Legislature(2015 - 2016)BARNES 124
02/29/2016 06:00 PM House RESOURCES
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| Audio | Topic |
|---|---|
| Start | |
| HB247 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | HB 247 | TELECONFERENCED | |
| + | TELECONFERENCED |
HB 247-TAX;CREDITS;INTEREST;REFUNDS;O & G
6:00:09 PM
CO-CHAIR NAGEAK announced that the only order of business is
HOUSE BILL NO. 247, "An Act relating to confidential information
status and public record status of information in the possession
of the Department of Revenue; relating to interest applicable to
delinquent tax; relating to disclosure of oil and gas production
tax credit information; relating to refunds for the gas storage
facility tax credit, the liquefied natural gas storage facility
tax credit, and the qualified in-state oil refinery
infrastructure expenditures tax credit; relating to the minimum
tax for certain oil and gas production; relating to the minimum
tax calculation for monthly installment payments of estimated
tax; relating to interest on monthly installment payments of
estimated tax; relating to limitations for the application of
tax credits; relating to oil and gas production tax credits for
certain losses and expenditures; relating to limitations for
nontransferable oil and gas production tax credits based on oil
production and the alternative tax credit for oil and gas
exploration; relating to purchase of tax credit certificates
from the oil and gas tax credit fund; relating to a minimum for
gross value at the point of production; relating to lease
expenditures and tax credits for municipal entities; adding a
definition for "qualified capital expenditure"; adding a
definition for "outstanding liability to the state"; repealing
oil and gas exploration incentive credits; repealing the
limitation on the application of credits against tax liability
for lease expenditures incurred before January 1, 2011;
repealing provisions related to the monthly installment payments
for estimated tax for oil and gas produced before January 1,
2014; repealing the oil and gas production tax credit for
qualified capital expenditures and certain well expenditures;
repealing the calculation for certain lease expenditures
applicable before January 1, 2011; making conforming amendments;
and providing for an effective date."
6:00:45 PM
BILL ARMSTRONG, President/CEO, stated he is available to answer
questions, having provided testimony at an earlier hearing.
REPRESENTATIVE SEATON noted that for his decision making he is
looking at the net present value (NPV) of the state's investment
through the credits. He inquired whether Mr. Armstrong thinks
that is the correct perspective to be using.
MR. ARMSTRONG replied that is a way to look at it and not
necessarily a bad way to look at it, but there are other ways to
look at it besides just NPV. He said it is really important for
the State of Alaska to put out the image and reality that it is
open for business. Getting other folks to come to Alaska to do
what Armstrong Oil and Gas ("Armstrong") has done over the last
15 years is really important. He advised that many assumptions
go into a straight NPV analysis, such as what price of oil to
use and what kind of cost structure went into the development.
It is a complicated formula and not something to just grind out
should this or that credit not pencil, because there are lots of
other ways to look at it. But, he allowed, NPV is a technique
that the committee needs to look at and seriously analyze.
MR. ARMSTRONG stressed that the key to success for both the
state and industry is to get wells drilled. If a straight NPV-
only analysis doesn't fly, then some other way must be figured
out to get people to drill wells in Alaska because good stuff
will happen. Every single field on the North Slope was found by
accident, he said. The key is putting the bit in the ground.
It is a forgiving petroleum system. The state will not get oil
down its pipeline unless wells are drilled.
6:05:40 PM
MR. ARMSTRONG emphasized that Alaska is tough, expensive, and
difficult to drill in. He posed a scenario in which a wildcat
well is drilled in winter that is 20 miles away from an existing
road. A 20-mile-long ice road would need be built starting in
December, he explained, at a cost of about $1 million per mile.
An ice pad would then be drilled and there would be a window of
three months to drill and test the well. The rig would then
need to be moved off the pad and then the ice road would melt.
Nowhere else in the U.S. is there this $20 million expense. It
is an uphill slog, cost-wise, in Alaska. So, whatever the state
can do to help encourage the drilling of wells, whether credits
or something else, is good. When contemplating any law,
legislators should always ask whether this will hurt or benefit
getting wells drilled - it is a very simple equation.
REPRESENTATIVE SEATON commented that [legislators] don't expect
any company to undertake a project where the company doesn't
expect to make money or expect its investment to pay off. So,
if there are other methods of looking at that beside net present
value, he would appreciate Mr. Armstrong sending those to the
committee. He said net present value is the only thing he has
come up with as an investor sitting on the board of directors
for the state to say whether it makes sense to do an investment.
MR. ARMSTRONG agreed to do so.
6:08:13 PM
REPRESENTATIVE TARR recalled that when earlier asked about which
of the credits were most helpful, Mr. Armstrong had said the Net
Operating Loss Credit. She noted that under HB 247 the Net
Operating Loss Credit for a company like Mr. Armstrong's would
be limited to $25 million per company per year and anything more
than that would have to be carried forward. She requested Mr.
Armstrong to comment further on how that would fit into his
company's overall profile on an annual basis.
MR. ARMSTRONG responded that his company has come to Alaska and
made a lot of investments, and the investments were made based
on the rules and the laws set up by the legislature. To change
those rules that dramatically and to limit the Net Operating
Loss Credit at just $25 million would be a crushing blow to
anybody in a position like Armstrong or Caelus Energy Alaska,
LLC ("Caelus"). It doesn't apply so much to the "big three" -
ConocoPhillips, BP, and ExxonMobil. If the legislature's goal
is to continue the oligopoly on the North Slope of the "big
three," that would be a terrific way to do it because those
companies have infrastructure that was built 30 years ago and
has been paid for multiple times over. New players like his
company are starting in a hole. The new players do not have
that infrastructure to lean on and the Net Operating Loss Credit
is a huge incentive for Armstrong to get going. Assuming
success, this credit is a small price. He anticipated that his
company's discovery this last year will provide a cash flow to
the state just shy of $1 billion a year through royalties,
taxes, and ancillary things. So, the Net Operating Loss Credit
is a massive return on investment to the state in addition to
the NPV for that expense; additionally, not many companies
utilize it. He qualified that he is not saying it is Senate
Bill 21 [passed in 2013, Twenty-Eighth Alaska State Legislature]
or nothing, but that there is a lot of wiggle room between what
is proposed by HB 247.
MR. ARMSTRONG added that he understands the state is running a
fiscal deficit, but said the fact of life is that Alaska is a
petro state. Every petro country - Saudi Arabia, Venezuela,
Qatar, Iran, and Iraq - is losing hugely because of the price of
commodity. That means there is no way that price of commodity
is going to stay that low. Like Alaska, pretty much all of
those countries have established some version of a rainy day
fund. Alaska has $65 billion in its rainy day fund, $45 billion
in its permanent fund and $20 billion in its reserve fund, to
weather through a few years of deficits. Every oil company is
running deficits today, is laying off people, and trying to
weather through this bad time. As a petro state Alaska will
have times of deficit. Alaska has no income tax, no state-
imposed sales tax, no state-imposed property tax, and everybody
gets paid to live in the state, all of which is unbelievable to
people in the Lower 48. There should be some shared pain.
6:14:24 PM
REPRESENTATIVE TARR requested Mr. Armstrong's view regarding the
provision in HB 247 that would change confidentiality. She
explained that [under current statute] members are unable to
know where [the credits] are being used most effectively.
MR. ARMSTRONG answered he does not understand the bill enough to
know exactly what that is. He said he will look into it and get
back to the committee.
6:15:04 PM
REPRESENTATIVE JOSEPHSON remarked that the aforementioned $1
billion per year in cash flow to the state really perks up his
ears. He asked how that number was derived.
MR. ARMSTRONG replied it was based on the assumed flow rate that
Armstrong expects off its developed field, a one-sixth royalty
to the state, and, he thinks, an oil price of about $70.
6:16:22 PM
The committee took a brief at-ease.
6:17:15 PM
J. PATRICK FOLEY, Senior Vice President Alaska Operations,
Caelus Energy Alaska, LLC, began his PowerPoint presentation
with slide 2, "Caelus Energy Alaska: Key Facts & Information."
He said Caelus Energy Alaska, LLC ("Caelus") is a private equity
company with all of its money coming from Apollo Global
Management, LLC, a private equity firm out of New York. "We
also have a lending side, we have a debt side, and it's a
consortium of six different banks," he added. To date Caelus
has invested over $2 billion in Alaska. Caelus purchased the
assets of Pioneer Natural Resources Alaska, Inc. ("Pioneer"), a
company he was with since day one, so he actually reaches back
to 2002 when Pioneer and Bill Armstrong made the first deal and
drilled Oooguruk. He said he is here today as a result of that
successful operation. Caelus will have a total budget in 2016
of about $300 million that is split about 75 percent in
developing Oooguruk and 25 percent in the ongoing exploration
project in Smith Bay. Caelus has a full-time work force of 70
employees and today has 400 people in the North Slope working as
contractors. That equates to about 600 full-time equivalent
jobs annually on the North Slope. Some of Caelus's North Slope
jobs are year-round and some are seasonal. Most of the North
Slope jobs actually take two people to perform because there is
a 24-hour shift. Operationally at Oooguruk, Caelus has produced
23 million barrels of oil [since 2008]. In 2015 Caelus made 4
million barrels and will make slightly more than that [in 2016].
6:20:12 PM
MR. FOLEY related that smaller companies are often asked whether
they are responsible stewards of the state's assets and able to
perform operationally with the same degree of care that the
legacy majors do. He said this question offends him because
Caelus is extraordinarily proud of its history environmentally.
Caelus is not flawless, he allowed, as the company has had
unreportable spills, meaning they did not get to the threshold
of having to be reported because they were measured in cups and
quarts, not in gallons and barrels. In 2015 Caelus had an
extraordinary Occupational Safety and Health Administration
(OSHA) recordable [injury] rate of 0.65, the rate the industry
uses to portray its safety records.
MR. FOLEY pointed out that Caelus has paid to the state over $65
million in royalties and $60 million in property taxes. Caelus
currently sits on proven reserves at Oooguruk of about 85
million barrels yet to be produced, as well as about 100 million
barrels at Nuna, a project that Caelus is commencing.
