HB 331-TAX CREDIT CERT. BOND CORP; ROYALTIES  1:37:59 PM CO-CHAIR JOSEPHSON announced that the first order of business would be HOUSE BILL NO. 331, "An Act establishing the Alaska Tax Credit Certificate Bond Corporation; relating to purchases of tax credit certificates; relating to overriding royalty interest agreements; and providing for an effective date." 1:39:44 PM THOMAS RYAN, Managing Director, Structured Finance Group, ING Capital, LLC, recapped ING business interests in Alaska. The company financed two large borrowers in Alaska and monetized their tax credits in 2014 and 2015; the outstanding loans as of 2016 have now been in default because of the delays in the monetization of the tax credits; and the transactions have been transferred to the credit restructuring department. He emphasized that ING has not foreclosed on the loans but stays committed to the original transactions that proved liquidity to the projects. He said that both projects are very close to being profitable: one is generating cash; the other is expected to generate cash next year. The company remains committed to the two projects; it has not foreclosed and taken the tax credits, even though it would be entitled to do under the terms of the transaction. MR. RYAN relayed that ING personnel recognize that circumstances have changed; the fall in oil prices had a significant effect on Alaska; and ING has been committed to remaining patient. He offered that the company's request in the last two years has been for some certainty and for restructuring of the debt. He claimed that certainty in knowing how much the company will be paid and when to expect the payment would allow for it to restart the lending process. The company is very committed to the state. The four largest sectors to which it lends are: natural resources - metals and mining, infrastructure projects; agriculture and fisheries; and telecommunications. He maintained that HB 331 would create the certainty concerning the future of the tax credit program that ING welcomes. 1:42:12 PM PETER CLINTON, Managing Director, Credit Restructuring, ING Capital, LLC, relayed that when the loans were made, they were given serious underwriting considerations, and ING understood [state] appropriation of the funds was one of the risks of the transactions. He maintained that at the time ING made the loan and at the time the state developed the programs, no one could have foreseen that the price of oil would fall so far so rapidly as it did, leaving numerous parts of the energy sector throughout the U.S. in great distress. He stated that ING invested about $2.5 billion in the exploration and production (E&P) sector in Houston; that sector has seen 60-70 bankruptcies of energy sector companies since the start of the energy crisis. MR. CLINTON maintained that the difference between Houston and Alaska is that in Houston, there was a predictable process for how the effects [of the energy crisis] would play out, which allowed for significant capital to be available as the energy prices rebounded. The capital was available for investments and acquisitions, both on the debt and equity sides. He maintained that ING, which had 12 clients file for bankruptcy, still lends to every one of those clients and still looks for new business in that segment. MR. CLINTON reiterated that those at ING understand that not everything included in a contract plays out as intended, and credit restructuring may be warranted. He reiterated that in resolving situations such as described, ING looks for predictability in future cash flows and participation in the solution by all constituents affected by the situation. He said that in the current situation, the entities impacted are the state, the small E&P companies relying on the tax credits for further investments, and ING, looking for repayment of loans. He conceded that it is the nature of the business at ING that not every penny that is lent out is repaid. MR. CLINTON maintained that as ING personnel value predictability, the proposed legislation would allow ING a discounted payout in exchange for that predictability; it represents a classic restructuring and it makes sense. He offered that the alternative - paying out "to the formula" - is not a viable option because it lacks dependability. It would be subject to the political ramifications of state appropriations. He opined that investors of the future will look for that kind of predictability as well. He offered ING's support for the proposed legislation and maintained that it is a good proposal and should be given serious consideration. 1:47:00 PM REPRESENTATIVE BIRCH related that he was initially skeptical of the proposed legislation; however, after considering it in the context of the rate of return and the borrowing rate of the Alaska Permanent Fund, he maintained that he now considers the proposal reasonable. He stated his belief that the Alaska State Legislature has a duty and responsibility to settle its debts. He opined that HB 331 offers a reasonable solution, provides predictability, and gives closure to small operators who were invited to Alaska to work but now find themselves in financial constraints. He offered his support for HB 331. 1:48:30 PM REPRESENTATIVE PARISH requested to know the value of ING's assets and debts. 1:48:42 PM MR. RYAN responded that ING's total outstanding debts are about $100 million, and it has $140 million in credits. He added that if ING were to foreclose and sell its credits to a secondary market, it would probably recoup its money, but there would be nothing left for the projects. He maintained that as of now, there is still value for the projects. The proposed legislation would allow ING to recoup most of its money and leave significant value for the projects themselves, which is desperately needed to comply with the contracts. 1:49:30 PM MR. CLINTON added that in addition to providing liquidity directly, the proposal would "clean up" companies' balance sheets in an audit opinion, allowing them go back out to the capital markets. The capital markets are currently not welcoming the companies due to the defaulted loans. 