SENATE BILL NO. 21 "An Act relating to appropriations from taxes paid under the Alaska Net Income Tax Act; relating to the oil and gas production tax rate; relating to gas used in the state; relating to monthly installment payments of the oil and gas production tax; relating to oil and gas production tax credits for certain losses and expenditures; relating to oil and gas production tax credit certificates; relating to nontransferable tax credits based on production; relating to the oil and gas tax credit fund; relating to annual statements by producers and explorers; relating to the determination of annual oil and gas production tax values including adjustments based on a percentage of gross value at the point of production from certain leases or properties; making conforming amendments; and providing for an effective date." 1:36:28 PM DANIEL SULLIVAN, COMMISSIONER, DEPARTMENT OF NATURAL RESOURCES, provided a Power Point presentation titled "Arresting TAPS Throughput Decline and Oil Tax Reform" (copy on file). He discussed that the department would provide an overview of the bill and would discuss the challenge related to TAPS throughput decline, it would also underscore that the continued decline was not inevitable. Commissioner Sullivan looked at slide 2, "TAPS - A Critical State and National Energy Asset." -The Trans Alaska Pipeline, 11 pump stations, several hundred miles of feeder pipelines, and the Valdez Marine Terminal constitute the Trans-Alaska Pipeline System (TAPS). -At 800 miles long, the Trans Alaska Pipeline is one of the longest pipelines in the world; it crosses more than 500 rivers and streams and three mountain ranges as it carries Alaska's oil from Prudhoe Bay to Valdez. -The U.S. Congress was instrumental in the approval and rapid development of TAPS. Congress approved construction of the pipeline with the Trans Alaska Pipeline Authorization Act of 1973. -The principle focus of this Act is as relevant today as it was in 1973: "the early development and delivery of oil and gas from Alaska's North Slope to domestic markets is in the national interest because of growing domestic shortages and increasing dependence upon insecure foreign sources." 1:40:20 PM Commissioner Sullivan turned to slide 3 with the same title. -TAPS has transported over 16.3 billion barrels of oil and natural gas liquids since June of 1977. Production peaked at 2.2 million barrels per day in the late 1980s, representing 25 percent of U.S. domestic production -Since its peak, however, throughput has steadily declined; today, TAPS is 2/3 empty and declining at an average of 6 percent per year -TAPS throughput decline threatens economic disruption and the very existence of our pipeline -We must encourage industry to invest in exploration and development of conventional and unconventional resources on state and federal land, onshore and offshore -TAPS has plenty of capacity for increased throughput -Most near-term critical economic issue facing the state -Less oil in the pipeline year after year takes away revenue from future generations-the ultimate giveaway -Reconfiguration, 1.2 million barrels/day He directed attention to slide 4, "Oil Tax Reform - Production History." He stated that the opportunity on the North Slope continued to be "enormous." He looked at the urgency of the issue on slide 5, "TAPS Throughput Decline is an Urgent Problem." The discussion was not a scare tactic. He relayed that the issue was real and needed to be addressed. He referred to a prior shutdown of TAPS due to a pipeline leak, and opined that the state had dodged a bullet in the dicey situation. He pointed out that it had not been clear that the line would be restarted. Commissioner Sullivan continued to discuss slide 5. The best way to address the technical issues was to increase throughput. There were significant consequences for the state and country. Commissioner Sullivan moved to slide 6, "Alaska's North Slope Oil and Gas Potential." USGS estimates that Alaska's North Slope has more oil than any other Arctic nation -OIL: Est. 40 billion barrels of conventional oil (USGS & BOEMRE) -GAS: Est. over 200 trillion cubic feet of conventional natural gas (USGS) Alaska has world-class unconventional resources, including tens of billions of barrels of heavy oil, shale oil, and viscous oil, and hundreds of trillions of cubic feet of shale gas, tight gas, and gas hydrates -Positive methane hydrate test production 1:46:20 PM Commissioner