Legislature(2005 - 2006)BUTROVICH 205

03/01/2006 03:30 PM RESOURCES


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03:35:01 PM Start
03:35:01 PM SB305
03:39:51 PM Chevron Corporation – John Zager, General Manager, Alaska Area
04:52:30 PM Pioneer Natural Resources – Pat Foley, Manager, Lands and External Affairs
05:31:23 PM Ultrastar Exploration Llc, Jim Weeks, Managing Owner
05:39:47 PM Alaska Venture Capital Group - Ken Thompson, Managing Director
06:03:33 PM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
-- Recessed to 1:30 pm 03/02/06 --
+= SB 305 OIL AND GAS PRODUCTION TAX TELECONFERENCED
Heard & Held
Stakeholder Presentations
                                                                                                                              
                    ALASKA STATE LEGISLATURE                                                                                  
              SENATE RESOURCES STANDING COMMITTEE                                                                             
                         March 1, 2006                                                                                          
                           3:35 p.m.                                                                                            
                                                                                                                                
MEMBERS PRESENT                                                                                                               
                                                                                                                                
Senator Thomas Wagoner, Chair                                                                                                   
Senator Ralph Seekins, Vice Chair                                                                                               
Senator Ben Stevens                                                                                                             
Senator Fred Dyson                                                                                                              
Senator Bert Stedman                                                                                                            
Senator Kim Elton                                                                                                               
Senator Albert Kookesh                                                                                                          
                                                                                                                                
MEMBERS ABSENT                                                                                                                
                                                                                                                                
All members present                                                                                                             
                                                                                                                                
OTHER MEMBERS PRESENT                                                                                                         
                                                                                                                              
Senator Hollis French                                                                                                           
Senator Gene Therriault                                                                                                         
                                                                                                                                
COMMITTEE CALENDAR                                                                                                            
                                                                                                                                
SENATE BILL NO. 305                                                                                                             
"An Act repealing  the oil production tax and  gas production tax                                                               
and providing  for a production tax  on the net value  of oil and                                                               
gas; relating to the relationship  of the production tax to other                                                               
taxes; relating to the dates  tax payments and surcharges are due                                                               
under AS  43.55; relating  to interest  on overpayments  under AS                                                               
43.55; relating  to the treatment  of oil and gas  production tax                                                               
in a  producer's settlement with  the royalty owner;  relating to                                                               
flared gas, and to  oil and gas used in the  operation of a lease                                                               
or property, under AS 43.55;  relating to the prevailing value of                                                               
oil or gas under AS 43.55;  providing for tax credits against the                                                               
tax  due under  AS 43.55  for certain  expenditures, losses,  and                                                               
surcharges; relating to statements  or other information required                                                               
to be filed  with or furnished to the Department  of Revenue, and                                                               
relating  to the  penalty for  failure to  file certain  reports,                                                               
under  AS 43.55;  relating to  the  powers of  the Department  of                                                               
Revenue, and  to the disclosure  of certain  information required                                                               
to be  furnished to  the Department of  Revenue, under  AS 43.55;                                                               
relating   to  criminal   penalties   for  violating   conditions                                                               
governing access to and use  of confidential information relating                                                               
to the  oil and gas  production tax;  relating to the  deposit of                                                               
money  collected by  the Department  of Revenue  under AS  43.55;                                                               
relating to  the calculation of the  gross value at the  point of                                                               
production of  oil or gas;  relating to the determination  of the                                                               
net value  of taxable oil  and gas  for purposes of  a production                                                               
tax on the net value of  oil and gas; relating to the definitions                                                               
of  'gas,' 'oil,'  and certain  other  terms for  purposes of  AS                                                               
43.55;  making  conforming  amendments;   and  providing  for  an                                                               
effective date."                                                                                                                
     HEARD AND HELD                                                                                                             
                                                                                                                                
PREVIOUS COMMITTEE ACTION                                                                                                     
                                                                                                                                
BILL: SB 305                                                                                                                  
SHORT TITLE: OIL AND GAS PRODUCTION TAX                                                                                         
SPONSOR(s): RULES BY REQUEST OF THE GOVERNOR                                                                                    
                                                                                                                                
02/21/06       (S)       READ THE FIRST TIME - REFERRALS                                                                        
02/21/06       (S)       RES, FIN                                                                                               
02/22/06       (S)       RES AT 3:30 PM BUTROVICH 205                                                                           
02/22/06       (S)       Heard & Held                                                                                           
02/22/06       (S)       MINUTE(RES)                                                                                            
02/23/06       (S)       RES AT 3:30 PM BUTROVICH 205                                                                           
02/23/06       (S)       Heard & Held                                                                                           
02/23/06       (S)       MINUTE(RES)                                                                                            
02/24/06       (S)       RES AT 3:30 PM BUTROVICH 205                                                                           
02/24/06       (S)       Heard & Held                                                                                           
02/24/06       (S)       MINUTE(RES)                                                                                            
02/25/06       (S)       RES AT 9:00 AM BUTROVICH 205                                                                           
02/25/06       (S)       -- Reconvene from 02/24/06 --                                                                          
02/25/06       (H)       RES AT 10:00 AM SENATE FINANCE 532                                                                     
02/25/06       (S)       Heard & Held                                                                                           
02/25/06       (S)       MINUTE(RES)                                                                                            
02/27/06       (S)       RES AT 3:30 PM BUTROVICH 205                                                                           
02/27/06       (S)       Heard & Held                                                                                           
02/27/06       (S)       MINUTE(RES)                                                                                            
02/28/06       (S)       RES AT 3:30 PM BUTROVICH 205                                                                           
02/28/06       (S)       Heard & Held                                                                                           
02/28/06       (S)       MINUTE(RES)                                                                                            
03/01/06       (S)       RES AT 3:30 PM BUTROVICH 205                                                                           
                                                                                                                                
WITNESS REGISTER                                                                                                              
                                                                                                                                
JOHN ZAGER, General Manager                                                                                                     
Chevron Corporation, Alaska                                                                                                     
Anchorage AK                                                                                                                    
POSITION STATEMENT: Supported SB 305.                                                                                         
                                                                                                                                
KEVIN TABLER                                                                                                                    
Chevron Corporation, Alaska                                                                                                     
Anchorage AK                                                                                                                    
POSITION STATEMENT: Supported SB 305.                                                                                         
                                                                                                                                
PAT FOLEY, Manager                                                                                                              
Lands and External Affairs                                                                                                      
Pioneer Natural Resources Alaska                                                                                                
Anchorage AK                                                                                                                    
POSITION STATEMENT: Supported SB 305.                                                                                         
                                                                                                                                
JIM WEEKS, Managing Owner                                                                                                       
UltraStar Exploration LLC                                                                                                       
3111 C Street, Suite 500                                                                                                        
Anchorage AK                                                                                                                    
POSITION STATEMENT: Supported SB 305.                                                                                         
                                                                                                                                
KEN THOMPSON, Managing Director                                                                                                 
Alaska Venture Capital Group (AVCG)                                                                                             
Anchorage AK                                                                                                                    
POSITION STATEMENT: Supported SB 305.                                                                                         
                                                                                                                                
                                                                                                                                
ACTION NARRATIVE                                                                                                              
                                                                                                                                
CHAIR  THOMAS  WAGONER  called   the  Senate  Resources  Standing                                                             
Committee  meeting  to order  at  3:35:01  PM. All  members  were                                                             
present at the call to  order. Chair Wagoner announced that today                                                               
would be the last of the stakeholder hearings.                                                                                  
                                                                                                                                
               SB 305-OIL AND GAS PRODUCTION TAX                                                                            
                                                                                                                                
3:35:01 PM                                                                                                                    
^Chevron Corporation - John Zager, General Manager, Alaska Area                                                               
JOHN ZAGER,  General Manager, Chevron Corporation  - Alaska, said                                                               
that  Chevron's Alaska  presence had  changed a  lot in  the last                                                               
year. Here, Chevron is considered  an independent; its asset base                                                               
is  comprised of  assets from  the Heritage  Chevron organization                                                               
and the Heritage UnoCal organization  (UnoCal was acquired August                                                               
10, 2005).                                                                                                                      
                                                                                                                                