1:49:54 PM REPRESENTATIVE PARISH asked for clarification that $140 million in outstanding credits could cancel out the $100 million in outstanding debt, if ING resold them. MR. RYAN answered that the amount represents an aggregation so cannot be described quite that way. He added that if ING sold all the credits, the entire proceeds would pay off the loan, more or less, and there would be nothing left. He stated that since ING personnel have not been actively canvasing the secondary market, it is difficult to say for sure. 1:50:51 PM REPRESENTATIVE PARISH asked whether at the time ING made the loans, ING and the lawyers of the borrowers of the loans contemplated the pertinent statute. MR. RYAN responded yes. REPRESENTATIVE PARISH asked whether it was reasonable to assume than no party entered into the agreements with ignorance or illusions regarding the responsibilities of the state. MR. RYAN answered, that's right. 1:51:41 PM CO-CHAIR JOSEPHSON asked Mr. Clinton if he is at liberty to reveal the penalties that the independents are incurring, assuming the loans are in forbearance. MR. CLINTON responded that the penalties are standard. He clarified that the agreements are not in forbearance; initially they were for the short term, but those have expired. He explained that both loans are in default, can be called at any time, and there is no existing agreement with either of the borrowers. He offered that there is excellent communication between ING and the borrowers; ING has communicated to the borrowers its desire to "see this through" in a cooperative manner and in a manner that will return some of the liquidity to them. He added that the only penalty that the borrowers are incurring today is the default interest rate - usually 2 percent higher than would be charged on the loan - which is typical of any transaction. MR. CLINTON related that there are other remedies available to ING, such as foreclosing on the certificates, which is an option at any time. He explained that ING has not done that for several reasons; first and foremost, ING has faith that the situation will be and should be remedied by the legislature. He stated that the spirit of the original agreement was that ING was to be paid by the State of Alaska; to the extent that there were excess tax credits, ING would return the money to the investors. One of the investors currently is depending on these funds for further investment; the money is not available to the investor. Because of the uncertainty, the investor is unable to access the additional equity and risks losing upwards of $350 million of equity that has been invested in the project. He added that the project will continue with another investor; however, that investor will not offer the money without penalties to the existing investors. MR. CLINTON reiterated that ING has not pursued the rights and remedies available to it; if there was a very active secondary market, it is possible ING might have pursued that option. He said that ING prefers a solution that would allow it to continue relationships with its clients. He maintained that just because a company has financial issues, that doesn't mean it will forever have financial issues. If one has faith in management teams and faith in the projects, there is nothing wrong with reexamining the opportunity to work with the company again. 1:55:36 PM CO-CHAIR JOSEPHSON offered that the 2 percent on some of the accounts may date back to the summer of 2015. MR. RYAN agreed that ING incorporated some extension periods to cover eventualities such as appropriation delay; therefore, the percent does not date back quite that far. He said that to be clear, the real value for the risk for the projects is that there are some credits that were not lent against and were reserved by ING as extra collateral; ING would like to either lend against [the credits] or release them back to the company. He offered that the beauty of HB 331 is that there would be some cash against those credits as well, which would be released directly back to the company. 1:56:23 PM REPRESENTATIVE PARISH asked for clarification: ING has lent against $140 million in cashable tax credits, upon which approximately $100 million has been loaned; ING has another set of tax credit against which it has not needed to borrow. MR. RYAN responded that the $140 million has two components: the portion that ING lent against, which amounts to about 85 percent; and the portion that came after the appropriation issues began, at which time ING stopped advancing against the funds. REPRESENTATIVE PARISH commented, "That covers your risk." MR. RYAN concurred. MR. CLINTON added that as more time passes without any principle reduction, the interest accrual "eats into it." 1:57:35 PM REPRESENTATIVE PARISH asked if given $100 million, ING would be able to eliminate the companies' debts. MR. RYAN answered that if the loan were paid off in exchange for all the credits, ING would be satisfied; however, ING has a philosophical obligation to the borrowers. He offered that ING has worked hard with the borrowers to keep them solvent, and it would not want to see their $40 million gone. 1:58:27 PM REPRESENTATIVE BIRCH stated that the [tax credit] program began in 2011; it was not unreasonable to expect a full payment of the tax credits. He mentioned that the payment occurred every year for several years; the governor vetoed two successive years [of payment] due to financial shortfalls. He said that it was reasonable to expect predictability; the tax credits were fully paid as obligated over five to six years. MR. CLINTON responded that ING appreciated the credit and came into the agreement with "eyes wide open." The personnel at ING expected the credits to be paid off as they had been historically and as had been promoted. 