Legislature(2007 - 2008)BUTROVICH 205
03/29/2007 05:00 PM Senate RESOURCES
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| SB104 | |
| Adjourn |
* first hearing in first committee of referral
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= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | SB 104 | TELECONFERENCED | |
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ALASKA STATE LEGISLATURE
SENATE RESOURCES STANDING COMMITTEE
March 29, 2007
5:09 p.m.
MEMBERS PRESENT
Senator Charlie Huggins, Chair
Senator Bert Stedman, Vice Chair
Senator Lyda Green
Senator Gary Stevens
Senator Lesil McGuire
Senator Bill Wielechowski
Senator Thomas Wagoner
MEMBERS ABSENT
All members present
OTHER LEGISLATORS PRESENT
Senator Hollis French
Senator Joe Thomas
COMMITTEE CALENDAR
SENATE BILL NO. 104
"An Act relating to the Alaska Gasline Inducement Act;
establishing the Alaska Gasline Inducement Act matching
contribution fund; providing for an Alaska Gasline Inducement
Act coordinator; making conforming amendments; and providing for
an effective date."
HEARD AND HELD
PREVIOUS COMMITTEE ACTION
BILL: SB 104
SHORT TITLE: NATURAL GAS PIPELINE PROJECT
SPONSOR(s): RULES BY REQUEST OF THE GOVERNOR
03/05/07 (S) READ THE FIRST TIME - REFERRALS
03/05/07 (S) RES, JUD, FIN
03/14/07 (S) RES AT 3:30 PM BUTROVICH 205
03/14/07 (S) Heard & Held
03/14/07 (S) MINUTE(RES)
03/16/07 (S) RES AT 3:30 PM BUTROVICH 205
03/16/07 (S) Heard & Held
03/16/07 (S) MINUTE(RES)
03/19/07 (S) RES AT 3:30 PM BUTROVICH 205
03/19/07 (S) Heard & Held
03/19/07 (S) MINUTE(RES)
03/21/07 (S) RES AT 3:30 PM SENATE FINANCE 532
03/21/07 (S) Heard & Held
03/21/07 (S) MINUTE(RES)
03/21/07 (S) RES AT 5:30 PM SENATE FINANCE 532
03/21/07 (S) Heard & Held
03/21/07 (S) MINUTE(RES)
03/22/07 (S) RES AT 4:15 PM FAHRENKAMP 203
03/22/07 (S) Heard & Held
03/22/07 (S) MINUTE(RES)
03/23/07 (S) RES AT 1:30 PM BUTROVICH 205
03/23/07 (S) Heard & Held
03/23/07 (S) MINUTE(RES)
03/24/07 (S) RES AT 1:00 PM SENATE FINANCE 532
03/24/07 (S) Heard & Held
03/24/07 (S) MINUTE(RES)
03/24/07 (S) RES AT 3:00 PM SENATE FINANCE 532
03/24/07 (S) Heard & Held
03/24/07 (S) MINUTE(RES)
03/26/07 (S) RES AT 3:30 PM BUTROVICH 205
03/26/07 (S) Heard & Held
03/26/07 (S) MINUTE(RES)
03/27/07 (S) RES AT 3:00 PM BUTROVICH 205
03/27/07 (S) Heard & Held
03/27/07 (S) MINUTE(RES)
03/28/07 (S) RES AT 3:30 PM BUTROVICH 205
03/28/07 (S) Administration's Gas Team will be
03/29/07 (S) RES AT 5:00 PM BUTROVICH 205
WITNESS REGISTER
Kirk Morgan, President
Kern River Gas Transmission Co., Wholly-owned Subsidiary
MidAmerican Energy Holdings Co.
POSITION STATEMENT: Supported SB 104.
ACTION NARRATIVE
CHAIR CHARLIE HUGGINS called the Senate Resources Standing
Committee meeting to order at 5:09:31 PM. Present at the call to
order were Senator Wagoner, Senator Stevens, Senator Stedman,
Senator McGuire, Senator Green, Senator Wielechowski, and Chair
Huggins.
SB 104-NATURAL GAS PIPELINE PROJECT
5:09:53 PM
CHAIR HUGGINS announced the consideration of SB 104 and asked
Mr. Morgan to put himself on the record. He asked him if he also
speaks for MidAmerican.
5:11:18 PM
KIRK MORGAN, President, Kern River Gas Transmission Co., wholly-
owned subsidiary of MidAmerican Energy Holdings Co., said he
also speaks for MidAmerican. He said MidAmerican has $37 billion
in assets and an employee base of 18,000. Through Kern River and
its sister company, Northern Natural Gas, MidAmerican owns and
operates more than 17,500 miles of inter-state natural gas
transmission pipelines with combined capacity exceeding 6.4
bcf/d. MidAmerican's pipelines deliver approximately 8.3 percent
of the natural gas delivered in the United States. The Kern
River pipeline, which was built by MidAmerican in 1991, brings
natural gas from the Rocky Mountain supply basins across 926
mile of rugged mountainous and remote desert terrain to
customers in Utah, Nevada, and California. Kern River was the
largest gas pipeline project to have been built in the United
States in more than a decade.
