Legislature(2005 - 2006)SENATE FINANCE 532
04/07/2006 09:00 AM Senate FINANCE
| Audio | Topic |
|---|---|
| Start | |
| SB305 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | SB 305 | TELECONFERENCED | |
| + | TELECONFERENCED |
CS FOR SENATE BILL NO. 305(RES)
"An Act providing for a production tax on oil and gas;
repealing the oil and gas production (severance) tax;
relating to the calculation of the gross value at the point
of production of oil or gas and to the determination of the
value of oil and gas for purposes of the production tax on
oil and gas; providing for tax credits against the tax for
certain expenditures and losses; relating to the
relationship of the production tax on oil and gas to other
taxes, to the dates those tax payments and surcharges are
due, to interest on overpayments of the tax, and to the
treatment of the tax in a producer's settlement with the
royalty owners; relating to flared gas, and to oil and gas
used in the operation of a lease or property under the
production tax; relating to the prevailing value of oil or
gas under the production tax; relating to surcharges on
oil; relating to statements or other information required
to be filed with or furnished to the Department of Revenue,
to the penalty for failure to file certain reports for the
tax, to the powers of the Department of Revenue, and to the
disclosure of certain information required to be furnished
to the Department of Revenue as applicable to the
administration of the tax; relating to criminal penalties
for violating conditions governing access to and use of
confidential information relating to the tax, and to the
deposit of tax money collected by the Department of
Revenue; amending the definitions of 'gas,' 'oil,' and
certain other terms for purposes of the production tax, and
as the definition of the term 'gas' applies in the Alaska
Stranded Gas Development Act, and adding further
definitions; making conforming amendments; and providing
for an effective date."
This was the seventh hearing for this bill in the Senate Finance
Committee.
Co-Chair Green announced that three independent oil and gas
companies would provide their perspectives on the Petroleum
Profits Tax (PPT) during this hearing.
9:04:57 AM
PPT Discussion
Anadarko Petroleum Corporation
April 7, 2006
MARK HANLEY, Public Affairs Manager, Anadarko Petroleum
Corporation/Alaska, stated that his presentation would review
Anadarko's Alaska operations; the company's perspective on the
PPT as presented in SB 305 which was the original PPT bill
proposed by Governor Frank Murkowski; the key issues of the PPT
identified by Anadarko and how they might impact the company's
activity in the State; and elements of concern to the company in
CSSB 305(RES) which is the bill being advanced by the Senate.
[Note: CSSB 305(RES) is referenced as CSSB 305 in these
minutes.]
Mr. Hanley's remarks were accompanied by a PowerPoint
presentation (copy on file).
[Note: The pages in the PowerPoint presentation were not
numbered; therefore, for reference purposes, the Senate Finance
Committee Secretary made a notation on each page of the
corresponding timestamp in which that page was addressed in this
hearing. General descriptive information of each page is
provided in the body of these minutes when feasible. A copy of
the handout can be obtained by contacting the Legislative
Research Library at (907)465-3808.]
Mr. Hanley informed the Committee that Anadarko, which was
headquartered in Houston Texas, is a large independent company
whose primary activity is to explore and produce oil and gas.
Even though Anadarko had global operations, it did not have much
public name recognition as it did not have refineries or gas
stations. Anadarko had approximately 3,500 employees and market
capitalization holdings of approximately $23 billion.
Mr. Hanley communicated that Anadarko had operated in Alaska for
approximately ten years. The map in the presentation titled
"Anadarko's Alaska Acreage Position" depicted the company's
"extensive" Alaska acreage holdings: the areas highlighted in
pink or yellow indicated areas in which Anadarko had an
ownership interest. Other companies' acreage was depicted in
gray. Anadarko's acreage exceeded five million acres gross or
2.2 million acres net and consisted of leases on State, federal,
and Native Regional Corporation land. The company competed with
ConocoPhillips for having the largest net acreage in the State.
ConocoPhillips leases consisted primarily of State and federal
land.
Mr. Hanley noted that Anadarko addressed its land holdings as a
regional model whereas other companies typically concentrated on
one or two areas of operations at a time. Anadarko currently had
in excess of "100 leads and prospects across the State". The
company enjoyed working in the State because there were
"opportunities in multiple plays".
9:07:37 AM
Alaska Opportunities
· World class petroleum basin
· Significant remaining resource potential
· Legacy type prospectivity (i.e. Anchor Fields)
· Favorable political environment
· Abundant new entrants/partnering opportunities
Mr. Hanley reviewed the information. He pointed out that even a
50 million barrel field would be uneconomical were it more than
five or ten miles from existing infrastructure. Nonetheless, the
company determined that significant oil potential particularly
large fields did exist. Large oil fields, such as Alpine, which
are referred to as legacy or anchor fields because they could
"support their own facilities", were important to Anadarko. The
company preferred to develop satellite fields after the
infrastructure of the larger field was in place. Anadarko,
partnering with ConocoPhillips, held a 22-percent ownership in
Alpine. The two companies were also conducting exploration
activities in the National Petroleum Reserve-Alaska (NPR-A).
Mr. Hanley noted that the stability of the political environment
in the State was important to the industry. They also
appreciated the State's efforts to address industry issues. For
example, the State endeavored to find ways to lengthen the short
drilling season experienced in the State. It also continually
addressed regulatory issues of concern to the industry.
Mr. Hanley was pleased that new companies were entering the
Alaska resource market. This momentum was considered positive,
as, in addition to furthering the development of North Slope
resources, these companies could be potential partners.
9:09:29 AM
Senator Dyson asked Mr. Hanley to comment on some companies'
position that the PPT would negatively affect exploration and
development activity in the State.
Mr. Hanley disclosed that the PPT had been the focus of two
recent meetings he attended at company headquarters. Anadarko's
efforts to advance Alaskan projects with some partners was being
hampered because of the proposed tax change. People wanted to
know how such things as the 40 percent exploration credit
allowed under the State's current tax regime, the Economic Limit
Factor (ELF), would be affected. Thus, Anadarko was considering
how the proposed PPT would affect its projects. "Depending on
how it comes out, it can have an impact." He would expand on
this later in his presentation. To that point however, he noted
that Anadarko had determined that "the Governor's bill, as
introduced", would "improve our exploration economics" over that
of ELF.
9:11:14 AM
Senator Dyson asked whether that view was primarily due to the
exploration and development work credits included in SB 305.
Mr. Hanley replied "absolutely". Additional remarks on this
would be forthcoming.
Alaska Challenges
· Maturing basin/materiality
· High costs
· Lack of infrastructure and competition
· Extremely long lead-time exploration
· Seasonal drilling & regulatory timing requirements
· Lack of gas market
Mr. Hanley stated that while Alaska had resource potential, it
also had resource challenges. He reviewed the challenges as
listed. The lead time from discovery to production in Alaska was
one of the longest in the world. While it might be possible to
drill one well a year in Alaska, three wells could be drilled in
one year in places such as the Gulf of Mexico (GoM). A project
which might take four or five years somewhere else might take
seven to ten years here. Tying up money for that length of time
had an impact. The time required for projects in the State also
resulted in conservative oil price valuations. People have asked
him why more drilling had not accompanied the high price of oil.
His response was to ask those people if they could predict what
the price was going to be from 2013 to 2035. That was the length
of time that might be required to produce some of Alaska's oil.
Conservative decisions must be made.
Mr. Hanley noted that the lack of gas market was also an issue.
Anadarko was very supportive of a gas pipeline because they
believed there was "significant gas potential" in the State.
Right now, gas discoveries were considered "throwaways" as,
without a transportation link, they "are not worth anything".
The belief was that a gas pipeline would incur both significant
gas exploration and oil exploration.
How about PPT?
· We support original bill
· Administration did a good job balancing issues &
priorities
o We pay more in taxes, but our exploration economics
improve and there is some downside price protection
- should increase exploration investment
o State receives substantially more revenue than under
current system
Mr. Hanley voiced support for the original bill as introduced by
the Governor. He categorized Anadarko as having been "more
supportive" of that bill than other producers who have painted
themselves as being "tentatively" supportive. The Administration
"did a good job of balancing the issues and priorities that were
out there. Frankly, as a producer at Alpine and an explorer" we
would probably pay more in taxes under the new bill"; however
that would be offset by "an improvement in our exploration
economics". The "downside price protections" provided in the PPT
are an improvement over ELF. Nonetheless, the State would be
collecting more revenue at higher prices under the 20 percent
tax and 20 percent credit (20/20) structure proposed in SB 305.
