Legislature(2007 - 2008)SENATE FINANCE 532
01/22/2007 09:00 AM Senate FINANCE
| Audio | Topic |
|---|---|
| Start | |
| Revenue Update, Department of Revenue | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
MINUTES
SENATE FINANCE COMMITTEE
January 22, 2007
9:01 a.m.
CALL TO ORDER
Co-Chair Lyman Hoffman convened the meeting at approximately
9:01:14 AM.
PRESENT
Senator Lyman Hoffman, Co-Chair
Senator Bert Stedman, Co-Chair
Senator Charlie Huggins, Vice Chair
Senator Kim Elton
Senator Joe Thomas
Senator Fred Dyson
Also Attending: SENATOR LYDA GREEN; DR. MICHAEL WILLIAMS, Chief
Economist, Department of Revenue; GARY BADER, Chief Investment
Officer, Treasury, Department of Revenue; JERRY BURNETT,
Administrative Services Director, Legislative Liaison,
Department of Revenue; BRIAN ANDREWS, Deputy Commissioner,
Treasury, Department of Revenue; CHERIE NIENHUIS, Petroleum
Economist, Department of Revenue; DAVID TEAL, Legislative Fiscal
Analyst, Legislative Finance Division, Legislative Agencies &
Offices; MINDY ROWLAND, Senate Finance Committee Secretary
Attending via Teleconference: From an Offnet Location: PATRICK
GALVIN, Commissioner, Department of Revenue
SUMMARY INFORMATION
Revenue Update Presentation
by the Department of Revenue
The Committee heard a fiscal overview from the Department of
Revenue. No committee action was taken.
9:01:43 AM
Co-Chair Hoffman welcomed Committee members, staff, and the
audience to the first meeting of the Senate Finance Committee of
the Twenty-Fifth Alaska State Legislature. The Senate majority
this Session is comprised of a "bipartisan organization" which
was "something new for the State" in recent years.
Co-Chair Hoffman spoke as follows.
An effort would be made to put partisanship aside and try
to work as a bipartisan organization so that we can address
the needs and the issues of the State of Alaska that the
people that have elected us to office to do... I think that
the people of Alaska expect. So this is a new day in
Alaskan government. We have a great deal of work before us
crafting the operating and the capital budgets. There will
be many different issues coming before this Committee and
I'm eager, as well as my Co-Chairman, to work with each and
every one of you to get what's the best for the State of
Alaska.
We are very fortunate this year to have a $1.3 billion
surplus that we anticipate at the end of this current year,
but that doesn't mean that we, as a State of Alaska, are in
good shape because we still don't have a long term fiscal
plan. We depend heavily upon oil for our revenues, and, as
everyone is well aware, the price of oil goes up and comes
down. And this last year, we've seen something unforeseen
and that's the slowing down and even the closure of the
gasline. So, things are quite volatile and we need to keep
that point in mind.
9:04:15 AM
Later on this week I will be completing the assignments for
the operating budget subcommittees. We've directed our
staff to work with each member of the Finance Committee to
coordinate all of our efforts.
9:04:27 AM
Committee introductions ensued.
9:05:08 AM
Senator Elton, representing Senate District B, noted that this
was his ninth year representing the citizens of Juneau in this
capacity. Previous to that he served four years as a State
Representative. Jesse Kiehl would be his Finance Committee aide.
9:06:07 AM
Senator Thomas, a lifelong Alaskan, appreciated the opportunity
to represent the Fairbanks area in Senate District D where he
grew up and looked forward to serving on this Committee. He
would be assisted by staffers Catherine Reardon and Joe
Hardenbrook.
9:07:07 AM
Senator Dyson, Senate District I, stated that Elmendorf and Fort
Richardson military bases, Eagle River, and a portion of Chugiak
were included in his district of 35,000 people. The significant
numbers of active and retired military personnel in his district
skewed its demographics to the high side. His constituents are
mature and thoughtful. It has been a privilege to represent them
in the legislature for ten years and for six years prior to that
on the local assembly. His efforts on the Finance Committee
would be supported by staff person Lucky Schultz.
9:08:22 AM
Senator Huggins, Senate District H, characterized his
constituents in the Chugiak and Talkeetna area as "able-bodied"
and "diverse". His district is "demanding" in part due to "the
huge growth spurt" the area has experienced and its subsequent
impact on infrastructure and schools. Other issues of importance
to the district are the proposed Knik Arm Bridge crossing and
the railroad network. An issue of statewide importance is the
proposed Alaska gas pipeline. Deborah Grundmann is serving as
his Finance Committee aide.
9:09:40 AM
Co-Chair Hoffman noted that Committee member, Senator Donny
Olson, who was absent today, represented Senate District T which
includes the North Slope Borough and the Northwest Arctic
Borough. Senator Olson is a doctor, a pilot, and held a law
degree. Co-Chair Hoffman indicated Denise Liccioli, Finance
Committee aide, and Ginny Austerman, Legislative aide, would
assist Senator Olson.
Co-Chair Hoffman, Senate District S, is a lifelong Alaska,
representing the Yukon-Kuskokwim delta, the Alaska Peninsula,
the Aleutians, and the Pribilof Islands. He introduced his
Finance Committee staffers Tim Grussendorf and Tom Maher.
9:10:53 AM
Co-Chair Stedman, Senate District A, noted that his district
encompassed the southern portion of Southeast Alaska including
Ketchikan, Sitka, Petersburg, Wrangell and numerous smaller
communities. The dynamics of Southeast Alaska differed from
other areas of the State in that the area's economy was
"stagnant"; and while the economy of Southeast Alaska appeared
to be flat, it would, in reality, reflect a decline were the
City and Borough of Juneau removed from the equation.
