SENATE LABOR AND COMMERCE COMMITTEE April 30, 1998 2:17 p.m. MEMBERS PRESENT Senator Loren Leman, Chairman Senator Jerry Mackie, Vice Chairman Senator Tim Kelly Senator Lyman Hoffman MEMBERS ABSENT Senator Mike Miller COMMITTEE CALENDAR CONFIRMATION HEARING - OCCUPATIONAL SAFETY AND HEALTH REVIEW BOARD: Dennis Davidson, Anchorage CS FOR HOUSE BILL NO. 393(RES) "An Act relating to contracts with the state establishing payments in lieu of other taxes by a qualified sponsor or qualified sponsor group for projects to develop stranded gas resources in the state; providing for the inclusion in the contracts of terms making certain adjustments regarding royalty value and the timing and notice of the state's right to take royalty in kind or in value from projects to develop stranded gas resources in the state; relating to the effect of the contracts on municipal taxation; and providing for an effective date." - MOVED CSHB 393(RES) OUT OF COMMITTEE PREVIOUS SENATE COMMITTEE ACTION HB 393 - No previous action to record. WITNESS REGISTER Representative Mark Hodgins State Capitol Juneau, AK 99801-1182 POSITION STATEMENT: Presented overview on CSHB 393(RES) Commissioner Wilson L. Condon Department of Revenue P.O. Box 110400 Juneau, AK 99811-0400 POSITION STATEMENT: Testified in support of CSHB 393(RES) Mike Macy 750 W. 2nd Ave., #104 Anchorage, AK 99501 POSITION STATEMENT: Testified in support of CSHB 393(RES) Jim Sykes, Executive Director Oil Watch Alaska P.O. Box 1553 Anchorage, AK 99510 POSITION STATEMENT: Outlined concerns with CSHB 393(RES) Dr. Jack Kearing University of Alaska Fairbanks Wood Center Fairbanks, AK 99775-6640 POSITION STATEMENT: Related information on CSHB 393(RES) George Findling ARCO Alaska 700 G St. Anchorage, AK 99501 POSITION STATEMENT: Testified in support of CSHB 393(RES) David Brooks BP Exploration (Alaska) Inc. 900 E Benson Blvd. Anchorage, AK 99501 POSITION STATEMENT: Testified in support of CSHB 393(RES) Ms. Beverly Mentzer Exxon USA 3301 C St. Anchorage, AK 99501 POSITION STATEMENT: Testified in support of CSHB 393(RES) Paul Fuhs Yukon Pacific Corporation 1049 W. 5th Ave. Anchorage, AK 99501 POSITION STATEMENT: Testified in support of CSHB 393(RES) Ms. Pam LaBolle, President Alaska State Chamber of Commerce 217 2nd St. Juneau, AK 99801 POSITION STATEMENT: Testified in support of CSHB 393(RES) ACTION NARRATIVE TAPE 98-26, SIDE A Number 001 CHAIRMAN LEMAN called the Senate Labor and Commerce Committee meeting to order at 2:17 p.m. and stated the first order of business would be a confirmation hearing on Dennis Davidson's appointment to the Occupational Safety and Health Review Board. DENNIS DAVIDSON, testifying via teleconference from Anchorage, stated he has lived in Anchorage most of his life. His prior work history has involved occupational safety issues, working with contractors, labor unions, Alaska Native tribal entities and organizations in putting employment and training packages together on construction projects and other projects. For the past year he has been working as a private consultant, and prior to that he was employed by Cook Inlet Tribal Council. He also was the compliance officer on the Alaska Native Medical Center project, working with over 24 contractors, over 12 unions, and approximately 15 to 20 Native organizations on some very difficult issues relating to the employment and training of workers. He believes his background in consensus building in the employment and training area will be very useful for serving on the board. CHAIRMAN LEMAN asked Mr. Davidson if he had any comments on SB 205, which deals with health and safety self audits to improve safety in the workplace. MR. DAVIDSON said he was not familiar enough with the legislation to have an opinion on it either way. SENATOR KELLY moved that the name of Dennis Davidson to the Occupational Safety and Health Review Board be forwarded to a joint session on confirmations, and this was not an indication of the members' intent to vote for or against the nominee. Number 095 CSHB 393(RES) - DEVELOP STRANDED GAS RESOURCES CHAIRMAN LEMAN brought CSHB 393(RES) before the committee. REPRESENTATIVE MARK HODGINS, Chair, House Special Committee on Oil and Gas, explained HB 393 is enabling legislation to allow a structure for payments in lieu of taxes. The idea is to form a sponsor group from among the industry and have them come up with the necessary engineering to develop some costs, as well as develope a time line on when this project can go forward. The cost of the pipeline has been estimated at approximately $15 billion, but to make the project competitive with the international market, it would have to be brought down to approximately $12 billion. REPRESENTATIVE HODGINS related that there would be approximately $12.6 billion worth of state and local taxes brought in over the life of the project, which could be anywhere