6:21:41 PM
MR. FOLEY showed slide 3, "North Slope Exploration & Development
Program," and discussed Caelus's ongoing projects. Under its
Tulimaniq Exploration Program located in Smith Bay, Caelus is in
the process of drilling two very bold exploration wells this
winter; one has already been drilled and the other is currently
being drilled. The project is about 120 miles away from Prudhoe
Bay and 60 miles away from Barrow. He said Caelus enjoys both
Exploration Incentive Credits and Net Operating Loss Credits for
this project. Absent those credits, he stressed, Caelus would
not be drilling those wells. At the Oooguruk Field Caelus makes
about 10,000 barrels a day, drills four or five development
wells a year, and places heavy fracturing on them. So far, 40
of 48 wells have been drilled from the island and the hope is to
have a drilling program that goes on for another two or three
years and then that asset will be fully developed.
CO-CHAIR NAGEAK asked whether the eastern exploration acreage is
active.
MR. FOLEY responded that the exploration acreage is state leases
in offshore state waters in Smith Bay, and there is a drilling
rig standing up on those leases today.
MR. FOLEY continued reviewing slide 3, noting the Nuna Project
has commenced with the laying of gravel. However, he reported,
the project is currently stalled as Caelus waits for some price
recovery and some stability in the state's fiscal environment.
He further pointed out that Caelus has purchased about 350,000
acres of leases [east of the Prudhoe Bay Unit]. High resolution
three-dimensional [seismic surveys] were shot last winter.
Caelus hopes to have a multi-well exploration program as soon as
this coming winter but it may be delayed one more year.
6:24:02 PM
MR. FOLEY explained slide 4, "Alaska: An Attractive Investment
Opportunity?" is essentially a scorecard on Alaska. Companies
goes through a checklist like this when making an investment
decision about whether to enter a new area where they aren't
currently doing business. Alaska scores quite high in the first
six elements on the list: it has a wonderful petroleum system;
there is access to leases; there is a reasonable amount of data
although the drilling density is shockingly low; there is an
expert contractor community; the regulatory community is
hospitable and expert, although there is room for improvement,
and permits are received timely so projects can proceed.
However, Alaska scores less favorably as far as the logistic
difficulty of doing business on the North Slope. It is dark,
cold, a long way away, and there are seasonal limitations. That
doesn't mean things cannot happen, it just means the costs are
higher than what they would be elsewhere in the U.S. Regarding
the item of favorable fiscal regime, he said there is a
qualified yes under Senate Bill 21 in which the terms were fair
and balanced. Those terms balanced the difficulties in Alaska
and they balanced the wonderful petroleum system and opportunity
had in the state. Senate Bill 21 was fair and reasonable and it
was the tax credits that made it a balance. Another key element
is the stability of the fiscal regime. Since Pioneer started
its business in 2002, there have been five changes to the tax
regime, so Alaska scores very poorly in that element. This
affects the last element on the list, which is the confidence
that lenders and equity providers have with the businesses in
Alaska. This might not apply to companies that utilize their
own money to develop projects, but for companies like Caelus
that must go to private equity providers and banks, there needs
to be the confidence that the tax regime is going to stay
unchanged for a very long period of time.
6:26:29 PM
REPRESENTATIVE TARR observed on slide 4 that Bank of America was
committed but spooked by change, and that ING backed out and
Wells Fargo disengaged when changes began. She inquired as to
the time period when changes began.
MR. FOLEY answered that these are actual experiences Caelus had.
When Caelus was trying to finance its exploration program at
Smith Bay and knew it would be getting these credits, it went
out to the lending community seeking an advance of money.
Caelus talked to all three lenders. Wells Fargo was on the edge
and not really wanting to do business in the state of Alaska.
Bank of America and ING were actively engaged, but a shock wave
went through the lenders when the veto of $200 million took
place to fund the credits that could be earned.
6:27:26 PM
REPRESENTATIVE JOSEPHSON related his understanding that if the
earnings from the permanent fund corpus are ignored, the state
is predicted to raise $1.8 billion in new revenue. In total,
these credits are at about $700 million. He asked whether those
two facts would not also shock the investors, given the math
itself has a stability problem.
MR. FOLEY replied he cannot speak specifically to those numbers,
but when looking at the credit program he looks at the state as
being a co-investor in his company's projects. This is not free
money, he added, these are credits that are earned because
Caelus makes investments and Caelus makes those investments with
an expectation of a return. Those investments will lead to
future royalty, future property tax, as well as payments from
the net profit share leases at Oooguruk. The entire balance
must therefore be looked at. He said his forthcoming slide
about the Nuna Project might better answer the question.
REPRESENTATIVE JOSEPHSON commented he will be interested to hear
about Nuna since it was earlier said that work on the project
was suspended due to price sensitivities. Given [the state's]
fiscal situation, he continued, [the state] needs to look at
suspending some things as well, which is why members are here.
6:29:15 PM
REPRESENTATIVE HERRON asked whether industry would have gotten
to the last $200 million vetoed by the governor or whether it
would have self-corrected before it got to the $200 million.
MR. FOLEY answered he does not know whether the work was done
such that the $200 million would have ever actually accrued.
REPRESENTATIVE HERRON said the governor has proposed these
changes and committee members are hearing that these changes are
significant or spooky. He asked whether Mr. Foley understands
the explanation for why the changes or whether Mr. Foley is
still puzzled by the decisions to go forward with this proposal.
MR. FOLEY replied he understands the why. The state is in a
fiscal crisis and he is not insensitive to that. Caelus met
with the administration and was pleased to discuss the changes
being contemplated and the impacts they would have on Caelus.
The net result was HB 247 which is now before the committee.
REPRESENTATIVE HERRON inquired whether Mr. Foley understood the
intent and whether these changes made sense after Mr. Foley
heard the explanation.
MR. FOLEY responded no, they do not make sense. The goals seem
to be a need to generate more revenue and for the state to have
fewer obligations to pay out credits. He said he believes that
is short-sighted because if the state does not continue to fund
these investments they won't happen and everyone will see a sad
day down the road when there are fewer companies doing business,
fewer investments, and less oil going through the pipeline.
6:32:25 PM
REPRESENTATIVE TARR stated she was struck by the comment that
Mr. Foley wasn't sure whether the $200 million would have
actually been used. She related that it was a delay in payment
or delay until the next quarter, not that the state wasn't going
to follow through on its commitment to pay the credits if they
were due. She said she sees a delayed payment versus not going
to be paid as slightly two different things. She asked whether
that is perceived differently by the industry.
MR. FOLEY answered that Caelus was paid for all of the credits
it earned. A delay in those credits wouldn't have been fatal,
just less valuable than getting the value of the credits sooner
rather than later. He said his forthcoming review of the Nuna
Project will show the exact impact of the $25 million cap per
company and what that would do to a project like Nuna.
6:33:51 PM
REPRESENTATIVE SEATON noted some projects have profit sharing
agreements, some a 16 percent royalty, and some a 12.5 percent
royalty. However, the bill treats everything the same, not
looking at the net present value to the state of those different
factors. He inquired whether Mr. Foley thinks something more
discriminating is needed in the bill of what is the net present
value of the system that the state is funding the credits to,
instead of an across-the-board everybody gets the same amount of
credits regardless of whether the state will ever get return on
its investment.
MR. FOLEY replied that Representative Seaton makes a wonderful
point that not all projects are the same. Not all capital costs
are the same, he continued, not all operating expenses are the
same. Everybody is different. Values for a company like Caelus
are different from the average of the industry. For example,
Caelus is currently in a phase of growing its business at
Oooguruk - some production is made, but wells are being drilled
and capital investment is very significant. When the amount of
money Caelus has spent in Alaska this year is divided by the
amount of barrels made this year, Caelus will have capital
investment in excess of $50 per barrel. So, Caelus is not
represented by the average work that has been done to try to
evaluate the bill. He said he believes the goal is to find a
one-size-fits-all policy as opposed to having boutique rules for
different companies, and that is the challenge.
REPRESENTATIVE SEATON clarified he is not meaning the structure
of different companies, but the royalty structure or structure
that the state will receive. [Legislators] must look at it from
the state's perspective in what is offered to companies to make
things happen, but also the amount of money given for credits up
front and how and whether it ever gets repaid. He understood
Mr. Foley to be saying it shouldn't make any difference whether
the royalty to the state is 16 percent or on land from which the
state receives no royalty, and that there should just be a
common system across everything.
MR. FOLEY replied he would encourage the state to have a common
system on the North Slope. He said the forthcoming slide on the
Nuna Project will maybe help answer the question.
6:37:03 PM
MR. FOLEY turned to slide 5, "Tax Program Changes & Impacts to
Caelus," to demonstrate the impacts of the various components of
HB 247. He offered his agreement with the point-by-point
technical analysis of the bill that was provided by the Alaska
Oil and Gas Association (AOGA) at an earlier hearing, and said
he will focus on four of those elements that are specifically
detrimental to Caelus. He explained that the bar graph of net
present value on the slide looks at the core business of Caelus:
the ongoing investments at the Oooguruk Field ("ODS"), a 48-well
program; and the Nuna Program, a 30-well program, $1.2 billion
investment for 100 million barrels. He noted the figures on the
graph were done with a 10 percent discount rate and at a strip
oil price, which is the forward curve of what the market
believes oil is worth today and what it is going to be worth in
the future. He qualified it doesn't mean the values used are
right, he is just sharing how the evaluation was done. The
strip right now would say that a 2016 oil price is going to be
$36, coincidentally about what Brent is today. It will increase
a little bit each year over five years, reaching about $52 flat.
He said he absolutely shares the sentiments of Mr. Armstrong
that a low oil price environment will not be of long duration,
but it might be several years. When Caelus looks at a project
the next three years are absolutely critical to the company, so
for its investments Caelus considers a strip price. The figures
on the slide assume the basis of Caelus's business, so the net
present value is what it is today at those strip prices.
6:39:24 PM
MR. FOLEY continued his discussion of slide 5, first looking at
the bar on the graph representing the provision in HB 247 to fix
the Gross Value Reduction (GVR), which some have characterized
as a loophole in the current law. Currently, Caelus can use the
GVR to increase its net operating loss. Some people say that
was an unintended consequence, not the intention, and this
should be corrected. However, he said, Caelus has reviewed the
current law, has made business decisions based on the current
law, and all modeling has assumed that the GVR can be used to
take the company's net operating loss lower. Eliminating the
GVR, he reported, would erode the value of his business by 13
percent. For example, if his company is worth $1 today and that
provision is passed, his company would be worth $.87.
MR. FOLEY then looked at the bar on the graph representing the
provision in HB 247 that would implement a hard 4 percent floor.
Right now, the tax regime is not a hard minimum floor in a
company like Caelus, he explained. All of Caelus's credits can
carry the company below the floor, so Caelus currently does not
pay a production tax. If HB 247 becomes law and the hard floor
is left at 4 percent, Caelus would be subject to a minimum tax
floor that would take the value of the business down 31 percent,
making his company only worth $.69 on the dollar.