Co-Chair Stedman shared that District A was continuing to absorb
the economic aftermath of the closure of two pulp mills. A
decline in school enrollment has been experienced, skilled
workers are migrating north to find employment, and surface
transportation issues abound. While the proposed gas pipeline
project could provide energy to other regions of the State,
hydro power would continue to be furthered in Southeast Alaska.
Co-Chair Stedman recognized Miles Baker and Steve Porter as his
Finance Committee staff.
Co-Chair Stedman assumed chair of the meeting.
9:15:31 AM
MINDY ROWLAND, Senate Finance Committee Secretary, introduced
Assistant Secretaries Robin Paul and Rose Foley.
Co-Chair Stedman advised Committee members to direct questions
about bill files and the flow of Committee material to the
Finance Committee Secretarial staff.
Co-Chair Stedman next addressed Committee protocol. The intent
of the Chairmen "is to run a fairly formal committee". The
issues addressed by the Committee are of such "a serious matter
that I prefer that all of the seated Senators have the ability
to hear and listen to all of the information presented". Elected
officials and other presenters should speak clearly into the
microphones so that the minutes could be recorded accurately and
so listeners could hear the testimony. Acronyms should be
avoided and "straight forward English" should be used.
Co-Chair Stedman, anticipating that a multitude of documentation
would be addressed during Committee proceedings, advised against
shuffling paper and other materials as the recording microphones
were quite sensitive and the noise would be amplified. This
could negatively affect the ability of listeners to hear the
testimony.
Co-Chair Stedman also asked that cell-phones and other
electronic devices be turned off during the meetings as they
disrupt the process.
9:19:00 AM
Co-Chair Stedman urged Members to be prompt to meetings as they
would begin on time and conclude prior to scheduled Senate floor
sessions. Daily meetings would be expected as the Session
progressed.
Co-Chair Stedman communicated his desire that, in consideration
of time, presenters' testimony be provided uninterrupted. The
desire was to provide ample time for questions, response, and
follow-up. Members should direct their questions through the
Chair.
Co-Chair Stedman also specified that topics generating
substantial discussion would be set aside in order to allow
Members to further address the issue with the concerned entity.
The issue would then be brought back before the Committee. The
same approach would be taken when an unanticipated issue arose,
in the effort to keep the Committee process moving.
Co-Chair Stedman also asked Members to alert a department of any
particular issue of concern prior to the hearing. This would
promote better dialogue by allowing the departments to more
adequately respond to an issue.
Co-Chair Stedman stated that while the goal was to conduct a
formal hearing process, the tone should be relaxed.
9:22:57 AM
Co-Chair Stedman noted that, as a matter of routine, Members
would receive a packet pertinent to each topic on the daily
agenda. For instance, today's packet includes copies of the
material that would be addressed by the Department of Revenue.
Co-Chair Stedman pointed out that, in an effort to improve the
public's ability to observe Committee proceedings, a new
projector screen had been installed in the Committee room for
easier viewing of power point presentations and the like.
^Revenue Update, Department of Revenue
9:24:14 AM
Revenue Update
Department of Revenue
9:24:42 AM
PATRICK GALVIN, Commissioner, Department of Revenue, testified
via teleconference from an offnet location and apologized that
concurrent gas pipeline meetings prohibited him from attending
in person. Department of Revenue staff in attendance would
provide the bulk of the presentation.
9:25:28 AM
Commissioner Galvin specified that the Department is the primary
agency involved in collecting State revenue. The Tax Division is
responsible for the majority of that revenue, including the
revenue generated by corporate income taxes and the Petroleum
Profits Tax (PPT) tax on oil and gas production.
The Department also monitors taxes the State levies on fuel,
fish, cigarettes and other commodities.
Commissioner Galvin stated that, in addition to monitoring taxes
levied on fuel, fish, cigarette, and other commodities, the
Department also houses the Child Support Services Division which
is responsible for collecting child support payments, the
Permanent Fund Dividend (PFD) Division which collects PFD
applications and distributes the funds, and the Treasury
Division, which serves in a variety of money management
functions except for those associated with the Alaska Permanent
Fund. Gary Bader would be discussing some of the funds managed
by the Treasury Division later in this hearing.
Commissioner Galvin also noted that the Treasury Division is
responsible for managing the State's debt in respect to the
Municipal Bond Bank and "other public financing portions of the
State". The Division employs a Cash Manager "who is tasked with
making sure the State has cash in hand to make our payments and
to manage" the State's cash to achieve the best possible return
and a Comptroller who is charged with ensuring that the State
"is properly reporting and controlling the different aspects of
the Treasury and the Department".
Commissioner Galvin stated that the Department's management team
consists of Brian Andrews, Deputy Commissioner for Treasury;
Jerry Burnett, Director, Administrative Services Division and
Legislative Liaison; Marcia Davis, Deputy Commissioner for Tax
and Gasline Issues; and John Iverson, Director, Tax
Division/Anchorage.
9:32:34 AM
In consideration of time, Co-Chair Stedman asked Members to hold
questions until the end of each presentation.
Page 1A
State of Alaska Department of Revenue
Crude Oil Prices, State Revenue & the PPT
January 22, 2007
DR. MICHAEL D. WILLIAMS, Chief Economist, Department of Revenue,
utilized a handout titled "Crude Oil Prices, State Revenue & the
PPT" handout [copy on file] and testified as follows.
Good morning ladies and gentlemen, my name is Michael D.
Williams and I am the Chief Economist for the Alaska
Department of Revenue. Thank you for the introduction
Commissioner Galvin. I would like to discuss two topics
with you - crude oil prices and the Department of Revenue
forecast. After I have reviewed these topics I will be
happy to attempt to answer your questions.