Chevron is the  fourth largest producer in the state  and as such                                                               
is in a fairly unique position of  not being one of the big three                                                               
producers or being  privy to any of the  contract discussions. It                                                               
has 382 employees  or full-time contractors.  It  doesn't get the                                                               
scale of  benefit that some  of the  large producers get  nor the                                                               
incentives the  small independents  get. He  said Chevron  is the                                                               
dominant  operator in  Cook Inlet  and  that makes  it the  third                                                               
largest operator  in the state.  It impacts the Kenai  economy as                                                               
well as providing energy to  key customers - the Tesoro refinery,                                                               
Enstar, Chugach Electric, Agrium and Aurora.                                                                                    
                                                                                                                                
MR. ZAGER related that Chevron is  the only producer in the state                                                               
that has a  relative balance of assets both in  Cook Inlet and on                                                               
the North  Slope. Roughly  40 percent of  their barrels  come off                                                               
the North  Slope and 60  percent out of  Cook Inlet. Both  of the                                                               
production streams,  in and  of themselves,  are large  enough to                                                               
trigger the PPT.                                                                                                                
                                                                                                                                
3:39:51 PM                                                                                                                    
He presented  map of  both Chevron's North  Slope and  Cook Inlet                                                               
productions.  Net  production  off  the  North  Slope  is  16,000                                                               
barrels of oil equivalent per  day (BOEPD). He reviewed Chevron's                                                               
asset  position  in  offshore  Cook Inlet  at  10,900  BOEPD  and                                                               
onshore at 14,100 BOEPD.                                                                                                        
                                                                                                                                
In addition,  Mr. Zager said,  Chevron was probably  the dominant                                                               
player in this  morning's lease sale. It spent  almost $7 million                                                               
to acquire  48 tracts, 430-some  square miles of  new exploration                                                               
land on  the North  Slope, mostly located  south of  Kuparek. Net                                                               
production off the Slope is approximately 16,000 BOEPD.                                                                         
                                                                                                                                
In Cook Inlet, Chevron operates  10 of the 15 offshore platforms.                                                               
Of those 10,  eight are currently producing and two  are shut in.                                                               
One  of its  assets on  the  west side  of  Cook Inlet  is a  gas                                                               
storage project that is being  installed at Pretty Creek Field to                                                               
facilitate peaking  needs in the  winter. Chevron  owns one-third                                                               
interest  in Beluga  Field,  one of  the big  gas  fields in  the                                                               
Inlet. The biggest  field in the Inlet is Trading  Bay Field that                                                               
has five platforms,  all operated by Chevron  in partnership with                                                               
Forest  Oil.  The  remaining offshore  production  is  at  Middle                                                               
Ground  Shoals Field  with  four platforms.  The  middle two  are                                                               
owned and  operated by  XTO; the northern  and southern  ones are                                                               
operated by Chevron and are currently shut in.                                                                                  
                                                                                                                                
MR.  ZAGER said  that  Chevron's Kenai  gas  storage facility  at                                                               
Swanson River has  become instrumental in meeting  peak day needs                                                               
in the Inlet.  It has met Enstar's peaking needs  and sent gas to                                                               
Agrium, which is having serious problems with supply.                                                                           
                                                                                                                                
3:45:06 PM                                                                                                                    
MR. ZAGER said  that most of the offshore platforms  are 35 years                                                               
old and  take a lot of  maintenance. The last thing  they want is                                                               
an  environmental  incident.  He  urged the  committee  to  think                                                               
carefully before  they turn over  platform upkeep to  new smaller                                                               
companies from  down south  that they hadn't  heard of  before or                                                               
that might  be relatively thinly capitalized  versus Chevron with                                                               
a balance sheet  of $120 billion to stand  behind the liabilities                                                               
in the Inlet.                                                                                                                   
                                                                                                                                
3:45:47 PM                                                                                                                    
He  presented  an  engineering   offshore  graph  that  indicated                                                               
production of  200,000 BOEPD  from the early  70s to  the present                                                               
when production is at 12,000 BOEPD.                                                                                             
                                                                                                                                
He explained  that watercut  is used to  define how  many barrels                                                               
were water compared  to oil and early-on it was  100 percent oil.                                                               
Now the  watercut is at 90  percent. The same amount  of fluid is                                                               
being produced, but it's 90  percent water. The increased cost of                                                               
separating the oil  and reinjecting the water has  to be compared                                                               
to the loss  of production. [He displayed a graph  of Trading Bay                                                               
Unit that indicated similar figures.]                                                                                           
                                                                                                                                
He summarized  that Cook Inlet  oil is very high  cost, primarily                                                               
because  it is  offshore, the  facilities are  big and  a lot  of                                                               
people work on them. Direct lift  costs average out to $20 to $25                                                               
per barrel.  Adding transportation,  overhead and  deductions for                                                               
quality  of the  crude and  Chevron's  breakeven cash  flow is  a                                                               
little bit north of $30 a barrel.                                                                                               
                                                                                                                                
He explained  that Wall Street  grades corporations  on earnings,                                                               
so  the cost  of  actually getting  the  production on-line  (the                                                               
depreciation  amount)   has  to   be  added  when   earnings  are                                                               
calculated. When  Chevron adds  depreciation, its  earning break-                                                               
even point  is in  the $45 range.  Production is  very challenged                                                               
from both an earnings and a cash flow perspective.                                                                              
                                                                                                                                
MR. ZAGER pointed out their  significant operational risk because                                                               
of  the age  of the  facilities and  the sensitive  environmental                                                               
area they are operating in. "At  some point you gotta say, 'Well,                                                               
with all  the risks I'm taking  here, am I getting  a fair return                                                               
on the resources and the capital I've got canoed here?"                                                                         
                                                                                                                                
Another point he explained is  that platforms are co-dependent on                                                               
each  other for  their expenses.  Fixed costs,  like the  Nikiski                                                               
dock  and  the  Trading  Bay facilities,  are  shared  among  the                                                               
remaining platforms.  So, as a  group, they all need  to maintain                                                               
their profitability.                                                                                                            
                                                                                                                                
The offshore component of Cook Inlet  is the least able to afford                                                               
an additional  tax. It is  hard to plan  your business on  $55 or                                                               
$60 oil. Chevron shut in its  two platforms about three years ago                                                               
when oil  prices were in  the low-to-mid $20s, because  they were                                                               
losing money every  day they were running. While  the others were                                                               
not  significantly positive,  they  were kept  open; prices  have                                                               
come up and they are okay for the time being.                                                                                   
                                                                                                                                
3:51:51 PM                                                                                                                    
Update on  Unocal joining  Chevron. Most  were glad  that Chevron                                                             
ended  up   being  the  primary  company.   In  January,  Chevron                                                               
management made  the decision  to retain all  its assets  in Cook                                                               
Inlet and  has committed to  spending $200 million over  the next                                                               
four years. It  has decided to keep its offices  in Alaska and is                                                               
expanding its positions here. He  reminded them of the $7 million                                                               
they spent  on the North  Slope just this morning.  When deciding                                                               
this, the  company modeled  all the  economics with  the existing                                                               
severance tax system, which in Cook Inlet means zero.                                                                           
                                                                                                                                
After seeing  the Governor's proposal, Chevron's  management team                                                               
ran a model under it and, "It  did what it was advertised to do."                                                               
The  best projects  in the  portfolio had  their rate  of returns                                                               
(ROR) lowered.  They are  the ones that  are generating  the most                                                               
profit  and  the tax  would  hurt  their economics.  The  smaller                                                               
projects had their RORs go up.  He believed that was because they                                                               
weren't generating  such a large  amount of profit that  they get                                                               
hit with a  profit tax, but they benefit from  the capital credit                                                               
part of  the equation. The  average mean of their  portfolio went                                                               
down a little bit. He pointed  out that the enhanced terms of the                                                               
PPT  could significantly  expand the  list of  economic projects.                                                               
Changing  the  ratio  by  lowering  the tax  to  15  percent  and                                                               
increasing the  credit above it  would also help,  especially the                                                               
marginal projects  and potentially  bring a  whole other  list of                                                               
projects into the realm of consideration for investment.                                                                        
                                                                                                                                
MR. ZAGER  reminded them that  Chevron has partners on  all their                                                               
properties and because  of their unique position of  being on the                                                               
Slope and in  the Inlet, it would be in  a dramatically different                                                               
tax  situation than  its  partners. This  could  lead to  further                                                               
misalignment on the economics.                                                                                                  
                                                                                                                                
3:59:16 PM                                                                                                                    
Cook Inlet  has a gas supply  issue, especially out a  few years.                                                               
Having incentive  is more about  making sure energy  is available                                                               
to  run the  economy and  having  additional gas  supply that  is                                                               
critical to the  state's economy. He liked the idea  of the state                                                               
sharing some  of the risk  up front in  exchange for some  of the                                                               
profit on the backside.                                                                                                         
                                                                                                                                