MR. FOLEY next looked at the bar on the graph representing the
provision in HB 247 that would limit the transferable/refundable
credits to $25 million per year per company. This provision,
coupled with the GVR fix and a 4 percent hard floor, would erode
the net present value of his business by 77 percent, now making
his company worth $.23 on the dollar.
MR. FOLEY lastly looked at the bar on the graph representing the
provision in HB 247 that would raise the minimum hard floor from
4 percent to 5 percent. He said that provision would take
Caelus to 83 percent of its current value, making his company
only worth $.17.
6:41:45 PM
REPRESENTATIVE SEATON inquired whether each succeeding bar on
the graph includes the previous bars.
MR. FOLEY confirmed the bars are cumulative, they cannot be done
separately because they interrelate with one another.
6:42:20 PM
REPRESENTATIVE JOSEPHSON asked whether Caelus receives other
royalty reduction in addition to Nuna.
MR. FOLEY replied Caelus enjoys two forms of royalty reduction.
The first is at the Oooguruk Field for the existing Kuparuk and
Nuiqsut production; the second is a separate and distinct
royalty modification agreement that addresses the Nuna Torok.
He said Caelus has been doing business since 2002, its first
production began in Oooguruk in 2008, and Caelus is yet to make
a profit, meaning Caelus is spending more money reinvesting in
the state than the sum of all of its revenues.
6:43:14 PM
REPRESENTATIVE TARR inquired whether changing the proposed limit
from $25 million to $50 million, or some other number, would
still be problematic in Mr. Foley's opinion.
MR. FOLEY responded he dislikes suggesting a number, but
obviously bigger is better and if it was big enough to
accommodate all of Caelus's needs that would be wonderful. In
reality, he added, the state needs more companies. Policies
should be created that encourage new players to enter the state,
any kind of a limit will not accomplish that goal.
6:44:17 PM
MR. FOLEY displayed slide 6, "Nuna: A Project on the Bubble,"
and related that the original hope was to have Nuna come on line
in late 2017. However, it is going to be very difficult to keep
it on that schedule, he allowed. The hope now is for first oil
in 2018, but two things must happen. First is price
stabilization, which he said he thinks will be coming. While he
doesn't know how high the price needs to be, he added, his hope
is that prices will soon be $50-$70, and with prices like that
Caelus hopes to continue its investments in Alaska. Caelus also
needs confidence that the fiscal regime isn't going to change.
MR. FOLEY reviewed the worth of the Nuna Project. He said it is
about 100 million barrels of reserves and production would peak
at 20,000-25,000 barrels per day in about 2021. About 300 full-
time equivalent contractors would be working during the two-
year-long construction phase, followed by four to five years of
drilling that would provide about 300 full-time equivalent jobs
on the North Slope. According to the McDowell Group, the
multiplier effect would be 20:1, which is 6,000 jobs. These
jobs would be placed in jeopardy if a project like Nuna does not
go forward.
6:46:22 PM
REPRESENTATIVE SEATON understood Mr. Foley's statements about
price and hopes to be speculation. He recalled that a few years
ago the legislature's consultants at enalytica stated the price
of $50-$70. He asked whether that is a range where the 80
percent probability is for Caelus longer term.
MR. FOLEY answered he has several skills in life, but predicting
oil price is not one of them. He said he hopes it will be a
world of $60-$80, but he has no ability to make that prediction.
6:47:32 PM
MR. FOLEY continued his discussion of slide 6 and addressed the
payments that could be made to the state from the Nuna Project
in the balance between the credits given to a company and the
future revenue. He noted that these numbers are real, are at a
flat price forecast of $70, and are undiscounted. The sum of
all future payments to the State of Alaska would be about $1.75
billion, broken down as follows: $900 million from royalties,
$500 million from net profit share payments, $250 million from
production tax payments, and $100 million from Ad Valorem taxes.
Regarding the simple question of whether the state is paying
more in credits than the value it receives, he said the answer
is overwhelmingly no on the value for production taxes. The sum
of all of the credits that Nuna would enjoy is coincidentally
about $250 million. Given these numbers are undiscounted, he
allowed that the money Caelus gets today from the state is more
valuable than the same $250 million that Caelus pays back. But,
he continued, when the value from the royalty, the net profits,
the property tax, and the impact of the jobs is added into the
equation, overwhelmingly the state is making a wise investment
in continuing to fund tax credits that directly support more oil
through the pipeline.
6:49:57 PM
MR. FOLEY concluded his presentation with slide 7, "Closing
thoughts," stating Alaska needs to make public policy that has
more exploration and production companies, not fewer. He said
HB 247 is absolutely a very significant increase in taxes on the
oil industry. If the bill is passed, projects would be delayed
or canceled and there would be a very negative effect on current
production, jobs, and revenue. Most importantly, passage of HB
247 would discourage third party capital investments, he said.
He offered his understanding that the committee's task is to
find a way to come up with additional revenue to balance the
state's budget, but strongly urged that the oil industry not be
looked to for providing the answers to the budget problem.
Specifically, the refundable Net Operating Loss/Loss Carry
Forward Credits are absolutely critical to a company like Caelus
and its ongoing investments. Senate Bill 21 is what attracted
Caelus to the state; it was the balance of the petroleum system
and the difficult environment and the difficult logistics, and
the overwhelmingly favorable tax credits. Caelus probably would
not have purchased Pioneer if HB 247 had been law when the
purchase was being considered. Caelus would not be drilling its
two exploration wells in Smith Bay without the Exploration
Incentive Credit (EIC) and the Net Operating Loss Credit. Nuna
is on the bubble and two things are needed: stable and
favorable terms, and a smile from the oil price gods.
6:52:13 PM
REPRESENTATIVE OLSON inquired whether Caelus is drilling in
other jurisdictions where the tax laws or structure are changed
every two years.
MR. FOLEY replied he has worked in Alaska, in every jurisdiction
in the Lower 48, in the Middle East, and in most Latin American
countries. And, no, he has never seen a regime that changes its
tax policies with this kind of pace.
6:52:57 PM
REPRESENTATIVE HERRON related there have been many conversations
throughout the building about the definition of "new" oil. In
doing some research he found that Oklahoma provides 36 months
before "new" oil becomes "regular" oil. He asked whether Mr.
Foley has any thoughts on this subject.
MR. FOLEY responded all he can say is the tax policy created by
the legislature has worked really well to stimulate activity.
6:53:45 PM
REPRESENTATIVE TARR, regarding the proven and potential reserves
[outlined on slide 2], commented that today's situation is due
to a glut of supply. She inquired as to how Caelus looks at the
issue of overall global production relative to investments in
Alaska. In some ways, she said, it would seem better for Caelus
to not develop and to hold off for a better price. She further
asked how having no control over what is done by the
Organization of Petroleum Exporting Countries (OPEC) factors
into Caelus's investment decisions in Alaska.
MR. FOLEY replied that Alaska is the only place Caelus does
business, so it doesn't have the luxury of choosing to invest
elsewhere. He said the pace is extraordinarily important for
Caelus and most small independent companies, and maybe for the
large companies, too. Caelus cannot have its business sit idle
for two or three years and then pick up the helm and try to do
projects years down the road. Caelus must make its investments
now, it needs to make oil now. Caelus makes those investments
with an expectation that prices will recover to a level that
makes the company healthy.
6:55:48 PM
The committee took an at-ease from 6:55 p.m. to 6:59 p.m.
6:59:13 PM
SCOTT JEPSEN, Vice President External Affairs, ConocoPhillips
Alaska, Inc., began his PowerPoint presentation by summarizing
the activities that have been undertaken by ConocoPhillips
Alaska, Inc. ("ConocoPhillips") since the 2013 passage of Senate
Bill 21, the More Alaska Production Act (MAPA). Turning to
slide 3, "Activities Since Tax reform (MAPA) Passed," he
reported that ConocoPhillips has added two rigs to its Kuparuk
River Unit rig fleet and placed an order for a new rotary rig
and a new coiled tubing drilling rig. Expenditures were
authorized to build Drill Site 2S ("DS 2S"), an extension of the
Kuparuk River Unit on the southwest edge of the field. This
extended the field itself and increased the reserves that will
be covered from Kuparuk. This project is being drilled right
now and is expected to produce about 8,000 barrels a day at
peak. The cost was about $500 million and building it provided
over 250 on-site construction jobs. ConocoPhillips also moved
ahead with North East West Sac (1H NEWS), a viscous oil field
that overlies the Kuparuk Field. The West Sac is a bit heavier
crude than the light oils seen at Kuparuk, Alpine, or Prudhoe
Bay. Because this crude is also a lot thicker it is hard to
flow this oil and get it out of the ground. Modules that were
built in Anchorage and trucked to the North Slope are set on
site and electricity has been hooked up to them, but drilling
the wells for 1H NEWS has been deferred until 2017, partly in
response to the current low oil prices. All told, 1H NEWS will
cost about $450 million and several hundred people will have
been on site during the construction. First oil is anticipated
in late 2017.
7:01:51 PM
MR. JEPSEN continued reviewing the activities on slide 3, noting
ConocoPhillips has sanctioned the Greater Mooses Tooth 1 (GMT1)
Project in the National Petroleum Reserve-Alaska (NPR-A). The
GMT1 investment decision was made in late 2015 and some of the
key federal permits have been received, so construction is now
moving ahead. When done, about $1 billion will have been spent
and the expected peak gross rate is about 30,000 barrels of oil
per day. There will be about 600-700 jobs during construction
and first oil is expected in 2018. Once GMT1 is finished,
things will move ahead with GMT2, another discovery made in the
Greater Mooses Tooth area about 9 miles southwest of GMT1. Not
many details are yet had given it is still early, but the
expected cost of development is over $1 billion and will require
600-700 people to build it. It is currently anticipated that
GMT2 is a larger accumulation than GMT1.
MR. JEPSEN said ConocoPhillips has been active in exploration.
Two wells were drilled in 2014 that were part of the delineation
program for GMT2. Seismic was shot over GMT1 in 2015. Three
exploration wells will be drilled this year. Two explorations
are being drilled in the Greater Mooses Tooth Unit west of GMT2.
Thus, there is CD5, and about nine miles west of that is GMT1,
and about nine miles west of that is GMT2, and two more
exploration wells are being drilled in another nine miles. The
first well has been finished and the rig is now being moved to
the next well. After those wells are drilled, another
exploration well will be drilled this spring off the CD5 pad.