1:59:41 PM SHELDON FISHER, Commissioner Designee, Department of Revenue (DOR), continued the PowerPoint presentation entitled, "State of Alaska Department of Revenue HB331: Oil & Gas Tax Credit Bond Proposal" dated 3/30/18, which was begun during the hearing of HB 331 on 3/30/18. He returned attention to slide 9, entitled "Oil & Gas Tax Credit Background: The Challenge." He stated that the revised estimated statutory payment for the spring forecast was elevated slightly in fiscal year 2019 (FY 19); the levels in the following years were lower and more consistent. COMMISSIONER FISHER turned to slide 10, entitled "Proposed Solution: Issue Bonds and use proceeds to pay off Tax Credits." He related the example on the slide, involving the assumption that the credit holder has $100 million in credits payable equally over four years, or $25 million per year. He discussed that the program would have two discount rates - 10 percent and 5.1 percent. He directed attention to the charts on the right of the slide. Under the 10 percent discount rate, year one shows no discount; there is a 10 percent annual discount for future years; and the buyout offer is $87.17 million. The 5 percent scenario shows similar logic with a buyout offer of $92.95 million. He explained that someone would agree to accept $87 million for $100 million of debt because money has a time value associated with it. The belief is that even at the 10 per cent discount rate, the cost is lower compared with the weighted average cost of capital (WACC); that is, the rate is lower than the rate at which the credit holder could secure money from other sources. COMMISSIONER FISHER further explained the difference between the two rates. All credit holders would be eligible to utilize the 10 percent rate. To achieve the 5 percent rate, the credit holder would be required to make one of four commitments. The first is agreeing to give the state an additional overriding royalty interest, and the value of the royalty interest over time would be structured to be equal to the difference between the two discounts. In the example shown on slide 10, that difference would be approximately $6 million; therefore, the overriding royalty interest would have a present value of $6 million. The second option is committing to reinvest the money in Alaska. The third is agreeing to waive confidentially associated with seismic data as it relates to the credit. The fourth involves certain refinery or gas storage credits, which would allow the credit holder to qualify automatically for the lower rate. COMMISSIONER FISHER mentioned that the 5.1 percent is based on a formula that is the true cost of interest, and in the current example, that would be about 3.6 percent, or what DOR believed to be the market rate for the debt at the time it goes to market. It may turn out to be slightly higher or lower, but this is the percentage chosen as a conservative estimate. An additional 1.5 percent was added by DOR as a cushion, resulting in 5.1 percent, which DOR represents as the state's borrowing cost. He added that even under the state's borrowing cost in the scenario demonstrated on the slide, the discount will pay for the cost of interest. The 10 percent rate was chosen by DOR arbitrarily; it was intended to be roughly the midpoint between the state's borrowing cost of 5 percent and what DOR perceives to be the market rate for the companies, which is a weighted average cost of capital in the high- to mid-teens. COMMISSIONER FISHER related that the important concept from the state's perspective is that the state had a commitment to the credit holders to pay them over time; under the proposed legislation, the credit holders would accept a reduced payment so that the state can commit to pay a bond holder over time. Under either the 5 percent or the 10 percent discount rate, the state is modestly better off. He maintained that the state's goal is not to try to make money on this program but to create a structure in which the state is neutral in the different scenarios. 2:05:54 PM CO-CHAIR JOSEPHSON referred to the second bullet under the 10 percent rate on slide 10 - committing to reinvest the money in Alaska. He offered that if the money is owed to ING, meeting that condition would be difficult. He suggested that doing so would depend on what was borrowed and how it was borrowed during the exploration phase; it would be an individual exercise. COMMISIONER FISHER conceded that much of the money likely would be used to pay the debts; however, doing so would allow the companies to "clean up" their balance sheets. The elimination of outstanding debt would enable them to receive clean audits. Consequently, they could access other sources of capital that they would reinvest. It would not necessarily be the exact same money coming back into the Alaska economy, but it would allow the companies to attract money. He said that the way HB 331 is structured, to qualify for that condition, the company would have to present a plan satisfactory to DOR that evidences the ability to reinvest the money over a three-year period. 2:07:32 PM REPRESENTATIVE PARISH referred to the commitments needed to qualify for the lower rate and mentioned that the discount rate would represent approximately a 7 percent reduction in the asking price relative to the total base value of the credits. He asked if the commitment to reinvesting in Alaska must be an amount equivalent to the overall amount purchased. COMMISIONER FISHER answered, "That is correct." 2:08:22 PM REPRESENTATIVE PARISH referred to the commitment regarding the early waiver of confidential seismic data and asked whether a company having one small shoot of low monetary value that is about to expire could use it against any amount of credits to reduce the rate. 2:08:47 PM KEN ALPER, Director, Tax Division, Department of Revenue (DOR), explained that seismic data goes to the Department of Natural Resources (DNR) and becomes public after a ten-year period. Currently DNR is going through the process of releasing seismic data that it received nine and ten years ago. The credits that are unpaid are all based on work that was done for the most part in 2015 and 2016; there is nothing "ripe" for publication. The companies would be authentically giving up nine- or ten-years' worth of confidentiality in exchange for an incremental $6 million. MR. ALPER mentioned that Representative Parish raised another question not addressed by HB 331: What happens when a company has some seismic credits and some non-seismic credits for drilling an exploration well? He said that according to DOR's interpretation, DOR would only allow the company to buy down the discount rate for the seismic credits by giving up the seismic data. Another commitment would have to be made for a lower rate on the drilling credits, such as the reinvestment commitment. 2:10:26 PM REPRESENTATIVE PARISH asked whether that interpretation is included explicitly in the proposed legislation. MR. ALPER responded that it is a detail that would need to be put into regulation; it is DOR's interpretation, and DOR would support including information to clarify that point. 