9:14:12 AM
More production needed
· Declining production is primary driver of lower state
revenue
· Increased investment (compared with today's levels)
needed to increase production & stem decline
· Original bill offset tax increase with credits &
allowances
o Our exploration economics generally improved
· Tax rate increases and allowance decreases (with no
credit offsets) reduce our economics
o Minimum economic field size increases
o Amount of economically recoverable oil & gas
decreases
Mr. Hanley referenced an Anchorage Daily News editorial [copy
not provided] which spoke to the decline in oil production in
the State. Declining production was an issue of concern to the
industry. As production decreased, costs associated with that
production increased. Some of this issue "is masked" by high
prices. From an exploration position, Anadarko hoped that the
provisions in the PPT would encourage additional investment in
the State beyond that occurring under ELF.
9:15:20 AM
Mr. Hanley stated that SB 305, as opposed to the House and
Senate PPT committee substitutes, would balance the higher tax
with credits and deductions. Even thought the severance tax
levied on the industry would increase under all three of the PPT
proposals, the State would "pick up" 40 percent of drilling and
other development costs under the 20/20 terms of SB 305.
Mr. Hanley pointed out that the tax increase and the decreased
allowances contained in CSSB 305 would affect Anadarko's
exploration economics. To further this point, he displayed a
copy of "Chart 11.7" [copy not provided] developed by Dr. Pedro
van Meurs, an international oil economist hired by the
Administration, which provided "a net present value" (NPV)
analysis of a 50 million barrel field. The bottom graph line
depicted the economics of that field under ELF. Dr. van Meurs
also calculated the economics of the field under two other
scenarios: a 20 percent tax and 15 percent credit (20/15) PPT
tax structure and a 25 percent tax and 20 percent credit (25/20)
PPT structure similar to that proposed in CSSB 305. Like CSSB
305, the 25/20 example also excluded the $73 million allowance
contained in SB 305. While the 20/20 tax regime proposed in SB
305 was not depicted on the chart, the value of the $73 million
allowance included in that bill to a new entrant in the oil and
gas industry in Alaska was reflected on the chart.
Mr. Hanley noted that the $73 million allowance provision in SB
305 would be of some benefit to major companies; however, its
impact on smaller companies and new entrants in the State's
resource market would be much more significant.
Mr. Hanley pointed out that the graph lines crossed over each
other when the West Texas Intermediate (WTI) oil price exceeded
$40 a barrel. At that point, the 25/20 PPT example, without the
$73 million allowance, would be, in the industry's perspective,
"worse than the current system": it would tax more at that
level, even without a Progressivity element. The inclusion of a
Progressivity element would further affect the percent of
government take. Such things were considered by the industry in
their economic modeling. The industry was also concerned about
which price level would trigger the Progressivity escalator. In
summary, the Progressivity component included in CSSB 305 would
negatively affect the prospectivity of fields in Alaska.
9:19:11 AM
Senator Bunde asked Mr. Hanley to further explain how the 25/20
example modeled on the chart compared to CSSB 305; specifically
whether it contained "the two for one clawback" provisions
included in CSSB 305.
Mr. Hanley considered the 25/20 line graph on the chart to be
similar to the 25/20 PPT before the Committee with the exception
being that the "two for one" clawback transitional language was
not factored into the modeling. The inclusion of that
transitional language in the modeling would not result in a
noticeable shift in the line as those provisions would provide
"just a slight amount of benefit" to the industry.
Senator Bunde understood therefore that the transition language
in the bill was of less importance to companies such as Anadarko
than it might be to others.
Mr. Hanley clarified that, while the transition language would
be "important" to Anadarko, it would affect companies
differently. Companies such as Anadarko which had expended money
in the past and expected to spend money in the future would be
assisted by that provision. However, the transition provisions
would not benefit a company new to the State.
Mr. Hanley expressed that the economics of production from
existing fields would differ from those of new fields.
"Different fields have different threshold prices" upon which
they would make money. Some profess that the 25/20 PPT proposal
would be more beneficial to exploration when prices were low, as
it would provide some downside protection. The discussion,
however, does not address the fact that at low prices, few new
prospects would be economical. Thus, while the 25/20 PPT
proposal would cover the cost of drilling a dry hole, no wells
would be drilled when barrel prices were low. It would be
uneconomical to do so. The whole story must be considered.
Mr. Hanley affirmed that, as attested by the State's
consultants, the industry would include a range of prices in a
project's economic modeling analyses.
9:22:28 AM
Mr. Hanley next reviewed a "Small Oil Development - Net Present
Value" chart [copy on file] developed by Anadarko which was
based on the wellhead oil price rather than the WTI price
utilized in Mr. Van Meurs NPV chart. Therefore, for comparison
purposes, eight dollars should be added to the wellhead price.
The charts were similar in their modeling conclusions. Anadarko
included the $73 million dollar allowance in both the 20/20 and
25/20 modelings depicted on its chart and compared those charts
to ELF. While this chart would indicate that a "higher tax rate"
would negatively impact a project's economics, the decision as
to whether those economics would be "worse than the current
system depended on the price forecast "and what's in there" in
regards to the tax rate, the credits, and the allowances.
9:24:38 AM
Mr. Hanley communicated that another issue of concern to the
industry was the PPT tax escalator which the Legislature has
titled Progressivity. The industry characterized this as a
windfall profits tax; however, it would be more appropriate to
refer to it as a windfall gross revenue tax. A windfall profits
tax would be applicable where it to apply "to a profit margin
after expenses, not applying something to a gross number
regardless of cost".
Mr. Hanley further noted that the primary focus of the
discussion about the Progressivity element was the barrel price
point at which the Progressivity element would be triggered.
9:25:54 AM
Mr. Hanley referred to a chart [copy not provided] developed by
Econ One Research, an economic research firm hired by the
Administration. The chart depicted "USGS [United States
Geological Survey] estimates at different oil prices of the
economically recoverable reserves". Exploration efforts
occurring on reserves on the central North Slope was the focus
of this chart. The Arctic National Wildlife Reserve (ANWR) was
not included in the information. USGS estimated there were
approximately four billion barrels of economic recoverable oil
remaining in the central North Slope area. However, it was
uneconomic to recover these reserves at oil prices of $30 a
barrel. Approximately one billion barrels of oil would be
considered economically recoverable at oil prices of $40 a
barrel. That number would increase at prices of $50 per barrel.
Mr. Hanley communicated however that the effect of declining
production rates were "missing from some of the analyses" which
depicted higher tax rate take information. They were not
included because they are difficult to model. The modelings
instead utilized "a standard forecast" provided by the
Department of Revenue. This was an important factor in regards
to the price point at which Progressivity would be activated.
While small fields or fields away from existing infrastructure
might be thought to be economic at barrel prices ranging from
$40 to $60, the higher tax rate imposed under the Progressivity
component would negatively impact them. The industry in general
does not support escalators; "we do play for the high side".
However, were the inclusion of an escalator inevitable, the
trigger point should be elevated beyond the point at which
smaller fields would be considered economic.
9:28:07 AM
Senator Bunde asked whether Anadarko had modeled production
costs verses the barrel price for such fields, as affected by
elevating barrel prices.
9:28:33 AM
Mr. Hanley understood the question to be whether costs would be
subject to inflationary influences as prices increased.
9:28:48 AM
Senator Bunde clarified his question: how much more would it
cost to access a field which, while not considered economic to
develop at $40 a barrel, would be at $60. In other words would
the profit margin for a field developable at $40 be the same as
a field deemed accessible at $60.
Mr. Hanley stated that were a field deemed uneconomic at $40,
but economic at prices or $50 or $60, it must have "crossed
certain thresholds" such as a minimal rate of return. As the
price of oil increased, "the minimal economic field size on the
North Slope decreases; the distance you can be from
infrastructure and still have a project increases…."
Senator Bunde asked how the profit margin of a project deemed
economic at a $40 barrel price would compare to a field deemed
economic at $60 per barrel.
Mr. Hanley replied that the profit margin would "be higher at
$60 than it was at $40".
Senator Bunde asked whether that would be true in the case where
that field had been deemed uneconomic to access at $40.
Mr. Hanley understood the gist of the question to be whether
development costs would also increase as prices increased.
Senator Bunde affirmed.
Mr. Hanley stated that some increase would be experienced.
However, as prices increased "there tends to be more exploration
around the world". For example, recent high oil prices resulted
in increased competition for exploration rigs. This served to
increase costs.
Mr. Hanley hoped that a gas pipeline would be constructed on the
North Slope. Regardless of whether or not oil prices continued
upward, industry costs would increase because of a steel
shortage resulting from the McKenzie gasline and Alaska pipeline
demands. In addition to such things as increased drilling pipe
costs, these two projects would also increase labor and material
costs due to increased competition within the industry.