Mr. Jepsen noted he is not talking about the CD5 Project in the
context of tax reform because ConocoPhillips elected to pursue
that project in 2012 before Senate Bill 21 was passed. That
decision was made primarily because the company spent about 10
years getting it permitted, so there was a lot of momentum and
desire to get it going.
MR. JEPSEN recalled sitting before the committee [during
hearings on Senate Bill 21] and being asked what ConocoPhillips
would do if the bill was passed. He said his response then was
that he couldn't say exactly what his company would do, but that
if a favorable investment climate was put in place he could say
there would be more investment. That is exactly what has been
seen over the last couple of years, he added.
7:04:51 PM
MR. JEPSEN addressed the four graphs depicted on slide 4,
"Capital Spending Trends." He explained that the graphs show
the capital trends of ConocoPhillips as a corporation, how these
change with regard to oil price, and what the corporation's
capital investment in Alaska has been over the past few years.
He said he is focusing on capital investment because it is the
closest proxy for adding new rate and new reserves. Not shown
on the slide are expenditures for projects like well workovers,
which also add rate to the company's production. Speaking to
the upper left graph, he said it shows the corporation's capital
spending since 2012, which peaked in 2014 at about $17 billion.
Turning to the bottom left graph, he pointed out that the Alaska
North Slope (ANS) West Coast (WC) oil prices began going down
significantly right after 2014. Like the State of Alaska, he
said, a corporation cannot have significant negative cash flows
for long periods of time, so ConocoPhillips acted rationally and
started ratcheting down its capital program and cutting back on
expenses in many places. Drawing attention to the top right
graph, Mr. Jepsen explained it shows what has happened in
Alaska. Despite high oil prices during the years of 2007-2012
under the tax regime of Alaska's Clear and Equitable Share
(ACES) [passed in 2007, House Bill 2001, Twenty-Fifth Alaska
State Legislature], ConocoPhillips only averaged about $800
million annually of investment in Alaska. After passage of
Senate Bill 21, ConocoPhillips ramped up its investments, and
even for 2016 the corporation estimates it will spend about $1
billion. Referring to the bottom right graph, he explained that
it depicts the percentage of Alaska capital spend as a function
of total corporate spend [6 percent in 2012, increasing over the
years to an estimated 16 percent in 2016].
7:06:41 PM
MR. JEPSEN said his point with slide 4 is that Alaska has been
differential to the corporation's other business units, with
ConocoPhillips spending more in Alaska relative to its spending
in other places. The corporation announced in late 2015 that it
thought it would spend about $1.3 billion in Alaska for 2016.
But in the intervening months prices went lower and the
corporation anticipates the lower prices are going to stay lower
longer. So, capital spending has been ratcheted down about 20
percent [in Alaska], but as a corporation spending has come down
about 40 percent. Referencing Representative Tarr's question of
whether it would be better to stand back and leave the oil in
the ground, Mr. Jepsen said ConocoPhillips is continuing to
spend in Alaska because, as was explained by Mr. Foley, there is
a lot of momentum and investment that must occur before a
company can see production. Oftentimes it takes years to get
permits, it takes years to build infrastructure, and rig
contracts are signed that have duration of years. So, once all
this is in place it can be very expensive and relatively hard to
unwind and would be very difficult to restart once that was
wanted. Also, ConocoPhillips got on to this growth in spending
in part because Senate Bill 21 passed. It was a positive
investment climate. Senate Bill 21 has been a factor in the
investment decisions made by ConocoPhillips over the last few
years. Obviously, it is not the sole investment criteria, but
it has been part of the corporation's discussion and has been a
very positive factor.
7:08:25 PM
MR. JEPSEN specified that the graph on slide 5, "Alaska
Producers Negative at Current Pricing," captures what this whole
conversation is really all about. He noted the data for the
graph is from the fall 2015 Revenue Sources Book [published by
the Department of Revenue]. The Y axis is the net cash flow in
millions of dollars and the X axis is the ANS WC price in
dollars per barrel. The orange bar represents the state's
share, the state's cash flow as a function of oil price; the
green bar is federal share; and the blue bar is what goes to the
producers. Included in the state's share are royalties,
severance tax, income tax, and property tax; the tax credit
program is not included, but it does include the per-barrel
production tax credits. Mr. Jepsen stated that at current
prices on up to about $50 a barrel, industry is losing money.
The federal government is losing money because industry is in
negative cash flow and producers basically get a loss carry
forward on their federal taxes. The state is still making over
$1 billion a year from the aforementioned components. The
discussion right now, he continued, is about whether to increase
the tax burden on an industry that is in a negative cash flow
situation. The state is in a positive situation at this point
in time, although maybe not as positive as it would like. From
an industry point of view, increasing taxes drives industry to
make equally rational decisions as it did when Senate Bill 21
was passed. If industry has a greater tax bite on its
operations it will have to find ways to make up those costs
somewhere else, such as reducing costs or reducing investments
this year and looking at whether that is going to be encouraging
for industry to make investments down the road.
7:10:30 PM
REPRESENTATIVE TARR requested Mr. Jepsen to again describe where
the number of $1.2 billion to the State of Alaska comes from.
MR. JEPSEN replied it was his corporation's modeling based upon
the state's forecast of cost and capital expenses and looking at
what would be the derived royalty, severance tax, and so forth.
MR. JEPSEN added that ConocoPhillips was negative cash flow last
year. The average price for Alaska was about $52 a barrel and
prices are lower this year, so ConocoPhillips anticipates being
negative cash flow this year as well.
7:11:23 PM
PAUL RUSCH, Vice President Finance, ConocoPhillips Alaska, Inc.,
brought attention to slide 6, "Key Concerns with HB 247." He
said the proposal in HB 247 to increase the minimum tax from 4
percent to 5 percent is especially troubling given industry's
negative cash flow position. ConocoPhillips is unique in that
it discloses the results of its Alaska region externally, unlike
most companies. On a net flow basis, ConocoPhillips had a loss
in 2015 in excess of $100 million. He surmised the other
companies also had a similar sort of loss, and said an increase
in the minimum tax in this environment clearly would further
negatively impact industry's results in Alaska.
MR. RUSCH specified that the hardening of the minimum tax floor
proposed in HB 247 also represents a tax increase for industry.
Current tax law allows the use of some limited credits to reduce
the tax below the minimum, he noted, in particular Net Operating
Loss Credits and credits associated with new oil. Eliminating
this potential will effectively serve as a tax increase for
those companies that are experiencing a loss and those that are
investing in new oil. He said that HB 247 proposes a number of
other changes which also represent increases in tax, such as
higher interest rates, a loss of per-barrel credits, and
excluding certain items from the net operating loss calculation.
7:13:45 PM
REPRESENTATIVE SEATON related that [ConocoPhillips's] fourth
quarter [2015] detailed supplemental information shows $67
million as loss from continuing operations for income taxes. He
asked whether this is cash flow or is different than the [loss]
in excess of $100 million.
MR. RUSCH offered his belief that the adjusted net income on
that same report was $482 million.
REPRESENTATIVE SEATON understood, then, it is going off adjusted
instead of cash flow.
MR. RUSCH responded yes and explained that there is a higher net
income figure, a financial accounting figure that is then
adjusted by non-cash items. Depreciation was in the amount of
$680 million, he believed, and then there is subtraction. That
doesn't capture the real cash outflow of capital expenditures,
he continued, which were in the neighborhood of $1.4 billion.
So, that's the full equation. The earnings figure does not have
that capital number in it, so capital investment is an
adjustment that is made.
REPRESENTATIVE SEATON explained he is just trying to figure out
how all the numbers correspond.
MR. JEPSEN interjected that the financial accounting does not
reflect the cash position.
7:15:20 PM
REPRESENTATIVE HERRON, regarding the proposed 25 percent tax
increase [through raising the minimum tax floor from 4 percent
to 5 percent], inquired what ConocoPhillips would think about a
tax increase that was 5 or 10 percent as opposed to 25 percent.
MR. JEPSEN answered any time there is a tax increase, investors
should be expected to react rationally. A tax increase would
decrease the attractiveness of investing in Alaska and would be
compared to other existing investment opportunities to see how
Alaska looks on an overall basis. An increase to 4.1 percent
would be better than an increase to 5 percent, but it would
still be moving in the wrong direction at this point in time.
7:16:36 PM
REPRESENTATIVE TARR, regarding the proposal in HB 247 to
increase the interest rate for under/over paid taxes, stated
that the interest rate under ACES seemed too high and under
current law [Senate Bill 21] seems too low. The sweet spot is
trying to be found, she said, so as not to incentivize behaviors
that happen on either end of too high or too high. If the
interest rate is too low it might be advantageous for companies
to underpay. She requested Mr. Rusch to comment in this regard.
MR. RUSCH replied that the next slide will cover this point.
7:17:52 PM
MR. RUSCH turned to slide 7, "Key Concerns with HB 247," and
addressed the proposed provision in HB 247 to increase the
interest rate on taxes due. He said payments are made in good
faith on time, and it seems inappropriate to apply a punitive
interest rate. As far as what is a punitive rate, he noted that
under the current rate and current system there is a period of
6-plus years in which the state completes its audits. So, if
there is any follow-up discussion to resolve the tax, anything
higher really does lead to excessive amounts of interest. For
example, he pointed out, ConocoPhillips's 2006 audit was just
now finally closed out - 10 years later. That is where the real
objection comes from. The system currently in place drags out
for a very long period of time; the corporation has no control
over that. The corporation makes its best effort to pay its
taxes in good faith and as accurately as it can. However, there
is a lot of subjectivity in the system. Sometimes when
ConocoPhillips appeals these rulings they go in its favor and
sometimes they don't. No matter how hard a company tries to pay
its taxes as accurately as it can, the company cannot do it
because there is that much subjectivity.
7:19:12 PM
REPRESENTATIVE TARR related that tightening of the timeframe has
been discussed and the Department of Revenue (DOR) has a plan
for getting to where it is two to three years for the audits.
She asked whether this changes Mr. Rusch's opinion about this
particular proposal.
MR. RUSCH responded, yes, the corporation would be open for
considering that, but he would be hesitant to go there because
it will take a number of years for DOR to get caught up.
Second, there are some other things that ConocoPhillips has
considered, such as whether the interest could begin being
applied at some later point in a process, such as after the
audit is completed and the company receives an assessment.