MR. MORGAN said in 2003, Kern River expanded the pipeline more
than doubling its capacity - adding 717 miles of 36-inch and 42-
inch diameter pipeline. The $1.2 billion-project was completed
on time and $87 million under budget and helped restore
stability to energy markets in the western United States.
MidAmerican is a subsidiary of Berkshire Hathaway, Inc., which
is one of only a few companies in the world with an AAA credit
rating and has a market capitalization in excess of $160
billion. It is recognized worldwide for financial strength,
investment acumen and integrity. He said:
The development of Alaska's huge natural gas reserves
is essential to both Alaska and the United States.
Projected market growth combined with a decline in
North American production has created a growing
supply/demand imbalance that cannot be adequately
addressed by traditional gas supply basins, alone.
Alaska's natural gas is needed to help insure energy
security, reliability and price stability in the
United States. The Alaska natural gas pipeline project
is unprecedented in its scale and complexity. The
successful development of the project will require an
alignment of stakeholder interests including the State
of Alaska, the North Slope producers, future North
Slope explorers and producers, a pipeline developer,
shippers and the federal government. Projects of this
scale can easily be delayed and that has been the
history of this project. Only through proper planning,
organization and execution can the project achieve
its' goals to accelerate development of Alaska's
natural gas resources and transport gas to the Lower
48 markets at the lowest reasonable cost. To do
otherwise will relegate this project and development
of this resource to a reaction to the next energy
crisis where goals are frequently compromised in the
interests of expediency.
MidAmerican has a serious interest in developing this
project in a manner that is consistent with the State
of Alaska's interests. From our perspective, the
negotiations conducted by the previous administration
under the Stranded Gas Act were not fruitful for many
reasons. Foremost among these were that they produced
proposals not supported by the people of the state;
they failed to give serious consideration to
alternative proposals for development and they
consumed years without advancing the project.
We believe that AGIA is a positive step towards
revitalizing the gas pipeline development process in a
way that will move the project forward. The bill
allows consideration of competing proposals and ideas
for developing the pipeline and the state benefits
from such competition. The bill offers positive
inducements to those who have already discovered gas
to commit to the pipeline while defining tariff
provisions that will encourage new exploration. And
the bill offers inducements to a pipeline developer to
advance the project in a manner that the state defines
as in its best interest. Perhaps most importantly, the
bill establishes a process where each party that
proposes to develop the line must make meaningful
commitments to development milestones for the
legislature and the public to see what it will and
will not do and by what dates.
AGIA is a good first step. AGIA is an open transparent
and a competitive process designed to advance the
project on a delivered schedule and in a manner that
achieves the overarching goals of the state, which are
to: 1) encourage new exploration on the North Slope,
2) provide for expansion of the pipeline as new
reserves are brought into production, 3) to achieve
the lowest cost commercially reasonable tariff, 4) to
create jobs for Alaskans, and 5) to provide natural
gas to Alaskans for instate use.
AGIA recognizes the magnitude of the front-end
development risks and offers to share that risk in a
significant way by offering dollar-for-dollar matching
of initial development expenditures by offering worker
training for Alaskans and by committing to expedite
state permitting requirements. These, plus separate
inducements offered to resource owners are significant
commitments which signal to the marketplace that the
project is moving on a serious and credible path
towards completion. In the absence of such progress,
markets will have no alternative than to seek other
means to meet market demand.
The most significant alternative would be to allow
imported LNG even greater market access uncontested by
the development of Alaska's natural gas resources.
While LNG is certainly a necessary part of the natural
gas resource mix, it makes little policy sense to
unnecessarily increase our reliance on foreign energy
from many unstable and unpredictable regions around
the world. This project in MidAmerican's view is
undeniably necessary and the time is now to push it
forward. The key to moving the project forward is to
determine the appropriate balance of risks and rewards
for all stakeholders.
There is an alternate approach. The North Slope
producers have for years articulated their must-haves
before advancing the project. You have heard these
prerequisites before including 1) tax and royalty
certainty on gas and on oil, 2) regulatory certainty
in both the U.S. and Canada, 3) cost reductions
through technological advancements, and 4) federal
enabling legislation. This approach is effectively
saying that the project will get started if and when
all the preconditions have been met and all
concessions have been extracted. This approach has
proven to be ineffective in advancing the project.
MidAmerican's approach is different. We believe that
the project can be advanced concurrent with
resolutions of issues that today remain outstanding. I
want to emphasize that MidAmerican's view that
alignment of stakeholder interests is essential.
Parties will understandably act in their self interest
and in their own business interest. That is why
stakeholder alignment is critical to a successful
project. That alignment must clearly set forth the
roles and responsibilities of each party as well as
the commercial structure, which will balance the risks
and rewards such that investment expectations will be
known upfront.
Our approach does not exclude interested parties or
discount new ideas which may be offered to help manage
project risks. We know that if a pipeline is developed
by an independent developer, the North Slope producers
will play the critical role as shippers on the line
and sellers of gas to other shippers. MidAmerican is
an independent pipeline, is impartial and is a unique
position to help facilitate solutions when
stakeholders' interests diverge. We are confident that
an appropriate capital structure and rate design
coupled with our low-cost-of-capital and project
experience can result in a project structure with
appropriate allocations of risk and reward for all
stakeholders including the State of Alaska and the
producers.