from 30 to 50 years, depending upon the amount of gas that is used and discovered on the North Slope. The federal take for the same period of time would be approximately $26 billion. It is hoped that a solution can be found that will allow some payment in lieu of taxes for the front end construction of the project, and apply those payments later on in the project once the gas starts flowing down the pipeline. REPRESENTATIVE HODGINS said the $15 billion price tag is an estimate, and it would include the pipeline, the liquification plant to transform the gas into LNG, and the ships to haul LNG. LNG is a little bit different than oil; it is not sold on spot markets. There are generally contracts that are in-hand before a project of this size goes forward. Right now there's approximately 35 trillion cubic feet of natural gas on the North Slope. Natural gas to this point on the North Slope has basically been used to pressurize the oil fields. REPRESENTATIVE HODGINS related that Phillips Petroleum testified before the House Oil and Gas Committee that they thought the project could start with the Point Thompson gas, and thus not impact the removal of black oil from the North Slope for a few years. REPRESENTATIVE HODGINS outlined three changes from the original legislation: (1) a ratification by the Legislature; (2) two percent local taxation, which would net the state of Alaska approximately $12.3 billion; and (3) removal of the gas to liquids language. REPRESENTATIVE HODGINS said the most important step after the passage of this legislation would be the formation of a sponsor group. Once that happens, it is the intent of the House Special Committee on Oil and Gas to get involved with local requirements for training for what is going to be required of the labor force, which they believe would be the best possible solution for local hire. REPRESENTATIVE HODGINS urged passage of HB 393. Number 219 CHAIRMAN LEMAN said his reading of the bill does not preclude a gas to liquids consideration, and he would hope that technology would continue to be advanced. REPRESENTATIVE HODGINS agreed that it would not preclude it, and once there was an economic analysis done on the gas to liquids, he thought legislation, if necessary, could be drafted to assist in that. CHAIRMAN LEMAN asked if anyone identified any of the barriers to cost reduction of the project that may be government inspired. REPRESENTATIVE HODGINS responded that the topic had not come up specifically in dollars and cents. At this point, they are basically looking at enabling legislation to try to get the project within the ballpark to see if it is going to be profitable. He added that Dr. Pedro Van Meurs suggested that there is approximately $150 billion worth of revenue on the North Slope in the form of natural gas in proven reserves, and suggested that somebody would be very interested in getting that to tidewater. The trick is that the state must compete with other LNG plants throughout the world. Number 286 WILL CONDON, Commissioner, Department of Revenue, said the legislation was developed by the Executive Branch as instructed by House Bill 250, which was passed by the Legislature in 1997. It also followed on the heels of two resolutions that were passed by successive legislatures, as well as consulting work done by Dr. Pedro Van Meurs. It was put together jointly with the House Special Committee on Oil and Gas, the producers, Yukon Pacific and other interested parties. Extensive hearings were held by the House committee and they made some important changes in the bill. COMMISSIONER CONDON explained HB 393 would establish a framework for developing specific proposals and for presenting those proposals to the Legislature for consideration. Under the bill, would-be developers of stranded gas can apply for modification to the state's fiscal system to make it possible to develop the resource for the mutual benefit of the state and the developer. Gas in remote areas of Alaska is different from oil for a couple of reasons. First, it costs about four times as much as oil to move gas to market on an energy equivalent basis. Consequently, the economics of gas development projects are much more sensitive to the state's tax and royalty system. There are two important considerations in terms of application of the state's fiscal system to a potential gas project: the economics of the project itself, and the competitiveness of an LNG project. COMMISSIONER CONDON said the administration believes that the state's current fiscal system is inappropriate for gas development in remote areas of Alaska for two reasons. First is the way the taxes and royalties are applied in a combined basis. They are front-end loaded, meaning that the state and local governments that are imposing those fiscal provisions are getting their revenue at the front end of the project. Secondly, the