Right now it goes back to the period in question, not to the
time the assessment is issued. The big issue is the amount of
time and that it is compounding interest over that time. There
have been assessments where the interest component is close to
or greater than the actual audit finding, which is not a goal
that anyone has through the process. He said ConocoPhillips is
open to anything that could be done to shorten the audit period.
7:20:55 PM
MR. RUSCH continued discussing slide 7, drawing attention to the
proposed provision in HB 247 that would restrict the per-barrel
credits earned and applying them on a monthly basis rather than
the full-year basis that ConocoPhillips believes was the
intention of the law. He said this appears to be an attempt by
the state to game the system such that the state will always win
in the event of a price movement or price volatility. In
ConocoPhillips's view, that is in conflict with the concept of
an annual tax. Monthly estimates are made, payments are made
off those estimates, but the tax is intended to be a yearly tax.
7:21:59 PM
REPRESENTATIVE JOSEPHSON observed the statement on slide 7,
"intent was full year basis." However, he said, testimony has
been received that that was not the intent. Because that is
definitely what the statutory language in Senate Bill 21 says,
the presumption is strong that ConocoPhillips is in the driver's
seat. But, he continued, the legislative history appears to be
that that was not the intent; he inquired whether ConocoPhillips
knows of any legislative history that counters that.
MR. JEPSEN answered he doesn't have any citations with him that
he can provide today, but past practice tells this is what the
intent was. Until this year it was never heard that this was
supposed to be a monthly tax. That is how the corporation has
been paying its taxes and that is how they have been audited, it
has been the basis on which the system works.
MR. RUSCH cited the language in AS 43.55.020(a)(5) [slide 10]
that states, "less 1/12 of the tax credits that are allowed by
law" and "for the calendar year," and said this language implies
that it is a full calendar year tax assessment.
7:23:45 PM
MR. RUSCH continued discussing slide 7, addressing the proposed
provision in HB 247 that would limit deductions for calculating
net operating losses (NOLs), in particular capping
transportation losses that result in a gross value at the point
of production (GVPP) that falls below zero, and also excluding
the Gross Value Reduction (GVR) from the net operating loss
calculation. He said excluding the GVR is simply a question of
whether the removal of this incentive will negatively impact
future investment related to new oil, which was presumably put
in place to incentivize new oil. ConocoPhillips views the
elimination of transportation cost as a bit more problematic and
arbitrary as the transportation cost is an actual cost that has
been calculated and is a valid expense that has been accepted as
a reasonable cost.
MR. RUSCH spoke to the proposed changes in confidentiality
included in HB 247. He said these changes are concerning
because it is unclear as to what the limitations would be on the
data that would need to be provided. It was initially thought
that this would only cover reimbursable credits, but it is
ConocoPhillips's understanding that under the bill as currently
drafted, it could potentially require the release of all
taxpayer information. While it makes reference to the tax
credits, the tax credits are based on a calculation of the
taxpayer's full tax position. He said ConocoPhillips does not
want to make it more difficult for the state to manage its
budget, and he knows that obtaining some of this additional
information would help, but his corporation is concerned about
releasing potentially competitively sensitive information.
Giving the information could result in a request for even more.
The bottom line is that it opens up some very dangerous ground.
7:26:17 PM
REPRESENTATIVE SEATON pointed out it wouldn't be known what an
individual company's tax liability is. Only the credits applied
or refunded would be known, he said, and therefore he doesn't
see what the difference is. If the credits are secret, the
state's investment by region is unknown except broadly across
everything. He asked how that divulges something that shouldn't
be known about the state's investment.
MR. RUSCH replied that as just explained by Representative
Seaton he does not believe it would be an issue if this were
restricted to releasing information on reimbursable tax credits.
However, his understanding is that because the wording in the
current law is referring to tax credits it has been suggested
that net operating losses are also a tax credit, so that
information would be available. Given the wording, if a company
is required to release information on its net operating losses,
is the company also required to release information on how those
net operating losses were calculated? So, it is a concern if
there is a requirement to provide some additional data.
ConocoPhillips would ask that consideration be given to ensuring
the language is very narrowly defined.
REPRESENTATIVE SEATON understood Mr. Rusch to be saying that
ConocoPhillips Alaska, Inc. really doesn't have a large problem
except for the net operating loss. He allowed he can see that
if a Net Operating Loss Credit were to be applied then something
would be known about the whole scheme. But, he surmised, as far
as the other credits applied against tax liability that's not
really so much a problem for ConocoPhillips because that is
really like the reimbursable tax credit.
MR. RUSCH responded he would need to better understand what
specifically other tax credits mean since the devil is in the
detail. If it were to be very narrowly defined, he thinks
ConocoPhillips would be okay with that. When it is more broadly
defined in the legislation is when it gets more problematic.
REPRESENTATIVE SEATON requested that ConocoPhillips supply the
committee with the definitions that would work without revealing
the corporation's tax information.
7:29:44 PM
MR. JEPSEN moved to slide 8, "Observations," and expressed the
concern that if HB 247 is passed the state will once again be
entering a new significant tax framework. Tax stability and
durability is important to investors, he said. It is a critical
component in terms of how projects are evaluated in investment
decisions. It has only been 18 months since Senate Bill 21 was
ratified by the voters and once again significant changes to the
state's tax framework are being considered.
MR. JEPSEN further noted that ConocoPhillips Alaska, Inc. is in
a negative cash flow position, which he believes much of the
industry is. An increased tax burden will, with certainty,
impact the corporation's long-term investment decisions as well
as this year's operations, he said. Like the State of Alaska,
ConocoPhillips is trying to find a way to get through this
trough that looks like it is going to be deeper and potentially
longer than was anticipated. If his corporation sees increased
costs it will have to offset those somewhere. The only place
where that can be done is by reducing investments and expenses.
He offered his belief that it would have a very material impact
on his corporation's long-term investments because, once again,
it is being seen that when the state needs more money it comes
back to the people who pay taxes. Last year his corporation
incurred obligation to the State of Alaska of about $665
million. So, ConocoPhillips is one of the players that provide
revenue to the state. The corporation would like to stay in the
position of continuing to invest for the future, but changes
like this will impact the corporation's investment plans.
7:31:34 PM
REPRESENTATIVE TARR inquired whether an assessment has been done
as to what the overall financial impact of HB 247 would be to
ConocoPhillips Alaska, Inc.
MR. JEPSEN responded that when a company is in a negative cash
flow position, and somebody wants more money from the company,
that is a significant change. He explained that his corporation
keeps its internal finances confidential; that is why he talks
about the impacts using the Revenue Sources Book, which contains
publically available data. Therefore, he is not in a position
where he can tell the committee how much each change would mean
to his corporation. But HB 247 potentially has a significant
increase on his corporation's tax burden. Because of being in a
negative cash flow position it is not something that the
corporation can just absorb.
7:33:09 PM
REPRESENTATIVE JOHNSON understood ConocoPhillips Alaska, Inc.
has five rigs working on the North Slope.
MR. JEPSEN answered that right now ConocoPhillips Alaska, Inc.
has about five rigs running, which will increase to six for a
short period of time between Alpine and Kuparuk when the new
rigs are brought up. Some of the rigs are scheduled to leave
the corporation's rig fleet because the scope of work for them
has been completed. A couple of new rigs were brought in right
after Senate Bill 21 was passed and those were designated as
workover rigs and the corporation has basically worked through
the backlog, there are no more broken wells to be fixed. Some
of the other rigs will be phased out as the new rigs are brought
in. The expectation for 2016 is four to five rigs working
between Kuparuk and Alpine.
REPRESENTATIVE JOHNSON asked how many rigs ConocoPhillips has in
the Lower 48.
MR. JEPSEN replied he thinks there were three rigs as of late
last year, but he is unsure what the count is right now.
7:34:21 PM
REPRESENTATIVE OLSON inquired whether ConocoPhillips is working
in any other jurisdictions in the world that have changed their
tax structure as often as has the State of Alaska.
MR. JEPSEN responded not to his knowledge and deferred to Mr.
Rusch to answer further.
MR. RUSCH answered no, he has not seen that. As was stated by a
previous speaker, he recounted, a number of other countries are
offering incentives; for example, deepwater incentives are being
offered by Malaysia. If changes are being made, he surmised
they are probably going in the other direction.
7:35:16 PM
The committee took a brief at-ease.
7:36:18 PM
PATRICK GALVIN, Chief Commercial Officer & General Counsel,
Great Bear Petroleum, began his PowerPoint presentation by
pointing out that Great Bear Petroleum ("Great Bear") is an
exploration company. He displayed the slide, "PRESENTATION
TOPICS RELATING TO PRODUCTION TAX CREDITS & HB 247," and said
that as an exploration company Great Bear urges that the
Exploration Incentive Credits be extended. This program is set
to expire June 30, 2016, he noted, and from Great Bear's
perspective this program is an important investment for the
state and is a program that should be extended as it relates to
North Slope exploration activities.
MR. GALVIN addressed the slide, "GREAT BEAR PETROLEUM - A QUICK
HISTORY, A NORTH SLOPE EXPLORATION COMPANY," and noted the
company was founded in 2010, is focused exclusively on Alaska's
North Slope, and has an office and all employees in Anchorage.
Great Bear holds just under 500,000 acres, which is the limit
for North Slope exploration acreage position, and Great Bear is
the operator on about 590,000 acres of state oil and gas leases.
Great Bear has acquired 500 square miles of three-dimensional
(3-D) seismic over the past four seasons and is currently in the
process of acquiring an additional 450 square miles of 3-D
seismic. Great Bear has drilled three exploration wells.
MR. GALVIN moved the slide, "GREAT BEAR PETROLEUM - A QUICK
HISTORY, FROM UNCONVENTIONAL TO CONVENTIONAL," and stated that
Great Bear's original target was an unconventional, or shale,
play on the North Slope. The company recognizes that with the
cost environment in Alaska, shale plays face an "Alaska
Unconventional Catch-22." This means that in order for a shale
play to be economic it needs to have a cost environment that
will provide for the return even at a higher oil price than is
seen today. To achieve that cost reduction in Alaska will
probably require a critical mass of additional drilling activity
such as would be associated with an unconventional play. So,
there is a bit of a chicken-and-egg aspect to the economics for
unconventional plays in Alaska where the amount of cost savings
associated with volume of drilling activity cannot be seen until
actually doing it, but a company cannot anticipate that until it
can get going on it. Great Bear is fortunate in having
identified significant conventional oil and gas potential on its
acreage. So, the company has been able to refocus its attention
on the conventional plays within its leasehold and recognize
that there is still an opportunity for an unconventional play,
but it would likely come on the back of the buildout that would
be borne by a conventional oil and gas discovery.
