Legislature(1995 - 1996)
02/13/1996 01:42 PM House FIN
| Audio | Topic |
|---|
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
HOUSE FINANCE COMMITTEE
February 13, 1996
1:42 P.M.
TAPE HFC 96-34, Side 1, #000 - end.
TAPE HFC 96-34, Side 2, #000 - end.
TAPE HFC 96-35, Side 1, #000 - end.
CALL TO ORDER
Co-Chair Mark Hanley called the House Finance Committee
meeting to order at 1:42 p.m.
PRESENT
Co-Chair Hanley Representative Martin
Co-Chair Foster Representative Mulder
Representative Brown Representative Navarre
Representative Grussendorf Representative Parnell
Representative Kelly Representative Therriault
Representative Kohring
ALSO PRESENT
Representative Joe Green; Ken Boyd, Director, Division of
Oil and Gas, Department of Natural Resources; Ed Behm,
Occidental Oil and Gas Corporation (OXY) USA Inc.; Charles
Logsdon, Chief Petroleum Economist, Department of Revenue;
Bill Vandyke, Petroleum Engineer; Sara Hannan, Executive
Director, Alaska Environmental Lobby; Patrick Coughlin,
Division of Oil and Gas, Department of Natural Resources;
Jon Tillinghast, Attorney, Occidental Oil and Gas
Corporation (OXY) USA Inc.
SUMMARY
HB 325 An Act authorizing suspension of payment of a
portion of the royalty due the state for initial
production of heavy oil from wells on the Arctic
Slope.
HB 325 was HELD in Committee for further
discussion.
HOUSE BILL NO. 325
"An Act authorizing suspension of payment of a portion
of the royalty due the state for initial production of
heavy oil from wells on the Arctic Slope."
1
KEN BOYD, DIRECTOR, DIVISION OF OIL AND GAS, DEPARTMENT OF
NATURAL RESOURCES testified via the teleconference network.
He noted that he had supplied the Committee with three
letters; one addressed to Representative Williams, dated
1/30/96; one addressed to John Morgan, BP Exploration, dated
2/9/96; and one addressed to Co-Chair Hanley, dated 2/13/96
(copies on file). He referenced his letter to Co-Chair
Hanley, dated 2/13/96 (Attachment 1). Mr. Boyd observed
that Attachment 1 was written in response to comments and
questions expressed during the 2/08/96 meeting of the House
Finance Committee. He emphasized that the Department
welcomes discussion to determine the best way to develop
Alaska's heavy oil reservoirs. He maintained that a royalty
holiday is not the best way to develop Alaska's heavy oil.
He asserted that a level of scrutiny, not provided by HB
325, is needed.
Representative Brown referred to Attachment 1. Mr. Boyd
noted that the operators have not had time to formally
respond to his letter. Co-Chair Hanley agreed that the
operators have not had sufficient time to respond.
Representative Martin questioned why the Committee should
request more information from the operators.
Mr. Boyd maintained that the information requested is the
same as that required for other royalty reduction requests.
He added that if the companies can demonstrate their case
absent some of the requested data that the Division will
listen. He stressed that if the operators do not want to
supply requested information that they need to respond in
writing and provide the reasons the data is not necessary.
He stated that the requested data is the same data that is
used by companies to reach developmental decisions. He
could not see any reason why the State should not have the
same level of scrutiny for its decision process. He
emphasized that the State is prepared to give away a portion
of its resources. He added that the Division will be able
to make a decision when the data is available.
Representative Martin asked how long it would take the
Division to make a decision after the data is available.
Mr. Boyd responded that their decision would be a matter of
weeks or months but not years.
Representative Brown referred to item 4 in Attachment 1.
She pointed out that the Division states that there are some
good reasons to define the legislation by "pool" or
"reservoir" as opposed to "well". She summarized points
made by item 4.
WILLIAM VANDYKE, PETROLEUM ENGINEER, DEPARTMENT OF NATURAL
RESOURCES responded to questions by Representative Brown.
2
He noted that infrastructure sharing arrangements exist
among operators at Milne Point. He stated that economics
differ between a field where there are no arrangements for
surface facilities and those that share facilities.