He  said  the  Inlet  currently  lacks  significant  exploration.                                                               
Chevron has not looked for deeper  pools because of the risks and                                                               
he  was doubtful,  although  hopeful,  that smaller  independents                                                               
would come in  and actually drill a well. Aurora  and Forest have                                                               
been participating in  some exploration, but beyond  that, no one                                                               
has spent any money in "turning drill bits to the right."                                                                       
                                                                                                                                
4:01:57 PM                                                                                                                    
MR. ZAGER  summarized that the  PPT is  a huge tax  increase, but                                                               
Chevron would support the bill with the following stipulations:                                                                 
                                                                                                                                
     · Treat Cook Inlet differently by lowering the tax rate                                                                    
        and/or increasing the capital credit                                                                                    
     · Include an additional 5 percent capital credit (20/25)                                                                   
        for heavy oil or tertiary recovery (CO2) projects                                                                       
        statewide                                                                                                               
     · Keep the transition capital.                                                                                             
     · Keep the $73 million exemption for any producer in the                                                                   
        state                                                                                                                   
                                                                                                                                
He said  they could probably tolerate  one or two of  those going                                                               
away, but  if they all  go simultaneously in the  same direction,                                                               
they will be in a place where the bill didn't start out at all.                                                                 
                                                                                                                                
He  recapped that  Chevron is  the only  company that  has assets                                                               
that are  relatively balanced  between Cook  Inlet and  the North                                                               
Slope; one is  a much better asset than the  other. Both of those                                                               
businesses are big  enough to use up the $73  million tax credit.                                                               
He  didn't think  that Chevron  should be  disadvantaged in  Cook                                                               
Inlet  relative to  Forest and  Marathon from  a tax  perspective                                                               
just because it happens to have assets on the North Slope.                                                                      
                                                                                                                                
4:07:30 PM                                                                                                                    
MR. ZAGER thought lawmakers could  consider letting a company use                                                               
the $73  million credit more  than once  if it owned  property in                                                               
more  than one  geologic basin  in the  state if  they wanted  to                                                               
encourage production in as many parts of the state as possible.                                                                 
                                                                                                                                
Another  lever that  could help  Cook  Inlet and  other areas  is                                                               
making  the  credit  a  little   higher  than  the  tax  rate  to                                                               
incentivized exploration  and production  even more  - especially                                                               
in selected areas of the state.                                                                                                 
                                                                                                                                
Another  recommendation  was  to  add  an  additional  5  percent                                                               
capital credit (20/25) for heavy  oil and tertiary recovery (CO2)                                                               
projects statewide. Agrium's  Blue Sky project has  come to light                                                               
in the  last few months and  that uses coal to  generate hydrogen                                                               
to fuel  its fertilizer plant. That  process generates tremendous                                                               
amounts  of  carbon  dioxide,  which  is  going  to  need  to  go                                                               
somewhere.  One of  the  ideas was  to use  it  for enhanced  oil                                                               
recovery. He thought the concept was challenged technically.                                                                    
                                                                                                                                
4:10:02 PM                                                                                                                    
CHAIR  WAGONER asked  if he  would use  stainless steel  and less                                                               
corrosive products for CO2 projects  - basically installing brand                                                               
new systems.                                                                                                                    
                                                                                                                                
MR. ZAGER replied  yes; special tungsten type  steels are needed.                                                               
New pipelines, well borers and  platform components would have to                                                               
be replaced.  They are basically  talking about  redeveloping the                                                               
field.                                                                                                                          
                                                                                                                                
4:12:07 PM                                                                                                                    
MR. ZAGER emphasized  that his company needs  absolute clarity on                                                               
terms and definitions  and summarized that the  consequences of a                                                               
tax being too high would be  that people would quit coming to the                                                               
lease sales.  But, he was  hopeful that  the state would  come up                                                               
with something workable.                                                                                                        
                                                                                                                                
4:14:05 PM                                                                                                                    
SENATOR FRED DYSON asked if Cook  Inlet had a spot market, and if                                                               
it did,  would that  change Chevron's  position on  its long-term                                                               
contracts.                                                                                                                      
                                                                                                                                
MR. ZAGER  replied that  Cook Inlet doesn't  have a  spot market;                                                               
everything is under  long-term contract. A company  needs to have                                                               
a market to  commit to an investment. It would  be hard to invest                                                               
if you have a pay out in  three years and the Agrium plant closes                                                               
next year. He  hadn't thought much about how a  spot market would                                                               
work in the Cook Inlet.                                                                                                         
                                                                                                                                
SENATOR  DYSON asked  if long-term  contracts there  were keeping                                                               
more investment from happening.                                                                                                 
                                                                                                                                
MR. ZAGER replied:                                                                                                              
                                                                                                                                
     On  one hand,  I would  argue that  long-term contracts                                                                    
     are  causing more  investment. It's  no secret  that we                                                                    
     have a  contract with Enstar,  which people  comment on                                                                    
     from  time  to  time.  As  a  result  of  signing  that                                                                    
     contract  and  having  some assurance  of  a  long-term                                                                    
     market,  we've invested  over $160  million in  the gas                                                                    
     business  since  2001   and  have  brought  significant                                                                    
     additional  reserves  to  market   to  help  meet  that                                                                    
     supply. If  there were no  long-term contracts,  I keep                                                                    
     getting  back  to that  you're  going  to have  trouble                                                                    
     getting a story that you  could sell to management that                                                                    
     you have  a secure market.  Without a market,  your gas                                                                    
     isn't too valuable.                                                                                                        
                                                                                                                                
SENATOR  DYSON said  it had  been  represented to  him that  Cook                                                               
Inlet has a  lot of gas and if that  were produced, they wouldn't                                                               
have to  be in such a  panic to get  North Slope gas down  a spur                                                               
line - if only the market price of gas was operating.                                                                           
                                                                                                                                
MR.  ZAGER  responded  that  higher   prices  would  incite  more                                                               
exploration  and the  long-term price  of gas  in Cook  Inlet has                                                               
historically been  very low.  Even today,  it's the  lowest price                                                               
gas in  the United  States. While  offshore prospects  exist, the                                                               
economics to drill for it haven't been there.                                                                                   
                                                                                                                                
4:18:59 PM                                                                                                                    
SENATOR  DYSON  said  Chevron is  considering  spending  over  $1                                                               
billion to bring a spur line down  to Cook Inlet, but if all they                                                               
had  to do  was  change the  price,  that would  put  them in  an                                                               
interesting bind.                                                                                                               
                                                                                                                                
MR. ZAGER commiserated that people  have gotten used to cheap gas                                                               
and that is not anywhere near to the market price.                                                                              
                                                                                                                                
4:20:45 PM                                                                                                                    
SENATOR STEDMAN  asked to  go back  to slide 8  and asked  if his                                                               
well structures  were weighted more towards  current costs rather                                                               
than previous costs  from old wells where some  of the production                                                               
has come from.                                                                                                                  
                                                                                                                                
MR. ZAGER replied  that most of their wells have  been located in                                                               
Cook Inlet since the 60s and  70s when the fields were originally                                                               
developed and his projections were not forward-looking.                                                                         
                                                                                                                                
SENATOR STEDMAN  surmised then that if  they go back a  few years                                                               
to  when the  price  of oil  was $20,  the  major oil  companies'                                                               
balance sheets would be running blood red.                                                                                      
                                                                                                                                
MR. ZAGER responded  that a few years ago, they  had more barrels                                                               
to produce.  So the  breakeven point would  have been  lower than                                                               
$30 a couple of years ago. They  were also making a little bit of                                                               
money, but  they also  decided to  shut in  the Baker  and Dillon                                                               
platforms  in Middle  Ground Shoal,  because those  were actually                                                               
bleeding cash.                                                                                                                  
                                                                                                                                
SENATOR STEDMAN  said the  Legislature was  trying to  figure out                                                               
what the  breakeven point  is so  that it  could establish  a tax                                                               
structure that would work for many years.                                                                                       
                                                                                                                                
MR. ZAGER  remarked that  a 20 percent  tax would  basically take                                                               
away  20  percent  of  their   profits,  because  right  now  the                                                               
severance tax  is zero.  It's hard  to come  up with  a breakeven                                                               
point under that scenario.                                                                                                      
                                                                                                                                