Mr. Hanley suggested including a cost inflator of some type on
whatever price was determined as the Progressivity trigger. To
that point, "it would be easier to apply the tax escalator to
the net" rather than to the $40 barrel price proposed in CSSB
305 because utilizing the standard Consumer Price Index (CPI)
"would not necessarily reflect the cost in the oil industry". He
reminded that, in the 1980s, while inflation increased, oil
industry costs actually decreased due to such things as improved
technology and a surplus in rigs resulting from lowered oil
prices. In recent years, drilling expenses had increased
approximately 50 percent even though the CPI had not.
Mr. Hanley stated that basing "the escalator" on net profits
would "have the proper impact". It would allow the industry to
deduct its actual costs. Were costs to decrease, the money to
the State would increase, and were costs to increase the tax
payment to the State would diminish.
9:32:45 AM
Mr. Hanley addressed the assumption that as prices increased,
the industry would have more money and "could afford to pay a
higher share". This would only be correct were costs to remain
constant. The simplest way to address the cost element would be
to apply the escalator to net profits. He was puzzled to the
resistance this suggestion had encountered.
Mr. Hanley identified another PPT issue as being whether to use
WTI or Alaska North Slope (ANS) West Coast "as the marker". He
opted against using WTI. Econ One had previously presented a
history of the two. The value of WTI was historically two
dollars more than ANS West Coast. However, that difference would
increase as more heavy oil was processed: it would "be less
reflective of the actual value of Alaska crude in the future
potentially than it is today".
Mr. Hanley suggested that the Committee consider utilizing "a
wellhead approach" for the tax base. He was again puzzled as to
the reason there was also concern in this regard. This approach
would use the process determining "the gross value at point of
production for the purposes of overall revenue". The first step
would be to determine the production level in terms of oil in
barrels per day. That figure would be used to determine the
price. The point of production calculation was currently
required from each developer. Costs would be deducted from this.
That would provide the tax base for the PPT.
Mr. Hanley could not understand why this calculation, which was
"our actual revenues received, times our barrels produced" would
not be preferred to "some hypothetical number that may or may
not mimic what the actual costs are or inflation".
Mr. Hanley stressed the point that calculating the wellhead
value would be a required component of the PPT in any case. He
suggested that the wellhead value be determined at each point of
production, as differences would occur. Producers in Alpine were
subject to extra costs since additional pipe was required to
transport oil to TAPS. That was an actual cost to the producers.
Utilizing WTI or ANS West Coast prices would not reflect such
costs. Additional expenses would also be incurred by companies
operating in NPR-A. "Using a standard methodology that says as
the price goes up, you have the same impact discourages some of
the exploration that might go on in the developments that are
further out." Higher costs should be reflected.
Mr. Hanley supported the suggestion offered by Chevron during
their April 6, 2006 presentation to the Committee. That
suggestion spoke "to how to evaluate a net profits approach with
the escalators on the net, and how you use a criteria for where
you start your escalator based on a per barrel basis." While it
might be more difficult to "describe", it would not be difficult
to implement. It would be based on the gross value at each point
of production and the net on that.
Mr. Hanley repeated his suggestion that Progressivity be
triggered at a $55 wellhead North Slope price or $60 ANS West
Coast price rather than the $40 price proposed in CSSB 305. This
would allow the industry to access "some of the increased
economics that are out there".
9:37:30 AM
Co-Chair Wilken countered Mr. Hanley's position that
Progressivity was incorporated into the bill based on the
premise that as industry's profits increased, they could pay
more. The State like Anadarko had shareholders. Thus, as
increasing oil prices generated more revenue to the industry
"through no effort of your own", the industry would benefit
because its costs were not increasing "at a corresponding rate".
In other words, its gross profits would be increasing more than
its expenses. Therefore, the industry's shareholders should
share that profit with the State's shareholders who had shared
their oil resources with them.
Co-Chair Wilken stated that SB 305 would maintain a constant
State take rather than increasing State take as oil prices
escalated. It was "entirely appropriate" for the Senate to
incorporate a Progressivity element which would allow the State
"to share with the producers that what amounts to an increase in
revenue without a corresponding increase in costs." He doubted
that this legislation would be adopted "without some sort of
Progressivity factor".
Co-Chair Wilken appreciated that Anadarko was in alignment with
Chevron's position on the PPT, as he considered their
suggestions on the bill to be worthy of consideration.
9:39:30 AM
Mr. Hanley communicated that the intent of the industry was to
provide constructive suggestions regarding the structure of the
PPT and the Progressivity feature. A structure should be
developed which would address the "legitimate concerns" of the
industry. The discussion should consider the possibility that
industry costs might increase faster than the price of oil.
Having Progressivity based on net profits would address such
concerns.
Mr. Hanley acknowledged that industry costs would not
immediately track with a rapid increase in oil prices. However,
industry costs over time would increase. Since a $40 barrel
price was included in the industry's economic modeling, basing
the Progressivity trigger at that price would affect "how we
view the economics of some of our future prospects". He urged
the Committee to specify a Progressivity trigger at a higher
price.
9:41:25 AM
Mr. Hanley addressed Senator Bunde's question about the
transition allowance which was also referred to as the
"clawback" or "look back" provision. He noted that in December
2004 when oil prices were "fairly high", Anadarko make a
"sanctioned decision" to begin work on two satellite areas in
the Alpine field. The fact that Anadarko would pay "little or no
severance tax on those two fields" under ELF was a factor in the
decision to develop those two fields. However, when Governor
Murkowski issued "his aggregation decision" in January 2005,
those fields "were put on hold". Discussions ensued with the
Administration, as Anadarko, which is currently paying a
severance tax rate of approximately 13 percent at Alpine, was
concerned about the effect that decision might have on those
fields. The company decided to proceed with its plans as the
Administration excluded those fields from being aggregated for
their first six years of production. Anadarko invested millions
in the development of those fields in 2005 and 2006. Now, the
State was considering changing the tax structure.
Mr. Hanley continued that under the conditions of the PPT, the
severance tax on those two fields could increase from
approximately zero percent for six years to 20 percent. Some
expense deductions would be allowed. Nonetheless, the timing of
the company's decision to invest in those fields "was terrible"
in consideration of this bill. Had Anadarko known the bill was
forthcoming, it would have delayed those projects "a year and a
half because then the State would have picked up 40 percent of
the costs of our development program and that would have offset,
just like the other things, that increased tax".
Mr. Hanley expressed that Anadarko's timing on these projects
was considered the worst recent timing decision in the industry
in respect to this bill. Exploration investments made on those
projects would not qualify for any PPT credits or deductions and
would be subjected to a high tax rate. In addition, no revenue
from those projects would be received until production started
in late in 2006. An "equity issue" could be argued in regards to
investment decisions that were based on ELF. Even though changes
are always inevitable, some allowance for these things could be
provided going forward. Even though Anadarko preferred the
provisions included in SB 305, the two-for-one look back
provisions included in CSSB 305 would be acceptable.
Mr. Hanley suggested however that the provisions be extended a
year or more longer than the seven years specified in the bill,
in order to provide a sufficient amount of time in which a
company could feasibly recoup the clawback funds accumulated.
9:45:31 AM
Mr. Hanley identified the point of production definition as
another issue of concern in the PPT. The point of production
provision in CSSB 305 mirrored that of SB 305: "the point of
production for oil is at the place that pipeline quality crude
enters" into the pipeline system. Production and development
facilities upstream of that point would qualify for the credits
and deductions in the bills. That was considered "appropriate"
as the State would be assisting in the costs associated with
developing and getting the resource to the pipeline. Once the
oil entered the pipeline, a tariff deduction would be applied to
determine a wellhead price.
Mr. Hanley noted that PPT provisions pertaining to gas specified
its point of production as being upstream of the treatment
facility in which the gas was made pipeline quality. This was
interesting to the industry. "Gas is generally less economic
than oil." The level of the pipeline tariff currently being
considered for the proposed gas pipeline was an amount equating
to approximately 35 percent of the current $7.00 per million
cubic feet (MCF) value of gas. The current TAPS tariff on oil
was approximately $4.00 and the tariff on tankers was
approximately $2.00 for west coast destinations. This would
total approximately $6.00 or $7.00 or a tax of approximately ten
percent tariff on oil selling at $65 per barrel. Gas would incur
more transportation expenses than oil. This was opposite than he
expected.
Mr. Hanley noted that under the ELF tax regime, the tax on gas
was ten percent as compared to a 12.5 or 15 percent tax on oil
depending on the field. "It's strange that the facilities you
need to develop your gas into pipeline quality, some of them are
not qualifying for the credits and deductions." He concluded
that there must be something relating to "the big gas treatment
facility that is sitting out there as part of the big
development" in the proposed gas contract that he was not privy
to. One reason might be that the State did not desire to "pick
up 40 percent of the cost of the big gas treatment facility".