systems are regressive in nature, meaning that the state and local governments continue to take a significant share of the gross revenue from the project, even when the project itself is losing money. The basic concept embodied in HB 393 is a procedure for developing a contract that would provide for payments in lieu of some or all taxes that would otherwise be imposed on the project as a consequence of the projects' construction. It is hoped that the result would be a fiscal system applicable to the project that is customized to the particulars of the project. Under the contract, a portion of the payments that would be made in lieu of taxes would also be shared with affected communities. The contract itself would only become effective if the Legislature gives the Executive Branch the authority to execute the contract after the Legislature has had an opportunity to review it. The legislation provides a procedure for developing a proposal, bringing the proposal before the Legislature, and the Legislature would have to provide specific authority to the Executive Branch to execute the contract or it simply would never go into effect. COMMISSIONER CONDON then reviewed the findings, intent, and purpose provision sections of the bill, as well as a flow chart on HB 393. Number 500 SENATOR HOFFMAN asked Commissioner Condon how he perceived the provision providing gas to Alaskan communities to take place. COMMISSIONER CONDON responded it depends on where the project is constructed and what communities it passes. It is believed that whoever has got the responsibility for negotiating this contract is going to insist that some kind of reasonable arrangement be made for providing gas to any community that the project is reasonably near to and where it would make economic sense to make the gas available to the community. CHAIRMAN LEMAN asked Commissioner Condon his read on this bill and the direction from the Legislature as it is written now regarding gas to liquids technology. COMMISSIONER CONDON replied the bill provides, in general, for a means for developing stranded gas, and if a group put together a proposal that meets the requirements of this bill, then he thinks the Commissioner of Revenue and the Commissioner of Natural Resources would have to look at that proposal. CHAIRMAN LEMAN thanked Commissioner Condon for appearing before the committee and then opened the meeting to public comment. TAPE 98-26, SIDE B Number 585 MIKE MACY, Coordinator for the Trans-Alaska Gas System Environmental Review Committee, testifying via teleconference from Anchorage, said the committee believes the project is economic, that the cost more likely will be about $12 billion and not $15 billion, and that it can be built within the existing regulatory structures. MR. MACY said a missing component in the legislation is recognition of the important public involvement in the planning, construction, and operation of a North Slope gas export project. He suggested the Legislature, the administration, and industry should start thinking about formalized citizen oversight for the gas pipeline project. He said one talks about partnership, but it is not true partnership if the public is excluded. It is true partnership when citizens have access to basic information and an opportunity to participate in decision making while the decisions are still being made. Number 555 JIM SYKES, Executive Director, Oil Watch Alaska, said there seems to be a lot of optimism for the gas line project; however, there has been almost no discussion about the downside risks and the effects that a project could impose on the state. MR. SYKES said that in the current version of HB 393, there is no legal assurance that a negotiated contract by the administration will, in fact, fairly compensate the people of the state of Alaska. One of the major objections to the legislation is the payment in lieu of taxes fee which is risky in several ways. Another concern is how to ensure a competitive environment for development of gas resources that is free from the kind of antitrust concerns that have recently come to life regarding the Trans-Alaska oil pipeline. He said Commissioner Condon's constant theme of altering the fiscal regime to make gas more competitive is very uncomfortable to him, and he questioned how the state will benefit when altering the fiscal regime. He added that Dr. Van Meurs has admitted there is a downside risk that a long low price of gas could make this very unprofitable for the state. MR. SYKES stated the bill effectively contracts out the state's duty of taxation by a contract to a private company. The major producers, ARCO, BP & Exxon, have been dragging their feet on this, and one of the reasons that these producers might want to drag their feet is they, at some future date, might want to benefit from the same kind of private contract that this affords