4:25:15 PM                                                                                                                    
SENATOR ELTON  asked to go back  to slide 13 and  asked Mr. Zager                                                               
if he  was preparing  a list  of definitions  that he  wanted and                                                               
what his timeframe was.                                                                                                         
                                                                                                                                
MR. ZAGER  replied that  Chevron hadn't  had the  time to  get to                                                               
those details together.                                                                                                         
                                                                                                                                
KEVIN  TABLER responded  that he  struggled to  just get  a model                                                               
from last week. It was a work in progress.                                                                                      
                                                                                                                                
4:27:40 PM                                                                                                                    
SENATOR  FRENCH asked  to  see Chevron's  tax  burden under  this                                                               
bill, because he  thought that Cook Inlet should  be exempted. It                                                               
has no  significant exploration  now and he  couldn't see  how it                                                               
would get more if the Legislature started taxing there.                                                                         
                                                                                                                                
MR. ZAGER said he supported that point of view.                                                                                 
                                                                                                                                
SENATOR FRENCH  remarked that  a small company  named XTO  saw an                                                               
opportunity in  the Inlet  and gambled on  buying into  it during                                                               
times of low  prices and low volumes. He asked  Mr. Zager what he                                                               
thought  they saw  and how  could they  make a  go of  it in  the                                                               
Inlet.                                                                                                                          
                                                                                                                                
MR. ZAGER  replied that  it was hard  to speculate  about another                                                               
company's  motives, but  he assumed  XTO  got those  assets at  a                                                               
price it  thought was worth  the risk.  They spent some  money in                                                               
keeping production up, but he  noted that XTO hadn't attempted to                                                               
expand anywhere else in the Inlet or to do any exploration.                                                                     
                                                                                                                                
4:30:33 PM                                                                                                                    
SENATOR STEDMAN  asked if  the Legislature  incentivizes heavily,                                                               
should it not  look at having an escalating tax  rate at the high                                                               
end of oil prices,  $60 - $120 per barrel, along  with a large or                                                               
very attractive exploration credit.                                                                                             
                                                                                                                                
MR. ZAGER  replied that  would be one  approach, but  he strongly                                                               
urged that  whatever scheme  the Legislature  decides to  use, to                                                               
keep it  simple. He  advised that  when an  oil company  makes an                                                               
investment  decision, it  doesn't  look at  a  single point,  but                                                               
rather   at  a   probability  distribution   starting  at   where                                                               
everything goes right  and then works back to an  average. If you                                                               
start clipping  off the  top end of  the distribution,  that will                                                               
affect  the  middle  point.  He likened  it  to  telling  another                                                               
business  the state  was going  to take  20 percent  of its  most                                                               
profitable customers and give them a special tax.                                                                               
                                                                                                                                
4:33:22 PM                                                                                                                    
SENATOR THERRIAULT asked  what element set the gas  prices so low                                                               
in Cook Inlet.                                                                                                                  
                                                                                                                                
MR. ZAGER  replied that Cook  Inlet had a  surplus of gas  in the                                                               
70s. It had a 200-year supply  of gas. To monetize it, the owners                                                               
of  the  gas,  Union  Oil, constructed  a  fertilizer  plant  and                                                               
Marathon and Arco built an LNG  plant to export the gas to Japan.                                                               
That  gas  has  now  been  largely monetized  and  the  Inlet  is                                                               
entering a phase where the gas surplus is no longer there.                                                                      
                                                                                                                                
SENATOR THERRIAULT  asked what is  preventing the gas  price from                                                               
coming up to the market rate now.                                                                                               
                                                                                                                                
MR.  ZAGER replied  that  the  Agrium plant  is  one  of the  big                                                               
consumers and the  price that they are willing to  pay for gas to                                                               
generate ammonia and  urea to sell in the world  markets needs to                                                               
be  competitive  within  that  parameter.  The  LNG  plant  is  a                                                               
dedicated supply and market. The remainder  is to be set by long-                                                               
term  contracts  with Chugach,  Matanuska  Light  and Power,  and                                                               
Enstar that have the market and need the long-term gas supply.                                                                  
                                                                                                                                
MR.  TABLER  added  that satisfying  the  additional  market  has                                                               
resulted in recent increased discoveries.                                                                                       
                                                                                                                                
SENATOR  THERRIAULT  asked them  to  explore  their concern  over                                                               
complete understanding  of terms and  definitions to see  if they                                                               
had specific areas of concern.                                                                                                  
                                                                                                                                
MR. ZAGER replied that terms are  still a work in progress and he                                                               
thought  the best  solution was  to  work through  AOGA for  some                                                               
industry consensus on terminology.                                                                                              
                                                                                                                                
MR. TABLER added that they have  an 11 a.m. AOGA meeting tomorrow                                                               
and he would bring up the subject.                                                                                              
                                                                                                                                
4:38:08 PM                                                                                                                    
SENATOR DYSON related  that Agrium told him the price  of fuel to                                                               
all of  its competitors had gone  up and they can  make money and                                                               
sell their product  at $5.50 gas. Agrium was  thinking about coal                                                               
gasification at that  price range, which he  found surprising. It                                                               
was also  represented to  him by another  party that  the problem                                                               
with Cook Inlet gas price  is the Regulatory Commission of Alaska                                                               
(RCA).                                                                                                                          
                                                                                                                                
MR. ZAGER replied  that he didn't understand  that comment, since                                                               
the RCA only  approves contracts, but it  doesn't negotiate their                                                               
terms.                                                                                                                          
                                                                                                                                
CHAIR WAGONER said  he heard that decision was  because of access                                                               
to the pipe.                                                                                                                    
                                                                                                                                
MR. ZAGER replied  that he thinks the whole access  issue and its                                                               
affects on price and supply have been dramatically overblown.                                                                   
                                                                                                                                
SENATOR STEDMAN  asked if they  should consider changing  the $73                                                               
million exemption for both the North Slope and Cook Inlet.                                                                      
                                                                                                                                
4:40:25 PM                                                                                                                    
MR. ZAGER replied that he wouldn't  be here advocating that it be                                                               
lower, but  thought it would be  an appropriate place to  make an                                                               
adjustment. If you  want to motivate people to  explore more, you                                                               
should dance  with the people  who are  already here and  not the                                                               
blind dates.                                                                                                                    
                                                                                                                                
SENATOR STEDMAN  asked if  he thought  the $73  million allowance                                                               
for everyone was fair.                                                                                                          
                                                                                                                                
4:41:57 PM                                                                                                                    
MR.  ZAGER  replied  that  all the  companies  would  have  their                                                               
opinions  about which  lever they  could live  with. For  the big                                                               
producers, $73  million is a  small percentage of the  money they                                                               
would  pay and  is almost  a  throwaway. A  company that  doesn't                                                               
produce here  could only aspire  to get  to $73 million  some day                                                               
and until they  do, they wouldn't pay any taxes.  So, it's a very                                                               
important term for them. But, he said:                                                                                          
                                                                                                                                
     Chevron has done  all those things. It's  been here and                                                                    
     spent the  money. We're big  enough to trigger  the $73                                                                    
     million. But we're not big  enough to say it's a really                                                                    
     small percentage  of our business.  So, that's  why, it                                                                    
     hits us  in the  Cook Inlet;  it hits  us on  the North                                                                    
     Slope.  We're kind  of  in a  unique  position in  that                                                                    
     respect.                                                                                                                   
                                                                                                                                
4:43:02 PM                                                                                                                    
CHAIR WAGONER thanked them for their presentation.                                                                              
                                                                                                                                
4:43:25 PM recess 4:49:18 PM                                                                                                
                                                                                                                                
^PIONEER  NATURAL  RESOURCES  -  Pat Foley,  Manager,  Lands  and                                                             
External Affairs                                                                                                              
                                                                                                                                
PAT FOLEY,  Manager, Lands and External  Affairs, Pioneer Natural                                                               
Resources  Alaska, started  with a  brief history  saying Pioneer                                                               
started business in  Alaska in 2003 with  three exploration wells                                                               
and  acquired 150,000  acres in  an  areawide sale  on the  North                                                               
Slope.  In  2004  it  formed   an  exploration  partnership  with                                                               
ConocoPhillips and Anadarko covering a  vast portion of the NPRA.                                                               
In 2005,  it acquired a  small interest in the  cosmopolitan unit                                                               
and has an  option to increase the interest up  to 50 percent and                                                               
to replace ConocoPhillips as the operator.                                                                                      
                                                                                                                                