5:20:43 PM
Indeed, MidAmerican believes that an independent
pipeline provides the best alignment of interests.
National energy policy promotes, in fact requires,
competition and unbundling of market segments. For
example, the market structure in the United States
typically requires that exploration and production,
interstate transportation, marketing, and distribution
be performed by separate companies. Competition, not
market concentration, will lead to efficient markets.
MidAmerican has no upstream, downstream, or global
commercial interests that will create any conflict of
interest or raise any type of market power concern
with respect to this project. Accordingly,
MidAmerican's interests align extremely well with the
State of Alaska and include: 1) accelerating
development of this critically important project,
2)achieving the lowest cost commercially reasonable
tariff, 3) offering a commercial structure that
encourages new exploration and production to both
expand and extend the life of the pipeline - 35 tcf,
the amount of proven reserves, implies only a 22-year
project life and new discoveries are critical to fill
the pipeline over its useful life, 4) providing open
access, nondiscriminatory transportation services to
insure both receipts and deliveries are provided for
instate use, and 5) insuring Alaskan jobs and
workforce development. The state's commitment to
workforce training and development is extremely
important. Skilled labor shortage is one of the
contributing factors in construction cost increases
throughout the industry. A skilled Alaskan workforce
will not only insure jobs for Alaskans, but will help
address an industry-side demand for these workers.
The process set forth in AGIA will allow these ideas,
and all parties' ideas and proposals, to be advanced
and tested in an open and transparent manner. We
support that process and while we can understand the
debate over what constitutes the best pipeline
development proposal, it's harder to understand why
parties would object to a process that calls for an
open and transparent comparison of proposals. We urge
the legislature to approve this legislation this
session so that a pipeline developer can be selected
in a timeframe that will allow for a productive 2008
field season for engineering and environmental
programs to be conducted.
5:23:39 PM
SENATOR WAGONER asked what kind of pipeline MidAmerican
envisioned building. Would it build to the Hub in Alberta or go
through to Chicago, for instance?
MR. MORGAN replied that when MidAmerican first came to Alaska
and had negotiations with the prior administration, its vision
was to build the Alaska segment working with TransCanada who
would build the Canadian segment - and it would end at Boundary
Lake, which is near the border of British Columbia and Alberta.
Getting the gas to a liquid trading point, the Acho Hub, is what
is required and would save the cost of building all the way to
Chicago.
He said that both western Canadian sedimentary basin production
and import capacity to the U.S. are declining primarily due to
the increase in gas in the tar sands area. Existing pipelines
going in multiple directions have excess capacity and gas could
flow either on TransCanada's system further east or on Northern
Border's; it could flow on Alliance or on the pre-build section
owned as Gas Transmission Northwest, but what used to be Pacific
Gas Transmission. This is an important point, he said, because
4.5 bcf of gas is a large amount to be integrated into the
market at one time. If it's all dumped into one spot like
Chicago, the price will collapse. Sending it in multiple
directions would keep the price of the new gas stable; therefore
the netback would be better.
He said that MidAmerican's proposal goes only to Alberta.
SENATOR WAGONER asked if MidAmerican would build a spur line to
Southcentral Alaska as part of its project or would that be a
separate item altogether.
MR. MORGAN replied that their proposal is focused on the
interstate pipeline and the spur line is considered as an
intrastate pipeline that may well be necessary. Part of their
proposal is to provide instate delivery points, as is required
by AGIA, and that could be one. But they do not envision
building that portion of the pipeline.
SENATOR WAGONER asked if TransCanada's permits are exclusive or
can other people receive permits to build a line through Canada.
MR. MORGAN replied that TransCanada owns those permits, which
were issued to Foothills, but they are transferable. They are
based on a body of environmental and engineering data, some of
which is public and some not. Likewise, some of the information
is stale and some not. He believes they are exclusive to
TransCanada and that is part of the reason for partnering with
them. The permits resolve a lot of the access issues along the
ANGTS route.
5:28:26 PM
SENATOR STEDMAN said the bill caps rolled in rates at 15 percent
and some have testified that the tariff would look like a J-
curve going from 4 bcf/d to 7 bcf/d. He asked if his firm had
done any modeling on that.
MR. MORGAN replied that it has done some preliminary modeling
assuming the initial size of the project is 4.3 bcf/d - 4.5
bcf/d. Their initial design would be expandable through
compression additions only up to about 5.9 bcf/d. Compression-
only expansions will generally be much cheaper and the rolled in
rate would be lower. Beyond that, you get into adding a second
pipeline or a loop and then it depends on what increments of
expansion they are looking at. They have not modeled expansions
beyond 6.5 bcf/d.
He stated that a tariff has a lot of elements and a lot of
things could drive rates higher or lower. As he mentioned, the
35 tcf of proven reserves has implied a 22-year life. Adding new
reserves extends the life and allows those costs to be amortized
over a longer period. This has been done on the Kern River
pipeline where shippers came in and then they elected to extend
the term of their contract by 5 or 10 years and the rates were
leveled and debt was refinanced. The depreciable life of those
assets was extended causing a 34 percent decrease in rates on
Kern River. He thought there was a lot of opportunity to design
rates that will produce a low cost commercially reasonable
tariff and they look forward to doing that.