Sullivan turned to slide 7, "U.S. Energy Renaissance." The opportunity was enormous for the country. There had been a huge oil and gas investment boom in the past several years worldwide. He provided amounts including $650 billion. The state of Alaska received less than 1 percent of the total in the prior year. He stressed that the state needed to take back its lead in the production industry. Commissioner Sullivan moved to slide 8, "Other Basins have Turned Decline Around." Every major basin was turning around their throughput decline with the exception of Alaska. "The expansion has been spurred by record-breaking levels of investment, with about £40bn set to be ploughed into North Sea production in the next three years…" "The surge in investment comes after the government relaxed the tax regime around North Sea development, prompting a record-breaking licensing round when the Department of Energy and Climate Change awarded 167 new licenses on 330 blocks last October." Commissioner Sullivan pointed to pages from the Wall Street Journal on slide 9. He quickly moved to slide 10 showing natural decline rates that had been turned around. He moved to slide 11 titled "Other Basins have Turned Decline Around - Historical Oil Production." He emphasized that the line chart was probably the most important slide that would be presented to the committee. He discussed that the yellow line represented Texas, Alaska was blue, North Dakota was red, and Alberta was brown. He discussed that movement had been remarkably similar for many years; however, all of the basins had started turning their production curve around." The only place that oil companies had not increased their production was in Alaska. The department believed that it was directly related to Alaska's unfriendly tax regime. 1:53:44 PM Commissioner Sullivan addressed slide 12 titled Secure Alaska's Future - Oil." Secure Alaska's Future-Oil is the State's comprehensive strategy to increase TAPS throughput to one million barrels a day. I. Enhance Alaska's global competitiveness and investment climate II .Ensure the permitting process is structured and efficient III. Facilitate and incentivize the next phases of North Slope development IV. Promote Alaska's resources and positive investment climate to world markets 1:57:37 PM Senator Hoffman did not believe there was one individual in the state that did not want to add more oil into the pipeline. He discussed the necessity of volume. He shared that the number heard from the industry in order to turn the investment field around was between $2 billion to $4 billion. Commissioner Sullivan responded that the department had worked to encourage production, but the growing sense that action was needed. He was reluctant to speak for the oil and gas industry, because it was important for them to address the committee directly. One of the items in the proposal was focused on balancing the system and increasing production. The imbalance made the state treasury incredibly vulnerable. He shared that DNR should be making the state more competitive with peers in other basins when the companies were most eager to invest. He discussed large tax credits for companies that did not commit to any production. 2:02:42 PM Senator Hoffman stated that the issue was the most important facing the state for upcoming decades. He wanted to ensure that the state had enough revenue to provide services until the oil came online, but there would be a big question mark about when or if the oil would ever come online. Senator Olson wondered how the state would not just provide giveaways to the oil companies. Commissioner Sullivan replied that the department had taken a hard look at the issue. The governor's initial proposal looked at balancing the system with a strong focus on incentivizing production. Many people did not know that explorers received cash checks from the state, so the incentives needed to be more closely tied to production. 2:06:11 PM Senator Olson believed much of the bill addressed existing production. Commissioner Sullivan replied that the governor's bill was not a snapshot way to increase in state revenues, but it was a balance. At higher prices, ACES inhibited the needed investment. One of the challenges was related to progressivity and the bill was very focused on new production and credits for oil. Senator Bishop pointed to slide 5. He discussed that the department had been onsite working around the clock. He relayed that there were workers responsible for getting the pipeline up and running. He stated that money was being well spent on workforce development. Commissioner Sullivan agreed. He added that there had been some problems with the Environmental Protection Agency (EPA). Co-Chair Meyer pointed to slide 14 and asked where the governor's bill would put Alaska in the range on the slide. Commissioner Sullivan would follow up with an answer. 