Early in February  it made a sanctioned decision  to proceed with                                                               
its  Oooguruk  development  on  the North  Slope  and  has  begun                                                               
construction. It will include roughly  40 horizontal wells and he                                                               
anticipates recovering 50  million to 90 million  barrels of oil.                                                               
Pioneer's total investment will be  $450 million to $525 million.                                                               
Pioneer  is the  operator and  owns 70  percent of  Oooguruk; the                                                               
other 30 percent owner is  E&I Petroleum, an Italian oil company.                                                               
At peak rate, Oooguruk will  produce 15,000 to 20,000 barrels per                                                               
day and he expected it to peak in 2010 or a little earlier.                                                                     
                                                                                                                                
4:52:30 PM                                                                                                                    
He believed  the challenges  for new  investors to  be formidable                                                               
because  the   remaining  fields   are  smaller,   lower  quality                                                               
reservoirs  that  are  more  remote   and  perhaps  offshore.  He                                                               
reminded them:                                                                                                                  
                                                                                                                                
     Last, we  think there  will be a  focus on  natural gas                                                                    
     and remember natural  gas today has no  market. It will                                                                    
     be another  decade before North  Slope natural  gas has                                                                    
     any marketability. The North  Slope clearly has some of                                                                    
     the  highest costs  of anywhere  in the  world and  the                                                                    
     other big  challenge is that  the North Slope  has very                                                                    
     long cycle times -  even with success.... Realistically                                                                    
     production won't  ensue for five years  at the earliest                                                                    
     and as long as 10 years down the road. It's that long                                                                      
      cycle time that keeps many small companies away from                                                                      
     Alaska.                                                                                                                    
                                                                                                                                
The largest risk in Alaska  is uncertainty in calculating all the                                                               
risks   accurately  like   oil  price,   fiscal  policy   change,                                                               
regulatory process  and access to existing  infrastructure on the                                                               
North Slope. Because  of the long cycle times, they  have to take                                                               
an extremely  long view of  price. Although  the price of  oil is                                                               
$50 a  barrel or higher,  over the last  10 years, the  price has                                                               
been closer to $25 a barrel on average.                                                                                         
                                                                                                                                
     For  a   company  like  Pioneer  that   has  no  Alaska                                                                    
     production,  the oil  price in  2006 is  irrelevant. We                                                                    
     look totally  to what oil  price will be over  the next                                                                    
     two  or   three  decades  to  understand   whether  our                                                                    
     investment decisions today are wise.                                                                                       
                                                                                                                                
4:57:44 PM                                                                                                                    
Under the  ELF formula, only very  large fields would ever  pay a                                                               
significant  portion of  severance tax.  The exploration  credits                                                               
entitle an investor  to recoup either 20 or  40 percent depending                                                               
on  the distance  from existing  infrastructure. The  exploration                                                               
incentive  credit  fiscal  system is  primarily  what  encouraged                                                               
Pioneer to  invest significantly  in some of  the infrastructure-                                                               
challenged areas -  such as the far west NPRA.  When they learned                                                               
the  severance tax  policy  was subject  to  being changed,  they                                                               
became quite concerned that it  might be detrimental to a company                                                               
like Pioneer  and that it  would be  a departure from  the fiscal                                                               
system  that prompted  it to  invest in  the state  in the  first                                                               
place.                                                                                                                          
                                                                                                                                
MR.  FOLEY said  he recognized  that the  existing severance  tax                                                               
program on  the North Slope  was not sustainable and  was pleased                                                               
that  the PPT  taxes profits  as  opposed to  revenues. It  makes                                                               
sense that additional assessments  are added after companies have                                                               
recouped  their  investments.  Pioneer  is  pleased  to  see  the                                                               
provision  regarding deductible  transitional capital  and agreed                                                               
with  the  Administration that  the  PPT  would provide  positive                                                               
economic  incentives   for  investment.  It  would   entice  more                                                               
companies and  ideas to Alaska  that would lead to  smarter field                                                               
development methods, drilling and production management.                                                                        
                                                                                                                                
Tradable tax  credits are a particularly  effective incentive for                                                               
exploration and development  of new resources. Under  the PPT the                                                               
Alaska challenges  are at least  partially offset by  the ability                                                               
to monetize the credits shortly  after investment. A tradable tax                                                               
credit would  lessen the negative  financial consequences  of all                                                               
the inevitable dry holes that the explorers would drill.                                                                        
                                                                                                                                
However,  he said  Pioneer has  a significant  concern about  the                                                               
potential  liquidity  of  the  tradable  tax  credits.  It  would                                                               
continue to invest heavily in  Alaska for the next several years,                                                               
but only  a handful of potential  buyers will be able  to buy the                                                               
tax credits and  layer that on the fact that  no single purchaser                                                               
can offset their tax through  using the purchased credits by more                                                               
than 20 percent.                                                                                                                
                                                                                                                                
MR. FOLEY  explained that  the way the  credit works,  they would                                                               
sell the  credits into the  market at  a discount and,  no doubt,                                                               
the buyers  of the credits  are clearly entitled to  recoup their                                                               
transaction costs. But  he was concerned that  the discount would                                                               
be significantly  greater than  the company's  actual transaction                                                               
costs and that an individual could use more than one.                                                                           
                                                                                                                                
5:01:32 PM                                                                                                                    
CHAIR WAGONER  said he was told  that some credits had  been sold                                                               
for 45 cents on  the dollar - and not 95 cents.  He asked if that                                                               
was true.                                                                                                                       
                                                                                                                                
MR.  FOLEY replied  that he  hadn't heard  that. He  said he  had                                                               
personally  sold  credits that  were  discounted  from full  face                                                               
value by only a few percentage  points. However, will all this in                                                               
mind,  he suggested  that the  Legislature consider  a refundable                                                               
credit program with limitations to  protect the state's cash flow                                                               
in the event  of low oil prices. The state  could refund money at                                                               
a modest discount from the full  face value. This would allow the                                                               
state and  not a third-party  buyer to benefit from  any discount                                                               
that a seller might be willing to accept.                                                                                       
                                                                                                                                
5:03:59 PM                                                                                                                    
MR.  FOLEY  stated that  the  PPT  improves Alaska's  competitive                                                               
position  from the  middle of  the pack  - according  to Dr.  van                                                               
Meurs.  But he  said to  attract companies  of Pioneer's  size or                                                               
smaller, the system should be at  least as competitive or more so                                                               
than U.S. Lower 48 opportunities.                                                                                               
                                                                                                                                
     Today with  the prevailing  high gas prices,  there are                                                                    
     very,  very large  resource plays  that are  attracting                                                                    
     huge amounts of  capital. When I talk  about a resource                                                                    
     play, I'm talking about  plays that specifically target                                                                    
     tight sands, shales, coal bed  methane. These are plays                                                                    
     that  again  today  are   attracting  huge  amounts  of                                                                    
     capital.   They  are   relatively  low   risk;  they're                                                                    
     relatively  low cost  and they  have very  short cycle-                                                                    
     times  when  compared to  the  North  Slope. If  Alaska                                                                    
     wants to  improve its competitive position  and attract                                                                    
     new investors,  we believe that the  Legislature should                                                                    
     take   great   care   in    making   changes   to   the                                                                    
     Administration's  proposal  that  would  make  it  less                                                                    
     competitive.                                                                                                               
                                                                                                                                
5:05:45 PM                                                                                                                    
He  liked exempting  the  first  $73 million  of  cash flow  from                                                               
taxation  which would  help deliver  an  investment climate  more                                                               
consistent with  the system that initially  encouraged Pioneer to                                                               
explore in Alaska  and would help offset high  startup costs. The                                                               
obstacles   to  new   investors  are   high  and   include  small                                                               
discoveries,  access  to  infrastructure  and being  risky  or  a                                                               
combination of all three. In summary, he said:                                                                                  
                                                                                                                                
     We believe that the proposed  PPT is a balanced program                                                                    
     with   appropriate   incentives    to   encourage   new                                                                    
     investment. We  encourage the Legislature  to carefully                                                                    
     evaluate the proposal and take  care to ensure that any                                                                    
     changes make  the state  more competitive.  Finally, we                                                                    
     would respectfully  ask that you consider  a tax credit                                                                    
     program  that  would  allow  the   tax  credits  to  be                                                                    
     refundable.  A  program like  this  would  allow a  new                                                                    
     investor the full-intended advantage  of the tax credit                                                                    
     program.                                                                                                                   
                                                                                                                                
CHAIR WAGONER thanked him for his presentation.                                                                                 
                                                                                                                                
5:08:28 PM                                                                                                                    
SENATOR  ELTON  asked if  he  thought  investment in  Alaska  was                                                               
competitive with that in other states.                                                                                          
                                                                                                                                