PATRICK COUGHLIN, DIVISION OF OIL AND GAS, DEPARTMENT OF
NATURAL RESOURCES added that an operator could place wells
to take advantage of the incentives. He observed that
incentives offered by the Bureau of Land Management are
based on pools. He clarified that federal incentives will
be implemented through regulation effective March 11, 1995.
He explained that federal regulations refer to property
which is defined as a segregated unit.
Representative Brown referred to item five in Attachment 1.
She noted that item five suggests that "well" be defined.
She asked that the Division prepare an appropriate
definition.
Representative Grussendorf asked for clarification on items
2 and 7. Mr. Coughlin noted that these points were raised
during debate on HB 207. He stated that the question was
raised if a zero royalty combined with zero tax would be
constitutional. He noted that the Constitution requires
that state resources be managed for the maximum benefit of
all the people of the State.
Mr. Boyd cited item 7. He noted that a wellhead value of
$15 dollars would equate to a market price of $21.50
dollars. He pointed out that $21.50 dollars is
approximately $5 dollars higher than current market prices.
He added that this price would inflate each year. He
questioned if this is the right number.
Representative Brown requested elaboration of item 11. Mr.
Coughlin stated that item 11 provides an example based on
500 barrels a day and a wellhead price of $10 dollars per
barrel. The equation demonstrates that if the royalty rate
were 12.5 percent the State would lose $228,125 thousand
dollars a year from the royalty suspension.
Representative Brown referenced item 6, page 3 of Attachment
1. She summarized that the Division believes the
appropriate value should be the value determined at the
appropriate LACT meter for all current North Slope royalty
payors pursuant to royalty settlement agreements. She asked
if reference to "field cost deductions" should be
eliminated.
Mr. Coughlin responded that royalty payments are not based
on the value at the well head. He observed that the
royalty value for each company varies. He added that many
3
fields are not eligible for field costs. Some fields are
under negotiation regarding field costs.
Representative Brown asked the sponsor's intent regarding
field costs. Representative Green explained that the intent
is that the cost of doing business, "to get it clean and
ready for shipment" are excluded. He stressed that the
intent is to provide an incentive to pilot heavy oil. He
clarified that the legislation would opiate any prior cost
agreement. He stated that the intent is that no royalty is
paid on anything of value on 20 degree gravity or less oil.
"Any agreement that there may have been, as far as treating,
cleaning and all that, on this lease, that lease, old
leases, new leases, is not considered."
Representative Brown noted that the State pays field costs
on some North Slope leases which are deducted from the
royalty paid. She asked if the State would pay the field
cost if the royalty is zero.
Mr. Coughlin stated that if the intent is to have the State
pay field costs it would violate AS 38.05.180(f) which
states that the State will not issue any leases which permit
the deduction of field costs from the royalty share.
Representative Brown asked if there are situations were the
State pays field costs. Mr. Coughlin noted that the State
pays a $.40 cent fuel cost on Kuparuk and a $.79 cent fuel
cost at Prudhoe Bay. He acknowledged that the State may
have to pay $.40 cents for fuel costs against a zero royalty
share. Mr. Boyd noted that this is not reflected in the
fiscal notes. In response to a question by Representative
Brown, Mr. Boyd added that West Sak overlies the Kuparuk
fields.
Representative Brown asked if the intent is that the State
would pay field costs on situations, such as Kuparuk, where
the State has a settlement to pay the fuel costs. Mr. Boyd
did not know the answer.
SARA HANNAN, EXECUTIVE DIRECTOR, ALASKA ENVIRONMENTAL LOBBY
(AEL) stated that every drop of oil drilled in the State is
an environmental concern. She noted that the Alaska
Environmental Lobby has 10,000 members. She asserted that
AEL wants to see a healthy oil industry in Alaska that is
also a good neighbor and partner. She stressed the
importance of maintaining an ownership interest. She noted
that the Constitution prohibits the State from giving away
its resources. She stated that the environmental community
is not opposed to incentives that provide for an economic
benefit to the State. She noted that they are opposed to
giving away the resource at the expense of Alaskans who
would not benefit from their resource extraction. She
4
maintained that there is no guarantee new jobs will go to
Alaskans. She maintained that it is bad public policy to
craft a broad solution to a very narrow problem. She
asserted that if the legislation is designed to help OXY
stay a producer on the North Slope it should be crafted so
narrowly that only OXY benefits. She added that if the
legislation is designed to set policy about heavy oil, the
Committee should be cautious about basing a decision on the
arguments that OXY provides. She acknowledged that there
are problems with OXY's ability to operate.