2:10:48 PM REPRESENTATIVE PARISH asked for an explanation of the fourth condition for a lower rate, as shown on the slide as "Have Refinery or Gas Storage Credits". MR. ALPER replied that most of the credits have been sunset through legislation passed [in 2017 during the Thirtieth Alaska State Legislature]. Several smaller programs had pre-existing sunsets - in 2020 and 2021 - which represent credits not under the oil and gas statutes but under the corporate income tax statutes. The gas storage credit is a one-off; it has never been used but was put into statute for the benefit of the Interior Gas Utility (IGU). Once the main storage tank is built in Fairbanks and if is completed before the deadline, there will be a tax credit due from the state to contribute to the cost. MR. ALPER mentioned that the impacted entities have nothing to offer: they have no royalties to give; the projects are finite; the credits are capped; and the dollar amount is fixed so that there is a limit on what they earn. The work that has been done to earn the refinery credits has already been put to economic use by the State of Alaska. He gave as an example Petro Star Inc., which built an asphalt plant as an addition to its refinery in North Pole. Asphalt is now manufactured in Alaska, and the Department of Transportation & Public Facilities (DOT&PF) and other large consumers of asphalt now can obtain cheaper asphalt than that from the Lower 48. He offered that the state decided to default these entities into the lower discount rate because of the benefits they offer. 2:13:07 PM REPRESENTATIVE PARISH asked whether the credits are transferable. MR. ALPER expressed his belief that the credits could be sold to a tax payer; however, he conceded that he was not sure if this was true of refinery credits. 2:13:31 PM REPRESENTATIVE PARISH also asked if there is a threshold for how many credits could be bought and used for a discount. MR. ALPER agreed to research Representative Parish's two questions. He added that in drafting the proposed legislation, DOR contemplated many scenarios for "gaming" the system. He gave as an example: when a company offers their credits into the program, it must offer all of them; there is no ability to pick and choose which credits it will offer. The concern was that companies would hold out for a better buyout. He reiterated that DOR does not want to create the opportunity to game the system. He offered that DOR supports creating a "bullet-proof" system to protect the state's interest. 2:14:59 PM COMMISIONER FISHER referred to slide 11, a continuation of the proposed solution, and explained the process as follows. The first step would be to provide the credit holders with a definitive statement of the proceeds that will be available under the program and secure irrevocable commitments from them to participate. He mentioned that this contact would occur a couple weeks before the actual issuance of the bond. Staff at DOR have already reached out to the credit holders twice - with an estimate based on the fall forecast and updated estimate based on the spring forecast; DOR has been in communication with them regarding their interest and view of the program. COMMISIONER FISHER relayed that if and when HB 331 passes and once DOR receives the irrevocable commitment, it will determine if a credit holder qualifies for the 10 percent discount or the 5 percent discount. He said that DOR will then go to market and issue the bonds. He added that the reason for the irrevocable commitment is that DOR does not want to borrow more money than necessary in order to pay off the debt. COMMISIONER FISHER referred to "Step 2: Issue Bonds" on slide 11 and reported that there is just over $800 million in outstanding credits presently. For the purpose of the current analysis, DOR assumed that no credits would be sold to the major producers to offset taxes. He added that there is a possibility that some credits may be sold to producers between now and when this program is launched. COMMISIONER FISHER stated that the resulting bond issuance would be between $683 million and $738 million; DOR could be in the market place as soon as August, if the proposed legislation passes in May. COMMISIONER FISHER related that DOR anticipates future issuances for certificates issued between August 2019 and August 2021; the additional issuances are expected to be between $130 million and $180 million in the aggregate. COMMISIONER FISHER referred to "Step 3" on slide 12, also a continuation of the proposed solution. He relayed that the next step would be to purchase the tax credits. He referred to "Option 1" under Step 3 and said that the standard rate, for which all credit holders would qualify, would be 10 percent. He offered that this rate represents a balance between both the state's and the credit holders' interests; it would cover the cost of capital as well as the state's financing cost and offer a modest benefit to the state. Under "Option 2," the credit holders would qualify for a lower interest rate of just over 5 percent; that percentage is based on today's market of 3.62 percent true interest rate cost plus 1.5 percent. He added that as the time of issuance approaches, the percentage rate may vary and DOR would notify the credit holders based on the market conditions at the time. He restated the four scenarios qualifying a credit holder for the 5.12 percent rate, as listed under Option 2 on slide 12. 2:19:07 PM COMMISIONER FISHER referred to slide 13, also a continuation of the proposed solution. He relayed that the state would issue bonds, and the bonds would have a ten-year term for the first issuance. He stated that the bonds would have a back-loaded debt service, meaning that in the first two years DOR anticipates interest only, years three to five increasing debt service, and years six through ten a flat payment to fully pay off the debt. He mentioned that future bond issuances would consist of interest only in years one through nine and a balloon payment in year ten. It is expected that the discount would cover the cost of debt service. 