  why  the oil  company  gets  the  lion's share.  "Those  were                                                               
promises they  made to get the  leases in the first  instance and                                                               
it is  inconsistent--with that bargain long  since struck--for an                                                               
oil  company 30-years  down the  road to  say, 'Oh  incidentally,                                                               
this project may be reasonably economic,  but we think we can get                                                               
a  bigger  bang  for  our  buck in  Kazakhstan  or  Qatar  or  in                                                               
Mississippi, or in  East Texas.'" That isn't  the right question,                                                               
he emphasized.                                                                                                                  
                                                                                                                                
1:46:23 PM                                                                                                                    
MR.  HOSIE said  he thinks  about it  in terms  of the  following                                                               
analogy. Toyota is thinking of  building a manufacturing facility                                                               
in one  of five  or six  southern U.S. states.  It goes  to those                                                               
states and  asks what  incentives they can  provide Toyota  so it                                                               
builds  the facility  in one  state as  opposed to  another. That                                                               
leads to a reverse auction--or  race to the bottom--to find which                                                               
state can  put together the  most attractive package  of economic                                                               
inducements  so that  Toyota builds  in one  state as  opposed to                                                               
another. Say  Kentucky wins that  race to  the bottom and  cuts a                                                               
deal with  Toyota, but as part  of the deal Kentucky  gets Toyota                                                               
to  agree  that if  the  first  plant  is successful  and  Toyota                                                               
decides to  build a second plant,  it must build it  in Kentucky.                                                               
Toyota made that  promise as part of the original  deal. "That is                                                               
exactly what the duty to development  is under the Alaska deal on                                                               
lease  form,"  he  emphasized.  If  an  Alaska  gas  pipeline  is                                                               
reasonably profitable on  its own merits, then  the oil companies                                                               
have an  obligation to  go forward  even if  more money  could be                                                               
made elsewhere.                                                                                                                 
                                                                                                                                
MR.  HOSIE said  he  noted  yesterday that  Exxon  has spent  $41                                                               
billion in the  last two years buying back its  stock on the open                                                               
market. It's  doing that to drive  the Exxon share price  up, and                                                               
Wall Street  loves that. It  shows fiscal discipline,  it reduces                                                               
outstanding shares,  and the value  of the remaining  shares rise                                                               
showing  that Exxon  is  a good  and  promising investment.  From                                                               
Exxon's  perspective that  may be  a rational  economic decision.                                                               
But  when you  ask  whether  they have  an  obligation to  commit                                                               
dollars to  a particular development  project, it  doesn't matter                                                               
if they believe they might be  better off buying back $41 billion                                                               
of their own stock. He again  emphasized that, "If the project is                                                               
economic on  its own  merits they have  an obligation,  under the                                                               
deal they entered into…to build the project."                                                                                   
                                                                                                                                
1:49:10 PM                                                                                                                    
CHAIR FRENCH asked  if he's saying that the industry  might be in                                                               
the  position that  it has  to build  a pipeline,  or is  it more                                                               
accurate to say that  they have to be in a  position to sell into                                                               
an economic pipeline.                                                                                                           
                                                                                                                                
MR. HOSIE  suggested that he  is really asking what  remedies the                                                               
royalty owner  has if there is  a breach of the  duty to develop.                                                               
To begin with, he said, litigation  is never the first option and                                                               
rarely  is it  a  good  option. "A  company  can  force you  into                                                               
litigation if it  wants to, but that's not really  where you want                                                               
to  be."  Fortunately though,  in  the  duty to  develop  context                                                               
there's  a  better remedy.  If  the  oil  company refuses  to  go                                                               
forward  with a  development  project because  it  says it's  not                                                               
economic,  then  it must  give  the  resource  back. There  is  a                                                               
consequence  to saying  the project  isn't  economic, he  stated.                                                               
Once an oil  company says a project isn't  economic, the resource                                                               
reverts to the  royalty owner. Then the resource owner  can go to                                                               
a different  oil company that  may have  a greater need  for that                                                               
production  now  as  opposed  to some  years  later.  That's  the                                                               
royalty owners right.  He reiterated that the first  remedy is if                                                               
the oil company doesn't want to  build a pipeline, then they have                                                               
to give the resource back so  it can be relet through another oil                                                               
company that  is willing  to build a  pipeline on  your schedule.                                                               
"That is the important remedy here," he stated.                                                                                 
                                                                                                                                
MR.  HOSIE  explained that  if  a  third  party with  the  means,                                                               
desire, or ability to build a  pipeline goes to the producers and                                                               
if  the producers  refuse to  commit gas  at a  reasonable market                                                               
price, then  the producers violate  the implied duty.  They're in                                                               
violation  because  effectively  that  bottles  up  the  resource                                                               
indefinitely. The  courts call that in-ground  warehousing. It is                                                               
speculative warehousing  of a hydrocarbon. "If  you're Exxon with                                                               
a lot of gas  on line, maybe that's a good thing  for you, but it                                                               
is not a good  thing for the royalty owner that  needs the gas to                                                               
be produced to generate revenue now."                                                                                           
                                                                                                                                
MR. HOSIE said  the short answer is that the  right remedy is not                                                               
to spark  a complicated  litigation. The right  remedy is  to ask                                                               
for the  resource back. It's really  that clear in the  law; they                                                               
can't have it  both ways. In this  state they have to  move it or                                                               
lose it,  he said. If  a third party  is willing to  come forward                                                               
they can't say they won't build  the project and also not sell it                                                               
to someone that is willing to build it.                                                                                         
                                                                                                                                
1:52:59 PM                                                                                                                    
SENATOR WIELECHOWSKI  said a concern  he has relates to  the need                                                               
to reinject the gas to produce the oil.                                                                                         
                                                                                                                                
MR. HOSIE  agreed it's  an important  consideration and  if there                                                               
are  conservation and  field preservation  reasons  that make  it                                                               
imprudent to  sell gas  because it  would impede  oil production,                                                               
that is  a legitimate reason for  a producer to say  no. However,                                                               
in that  situation the economic  interest of the oil  company and                                                               
the  state  are  aligned.  Both   parties  have  an  interest  in                                                               
preserving  the   field  and  certainly  the   AOGCC  would  have                                                               
something  to say  about  that  if someone  were  of a  different                                                               
perspective.  "But  that's…not…the   problem  here.  The  problem                                                               
here…is that you don't have a  pipeline cuz Exxon doesn't want to                                                               
build a pipeline-not yet."                                                                                                      
                                                                                                                                
SENATOR WIELECHOWSKI  noted that recently all  the producers came                                                               
forward  and said  they would  not put  a bid  in under  AGIA. He                                                               
asked if he believes that is  a violation of the leases they have                                                               
signed with the state. What  action would you recommend the state                                                               
take?                                                                                                                           
                                                                                                                                
MR. HOSIE replied  it may be a violation of  their duty to market                                                               
and it may be a violation of  the promises they made to the state                                                               
a number  of years ago. "I  think the right action  for the state                                                               
is  to avoid  complicated, expensive  litigation." Instead,  tell                                                               
the  producers they  can't  have  it both  ways.  If they  aren't                                                               
willing to build the pipeline then  they must commit to tender it                                                               
at  market price-with  AOGCC concerns  covered-to  a third  party                                                               
consortium. If  they aren't willing  to do that either  then they                                                               
should  be told  they  forfeit  the resource.  "Otherwise…they're                                                               
just bottling  it up indefinitely  and that is contrary  to every                                                               
tenet of oil and gas law in this country," he stated.                                                                           
                                                                                                                                
1:55:10 PM                                                                                                                    
SENATOR McGUIRE  said she thought Senator  Wielechowski was going                                                               
mention the issue  of the unit agreement on the  North Slope. She                                                               
asked  if he  had  reviewed aspects  of  that and  if  he had  an                                                               
opinion as  to whether there  would be  a violation of  that unit                                                               
agreement if one or two of  the three producers made the decision                                                               
to  commit  their  gas  in  the form  of  a  firm  transportation                                                               
commitment.  If they  do she  believes there  might be  antitrust                                                               
issues  there.  "You  have  a unit  agreement  that…on  its  face                                                               
precludes any movement from that basin," she stated.                                                                            
                                                                                                                                
