HB 223-NATURAL GAS PIPELINE INCENTIVE/ GAS TAX 9:01:58 AM CHAIR WEYHRAUCH announced that the first order of business would be HOUSE BILL NO. 223, "An Act levying a tax on certain known resources of natural gas, conditionally repealing the levy of that tax, and authorizing a credit for payments of that tax against amounts due under the oil and gas properties production (severance) tax if requirements relating to the sale and delivery of the natural gas are met; and providing for an effective date." 9:03:08 AM JACK GRIFFIN, Vice President, External Affairs, ConocoPhillips Alaska, Inc., said HB 223 is described by its sponsors as "creating an incentive for companies...to move forward on developing a North Slope gas project," and ConocoPhillips Alaska, Inc. (Conoco) has presented testimony in opposition before, so he does not want to repeat it. He said Conoco already possesses all the incentive necessary to move forward on a North Slope gas project, and has "taken every reasonable step within its power to do so." He added that the committee knows well that Conoco has reached an agreement with the state on the base fiscal and other terms necessary to move the project forward. He said an agreement was reached in principle on October 21, 2005, and Conoco has worked diligently to resolve technical and drafting issues. He stated that Conoco now has a deal with the state that it is willing to use as a basis to move forward. Since reaching that deal, Conoco and the state have been trying to negotiate a comprehensive agreement that includes the other major North Slope producers. MR. GRIFFIN said the agreement with the state is the culmination of a multi-year effort following a $125 million cost study in 2001 to move the gas project to the next phase of development. His company took a leadership role in seeking a reauthorization of the Stranded Gas Development Act, which has led directly to its contract with the state. Conoco took a leadership role, he opined, in several pieces of federal legislation to streamline the permitting process and lower the cost of debt on the project. "Obviously we have taken a leadership role in crafting and in finalizing an appropriate fiscal contract for development of North Slope gas." He said the company is ready and willing to move to the next phase. MR. GRIFFIN stated that the next step requires economies of scale that can't be met by his company alone. He told the committee that the governor said that the best and most efficient way to move forward is to conclude negotiations between the state and the three major North Slope producers. "We agree," he said. He added that HB 223 undermines the efforts by penalizing Conoco. "There is nothing ConocoPhillips can do to avoid imposition of HB 223's new tax, short of surrendering the billions of dollars we have already invested in the development at Prudhoe Bay." He said it has been suggested that the company can avoid this new tax by selling its gas, but he said that is not true. He said the tax is automatic and unavoidable. Supporters of the tax say it will be refunded if the North Slope producers move forward with the project, and he said that is misleading. The tax for his company will likely exceed $200 million per year over the next ten years, he stated. That money will not be refunded for 10 to 25 years from now, he said, with no allowance for the time value of money. That, coupled with a limit on deductions, ensures that the refunds will only be a fraction of the taxes that are actually paid, he said. He concluded that the bill is bad public policy and unfair, and there are a host of other issues that he has not addressed, including constitutional ones. 9:09:52 AM REPRESENTATIVE SAMUELS asked how the agreement works between the three companies and if it was possible for Conoco to move forward without its Prudhoe Bay partners. He noted that Mr. Griffin said that Conoco can't ship or sell gas. 9:10:37 AM MR. GRIFFIN said the unit agreement is a partnership for the development of the resources to ensure there isn't physical or economic waste of the resource within a given area. "Right now there are no clear provisions for allowing ConocoPhillips to move forward on its own. That is something that would have to be addressed if we ever got to that point. But clearly, as the governor stated, the best and most efficient way to move forward is to do so with the agreement of all of the major North Slope lease holders." 9:11:34 AM REPRESENTATIVE SAMUELS said that when gas comes up, Conoco re- injects it. He asked if one third [of the gas] belonged to Conoco and was enough gas to pay the tariff to build a pipeline, could the company take that gas and claim it to be theirs with BP and Exxon's gas remaining in the ground. 9:12:07 AM MR. GRIFFIN answered that it would be difficult but not impossible. He added that it would not be ideal for Conoco. 