While that might be apropos for the North Slope, it does not
consider other gas regions such as the gas foothills, the Nenana
Basin, and Cook Inlet. "Frankly, if you're going to pay a higher
tax rate, the whole concept is the State picks up part of the
cost and you pay a higher tax rate. To leave out a big chunk of
what it takes you to get that developed and not apply those
credits, we think is problematic." Thus, he argued "that the
point of production for gas should be the same as for oil.
Whatever it takes to put pipeline quality gas into the pipeline
should be the same as what it takes to put pipeline quality
crude in the pipeline." He reiterated being unaware "of what's
driving some of the other stuff, but I think as a policy call,
we would argue that you're significantly going to hurt the
economics by increasing that tax but not giving us all the
benefits of some of the credits and deductions".
Mr. Hanley identified the credit component of the PPT as the
counterbalance of the taxes proposed in the PPT, particularly if
the goal of the PPT was to encourage more investment and thereby
reduce the slope of declining production in the State. SB 305
included provisions that created "better exploration economics"
than ELF.
9:49:47 AM
Mr. Hanley stated that the answer to the question of how paying
a billion dollars more in taxes, as might occur under the PPT,
could allow a company to improve their exploration economics was
dependent on whether it was an existing field or new field.
"Existing production is what's paying" the larger portion of the
proposed tax increase. "The tax increase is hitting those, but
they're not getting the benefit of the credits and deductions
off the previous investments they've made". Conversely "new
prospects" going forward would get those benefits. Thus, "to the
extent that you increase the tax rate, if you want to keep the
exploration economics the same, you need to do something with
credits".
9:50:27 AM
Mr. Hanley applauded the $73 million allowance provision
included in SB 305. The Governor and Dr. van Meurs "correctly
identified … the value of the $73 million to smaller and to new
players" in the industry. The allowance would be particularly
helpful to companies with existing production in Cook Inlet who
under ELF, currently pay a minimal level of severance tax on
oil. It would offset some of the tax increase they would
experience under the proposed PPT. Companies such as Chevron and
Anadarko attested to the benefit that allowance would provide.
Anadarko considered the $73 million allowance more valuable to
them than it would be to larger players in the industry.
Omitting the $73 million allowance provision included in SB 305
would equate to increasing Anadarko's tax rate five percent. The
impact on a larger company such as ConocoPhillips would be 0.5
percent.
Mr. Hanley characterized the industry's positions regarding SB
305 as being "a tenuous truce" between the companies because,
due to the economics of it, larger companies would "trade off
the $73 million in a heartbeat for a one percent change in the
tax rate". However that allowance would have a huge impact on
new players and existing players with small levels of
production, "particularly with fields that don't pay much".
9:52:34 AM
Mr. Hanley stated that the 5,000 barrels per day exemption
provision in CSSB 305 which replaced the $73 million allowance
proposed in SB 305 would not benefit Anadarko, nor did he think
it would benefit Chevron or Marathon Oil. The 5,000 barrels per
day exemption "has very limited value." It would provide no
benefit unless production was occurring. It would not benefit
new players; particularly since it would terminate in seven
years as it would take longer than that to bring a field to
production. The inclusion of that exemption in CSSB 305 "has
hurt the economics of a number" of players. The House committee
substitute addressed this concern by providing companies the
option of utilizing "some exploration credits that exist today".
9:53:55 AM
Mr. Hanley advised that including a termination date on
exploration credits would be acceptable provided the timeframe
was sufficient. A five or seven year timeframe would be too
short in which to use a development credit, particularly for a
new player. Consideration should be given to the different
"impacts of a development type incentive". The $73 million
allowance included in SB 305 did not have a termination date.
That is the reason it had "significant value".
Mr. Hanley stated that the industry wide desire would be for a
lower tax rate. "Increasing the tax rate decreases economics,
and at some point, it actually makes exploration economics at
higher prices worse than the current system." However, "at
higher prices, some things become economic and there's a
tradeoff there".
Mr. Hanley communicated that Anadarko supported SB 305. CSSB 305
would apply "a higher tax rate, no $73 million allowance, an
additional escalator starting at a pretty low price taking away
even a higher tax in the range in which we're making decisions…"
Anadarko was agreeable to the transition provisions in the bill,
was concerned about the point of production for gas as that
element would not be treated "as fairly" as oil.
9:55:33 AM
Senator Dyson opined that the industry's remarks that the State
would be "participating in exploration and development costs"
were misleading. "What they're really saying is the State elects
to defer income … through tax credits", rather than inferring
that "the State is putting the people's money out on the table"
for the industry "to explore with". By providing tax credits,
the State would be "foregoing revenues" that it could have
received.
Mr. Hanley affirmed.
Senator Dyson encouraged the industry not to "infer that the
State is putting State money into exploration".
9:56:39 AM
Senator Dyson understood that the capacity of the present
Prudhoe Bay "gathering centers are somewhat limited on their
capacity" to address the volume of water and gas being
experienced. Consequently, the companies operating those
facilities were disincentivized to provide smaller producers
such as Anadarko access to those facilities. If this were the
case, he asked what the State might do to encourage the major
companies "to increase the through-put capacity at those
bottlenecks so that smaller companies would not be
disadvantaged".
9:57:27 AM
Mr. Hanley specified that Anadarko had not experienced this
issue as it typically did not explore satellites around existing
infrastructure; Alpine being the exception. This was not an
issue at Alpine because when oil entered the pipeline there it
was pipeline quality crude. Anadarko sought out "larger fields
that will have their own facility".
9:58:08 AM
Co-Chair Wilken assumed chair of the hearing.
9:58:16 AM
Co-Chair Wilken, referring to a production process flow chart
[copy on file] which had been distributed in an earlier meeting
by Dan Dickinson, Consultant to the Administration, asked Mr.
Hanley to further his remarks requesting that the point of
production for oil and gas be at the same point. Co-Chair Wilken
understood that the point of production for both oil and gas
would be after the treatment facility.
Mr. Hanley, who did not have a copy of the flowchart, advised
there was "a difference between treatment and processing
according to the [unspecified] department".
Co-Chair Wilken reviewed the production process for oil and gas
as depicted on the chart. He understood they would be treated
the same.
10:00:10 AM
Mr. Hanley voiced the desire to review the flowchart, as he
thought the point of production for gas would be "after the
processing facility for gas but before the treatment facility".
Co-Chair Wilken provided a copy of the flowchart to Mr. Hanley.
Mr. Hanley expressed that Anadarko would analyze the chart and
provide further clarification.
10:00:39 AM
Co-Chair Wilken concluded that Anadarko would prefer that the
point of production for oil and gas be uniform in regards to
their relationship with the treatment facility.
Mr. Hanley affirmed. Anadarko would be satisfied were the point
of production for gas specified as the point at which it became
pipeline quality. However, his understanding was that the point
of production for gas would be "upstream of the treatment
facility and downstream of the processing facility". "The
definition of treatment is getting it to pipeline quality." This
would be further clarified. He interpreted the flowchart
provided by Co-Chair Wilken, to indicate that "after the central
gas facility, this would be the processing, there would be
another treatment facility before it gets to pipeline quality,
and the point of production is in between the two".
Co-Chair Wilken stated that the flowchart had been developed to
assist the Committee in understanding this complicated issue. He
would appreciate additional input from Mr. Hanley in this
regard.
Co-Chair Wilken addressed the contention that the State was
"running out of oil". While several references had been made to
50 million barrel fields, the prospectivity of reserves in ANWR
and NPR-A had been ignored. He understood the oil reserves in
NPR-A could be the equivalent of Prudhoe Bay with ten billion
barrels. Revenue projections at current prices could range from
$400 to $800 billion. Consideration of this field should be
included in the prospectivity conversation.
Co-Chair Wilken stated that while little exploration had
occurred in ANWR, it too might contain significant reserves. The
Legislature should not be "led to believe" that we have "plucked
all the low-hanging fruit" and must now seek out smaller fields.
10:04:15 AM
Mr. Hanley suggested inviting USGS staff to testify in this
regard. Their research would support the fact that while there
was a significant amount of oil potential remaining in the
State, "it is not in one field". Even though Anadarko was "more
optimistic" than other companies about the resource potential in
the State, it did not believe NPR-A held fields with quantities
similar to Prudhoe Bay or Kuparuk; their view was that there
might be the potential for a lot of oil in the State, but it
would be in smaller fields such as Alpine. More exploration
activity would be occurring were people to believe that a
Kuparuk sized field existed in the State.
10:05:33 AM
Co-Chair Green resumed chair.
Mr. Hanley also communicated that even were a 1.5 billion barrel
field discovered in a remote area of NPR-A, "it would probably
not be economic. That is the challenge that we face…" Even 30 to
50 million barrel oil fields not within ten miles of existing
infrastructure would be very expensive to develop in the State.