MR.  HOSIE said  the antitrust  question is  interesting and  the                                                               
state has  looked at  that in  past years in  the context  of its                                                               
prior  issues  with  the  oil  companies  in  terms  of  how  the                                                               
production  is  marketed  and how  royalties  are  reported.  The                                                               
question  was:  Were   they  acting  in  concert   to  report  an                                                               
artificially depressed  price? In terms of  the current contract,                                                               
if  the  producers  act  together  to not  take  advantage  of  a                                                               
reasonable market activity, that could  be a violation of Section                                                               
1  of the  Sherman Act.  It  prohibits concerted  action for  the                                                               
purpose and with the effect of sustaining or maintaining prices.                                                                
                                                                                                                                
MR. HOSIE said the second point is  that the fact that there is a                                                               
unit  agreement that  requires  unitary action  is  itself not  a                                                               
legal  or antitrust  issue. Unit  agreements are  pro-competitive                                                               
and good  for both the oil  company and the landowner.  "You want                                                               
there  to be  a unit  with a  unit operator  that runs  the thing                                                               
sensibly to make  sure that there isn't waste in  the field." The                                                               
more sensitive  point is whether  the oil companies  have reached                                                               
an  agreement between  and amongst  themselves to  stand together                                                               
and say "No." to reasonable market  activity or options such as a                                                               
willing third  party. "That  is something they  would have  to be                                                               
careful about," he stated.                                                                                                      
                                                                                                                                
CHAIR FRENCH  advised that  Mr. Minesinger  will talk  more about                                                               
antitrust.                                                                                                                      
                                                                                                                                
SENATOR WIELECHOWSKI asked if he has  an opinion as to whether or                                                               
not the AGIA process is  the appropriate approach. "If the leases                                                               
are interpreted that way you're saying,  it would seem to me that                                                               
we  don't need  AGIA-that we  don't need  the incentives  and the                                                               
inducements."                                                                                                                   
                                                                                                                                
1:58:29 PM                                                                                                                    
MR. HOSIE said it is the  correct approach; the $500 million is a                                                               
catalyst  to  try to  get  a  third  party  to get  past  certain                                                               
regulatory hurdles  to make  it a reality.  "It's in  the state's                                                               
interest  to  do  that  to  make that  happen."  And  it  doesn't                                                               
undermine the  larger legal point,  which is that the  state does                                                               
have the  benefit of  the duty  to develop  and the  producers do                                                               
have the  obligation to move it  or lose it. They  don't have the                                                               
option  to warehouse  the resource  in  the ground  and wait  for                                                               
something to change, he stated.                                                                                                 
                                                                                                                                
MR.  HOSIE  said the  legal  question  asks  if this  project  is                                                               
economic,  so  it's  essential  that  the  state  know  what  the                                                               
producers really think about this.  It's not just the negotiating                                                               
posture that  should be evaluated  here because these  are people                                                               
who negotiate for a living. He  said he noted recently that Exxon                                                               
told  the Securities  and  Exchange Commission  in  its 2005  K-1                                                               
annual  report  that  the  Pt.   Thomson  Unit  was  economically                                                               
feasible  that  year  based  on 2005  prices  and  economics.  He                                                               
continued to say:                                                                                                               
                                                                                                                                
     That  is in  their 10-K.  Why is  it there?  Because in                                                                    
     2005 Exxon  changed its accounting for  its capitalized                                                                    
     Pt. Thomson costs. And it  changed its accounting under                                                                    
     FASB-Financial Accounting  Standards Board-Standard 19-                                                                    
     1, which  lets a  company undertake  a certain  type of                                                                    
     accounting  only if  it concludes  that the  project is                                                                    
     economically feasible based on  then current prices and                                                                    
     conditions-FASB  19.1. Exxon  made that  conclusion and                                                                    
     its auditors-Price  Waterhouse Cooper  (PwC)-signed off                                                                    
     on it and it's footnoted in their 10-K.                                                                                    
                                                                                                                                
     That  is what  Exxon really  thinks about  Pt. Thomson.                                                                    
     Exxon  is   not  misleading  the  SEC.   Exxon  is  not                                                                    
     misleading Wall Street. Exxon's  position may have been                                                                    
     a little  different in its negotiations  with the state                                                                    
     in  years past,  but those  are negotiation  positions.                                                                    
     You expect them to  be forceful in negotiations. That's                                                                    
     what they do for a living.                                                                                                 
                                                                                                                                
     The point…is that it's essential  that the state really                                                                    
     know what  these companies  think about  their upstream                                                                    
     economics.  They  have  documents, they  have  upstream                                                                    
     investment  guidelines that  govern  where they  invest                                                                    
     money  and what  the gating  hurdles are  and what  the                                                                    
     return investment has  to be for them  to green-light a                                                                    
     project. These  companies are companies  with processes                                                                    
     that  govern these  activities. And  it's all  there in                                                                    
     their internal documents.                                                                                                  
                                                                                                                                
2:01:36 PM                                                                                                                    
SENATOR WIELECHOWSKI said that after  sitting through about seven                                                               
weeks of  this process  he knows  that he  and others  have asked                                                               
repeatedly  what  they want  and  whether  this is  a  profitable                                                               
project. We  haven't gotten a  whole lot of straight  answers, he                                                               
said. Do  you have any suggestions  that this body can  do to get                                                               
the  information?  In  your  opinion  are  we  entitled  to  this                                                               
information  under  the  leases?  Should  we  be  requesting  the                                                               
information in a more formal manner?                                                                                            
                                                                                                                                
MR.  HOSIE  said you  are  entitled  to the  information.  That's                                                               
particularly so  if the  oil companies have  said the  project is                                                               
not economic unless  the state changes its  royalty percentage or                                                               
tax regime. "In  making those kinds of  requests-and I appreciate                                                               
that was in the  prior administration…the industry is essentially                                                               
trying  to recut  the deal."  He reminded  members of  the Toyota                                                               
analogy and  said if the  oil companies  are asking for  a change                                                               
then  it  seems  that  they  have an  obligation  to  show  their                                                               
internal  economic analyses  including their  upstream investment                                                               
hurdle rate documents. Those are  the ones that say, "Here's when                                                               
we  invest and  here's what  we need  to invest.  Here's what  we                                                               
think we  can safely warehouse."  The first thing an  oil company                                                               
thinks about  is what  happens if a  project isn't  developed. Is                                                               
there a  risk of losing it?  "My personal view is  that Exxon and                                                               
the others have not, until  very recently, considered the risk of                                                               
losing the  resource real  in the  state of  Alaska.…They thought                                                               
they could safely warehouse these resources here."                                                                              
                                                                                                                                
2:03:23 PM                                                                                                                    
SENATOR  McGUIRE, noting  that the  Chair  has the  power to  ask                                                               
witnesses to swear under oath  and the power to subpoena relevant                                                               
documents, asked  if it  might become  a political  question that                                                               
the court wouldn't touch, if  the oil companies failed to produce                                                               
the documents that were subpoenaed.                                                                                             
                                                                                                                                
MR. HOSIE  said he isn't  sure how  that would be  resolved under                                                               
Alaska  political law.  Other avenues  would be  to formally  ask                                                               
Exxon for  the documents  through new  or current  litigation, or                                                               
ask Exxon to  give him permission to show the  documents. He said                                                               
he can't show them without  permission because they were produced                                                               
under protective order, but he  does have them. All oil companies                                                               
have  internal  investment  guidelines; they  can't  do  business                                                               
without them. Given the fact  that you are interdependent, in all                                                               
fairness I think that you are entitled to see them, he stated.                                                                  
                                                                                                                                