9:12:36 AM REPRESENTATIVE SEATON asked if Conoco was to sell its one-third share of gas, if there would be a cause of action between the other parties if doing so would reduce the flow of oil from Prudhoe Bay. He asked if the production agreement requires the production of gas, and if only one party is producing gas, which then reduces the amount of oil, would that be a violation of the agreement. 9:13:36 AM MR. GRIFFIN said, "I can't say it would be a violation; I think I could say that if one party to the North Slope unit agreement - or the Prudhoe Bay unit agreement and the Prudhoe Bay operating agreement - wanted to take its gas in kind without the participation of the other unit owners, we would most likely see the courts asked to resolve differences in interpretation of those agreements." 9:14:14 AM CHAIR WEYHRAUCH said he thinks that is a "yes." MR. SEATON said that oil companies have indicated that to him. He added, "Although it could legally be possible under gas, it would be legally very involved when you got into one owner taking part of the gas and that impact on the oil. And so I think we need to consider that as well." 9:14:52 AM REPRESENTATIVE SAMUELS said he believes the Alaska Oil and Gas Conservation Commission and the court system would have "a lot of issues with how much gas you can take off and how much goes back in also, so it would be complicated even further." 9:15:12 AM REPRESENTATIVE GRUENBERG asked, on the flip side, how Conoco prevents itself from being held up by one of the other parties who doesn't want to produce. 9:15:23 AM MR. GRIFFIN said that is exactly how he would characterize the negotiations under the Stranded Gas Development Act. "We're all trying to come together on a set of commercial terms that works for all of the major North Slope gas owners." He added that if the state, Conoco, BP and ExxonMobil Corporation "are not all holding hands," moving forward on a gas project will be difficult. 9:15:59 AM REPRESENTATIVE GRUENBERG said that is a new negotiation, but what he would like to know is what the agreement allows on an on-going basis. "Suppose one or more of you decides to cut down on the production, how does the one-of-you that wants to produce stop the others from just stopping that?" He said he knows they are all smart enough to have figured that out, and he would like to know how. 9:16:26 AM MR. GRIFFIN said, "Generally speaking, the working interest owners in a unit such as the Prudhoe Bay unit are going to be aligned in trying to maximize the production that can be derived economically from a unit like that." He added that there are complex agreements to govern the relationship between them. 9:17:03 AM REPRESENTATIVE GRUENBERG said, "So you have already pre-agreed to agree." 9:17:12 AM MR. GRIFFIN said, "Obviously we have agreements at Prudhoe Bay governing our relationship with the other working interest owners there, and we have come together for the purpose of maximizing the production and maximizing the value of the Prudhoe Bay oil and gas resource." CHAIR WEYHRAUCH asked, "And not in restraint of trade?" REPRESENTATIVE GRUENBERG asked if that agreement was in writing or just an oral understanding. 9:17:59 AM MR. GRIFFIN said it is written in the Prudhoe Bay Unit Agreement. 9:18:26 AM CHAIR WEYHRAUCH said the purpose of this bill is to develop Alaska's gas "to get those who are sitting on the gas to move forward on a gas pipeline. If we don't do that we're going to tax you. Once you develop it we will refund the tax." It is an incentive to move the gas to market to benefit Alaskans, so he asked why it is bad public policy. 9:19:07 AM MR. GRIFFIN said it is bad public policy because Conoco has all of the incentives necessary. "This bill reaches too broadly," he opined. The state has provided the right incentive by authorizing the administration to enter negotiations with the other major North Slope gas owners on a set of fiscal terms that will increase investor confidence and allow this project to move forward. Using a tax "as a weapon to force private parties to expend billions of dollars on the state's behalf without regard to whether the investment makes sense, and there is nothing in the bill that requires that the investment actually makes sense, is a novel and unprecedented use of a state taxing authority," he stated. 9:20:37 AM CHAIR WEYHRAUCH said, "The gas is used as part of the corporation's portfolio to show stockholders that the price of the stock is adequately valued because you are sitting on this large resource, and it is unfair to serve as a reserve for the benefit of the corporation just to show that on the bottom line." He added that it does Alaskans more good to have it developed. He said perhaps Conoco wouldn't be taxed because it is poised to go forward, but others should be taxed. 9:21:21 AM MR. GRIFFIN said there is no benefit to a corporation to sit on Prudhoe Bay gas. "You cannot count that gas as part of your reserves base for purposes of reporting to the Securities and Exchange Commission and to your shareholders and potential shareholders until you've authorized the development of the project necessary to move that gas to market." He said even if the bill is constitutional, it is unfair because it reaches those who are in agreement with the state and are motivated to move forward. 