9:33:28 AM
Page 1B
Agenda
· Crude Oil Prices
· State Revenue
· Petroleum Profits Tax
Page 2A
Crude Oil Prices
· Fall 2006 RSB Forecast
· Actual Prices
· Volatility
· Drivers
· Conclusions
Mr. Williams:
Let's begin with crude oil prices. Under this heading there
are several topics I would like to cover and they include the
following: The Department's official crude oil price forecast
for FY 2007 as contained in the Revenue Sources Book or RSB
[page 97]; the actual prices for FY 2007 for the months for
which we have data; the volatility of crude oil as reflected
in daily prices; the topics or drivers that are causing
volatility; and, finally, I will close with some conclusions.
9:33:52 AM
Page 2B
ANS Crude Oil Prices
FY 2007 Forecast, Dollars per Barrel
[Chart comparing the forecasted prices to the actual price
experienced per barrel of oil for the months of June 2006
through January 2007. The Department's forecast for
February is $55 per barrel and $50 per barrel for March
through May 2007.]
Dr. Williams:
Let's begin with the Department's official price forecast
for Alaska North Slope crude oil or ANS. The chart presents
prices in dollars per barrel and the vertical axis goes
from $40 to $75. The horizontal axis contains monthly
average prices beginning in June 2006 and running through
May 2007. The reason the data begins in June is because oil
prices and production in June are the basis for royalty and
production tax payments in July - the first month of
Alaska's fiscal year. The green bars represent our forecast
prices and the dark blue line represents actual prices.
When we prepared the forecast we had actual prices for
June, July and August - that is the reason they match. Our
crude oil price forecast for FY 2007 is $59.15 per barrel -
which is the average of the 12 months you see in the chart.
You will note we correctly predicted prices declining;
however, we missed the exact trajectory.
9:34:53 AM
Page 3A
Daily Crude Oil Prices
ANS, Dollars per Barrel, June 1, 2006 through January 18,
2007
[Line chart depicting an upward trend in daily crude oil
prices in June, July, and August 2006, and a downward trend
from August 2006 through January 2007.]
Dr. Williams:
Moving on to volatility, this chart contains the daily
price of ANS beginning with June 1, 2006 and running
through January 18, 2007. You will note there are some
dramatic changes. Prices increase almost 13% between June
13 and July 14, and then decline more than 29% or $22 per
barrel between July 14 and October 30. Thereafter, prices
increase 12% by December 15 before declining another 20% by
January 18. What is causing these dramatic swings? Will
they continue?
9:35:37 AM
Page 3B
Drivers
· Demand
· Supply
· Prices
· Geopolitical Events
· Financial Sector
Dr. Williams:
To help you understand the causes of these price changes, I
am going to discuss some key topics or drivers as I call
them. One must keep in mind that the price of an item - any
item - is determined by the relative supply and demand for
the item in the market place. Crude oil is a commodity that
is traded on electronic exchanges worldwide. So what are
the drivers? We will begin with the demand for refined
petroleum products - things like gasoline, jet fuel, diesel
and heating oil. Demand is one of the pillars that
determines price. In general, greater demand for a good
provides support for higher prices.
In the United States, according to the American Petroleum
Institute, "… petroleum deliveries, a measure of demand,
fell by roughly 1% to 20.6 million barrels per day [mbd],
down from 20.8 mbd in 2005, which was below the 2004
level". The International Energy Agency estimated that
world oil demand in the industrial countries - countries
like the US, Japan and Germany - declined by 0.6% in 2006.
However, global demand increased due to the increases in
Asia and the Middle East. According to a Citigroup analyst
"We've entered that era on a worldwide basis where demand
is growing more slowly." The recent declines come at a time
where there has been warm weather, so the demand for
heating fuel has been reduced by weather.
Next, we look at another pillar that helps determine price
- the supply side. In general, greater supplies of a good,
relative to demand, have a depressing effect on price. Here
we see events that have offsetting effects. The
Organization of Petroleum Exporting Countries or OPEC has
attempted to stem the price decline by reducing their
production. They consciously reduced output in December,
October and September. They have publicly stated that they
might convene a special meeting to discuss further
production cuts. You should also note that Angola became a
member of OPEC on January 1, 2007.
Crude oil production in non-OPEC nations has been
increasing as has the inventories of crude oil. With
slowing demand, the increase in non-OPEC production has
offset the declines by OPEC. The result has been an
increase in inventories. According to the International
Energy Agency (IEA), crude oil stocks for the industrial
countries reached their highest level in 20 years in May
2006 and continued to increase for four of the next six
months.
Taken together we see a picture of decreasing demand,
increasing supplies and increasing inventories. What is
causing demand to slow and non-OPEC supplies to increase? A
major factor is high crude oil prices. High crude oil
prices translate to higher prices for refined petroleum
products. These high prices have an impact on consumption.
It has taken time for the impact to be seen, but the recent
consumption statistics reflect the price effect. On the
supply side, the high prices have led to large oil company
profits, which have in turn led to a drilling and
exploration bonanza world wide. Companies are exploring and
developing resources around the world.
Geopolitical events also contribute to price volatility.
When Venezuela and Bolivia talk nationalization, there is
an impact on the crude markets with a perception of reduced
supply and higher prices. The fighting in Iraq, Russian
policy changes with regard to energy development and other
events all influence crude oil prices.
Another sector I want to discuss is the financial sector.
When I speak of the financial sector I am talking about
several different groups who participate in buying and
selling crude oil derivatives. Producers and consumers:
these folks use oil in their business, think of oil
companies, petrochemical plants, refineries and airlines.