2:19:52 PM REPRESENTATIVE BIRCH asked what protections the bond holders would have for being reimbursed by the state. COMMISIONER FISHER replied that the bonds would be subject to appropriation; each legislature would have the opportunity to appropriate the money to repay the debt. He opined that there is a general appreciation for the state's obligation to incurring and repaying debt. He maintained there is a moral obligation and a strong presumption for the state's repayment of the debt. He added that the interest rate is a little higher than one with a general obligation (GO) bond; it reflects a modest amount of appropriation risk for these debts. 2:21:47 PM REPRESENTATIVE PARISH asked what the bond holder's recourse would be if future legislatures failed to appropriate the money. COMMISIONER FISHER deferred the question to his DOR colleague. 2:22:20 PM DEVEN MITCHELL, Debt Manager, Treasury Division, Department of Revenue (DOR), responded that there would be no ability for the lenders to extract funds from the State of Alaska. He added that this situation would be different than other subject-to- appropriation commitments. He mentioned that the lease for the controversial [Anchorage Legislative Information (LIO)] building was subject to appropriation; however, that lease was not authorized by law. The bond commitment would be authorized by stand-alone law; therefore, would represent a different level of commitment by the legislature. He said that the municipal bond market is recognized as a form of commitment that has the state's good word behind it; a failure to pay would result in a downgrading of the state's GO bond credit rating; and the state's ability to access the capital market would be restricted. 2:23:47 PM REPRESENTATIVE PARISH asked for the current bond rating and the expected decline of that rating should the legislature decline to repay the debt. MR. MITCHELL replied that the state has had subject-to- appropriation commitments for many years, and there have been many tough times; however, there have always been appropriations. He maintained that the expectation is that there will be payment on these bonds. He emphasized that the bonds will not be issued if there isn't an expectation of payment. He said that the state's current credit rating is "double a, double a, double a three" from Standard and Poor's Financial Services LLC (S&P) and Moody's Investor Service (Moody's) respectively. If there is a failure of repayment, one might expect a significant downgrade of the three ratings to a low A category. He stated that, more importantly, the state would be locked out of the capital markets. He said that examples of that are Puerto Rico and Detroit. 2:25:23 PM REPRESENTATIVE PARISH asked what the security was behind the [Anchorage LIO] building and whether the security consisted of the state's "good name" only. MR. MITCHELL replied that the legislature entered an operating lease agreement regarding that building. He stated that to acquire real property, the statutes require stand-alone legislation that identifies the anticipated expenditure to acquire the real property, the estimated annual payment, and the total payment for the acquisition. With that stand-alone legislation, comes the authorization to pledge the state's credit. In this case, the loan would include information about the state's balance sheet, the state's forecast, and such; the lease would be one into which the State of Alaska would enter on a more regular basis on an operating level, and it wouldn't carry the same credit commitment [as for the bonds.] He added that there are several reasons why the lease failed, but that is the reason from DOR's perspective. 2:26:48 PM REPRESENTATIVE PARISH asked what recourse the creditors had when the lease failed. MR. MITCHELL offered his belief that the creditors sued the state. He added that he did not know the outcome. He said that he recently read an article in the Anchorage Daily News (ADN) about a bank in Florida now owning the building and Alaska no longer having an interest in the building. MR. MITCHELL offered that there are layers of commitments that the state can make, and the credit commitment, as is being discussed in the present hearing, is very different from the example of the building in Anchorage or default due to non- renewal of a lease. 2:28:21 PM REPRESENTATIVE PARISH asked whether the state has made such a credit commitment in the past. MR. MITCHELL replied yes. He said that the state has made many credit commitments on a subject-to-appropriation basis through law. He added that most recently in 2015, the Alaska Native Tribal Health Consortium's (ANTHC's) residential housing facility in Anchorage was funded through a certificate of participation via a stand-alone law. 2:28:49 PM CO-CHAIR JOSEPHSON referred to the letter to Senator Cathy Giessel from Mr. Mitchell and Assistant Attorney General Bill Milks, dated 3/2/18 and included in the committee packet. He asked for DOR's position on the appropriateness of the proposed legislation considering Article 9, Section 8 and Section 11, of the Alaska State Constitution. MR. MITCHELL restated that the question for discussion is the constitutionality of the use of certificate of participation of lease revenue bonds or subject-to-appropriation commitments. He referred to the case, Carr-Gottstein Properties v. State [1991], which was critical for determining that it is legal to allow such obligations. He stated that the Alaska State Constitution prohibits dedication of state revenues except where required by federal law, where dedication was established prior to statehood or through the creation of statehood, or for general obligation funds. He relayed that it was determined that the subject-to- appropriation clause and the requirement that the legislature annually consider and make an appropriation for the payment of the obligations excluded it from the limitations of the constitution and allowed the financial structures to be deemed legal. He suggested that the Department of Law (DOL) can provide more detail. 