(Tape Change, HFC 96-34, Side 2)
Ms. Hannan urged the Committee to pursue long and deliberate
discussions. She maintained that the owner state must be
protected to assure that there is a healthy oil industry in
Alaska during the 21st century. She stated that if
agreements and terms of contracts are changed subsequent to
leasing then companies holding contracts are given an unfair
advantage over those that did not win the original lease.
Representative Mulder asked if AEL has supported oil
industry incentives. Mr. Hannan stated that AEL worked with
the House Resource Committee on HB 207. She noted that AEL
supported the final version of HB 207.
Representative Martin maintained that AEL is an outside
group looking in. He questioned Ms. Hannan regarding the
makeup and function of AEL. Ms. Hannan noted that AEL is a
coalition of environmental groups. She observed that AEL
has been active in Alaskan politics for many years. In
response to a question by Representative Martin, Ms. Hannan
compared the legislation to joint risk and long term profit
in the film industry. She maintained that an incentive can
be given to assure that the capital risk investment is
returned, but over the life of a 30 year well the State's
royalty of 12.5 percent is paid in full. She observed that
royalty payments could be graduated from a low to full
percentage. She maintained that the capital risk would be
shared. She asserted that no one in the environmental
community is saying that the risk should not be shared.
Representative Martin stressed that the oil industry has
taken risks by investing in Alaska's resources. He
questioned if other countries have tried to develop heavy
oil. Ms. Hannan replied that AEL is an Alaskan
organization. She observed that the state of Alaska employs
experts in cold weather oil production.
Representative Navarre thanked Ms. Hannan for her testimony.
He pointed out that heavy oil production has to compete for
other investment decisions in Alaska. He questioned if the
5
incentive is the best way to encourage additional production
and revenues in the State.
JON TILLINGHAST, ATTORNEY, OCCIDENTAL OIL AND GAS
CORPORATION (OXY) USA INC. spoke in support of HB 325. He
clarified that the House Oil and Gas Special Committee's
intent regarding "eligible field costs" relates to the
lessee's reported royalty price under whatever settlement
agreement the lessee has with the State. He stated that it
was not the House Oil and Gas Special Committee's intent to
enter the eligible field cost debate. He suggested that
page 1, line 14 could read "only to the portion of the
lessee's reported royalty value".
ED BEHM, HEAVY OIL TEAM LEADER, OCCIDENTAL OIL AND GAS
CORPORATION (OXY) USA INC. testified via the teleconference
network. He discussed the logic behind the $15.00 dollar
per barrel price ceiling. He provided members with a chart
demonstrating the rate of return with and without the
royalty (Attachment 2). He noted that without the royalty
holiday the rate of return with a wellhead price of $10.00
dollars per barrel would be below 5 percent. The rate of
return would rise to 11 percent with a wellhead price of
$12.50 dollars per barrel. He noted that current wellhead
value is $10.00 dollars per barrel. At a $15.00 dollar per
barrel wellhead price the rate of return without the royalty
suspension would be approximately 18 percent. He noted that
with the royalty holiday a wellhead price per barrel of $10
dollars would result in a rate of return of 7 percent;
$12.50 dollars would raise the rate of return to 15 percent;
and a wellhead price of $15.00 dollars would result in a
rate of return of approximately 25 percent. He stressed
that in order to make a 15 percent rate of return with the
royalty holiday the wellhead value has to average $12.50
dollars per barrel. He pointed out that the company needs a
wellhead value of $15.00 dollars a barrel to average $12.50
dollars per barrel. He added that the federal government
has initiated a $15.00 dollar wellhead price cut ceiling.
Representative Navarre asked how many barrels a day are
projected for production. Mr. Behm stated that OXY's
assumptions are based on per well production of 430 barrels
a day. He noted that production declines at a 10 percent
rate.