They use hedging techniques to control their costs and
revenue. Pure Financial Players: these folks do not use oil
in their business. Think of four categories of players:
one: financial institutions; two: commodity trading
advisors; three: the 530 hedge funds; and four:
institutional investors. The institutional investors are
the most recent entrants and they view commodities as an
asset class. Investor products such as commodity indices
provide an opportunity to diversify.
The various pure financial players have different goals and
different impacts on the crude oil market. Most likely the
financial sector does not determine the trend, but they
amplify the trend - and they may be part of the reason
prices rose so quickly, and recently declined sharply. I am
not an expert in all the financial derivatives, but I am
aware of the fact that the amount of money in the financial
sector dwarf's that of the oil markets. So if the financial
sector chooses to move into or out of crude oil, it can
have dramatic impacts on prices.
9:44:05 AM
Conclusions
· Forecast Price Decline
· Prices Remain Volatile
ƒFinancial Sector Amplifies Trends
· Possible Price Support:
ƒCold Weather & OPEC
Dr. Williams:
Please bear with me as I attempt to tie much of this
together to help you understand the functioning of the
market. A key ingredient in all of this is what people
think the future holds - their perceptions. If a refinery
operator believes demand is strong and supplies are not
forthcoming. Here you should think of 2004 global oil
demand growth of 3.4 percent followed by supply disruptions
caused by Hurricane Katrina in 2005, that operator is
likely to purchase additional supplies. Remember, after
2004 there is limited world wide spare crude oil production
capacity. Now, multiply this by all the refinery operators,
airlines, petrochemical plants and one sees strong demand
for crude oil, with the different market segments bidding
up the price. Now throw in the financial sector.
Institutional investors see an opportunity; they too
believe demand is increasing with limited supplies, and
they purchase derivatives, further bidding up the price.
This is basically what happened in 2004 and 2005.
The year 2006 opened with people believing one: there was
no price effect that would dampen oil demand and two: there
would be a nasty hurricane season in 2006 that would reduce
oil supplies. With continued unrest in Iraq and problems in
the Russian oil sector, this led to the steady increase of
prices that peaked in July. Thereafter it became clear that
the price effect was working as demand for oil was
declining, and there were no supply disruptions due to
hurricanes. In addition, warm weather reduced winter
heating oil demand. The IEA lowered its demand estimate in
September, October, November and January. It was unchanged
in December.
On a very different but related topic, the demand for corn
has risen as the demand for ethanol has increased and corn
prices are at 10 year highs. While crude oil prices are
declining, financial investors still want to earn a profit
in commodities, so they may move money to commodities other
than oil, such as corn. The recent freeze in California has
damaged the citrus crop, so orange juice prices are likely
to increase. Perceptions: it may be easier to make more
money in orange juice and corn than oil. Thus, we could see
additional money exit oil and enter these other
commodities. This could amplify the downward trend in oil
prices.
In summary, when people's perceptions change, they change
their behavior. The advent of computers and the internet
speed information worldwide and a change in perception can
very rapidly translate to a change in action and prices.
It is people's perception of future prices that causes them
to take action; they get their information from television
or the internet and make their decisions, whether hedging
jet fuel purchases for an airline, purchasing commodities
for an institutional investor, or betting on price declines
at a hedge fund.
With regard to prices, we did forecast the price decline.
Further, I believe prices will remain volatile. Again, I do
not think the financial sector causes the trends; I believe
they amplify the trends. In the short term, there is
possible price support from the recent cold weather that
could stimulate the demand for heating oil. Also, if OPEC
does decide to further reduce output, it can impact the
markets. The two key ingredients: the supply-demand balance
and people's perceptions of the markets.
9:44:24 AM
Page 4B
Revenue Projections
· Fall 2006 RSB
· Oil Revenues Dominate
· Variance Analysis
Dr. Williams:
Next, I want to turn to our fall forecast revenue
projections. These can be found in the Revenue Sources
Book. I will review our projections, highlight the
importance of oil revenues to Alaska, and describe some
basic analysis to give you an idea of where we are today.
Dr. Williams noted that a copy of the Department's Fall Revenue
Forecast Book [copy on file] was included in Members' packets.
9:44:41 AM
Page 5A
Oil Dependency
Fy2007 General Fund Unrestricted Revenue, Millions
Royalty-Net PF 1,503.9 30.6%
Production Tax 2,067.2 40.1%
Income Tax 657.2 13.4%
Property 51.7 1.1%
Bonus, Rent, etc 51.4 1.0%
TOTAL OIL 4.331.5 88.2%
Non-Oil 580.8 11.8%
TOT BUDGET 4,912.3 100.0%
Dr. Williams:
Our official forecast of General Fund Unrestricted Revenue
for FY 2007 is $4.9 billion. Of the total, $4.3 billion or
88% comes from oil. I would like to review the categories.
The first is Royalty revenue - this does not include the
25% that goes to the Permanent Fund or PF. You see we
project about $1.5 billion and this is based on price,
volume and the royalty rate, about 12.5 percent. Next is
the production tax which is the new Petroleum Profits Tax
or PPT that Commissioner Galvin will discuss shortly. Our
estimate is that it will generate about $2 billion. The key
aspects here are production volumes, price, costs and
credits. Next on the list is Income Tax which we project at
about $657 million. The drivers for income tax include
prices, production and some factors our accountants refer
to as apportionment factors. It is pretty complicated and I
will not get into the details now. We project about $52
million from property taxes and this is based on assessed
value. Monies from bonus, rents, etc. are projected at
about $51 million and the recent lease sale in the Beaufort
Sea in October is the main reason for this high number. Our
projection for non-oil revenue is about $580 million. This
includes many other categories such as alcohol and tobacco
taxes, fines and forfeitures, licenses and permits,
investment income and other.