9:22:41 AM REPRESENTATIVE SEATON inferred that ExxonMobil Corporation, ConocoPhillips Alaska, Inc., and other owners of leases on the North Slope do not have any gas reserves listed in any of their holdings. 9:23:11 AM MR. GRIFFIN said he can't speak for any other company, but "our understanding" is that "until you authorize the expenditures necessary to make those reserves marketable, they don't become reserves for reporting purposes. They're known resources, but they're not reserves ... and that is what shareholders look at." 9:23:57 AM REPRESENTATIVE ROKEBERG asked Mr. Griffin to provide information on the constitutional issues he spoke of. He noted that former Governor Hickel said this tax was a form of punishment, and Representative Rokeberg finds it "grossly unfair," because it points a gun at the company when in fact it is doing everything to move forward to market. 9:25:18 AM MR. GRIFFIN said he agrees, and Conoco has done its utmost to work with the state, so it would be punishing a company for doing exactly what the state has requested. 9:26:16 AM REPRESENTATIVE ROKEBERG said that Mr. Griffin testified that this legislation would require Conoco to pay $2 million a year for 10 years. He asked if the company would stay in Alaska under those terms. 9:26:46 AM MR. GRIFFIN said that he doesn't see Conoco leaving the state as a consequence of this bill. "The state is too important," he said, and it would be disappointing and have an effect on how the company looks at future investments in the state. He said he considers the state a partner of Conoco. 9:27:41 AM REPRESENTATIVE ROKEBERG asked for Mr. Griffin's thoughts on former Governor Hickel's comment that the producers would not sell the gas to Yukon Pacific, and what Mr. Griffin thinks would have happened if the state had sold the gas to Yukon Pacific and how much the state would have lost. 9:28:24 AM REPRESENTATIVE GRUENBERG, regarding Mr. Griffin's comment that his shareholders would be disappointed with HB 223, asked whether the voters are shareholders too, "and don't you think they are disappointed when you don't produce?" 9:28:51 AM MR. GRIFFIN said his message is that Conoco wants to move forward with North Slope gas development in partnership with the state, which will be a decades-long partnership. He said there are members of the Alaskan public who reflect some disappointment, but his company is working very hard. He said to keep in context "where we've been and where we are today." When Prudhoe Bay was developed, natural gas prices did not support transportation infrastructure. "The state would be in a far, far poorer place today had we been foolish enough to build a gas project back then ... We would have lost not only the value of the gas for all Alaskans, we would have also lost the value of approximately three billion barrels of oil at Prudhoe Bay that we have been able to recover as a consequence of re- injecting that gas." 9:31:00 AM REPRESENTATIVE GRUENBERG said the legislature does not expect people to be clairvoyant, "but there is a reasonable expectation that if you enter into a lease, you will get a royalty as soon as possible, and it will be continuing. That's what any lessor requires." He wondered if it is fairly common to have a clause in a lease to require production and asked, "Isn't that pretty much of a standard elsewhere in the world?" 9:32:32 AM MR. GRIFFIN said he is unfamiliar with a clause or law like HB 223 anywhere in the world. North Slope leases do have term limits, which are extended if the leases are in a unit. "We are in compliance with all of the requirements of those leases." 9:33:33 AM REPRESENTATIVE WILSON said production of oil has been decreasing, and she asked what will production do without the gas being re-injected. 9:34:14 AM MR. GRIFFIN said the company uses water for pressure maintenance and enhanced oil recovery on the North Slope, but he said he can't give an estimate. 9:35:05 AM REPRESENTATIVE SEATON noted that Mr. Griffin said he is not aware of terms similar to the bill before the committee, and he asked if he was aware of any other contract provisions that seek the same goal of stimulating and ensuring production. 9:36:12 AM MR. GRIFFIN said every resource owner has an incentive to encourage leaseholders to produce as soon as practical. He said in other jurisdictions around the world there might be production-sharing agreements, which are analogous to the negotiation his company is involved with in the Stranded Gas Development Act. Most lease provisions include lease term limits in the event that they are not developed, he said. The Alaska project is truly unique, at least in the United States, he opined. 9:38:06 AM CHAIR WEYHRAUCH announced that HB 223 would be held over.