7:40:20 PM
MR. GALVIN showed the slide, "STRATEGIC EXPANSION OF
CAPABILITIES, PARTICULAR FOCUS ON GEOSCIENCE & OPERATIONS," and
said Great Bear is swimming against the tide by being in an
expanding mode right now. As an exploration company Great Bear
is not currently impacted by low oil prices other than costs are
going down, which creates opportunity for the company. Great
Bear has had reorganization, has changed out its management
team, and has significantly expanded in the areas of geosciences
and operations.
MR. GALVIN presented Great Bear's new management team pictured
on the slide, "STRATEGIC EXPANSION OF CAPABILITIES, NEW
MANAGEMENT TEAM." He said the new president and chief executive
officer (CEO) is Mike Mason, who has significant experience in
the oil field as a petroleum engineer, spent many years with BP,
and rose to the top petroleum engineer within BP. Clark Clement
is the chief operating officer and is one of the leading experts
in directional drilling as well as hydraulic fracturing. Larry
Casarta is the new vice president for exploration and has a lot
of experience both in Alaska and worldwide in finding oil in
exploration plays.
7:42:38 PM
MR. GALVIN moved to the slide, "GREAT BEAR - PROJECT AREA," and
pointed out that Great Bear's lease position is shown in blue.
This position is located on the North Slope almost directly
south of Prudhoe Bay and Kuparuk, he noted, but not in the
foothills. Great Bear's acreage position is roughly the size of
Prudhoe, Kuparuk, and Point Thomson combined.
MR. GALVIN showed the slide, "GREAT BEAR - LEASEHOLD POSITION,"
and said Great Bear's lease position has been acquired over five
lease sales as those leases became available as they expired
from previous holders. He displayed a second slide entitled,
"GREAT BEAR - LEASEHOLD POSITION," and said Great Bear is very
cognizant that the clock is ticking with regard to its leases.
The expiration dates for Great Bear's leasehold are shown on
this slide, he noted, and a large portion expires in mid-2018.
This ticking is heard very loudly, particularly when dealing
with seasonal opportunities for exploration activities. Great
Bear has a number of partners, Mr. Galvin said, one being
Halliburton. By farming in and doing work, Halliburton has
earned a 25 percent working interest in a portion of Great
Bear's acreage. In order to come under the acreage limitation,
Great Bear last year sold a portion of its acreage to Borealis,
which is owned by the Australian company Otto Energy. Borealis
acquired an 8-10 percent interest in most of Great Bear's leases
through that transaction.
7:44:48 PM
MR. GALVIN brought attention to the slide, "GEOLOGIC TARGETS,"
and reviewed the evolution of Great Bear's focus. When the
company first came in it was focused almost exclusively on the
shale source rock, he said. Great Bear was attracted to the
North Slope by the three world class shale plays that are there.
All three of these shale plays are stacked on top of each other
within Great Bear's acreage, providing the opportunity to
develop any of those three depending upon the location. Also,
within that strata are a number of conventional or reservoir
potential plays. These are mixed in to the shale plays, so
within any particular lease location there may be any number of
potential targets within these conventional and unconventional
plays. Use of the terms conventional and unconventional is
pretty loose within the industry, he noted. Due to technology
advancements, things that were previously considered fairly
unconventional are now becoming rather conventional. A model
anticipated by Great Bear is to bring unconventional technology,
horizontal drilling and hydraulic fracturing, to a conventional
play in order to enhance the recovery from those fields.
7:46:56 PM
MR. GALVIN displayed the slide, "MODEL - MIGRATION OF SHUBLIK
OIL," and noted Great Bear's location and proximity to Prudhoe
Bay and Kuparuk. He explained that the current reservoirs have
accumulated the oil through the migration from the original
source rocks up into those reservoirs. This slide is a computer
model that was generated from the input of all the North Slope
wells and well data. A project of the U.S. Geological Survey
(USGS) and PetroMod petroleum systems modeling software, it is a
snapshot showing the migration route from the Shublik, the
deepest and potentially most prolific of the source rock.
MR. GALVIN moved to the slide, "GREAT BEAR'S CONCEPT, FIND AND
PRODUCE OIL FROM THE SOURCE OR FROM TRAPS ALONG THE MIGRATION
ROUTE." He said Great Bear picked up the leases that cover
those source rock areas because the company recognized that the
tremendous amount of oil sitting in Prudhoe and Kuparuk was
generated underneath this acreage. Great Bear is looking at an
opportunity to produce from either the original source itself or
from traps that collected oil along the way as the oil migrated
up to the north.
MR. GALVIN outlined the activities done by Great Bear to date.
Turning to the slide, "GREAT BEAR - 3D SEISMIC SURVEYS, 2012 -
PRESENT," he said the most significant thing the company has
done is to shoot modern 3-D seismic over a large portion of its
acreage. He explained that 3-D seismic provides a window into
the potential conventional plays that may be with Great Bear's
acreage and gives an opportunity to finds those traps that may
be holding the oil that is migrating through. This season Great
Bear is acquiring about 450 square miles of additional seismic
and once complete Great Bear will have nearly its entire
contiguous position covered with 3-D seismic. This tremendous
asset will provide an opportunity to identify drilling targets
to pursue going forward.
7:49:41 PM
MR. GALVIN addressed the slide, "GREAT BEAR - EXPLORATION WELLS,
2012 - PRESENT," noting Great Bear has drilled three exploration
wells. The first two were drilled the summer of 2012 along the
haul road [Dalton Highway] on upland sites accessible year-
round. Great Bear is one of the only exploration companies that
is able to operate in the summer as long as the location is in
one of the six sites shown on the map. All six sites are
permitted for year-round access. The two well sites were
selected primarily because of convenience and the first drilling
program was primarily for drawing whole core samples out of the
source rocks to tell what state they are in and their potential
for producing oil and gas going forward. Using the seismic that
was shot Great Bear identified three conventional oil and gas
prospects. Great Bear was drilling last winter and was hoping
to drill all three, but due to a number of factors, including
the flooding of the Sagavanirktok (Sag) River over the Dalton
Highway, the company was only able to get to the bottom of the
first one, Alkaid #1. Great Bear remains encouraged by the
prospectivity of all three of these areas, but now with the
additional time the company has added those to the pot to
compete with the rest of the prospects that are being generated
through Great Bear's seismic analysis.
7:51:28 PM
MR. GALVIN turned to the slide, "GREAT BEAR PROJECT SPENDING
(2010 - PRESENT), BUSTING THE MYTH THAT EXPLORATION COMPANIES
DON'T HAVE 'SKIN IN THE GAME.'" He said Great Bear happened to
come along at a time that saw the state provide probably the
most generous credits that are going to be seen. Due to the
change in the law and ability to stack the Exploration Incentive
Credits on a temporarily increased Net Operating Loss Credit,
there have been times when Great Bear's seismic program was
receiving about an 85 percent tax credit. Overall, Great Bear
has spent about $220 million on its seismic, drilling, and other
activities, including holding the leases and general operating
expenses. Great Bear has taken advantage of the Net Operating
Loss Credits which have ranged from 25 percent to a temporary 45
percent to the current 35 percent. Great Bear has had 40
percent Exploration Incentive Credits for its seismic and
generally 30 percent credits for its wells. Of that, the state
has or will eventually reimburse Great Bear about $140 million.
This means Great Bear and its partners have spent $80 million
that will not be reimbursed by the state; it is real money that
is being spent to acquire this information. Because Great Bear
owns such a significant interest it has spent that money as
wisely as possible in discovering oil on its acreage. The tax
credit program requires Great Bear to convey to the state all of
the data generated through the company's drilling and seismic
programs. Therefore the state now has very valuable seismic
data on its acreage as a result of these shared activities.
7:54:05 PM
MR. GALVIN spoke to slide, "TAX CREDIT FINANCING, BUSTING THE
MYTH THAT EXPLORATION COMPANIES ARE 'FINANCED' BY TAX CREDITS."
He said he wants to discuss the idea that companies that are
enjoying tax credits are "financed" or "wholly financed" by the
credit program. As far as the North Slope is concerned, Great
Bear uses is investors' money to pay employee salaries, oil and
gas rentals, office expenses, and other business expenses. Some
of those expenditures associated with geologic work, permitting,
and the actual contracting of the seismic and drilling qualify
for tax credits, currently somewhere between 35 and 75 percent.
Because of the ability to collateralize the tax credits Great
Bear can borrow against the expected credit from the state.
That means Great Bear can take the money it has available to it,
can anticipate if X amount of dollars is spent then so much in
credits will be generated, and the company goes to the bank and
asks for a loan against that. As long as Great Bear has the
money to pay its portion and the money to pay the bank's
financing fee, the bank may be willing to lend the money. But,
Great Bear must put real money up, a significant amount of
capital, in order to do that. So, at no point are explorers
making money off of the tax credit program. Explorers are
investing that money to advance their exploration activities and
doing it in conjunction with the state.
7:56:03 PM
MR. GALVIN showed the slide, "CHALLENGES UNIQUE TO NORTH SLOPE
EXPLORERS, ADDING MORE RISK TO AN ALREADY RISKY INVESTMENT," and
outlined why the tax credit programs are so important from a
North Slope explorer's perspective. Oil and gas exploration in
definition is a risky venture, he said, there is no guarantee of
a return on investment. Adding some of the particular items
with regard to Alaska's North Slope and that just adds more risk
to what is already a risky investment. There is a lack of
geologic data on the North Slope, particularly anywhere outside
of the existing fields. There is a short and unpredictable
winter exploration season. Permitting is complex and there are
often delays. And, Alaska is a very high cost environment.
MR. GALVIN said the slide, "UNIQUE ANS CHALLENGES - LACK OF
GEOLOGIC DATA, FEW WELLS IN GREAT BEAR ACREAGE," shows all of
the well penetrations on the Alaska North Slope. Each dot is a
well and the lines reflect deviated wells. A tremendous amount
of activity has occurred in certain clusters. However, on Great
Bear's acreage, only about 11 wells drilled were drilled before
the company came along. From a density perspective and an oil
and gas density perspective, this is basically unexplored area.
Little to nothing is known about what is between those wells and
each well has its own story about how much information was
received from that well. From a risk perspective that adds
tremendously in terms of whether an investment is going to pay
off. Only two wells had penetrated the Shublik previous to the
acreage being purchased by Great Bear. Great Bear has since
drilled two wells through the Shublik, basically doubling the
information relating to the Shublik within Great Bear's acreage.