He said that AGIA uses the initial recourse rate as a benchmark
that allows up to a 15-percent increase life-time cap, but he
thinks it frustrates the tariff design to base it only on
recourse rates. He said that negotiated rates are probably more
the norm in any large project. FERC policy on this has changed
over the years. It used to be a presumption that anything that
had only a 5-percent increase in overall system rates would
receive rolled in treatment; today the policy is no-subsidy. He
repeated that whatever cap is selected, it should be off any
rate, whether it's a recourse or a negotiated rate.
5:33:00 PM
CHAIR HUGGINS asked for an overview of the business model Kern
River used to build the pipeline from Wyoming to California
through Utah and Nevada.
MR. MORGAN replied that the original pipeline was built in 1991
and it was a producers' pipeline. It took natural gas, which
producers owned in Wyoming, which didn't have an outlet, and
transported it to the heavy oil fields in Bakersfield,
California. That gas was used to produce steam, which was
injected directly into the ground resulting in thermal-enhanced
oil recovery. The injected steam heated up the entire reservoir
and allowed what is very heavy crude oil, almost tar-like, to be
produced. That was the fundamental reason for building the
project.
As they've expanded in 2001, 2002 and 2003, the shipper mix has
changed. The 2003-expansion doubled the size of their system and
the market for it was entirely different. It became merchant-
generated.
CHAIR HUGGINS asked who built the pipeline to begin with.
MR. MORGAN answered that originally Kern River was a partnership
of the Williams Companies and Tenneco Companies. The Williams
Companies owns several transcontinental pipelines in this
country. Northwest Pipeline that serves the Pacific Northwest
does a lot of gathering and processing in the Rockies and the
Gulf. It owns 50 percent of the Gulf Stream pipeline that goes
into southeast Florida. It has some exploration and production,
as well; meaning it has various business segments.
CHAIR HUGGINS asked him where he started.
MR. MORGAN answered that he started with Northwest Alaskan when
this project was first proposed in 1978. This is his third turn
at trying to commercialize it. He said that Northwest Alaskan
was purchased along with Northwest Energy by the Williams
Companies in 1983. In 1985, the Kern River pipeline started
being developed. In 1996 the other 50 percent was acquired from
Tenneco and in 2002, MidAmerican Energy purchased the Kern River
pipeline from the Williams Companies.
CHAIR HUGGINS asked how the Kern River business model was
brought together.
MR. MORGAN replied that Kern River was just a green field
project that was created through the marketing efforts of both
Williams and Tenneco who were separately looking to develop a
project out of the Rocky Mountains. There was excess production
and not enough pipeline take-away capacity. He added that in the
Rocky Mountains, or anywhere for that matter, if production
exceeds take-away pipe, the price of that commodity goes way
down. So, in effect it was "pipeline constrained" out of the
Rocky Mountains.
CHAIR HUGGINS said that would be called stranded in Alaska. He
asked what the original tariff on the pipeline was.
MR. MORGAN replied about $.69 cents per/mcf (1000 cubic feet)
and probably $.67 cents per decatherm.
CHAIR HUGGINS asked what it is today.
MR. MORGAN answered that the 2001 and 2002 expansions were
rolled in and the 2003 expansion was priced incrementally.
Within each of those systems, they have 10-year rates and 15-
year rates. The differences in rates are maybe from $.33 to
$.58. The assets associated with a firm capacity position have
70 percent of their costs recovered over the term of the
contract. Their rate design is based on recovering the debt
portion of their investments - 70 percent - over the term of the
contract. Then the Period 2 rates are for the equity recovery
period, so those rates will step down significantly at the end
of the term of the contract.
CHAIR HUGGINS asked him to reflect back on that model to see if
it had any of the traits of AGIA.
MR. MORGAN AGIA replied that AGIA has a limitation on the
capital structure - 70 debt/30 equity. This is the same initial
capital structure they used on Kern River. But MidAmerican uses
a levelization model for its rates. He explained there are two
types of rate making. One is levelization and the other is
traditional rate making. Levelization is a process of averages,
so that rather than starting with the initial very high rate
base, you use the rate base over whatever the levelization
period is.
It allows the initial rate to be much lower and you do
that so you gain market entry with other competitors.
Generally, if you're competing in a competitive
market, old pipe meets new pipe. Old depreciated pipe
will generally have a lower rate. So we developed the
levelization rate methodologies so we could compete
into the California markets.
5:40:54 PM
CHAIR HUGGINS said AGIA has potentially $500 million available
for risk sharing and he asked what it was for Kern River.
MR. MORGAN replied that the risk sharing was between the
partners, Tenneco and Williams; the state did not contribute to
risk sharing in that instance.
CHAIR HUGGINS questioned whether the state was asked to share
the risk.