2:31:55 PM COMMISIONER FISHER referred to slide 14, entitled "Benefits of Program" and relayed that the chart on the slide demonstrates in numerical formula the repayment [schedule] under the different scenarios. He directed attention to the second column, which lists the statutory payments over time. He referred to the columns entitled Cohorts 1,2,3, and 4 and relayed that they represent the various years of financing. Cohort 1 consists of the $807 million mentioned on slide 11; the chart shows two years of interest only at about $27 million per year; three years of increasing interest and principle amortization; and five years at about $123 million per year. He continued by saying that the subsequent cohorts - 2,3, and 4 - represent interest only payments for each of the first nine years followed by a bullet payment at the end to cover the outstanding amount. COMMISIONER FISHER noted a couple of interesting features of the program. The cost would be relegated to future years, which was done by design and not to avoid addressing the [payment] issue in the present. He stated two reasons for doing it thus: the forecast is that revenues will grow over time, and the outstanding deficit to the state will decline; and, more importantly, the opportunities that the credit holders are pursuing will not produce revenue until some point in the future, therefore, moving the payment into the future puts the payment and the benefit more in alignment with the period in which the payments will be paid and the benefits of royalties and tax revenues are realized by the state. COMMISIONER FISHER relayed that the chart shows that in the first five years, the aggregate payment is always less than what the statutory payment would have been, which provides some budgeting flexibility to the state for the next couple of years as it continues to work on its fiscal plan. He called attention to the bottom row of the chart, entitled "NPV5," to point out that the entire scheme assumes that everyone qualifies for the 5 percent discount rate; if the discount rate is 10 percent, then the amounts will be slightly less for the state. The net present value (NPV) basis attempts to capture the notion that a dollar five years from now is worth less today because of the potential interest earned; in other words, money has a time value. COMMISIONER FISHER relayed that NPV tries to put all the money streams into a current dollar value so that a comparison can be made between the different streams. He said that the statutory payment formula has an NPV of just under $810 million, as shown at the bottom of the first column, whereas the payment stream contemplated and shown at the bottom of the last column, entitled "Aggregate Payment," shows an NPV of just over $780 million. He mentioned that the difference between the two is about $27 million in the state's favor. COMMISIONER FISHER related that the intent was not for this amount to be a big gain to the state but to balance several competing interests and be fair to everyone. He insisted that DOR wants to assure the legislature, as well as all Alaskans, that the discount rate that the credit holders accept would compensate the state and Alaskans for the structure and the interest that the state incurs. 2:36:48 PM REPRESENTATIVE PARISH asked for clarification as to the discount rate used in the chart. MR. ALPER responded that the assumption behind the table is that all the credits are sold at the lower discount rate; hence, the larger amount of bonding, the larger payout to the taxpayer, and more payments over time. If several credit holders accepted the 10 percent discount rate and didn't offer one of the four additional benefits to the state [under Option 2], the amounts would be smaller and, therefore, the state's incremental gain would be slightly more. REPRESENTATIVE PARISH asked for the amount that next year's dollar is worth compared to this year's dollar. MR. ALPER responded that the assumption is that a dollar gains 5 percent per year or roughly the equivalent of the state's cost of capital. He added that if the state had $809.75 million and set it aside in a 5 percent interest earning account, the state could pay that $946 million worth of statutory appropriations over time; likewise, the state could make the bond payments by setting aside $783 million using the same 5 percent investment pool. 2:38:06 PM COMMISIONER FISHER referred to slide 15, entitled "Impact on debt capacity and credit rating." He said that the obligations are already listed as debt on the state's Comprehensive Annual Financial Report (CAFR) - the state's balance sheet; therefore, because one form of obligation would be converted into a different form of obligation, there would be limited impact on the state's credit rating. He turned to the numbers on slide 16, also entitled "Impact on debt capacity and credit rating," to demonstrate the impact of the state's existing debt. He mentioned that the 3.8 percent for FY18 listed under the third column - "State G.O. Debt Service" - represents the percent of the state's unrestricted general funds that are GO bond debt service. Also listed on the chart are other state supported debts, school reimbursement, and the Public Employees' Retirement System (PERS)/Teacher Retirement System (TRS) obligations, which [for FY18] add up to 17.5 percent, shown under the seventh column, entitled "Subtotal: Current Obligations without Tax Credits." Looking down that column, the percentages grow to just under 25 percent before dropping back down to about 20 percent. COMMISIONER FISHER drew attention to the eighth column, entitled "Statutory Payment of Tax Credits," and explained that these percentages represent what the tax credits would be under the state's current obligations. He pointed out they are substantial in the next few years. In FY19 the tax credits would consume just over 8 percent of the unrestricted general funds (UGF), bringing the total payment obligations up to 31 percent. He stated that under the proposed solution, the tax credit debt service payment, shown in the second to the last column, starts low at just over 1 percent of UGF, and grows to over 4 percent and levels off. He referred to the far-right column, entitled "Total: Current Obligations with Credit Bond Payments," to point out the more even distribution over time of the debt service as a percent of the UGF. He stated his belief that this plan represents a prudent method of restructuring the obligation: it would level the amount over time; it would provide some opportunity for the legislature to level out the obligation and address priorities that are currently pressing at this time; and it would be viewed favorably by the credit agencies. 