7:58:45 PM
REPRESENTATIVE JOHNSON asked how much of the $80 million spent
by Great Bear Petroleum and its partners was leveraged.
MR. GALVIN clarified that the $80 million was not leveraged, the
$80 million is entirely what Great Bear has spent.
REPRESENTATIVE JOHNSON recalled Mr. Galvin having stated that
the tax credits allowed Great Bear to leverage money and to
borrow money. He asked whether any of that $80 million is
leveraged or whether it is all straight ownership investment.
MR. GALVIN explained that when he says "leveraged" he that means
Great Bear is putting its money up and is then able to borrow
additional money against it.
REPRESENTATIVE JOHNSON said he understood Mr. Galvin to say that
because of the tax credits Great Bear was also able to borrow
money using that.
MR. GALVIN responded that a way to look at it is that of the
$140 million that will be reimbursed by the state, approximately
half of it was borrowed ahead of time. So, $150 million was put
up and $70 million was borrowed. It was over four years, so
there are different cycles.
8:00:40 PM
REPRESENTATIVE JOHNSON recalled that in 2011 a Great Bear
representative testified that there would be 200,000 barrels a
day by 2020. The representative further testified that Great
Bear planned to begin production in 2013. He inquired why there
has yet to be production to date in 2016.
MR. GALVIN replied that the testimony was provided by former
president and CEO, Ed Duncan, who is no longer with Great Bear.
Pointing out he was not with Great Bear at the time, he offered
his understanding that the slide being referred to by
Representative Johnson was intended to provide a picture of what
could be possible with an unconventional play if it were
supported through both the state and Great Bear being able to
advance it in an expeditious manner. The purpose of the slide
was to basically give the state a reason to recognize that if
this comes about, we are going to have to be ready to deal with
a couple hundred wells a year on the permitting and other
infrastructure aspects of it. He said he does not believe Mr.
Duncan intended to say Great Bear was at this point guaranteeing
it was going to be drilling this amount and producing that
amount of oil because it hadn't yet done any exploration.
REPRESENTATIVE JOHNSON referred back to testimony provided
before the Senate Finance Committee where a senator stated that
Great Bear would be drilling 150 wells per year. However, there
has been nothing close to that, only six have been drilled since
2011 when it had been said that there would be 100 a year. He
asked whether this presentation is as speculative as that one.
MR. GALVIN responded he cannot speak to what the senator was
referring to. He offered his belief that the senator was
referring to the same slide that was intended to represent what
was possible with an unconventional play and what would be
necessary for an unconventional play. How it was used at the
time is not anything to do with Great Bear. But, Mr. Galvin
said, what he is presenting to the committee today is not
speculative whatsoever, he is showing the committee what Great
Bear has done.
REPRESENTATIVE JOHNSON commented that he was not the only one
confused by the statement, a senator also interpreted it the
same way.
8:03:33 PM
REPRESENTATIVE TARR, regarding the state picking up 65 percent
of the cost and Great Bear 35 percent, recalled previous
speakers advising to think of tax credits as the state being a
co-investor. Given [the state] is at much more than 50 percent,
she asked when it is a subsidy versus a co-investment scenario
from Great Bear's perspective. She said that when she thinks of
co-investor she thinks more of equal investment or something
that is more favorable for the state than is this scenario.
MR. GALVIN answered he would go back to something earlier
described by Representative Seaton with regard to looking at
this as an investment and whether it is worthwhile to the state.
Mr. Galvin said he would argue that having the state provide a
greater subsidy for exploration activity actually is a good
investment from the state because of the return that the state
could receive and the ability to basically multiply the amount
of wells that the state is going to get for the amount of
private dollars that are going to be available for taking that
risk in Alaska. Because the state is the resource owner it has
a significant interest in trying to get as many explorers to the
state as possible, not just betting on one.
8:05:14 PM
REPRESENTATIVE TARR noted industry has said it wants some level
of certainty, stability, and durability; therefore it doesn't
seem unreasonable for the state to also want some similar level
of certainty. She recalled that according to Mr. Ken Alper,
director of DOR's Tax Division, there is a certain amount spent
that can be directly linked to projects that are in production
right now. She said she thinks about $650 million was spent for
things that are not in production. A significant amount of
investment is being made on the part of the state without any
level of certainty that production will come. Based on what
Representative Johnson is saying, she thinks that previously
[legislators] were given that expectation and factored that into
their decision making. She asked how [legislators] are to get
the sense of certainty that industry likes.
MR. GALVIN replied that speaking as an exploration company,
there is no certainty. There is nothing that an exploration
company can give legislators with regard to certainty that there
is going to be a particular outcome. If [the legislature] is
going to encourage someone to drill two wells there will be a
certain likelihood of success and someone drilling six wells
will have a significantly greater likelihood of success. From
the basis of an investment portfolio, the greater the diversity
of investments the higher the level of confidence for the return
being looking for. With regard to exploration, he suggested it
is a similar dynamic - if additional exploration is encouraged
there will be a higher likelihood of success because [the state]
has diversified its risk more. On an individual company basis,
he advised, if anybody tells the committee that it can guarantee
exploration success, don't believe them.
8:07:35 PM
REPRESENTATIVE SEATON said the problem as he sees it is that net
present value for the state's investment has to at least pay off
some time. The scenarios being seen by the state are fields of
15,000 barrels a day with a 30-year life and the facilities and
tax credits up front. The state has a net present value loss at
$80 when talking about production tax, and at $60 when talking
about corporate income tax, production tax, and royalty. At
price ranges of $60-$80 the state never recovers its money and
in fact has to generate other taxes to supplement that, which
gives [members] pause for going forward in the current credit
situation. He requested Mr. Galvin to tell him how that
analysis is wrong or how the state should look at its investment
as to whether it will ever be repaid in those situations.
MR. GALVIN responded that a fundamental question is whether
members believe in the likelihood of finding additional oil on
the North Slope. He related that pretty much every geologist he
has talked to has said there is great certainty that there is a
tremendous amount of yet undiscovered oil on the North Slope.
If the likelihood of a 30 million barrel field is evaluated and
what the economics of that would be compared to a 200 million
barrel field it will be seen that they are significantly
different. Doing that type of analysis accepts the probability
that a range of fields is going to be found still sitting on the
undrilled acreage on the North Slope. Because the state is the
owner of the entire pool, the state investing along with
industry in exploring that area gives the state the greatest
likelihood of getting a return on its investment than any of the
individual investors because the state shares in the probability
for all of those. Within the state land, and given the amount
of oil that should be found up there and the expectation that
prices are going to recover at least to a moderate level, Mr.
Galvin said he would suggest that members will find that the net
present value (NPV) analysis would show that it is positive to
the state given the range of potential fields that would likely
be found. He clarified he is talking about exploration acreage
on the North Slope on state land.
8:11:22 PM
REPRESENTATIVE SEATON reiterated that what the state has gotten
so far is fields of 15,000 barrels a day with 30-year lifespans.
He surmised members need to look at larger fields to see what
the net present value of those would be. However, he continued,
with new oil having a 20 percent Gross Value Reduction (GVR) the
net present values turn out to be negative at some pretty high
levels "compared to ... if that P80 50-70 is right, then we're
in negative territory much of the time."
MR. GALVIN answered that for any modeling exercise the
assumptions must be set appropriately and with a wide enough
window. Everyone has experienced the problems with having a
narrow assumption field. A wide enough assumption area must be
given and the probable outcomes set accordingly. [Models would
need to be run] against a number of different field sizes, a
number of different cost regimes, and a number of different
price scenarios.
8:12:47 PM
MR. GALVIN resumed his presentation. He explained that the
graph on the slide, "ANS CHALLENGES- SHORT & UNPREDICTABLE
DRILLING SEASON," shows the number of days the tundra was open
within Great Bear's acreage over the past 12 seasons. It is
highly unpredictable and fairly limited, he pointed out. An
explorer must identify the prospects a year in advance, begin
getting permits in place six months in advance, commit to a rig,
and put millions and millions of dollars at stake for an
exploration season that might be less than a month or as long as
four months. Such uncertainty adds significantly to the risk
profile and how much of that investment will end up not
generating the wanted results. For example, last year Great
Bear was hoping to drill and complete two wells in the season,
but in the end spent virtually the same amount of money to get
only one well drilled. That adds tremendously to the risk and
is the reason why it is difficult to attract exploration dollars
to Alaska.
MR. GALVIN referred to the slides, "UNIQUE ANS CHALLENGES -
COMPLEX PERMITTING," and "UNIQUE ANS CHALLENGES - HIGH COSTS,"
and noted that permitting is difficult in Alaska. Great Bear's
exploration program, which is fairly standard, had 19 different
permits from 16 different agency contacts. The North Slope is a
high cost environment. As price comes down, costs are coming
down due to increased competition, increased equipment on the
Slope, and more providers of the same type of service. But, one
driver for Great Bear's costs is the number of wells it can plan
to drill at any one time. When Great Bear drills one-off well
programs the service provider is basically getting its rack
price, but when Great Bear has a four to six well program it can
negotiate and bring those costs down.
8:15:32 PM
MR. GALVIN showed the slide, "GREAT BEAR - IMMEDIATE WORK PLAN,
HOW WE WILL REALIZE THE POTENTIAL," and reported that under its
immediate work plan going forward Great Bear will: complete its
seismic program for this winter; complete its prospect inventory
to identify the wells to drill; execute a multi-year, multi-well
exploration program over the next few years; and hopefully
secure cost-effective services.
MR. GALVIN moved to the slide, "GREAT BEAR - IMMEDIATE WORK
PLAN, HOW PRODUCTION TAX CREDITS WILL DICTATE LIKELIHOOD OF
SUCCESS," and said the number of wells that Great Bear drills
will be directly related to the tax credit program that is in
place. Thus far the state has supported exploration activities
through the Exploration Incentive Credit and through allowing
that credit to be stacked with the Net Operating Loss Credit.
Collateralization of those tax credits has allowed Great Bear to
borrow against them in advance. The secured repayment on those
tax credits also allows Great Bear to secure the lowest cost
financing. Unpredictability in the repayment of the credits is
expensive because it adds to the cost of borrowing against them.
MR. GALVIN addressed the slide, "HOW TAX CREDITS DICTATE
EXPLORATION DRILLING VOLUME, A CONCEPTUAL EXAMPLE." He pointed
out that the tax credit programs work as a multiplier on an
exploration company's capital. Great Bear has a certain amount
of capital it has raised to execute an exploration program. The
amount of credit the state offers will leverage or multiply
Great Bear's available capital and establish what the company's
drilling program is going to be. He posed a scenario in which
Great Bear has $100 million available to spend, money it has and
is putting in that is not going to be reimbursed. That money
can then be leveraged up because of the tax credit program.