In conclusion, Co-Chair Wilken was correct in that there was
vast oil potential remaining in the State, however, there would
not be another huge reserve like Prudhoe Bay.
10:07:08 AM
Mr. Hanley addressed the issue of the proposed gasline. He
contended "there's a lot of gas out there". Anadarko's research
indicated there being numerous "Alpine size equivalent gas"
fields. Thus, a boom in gas exploration would be expected with
the onset of a gas pipeline. The field size potential was much
larger for gas than it was for oil. This would be required since
gas was "challenged".
10:07:55 AM
Senator Stedman furthered Co-Chair Wilken's remarks. The State
was "setting our tax structure" and selling its resources "under
the expectation" of smaller fields. Large field discoveries
"would change the dynamics" in terms of the global oil basins
the State was being compared to. The discovery of another
Prudhoe Bay would place "upward pressure on the government take"
level since evidence would indicate that "the bigger the oil
basin, the larger [government] percentage share". The current
argument is that Alaska could not be compared to areas with
large fields because "it has smaller pools of oil". Thus, while
there was "a lower probability" the State might have larger
basins, "it would have definitely been in the best interest of
the State to know it before we set the selling price than
after."
Co-Chair Wilken agreed with Senator Stedman. The prospectivity
issue might not be as negative as people had been "led to
believe". Even the Legislative consultant, Econ One, limited
their analyses to resource potential on the Central North Slope
and did not consider fields east and west of it. "East or west
is our future."
10:10:48 AM
Mr. Hanley recognized this "good point". Additional viewpoints
would be beneficial. After a few years of high production, most
gas fields' production decline and level off with the exception
being the gas fields in Qatar which continue to produce at high
levels. Prospectivity factors should "absolutely" be considered
and a higher government take on huge reserves would be expected.
However, the proposed PPT tax structure was not "so far off"
that the State would miss out on a significant amount of revenue
from possible reserves; particularly in consideration of such
things as the high cost of exploration in the State.
Mr. Hanley disclosed that while the cost of drilling some wells
in the GoM could mirror the cost of a well in NPR-A, a 50
million barrel field there could be developed and on line faster
as wells in GoM were closer to infrastructure. The demands of
developing a field in Alaska differed from those of a well in
GoM.
Mr. Hanley reiterated Anadarko's belief that prospectivity
existed in Alaska. The economic assumptions prepared by Dr. van
Meurs indicated that at a $30 barrel price, a company would
garner a 25 percent rate of return on a 150 million barrel
field. Were such a field in Anadarko's portfolio, it would "be
developing it today". However, it should be noted that Dr. van
Meurs' cost assumptions were to fields close to infrastructure.
While Anadarko believed that such fields exist in Alaska, those
fields were in remote locations and Anadarko would not develop
them until infrastructure was closer to the field or prices
significantly increased.
Mr. Hanley expressed a "very positive attitude towards Alaska".
People "are not trying to hide the ball by saying we think
there's another Kuparuk out there, we're just waiting for the
Legislature to pass a better tax structure to drill it". Under
high price, large field scenarios, "the current [tax] system's
better". Were such reserves known, people would be drilling them
today.
10:14:07 AM
Senator Dyson found it "striking" that neither Anadarko nor any
other presenter had discussed any disincentives to investing in
Alaska. No one mentioned the pending reserves tax on gas which
would charge a tax on gas reserves under lease but not
producing. Thus, he questioned why this issue had not been
discussed; if it was considered to be a disincentive to the
industry, what might the Legislature do to address it.
10:14:54 AM
Mr. Hanley replied that Anadarko would prefer a "sweet approach"
as opposed to a "the stick approach". However, the reserves gas
tax issue was drafted in a manner that would not impact
Anadarko. It would not impact new gas discoveries or certain
existing gas discoveries. It would specifically impact three or
four other companies.
10:15:52 AM
Mr. Hanley concluded his remarks and thanked the Committee for
the opportunity to discuss the legislation. He would be pleased
to answer Committee questions at any time.
AT EASE 10:16:19 AM / 10:20:10 AM
PAT FOLEY, Manager, Alaska Exploration Group, Pioneer Natural
Resources Alaska thanked the Committee for allowing him to speak
to the PPT. He acknowledged Mr. Hanley as being "a wonderful
articulate spokesman for Anadarko, for the independents in
general, and for our industry". "Pioneer is closely aligned with
Anadarko, specifically because of our niche that we find
ourselves in. We're an explorer; we're a developer of some
smaller resources…"
Mr. Foley's reviewed a handout titled "Pioneer Natural Resources
Alaska SB 305 PPT" dated April 7, 2006 (copy on file).
Page 1
Pioneer's Alaska Acreage
[This map displayed the company's holding in Alaska. Other
than the Cosmopolitan Field in Cook Inlet, their fields
were located in the vicinities of Alpine, Kuparuk, Prudhoe
Bay or the NPR-A.]
Oooguruk Discovery
ƒPXD 70% WI (Op)
ƒ58,000 acres
Total Pioneer
ƒ1.7 million acres
NPRA Exploration
ƒPXD 20% - 30% WI
ƒ1.4 million acres
Cosmopolitan Discovery
ƒPXD 10 % WI - Option to a50 %
ƒ25,000 acres in Cook Inlet
Storms Area Exploration
ƒPXD 50% WI (Op)
ƒ153,000 acres
ƒ1st well in 2006
Central North Slope Satellites
ƒCronus - PXD 90% WI (Op)
ƒAntigua - PXD 33% WI
ƒ51,000 acres
ƒ1 well on each in 2006
Mr. Foley noted that by financial standards, Pioneer, with a
worth of approximately five billion dollars, would be viewed as
a "smaller company". It was approximately one quarter the size
of Anadarko. While it conducted business on a global scale, its
operations were currently centralized in the United States.
Mr. Foley noted that Pioneer began operating in Alaska in 2003.
Areas of activity included Oooguruk, an offshore North Slope
development project in which Pioneer held a 70 percent ownership
with ENI Petroleum, an Italian oil company. ConocoPhillips was
its equal exploration partner in the Storms area. Pioneer also
had a 30 percent exploration interest in the Antigua field, a
Central North Slope satellite field, which was operated by
ConocoPhillips. Pioneer was also partnering with ConocoPhillips
and Anadarko on exploration activities in NPR-A.
Mr. Foley noted that Pioneer's total acreage in Alaska would
equate to approximately 1.7 million gross acres netting to
approximately 500,000 acres.
Mr. Foley noted that the Cosmopolitan Discovery project near
Anchor Point was Pioneer's only operation in Cook Inlet. The
company had a ten percent interest, with an option to increase
that interest to 50 percent and replace ConocoPhillips as the
operator of that project.
Page 2
Oooguruk Development Project
Development Cost: $450 - 525 million
Reserve Potential: 50 - 90 million bbls
Peak Flow Rates: 15 - 20,000 bbls per day in 2010
Tie-in to ConocoPhillips Kuparuk River Facilities.
Mr. Foley stated that production from this offshore project
would be processed at facilities in the Kuparuk field and then
transit via Kuparuk pipelines to TAPS. The company was proud of
this project as only a five year time span would pass between
the drilling of the first exploration well and the first barrel
of oil being produced. "It is as accelerated a project as any on
the North Slope." The resources in this field had been
discovered but laid dormant for 20 years before Pioneer began
drilling there; therefore, this marginal field lay undeveloped
for approximately 25 years between discovery and production.
Page 3
Oooguruk Major Project Construction Components
· Winter 2006
o Gravel Mining
o Gravel Placement - Drillsite & Onshore Pad
· Winter 2007
o Flowline Installation
o Facility & Equipment Installation
· 2008-2011
o 38 Well Drilling Program
Mr. Foley reviewed components of the three construction phases
associated with the Oooguruk field.
Page 4
Alaska's Challenges
· Some of the Highest Costs in the World
o Large Minimum Economic Field Size
· Future Exploration & Development Potential:
o Smaller Reservoirs
o Remote Resources
o Viscous Oil Resources
o Gas
· Long Cycle Times (5 to 10 years)
· Investment Uncertainty
o Exploration & Reservoir Risk
o Price Risk
o Fiscal Certainty
Mr. Foley explained that when Pioneer began considering whether
to operate in the State, it undertook what is referred to as a
"new country entry". It examined the State's exploration
potential, political environment, and fiscal environment as
outlined on page 4.
10:26:58 AM
Mr. Foley perceived the State's future exploration and
development potential to differ than that of the past, as the
determination was that "the super giant fields that opened the
Slope no longer exist". Future opportunities would involve
smaller fields, remote resources, viscous oil, and gas.