2:05:00 PM                                                                                                                    
SENATOR THERRIAULT  noted that  for 30 some  years the  price was                                                               
such that  the project  was not  economic. Is  it with  the tacit                                                               
approval of  the landowner that  you're able  to go from  year to                                                               
year,  he  asked. At  what  point  does  the landowner  make  the                                                               
determination  that somebody  else should  have the  right to  go                                                               
forward?                                                                                                                        
                                                                                                                                
MR. HOSIE  said Pt. Thomson,  where a discovery well  was drilled                                                               
in 1977,  is a good  example. The unit  was created 30  years ago                                                               
and not a  drop or oil or  gas has been produced  from that unit.                                                               
For a long time the lack of  development may have been due to the                                                               
fact that  it wasn't economic.  "But certainly for the  past many                                                               
years it  has been economic to  do a project at  Pt. Thomson. And                                                               
the  state has  been slowly  escalating its  insistence that  the                                                               
producers move  the project forward." There  have been agreements                                                               
for drilling as  well as agreements on  expansion and contraction                                                               
financial  penalties,  so  it's  worth  looking  at  ExxonMobil's                                                               
performance  under those  agreements.  There  have been  multiple                                                               
defaults and they currently owe the  state $20 million. That is a                                                               
penalty  ExxonMobil  agreed  to  pay  if  it  didn't  do  certain                                                               
development. It  didn't do the  development and it won't  pay its                                                               
share of the  $20 million so there comes a  time when the royalty                                                               
owner is entitled to make the  oil company decide. If the project                                                               
is economic,  then move forward and  if you truly think  it's not                                                               
economic, then  let it  go. It's  the royalty  owner that  has to                                                               
make the call, he stated.                                                                                                       
                                                                                                                                
MR. HOSIE said  the duty to develop  is the law in  Alaska. It is                                                               
specifically referenced  in paragraph 19  of the DL1  lease form.                                                               
It clearly  says that further  development will be done  with due                                                               
regard "to  the interests of both  the royalty owner and  the oil                                                               
company."  That matter  was  litigated in  the  ANS royalty  case                                                               
where  Judge Carpeneti  decided that  there was  a full  array of                                                               
implied  duties in  Alaska  law including  the  duty to  develop.                                                               
"There's  just no  question  but  there's a  duty  to develop  in                                                               
Alaska,"  he stated.  The real  question  is will  the state  say                                                               
"Move it or lose it." if the  oil company says the project is not                                                               
economic.                                                                                                                       
                                                                                                                                
2:07:56 PM                                                                                                                    
SENATOR  WIELECHOWSKI asked  who would  have standing  to file  a                                                               
lawsuit ordering the producers to develop the resource.                                                                         
                                                                                                                                
MR.  HOSIE replied  a lawsuit  posing  that question  on the  Pt.                                                               
Thomson matter is  proceeding right now in the  superior court in                                                               
Anchorage.  A decision  was made  to  terminate that  unit as  of                                                               
December  2006 because  of inadequate  plans  of development.  He                                                               
noted that there  are procedural questions as to  which court has                                                               
jurisdiction  and what  the  proper sequence  ought  to be.  That                                                               
argument will  likely take the next  60 days. But the  state will                                                               
ultimately win the move it or lose it point, he stated.                                                                         
                                                                                                                                
SENATOR  WIELECHOWSKI  asked if  only  the  State of  Alaska  has                                                               
standing to bring  suit, or could the legislature  or any citizen                                                               
do so.                                                                                                                          
                                                                                                                                
MR. HOSIE said  he doesn't know, but DNR  certainly has standing.                                                               
As the  responsible agency  it has the  obligation to  police the                                                               
field  and the  plans of  development. If  it believes  there has                                                               
been a default,  then it has the obligation  to act appropriately                                                               
and require  the oil company to  cure the default, put  the field                                                               
in  production,  or  surrender  the leases.  "Right  now  DNR  is                                                               
actively…pursuing that  with the  full support and  assistance of                                                               
the  Department of  Law. That  is  underway as  I speak--for  Pt.                                                               
Thomson." Asking that  question will have a  clarifying effect on                                                               
the company's  willingness to commit.  "There's just  no question                                                               
but  that  Pt. Thomson's  economic.  They  will never  let  their                                                               
leases go."                                                                                                                     
                                                                                                                                
2:10:28 PM                                                                                                                    
SENATOR WIELECHOWSKI said he has  heard from some legislators and                                                               
from  the public  that the  producers wouldn't  say they  weren't                                                               
going to put in a bid unless  they really meant it. He noted that                                                               
Mr.  Hosie  has  an  impressive  resume,  "but  I  guess  from  a                                                               
negotiating  standpoint,  how  credible  is a  statement  from  a                                                               
producer when  they say  we're not  going to put  in a  bid under                                                               
AGIA?" Are they bluffing or are we negotiating?                                                                                 
                                                                                                                                
MR. HOSIE  said yes, you  are in a negotiation.  He said it  is a                                                               
mistake  to look  at  the oil  companies as  one.  They are  very                                                               
different  companies   with  different  needs  and   desires.  He                                                               
believes  Chevron  and  ExxonMobil feel  very  differently  about                                                               
Alaska development. So  would Shell, he added. "When  they take a                                                               
unified  stance in  a negotiation,  it is  important to  remember                                                               
that they  are very good at  speaking with one voice  to you, but                                                               
internally they  are kicking each  other under the table  all the                                                               
time." They  like to characterize  the state as  being litigious,                                                               
but that is  untrue. And they are very quick  to sue one another.                                                               
"It is just  part of the business  that they are in, and  it is a                                                               
negotiating tactic  to back the state  up on its heels."  It is a                                                               
negotiation, and "who knows what  they individually think and who                                                               
knows what they will do if you move forward anyway?"                                                                            
                                                                                                                                
SENATOR THERRIAULT  asked if it  would be  good to know  if other                                                               
companies had to try to buy  the acreage, because the company can                                                               
release it  back to the state  or sell to another.  He noted that                                                               
other companies  have approached ExxonMobil and  have been shooed                                                               
away.                                                                                                                           
                                                                                                                                
2:13:24 PM                                                                                                                    
MR. HOSIE  said absolutely  yes. "If you  have another  major oil                                                               
company, or  even a smaller  oil company  that has a  foothold in                                                               
the North  Slope and wants more,  if they're coming to  Exxon and                                                               
offering  to take  over the  Exxon leases  and pay  a significant                                                               
bonus, that's  because they think  it's an economic  project." He                                                               
has not doubt  that the state could generate  significant bids if                                                               
it relet the Pt. Thomson leases today with nine zeros.                                                                          
                                                                                                                                
SENATOR  THERRIAULT  said  that  back   when  Mr.  Hosie  made  a                                                               
presentation  to  the LB&A  committee,  the  committee asked  the                                                               
administration  for a  formal request  for  information from  the                                                               
companies  holding  the lease  acreage  and  suggested using  Mr.                                                               
Hosie's expertise on  what documents needed to  be requested. Did                                                               
they approach you about how to phrase such a request?                                                                           
                                                                                                                                
MR. HOSIE said no.                                                                                                              
                                                                                                                                
CHAIR  FRENCH  said  the  lynchpin  is if  the  gas  pipeline  is                                                               
economic.  He is  skeptical  that  the state  can  force the  oil                                                               
companies  to build  a pipeline,  but  seems that  the state  can                                                               
force the industry to sell into an economic pipeline.                                                                           
                                                                                                                                
MR. HOSIE said  the first thing that the state  is entitled to is                                                               
a hard, clear informed answer  from ExxonMobil about whether it's                                                               
economic.  "You are  entitled to  that at  a bare  minimum." They                                                               
have equivocated  because it's  a lose/lose  point for  them. "If                                                               
they don't want  to build it now, but prefer  to negotiate to see                                                               
how many inducements Toyota can  get in Kentucky, they don't want                                                               
to  say equivocally  we're not  going to  build it.  It's…we need                                                               
your cooperation;  we need some  inducements. On the  other hand,                                                               
if  they say  it isn't  economic, bluntly  and flatly,  then they                                                               
have  just proven  their way  out of  their leases."  So the  key                                                               
thing for  the state  to do  right away  is to  make them  take a                                                               
definitive position.  Ask them  to square  what they've  told the                                                               
state  with  what  they've  told  the SEC  in  terms  of  Exxon's                                                               
accounting for Pt. Thomson capital costs.                                                                                       
                                                                                                                                