Representative Brown referred to language suggested by Mr.
Tillinghast. He suggested that page 1, line 14 could read
"only to the portion of the lessee's reported royalty
value". She asked if the wellhead value is above $15.00
dollars would the exemption be lost completely. Mr. Behm
stated that it was his understanding that the suspension
would only be lost on revenues above the $15.00 dollar a
6
barrel level.
In response to a question by Representative Brown, Mr. Behm
maintained that it would not be practical to limit
production. He stressed that it is in the operator's best
interest to maximize production at all times. He explained
that the 10 year forgiveness period was chosen to allow
facilities to be expanded in order to handle heavy oil
production. He emphasized that development would begin in
the best areas and move to poorer areas. He asserted that
to prematurely cut off the royalty suspension would leave
areas that are too marginal to develop.
Representative Brown asked the justification for basing
incentives per well as opposed to reservoir or pool
production. Mr. Behm pointed out that operators are not
requesting the royalty suspension on existing production.
He stated that the per well approach emphasizes new capital
drilling. Mr. Tillinghast noted that Bureau of Land
Management regulations are not intended to spur additional
capital investment. They are intended to restore shut in
production and continue production that is reaching its
economic limits. He quoted the preamble to the federal
regulations. He stressed that the goal of HB 325 is to
encourage the development of new wells.
In response to a question by Representative Martin, Mr. Behm
noted that Canada and Venezuela are promoting heavy oil
production. He maintained that royalty on new development
in Venezuela is near zero.
Representative Green referred to the map on page 12 of "An
Opportunity to Develop Alaska's Heavy oil Resources", by BP
and OXY, dated 1/22/96 (copy on file). He pointed out that
oil viscosity changes with the degree of API gravity. He
stressed that a per pool suspension would work against the
State since operators could remain in areas of lower
viscosity.
Representative Green noted that if fluids are not kept
moving there is a tendency for oil to settle back. He
stressed that pumps can be ruined and tubing prevented from
being removed if production is stopped. He emphasized that
a production stoppage would increase operating costs. He
emphasized that operators would not want to stop production.
In response to a question by Representative Mulder, Mr. Behm
stated that the economic focus would be on marginal wells.
He added that OXY provided the Department of Natural
Resources with the data they used for their critical
assumptions. He asked for the Department's response.
7
Representative Grussendorf noted that most State's that
provide royalty incentives also collect property or sales
tax. He pointed out that the state of Alaska does not
collect a state property of sales tax.
Mr. Tillinghast questioned if it is likely that Alaska's
heavy oil reservoirs are going to be developed without an
incentive, within the relatively short window of
opportunity. He noted that heavy oil must be developed
before the pipeline either closes down or per barrel tariffs
becomes so high that heavy oil will not be economic
regardless of incentives. He added that heavy oil
production must occur while an infrastructure remains for
its production. He noted that the Department of Natural
Resources has projected that Milne Point will shut in,
absent change, between the years 2006 and 2011. He
emphasized that industry has spent more than $270.0 million
dollars in the past 15 years to develop heavy oil. He
stressed that it is not economic to recoup these costs under
the present economic environmental. He maintained that
heavy oil will not be developed absent an aggressive state
partnership. He asserted that the State will receive
considerably more from a partnership. He noted that the
Department of Natural Resources predicts that the State will
receive $60 million dollars in royalties from the 3,000
barrel a day pilot project at Tract 14, Milne Point. He
alleged that if the field is developed according to BP's
development scenario with a five year royalty suspension the
State would receive $425.0 million dollars in royalties from
Schrader Bluff. He pointed out that the State would receive
an additional $60 - $80 million dollars from other North
Slope production due to declines in the Taps Tariff caused
by extra heavy oil in the system. He added that jobs will
also be created.
Representative Grussendorf reiterated that other states have
other revenue mechanisms. He stressed the need to carefully
consider the issue.
Representative Navarre questioned OXY's total capital costs.
He estimated that using an assumption of $10.0 per wellhead
X 230 wells X 300 barrels a day that the return would be
$250.0 million dollars a year. He stated that at five years
operators would receive $1.25 billion dollars on an
investment of $600 million dollars for the estimated 41 year
life of the field. Mr. Behm could not verify his numbers.