the gas line. He said the reason this is being proposed is the people who want to build the gas line say that they need a tax holiday so that they can get it built, but this happens at the same time when the municipalities, who are most affected, need the resources. This allows the commissioner to negotiate some sort of payment directly to the communities, but it is not really clear how the payments to the communities are going to equal the needs of the communities which would otherwise be taxed. DR. JACK KEARING, University of Alaska Fairbanks, testifying from Fairbanks, said the University's petroleum engineering department will be participating in a grant beginning in June to begin discussion on transportation of liquid after gas conversion. The University is also cooperating with Air Products of Ohio to look at the feasibility of such processes. Also, the state's oil industry has contributed some monies to the school to basically look at how gas displacement can lead in the combination to restore oil that is not recoverable under other means. GEORGE FINDLING, Business Development Advisor for the Gas Commercialization Group, ARCO Alaska, testifying in support of HB 393, said in previous testimony on the legislation, he has described ARCO's gas commercialization plans and how HB 393 could support those plans, and that testimony is still generally applicable today. MR. FINDLING said HB 393 recognizes that the state needs to modify its fiscal system to be competitive in developing stranded gas projects. A critical point is that HB 393 does not, in and of itself, authorize modification of the state's fiscal system; that power remains with the Legislature. From ARCO's perspective, framework legislation can help advance gas commercialization in Alaska, and it is a signal that the state wants to proceed down the development road in partnership with private parties. Number 445 DAVID BROOKS, Manager of Alaska Gas, BP Exploration, testifying in support of HB 393, said it has been proven that Prudhoe Bay holds approximately 25 trillion cubic feet of gas, and the U.S. Geological Survey suggests that there could be in excess of another 100 trillion cubic feet yet to be found on the North Slope. BP is taking the issue of commercialization of those gas resources very seriously, and continues to dedicate resources to exploring routes for its commercialization. MR. BROOKS said HB 393 encourages the creation of options to unlock the value in its vast resources of stranded gas. However, as the bill is currently written, the bill focuses on only one option, LNG on the gas pipeline. While BP believes LNG is a very important option, there are other options, and they are concerned that legislators seem to wish to exclude those options from consideration in the bill. BP believes that gas to liquids is also a key option, and BP has work programs in progress to drive down the costs of the process and make it competitive. He emphasized that the options of LNG and gas to liquids are not mutually exclusive, and vast quantities of gas already proven on the North Slope means that both an LNG project and a gas to liquids project could be done. Addressing the sunset clause in the legislation, MR. BROOKS said by having a cutoff date, BP believes the state is further potentially reducing its options and possibly even giving a negative message to the potential developments of technology and stranded gas resources. BP views HB 393 as enabling legislation, not committing the state to anything and provides a positive signal to industry and to developers of stranded gas that the state is prepared to discuss any fiscal impediments that there may be in the way of a stranded gas development project. BP believes that signal could be strengthened and the option for the state widened by inclusion in the bill of reference of gas to liquids and the removal of the sunset clause. CHAIRMAN LEMAN pointed out that Commissioner Condon testified that the bill does not preclude the consideration of gas to liquids. He added that he shares Mr. Brooks concern about the sunset date. Number 380 BEVERLY MENTZER, Alaska Gas Commercialization Manager, Exxon USA, stated Exxon continues to have a keen interest in commercializing Alaska's North Slope gas as it represents over half of Exxon's gas resources. To help reduce fiscal risk, HB 393 provides reasonable guidelines and boundaries for development of a fiscal contract. A key objective of the bill is to keep options open for the state of Alaska to maximize the value of its gas resources. However, regarding when this process may be initiated, there are only three years to apply for a fiscal contract, and three years is a short time frame to keep these options open for a project of this magnitude. MS. MENTZER said Exxon has a work program planned for LNG and also wants to perform some further GTL studies for Alaska. Since