CHAIR FRENCH said  he has gotten himself locked  into the mindset                                                               
that  he has  to prove  this affirmatively  and keep  marshalling                                                               
state  experts  and  outside  analysts  to  prove  that  this  is                                                               
economic, when  they have the  answer and we just  haven't forced                                                               
it out of them.                                                                                                                 
                                                                                                                                
2:16:39 PM                                                                                                                    
MR. HOSIE  said, yes and, "you  can't, as a royalty  owner, prove                                                               
it is  economic." The legislature doesn't  have that information.                                                               
"That's not  what you do.  That's why  you have them.  That's why                                                               
they're  getting   87.5  percent  of  production.   That's  their                                                               
expertise, and so the last thing  a royalty owner wants is a long                                                               
drawn out  litigation from  the oil company  about whether  a big                                                               
project is economic  or not." It's not the fight  you want or one                                                               
that you need to fight, he said.  You have to make them tell you.                                                               
"Are you  going to  build it or  you going to  give it  back?" If                                                               
they  give it  back,  the state  can release  to  a company  with                                                               
specific  timetables. That  is the  right of  the royalty  owner.                                                               
What is  improper is  that the  state has  been in  limbo through                                                               
these  interminable  negotiations  and sliding  down  a  slippery                                                               
slope.                                                                                                                          
                                                                                                                                
2:18:01 PM                                                                                                                    
SENATOR McGUIRE  said when a  licensee commits to build  the line                                                               
and  there becomes  an  economic  way to  transport  that gas  to                                                               
market  and one  of the  big three  companies won't  make a  firm                                                               
transportation   commitment,  "we   get  into   this  morass   of                                                               
litigation that  goes on for  years and  years and years,  and we                                                               
lose  opportunity."   What  about  expedited   consideration?  Is                                                               
anything like  that contained  in the  lease agreements?  Does it                                                               
already exist in  disputes governing the lease  itself? Can there                                                               
be a compelling  argument to the superior court that  this is the                                                               
kind of matter that needs to be expedited.                                                                                      
                                                                                                                                
MR. HOSIE  said he believes there  is nothing DL1 lease  form for                                                               
both the North Slope and  Pt. Thomson that compels arbitration or                                                               
provides  for  expedited  treatment.   There  is  absolutely  the                                                               
ability  to  ask a  superior  court  judge  to expedite  a  given                                                               
matter. The  state has emphasized  the need for  prompt treatment                                                               
in  the Pt.  Thomson case.  He said  Judge Gleason  is moving  it                                                               
forward very quickly  indeed. He said he thinks  the parties will                                                               
be deeply into the substance of the dispute in two months.                                                                      
                                                                                                                                
2:20:03 PM                                                                                                                    
SENATOR   WIELECHOWSKI  asked   the  definition   of  "reasonably                                                               
profitable."  He  has  asked  that  question  repeatedly  and  he                                                               
expects the answer to be that  they don't know because they don't                                                               
know what  the pipeline deal  is going to  look like. Is  it fair                                                               
because of the unknowns?                                                                                                        
                                                                                                                                
MR.  HOSIE  said reasonable  profitability  means  that they  can                                                               
build  the  project  out,  get  the  gas  market-ready,  with  an                                                               
expectation of  making a reasonable  return on  their investment.                                                               
It may  be six percent  or ten percent.  It isn't 30  percent, he                                                               
stated. If there is an internal  hurdle rate of about 20 percent,                                                               
it  can still  be  profitable at  half of  that.  Bond rates  and                                                               
investment  debt   are  what   a  court   looks  at.   There  are                                                               
uncertainties.  But   there  are  always  uncertainties   in  any                                                               
upstream oil  and gas project.  That is  the deal they  took when                                                               
they got  the lease.  "It's theirs  to develop  diligently." They                                                               
can't tell  the state to make  it risk free for  us, because that                                                               
is a  renegotiation the basic  deal by  which they got  the North                                                               
Slope leases, under  which they've taken hundreds  of billions of                                                               
dollars  of profit.  Yes, there  may be  contingencies and  risk.                                                               
Maybe gas will drop by 90  percent in three years. "I don't think                                                               
so." But  no one  can guarantee  that. "It's  not their  right to                                                               
insist that  the state compromise  its economic position  to make                                                               
their  business  riskless.  They're   getting  the  lion's  share                                                               
because they agreed to take the risk."                                                                                          
                                                                                                                                
2:22:42 PM                                                                                                                    
SENATOR  THERRIAULT   said  under   the  Stranded  Gas   Act,  AS                                                               
43.80.300, if  the administration is negotiating  a package under                                                               
that  act,   if  the  application  is   approved  the  respective                                                               
commissioners shall  require the successful applicant  to provide                                                               
financial,   technical   and    market   information.   "So   the                                                               
commissioner  gets to  determine what  information he  wants." If                                                               
the information  is not provided,  then the application  can't go                                                               
forward  under the  act. "Since  you  were part  of the  previous                                                               
administration, you had  done some work for them,  are you aware,                                                               
was such  a request ever put  into the producers to  see whether,                                                               
in fact, the economics of  this project were acquired, the things                                                               
that were being offered up?"                                                                                                    
                                                                                                                                
MR. HOSIE said he is not aware of any such requests.                                                                            
                                                                                                                                
SENATOR  THERRIAULT  said in  a  conversation  with the  previous                                                               
chief of  staff specifically on  the work  that you had  done, he                                                               
warned me that  there was a hole in your  argument. "He called it                                                               
a circular non-sequitur  that you get into some  little loop." He                                                               
asked what flaw he referenced.                                                                                                  
                                                                                                                                
MR. HOSIE said  no one in the prior  administration commented any                                                               
such  thing to  him.  If they  had thought  that,  he would  have                                                               
appreciating knowing. "I do not think  that there is." For an oil                                                               
and gas lawyer,  these are not abstract shades  of gray concepts.                                                               
There is a duty to develop and it  is in the DL1 lease form. They                                                               
do have the  obligation to go forward and if  they don't there is                                                               
price to pay:  they have to turn the resource  back to the state.                                                               
"Those are black letter rules of law."                                                                                          
                                                                                                                                
MR. HOSIE  said his  final point  is that  the producers  are all                                                               
very   different   with   fundamentally   different   views   and                                                               
willingness to go forward with a  project in spite of speaking to                                                               
the state with one voice.                                                                                                       
                                                                                                                                
^KENNETH M. MINESINGER:Antitrust Matters                                                                                        
2:25:49 PM                                                                                                                    
KENNETH M.  MINESINGER, Attorney, Greenberg Traurig,  said he has                                                               
practiced  before  the FERC  for  15  years representing  several                                                               
major gas pipelines  and other clients. He has tried  some of the                                                               
major FERC market power cases,  including cases around the recent                                                               
so-called "California energy  crisis." He has served  as chair of                                                               
the   Energy  Bar   Association  antitrust   committee  and   has                                                               
significant  experience on  energy-related antitrust  matters. He                                                               
said  he  will  cover  three   issues  today:  1)  antitrust  and                                                               
competitive problems  associated with a  producer-owned pipeline,                                                               
2) how AGIA  would largely fix or ameliorate  those problems, and                                                               
3) the question of  what if the producers fail to  bid in an open                                                               
season.                                                                                                                         
                                                                                                                                