MR. MORGAN replied the closest thing to that was the Wyoming
Pipeline Authority that was formed at that time. It was given $1
billion worth of bonding authority and it offered to finance the
project using those bonds. At the time, the interest rate would
have been very favorable, but it ended up depending on how much
gas was sourced from Wyoming. He added that Kern River sources
gas from Utah, Colorado, and Wyoming and at that time it was
bringing gas from Canada also. So they elected not to go with
that state-sponsored financing.
CHAIR HUGGINS asked for his thoughts on the 15-percent roll in
provision in AGIA.
MR. MORGAN replied that is really a policy matter for the state.
The pipeline has an interest in assuring that the tariffs to the
Lower 48 are very competitive. There isn't enough proven gas and
new exploration must fill up the pipe so the life of the project
can be extended resulting in a better rate. They have an
interest to the extent that they keep the tariff low. Roll in
goes both ways - initially for the first 1 bcf/d of expansion,
it will produce a lower rate for all shippers and then it could
turn around. Expansion cases above 6.5 bcf/d haven't been
modeled. He added: "Roll in is the rule in Canada. That's what
all of their expansions do. That isn't necessarily the rule in
the Lower 48. It's a no-subsidy rule right now."
However, he said if their interest is to develop the overall
resource, having rolled in rates, even when they are going up,
produces a price signal that will encourage production. It will
not affect cost recovery for the pipeline; it affects the rates
the individual shippers will pay.
5:44:58 PM
CHAIR HUGGINS asked if MidAmerican had bumped up against the 10
percent factor in expansions in the Lower 48.
MR. MORGAN replied that the rate differential between their
lowest rate and their highest rate is more than 15 percent.
CHAIR HUGGINS asked when MidAmerican did expansions, did they
expand to the 15 percent. The reason he asks is because to date
the people he has talked to didn't see any scenarios in the near
term and mid term that 15 percent would even be a potential
factor.
MR. MORGAN responded that their first two expansions were
compression expansions and they were rolled in which produced
lower rates. Their looping project that doubled the size of the
system - 717 miles out of 926 miles were looped - are more than
15 percent higher. But he didn't know what they would have been
if they had been rolled in, because the FERC policy today is no
subsidy on an inclusive demand charge plus fuel rate. He said
that fuel is actually different on the expansion than on the
"vintage system."
5:47:01 PM
SENATOR STEDMAN asked if his firm had ever asked this
administration or the past one for any type of incentive like
the $500 million. Is it needed?
MR. MORGAN replied that they did not ask for the $500 million
incentive, although he thought it was a good idea. The state
would get a lot for its $500 million.
It gets to control the key elements of project
structure. It gets to accelerate the project; it gets
to have control of the project schedule and
development. It is a big deal to have a mandated
capital structure that will not exceed 30 percent
equity. Those are big deals, but it also signals to
the marketplace that the state is serious; it's taking
a risk. They're going to push this project forward and
the marketplace will hear that message. I think as far
as integrating the Alaska gas resources into the
market, that's an important deal. Because otherwise
markets will go somewhere else for their gas and right
now the only other choice is LNG.
We're entering - there is a raging political debate on
green house gases. It's pushing everybody to gas. The
gas market is - I mean they could go to nuke that
doesn't have any emissions. They could go to
renewables that just can't be developed with the scale
that's necessary. Coal is increasingly frowned upon.
California, frankly, has essentially outlawed coal in
its state. And gas is the way things are going. The
Lower 48 market needs more gas. Alaska can provide
that resource unless we just concede that market
opportunity or market growth to LNG - and it will fill
100 percent of that if that's allowed.
There's another thing about that - is LNG - once it's
there, it's scalable. It's a lot easier to add another
tank or another train than it is to initially site an
LNG plant and the incremental costs are lower than
what the costs will be to develop the Alaska pipeline.
So, we feel it's important to get going now.
5:49:48 PM
SENATOR STEDMAN asked how else the state could show commitment
to the project other than writing a check for $500 million.
MR. MORGAN replied that all the other commitments in AGIA are
also very important. It's very important to have a trained
Alaskan workforce. MidAmerican is committed to Alaska-hire and
even more committed if those workers are trained. He said he
flies welders in from Texas for their projects in Wyoming where
there is a shortage of welders right now.
He said that nobody can say definitively today whether this
project is economic or not. The last real cost estimate from the
bottom up was done in 2001 and since then factors have changed
like increased steel prices, devaluation of the U.S. dollar,
interest rates and inflation. The cost estimate for the
Mackenzie Valley pipeline just more than doubled.
He said MidAmerican's intuitive belief is that this project is
economic and that the floor gas prices in the Lower 48 have
permanently ticked up explaining that the cost of domestic
drilling is what really sets the floor price of gas in the Lower
48. About 50 bcf/d of gas is produced domestically and 10 bcf/d
is imported from Canada. The cost of recovering that next
traunch of production has gone up. If gas prices fall to $4,
people quit drilling because you can't drill for $4.
MidAmerican would present a view of what it thinks the long-term
price of natural gas will be in the Lower 48, what the cost of
developing this project will be and a tariff structure that
balances risks and rewards making sure they are commensurate
with the risk that is being taken.