9:46:28 AM
Page 5B
Variance in Key Factors
For FY 2007, Year-to-Date Changes From Fall Forecast
[Chart depicting an increase of approximately four percent
in the price of Alaska North Slope (ANS) oil and a decrease
of approximately two percent in production volume.]
Dr. Williams:
As you can tell, oil revenue dominates the Alaska revenue
picture and crude oil prices and crude oil production
volumes are the key factors in estimating oil revenue. To
see our status on these two factors, I compare our forecast
with actual prices and volumes for the fiscal year-to-date.
In this chart the vertical axis is percent change. Our ANS
crude oil price forecast for FY 2007 that is published in
the RSB is $59.15 per barrel. ANS crude oil prices through
January 18 average $61.81 which is $2.66 or 4.3 percent
above the forecast. Regarding ANS crude oil production, our
volume forecast for FY 2007 in the RSB is 739,618 barrels
per day [b/d]. Through January 17 ANS crude oil production
averaged 722,845 b/d which is 16,773 b/d or 2.3 percent
below our forecast. Since oil production in Alaska is
higher during the cooler months, I expect our production
volume estimate will get closer to the forecast as time
goes on.
9:47:35 AM
Dr. Williams concluded speaking to the portion of the
presentation pertaining to crude oil prices and State revenues.
9:47:44 AM
Page 6A
Petroleum Profits Tax
· "True-Up" Payment
· Regulations Status
Commissioner Galvin stated that his remarks would concentrate on
updating the Committee on the status of the PPT regulations and
the revenue the "true-up" payment would provide the State in a
few months.
9:48:24 AM
Page 6B
PPT True-Up Payment
· Due End of March
· Estimate = $0.95 billion
ƒApril, May = $0.29 billion
ƒJune - December = $0.66 billion
Commissioner Galvin addressed the PPT's "true-up" payment
provision. While the PPT tax went into effect on April 1, 2006,
the first PPT payment would not be due until April 1, 2007. The
determination was that this timeframe would provide companies
time to understand how the State would implement the PPT
provisions, allow them to update internal systems, and estimate
their payments under the PPT. Until then, companies would
continue their monthly tax payments based upon the former
severance tax structure referred to as the Economic Limit Factor
(ELF). On April 1, 2007, companies would be required to true-up
the difference between the tax paid under ELF and that required
under the provisions of the PPT.
Commissioner Galvin clarified, however, that the PPT regulations
would not be in place until after April 1, 2007. Thus, companies
would be basing their true-up payment on "communications that's
been going on in the development of the regulations to clarify
some of the areas under the law that needed clarification and
they can kind of get a sense of where we're going with it.
They're going to do the best they can to see where the State
expects them to go on the interpretation of aspects of it, and
then they'll proceed with their returns and their payments. But,
there'll subsequently be additional clarifications and
additional adjustments that will be necessary as our regulations
are finalized and the companies will have to respond to that".
9:50:27 AM
Commissioner Galvin anticipated that on April 1, 2007, the State
would receive approximately 0.95 billion dollars of additional
revenue based on companies' estimates of the PPT payments in
excess of the ELF payments made to date.
9:51:23 AM
Page 7A
PPT Regulations Status
· Publicly Noticed Workshops Oct - Nov
· Draft Regulations Created
· Public Comments & Hearing: Dec. 13 - Jan. 17
· Issues Raised:
o Transfer of Exploration Credits
o Clarification of Lease Expenditures
o Overhead Rates (Too high - Too low)
o Ring Fencing Losses
o Information Reporting Requirements
o Inclusion of Penalty Provisions
Page 7B
PPT Regulations Status
· Estimated Revision Time: Mid February
· Final Review
o DOR Director & Commissioner
o Department of Law
o Lieutenant Governor's Office
· Expected Implementation - April
· Second Regulation Project - Spring '07
(To include: Clarifying allowable lease expenditures and
use of operating agreements)
Commissioner Galvin reiterated that the PPT regulation process
would not be completed before April 1, 2007. The first
regulations being addressed pertained to how companies would
submit tax returns and other [unspecified] large PPT issues.
Commissioner Galvin stated that a second group of regulations
would address specific details about allowable expenditures and
how certain costs and operating agreements would be treated
under the new tax system.
9:52:15 AM
Commissioner Galvin advised that the first set of regulations
under consideration were being "developed with extensive work
within the Department" as well as with the industry and other
interested parties.
9:52:42 AM
Commissioner Galvin noted that the effort to date included
discussion-based workshops. Draft regulations were issued in
December and public hearings were held in December and January.
A comment period deadline recently concluded.
9:53:15 AM
Commissioner Galvin noted that the Department would further
evaluate the issues raised by the industry and Legislators, as
depicted on page 7A.
Commissioner Galvin announced that the regulations would be
reviewed by the Department of Law before being transmitted to
the Lieutenant Governor's office.
9:55:15 AM
Commissioner Galvin anticipated the first set of regulations to
be completed no earlier than late March. However, this was not
considered "a realistic timeframe" as it would not allow
sufficient time for them to be accommodated in industry returns.
Efforts should be made to get "the regulations right the first
time".
Commissioner Galvin noted that work on the second set of
regulations is also being conducted. Those should be finalized
by this spring.
9:56:30 AM
Co-Chair Stedman reminded the Committee of the extensive
analyses that was conducted during the PPT deliberations when
the tax was shifted from gross value to net value. He suggested
that the Committee revisit the issue to ensure the analyses was
correct; specifically as he recalled that the fiscal note at the
time was estimated to be approximately $400 million, not the
currently stated $290 million.
9:57:19 AM
Co-Chair Stedman requested information be provided which would
allow for a comparison between the fiscal note and the "reality"
of the collections for the months of April and May.