2:11:38 PM BRYAN BUTCHER, COMMISSIONER, DEPARTMENT OF REVENUE, provided a Power Point presentation titled "Oil Tax Reform: Creating a Durable Production Tax System that is Competitive for the Long Term Benefit of Alaskans." He moved to slide 2, "Principles of Reform." Tax reform must: 1. Be fair to Alaskans. 2. Encourage new production. 3. Be simple so that it restores balance to the system. 4. Be durable for the long-term. Commissioner Butcher turned to slide 3 titled "Challenges in the Current Tax System." The department would discuss declining production, progressivity, and tax credits at a later time. He looked at slide 4 titled "Rising Prices and Declining Production." He directed attention to slide 5 titled "Rising Prices and Declining Production." He talked about gross value in production versus gross value of the ANS oil price. 2:19:29 PM Commissioner Butcher pointed to slide 6, "Rising Prices and Declining Production." Less production = less potential value for both the state and producers. In FY 2008 an ANS price of $96.51 yielded approximately $20.4 billion in gross value. By FY 14, a price that is $13 higher will yield a bit more than $3 billion less in gross value. Commissioner Butcher looked at slide 7, "Rising Prices and Declining Production Observations." 1.High prices have generally offset declining production over the past several fiscal years. 2.As production has continued to fall however, the level of production tax generated by high oil prices has fallen. 3.But, the level of production tax revenues have fallen faster than production. 4.The question is why? Commissioner Butcher moved to slide 9, "The Progressivity Function." Found in AS 43.55.011 (g) Based on the Production Tax Value (PTV) When the PTV exceeds $30 per barrel of oil equivalent (BOE) the tax is levied at: -.4 percent per dollar until the PTV/bbl = $92.50 -.1 percent per dollar that the PTV/bbl is greater than $92.50 -Maximum rate of 50 percent (in addition to 25 percent base tax) Calculated monthly A single statewide calculation on all oil and gas Co-Chair Meyer wondered if DOR promoted a bracket of progressivity. Commissioner Butcher replied that DOR would like not progressivity. 2:26:20 PM Commissioner Butcher looked at slide 10, "Progressivity: How it is Calculated." Based on page 108 of the 2012 Fall Revenue Sources Book. Taxable Production: 170,262,000 GVPP = Gross Value at the Point of Production. PTV = Production Tax Value. Commissioner Butcher presented slide 11, "Progressivity: How it is Calculated." He explained the following equations: Calculating the Progressivity with a PTV/bbl = $64.87 $64.87 - $30 = $34.87 Because the PTV/bbl < $92.50 $34.87 x .004 § percent The 13.95 percent progressive tax is then applied to the PTV/bbl of $64.87 not to the $34.87 $64.87 x 13.95 percent = $9.05 per barrel Therefore: the $9.05 progressive tax + $16.22 (25 percent) base tax = $25.27 production tax per barrel before credits. Multiplied by the taxable production (170,262,000 bbls) = $4,302 million Commissioner Butcher discussed slide 12, "Observations." Progressivity increases the overall tax rate as the overall profitability (before state and federal income taxes) rises. Remember, progressivity is company specific and each company will have a different exposure because progressivity is sensitive to: -The oil price. -Spending. -Production. Progressivity is only one part of what makes the overall system progressive; it is not a factor at low oil prices. 2:30:06 PM Commissioner Butcher looked at slide 13, "Example 1: New Capital Spending in Fiscal Year 2014." Based on page 108 of the 2012 Fall Revenue Sources Book. Taxable Production: 170,262,000. Increased capital spending by $500 million from $3,338.6 million to $3,836.6 million. CAPEX per barrel goes from $19.61 to $22.55 per barrel. Commissioner Butcher highlighted slide 14, "Example 1: New Capital Spending in Fiscal Year 2014." Calculating the Progressivity with a PTV/bbl = $61.93 -$61.93 - $30 = $31.93 -Because the PTV/bbl < $92.50 -$31.93 x .004 §