Whether the taxes are high or whether the taxes are
low, the overall project feasibility, the economic
feasibility, will take that into account. But changing
the game midway through, bating and switching, giving
you low taxes for 10 years and then an unknown after
that - investor expectations are set when we make this
investment. I am not willing to accept, MidAmerican is
not willing to accept, you know, whatever return that
we propose in our application - we're not willing to
say you can change that after 10 years and knock 200
basis points off our return on equity. When we make
the investment, we want those expectations to be known
and to be durable.
I said in the Oil and Gas Committee, rather than tying
tax certainty to time - being 10 years, why don't you
tie it to the resource being committed. Maybe that's
15 tcf, maybe it's 25, maybe it's all 35 tcf. When
they commit that resource to the project, they're
looking for durability and investment certainty on
that. And changing that is a hard thing to do. So,
what can the state do to offer an incentive? That is
one thing.
SENATOR STEDMAN said the state is committed, but if it decides
not to write them a check for $500 million and tried to come up
with some other way to show commitment, he asked would everybody
just walk away. How can it show commitment other than writing a
check out of the tresury?
MR. MORGAN replied that he didn't know if the check would
influence MidAmerican's decision. It is willing to take a risk
to develop the project and they are looking for alignment with
the state and with producers.
"Having skin in the game is important to us," Mr. Morgan said.
When MidAmerican was up in 2003, it asked the state to be its
partner and was told no. They went out and got other partners -
CIRI, Pacific Star Enterprises and others. The $500 million does
a lot of things, he acknowledged. It gets project structure on
major elements that will lower the tariff no matter who is
selected; it gets an expedited schedule; it gets pipeline
investors, like MidAmerican, to the table to pursue a very risky
project, but it also all flows right through to the resource
owner in terms of a lower tariff. Back to his earlier answer
that MidAmerican didn't ask for the $500 million, but they do
think it is a good idea.
SENATOR STEDMAN asked him to explain how their risk level is
structured in the pipeline business going forward.
MR. MORGAN replied that there are a lot of areas of risk now. As
he mentioned earlier they don't know if the project is economic.
Their belief is based on intuition and they are willing to make
a bet with a substantial amount of money. Advancing the project
to a state where you can actually be market-responsive is smart.
They do that on their existing pipelines. He has 6 or 7
expansion scenarios on the shelf ready to go when the market
signals are there. So, all of the initial development dollars
are at risk. Ever since the Alaska Natural Gas Transportation
System (ANGTS) happened in the late 70s, that project had
capital cost overrun discipline formula in the tariff and he
fully expected that pipeline proposals would have a risk
component in its tariff. Supply risk needs to be looked at. They
hope to depreciate their facility over 35 years, but there isn't
35 years of gas. The risk of credit defaults is also
substantial. He said many people you wouldn't think would
default like PG&E, a shipper on the Kern River system that went
bankrupt and turned back a contract. Calpine, one of the largest
consumers of gas in the country, went bankrupt and it was a
shipper on Kern River.
SENATOR STEDMAN asked if the risk is linear or does it change.
5:59:55 PM
MR. MORGAN replied that the development risks up front are very
high, execution risk is very high. At some point after enough
operating history, things become more efficient and the risks
will go down.
SENATOR STEDMAN asked if it's fair to say the most risk is
between now and a binding open season.
MR. MORGAN replied that the risks will change, but the dollars
will change, too. Upfront development risk is risky - when the
project has spent maybe $500 million. When you get to project
execution expenditures might be $20 billion, a substantially
higher sum of dollars. So even if the risk is different, it is
on a much larger pot of dollars. When risk decreases there are
more dollars at stake. They need to keep the costs competitive
in the marketplace.
SENATOR STEDMAN asked if the state should allocate its $500
million to the end of the pipeline project instead of to the
beginning to help control risk.
MR. MORGAN answered that MidAmerican supports it being upfront
to jump-start the project because time is an extremely important
thing in terms of the net present value to the state.
SENATOR STEDMAN asked if the state were to help in getting them
to a binding open season, how much would it cost.
MR. MORGAN replied that an open season could be held tomorrow.
But people will have no more information than they have today
and that's not enough information to make a binding commitment.
So, lots of work has to be done to "shore up" what the costs of
this project will be. He didn't see a binding meaningful open
season until a couple of years of studies have been made that
validate costs and schedule. He commented that if a project is
not economic it will fail and separate provisions in AGIA deal
with an uneconomic project.
SENATOR STEDMAN rephrased that question to a nonbinding open
season.
MR. MORGAN answered that a nonbinding season doesn't tell you
much. A lot of people are like tire-kickers and just sign up
knowing it's nonbinding so they can stay involved and informed
on it. You aren't going to base any investment on people that
are just playing the game for some period of time.
In two years if they have demonstrated the project to be
economic, he rhetorically asked why the producers wouldn't
decide to make money by either selling gas at the wellhead or
shipping it. He has heard it suggested that the producers might
boycott the open season, but he has not heard any of the
producers say that. He hasn't heard them say they would withhold
gas and warehouse it either.
6:05:41 PM
SENATOR STEDMAN asked if he didn't have an estimate of getting
to an open season, could he come up some estimate so the state
has some way of figuring out how much capital to expense out.