Under a 35 percent credit program Great Bear can spend $140
million and drill between 5 and 7 wells, and under a 65 percent
credit program Great Bear can drill between 10 and 13 wells
because it can spend about $260 million. That is the difference
between the state providing less than half versus more than
half; it will provide that more wells can be drilled for the
same amount of equity money put in by Great Bear.
8:18:19 PM
MR. GALVIN spoke to the slide, "EXPLORATION'S ROLE IN FUTURE
STATE PRODUCTION," saying it is important from the state's
perspective to get more wells drilled. The more wells drilled,
the more discoveries there will be, the more projects that will
come into production to replace the decline in the current
fields. To feed the system so it is not on a perpetual decline
requires more exploration at the front end in order to replace
the fields that are decline.
MR. GALVIN turned to the slide, "WHY THE STATE SHOULD EXTEND
EXPLORATION INCENTIVE CREDITS," to advocate that successful
exploration will result in cash flow to the state. He argued
that it will be significantly net present value positive to the
state if the exploration companies on the North Slope are
successful. The chance of success is increased by drilling more
wells. There are multiple play types on the North Slope and one
entity's success is going to inform the opportunities in other
parts of the Slope. It has a virtuous circle aspect to
increasing activity levels on the Slope. Costs will come down
because of increased activity levels. As the resource owner the
state has a greater chance of success than any individual
company. The state is able to increase its confidence in a
return by having more activity. At a minimum, the state will
gain valuable information about its resources that will begin to
chip away at that lack of data that is a barrier to entry for
new companies that are looking at Alaska.
8:20:40 PM
MR. GALVIN elaborated on the slide, "TAX CREDITS - KEEP WHAT IS
WORKING," asserting that the state's reason for putting these
policies in place is still valid - trying to encourage and
accelerate the transition of the state's field from being
dominated by a couple multi-nationals to one that is attractive
and creates a vibrant and diversified group of independents
exploring in the area. The state has taken a number of steps to
try to do that and has generated a significant amount of
momentum. There are more operators on the North Slope than ever
before. A lot of recent successes have been announced. There
is tremendous potential for oil discovery on the North Slope and
the state needs to recognize that and join the industry in
trying to make it a success. The one thing that must be
understood is that the momentum that is currently going can also
end up working in reverse if the state ends up stopping it.
Inertia is a significant force in the industry. If the state
stops the activity level, if the state discourages the companies
that have invested thus far, trying to get new companies back to
follow behind the ones that came to Alaska and failed is going
to be extremely difficult and the state will lose the years of
time it has invested in trying to get this momentum going.
MR. GALVIN concluded by turning to the slide, "SUMMARY." He
said Great Bear is a highly active North Slope explorer that has
invested significant amounts to date; those investments have
been well spent. He said the pace and volume of Great Bear's
future activity will be dependent upon the tax credits, the
Exploration Incentive Credits, that are available to it. The
state's interest is in reducing risk of exploration and
increasing the likelihood of success for the state and the
Exploration Incentive Credits under Alaska Statute (AS)
43.55.025 are very valuable in that record and should be
extended for North Slope exploration activities.
8:23:18 PM
REPRESENTATIVE JOSEPHSON asked what Great Bear spent for its
leases.
MR. GALVIN offered his belief that all told on all of its leases
Great Bear is approaching $30 million. He said he will provide
the committee with a more accurate figure.
8:24:04 PM
The committee took a brief at-ease.
8:25:26 PM
JOE REESE, Senior Managing Tax Counsel, BP Exploration (Alaska)
Inc. ("BP"), stated that BP is a member of the Alaska Oil and
Gas Association (AOGA) and supports the testimony that was
provided by AOGA earlier in the day. He said BP is very
interested in Alaska's oil and gas tax policy and the success of
it, as well as ensuring that BP, the State of Alaska, and
Alaskans benefit from that policy. The policy is crucial to
BP's business and to its successes. BP is looking forward to
continuing to maintain a safe and compliant business in Alaska
that is sustainable. Oil prices have dropped about 70 percent
over the past two years and this has created a very difficult
situation for BP. The corporation is currently cash flow
negative, which is not a sustainable way to operate a business.
As a result, BP is instituting an approximate 13 percent
reduction in force and is also collaborating with its working
interest owners at Prudhoe Bay to right size the business for
the current economic environment.
8:27:26 PM
MR. REESE said BP is committed to complying with tax laws in a
responsible way and is committed to developing relationships
that are constructed and open with the tax policy makers. One
of the major costs for BP is production tax and it is important
to note that production taxes are not a tax on profits. Rather,
they are more closely aligned with a tax on cash flow, but is
not precisely that either. It is its own defined term and is a
tax on production. Given the conflating of verbiage as this
discussion has progressed, BP wants to ensure that the
differences are understood. Those differences are basically
based off of how capital expenditures are treated. In a cash
flow analysis, all of a company's capital expenditures are
deducted just the same as is done with operating expenditure.
It is simply what cash is brought in and what cash is flowing
out. From a profit standpoint, the capital expenditure is
amortized and deducted over some period of time. So, it is
really in the way that the capital expenditures are reflected.
While BP is currently cash flow negative, it still pays
production taxes because of the way those costs are treated.
There are several investments that BP makes that are not
deductible for production tax purposes - for example, the Alaska
Liquefied Natural Gas (AK LNG) Project and certain other
specifically excluded costs under the production tax law.
MR. REESE pointed out that at current prices, BP does not
receive any production tax credits from the State of Alaska.
Nor does Prudhoe Bay production attract oil production tax
credits under the minimum tax. While BP does not currently
receive any oil production tax credits, BP believes that it is
important to both the industry and Alaska that many participants
are able to have a viable business here. Therefore BP does not
support any change to the production taxes under Senate Bill 21.
MR. REESE said BP acknowledges that the State of Alaska is in a
fiscal crisis and is struggling along with the industry to make
ends meet. While reasonable people may disagree about how to
improve the current oil and gas tax policy, BP does not believe
that now is the right time to make any changes that would
increase taxes and further inhibit BP's ability to maintain the
activity level at Prudhoe Bay along with its working interest
owners. Near-term changes to the state's oil and gas tax
policies will have long-term consequences for everyone.
8:30:37 PM
MR. REESE provided specific comments about HB 247, saying that
in particular the bill would increase the minimum production tax
from 4 percent to 5 percent. He said this would be a 25 percent
tax increase on the industry and for some folks it would be
more. It would be a 25 percent increase to BP because BP does
not have any credits that would lower the minimum tax.
MR. REESE stated HB 247 proposes to implement an artificial
limitation on the use of credits within the tax year. The
production tax is calculated on an annual basis with monthly
installment payments, he explained. Those monthly installment
payments are based off of forecasted prices and estimated costs,
so BP makes a payment using those tentative numbers. The bill
would suggest that any credits that are calculated on that
monthly basis create a limitation to the total amount of credits
that a company can take so that a company could not take more
than that. If, upon true-up on March 31, a company determines
that its forecasted prices and estimated costs were not actuals,
the company would be capped out on the amount of tax credits
that it could take. However, if it came lower, that advantage
would swing the other way and go to the state.
MR. REESE specified that BP views the interest increase proposed
by HB 247 as being a material change. Current law provides an
interest rate that is 3 percent above the federal funds interest
rate and is calculated on a simple basis. Under HB 247, the
interest rate would be 7 percentage points above the federal
fund rate and the interest would be compounded on a quarterly
basis. This is significant for multiple reasons. First, at the
current federal funds rate, that would represent an increase to
the principle amount of the tax due of about $.55 per dollar
during the period which the audit is outstanding. The current
statute of limitations is six years, so in year one a company
pays its tax, in year two there is a true-up on March 31, and
then six years from that true-up event is the end of the statute
of limitations and that is when the state is required to provide
the company with its production tax assessment. During that
intervening period, to the extent that the state has determined
that an assessment is due, that assessment would attract
interest. Because of the significant period of time that has
elapsed, it becomes a material sum of money and BP views it as
an incentive for the state to delay those audits and not provide
them to a company until the end of that statute of limitations.
8:34:21 PM
MR. REESE said the Net Operating Loss Credit is important to the
industry. While BP does not currently use this credit for oil
taxes, BP believes that it is a matter of good tax policy to
allow the recovery of those losses. Even if a company is not
able to take that credit in the current year, it should still
have the benefit of that credit.
MR. REESE lastly pointed out that BP views the confidentiality
provision in HB 247 as a slippery slope. The bill proposes that
confidentiality is expanded beyond simply an aggregate number of
tax credits to disclosing an individual taxpayer's amount of tax
credits. He expressed BP's concern about where that disclosure
would begin and end. He further stated that there may be a
constitutional issue with respect to both the Alaska and the
U.S. constitutions regarding the privileges and immunities
clause. It is BP's view that taxpayer confidentiality cannot be
partially waived, BP's view is that it is an all-or-nothing
proposition. Therefore, BP does not support the expansion in
any way of the confidentiality provisions.
MR. REESE concluded by reiterating that BP is committed to
maintaining a safe and compliant business in Alaska that is
sustainable; BP is committed to complying with the ax laws in a
responsible manner and to having open and constructive
relationships with tax policy makers; and BP supports durable,
predictable, and administrable oil and gas tax policy and that
is why BP does not support HB 247.
8:36:44 PM
REPRESENTATIVE SEATON surmised that when Mr. Reese stated BP
does not get any tax credits he was meaning that BP does not get
any reimbursable tax credits, and that BP applies all of its tax
credits against its production tax.
MR. REESE replied that he said BP does not yet currently receive
any oil production tax credits and under the minimum tax Prudhoe
Bay does not attract any oil production tax credits.
8:37:19 PM
CO-CHAIR NAGEAK thanked the witnesses for their testimony.
[HB 247 was held over.]
| Document Name | Date/Time | Subjects |
|---|---|---|
| HSE RES 2.29.16 Conoco-Phillips.pdf |
HRES 2/29/2016 6:00:00 PM |
HB 247 |
| HSE RES 2.29.16 Great Bear.pdf |
HRES 2/29/2016 6:00:00 PM |
HB 247 |
| HSE RES 2.29.16 HB 247 BP written testimony.pdf |
HRES 2/29/2016 6:00:00 PM |
HB 247 |