Mr. Foley disclosed that small independent companies and
investors were "shocked" that it could take a minimum of seven
years for a field to go from discovery to first production in
Alaska. "That's just not the business environment they are used
to."
Mr. Foley also noted that investment uncertainties relating to
price risk and fiscal stability were issues a company would
consider when weighing operations anywhere, and, to that point,
the fiscal certainty of the State had historically been stable.
The PPT legislation was proposed "literally the next day" after
Pioneer decided to begin operations at Oooguruk. That caused the
company "some concern".
Page 5
Alaska Climate that Encouraged Pioneer
· Emerging Business Opportunities
o Investment Opportunities Offered by Majors
o Cooperation re: Facility Access
· Attractive Fiscal Policy
o Reasonable Lease Terms & Availability
o ELF Formula: Low Taxes on all by Largest Fields
o Exploration Incentive Credits
Mr. Foley communicated that Pioneer talked with the
Administration as well as other producers in the State when it
was considering whether to invest in Alaska. "There was
definitely an open for business environment, both on behalf of
government and on behalf of industry." Such things as lease
bonuses, lease terms, and royalty rates were "relatively
attractive when balanced" with the economic opportunity
potential. Pioneer felt that the major companies operating in
the State considered "it to be good business" to provide other
companies access to their existing facilities. "We believed that
the world was going to change, those facilities would no longer
be held exclusively for their use, but instead they would invite
others to process through them."
Mr. Foley noted that Pioneer also determined it would pay a zero
severance tax under the State's ELF formula unless it found "a
super giant field". It was also "encouraged by the exploration
incentive credits". To that point he noted that "Pioneer has
enjoyed 40 percent exploration credits on at least two of its
wells out in NPR-A". A well currently being drilled was expected
to "enjoy a 20 percent exploration incentive credit". The
exploration incentive credits "do have material impacts on an
investor when they make a decision".
Page 6
Alaska's Competitiveness
· To Attract Most Independents, Alaska must effectively
compete with onshore North America Resource Plays
o Resource Plays (tight sands, coalbed methane,
shales) are attracting huge amounts of capital
ƒLower Risk
ƒLower Cost
ƒShorter Project Cycle Time
ƒLower State Tax
10:30:34 AM
Mr. Foley acknowledged the breadth of separate testimony
regarding the competitiveness of Alaska to "super producing
basins" in the world. While the worldwide arena was an important
consideration, small independent companies placed great emphasis
on how Alaska's resource development opportunities compared to
opportunities in the contiguous United States and Canada. Huge
investments were being made in tight sands, coalbed methane, and
shale resource projects in those areas. Furthermore, those
projects were found to have lower risk, lower cost, shorter
development times, and lower state taxes than Alaska. The
Committee must be "cautious" in designing the PPT as the State
must be "competitive with the market that the investors you're
trying to attract are currently involved" in.
Page 7
Benefits of Administration's PPT Proposal
· Balanced Tax/Credit Rate of 20/20
· Fair Principles
o Tax Based Upon Profits
o Compensation for Transition Capital
· $73 MM Exemption Mitigates New Entrant Challenges
· Tradable Credits allow Quick Monetization
· Modest Incentives for Exploration, New Investors
· Reduces Minimum Economic Field Size
We believe the proposal would encourage new investment in
Alaska, grow the resource pie and increase revenues to the
State.
Mr. Foley stated that when Pioneer first reviewed SB 305, "on
general we found it to be fair and balanced" since "it was a tax
based on profits". He reviewed the benefits companies would
receive by such things as the $73 million allowance and the
transition provisions, particularly as investments were made in
the State under the auspice of an ELF "zero severance tax
expectation". "If the laws are to change, it just seems it would
be fair and reasonable for there to be some kind of a slow
transition to allow people to recoup or recover from some of
those investments." The $73 million dollar allowance would
"mitigate many of the new challenges that a new entrant would
face". The credits provided in SB 305 would be "very helpful,
but would represent a "modest incentive for new exploration".
10:33:50 AM
Page 8
PPT Tax Rate
· 20% Rate Reasonably Balanced w/20% credit
· If Rate is Higher it must be Balanced w/Equal Credits
o Credit must apply to both Exploration &
Development
o Rate/Credit Balance is Affected by Price &
Production
· Higher Tax Rate:
o Reduces Incentive to Invest
· Raises Investment Threshold
ƒFewer Exploration Wells Drilled
ƒMarginal Resources Left Undeveloped
Mr. Foley reiterated that the 20 percent tax "balanced with a 20
percent credit" as proposed in SB 305 would be "fair and
reasonable and appropriate". Nonetheless, the company was
"respectful of the fact that there seems to be pressure" to
increase the tax rate. However, the Committee should note that
any increase in tax percent should be "balanced with an increase
amount of credits". The answer to the question of what would be
an "appropriate relationship between the tax rate and the credit
rate" would depend on "where you sit in the investment life
cycle": the tax rate would be "less important and the credit
rate is huge" to a company making its initial investment in the
State; conversely, "the credit rate would be meaningless" to a
company in a "harvest" rather than investment mode. The tax rate
would be important to that company.
Mr. Foley stated that a company like Pioneer would be "somewhere
in the middle". A higher tax rate would be a disincentive to
investment because it would increase the economic minimum field
size that would "be required for an exploration target". Thus,
fewer exploration wells would be drilled. More importantly, the
tax rate would impact the decision" of whether a marginal field
would be developed.
Page 9
Tax Rate Progressivity
ƒIncreasing Oil Prices Lead to Increasing Costs
o 2005 W. Texas Drilling Costs Increased ~ 50%
o Steel prices more than doubled in 2 years
o Costs for all Services Escalating Rapidly
ƒProfits not Directly Proportional to Oil Price
Increase
ƒIf Enacted, Progressive Tax Rate
o Should be Profits Based
ƒFairness Issue
ƒDifferent basis is un-necessarily complex
o Trigger Price Should Be:
ƒAt a level equal to today's price environment
($60)
ƒBased on ANS Posting (vs WTI)
ƒIndexed for Inflation
Mr. Foley conveyed that Pioneer would opt against including
Progressivity in the PPT, even though its inclusion would seem
"inevitable at this point". Thus, "caution" should be taken when
designing that element. "As oil prices increase, the costs to
the industry also increase". The relationship was difficult to
explain but "it is a real phenomenon". Pioneer's cost to drill a
development well in 2005 in Texas increased approximately 50
percent "in a single year. As an industry, we have seen the cost
of steel more than double in the last two years, and the cost of
all services seemed to be escalating rapidly". It was believed
that by the time the proposed gas pipeline became reality, costs
of operating in the State would have increased "substantially".
10:37:29 AM
Senator Stedman encouraged testifiers to provide specific
language suggestions or concepts regarding the Progressivity
element. The goal of Progressivity would be to maintain the
level of government/industry take as oil prices increased. The
State should not be disadvantaged under those circumstances.
Co-Chair Green specified that this issue was included in the
list of questions being developed by the Committee.
10:39:05 AM
Mr. Foley suggested a Progressive element based on profits
rather than on gross revenue. It would also prefer a $60 ANS
price to the $40 WTI trigger price included in CSSB 305, as that
would best reflect today's price environment.
Mr. Foley understood one of the arguments for the $40 trigger
price was that that price "was beyond the realm of prices that
companies use for their investment decisions". While the
mechanics of how a company made its investment decisions was
privileged information, he disclosed that Pioneer considered
"several different price scenarios" when making its investment
decisions. A low price would be in the $30 range, a medium price
would be in the $40 range, and a high price might be in the $70
range. He discussed a variety of high price scenarios, including
the consideration of financial futures markets, a company might
include when making its investment decisions.
10:42:04 AM
Senator Dyson appreciated Mr. Foley's "insightful" remarks. The
thought had been that "it was all together reasonable for the
people of Alaska to share a bit in the return off the depletion
of their resources" when oil prices increased beyond the price
point at which a company had based its decision to advance a
project. Mr. Foley's comments, particularly those about the
futures market, served to expand the field of things that could
be considered when establishing a trigger point.
10:43:20 AM
Mr. Foley clarified that the decision to advance a project might
not be made based on the futures market, "but it is a component
of the decision". Economic investment decisions were "not as
simple as feeding information into an economic model" and
getting an answer. All companies utilized a variety of
scenarios, including "distribution of costs, distribution of
outcomes, and various price test scenarios" in making their
investment decisions. Some decisions were easier to make than
others because the project might be "wildly optimistic". Often
"these decisions are right on that ragged edge of being
marginal".
10:44:10 AM
Senator Dyson stated that regardless of "whatever the cut line
price" was, "if the prices make that project even more
profitable" for the company, "the people of the State" should be
able "to share a bit in that good news for you".