2:28:10 PM                                                                                                                    
MR. MINESINGER said in 1977  the U.S. Attorney General found that                                                               
a producer-owned  pipeline would present serious  vertical market                                                               
power  issues   and  recommended  a  complete   ban  on  producer                                                               
ownership. The  issue is  that there would  be a  disincentive to                                                               
expand the line  to serve third party competing  gas supplies, he                                                               
said. He  addressed this in  a December 21, 2006  memorandum that                                                               
is on the Legislative Budget  and Audit website. The 1977 opinion                                                               
is  consistent with  subsequent  precedent of  the Department  of                                                               
Justice and  FERC dealing with  vertical market power  issues. It                                                               
is like  three trains  owned by three  companies and  one company                                                               
buys the one  bridge they all need to go  over. That company will                                                               
have an  incentive to  favor its  train and  discriminate against                                                               
its rivals. That  is what the attorney general  was talking about                                                               
in 1977. It boils down to expansion, delay, and access, he said.                                                                
                                                                                                                                
MR.  MINESINGER  said  a producer-owned  pipeline  would  have  a                                                               
disincentive to expand. AGIA, however,  fixes that because it has                                                               
a requirement that  if it's economic to do so,  the pipeline must                                                               
expand. If there are customers  willing to pay, the pipeline must                                                               
expand. AGIA  also requires that  the pipeline hold  open seasons                                                               
every two years.  AGIA addresses the issue of  delay by requiring                                                               
the winning  applicant to  hold an open  season within  36 months                                                               
and requiring  the applicant to  propose specific dates  by which                                                               
it will  file for a  FERC certificate and initiate  the prefiling                                                               
process. So AGIA goes a long  way in addressing the delay problem                                                               
with a  producer-owned line. AGIA  addresses the access  issue in                                                               
the  area of  rates. If  there's a  producer-owned pipeline,  the                                                               
producers (Exxon, BP, and Conoco)  would be indifferent to a high                                                               
tariff rate, because it is money from one pocket into another.                                                                  
                                                                                                                                
2:32:35 PM                                                                                                                    
MR.  MINESINGER said  AGIA requires  the pipeline  to have  lower                                                               
rates.  A 70/30  debt to  equity ratio,  for example,  drives the                                                               
rate lower  than if  there were  a higher  debt to  equity ratio.                                                               
AGIA requires  rolled-in rates. That's  related to  the expansion                                                               
issue where  the pipeline would be  required to roll in  up to 15                                                               
percent above  the initial rate.  Lower rates improve  access for                                                               
third parties,  like BG  or Anadarko.  AGIA establishes  an open,                                                               
competitive  process for  all parties,  unlike the  1977 attorney                                                               
general  opinion,  which  advocated   a  total  ban  on  producer                                                               
ownership.  AGIA  invites  the  producers into  the  process.  It                                                               
establishes  a  middle  ground   between  not  banning  them  and                                                               
negotiating with them exclusively. His  opinion on the failure to                                                               
bid  is similar  to Mr.  Hosie's. If  the failure  to bid  by the                                                               
producers were the result of  an agreement amongst the producers,                                                               
"you  could have  a very  serious issue  under Section  1 of  the                                                               
Sherman  Act."  It's  premature   to  go  beyond  that  regarding                                                               
antitrust issues. "We need to wait  and see what happens." We all                                                               
hope it will  be a successful open season no  matter who conducts                                                               
it,  he  stated.  The  documents  Mr. Hosie  spoke  of  would  be                                                               
interesting from  the duty-to-produce perspective and  they might                                                               
be  interesting from  an antitrust  perspective. But  we need  to                                                               
wait and see.                                                                                                                   
                                                                                                                                
2:35:28 PM                                                                                                                    
SENATOR THERRIAULT said he met  with him in Washington D.C. prior                                                               
to  writing the  memo for  LB&A.  "If there  is a  waiver of  the                                                               
earlier language  that said that  the producers should not  own a                                                               
part  of this  particular transportation  system, there  was some                                                               
concern that  that would not  necessarily satisfy  the Department                                                               
of Justice…and that there are  some turf battles that always goes                                                               
on between the…federal agencies. Just  because one has signed off                                                               
doesn't mean  the other  wouldn't be  putting a  proposal through                                                               
all these hurdles. And so if  I take your testimony correct…if we                                                               
did  have  a  producer  participating,  or  the  three  producers                                                               
participating together, in a proposal  under AGIA to be the owner                                                               
of the transportation  system, the requirements of  AGIA would go                                                               
a long way to satisfy that Department of Justice process?"                                                                      
                                                                                                                                
MR.  MINESINGER said,  "Correct,  and we  discussed  that in  the                                                               
memo."  He said  he is  glad  he mentioned  the waiver.  It is  a                                                               
detail that is covered in  his handout. The Reagan Administration                                                               
came along and  said that producers can perhaps  own the pipeline                                                               
so  long as  they satisfy  the FERC  that there  is no  antitrust                                                               
problem.  He said  in  2005  the FERC  Chair  said the  antitrust                                                               
issues  were  still valid  and  will  be  addressed in  any  FERC                                                               
certificate proceeding.                                                                                                         
                                                                                                                                
SENATOR  THERRIAULT  said, "So  that  would  be  part of  a  FERC                                                               
proceeding  that  would  invite  input  from  the  Department  of                                                               
Justice."                                                                                                                       
                                                                                                                                
MR. MINESINGER said it would  be a FERC certificate proceeding if                                                               
the  producers  win  the  AGIA license  or  otherwise  submit  an                                                               
application to FERC for a certificate  to build the line. At that                                                               
time  parties could  raise antitrust  issues. There  are multiple                                                               
agencies  and the  Department  of Justice  or  the Federal  Trade                                                               
Commission  could  show  interest,   particularly  if  there  was                                                               
evidence of joint agreement to not bid or other reasons.                                                                        
                                                                                                                                
2:38:57 PM                                                                                                                    
SENATOR THERRIAULT asked if there  is a potential antitrust issue                                                               
that AGIA doesn't speak to.                                                                                                     
                                                                                                                                
MR. MINESINGER said he thinks AGIA  speaks to the issues. He said                                                               
it  is  a middle  ground,  particularly  with access  issues.  It                                                               
significantly improves  the situation, short of  banning producer                                                               
ownership.                                                                                                                      
                                                                                                                                
^WILLIAM H. SPARGER: Construction  Issues, Economic Certainty and                                                               
Financial Risks                                                                                                                 
2:40:05 PM                                                                                                                    
WILLIAM H.  SPARGER, Principal, Energy Project  Consultants, LLC,                                                               
Colorado Springs,  Colorado, said he  has 35 years  experience in                                                               
natural gas pipelines and has  worked in project management, cost                                                               
control, engineering, and construction  management. He has worked                                                               
for two  major pipeline companies  in the United States.  He said                                                               
terminology  changes with  whoever is  speaking, so  he gave  the                                                               
following definitions:                                                                                                          
                                                                                                                                
   · Project: An assumed natural gas pipeline along the southern                                                                
     route through Alaska into Canada                                                                                           
   · Producers: The three existing North Slope oil producers                                                                    
   · North America: United States and Canada only                                                                               
                                                                                                                                
MR. SPARGER noted the following  unfounded "concerns" advanced by                                                               
primarily the producers:                                                                                                        
                                                                                                                                
   · Shippers bear all of the financial risks of the project                                                                    
     cost overruns.                                                                                                             
   · Producers must have economic certainty.                                                                                    
   · Producers are the only ones qualified to construct the                                                                     
     project.                                                                                                                   
   · Schedules with milestone dates drive up the project cost,                                                                  
     so firm dates are bad.                                                                                                     
                                                                                                                                
MR. SPARGER  said it is  simply not  true that the  shippers bear                                                               
all the financial risks of  cost overruns. Most new projects have                                                               
negotiated rates.  The rates are  negotiated between  the shipper                                                               
and the  pipeline company. Those rates  may be some form  of firm                                                               
transportation and  may take some  form of risk  sharing, whereby                                                               
the pipeline  company may take  some risk  of an overrun  and the                                                               
shipper may  take some.  "I think that's  what's going  to happen                                                               
with this project,"  he stated. He said he doesn't  know how that                                                               
risk sharing  will take  place, but  it is  a certainty  that the                                                               
shippers will not bear 100 percent of the risk of cost overruns.                                                                
                                                                                                                                