no option is currently economic, Exxon will work on every method that has a potential to commercialize Alaska's gas. Exxon believes gas to liquids conversion is an option worthy of Alaska's serious consideration today. She said the issue is not whether the technology is ready, from Exxon's perspective it is, but the issue is whether or not the technology is economic for Alaska. MS. MENTZER said HB 393 is necessary in the process of developing appropriate fiscal terms that could be specified for the life of the project. Such a fiscal contract could increase the competitiveness of an Alaska gas project while meeting the long- term fiscal interests of the state. Number 346 CHAIRMAN LEMAN asked Ms. Mentzer if, with all the research that Exxon has going on, is there anything that would preclude Exxon from cooperating with the University of Alaska in any research that may help advance some of these projects. MS. MENTZER responded that there is nothing specific to preclude it. However, she added that there is a lot of proprietary research going on by many different companies; it's a very competitive area. SENATOR MACKIE asked Ms. Mentzer if she could foresee the major oil companies in Alaska ever joining forces and sharing some of the technology. MS. MENTZER answered that it was very possible. Number 296 PAUL FUHS, representing Yukon Pacific Corporation and testifying in support of HB 393, said Yukon Pacific thinks the most important part of the bill is that it creates incentive for formation of a project sponsor group, which is the issue that has held this project back. MR. FUHS said Yukon Pacific has the permits for the project, and it took about 10 years to get them at a cost of about $100 million. These permits take the pipeline to Valdez. He pointed out the environmental impact statement not only says that Valdez is the preferred route, it specifically rejects all other routes. Yukon Pacific is prepared to bring the permits to a project sponsor group and believes the 2001 date in the bill helps hold that incentive for people to come together earlier than later. He said the Asian market is just waiting for a project sponsor group to come forward that has the critical elements they see for the project, which is available gas, willingness to commit to the project, and the permits for the project. Addressing the gas to liquids issue, MR. FUHS said Yukon Pacific's only concern is that a proposal would come forward that would have time lines so far in the future that it would take away from the current opportunity, which is the LNG project. Gas to liquid production consumes about 40 percent in making the rest of the product, and as far as the markets that Yukon Pacific has talked to, the world is awash in crude oil products. What the market wants is LNG because they've set up their systems for natural gas. In his closing comments, MR. FUHS urged keeping the 2001 sunset date in the legislation. CHAIRMAN LEMAN asked if there is an expiration date on any of Yukon Pacific's permits. MR. FUHS replied that most of their permits are not expiring types of permits. Number 192 PAM LABOLLE, President, Alaska State Chamber of Commerce, stated that development of the stranded Alaska North Slope gas is a priority of the Alaska State Chamber. They believe the commercial development of the gas and the construction of the associated facilities will greatly benefit the economic future health of Alaska. A resolution adopted by the Chamber urges that the Legislature takes those steps to provide a stable and appropriate fiscal and regulatory environment which will give an Alaska stranded gas project the best opportunity to become commercially viable, thus enabling the earliest possible development of the resource. Number 170 There being no further testimony on HB 393, CHAIRMAN LEMAN closed the public hearing, and asked if there were any proposed amendments on the bill. SENATOR KELLY voiced concern that the section dealing with who will pay for the independent contractor is somewhat vague, and he suggested the language be changed to indicate that an applicant will pay the cost of the independent contractor, and that it is not discretionary on the part of the commissioner. However, he said he would possibly pursue such an amendment in the committee of next referral. CHAIRMAN LEMAN stated Senator Kelly's suggested amendment would be forwarded to the Senate Resources Committee. He added that he had prepared an amendment relating to research by the University of Alaska that he may offer in the Senate Resources Committee as well. He then requested a motion on the legislation. SENATOR MACKIE moved CSHB 393(RES) and the accompanying fiscal notes be passed out of committee with individual recommendations. Hearing no objection, it was so ordered. There being no further business to come before the committee, the meeting adjourned at 3:50 p.m