9:57:38 AM
Commissioner Galvin indicated the information would be provided
as soon as it was available.
9:57:51 AM
Co-Chair Stedman also asked that the numbers reflect the
aggregate impact of credits and deductions as he was interested
in determining whether the 20 percent credit had the intended
effect of encouraging investment. This consideration should be
continually monitored.
Co-Chair Stedman suggested that the Committee further examine
the Constitutional Budget Reserve (CBR) projections, the "net-
back issue" relating to the Trans Alaska Pipeline System (TAPS),
and changes in tariffs and forward projections reflected in the
Revenue Sources Book.
9:59:26 AM
Co-Chair Stedman specified that the Committee would request
additional detail on the analysis of the price and production
modeling.
10:00:04 AM
Co-Chair Stedman was also interested in the spread of the West
Texas Intermediate (WTI) oil price in comparison to the Alaska
North Slope (ANS) price, taking into account market conditions
that might affect those price differences.
10:00:34 AM
Co-Chair Stedman further noted that gas prices should be
addressed, specifically the oil-to-gas price ratio, as he
understood that ratio to be in flux.
10:01:34 AM
Co-Chair Stedman allowed that some of the detail requested may
be delivered to the Senate Resources Committee, rather than the
Senate Finance Committee.
10:01:49 AM
Senator Elton referred to the "Crude Oil Prices, State Revenue &
the PPT" chart depicted on page 5B and surmised that oil
revenues were dependent on both ANS price and production volume.
He asked Dr. Williams if an analysis had been conducted to
determine the monetary loss the State experienced due to the
temporary cessation of production on the North Slope at a time
of extremely high oil prices, and if there was a way to recover
the lost funds.
10:03:03 AM
Dr. Williams replied that an analysis had been conducted in
October or November to determine the change in revenues
resulting from the shut-down; however, no updates have been
conducted since then. He considered the production volume
"deferred" rather than lost, as the oil was still in the ground
for later extraction.
10:03:53 AM
Senator Elton deduced from the revenue price projections that
the price received for the deferred production would be less
than it would have been at the time of the pipeline shut-down.
10:04:17 AM
Dr. Williams responded that he could not predict the price as
the time of the production was an unknown element.
10:04:36 AM
Commissioner Galvin stated that the Department was currently
examining the losses associated with the shut-down of the
pipeline; however, providing an estimate of losses at this time
would be "premature". The Department of Law is investigating
avenues for recovering lost revenues. He added that the
geological and engineering impacts of the shut-down have yet to
be addressed.
10:05:43 AM
Co-Chair Stedman considered Senator Elton's question to pertain
to the PPT tax collection. That issue would be further addressed
at a later time.
10:06:15 AM
Co-Chair Hoffman pointed out that the Senate Finance Committee
had been unaware that pipeline tariff increases were being
considered, but now understood the increases would be
approximately $1.50 per barrel. He asked whether further
increases in the pipeline tariff are anticipated as a result of
declining production.
10:07:09 AM
Commissioner Galvin was also concerned about the proposed
increases. The tariff settlement agreement entered into by the
State in the past is being reopened for discussion with the
pipeline owners. He was "hopeful" that the deliberations would
result in a more favorable tariff than in years past. However,
it was premature to speculate on the rates.
10:08:11 AM
Co-Chair Stedman commented that the oil and gas tariff issue
would be revisited with regards to the impact on both the
industry and the State.
10:08:21 AM
Senator Thomas asked if the tax year and the fiscal year were
the same.
10:08:39 AM
Dr. Williams affirmed, noting the time period was July 1 to June
30, but specified that June prices are used to project July
revenues.
10:08:58 AM
Senator Thomas asked whether the costs associated with the
corrosion removal and repair of the pipeline would be tax
deductible.
10:09:34 AM
Commissioner Galvin replied that the companies were proceeding
with the understanding that those costs would be deductible;
however, there had been no definite resolution of the issue yet.
10:10:16 AM
Co-Chair Stedman clarified that the corrosion issue would be
addressed later, as the Administration had the information and
would present it to the Committee.
10:10:43 AM
Senator Huggins referred to the price projection of $55 on page
2B, and asked when Dr. Williams anticipated prices to increase
as a result of increased demand.
10:11:24 AM
Dr. Williams did not expect a recession and assumed that the
strong global economy would produce more demand. He did not know
exactly how high the price of oil would climb, but aligned
himself with the Department's forecast.
10:12:25 AM
Senator Huggins, referencing Dr. Williams' comment regarding the
California citrus crop, understood that the crop was valued in
the "single digit" billions of dollars.
10:12:49 AM
Dr. Williams explained that the citrus crop example was offered
as an illustration of a multi-commodity market. Investors choose
to invest their funds in profitable markets. Orange juice funds
were provided as an example of market changes and forces that
might cause investors to modify their portfolios.
10:14:01 AM
In response to a question from Senator Huggins, Dr. Williams
identified $59.15 as the State revenue forecast's "break-even"
price.
10:14:22 AM
Senator Dyson asked if that figure accounted for the income
generated by the PPT tax.
10:14:37 AM
Dr. Williams affirmed.
10:14:47 AM
Commissioner Galvin clarified that the Department utilized the
$59.15 figure to estimate revenue for the fiscal year. A surplus
would be experienced at this price.
10:15:31 AM
Co-Chair Stedman specified that that information was depicted on
page 3 of the Revenue Sources Book.
10:15:55 AM
Senator Huggins stressed the importance of knowing the "break-
even" price. He recalled that the previous year's figure had
been slightly more than $47. He assumed that the amount was
higher in the current fiscal year.
10:16:21 AM
Co-Chair Stedman informed that the Committee would utilize the
FY 07 break-even price volume until a FY 08 figure was
determined.