2:42:17 PM REPRESENTATIVE PARISH asked for alternate calculations for slides 14 and 16 based on the actual rate of payment, not just the hypothetical rate of payment. COMMISIONER FISHER asked for clarification of what is meant by "alternative calculations." REPRESENTATIVE PARISH responded that he is looking for the tax credit rate payable according to the co-chair of the House Finance Committee (FIN) and the Legislative Finance Division. COMMISIONER FISHER, responded that slide 14 represents the administration's interpretation of statute; Legislative Legal and Research Services has indicated that the statutory interpretation is ambiguous. He emphasized that the statutory interpretation is not something that came about as an attempt to justify the program: it has been the interpretation for several years; it has been published in the state's revenue sources book for several years; and it has been debated on the floor by the members of both houses and treated as the correct statutory interpretation. He relayed that he believes the interpretation to be correct and does not believe it should be reinterpreted. He stated that he is concerned that consistency be maintained. 2:45:20 PM MR. ALPER relayed that the statutory appropriation language discusses the [AS 43.55.011] calculation; the actual tax itself is based on 35 percent of production tax value of net profits, which is the percentage currently in law. He said that as prices have increased, the use of the per barrel credit to offset them has grown, as seen in the last several forecasts. He stated, "The alternate appropriation that the [FIN] co-chair was using would have subtracted the per barrel credit from that number to get to the ... actual tax received - the net received - and take a percentage of it." He added that even if that was the legal determination, which DOR personnel do not believe it is - it is the position of DOR that it is not in the state's best interest. He said that delaying the payments for 15-20 years would have "seismic" ramifications inside the oil industry. He opined that the level of uncertainty - knowing that they would not get paid for over a decade - would drive companies that are currently "on the edge" over the edge into bankruptcy, which would not be in the state's interest. The companies would then lose their leases and the leases would find their way back to the major producers. He maintained that the intent of the program was to diversify the North Slope and bring new players into Alaska, and having the leases revert to the major producers would upend a decade of work by the state. MR. ALPER, in response to Representative Parish, said that DOR could do the calculation as requested but stressed that doing so would change "both sides of the equation." He referred to slide 14 and offered the hypothetical of smaller payments over a longer period. He said that the proposed legislation has a mechanism to calculate the payout based on the statutory interpretation of a higher payout; in other words, when the company expects to receive $25 million per year over four years, that includes the assumption that the larger formula is being used. If the alternate formula were used, that same company would get $10 million per year over 10 years. Without the deep compounding rate, a company, instead of getting $87 or $93 million, might be getting $40 or $30 million from the state, therefore, would probably not participate in the program, which would cause the program to fail. Secondly, the state would be borrowing a smaller amount of money. The payment amounts on the last column on slide 14 would be smaller because the state would have borrowed less money; therefore, there would be a difference in the NPV5 amount in the state's favor, but the amounts on both the Statutory Payment Schedule column and the Aggregate Payment column would be dramatically smaller. 2:48:53 PM COMMISIONER FISHER turned to slide 17, entitled "Conclusion: Oil & Tax Credit Solution," and said that the intent of the program was to try to balance several competing interests. He offered that firstly, the goal was to provide an economic stimulus to the state's oil industry, which has been the hardest hit sector with more than 30 percent reduction in employment. He pointed out that not just the oil industry has suffered, and as the oil industry improves, it will have a multiplier effect on other dimensions within the state economy. He maintained that within the framework of providing a stimulus, DOR wanted to take an action that would benefit the state in the short term by reducing the current fiscal year's budget; it would offer a discount rate to the credit holders, which would be budget neutral in the long term. He continued by saying that secondly, the proposal would support the small producers, allow them to clean up their balance sheets, attract capital from other sources, invest again, and employ Alaskans. These are the companies that the state attracted by offering credits in order to diversify and increase competition in the oil industry. He stated that lastly, the proposal represents a strong statement from the State of Alaska that it intends to be an oil and gas exploration and production partner. The state is offering a solution that is mature and sophisticated - one that balances all the interests and in which all parties share in "the pain." 2:51:21 PM CO-CHAIR JOSEPHSON opened public testimony on HB 331. 2:51:58 PM REPRESENTATIVE RAUSCHER asked that the "reputational issues" mentioned on slide 17 be addressed. COMMISIONER FISHER referred to the box on the right of slide 3 to point out that the state had marketed the tax credit program. He maintained that it is appropriate to recognize that the state had a statutory framework, but also to recognize that the state made statements that were intended to attract companies to Alaska. He added that as the state has deviated from some of the expectations, even though not legal commitments, the state's reputation does suffer somewhat. He emphasized that he is not suggesting that the state disadvantages itself to protect its reputation. The proposed legislation offers a solution that balances the cost burden. He conjectured that the state bears the least cost in the scenario, because the state's cost is covered by the discount that the credit holders are accepting. He maintained that the state's credibility would be enhanced by the proposed program. 