MR. MORGAN replied the work commitment and the schedule of
spending are all in the application criteria. If MidAmerican is
selected, the first thing it would do is a gap analysis with
state resource agencies and FERC to determine what new work
needs to be done. Their engineers have to look at all the frost
heave test data, all the ice damming data, the bore hole data
that is in possession of TransCanada, seismic, et cetera. A
field work program would have to be put together for 2008 and
2009 to figure out what needs to be done. He apologized that
it's not easy to throw out a number.
6:08:56 PM
SENATOR WIELECHOWSKI asked if MidAmerican plans to put in an
application under AGIA and if it has partners in mind.
MR. MORGAN replied that MidAmerican is very interested in
submitting a proposal. They must see what how AGIA looks if the
legislature changes it. It doesn't answer every question. He
would want to see the request for applications and how
evaluation criterion is described.
One of the things he thinks should be an evaluation criteria has
to do with something that is less tangible, but identifiable. He
said he is often asked what MidAmerican brings to the table,
because it is not in Alaska all the time and doesn't have a
large operation here. And part of what it brings to the table is
what it doesn't bring - it has no conflicts. It has no up stream
or down stream or global commercial revenue streams. They think
being independent is important because they can be impartial and
help facilitate issues of risk/reward, balance between
stakeholders.
He explained when the President and the Congress went through
this same process of reviewing competing applications in 1976
and selected the Alaska Natural Gas Transition System (ANGTS),
producer-ownership was precluded in an anti-trust provision of
that bill. Producers were not allowed to have an ownership or
management control interest in this project, because the
Congress wanted competition. The market structure is moving to
being unbundled and not having vertically integrated market
concentration. So, MidAmerican thinks a lot of weight should be
given in the evaluation criteria to presence or absence of
conflicts and that concept could fall under the general term of
"alignment."
6:12:30 PM
SENATOR McGUIRE said she wanted to clarify that other pipeline
companies have told the legislature they would not be interested
in submitting an application if they are required to go all the
way to the FERC certificate. MidAmerican said it would be
interested and she wanted to know their thoughts on it.
MR. MORGAN replied that he has a couple of thoughts about that.
MidAmerican is willing to go past a failed open season, but it
would look seriously at the reason it failed. If it failed
because the project is uneconomic, another provision in AGIA
deals with that and that might be a legitimate reason to walk
away. If all the market and cost studies they have done show
that the project is economic, he couldn't think of a reason it
would fail. If the producers withhold their gas, it is
critically important to advance the project to certification.
AGIA has a period of time in which to sanction the project after
certification. They don't want to make it easy for producers to
boycott the project and then it's only MidAmerican's project
again. He honestly didn't think if the project is demonstrated
to be economic that the producers would withhold gas. If they
do, he didn't understand how they could stand the scrutiny of
the U.S. Congress, the Alaska Legislature, having to comply with
the lease covenants, shareholders and the public.
SENATOR McGUIRE said she heard that a MidAmerican subsidiary
owns about 4 percent of a steel company and that might be an
interesting thing to bring to the table.
MR. MORGAN replied that he didn't believe MidAmerican owns any
part of a steel company, but he wasn't completely knowledgeable
about the assets in the Berkshire Hathaway portfolio. He would
check.
6:16:10 PM
CHAIR HUGGINS said a neighbor commented: "If Warren Buffet
doesn't need tax breaks, why does he need $500 million?"
MR. MORGAN reiterated that MidAmerican didn't ask the state for
the $500 million commitment; the state is offering that to
achieve several of its own goals. Those goals include getting
the project started quickly, controlling the time and schedule
of the project, controlling the key commercial structural
issues, and it gets a two/for - it induces a pipeline developer
to move a risky project forward now, which is not happening
without it and two, it helps reduce the overall tariff.
CHAIR HUGGINS asked if the $500 million is a show stopper for
MidAmerican and if it isn't in AGIA, but it does include the
less tangible evaluation criteria, would MidAmerican still
apply.
MR. MORGAN apologized and said he just couldn't answer today,
but he stated that MidAmerican is interested in long-term
investment protection. When they tried to negotiate this project
before, the state didn't use a $500-million carrot. He
reiterated that the $500 million creates alignment that is
important to them and to the marketplace. It gives the project
much more credibility and further, he said "It will not be my
personal decision."
CHAIR HUGGINS asked what happens if there is a failed open
season and the state says this is an economic project.
MR. MORGAN AGIA replied that AGIA provides for that situation
with a third-party arbitrator.
CHAIR HUGGINS asked his thoughts if the arbitrator sides with
state.
MR. MORGAN replied that they would know a lot more facts by the
time they would have time to review them and make that decision.
CHAIR HUGGINS said it would be a tough situation to have to go
all the way through to FERC certification with a failed open
season. "It may be a tough swallow."
MR. MORGAN said he needed to study that point more.
6:22:07 PM
CHAIR HUGGINS asked if he saw anything in AGIA that would be
must-haves for MidAmerican.