10:17:40 AM
GARY BADER, Chief Investment Officer, Treasury, Department of
Revenue, utilized a handout titled "Department of Revenue,
Treasury, Investment Function" dated January 22. 2006 [copy on
file], to overview the treasury investment function within the
Department of Revenue.
10:18:07 AM
Page 2
Investments
· Treasury oversees $24.9 billion.
o Retirement (ARMB) funds (~$15 billion).
o Defined contribution funds (~$2.5 billion).
o Other state funds (~$7.4 billion).
· Treasury manages the cash needs of the State and ARMB.
· Treasury manages the ARMB domestic fixed income assets
(~$2.7 billion).
· Treasury manages the ARMB real estate investment trust
assets (~$125 million).
· Treasury also manages three fixed income investment
options for the Alaska Student Loan Corporation (~$95
million).
o Two intermediate bond portfolios.
o One managed against the Lehman Aggregate Index,
less BBB securities.
Mr. Bader overviewed the information, defining ARMB as the
Alaska Retirement Management Board.
10:20:07 AM
Page 3
Internally Managed Portfolio Returns
[Table listing the following:
Fund: AY70
Fund Name: Short-Term Fixed Income - 91 day T-bill
Market Value: $2,582,831,472.06
1 Year: 4.95
(4.50)
2 Year: 3.91
(3.56)
3 Year: 3.04
(2.73)
5 Year: 2.57
(2.30)
Fund: AY72
Fund Name: Intermediate Term Fixed Income ML 1-5 YR Gov
Market Value: $3,194,628,112.17
1 Year: 4.09
(3.70)
2 Year: 2.82
(2.29)
3 Year: 2.53
(2.00)
5 Year: 3.43
(3.18)
Fund: AY73
Fund Name: Broad Mkt Fixed Income LB Aggregate
Market Value: $1,077,207,815.11
1 Year: 4.13
(3.67)
2 Year: 3.70
(3.23)
3 Year: 3.89
(3.38)
5 Year: 5.08
(4.81)
Fund: AY77
Fund Name: ARM Board Fixed Income LB Aggregate
Market Value: $2,682,706,242.20
1 Year: 4.28
(3.67)
2 Year: 3.84
(3.23)
3 Year: 3.93
(3.38)
5 Year: 5.08
(4.81)
Fund: AYT1
Fund Name: Origination Fee LB Aggregate A+
Market Value: $20,906,018.33
1 Year: 3.91
(3.70)
2 Year: 3.51
(3.25)
Fund: AYT2
Fund Name: Surplus ML 1-5 Yr Gov
Market Value: $75,153,975.56
1 Year: 3.70
(3.70)
2 Year: 2.44
(2.29)
Fund: AYT3
Fund Name: Borrower Benefits ML 1-5 Yr Gov
Market Value: $2,716,898.60
1 Year: 3.80
(3.70)
2 Year: 2.52
(2.29)
Source: State Street]
Mr. Bader told that the first numbers listed for each year of a
Fund represent the fund's actual returns. The second set of
numbers, which are in parentheses, represent the benchmark for
each fund. The comparison of the two indicates the success of
the investments. Mr. Bader noted that all of the funds listed
"outperformed" the bench marks. According to Callan Associates
International (CAI), the AY77 ARMB fund ranked in the top 14
percent of public pension funds for the year ending September
30. This was a "vast improvement" over the FY 01 ranking which
was in the top 65 percent.
10:22:44 AM
Page 4
Non-Retirement Investment Returns - Annualized
As of September 30, 2006
[Table listing the funds managed by the division, their
market value, and rates of return for 1 year, 3 years and 5
years. The following funds are highlighted:
Fund Name: General Investment Fund
Market Value: $3,044,124,592
1 Year: 4.48%
3 Years: 2.85%
5 Years: 3.09%
Fund Name: Constitutional Budget Reserve
Market Value: $1,898,870,859
1 Year: 4.51%
3 Years: 2.98%
5 Years: 3.80%
Fund Name: Permanent Fund Div Hldg
Market Value: $702,604,132
1 Year: 4.94%
3 Years: 2.97%
Fund Name: CBRF Subaccount
Market Value: $512,371,173
1 Year: 9.26%
3 Years: 10.46%
5 Years: 8.02%]
Mr. Bader noted that the Alaska Permanent Fund transfers money
to the Division of Treasury after determining the earnings
available for distribution. Those funds are invested until they
are distributed through the Permanent Fund Dividend in October.
10:23:47 AM
Mr. Bader noted that the Constitutional Budget Reserve Fund
(CBRF) Subaccount was developed for long-term investments of
five years or more. The larger rate of return to this account is
due to the investment horizon and the ability to invest more
aggressively.