10:44:55 AM
Mr. Foley encouraged the Committee to base the trigger point "on
something other than WTI". While he supported Mr. Hanley's
suggestion of using a wellhead price as the Progressivity
trigger point, there was concern that doing so would "introduce
even another level of complexity simply because every field will
have its own unique well head price". While it would be "a fair
and reasonable" way to do it, "a barrel weighted wellhead price"
would be required for each company. The next trigger point
preference would be an ANS West Coast delivered price.
Regardless of the price base used, it should be indexed for
inflation. The issue of what index to use would be debatable, as
oil prices and costs do not "track PPI" or CPI.
10:46:40 AM
Page 10
5,000 BBL "Start-up" Exemption
ƒNew Entrant Challenges
o New Entrants do not hold Existing Infrastructure
o Smaller Investors lack Operating Economics of Scale
o Most New Investment Opportunities are Challenged
ƒExemption Mitigates High Alaska Start-up Costs
o Local, Highly Skilled Technical Employees Required
o Requires Building an Expensive G&G Database
o Companies w/AK Employees Pay Income Tax w/o Revenue
ƒExemption Sunset is not Fair or Practical
o Discovery to Production cycle time is 5-10 years
ƒPhase out of Credit/Exemption is Discriminatory
We believe "Start-up" Exemptions will bring in new
investors and give them a better chance to succeed.
Mr. Foley noted that the "start up exemption" proposed in SB 305
would have allowed a $73 million exemption. The House committee
substitute changed that to specify a $12 million credit "which
would be equivalent to a $60 million revenue exemption"; CSSB
305 changed it to a 5,000 barrel per day exemption or "barrel
holiday".
Mr. Foley reviewed the challenges new entrants to the Alaska
resource development market would encounter under the provisions
of the PPT. "Start up exemptions" would assist "in mitigating"
challenges a new company would experience. As highlighted on
page 10, a new company would be required to hire a "highly paid
technical skilled" labor force and acquire expensive geological
databases. A company should strive to hire people who live in
the State. However, even though Pioneer had no producing fields
at this point, and thus, no revenue, it was required to pay
income taxes based on a portion of the company's worldwide
income because it employed 26 people in the State. Rather than
the company being rewarded for investing in the State, "there is
a cost". A start up exemption would assist in mitigating some of
the costs.
Mr. Foley also noted that the 5,000 barrel per day exemption
included in CSSB 305 would terminate at some point in the
future. As mentioned by Mr. Hanley, this was of concern due to
the long cycle time involved in bringing resources to
production. "No new company would include this exemption in
their economic analyses". The barrel exemption proposed in CSSB
305 would terminate at approximately the same time that
Pioneer's Oooguruk field production was scheduled to begin.
While the Legislature could revisit and extend the exemption
provisions, the company was not confident that would occur.
Senator Stedman stated that the issue of imposing State income
taxes ion a company experiencing zero revenue in the State
should be discussed with the Department of Revenue.
10:51:08 AM
Mr. Foley stated that, being relatively new in the State, the
company has only recently delved into this issue. In addition,
it was challenging for a small company like Pioneer with only 26
employees in the State, to keep abreast of the multitude of
changes occurring in the PPT bill. The "accounting" of the
various provisions could be even more challenging when the
company's production started.
10:51:48 AM
Mr. Foley urged the Committee to eliminate the termination date
relating to the transition exemption, regardless of whether it
was a credit or barrel holiday. In addition, "it should be
applied equally to each and every investor here in the State".
Phasing the exemption out would be "somewhat discriminatory" as
some companies would not be able to receive the transition
benefits.
Page 11
Fair value for Tradable Tax Credits
· Tax Credit Value is Diminished to New Investor
o Held Credits diminish through time value of $
o Sold Credits would likely sell at a discount
o Discount Value captured by purchaser
o Credit Cost to State remains 100%
· "Refundable" Credits Increase Value to New Investor
· Pioneer's Investments Will Generate Substantial
Credits
o Consider a State Cash Refund at Higher Oil Prices
Mr. Foley pointed out that since it was a new investor in the
State, Pioneer would be receiving "many tax credits" for the
investments it made in the State. However, Pioneer's ability to
utilize those credits would be delayed because it could not use
them immediately like longer term companies could. Pioneer did
not yet have "production, we're not paying a tax, we're not
offsetting taxes".
Mr. Foley stated that Pioneer could hold the credits "until a
time" when they could use them "but their value would be
diminished through the time value of money". Even though there
would be a pool of buyers interested in buying the credits were
Pioneer willing to sell them, it was anticipated that the
purchase price would be discounted to a price less than the face
value of the credits. Therefore, while the credit provision
would cost Pioneer, the State would "realize the full loss of
that credit", and the purchaser "would capitalize on the
difference". Thus, Pioneer requested the State consider some
kind of refundable credit program. For example, were Pioneer to
generate $20 million in credits, it could request that the State
pay them full face value for those credits. He noted that
"Pioneer would be willing" to accept a modest discount.
10:53:38 AM
Senator Bunde pointed out that the refundable program being
suggested would be "highly unlikely" as there would be
"political ramifications" were the State to "pay oil companies
for coming here to make money".
Mr. Foley was respectful of that. However, the Committee should
be aware "that the value of those credits won't be fully enjoyed
by the investor" were they intended to attract new investment.
10:54:25 AM
Page 12
Transitional Capital Recovery
· Fairness Issue
o Investments were made under ELF System
o Tax System is changing
o Pioneer has recouped nothing from production
· Pioneer's Alaskan Investment Began in 2003
· Pioneer's Cumulative Investment over $100MM
· Transition Capital Look-Back is Appropriate
· Look-Back w/2:1 Future Requirement is OK
Mr. Foley stated that the transition capital provisions in the
PPT would apply to both large and small resource companies. The
$100 million investment Pioneer made over the last three years
had been made under the "expectation of an ELF zero production
tax for anything other than super giant fields". Changing that
tax regime would impact Pioneer, which to date had not
experienced "a single barrel of production". Therefore, it was
"fair and appropriate for there to be an opportunity to recover
transition capital". The inclusion of a two for one look-back
would be acceptable to Pioneer.
10:55:10 AM
Pioneer Key Messages
· Pioneer Goal: Establish Alaska as Core Producing Area
· Priorities for State of Alaska:
o Provide Incentives to Convert Resources to Revenue
o Attract New Investment
ƒEffectively Complete w/North America Onshore
· Administration's 20/20 Proposal is Balanced & Fair
· Higher Tax Rates will Discourage Needed Investment
· Progressivity, if Enacted, Should be Structured Fairly
· "Start Up" Credits will Encourage New Entrants
· Transition Capital Look-Back is Appropriate
· New Concern: Impact of Facility Access Fees on PPT????
Mr. Foley summarized Pioneer's key concerns. Pioneer recognized
a new concern: the PPT might impact facility access
arrangements. To that point, he noted that Pioneer was currently
involved in facility access negotiations with the Kuparuk River
Unit. While he was "confident" that "fair and reasonable" terms
would be reached, the concern remained. This issue could be
revisited as further details became available.
Mr. Foley concluded his remarks.
10:56:43 AM
Co-Chair Wilken noted that approximately three months earlier,
Pioneer had asked the Legislature Budget and Audit Committee
(LB&A) to provide it some "royalty relief". That request was
being considered. He asked that a copy of the presentation
Pioneer gave to LB&A be provided to the Committee, as the work
conducted by Pioneer in the State was "fascinating". The high
cost associated with such things as project engineering was
evident. Pioneer should be proud of its efforts.
Mr. Foley stated that copies of that presentation would be
provided to the Committee.
Co-Chair Wilken referred back to the "PPT Tax Rate" information
depicted on page 8 of Mr. Foley's presentation. That information
helped him focus on the struggle he was having in regards to the
20/20 proposal in SB 305 and the 25/20 proposal with a two
percent progressivity component triggered at a $40 price per
barrel as proposed in CSSB 305. He understood that SB 305 would
result in a government take equating to 58.2 percent. CSSB 305
would result in a government take equating to approximately 60.6
percent. That "240 basis point" difference might generate an
additional $200 to $400 million in revenue to the State. While
that would be a significant amount of money to the State, the
question was how significant that amount would be to a producer
receiving a six or seven billion dollar revenue stream. There
was also the question of whether "the competition for capital is
so great that a four percent increase in government take takes a
project in Alaska and moves it down the list for investment".
The testimony to date would attest that it would. His "struggle"
was that he could not determine whether that additional $400
million in government take would cause investments to go
elsewhere or not.
Co-Chair Wilken stated that this "tipping point" dilemma was
presented in the information on the "PPT Tax Rate" page.