MR. MORGAN replied that investment protection is a must-have. To
the extent they go down the road partnering with the state and
the state changes courses, there is a provision for treble
damages. That is long-term protection for them as well as the 5
years for project sanction. Alignment is very important as well
and he thought the $500 million commitment really helped align
the parties to make this happen and happen in the most
expeditious manner possible.
SENATOR WAGONER how fast MidAmerican could get to an open
season.
MR. MORGAN replied that having a meaningful binding open season
will require nailing down costs, schedule, and what the tariff
will be. He thought it could be done within the three-year
timeframe and possibly two. In their Stranded Gas Act
application, they were looking at two field seasons in six
months to accumulate a package that would be available to file
with the FERC. He added that holding an open season before
applying for FERC certification demonstrates market support for
your project. So, he thought it would take 2 to 3 years for a
meaningful one and surmised it could be done in one year, but
without defendable costs, he didn't know who would come to the
party.
6:26:07 PM
CHAIR HUGGINS asked him to explain his experience with utility
customers in the Lower 48 making pre-purchase agreements.
MR. MORGAN replied that his experience goes a long way back.
When ANGTS was passed, Northwest Alaskan (who he worked for) was
a consortium of 11 natural gas pipeline companies. They were
still bundled back in the 80s. Each one of those pipelines had a
merchant function - it had a captive customer market. Northwest
Energy had the Seattle, Portland, Boise markets. It bought gas
on behalf of its customers and passed it through to them. All
that changed with FERC Order 436 that unbundled the industry. It
separated merchant functions, separated exploration and
production, and made Northwestern transmission-only pipelines.
So, the marketing has become much more challenging.
MR. MORGAN said there was a gas bubble for a lot of years and
people became very short term focus. Everything was bought on a
monthly, yearly and five-year at the most basis. Nobody was
taking long-term commitments. The pendulum is starting to swing
the other way as the gas bubble is gone and supply is short.
The level of taxes - the project can adjust to, but
the volatility - it can't. So utility companies and
large users like Dow Chemical or some of the major
industrials, they want to take out the volatility. So,
they're looking more today at terming up contracts.
Nobody really likes to hold long-term firm contracts.
It's a pretty item to hang on your balance sheet. A
lot of utilities will hold firm capacity back to the
closest liquid trading point. You know, it's common
for them to hold gas to, you know, the Wyoming hubs,
for instance. We call it O-PAL. It's common for them
to hold firm capacity to, say, Acho in Alberta. It's
common for them to hold firm capacity into the Permian
Basin or into the Gulf. Holding firm capacity for a
utility all the way to the wellhead - that would be
another matter. It will require some pick and shovel
work to get that done. Marketers might, you know,
utilities, ummm, I don't know. For what reason?
6:30:02 PM
CHAIR HUGGINS asked if MidAmerican got the license based on what
he knows today could he go to the Lower 48 and get significant
financing based on a customer base - assuming a price of $35
billion for the project.
MR. MORGAN replied that he did not know that today, but he was
willing to bet a significant amount of money in doing the
development work that would show him what he needs to know to do
that.
6:30:45 PM
SENATOR STEDMAN went to page 2 where the bottom paragraph talks
about the separate inducements offered to resource owners. He
asked what inducements should be on the table.
MR. MORGAN explained that he assumed the royalty provisions of
timing and switching between royalty in-kind and royalty in-
value were valuable or they wouldn't be in AGIA. He was offering
the resource commitment as an alternative inducement for the tax
certainty piece. He reasoned that ten years of investment
certainty on this project is not that long and he thought there
might be other constitutional limitations that might be driving
that shorter period of time. Defining the certainty around a
quantity of gas rather than period of time could get around
that.
The separate inducements that he was talking about - the one
that induces both the midstream owner, pipeline owner, and the
resource owner is the $500 million, because it acts to lower the
tariff, which not only induces a pipeline developer to come to
the table, but it also flows through to the resource owners. The
$500 million is large and it's equity dollars. He suggested they
might have an allowance for funds used during construction
(AFUDC) component. It's actually a bigger benefit to the tariff
than just the $500 million.
His other point was that it's really the durability and
stability of the taxing regime that he thinks is important,
because no one knows today for certain that this project is
wildly economic, marginal or uneconomic. He didn't know how to
set the level that would provide inducements on taxes. What is
important is that investors know up front before they make the
commitments what the regime will be over the life of the
investment. What he would like the resource owners to be asked
to do is commit the entirely of their proven reserves. This is
just another way to try to avoid whatever constitutional issue
might be there.
SENATOR STEDMAN asked if this project is wildly in the money,
did he feel the chances the state would be leveraged for a lower
gas tax was slim to none.
MR. MORGAN replied that he can't make that absolute statement
now, because he didn't know that it was economic.
The only statement I'm making is we are willing to
invest upfront development dollars with the state to
prove that's the case. If I didn't think it were
economic, I wouldn't be up here. We intuitively
believe it is.
6:35:36 PM
CHAIR HUGGINS asked him wrap up so he could catch his plane.
MR. MORGAN thanked him for the invitation to appear here. If
other questions arise, he asked them to contact him.
CHAIR HUGGINS noted that Senators French and Thomas were
present.
There being nothing further to come before the committee, Chair
Huggins adjourned the hearing at 6:36:52 PM.
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