He emphasized that total expenses could approach $1.1
billion dollars including expenses and capital costs.
Representative Navarre asked what percentage of a well's
production is obtained in the first five years. Mr. Behm
estimated that one third of the well's production would
8
occur in the first five years. He observed that estimations
vary.
(Tape Change, HFC 96-35, Side 1)
Representative Navarre asked if it would be to the
operator's advantage to load development toward the end of
the 10 year cycle in order to gain the advantage of new
technology. He pointed out that any well developed before
the year 2006 would receive the royalty holiday for 5 years.
He estimated that there would be a reduction of development
cost over the next 10 years. He pointed out that the
benefit of technological advances which result in lower
development costs would not be shared with the State.
Mr. Behm stressed that a deferment of development would send
the project to the end of the project line. He questioned
if costs saved by delaying development would offset the cost
of inflation.
Representative Navarre suggested that the suspension be
enacted for five years with subsequent review by the
Legislature.
Representative Martin questioned how much more information
the Department of Natural Resources needs to make a
decision. Mr. Tillinghast stressed that the legislation was
not crafted based on the micro economics of one particular
lessee. He observed that the challenges of developing heavy
oil is a matter of statewide concern. He stressed that
OXY's economics can be used by the State as a generic bench
mark. He stated that OXY used state oil prices and the
Department of Revenue's spring 1995 base case price
forecast. He stated that it is not reasonable for the
Department to request the type of comprehensive audit that
would be required under HB 207. He added that one of the
purposes of HB 325 is to send a message that independent
operators are welcomed in Alaska.
In response to a question by Representative Martin, Mr. Behm
pointed out that Attachment 2 shows that the project will be
difficult to make economic with the current $10.00 dollar
wellhead price.
Representative Martin stated that the state of Alaska will
receive millions of dollars in corporate income tax. Mr.
Tillinghast noted that the University of Alaska estimated
that the additional tax income to the State would be
substantial.
Mr Boyd stated that the life of the Milne Point field cannot
be estimated. He added that economics change for different
operators. He maintained that better analysis is needed.
9
Representative Green referred to the life of the pipeline.
He noted that there is concern among operators. He observed
that the pipeline was estimated to decline around 1987 or
1988. He pointed out that the use of the pipeline has been
extended through new discoveries and technology. He
maintained that a date can not be identified for the end of
the pipeline's activity.
Representative Navarre presented a scenario of a 230 well
field producing at an average of 300 barrels per well per
day. He requested a comparison of state revenues including
income tax for the scenario with a royalty of 12.5 percent
and with the royalty suspension, allowing for full
production costs, in order to determine what the State would
be offering under HB 325. He added that BP's concerns
differ from those of OXY's. He noted the competition within
Alaska for developmental money. He observed that existing
fields might have a better rate of return even if the
royalty suspension is applied. He emphasized that other
approaches may generate more activity in existing fields.
He noted that incentives on heavy oil may not be enough to
generate increased activity. He expressed concern that a
significant portion of the resource would be depleted in the
first five years. He observed that investment opportunities
could be traded off. Projects with like economics could be
deferred while investment occurs in projects where a royalty
suspension is offered.
Representative Grussendorf asked if OXY's development of
heavy oil could be accommodated under HB 207. Mr. Boyd
noted that OXY could not be accommodated under HB 207. He
stressed that BP, the 91 percent share holder, could be
accommodated under HB 207. Representative Grussendorf
observed that the State faces the dilemma of trying to take
care of small operators while opening windows for larger
operators.
In response to a question by Representative Kelly,
Representative Green maintained that operators will find the
money if projects are economic. Representative Navarre
stated that there is a finite number of investment dollars
worldwide that must be competed with. He estimated that the
best rate of return will receive limited investment dollars.
Representative Green agreed that there is worldwide
competition for projects but asserted that there is enough
capitalization dollars for all economic projects.
ADJOURNMENT
The meeting adjourned at 3:38 p.m.
10
| Document Name | Date/Time | Subjects |
|---|