11:00:27 AM
Mr. Foley responded that it was difficult to pinpoint a response
to Co-Chair Wilken's question. The industry would "like to be
100 percent aligned" in regards to the issue of the tax rate;
however, "the reality is that the impact of the increased tax
rate is far more punishing on those that are here, that have
made their investments, that have a huge amount of production
than they would be on a new investor".
Mr. Foley clarified therefore that his response was limited to
Pioneer's perspective of whether the 240 basis point increase
would materially affect a company's investment decision. In
addition, this issue was compounded by that fact that every
project was unique. The increased tax might prevent some
projects from going forward. The question for the State would be
"how many of those projects do you want to have fall off".
Mr. Foley stated that when studying Dr. van Meurs and other
analysts' research on government take, he noted that they
utilized "general industry wide matrix's where they say
development costs on average are 30 to 35 percent", as no other
option was available. However, this was immaterial to a small
company like Pioneer. The projects it invested in were
relatively small in size, costs were higher than larger players,
and thus the profit percent for the company was less. The point
was that the global industry take standard would be difficult to
apply to any one company. Each project must "stand on its own".
Dr. van Meurs often referred to a portfolio consisting of
500,000 barrel fields, a dozen 50 million barrel fields, and
three 150 million barrel fields, all ranked at a 25 percent
factor with certain costs applied; his conclusion was that "at
higher prices, an investor would enjoy a 30 or 40 percent rate
of return". Pioneer would be thrilled to have an opportunity to
invest in a 500 million barrel opportunity with a 30 or 40
percent rate of return. Unfortunately Pioneer had nothing like
that in its portfolio.
11:04:06 AM
Mr. Foley referenced Co-Chair Wilken's question to Mr. Hanley
about the prospectivity of NPR-A. Pioneer was Anadarko's
exploration partner in NPR-A. Last winter ConocoPhillips,
Anadarko, and Pioneer drilled two exploration wells there. While
no drilling occurred there this year, drilling might occur in
2007. He could "assure" the Committee that were NPR-A to contain
a field the size of Prudhoe Bay, rigorous drilling would have
been occurring.
Co-Chair Green thanked Pioneer and Anadarko for their
presentations. The Committee would recess until approximately
12:30 PM in order to hear testimony from Jim Weeks with
UltraStar Exploration LLC.
RECESS 11:05:46 AM / 12:29:16 PM
JAMES D WEEKS, Managing Member, UltraStar Exploration LLC,
testified via teleconference from an offnet location. He shared
that UltraStar, which was the smallest of the small independent
explorers" in the State, was "in general support" of the remarks
made by other industry members. He read his testimony [copy on
file] as follows.
…UltraStar Exploration LLC, a very small all Alaskan owned
independent explorer, with strategically located leases on
the North Slope. The Company was formed in 2002 by John
Winther, Dale Lindsey and me, for the purpose of exploring
and developing leases on the North Slope. UltraStar is 100%
owned by Alaskans. I am Managing Member, and moved to
Anchorage in 1984 with ARCO, and have had a presence here
ever since. Dale, whom most of you know, was born and
raised and still lives in Seward. John, whom most of you
also know, was born in Fairbanks and raised in Juneau. He
currently lives in Petersburg. Thanks for the invitation to
testify on what I believe to be a very bad bill.
During the last several weeks, I've listened to a lot of
testimony on the Governor's original proposal, not only in
this committee, but in the other committees in both houses
of the legislature. I have witnessed an already complicated
PPT proposal become so complicated that I sincerely doubt
it can ever be fully and fairly administered, and the cost
of such administration, for both the State and industry,
will be huge. It will be even more overwhelming for small
start-up guys like us, who don't have tax accountants and
tax attorney on staff, and will need to acquire these
services at market prices outside of our organizations.
This bill is so bad that if it were the only alternative,
we'd be better off with what's now on the books. But that's
not the only alternative. The proposal by the
Administration was complicated, but one we supported, and
still could, but we can's support this one. Gross
simplification is needed. Some taxes are to be applied to
net profits, others to gross revenues. Sometimes ANS prices
at the North Slope are to be used. Others times, ANS West
Coast prices are to be used. This creates un-necessary
complexity and opens the door to years of disputes and
lawsuits. The Charter for Development may be a good example
of how simple things can be made.
I will now offer a few specific comments on the bill.
You've heard lots of testimony supporting the 20-20 tax and
exploration/development incentive split, and the arguments
in favor of these provisions have been articulated very
thoroughly and clearly, and I certainly cannot embellish on
them, so I won't even try. I'll just add UltraStar's strong
support for the positions of the existing producers and
independents and explorers on these issues.
Of more concern to me is the so called need for a
progressive feature, where the State takes a higher
percentage at higher oil prices. Wildcatters gamble for the
upside. Upside reserves and upside prices. Taking away that
upside will cause exploration investment to decrease. This
smells to me like the federal windfall profits tax that so
successfully drove industry from our shores in the early
1980s.
There needs to be a mechanism for the State to buy back or
otherwise allow use of any un-used exploration credits. The
market for these credits is very limited, and I expect any
that we may have would be sold at a considerable discount.
It would help if the State provide an option to buy them,
or allow holders of the credits to use them for other oil
and gas related expenditures, such as bonus bids, lease
payments, permitting and filing fees.
The bill grants 5000 barrel per day exemption to companies
with less than 55,000 barrels/day production. This is a
provision with which we can agree, but I don't think it
goes far enough. If the Committee wants every company,
large and small, current producer, or wannabes like us, to
be looking for new oil, then the 5000 barrels per day
should apply to all new oil, regardless of the size of the
company that drilled it. I suggest the following:
When the PPT becomes effective, establish a "ring fence"
around existing, producing units. If peripheral drilling
outside that ring fence confirms commercial hydrocarbons
and justifies unit expansions, the production from those
expanded areas should be eligible for the tax exemptions
and exploration and development credits in the bill,
regardless of the size of the company that drilled them.
Deeper and shallower accumulations, drilled within existing
units after the effective date of the bill, should also be
eligible. If the big, current producing unit owners were to
receive the 5000 barrel per day allowance for exploration
credits on new pools within an existing or expanded unit,
it would provide a more meaningful incentive for all the
industry.
I question the need for a 7 year time limit after which the
tax exemption will expire. UltraStar is a small, start-up
company that is poking around the fringes of existing units
and known reservoirs. Our leases are too small to stand
alone, so access to existing facilities, owned mostly by
the major producers, is the only way we can develop
anything we might find. It took our sister company,
Winstar, 6 years to negotiate access with the KRU to enable
the drilling of the well they completed in 2003. UltraStar
has been in negotiations wit the PBU for over 3 1/2 years
now to get seismic data and facility access to enable the
drilling of our Dewline Prospect. It takes a long time for
these things to get done, and I question why our
investments should be put at risk with this relative short
sunset provision, whereas the major producers demand a 30
year period of assured fiscal certainty.
Thanks for the opportunity to comment.
12:36:53 PM
Co-Chair Green thanked Mr. Weeks for his testimony; particularly
that he identified his particular areas of concern and offered
suggestions to improve the bill.
12:37:22 PM
Co-Chair Wilken asked Mr. Weeks to provide further information
as to why it might take six years for a developer to get access
to a facility through which his oil could be transported of an
area like the Kuparuk River Unit (KRU) or the Prudhoe Bay Unit
(PBU).
12:37:51 PM
Mr. Weeks responded that in the case of KRU, the access issue
was of less priority to facility owners who were concentrating
on such things as company mergers. The fact that UltraStar was a
small producer was another reason for the delay. "Facility
owners will always make more money working on their stuff than
working on our stuff." It was a matter of priorities rather than
being an issue of "disingenuous effort or bad faith
negotiations". Another issue in KRU was that "a precedent" was
being set because UltraStar was "the first non-facility owner"
to negotiate access there. Therefore, extra caution was exerted.
While the "attitudes are good, it's just the nature of the
beast".
Mr. Weeks also noted that the concern about the capacity of a
processing facility to handle production other than their own,
as previously stated by Mark Hanley, was primarily related to a
facility's ability to process gas and water. Another issue was
how to "compensate a facility's owner" were they to defer their
own production to allow a new player's production to be
serviced. "It makes perfectly good sense to let us come in
'cause we have lower water cuts than they do, we have lower gas
production, so you can get ten or 20 new …. oil barrels in for
every barrel that gets deferred." He concluded, however, that
this was an issue at every production facility on the North
Slope.
There being no further questions, Co-Chair Green thanked Mr.
Weeks for his testimony.
Co-Chair Green reminded Members about the list of questions and
issues being collected for further discussion.
Co-Chair Green ordered the bill HELD in Committee.
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