MR.  FOLEY replied  that  he couldn't  comment  on investment  in                                                               
other states, but  he worked in Alaska for  companies that didn't                                                               
intentionally explore for  gas and found it anyway.  He felt that                                                               
there would  be a way to  monetize the gas assets,  but that time                                                               
would be a decade or more away.                                                                                                 
                                                                                                                                
5:09:47 PM                                                                                                                    
SENATOR BEN  STEVENS recapped that Pioneer  worked with long-term                                                               
contracts and asked him if he  could share the ranges of a stress                                                               
price analysis.                                                                                                                 
                                                                                                                                
MR. FOLEY  replied that he  would be reluctant to  share absolute                                                               
numbers that he considers proprietary.  In general, in evaluating                                                               
a  project, people  tend  to  oversimplify investment  decisions.                                                               
It's not  a simple process.  Pioneer considers a  distribution of                                                               
costs, production rates and various price scenarios.                                                                            
                                                                                                                                
SENATOR  BEN STEVENS  asked how  an  increase in  tax rate  would                                                               
affect his evaluation.                                                                                                          
                                                                                                                                
MR. FOLEY replied  that a modest tax increase doesn't  have a big                                                               
impact on a  small investor like Pioneer, but  the refundable tax                                                               
credit  and  the  $73  million  floor do.  He  quipped  that  the                                                               
prospect  of  paying  a  large   production  tax  is  "relatively                                                               
attractive" to a small company whose production is now zero.                                                                    
                                                                                                                                
SENATOR BEN  STEVENS pointed  out that  elements of  the proposal                                                               
affect industry participants in separate ways.                                                                                  
                                                                                                                                
5:13:25 PM                                                                                                                    
SENATOR THERRIAULT asked  if he could have  justified the royalty                                                               
modification in the 180(j) mechanism if  the PPT was in place for                                                               
Oooguruk.                                                                                                                       
                                                                                                                                
MR.  FOLEY  replied  that  hadn't  been  evaluated  yet,  but  he                                                               
explained  that   when  the  investment  decision   was  made  on                                                               
Oooguruk, Pioneer's expectation was  that the severance tax would                                                               
be zero or nearly so at the very end.                                                                                           
                                                                                                                                
SENATOR THERRIAULT asked  if his company ran models  of the four-                                                               
year  step  back  in  royalty  rates on  Oooguruk  and  what  the                                                               
calculations were.                                                                                                              
                                                                                                                                
MR. FOLEY  replied yes.  Pioneer's initial  request was  that the                                                               
royalty at Oooguruk be rolled back  to a fixed 5 percent forever.                                                               
The state  said that was  not acceptable  and a bargain  was made                                                               
that  at payout  it would  begin increasing  and then  after four                                                               
years go  back to one-eighth  or one-sixth depending on  what the                                                               
lease terms were.                                                                                                               
                                                                                                                                
SENATOR   THERRIAULT  said   he  understood   that  the   state's                                                               
evaluation after the  fact was $58 million and  net present value                                                               
was $9 million.  He asked if he valued  that particular four-year                                                               
stair step the same way.                                                                                                        
                                                                                                                                
MR.  FOLEY replied  yes, but  added  that it's  also likely  that                                                               
Pioneer's valuation would have been different.                                                                                  
                                                                                                                                
5:16:09 PM                                                                                                                    
SENATOR  STEDMAN went  back  to investment  credits  and said  he                                                               
hoped they could be sold into the market in the high 90s.                                                                       
                                                                                                                                
MR. FOLEY  said his expectation  is that  he could sell  into the                                                               
market  in  the  high  90s,   but  there  aren't  many  buyers  -                                                               
potentially four  or five.  He said that  Pioneer is  drilling an                                                               
exploration well this winter that  would generate exploration tax                                                               
incentive credits  at a rate of  20 percent and it  is soliciting                                                               
bids to sell those credits, but it hasn't received offers yet.                                                                  
                                                                                                                                
5:18:03 PM                                                                                                                    
SENATOR  BEN  STEVENS  said  the   credit  is  issued  against  a                                                               
liability to the  state under the concept of the  state having to                                                               
essentially  refund that  credit to  its holder  and asked  if he                                                               
knows of any system that uses that policy.                                                                                      
                                                                                                                                
MR. FOLEY replied that he knew of none.                                                                                         
                                                                                                                                
SENATOR  THERRIAULT  asked  how  the five-year  look  back  would                                                               
affect his company.                                                                                                             
                                                                                                                                
MR. FOLEY  replied that Pioneer  had only  been in the  state for                                                               
three  years, but  its investment  was  in the  ballpark of  $100                                                               
million and  since the effective  date of this proposal  is July,                                                               
between now and July, Pioneer  would invest approximately another                                                               
$50 million to $60 million.                                                                                                     
                                                                                                                                
5:20:51 PM                                                                                                                    
SENATOR  STEDMAN asked  if Pioneer  would  be better  off if  the                                                               
effective date were moved to January 1.                                                                                         
                                                                                                                                
MR. FOLEY replied probably better off.                                                                                          
                                                                                                                                
CHAIR WAGONER thanked him for his presentation.                                                                                 
                                                                                                                                
5:22:13 PM RECESS 5:24:58 PM                                                                                                
                                                                                                                                
^UltraStar Exploration LLC, Jim Weeks, Managing Owner                                                                         
                                                                                                                                
JIM WEEKS,  Managing Owner, UltraStar Exploration  LLC, said that                                                               
it is  a small company that  is all Alaska-owned and  explores on                                                               
the North  Slope. The company  was formed  in 2002 by  Mr. Weeks,                                                               
John  Winther  and  Dale  Lindsey  for  the  primary  purpose  of                                                               
exploring and developing leases on the North Slope.                                                                             
                                                                                                                                
He  strongly  supported SB  305  and  the positions  of  existing                                                               
producers, independents  and explorers on this  issue. However he                                                               
offered  the a  few  comments. He  said  UltraStar supported  the                                                               
20/20 provisions and  the $73 million deduction  allowance in the                                                               
bill. But he has learned that  the $73 million allowance could be                                                               
a  difficult pill  for  the  Legislature to  swallow  if it  were                                                               
granted  to all  companies in  Alaska regardless  of the  size of                                                               
their  cash  flow   streams  and  it  might   be  eliminated.  He                                                               
encouraged them to not eliminate  it and suggested an alternative                                                               
that  would   still  provide   incentives  for   exploration  and                                                               
development  of  smaller  fields.  He  suggested  establishing  a                                                               
ceiling  above  which larger  companies  would  not get  the  $73                                                               
million allowance  and below which  the smaller  companies would.                                                               
He elaborated:                                                                                                                  
                                                                                                                                
     There  is a  precedent  for this  in  the "Charter  for                                                                    
     Development," a  1999 agreement  between the  state, BP                                                                    
     and ConocoPhillips,  that made the combination  of ARCO                                                                    
     and  BP  possible. There  are  many  provisions in  the                                                                    
     Charter, but one of them  requires BP and ConcoPhillips                                                                    
     to  give  preferential  treatment  to  small  producers                                                                    
     called  "qualified  producers."   The  Charter  defines                                                                    
     qualified producers  as those with worldwide  assets of                                                                    
     less than $1 billion  and establishes 5,000 barrels per                                                                    
     day as a  maximum amount of crude oil  that a qualified                                                                    
     producer  can  produce   to  receive  the  preferential                                                                    
     treatment.                                                                                                                 
                                                                                                                                
MR.  WEEKS  said the  Legislature  could  decide the  appropriate                                                               
ceilings, but  he thought this two-tiered  approach would provide                                                               
incentive  for  entry  by  small   newcomers  without  giving  an                                                               
undeserved windfall to the established players.                                                                                 
                                                                                                                                
5:31:23 PM                                                                                                                    
He  said   his  last  issue   could  be  significant   for  small                                                               
independents. He explained:                                                                                                     
                                                                                                                                