2:43:27 PM                                                                                                                    
CHAIR  FRENCH  said,  "What  you're saying  is  that  should  the                                                               
initial pipeline  tariff be  estimated at  $2.00 and  should cost                                                               
overruns  drive the  tariff up  to $4.00…that  full $4.00  tariff                                                               
isn't  just  automatically  passed  on to  the  shipper."  It  is                                                               
possible that  a shipper  could negotiate a  $1.75 tariff  in the                                                               
first place,  and then have  some protections from  assuming that                                                               
cost overrun tariff.                                                                                                            
                                                                                                                                
MR. SPARGER said that is  true. A multi-billion dollar project in                                                               
the Lower 48  (Rockies Express) has negotiated  rates. "And those                                                               
rates are, in  fact, firm, whereby the pipeline bears  all of the                                                               
risk of cost overruns."                                                                                                         
                                                                                                                                
CHAIR FRENCH asked,  "100 percent of the overrun risk  put on the                                                               
pipeline builder?"                                                                                                              
                                                                                                                                
2:44:47 PM                                                                                                                    
MR.  SPARGER said  yes.  He  referred to  the  idea of  producers                                                               
needing  economic  certainty.  That certainty  breaks  down  into                                                               
three areas, and one is supply  or upstream, and for this project                                                               
the supply  side is  as certain  as it gets.  "The gas  is there;                                                               
they know  it's there; they  know what the reservoir  looks like;                                                               
they know  within reason how  it behaves; and the  producers have                                                               
much more  economic certainty  on the supply  side than  most any                                                               
other producers  on normal projects."  A good example  is Rockies                                                               
Express  where  the  producers  signed  FTs  without  having  500                                                               
million per day to turn on-they  only think they will by the time                                                               
the  pipeline is  in place.  In Alaska's  case, about  "twice the                                                               
volumes that are  being talked about is being  recirculated as we                                                               
speak," he  explained. People are  talking about a  billion cubic                                                               
feet a day pipeline and over eight is being recirculated today.                                                                 
                                                                                                                                
MR.  SPARGER  said  that  the   negotiated  rates  will  mitigate                                                               
midstream cost overrun  issues. The market and  the downstream is                                                               
a  normal business  risk  faced every  day. If  you  look in  the                                                               
producer's  annual reports  or their  10-Ks,  it is  listed as  a                                                               
business risk.  It is  a risk  assumed all  over the  world every                                                               
day.                                                                                                                            
                                                                                                                                
2:46:44 PM                                                                                                                    
SENATOR  WIELECHOWSKI  asked  if  he agrees  with  the  producers                                                               
repeated statement  that the size of  this project takes it  to a                                                               
new level of risk.                                                                                                              
                                                                                                                                
MR. SPARGER  said no. Pipeline  projects are not  rocket science;                                                               
they  are relatively  simple from  an  execution and  engineering                                                               
standpoint  in North  America where  there are  rules that  don't                                                               
change. He said  he won't minimize the magnitude  of the project;                                                               
however, pipelines  are constructed one  mile at a time,  and the                                                               
length makes  little difference to  the execution. It  just needs                                                               
more  surveys, rights-of-way,  contractors  and other  resources.                                                               
The  Rockies Express  is 1,400  miles long  and on  an execution-                                                               
basis  it is  not  being  treated any  different  than any  other                                                               
pipeline, he noted. "I would not agree with those statements."                                                                  
                                                                                                                                
SENATOR THERRIAULT  referred to  the Rockies  Express and  the FT                                                               
commitments for  more gas  then is known  about, and  asked about                                                               
paying  for unused  pipeline  capacity and  the  market for  that                                                               
capacity.                                                                                                                       
                                                                                                                                
MR. SPARGER said  these companies think they will  have that gas,                                                               
but they also can sell that  reserve space to someone who has the                                                               
gas. The FT is  a commodity. If they don't use it  and there is a                                                               
market for it, then someone will take that space.                                                                               
                                                                                                                                
2:49:22 PM                                                                                                                    
MR. SPARGER  said he  has heard  testimony saying  that schedules                                                               
with milestone  dates drive  up the project  cost. AGIA  has only                                                               
one firm  date and  that is  to go  to an  open season  36 months                                                               
after the license is awarded. All  other dates that are asked for                                                               
are  dates  that   will  develop  in  proposals.   They  are  not                                                               
prescriptive dates.  Without a schedule,  projects tend to  go on                                                               
forever.  "No  project  is  ever, to  my  knowledge,  started  or                                                               
executed  without  a  schedule  for not  just  through  the  FERC                                                               
certificate,  but from  beginning  to end."  If  things drive  up                                                               
costs,  then the  schedule is  revaluated under  a total  project                                                               
economic  analysis. It  happens on  every large  project that  at                                                               
certain  points  one must  revisit  the  schedule and  adjust  it                                                               
depending on the economic decisions at the time.                                                                                
                                                                                                                                
2:51:40 PM                                                                                                                    
SENATOR   THERRIAULT  asked   if  Mr.   Sparger  has   looked  at                                                               
information   that   consultants   supplied   to   the   previous                                                               
administration  about large  project scheduling.  There was  some                                                               
caution  that  if a  timeline  is  too  rigid "you  force  things                                                               
along…you move  from one  step to the  next step…before  you have                                                               
everything lined up and you're ready to take that step."                                                                        
                                                                                                                                
MR. SPARGER  said he has seen  it and believes it  is IPA's paper                                                               
presented last year  in Centennial Hall. He's seen  a course they                                                               
put on regarding  the same topic. "I think it's  being quoted out                                                               
of context."  He said he thinks  the intent was not  to say there                                                               
shouldn't be a  schedule, but that one  shouldn't set unrealistic                                                               
or arbitrary  dates. The  dates should  be realistic,  he stated,                                                               
and that is what the cost  estimate is based on. The dates should                                                               
be open to  change as circumstances change, and  then an economic                                                               
decision is made based on the entire economics of the project.                                                                  
                                                                                                                                
MR.  SPARGER noted  other unfounded  issues and  concerns. It  is                                                               
false to say  that leading-edge technology is  required to reduce                                                               
project costs. Also,  the statement that AGIA  requirements for a                                                               
detailed  project description  are  premature and  costly is  not                                                               
correct.  "I believe,  although I  can't put  any specificity  to                                                               
this,  that the  currently proposed  schedule may  be able  to be                                                               
shortened." He  thinks it is  somewhat pessimistic.  The proposed                                                               
schedule  is  built  on  end-to-end dates  whereby  one  step  is                                                               
finished before  the other begins.  However, that is not  the way                                                               
pipeline  projects  are  built-they are  overlapped.  Procurement                                                               
overlaps with the FERC process, for example.                                                                                    
                                                                                                                                
^RICK HARPER: Independent Advisor to the Legislature                                                                            
2:54:49 PM                                                                                                                    
CHAIR FRENCH said  the committee would next hear  from Mr. Harper                                                               
who  would  talk about  FT  commitments  and  their affect  on  a                                                               
company's balance sheet as well as other economic issues.                                                                       
                                                                                                                                
RICK HARPER, Independent  Advisor to the Legislature,  said he is                                                               
working  in collaboration  with Econ  One Research,  Inc. He  has                                                               
been involved in this capacity for two years.                                                                                   
                                                                                                                                
CHAIR FRENCH pointed out that Mr.  Harper is not a consultant for                                                               
the administration, but for the legislature.                                                                                    
                                                                                                                                
2:55:38 PM                                                                                                                    
SENATOR THERRIAULT asked Mr. Harper  to disclose his relationship                                                               
with  the  Murkowski  Administration  prior to  working  for  the                                                               
legislature.                                                                                                                    
                                                                                                                                
MR. HARPER  said in  addition to  assisting the  legislature over                                                               
the better part of the last  two years, "during that time I also,                                                               
on  occasion, advised  the  Murkowski  Administration on  matters                                                               
related  to the  proposed  gas line  contract, specifically  with                                                               
regard   to  issues   related  to   capacity  release,   capacity                                                               
brokering, and those types of issues."                                                                                          
                                                                                                                                