10:24:41 AM
Page 5
Retirement Fund Returns
10:24:47 AM
Page 6
September 30, 2006
One Year Cumulative Attribution Effects
[Table listing the following:
Asset Class: Domestic Equity
Effective Weight: 38%
Avg Trgt Weight: 36%
Actual Return: 9.71%
Target Return: 10.74%
Manager Effect: (0.39%)
Asset Allocation: (0.00%)
Asset Class: Domestic Fixed-Income
Effective Weight: 21%
Avg Trgt Weight: 23%
Actual Return: 4.31%
Target Return: 3.67%
Manager Effect: 0.14%
Asset Allocation: 0.19%
Asset Class: High Yield
Effective Weight: 2%
Avg Trgt Weight: 2%
Actual Return: 7.02%
Target Return: 7.90%
Manager Effect: (0.02%)
Asset Allocation: 0.01%
Asset Class: Real Estate
Effective Weight: 10%
Avg Trgt Weight: 9%
Actual Return: 18.31%
Target Return: 18.46%
Manager Effect: (0.01%)
Asset Allocation: 0.05%
Asset Class: International Equity
Effective Weight: 17%
Avg Trgt Weight: 15%
Actual Return: 20.75%
Target Return: 19.32%
Manager Effect: 0.26%
Asset Allocation: 0.24%
Asset Class: Int'l Fixed-Income
Effective Weight: 3%
Avg Trgt Weight: 2%
Actual Return: 1.62%
Target Return: 2.02%
Manager Effect: (0.02%)
Asset Allocation: (0.12%)
Asset Class: Private Equity
Effective Weight: 5%
Avg Trgt Weight: 6%
Actual Return: 18.44%
Target Return: 13.36%
Manager Effect: 0.26%
Asset Allocation: (0.02%)
Asset Class: Absolute Return
Effective Weight: 3%
Avg Trgt Weight: 3%
Actual Return: 7.65%
Target Return: 8.91%
Manager Effect: (0.03%)
Asset Allocation: 0.03%
Asset Class: Other
Effective Weight: 1%
Avg Trgt Weight: 3%
Actual Return: 12.30%
Target Return: 6.75%
Manager Effect: 0.04%
Asset Allocation: 0.13%
Total: 11.46% = 10.71% + 0.22% + 0.51%
A notation reads as follows: Current Quarter Target = 30.0%
S&P 500, 20.0% L/B Agg, 14.0% MSCI EAFE Index, 9.0% NCREIF
Total Index, 6.0% Russell 2000, 2.0% ML Hi Yld Cash Pay
Index, 2.0% Citi Non-US Gvt Bd Idx 2.0% MSCI Emer Markets
and 1.0% NAREIT Equity Index.]
Mr. Bader summarized the table and noted that the fund earned
11.46 percent for the year ending September 30, 2006 as the
result of a positive manager and positive asset allocation
effect.
10:26:28 AM
Page 7
September 30, 2006
CAI Public Sponsor Database
[Bar graph depicting return percentages of Last Year, Last
2 Years, Last 3 Years, Last 5 Years and Last 7 Years of the
CIA Public Fund Sponsor Database and the Total Fund.]
Mr. Bader commented that the Division's fund was in the top
eight percent of public pension funds during the "Last Year"
investment period. He noted "significant improvement" over the
past seven years, when the fund was in the 67th percentile.
10:27:34 AM
Page 8
Pension Funds
Cumulative Returns Actual vs Target.
[Line graph depicting the Cumulative Returns for the Total
Fund, the Total Fund Target, and the Actuarial Expected
Return for the years of 1991 to 2006.]
Mr. Bader informed that the Total Fund relates to the Public
Employee's Retirement System (PERS) and the Teachers' Retirement
System (TRS). While the two retirement funds are managed the
same, they have slightly different rates of returns due to
differing contributions. For the past 15 years, the funds have
had an average return of 9.01 percent, outperforming the
actuarial assumption.
10:29:00 AM
Co-Chair Stedman anticipated the Committee would spend a
substantial amount of time examining the State's retirement
systems.
Co-Chair Stedman warned Committee members to discern whether
numerical references were referring to gross or net amounts. He
would ask the Treasury to provide additional clarifying
information about their rates of return.
Co-Chair Stedman alleged that different liability charts "don't
match up," as he had identified a discrepancy of $8 to $10
billion.
10:30:37 AM
Senator Elton, referencing the investment overview on page 2 of
the Treasury handout, asked which category included the State's
Supplemental Benefits System (SBS) funds.
10:31:05 AM
Mr. Bader replied that SBS was included in the "Defined
contribution" category. It currently amounts to approximately
two billion dollars.
10:31:20 AM
Senator Elton inquired as to who sets the benchmarks.
10:31:32 AM
Mr. Bader responded that the benchmarks are set by the
Commissioner of the Department of Revenue each year before July
first and are typically based on other commonly accepted
financial benchmarks.
10:32:21 AM
Co-Chair Stedman interjected to note that the Committee would
further address the retirement system's administration and
function. The retirement board is managed somewhat differently
than other fields under the Division of Treasury.
10:33:03 AM
Senator Elton continued, asking if the benchmarks on page 3 of
the handout were "industry standard" for similar portfolios.
10:33:27 AM
Mr. Bader affirmed, noting that the State of Alaska is slightly
different than a money market fund in that the State allows one
additional month for investment than a money market fund.
10:34:10 AM
Co-Chair Stedman commented that the Permanent Fund Board, the
ARMB, and the Treasury Division would discuss the establishment
and function of benchmarks in more detail at a later date.
10:34:32 AM
Senator Huggins asked the function of the public school trust
fund.
10:34:46 AM
Mr. Bader informed that the account was established many years
ago and is used as a revenue source for the foundation funding
formula for public schools.
10:35:09 AM
Co-Chair Stedman added that the fund is "fed" every year.
Additional information, including a "tax book", was available to
Members for review in conjunction with the Revenue Source Book.
10:35:40 AM
Senator Thomas assumed diversification and revenue anticipation
would be reviewed in a subsequent Committee meeting.
10:36:07 AM
Co-Chair Stedman affirmed.
10:36:39 AM
Co-Chair Hoffman noted that the Power Cost Equalization (PCE)
endowment fund was listed at $180 million and asked when the
appropriation made to the fund the previous year would be
reflected in the fund balance.
10:37:07 AM
Mr. Bader was unsure, but would research the question.
10:37:29 AM
Co-Chair Stedman asked that Mr. Bader provide an estimate on the
"payout rate" of the trust and explain the management of those
assets.
ADJOURNMENT
Co-Chair Bert Stedman adjourned the meeting at 10:39:01 AM.
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