     It regards the exclusion  of "amounts paid for purposes                                                                    
     of indemnification" on  page 14, line 15,  of the bill.                                                                    
     Small   independents  like   UltraStar  will   need  to                                                                    
     indemnify  facility  owners   and  operators  who  will                                                                    
     process our oil through  their facilities. We will need                                                                    
     to  purchase real,  third-party, arms-length  insurance                                                                    
     to  satisfy  these  requirements.  We  will  also  need                                                                    
     insurance   to   meet   the   bonding   and   financial                                                                    
     responsibility  requirement   of  the   Departments  of                                                                    
     Natural  Resources and  the Environmental  Conservation                                                                    
     and  the Alaska  Oil and  Gas Conservation  Commission.                                                                    
     Depending upon the circumstances,  membership in an oil                                                                    
     spill clean  up cooperative  may also be  required. All                                                                    
     these costs  can broadly be characterized  as costs for                                                                    
     the purposes  of indemnification and could  arguably be                                                                    
     excluded when  direct costs  are calculated  as defined                                                                    
     at line 21 on page 13.                                                                                                     
                                                                                                                                
     Nearly  15   percent  of  the   cost  of   the  Winstar                                                                    
     exploration  well  at Oliktok  Point  in  2003 was  for                                                                    
     insurance premiums. So  these indemnification costs can                                                                    
     be significant  for the little  guy and  should clearly                                                                    
     be deductible to determine direct  costs. In his letter                                                                    
     transmitting  this legislation  to this  committee, the                                                                    
     Governor  said  that a  number  of  indirect costs  are                                                                    
     listed  in the  bill and  are to  be excluded  from the                                                                    
     calculation of direct costs.  Indemnification is one of                                                                    
     the  indirect costs  listed.  Trust  me, Mr.  Chairman,                                                                    
     there was  nothing indirect about the  $370,000 check I                                                                    
     wrote for the  insurance premium on our  last well. The                                                                    
     money went directly from our  bank account into theirs.                                                                    
     I urge  you to  clarify your intent  on this  issue and                                                                    
     allow     real,     invoice-supported,     arms-length,                                                                    
     indemnification costs to be included.                                                                                      
                                                                                                                                
5:33:05 PM                                                                                                                    
CHAIR  WAGONER  thanked  him  and  said  they  would  review  his                                                               
suggestions.                                                                                                                    
                                                                                                                                
5:34:04 PM recess 5:34:25 PM                                                                                                
                                                                                                                                
^Alaska Venture Capital Group - KEN THOMPSON, Managing Director                                                               
                                                                                                                                
KEN  THOMPSON, Managing  Director, Alaska  Venture Capital  Group                                                               
(AVCG), said his  is an independent oil  exploration company with                                                               
a  focus  on  the  North  Slope.  AVCG  is  a  consortium  of  15                                                               
independent  oil and  gas companies  and individuals  from Kansas                                                               
with Mr. Thompson  as an owner/investor from  Alaska. His company                                                               
has  acquired over  60,000 acres  of exploration  leases in  five                                                               
prospect areas  including new acreage acquired  this morning. Its                                                               
exploration strategy  is to  explore in the  central part  of the                                                               
North Slope  for fields in the  25 million to 100  million barrel                                                               
range, fields that may be too  small for the giant producers, but                                                               
fields that can be produced  profitably by smaller companies like                                                               
his. He believed  there are hundreds of millions  if not billions                                                               
of barrels of oil left on the North Slope in small fields.                                                                      
                                                                                                                                
He related AVCG's activities:                                                                                                   
                                                                                                                                
     Our  company  is  excited  to  report  that  the  first                                                                    
     exploration  well  AVCG  will participate  in  with  an                                                                    
     ownership  interest should  have started  drilling last                                                                    
     night  - the  Cronus  exploration well  about 10  miles                                                                    
     southwest  of the  Kuparuk Field,  operated by  Pioneer                                                                    
     Natural Resources.  We plan two exploration  wells next                                                                    
     winter and two the winter  after that. With success, we                                                                    
     will continue exploring and producing.                                                                                     
                                                                                                                                
MR. THOMPSON  reported that his  exploration budget for  the next                                                               
three years is $46 million. He related further:                                                                                 
                                                                                                                                
     Many of you also know me  as the past President of ARCO                                                                    
     Alaska, Inc. I also  served as Executive Vice-President                                                                    
     for ARCO  and head  of global  oil and  gas exploration                                                                    
     for  ARCO.   I  do  have  exploration   and  production                                                                    
     experience in  over 20 countries throughout  the world.                                                                    
     So, I'll  also share  my perspective in  how I  see the                                                                    
     new  production  profits tax  bill  in  the context  of                                                                    
     competitiveness in the world.                                                                                              
                                                                                                                                
5:39:47 PM                                                                                                                    
     In my  first week as  President of ARCO Alaska  in June                                                                    
     1994, our  ARCO staff  reviewed state policies  with me                                                                    
     to educate me abut the  oil and gas industry in Alaska.                                                                    
     One of the  key items they reviewed  was the production                                                                    
     tax  and  the  very  complicated  policy  of  ELF.  Our                                                                    
     government affairs  personnel told  me that ELF  was in                                                                    
     jeopardy -  that the production property  tax was going                                                                    
     to  be changed.  That  did produce  uncertainty in  our                                                                    
     project  economics  forecast.  Every year  since  then,                                                                    
     production  taxes  and the  ELF  have  been topics  and                                                                    
     uncertainty  remains. Sixteen  years have  passed since                                                                    
     that  meeting and  every year  I hear  discussion about                                                                    
     production  taxes,  ELF  and  the  imminent  threat  of                                                                    
     change. I welcome  change and I say, "It's  time to put                                                                    
     the new system into effect and let's get on with it."                                                                      
                                                                                                                                
MR.  THOMPSON said  he  supported the  PPT as  long  as the  most                                                               
important terms remain as written.  He supported the progressive,                                                               
profit sharing  type structure versus a  regressive, straight tax                                                               
on gross  revenues. That way  the state  would share the  gain at                                                               
high  oil prices,  but would  also share  the pain  at lower  oil                                                               
prices.  This helps  the smaller  investors limit  their downside                                                               
risk in the event of price collapse.                                                                                            
                                                                                                                                
He  reminded the  committee that  in addition  to the  20 percent                                                               
production tax the  state would receive from AVCG,  it would also                                                               
continue to receive a 12.5 to  16.67 percent royalty share of all                                                               
revenues, the  oil and gas  property tax, corporate  income taxes                                                               
and other revenues.                                                                                                             
                                                                                                                                
5:41:32 PM                                                                                                                    
The investment tax credit ass another  key for AVCG. It creates a                                                               
very  clear incentive  to  return that  into  investment for  new                                                               
exploration rather  than take  the money  outside. He  thought it                                                               
would be  attractive to  other companies  as well.  But companies                                                               
that  were  already planning  to  send  their cash  flow  outside                                                               
Alaska would probably not be convinced to keep it here.                                                                         
                                                                                                                                
MR. THOMPSON  listed the things  that should not be  changed from                                                               
his company's position.  He thought the 20/20 was  a good balance                                                               
and neither should be changed. He  said, "With a tax credit of 20                                                               
percent  and  redeployment  of  the tax  savings  back  into  our                                                               
exploration  in the  state,  we can  essentially  drill an  extra                                                               
exploration  well for  each five  exploration wells  we currently                                                               
have budgeted."                                                                                                                 
                                                                                                                                
It was  also important to  keep the $73 million  annual operating                                                               
cash flow standard tax deduction.  However, he didn't see how the                                                               
public would understand and agree  to that and suggested changing                                                               
the exemption  to 5,000 barrels a  day net. That would  help AVCG                                                               
get its feet on  the ground and it would be  an easier policy for                                                               
the public  to understand.  A large producer  could also  get the                                                               
5,000  barrels  exemption,  but  still  have  to  pay  production                                                               
profits tax on the other perhaps 295,000 barrels it produced.                                                                   
                                                                                                                                
5:45:58 PM                                                                                                                    
MR.  THOMPSON  then  talked  about  the  things  that  should  be                                                               
changed. While  being able to  sell investment credits  to others                                                               
in industry, if  a new explorer does not yet  have oil production                                                               
revenues to use the credits  sounds good, the major producers are                                                               
the  only ones  who would  buy the  credits and,  therefore, they                                                               
would set the price for them.  That would not be favorable to new                                                               
explorers  because the  credits might  be sold  at only  70 -  75                                                               
percent  on the  dollar and  the major  producers would  take 100                                                               
percent  of  the acquired  credit  against  their production  tax                                                               
bills. He recommended that:                                                                                                     
                                                                                                                                