MR. HARPER  spoke of being involved  in the oil and  gas industry                                                               
for over 34  years and with Alaska gas since  1977. He worked for                                                               
Atlantic  Richfield  for  15 years  running  its  North  American                                                               
natural gas business  operations. He served as  president of Arco                                                               
Gas and  he was retained as  an advisor for 10  years after that.                                                               
Also he has served as president  and chief executive officer of a                                                               
Canadian oil and  gas exploration and production  company. And he                                                               
was  the senior  vice  president  and officer  of  a natural  gas                                                               
pipeline distribution  and storage company.  He said he  has been                                                               
involved  in  his  own  international   oil  and  gas  consulting                                                               
business activities for over six years.                                                                                         
                                                                                                                                
2:57:13 PM                                                                                                                    
MR. HARPER  said he has  been asked to  look at the  testimony on                                                               
AGIA.  His observations  will  focus  on the  overall  risk of  a                                                               
pipeline from  a commercial transactional standpoint,  the nature                                                               
of FTs,  and how a  company evaluates  projects. He will  put the                                                               
term "internal rate  of return" (IRR) in perspective.  He said he                                                               
agrees  with  Mr. Sparger,  substantially,  that  the Alaska  gas                                                               
pipeline,  unlike many  other pipelines,  will serve  a developed                                                               
market with adequate existing  downstream infrastructure and will                                                               
access  known supplies.  "The  risk of  this  pipeline from  that                                                               
perspective  is certainly  not very  substantial." This  pipeline                                                               
will  stimulate  unprecedented  gas  exploration  in  Alaska.  He                                                               
believes  that  many  of the  estimates  have  been  understated.                                                               
Producers have the  obligation to develop, market  and account to                                                               
the lessors. It presumes a  reasonable expectation of profit, not                                                               
a reasonable  certainty. The IRR  is always an indicator  that is                                                               
looked at along  with cash flow, return on  capital employed, and                                                               
net present value.  The primary determinate on  the producing and                                                               
pipeline sides  is net  present value.  He said  he and  Econ One                                                               
Research  have  reviewed  Antony  Scott's recent  work,  and  the                                                               
methodology is  accurate. "With  the current  world that  we live                                                               
in, in terms  of interstate natural gas  pipelines, no commitment                                                               
of  supplies is  required. No  commitment of  supplies is  called                                                               
for." In order to support  a project, transportation commitments-                                                               
generally  firm   ones-are  required.  The  obligation   to  make                                                               
payments  under  those  commitments,   which  are  called  demand                                                               
charges,  begins when  a pipeline  is placed  in service-normally                                                               
when  gas  flows. Demand  charges  and  FTs are  not  take-or-pay                                                               
commitments and  aren't even  related, he  said. There  have been                                                               
suggestions  and  confusion  about  that. As  Mr.  Sparger  said,                                                               
natural  gas pipelines  are not  generally  considered high  risk                                                               
propositions, and traditionally producers  have not been involved                                                               
in  the construction,  with some  minor exceptions.  Producers or                                                               
their marketing  affiliates, however,  do routinely  subscribe to                                                               
FTs.  Producers are  not generally  the  primary FT  holder on  a                                                               
given pipeline. It varies, he said.  For a pipeline such as this,                                                               
one would expect to see a  large participation on the part of the                                                               
producers, both  to maximize and  to protect their  interests. He                                                               
would  expect  to  see  others  as  well.  There  might  be  some                                                               
speculative taking of FT capacity here.                                                                                         
                                                                                                                                
3:02:39 PM                                                                                                                    
MR. HARPER  said pipeline transportation  costs, whether  firm or                                                               
interruptible,  are  generally treated  as  expenses  and not  as                                                               
debt. It is  not only producers, but  gas pipelines, distribution                                                               
companies, and  others that take  on these obligations.  They are                                                               
obligations he  said, but they  are not treated in  that fashion,                                                               
at  least  from  an  SEC  [Securities  and  Exchange  Commission]                                                               
earnings  perspective. Occasionally  consideration  is given  and                                                               
perhaps implemented  as a way of  amortizing the cost from  a tax                                                               
standpoint, but that  is much different from  looking at SEC-type                                                               
rate of return calculations. The duty  to develop and the duty to                                                               
market are  essential duties,  he said.  He has  seen pervasively                                                               
this pipeline and the taking of  FT referred to as risk, and that                                                               
is not consistent with his experience.  It is an expense that has                                                               
to  be managed.  "But  what  you're really  dealing  with is  the                                                               
opportunity to  monetize substantial resources." One  would never                                                               
contemplate that  unless there  was a  prospect for  a reasonable                                                               
expectation of profit.                                                                                                          
                                                                                                                                
MR.  HARPER   said  the  pipeline  transportation   side  is  not                                                               
generally considered to  be a material risk,  but it's considered                                                               
to be a part of the  real opportunity of monetizing resources. He                                                               
agrees that  FT subscribers do not  bear all the risk  of project                                                               
overruns. They can be shared  and mitigated contractually through                                                               
negotiated rates.  There are also  processes through  FERC should                                                               
the overruns result  from a lack of diligence in  the project. He                                                               
said he has  been involved in situations where FERC  was asked to                                                               
require the  pipeline company to  absorb the overruns.  There are                                                               
different  ways,  "but it  is  absolutely  not  a given  that  FT                                                               
subscribers will bear all the risk of project cost overruns."                                                                   
                                                                                                                                
3:05:49 PM                                                                                                                    
SENATOR THERRIAULT  asked what his  duties entailed  as president                                                               
of Arco Gas.                                                                                                                    
                                                                                                                                
MR. HARPER  said, "We were  generally responsible  for everything                                                               
that happened  to the  corporation's natural gas  once it  got to                                                               
the  wellhead.  That   included  marketing,  trading,  pipelines,                                                               
processing, and  you name  it." He was  also responsible  for the                                                               
operation of the company's intrastate pipeline company.                                                                         
                                                                                                                                
SENATOR THERRIAULT  said he is trying  to figure out if  he knows                                                               
what he is  talking about. He said FTs not  being take-or-pay, is                                                               
"sort of  something that I think  we've fallen into here,  and it                                                               
is  my  understanding…that the  take-or-pay  comes  from the  old                                                               
pipeline model  where the pipeline  took the molecules of  gas or                                                               
had to  pay for them." But  this is more use-or-pay,  whereby you                                                               
either  use your  capacity  or  you pay  for  it. If  take-or-pay                                                               
really is  not the correct  terminology, I  want to be  clear, he                                                               
said.                                                                                                                           
                                                                                                                                
MR.  HARPER said  take-or-pay is  a  vestige in  the natural  gas                                                               
industry of  a bygone era  when pipeline companies  purchased all                                                               
of the  gas from producers in  or near the field.  Today pipeline                                                               
companies   are  precluded   from  purchasing   natural  gas   in                                                               
interstate  commerce and  must function  solely as  transporters.                                                               
"Take-or-pay was a  concept whereby the pipelines  would agree to                                                               
take a certain  amount of production or pay for  it in lieu there                                                               
of--not  as a  penalty but  as  a cash  flow device  and had  the                                                               
opportunity later on  to make it up." From  the "deregulation" of                                                               
the  natural gas  industry, where  interstate pipeline  companies                                                               
became contract carriers, the ability  to ship required a company                                                               
to enter  into an agreement  to acquire  space, either on  a firm                                                               
basis  or on  a non-firm  basis. On  a firm  basis there  are two                                                               
components: "you pay  a demand charge, which is a  charge you pay                                                               
whether you  move gas or  not…it generally covers the  fixed cost                                                               
portion of  the pipeline,  and then  there's a  commodity charge,                                                               
which  generally covers  the variable  components of  rates." The                                                               
payment is  made whether the  gas is moved  or not. But  that has                                                               
become a  commodity in and of  itself in the industry.  "It's not                                                               
something that  you are  necessarily saddled  with." It  can have                                                               
more or  less value  than you  pay for.  The value  can oscillate                                                               
over  time,  and  people  make good  livings  doing  nothing  but                                                               
managing that  activity. It doesn't  relate to  take-or-pay; it's                                                               
just  a marketing  function and  expense that  occurs within  the                                                               
industry and that is how it is generally treated.                                                                               
                                                                                                                                