2:54:10 PM REPRESENTATIVE BIRCH expressed his appreciation for DOR's efforts. 2:54:23 PM REPRESENTATIVE PARISH suggested that a direct payoff to the lender is more favorable to the state. COMMISIONER FISHER responded that the goal of the proposed program is not to maximize the value to the state, but to eliminate companies' debts in a manner fair to the state and fair to the credit holders. He mentioned that the testimony from ING indicated that a payoff such as Representative Parish suggests might preserve ING's financial standing; however, ING wants to see the companies succeed and wants to continue its lending relationships with the companies. He conceded that a program could have been designed that would have resulted in a larger discount to the state; however, he does not believe that a program with, for example, a 30 percent discount would have cleared all the debts. Many credit holders have already indicated that even the 10 percent discount is too high. He also expressed his belief that a 30 percent discount would result in a longer recovery time for companies, delaying production and employment. He reiterated that the intent was not to maximize the value to the state but to balance multiple objectives, as shown on slide 3. 2:57:27 PM KARA MORIARTY, President/CEO, Alaska Oil and Gas Association (AOGA), paraphrased from the following written testimony [original punctuation provided]: Co-Chair Josephson, Co-Chair Tarr, members of the Committee, thank you for the opportunity to testify on House Bill 331. For the record, my name is Kara Moriarty and I am the President/CEO of the Alaska Oil & Gas Association, commonly referred to as "AOGA." AOGA is a private trade association that represents the majority of oil and gas producers, explorers, refiners, and transporters of Alaska's oil and gas. The following testimony reflects the opinion of our membership. AOGA supports an expedited resolution this year to refund the earned credits. Companies earned these credits by investing hundreds of millions of dollars to hire Alaskans for the exploration and production of oil. The delay in the rebates has damaged the state's reputation and chilled future investment; caused projects to be shelved, resulting in negative economic impacts to the state and local communities; and many Alaskans are now out of work, especially within the oil and gas industry. AOGA believes the state should honor all outstanding earned tax credits in full, and in as expedited process as possible. The Governor's bill is an innovative approach that seeks to refund a portion of the earned credits via bonding to raise the money, then refunding the credits at a reduced rate. The Governor proposes to lower the refunding rate to cover the state's bond finance costs. AOGA has concerns about the steep discount rates and other provisions of the bill. But AOGA is committed to working with the administration and legislature to finding an equitable solution it's simply too important. AOGA does applaud the administration for acknowledging that refunding these payments is a critical step this year. AOGA supports an equitable plan that will refund the entirety of the earned credits this year: Let's send a strong signal to investors that Alaska is open for business and attract much needed new investment to employ Alaskans, produce more oil, and drive Alaska's economy forward. Thank you. 3:00:31 PM BARBARA HUFF TUCKNESS, Director, Governmental and Legislative Affairs, Teamsters Local 959, testified in support of HSB 331. She expressed her belief that the proposed legislation is an innovative solution providing certainty for those operators who are looking to attract new investment and to the state in the current uncertain financial times. She stated that the state would pay less under the tax credit bond proposal, putting less strain on the state's current fiscal crisis and providing "face- saving" in respect to the promises that were made in the past. Her organization believes that the proposed legislation represents an important message: that Alaska is true to its word even in tough times. She concluded by saying that HB 331 would not place an undue burden on the state's fiscal budget, would support small producers, would encourage investment in Alaska, and would provide an opportunity for new jobs in the state. She opined that HB 331 is a win for the members she represents, all Alaskans, the state, and the operators. CO-CHAIR JOSEPHSON relayed some housekeeping information. 3:04:08 PM JOE MATHIS testified in support of HB 331. He stated that he worked in the resource development industry and is the owner of a small business in the Matanuska-Susitna (MAT_SU) Valley. He offered two reasons for supporting HB 331: integrity and commitment. He said that integrity is defined as adherence to a moral and ethical principle and soundness of moral character. He stated that commitment follows integrity. He maintained that in his personal experience, one's integrity and one's word, or commitment, is paramount. He opined that the state has lost the respect of the financial and business community and needs to regain faith in its integrity and its commitments. The legislature has a great opportunity to repair the damage done to its integrity. He said that Alaska is about to embark on a major trade mission with a potential partner and overseas investor. He emphasized that potential partners and investors will look for integrity. He maintained that in the national and worldwide financial communities, Alaska ranks dead last as a place to do business. He stated that he worked 28 years for a company whose core values were: honesty and integrity governing its activity, commitments fulfilled, and people treated with dignity and respect. He maintained that these core values are applicable to government as well. He conceded that the proposed legislation does not completely fulfill its original commitment, but it does signal that the state wants to restore and repair its integrity and its commitment. 3:07:39 PM CO-CHAIR JOSEPHSON, after ascertaining no one else wished to testify, closed public testimony. [HB 331 was held over.]