     The state consider establishing  a pool of dollars from                                                                    
     the production  profits taxes taken  in to buy  the tax                                                                    
     credits  from small  explorers. This  makes sense.  The                                                                    
     state  would  not be  giving  up  anything because  the                                                                    
     major  producers would  otherwise  use  the credits  to                                                                    
     reduce their tax bill and  reduce revenue to the state.                                                                    
     But  using this  approach,  the  small explorers  could                                                                    
     turn  around  and  reinvest the  state-refunded  credit                                                                    
     into new  leases, seismic  or exploration  drilling. In                                                                    
     fact, the  state might  want to  stipulate that  if the                                                                    
     state  refunded  the tax  credits  to  a company,  that                                                                    
     company  must use  it for  exploration or  development.                                                                    
     Our  company would  support such  a concept.  Explorers                                                                    
     who don't  want to do  this option and reinvest  in the                                                                    
     state,  but just  want  the cash  value  of the  credit                                                                    
     could sell  it to  the majors  at 70  to 75  percent if                                                                    
     they prefer that option.                                                                                                   
                                                                                                                                
     The section in the bill  on "determination of net value                                                                    
     of  oil and  gas"  listed direct  costs  that could  be                                                                    
     deducted from gross oil revenues  to calculate a profit                                                                    
     or "net value  of oil and gas" to then  be taxed at the                                                                    
     20 percent tax  rate. For a new explorer  in Alaska the                                                                    
     startup  costs in  the state  can be  very substantial,                                                                    
     particularly  for  smaller  players. This  can  include                                                                    
     high costs for bonding,  participation in the oil spill                                                                    
     consortium,   Alaska    Clean   Seas,   indemnification                                                                    
     insurance, etc. These types of  costs should be clearly                                                                    
     mentioned in the bill as deductible.                                                                                       
                                                                                                                                
MR. THOMPSON summarized his presentation  saying he hoped the $73                                                               
million deduction  remained and  that legislators  would remember                                                               
how important it would be  for the smaller companies to establish                                                               
a foothold in Alaska. He  elaborated the alternative he suggested                                                               
earlier saying:                                                                                                                 
                                                                                                                                
     As an alternative, however, to  the $73 million profits                                                                    
     exemption, we offer that the  state might choose to use                                                                    
     an approach that the state  has already approved in the                                                                    
     1999  "Charter for  Development  of  the Alaskan  North                                                                    
     Slope" between  the State  of Alaska,  BP and  ARCO. In                                                                    
     that charter,  there was a section  entitled "Purchases                                                                    
     From Qualified  Producers" that guaranteed that  BP and                                                                    
     ARCO  (now  ConocoPhillips)  would agree  to  offer  to                                                                    
     purchase any  "qualified producer's" crude oil  so that                                                                    
     new   entrants  or   small  producers   would  not   be                                                                    
     disadvantaged in  marketing their oil. In  that section                                                                    
     there  was a  clear  definition of  a protected  "small                                                                    
     producer."   Actually,  the   charter  called   such  a                                                                    
     "qualified producer."                                                                                                      
                                                                                                                                
     I quote from the  charter: a 'qualified producer' means                                                                    
     an  entity   with  assets  of  less   than  $1  billion                                                                    
     (worldwide)  which   produces  not  more   than  10,000                                                                    
     barrels   of   gross   working  interest   ANS   liquid                                                                    
     hydrocarbons  per day.  Again,  we  hope the  deduction                                                                    
     provision remains  in the bill. If  there is opposition                                                                    
     in  the end,  AVCG does  hope the  small companies  are                                                                    
     protected in  some way. Perhaps  an innovation  such as                                                                    
     using the Charter guidelines may help.                                                                                     
                                                                                                                                
He thanked them for the opportunity to make comments.                                                                           
                                                                                                                                
5:50:55 PM                                                                                                                    
SENATOR THERRIAULT  asked him  for an example  of a  market where                                                               
credits would  be sold at  the low range of  70 to 75  percent on                                                               
the dollar.                                                                                                                     
                                                                                                                                
MR. THOMPSON  replied that he  didn't have such an  example. AVCG                                                               
just used that  figure in its model. The past  market has been at                                                               
90 to 95 percent of the  credit and he hoped that continued. This                                                               
is new ground  and a lot more credits might  be available through                                                               
PPT than  ever before  at one  time and  that could  affect their                                                               
value. Even  if the credits go  for 95 percent, the  majors would                                                               
turn around and use the full  100 percent. He, on the other hand,                                                               
as a  small producer,  pledged to  use the  full 100  percent for                                                               
exploration activity.                                                                                                           
                                                                                                                                
5:52:41 PM                                                                                                                    
SENATOR  BEN  STEVENS asked  him  to  expand  on  page 3  of  his                                                               
testimony  where he  said he  panicked at  a 25  percent PPT.  He                                                               
asked  him  to compare  his  position  as  a small  company  that                                                               
wouldn't be  subject to the  tax rate for  many years to  that of                                                               
Mr. Foley's of Pioneer, who said it wouldn't affect him.                                                                        
                                                                                                                                
MR. THOMPSON  replied that AVCG  hoped to be a  sizeable producer                                                               
in three  years and at the  taxation level. However, when  he ran                                                               
the economics for  its prospects at a tax rate  of 25 percent, he                                                               
found that:                                                                                                                     
                                                                                                                                
     Interestingly, it  wasn't too  much different  than the                                                                    
     current  system -  not dramatically  different, anyway,                                                                    
     as far an  investor's rate of return.  However, when we                                                                    
     ran the tax rate at 20  percent, we found that our near                                                                    
     term cash  flow was better.  The state was  taking less                                                                    
     although,  after payout  and after  the tax  credit was                                                                    
     gone [indisc.]. The state was  taking more share of the                                                                    
     profits and  we were  having less  cash flow.  I'm okay                                                                    
     with that,  because that means  we get a  faster payout                                                                    
     with a better  cash flow near term and we  get a higher                                                                    
     rate of  return. And when I  go to Houston in  the last                                                                    
     year  and try  to get  partners, this  rate of  return,                                                                    
     this  rate  of  return   hurdle,  sometimes  for  other                                                                    
     partners,   particularly   in    the   private   equity                                                                    
     markets.... I  think we could  attract more  capital to                                                                    
     our company for additional  drilling. So, that's really                                                                    
     why I say that the rate  of return wasn't all that much                                                                    
     different at  a 25  percent rate, but  at a  20 percent                                                                    
     rate, it really did help us....                                                                                            
                                                                                                                                
He also  informed them that  private equity was not  as available                                                               
for exploration as for development.                                                                                             
                                                                                                                                
SENATOR  BEN STEVENS  commented  that the  mechanisms  in SB  305                                                               
affect each  company differently. For  a company that  is seeking                                                               
capital, a  fixed rate at 20  percent improves its ability  to do                                                               
that - even though it is not a ratepayer for many years.                                                                        
                                                                                                                                
CHAIR WAGONER asked what would happen  to his company at rates of                                                               
25/25 and 25/30.                                                                                                                
                                                                                                                                
MR. THOMPSON  said he would  run those  numbers for him,  but his                                                               
feeling was that 25 percent just didn't seem fair.                                                                              
                                                                                                                                
5:58:30 PM                                                                                                                    
SENATOR THERRIAULT said  even if the tax rate is  locked in for a                                                               
long period of time and the  state is not getting the activity it                                                               
wants, it  could probably be  lowered without much  trouble. But,                                                               
the state might not be able to increase the rate as easily.                                                                     
                                                                                                                                
MR. THOMPSON  said he  understood that concept,  but it  would be                                                               
nice  to  know everything  up  front.  He  repeated that  the  25                                                               
percent crosses his fairness threshold.                                                                                         
                                                                                                                                
SENATOR  THERRIAULT asked  what effective  corporate tax  rate he                                                               
expects for his operation.                                                                                                      
                                                                                                                                
MR.  THOMPSON replied  that AVCG  used a  9.4 corporate  tax rate                                                               
from a conservative standpoint.                                                                                                 
                                                                                                                                
SENATOR THERRIAULT  also noted that  when they are  talking about                                                               
"government take,"  that includes the federal  government take as                                                               
well.                                                                                                                           
                                                                                                                                
6:01:19 PM                                                                                                                    
SENATOR  STEDMAN   commented  that  when  they   talk  about  the                                                               
difference between a 20 tax and  25 percent tax, from a company's                                                               
point  of view,  the total  government  take is  changed only  by                                                               
about 2 percent.                                                                                                                
                                                                                                                                
6:01:55 PM                                                                                                                    
CHAIR WAGONER thanked Mr. Thompson for testifying and said the                                                                  
meeting would be recessed until tomorrow. He then recessed the                                                                  
meeting at 6:03:33 PM.                                                                                                        
                                                                                                                                

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