3:09:17 PM                                                                                                                    
SENATOR THERRIAULT asked what happens  if he commits to a certain                                                               
capacity and then  can't fill it, but he doesn't  want to sell it                                                               
on the open  market. "I haven't filled my own  capacity…I have to                                                               
pay for  it even if I'm  not utilizing it, but  then the pipeline                                                               
company  is  operating   a  pipe  that's  not  up   to  its  full                                                               
potential." How is that addressed?                                                                                              
                                                                                                                                
MR. HARPER  said, "As a  part of addressing  competitive concerns                                                               
at  the  time that  the  industry  went through  its  transition,                                                               
mechanisms were put  into place; just like lessees,  as Mr. Hosie                                                               
said, cannot warehouse  oil and gas reserves at  the lease level,                                                               
you can't  warehouse capacity through  paying demand  charges. If                                                               
you're not using  your capacity on a given day,  the pipeline has                                                               
an obligation  to make  that capacity available  to others  on an                                                               
interruptible  basis. You  can  step back  in  and exercise  your                                                               
rights  under certain  guidelines that  are established,  but no,                                                               
that capacity would not  sit idle if there is a need  for it or a                                                               
demand for it."                                                                                                                 
                                                                                                                                
SENATOR THERRIAULT asked if the  capacity is made available on an                                                               
interruptible  basis,  is  the  person  with  the  FT  commitment                                                               
relieved of the obligation to pay  for it. "They don't get double                                                               
billed?"                                                                                                                        
                                                                                                                                
MR. HARPER said  there are mechanisms for crediting  a portion of                                                               
what is received by the pipeline.                                                                                               
                                                                                                                                
SENATOR THERRIAULT said he has  heard the suggestions that if one                                                               
pipeline company  had a portion  of the pipeline and  another had                                                               
another portion  then they can  participate in each  other's open                                                               
seasons,  and "end  up with  a  virtual straw  from a  to b  even                                                               
though they don't own it all."                                                                                                  
                                                                                                                                
MR.  HARPER  said  that  is correct.  "Owning  the  pipeline  and                                                               
controlling  space  in  the pipeline  and  another  pipeline  are                                                               
really two distinct  issues. And in a situation  where you've got                                                               
two  pipelines which  own interlocking  segments, I  would expect                                                               
that each  of those pipelines  might take positions in  the other                                                               
vis-à-vis  FT. In  fact,  in the  industry,  [that] has  happened                                                               
before."                                                                                                                        
                                                                                                                                
3:12:09 PM                                                                                                                    
CHAIR FRENCH said  he used to be an oil  production operator, and                                                               
he didn't  know about the  legalities of oil production,  "but we                                                               
did a lot  of arithmetic. We were always counting  how much money                                                               
the industry  was making and  even though we were  getting pretty                                                               
well paid, we thought, well, they're  making a lot of money too."                                                               
If the proposed gas line moves  4.5 bcf/day and gas prices are at                                                               
$5.00, would that be $22.5 million a day in revenue?                                                                            
                                                                                                                                
MR. HARPER said he believes that is correct.                                                                                    
                                                                                                                                
CHAIR  FRENCH  said  if  the   tariff  was  $2.00,  it  would  be                                                               
subtracted from  that revenue, and  there would be  $13.5 million                                                               
per day in revenue.                                                                                                             
                                                                                                                                
MR. HARPER  said that is  correct, and that  is referred to  as a                                                               
net-back calculation.                                                                                                           
                                                                                                                                
CHAIR FRENCH  said that  every 73  days-after paying  the tariff-                                                               
there would be $1 billion in  revenue. "So every couple of months                                                               
you're putting $1 billion into the cash register."                                                                              
                                                                                                                                
MR. HARPER said,  "Your math and your concepts appear  to be true                                                               
to form."                                                                                                                       
                                                                                                                                
SENATOR THERRIAULT  asked if he  can speak to the  blessings from                                                               
the Econ One team regarding the work Antony Scott has done.                                                                     
                                                                                                                                
MR. HARPER said  he is ill-equipped, but he has  had contact with                                                               
his colleagues  at Econ One  who did review the  methodology that                                                               
was used  in his calculations.  They support the  methodology and                                                               
the  treatment  of FT,  acknowledging  that  FT is  an  important                                                               
consideration and  not one taken  lightly by producers  or anyone                                                               
else. The  fact that it  might be  treated as an  expense doesn't                                                               
minimize  the  obligation  itself,  "but  we  think  the  overall                                                               
methodology that was utilized is correct."                                                                                      
                                                                                                                                
SENATOR THERRIAULT  asked, "But is  it your understanding  in the                                                               
calculations  done  by  Dr.  Finizza   or  Mr.  Scott,  that  the                                                               
obligation  to  pay  for  those FTs  was  calculated;  a  netback                                                               
calculation  was  done  so  that's   all  accounted  for  in  the                                                               
calculations?"                                                                                                                  
                                                                                                                                
MR.  HARPER  said   yes;  last  year,  at  the   request  of  the                                                               
legislature, Econ  One made an  attempt to simulate  the upstream                                                               
and midstream returns  on the producer project, and  there was no                                                               
scenario,  including the  downside, that  was not  profitable. He                                                               
said BP's presentation had numbers  "quite a bit higher than what                                                               
has  been  seen   before,  but  there  has   been  no  supporting                                                               
documentation provided that would allow  a critical review of any                                                               
update of those numbers at this  time. But as of last year, based                                                               
upon  Econ  One's analysis,  there  was  no scenario  that…didn't                                                               
suggest that there was a  reasonable expectation of profitability                                                               
from North Slope natural gas."                                                                                                  
                                                                                                                                
3:16:26 PM                                                                                                                    
SENATOR THERRIAULT  said one  of the companies  told him  that it                                                               
has been careful  to not call FT  debt, but it said  it was debt-                                                               
like.  It  appears that  the  FT  commitment gives  the  pipeline                                                               
company something to go to  the financiers with to get financing,                                                               
so it  must have value.  The company  seemed to be  pitching that                                                               
even though  the FT is  an obligation to pay  in the future  as a                                                               
monetized  resource,  "that   it  was  almost  as   if  they  had                                                               
transferred value-actually paid cash across,  and so they want to                                                               
be compensated for  that." He said it doesn't seem  like that can                                                               
be done.  "Other than taking  it into consideration for  what the                                                               
netback--the  profitability of  monetizing the  resource-is, that                                                               
there's  any way  that they  should expect  to be  compensated or                                                               
that  it  should be  calculated  in,  to  drag down  the  overall                                                               
profitability."                                                                                                                 
                                                                                                                                
MR.  HARPER said  it shouldn't  drag  down overall  profitability                                                               
aside  from  being  a  marketing  expense.  It  certainly  is  an                                                               
important decision  that has to  be made, but one  generally does                                                               
that when one  has substantial opportunity to  monetize assets or                                                               
to  gain market  share,  and it  is usually  regarded  as a  very                                                               
positive  thing.  "Usually there's  quite  a  bit of  celebration                                                               
associated with  acquiring it and  the business  proposition that                                                               
is implied that  goes along with it."  Chair French's calculation                                                               
is exactly the way one takes a look  at it when one is talking to                                                               
one's board of directors.                                                                                                       
                                                                                                                                
SENATOR THERRIAULT  expressed disappointment  that the  TV camera                                                               
wasn't present so  the testimony could be replayed.  He asked for                                                               
a transcript to be posted.                                                                                                      
                                                                                                                                
3:19:13 PM                                                                                                                    
CHAIR FRENCH  said he too regrets  the lack of cameras,  and that                                                               
is a good idea. He recessed the meeting until 6:00 pm.                                                                          
                                                                                                                                

Document Name Date/Time Subjects