SB 129-AIDEA: FUNDS; LOANS; PROGRAMS; DIVIDEND  4:32:36 PM CHAIR GIESSEL announced consideration of SB 129. JOHN SPRINGSTEEN, Executive Director, Alaska Industrial Development and Export Authority (AIDEA), Anchorage, Alaska introduced himself. GENE THERRIAULT, staff, Alaska Industrial Development and Export Authority (AIDEA), Anchorage, Alaska, introduced himself. FRED PARADY, Deputy Commissioner, Department of Commerce, Community and Economic Development (DCCED), Anchorage, Alaska, introduced himself. MR. SPRINGSTEEN said the focus of SB 129 is adding tools to AIDEA to support oil and gas developers. This bill requests creating an Oil and Gas Infrastructure Development Program/Fund to support the oil and gas industry by making investments in supporting infrastructure to include roads, pads, gathering system, camps, and other facilities. This bill is not to make investments in wells and reservoir development. The infrastructure would provide support to increase oil and gas production, bring new fields on line, attract new investment, increase future state revenues, royalties and taxes, and support energy security for the state. 4:34:50 PM SENATOR WIELECHOWSKI said this is supporting the basic infrastructure that nobody else wants to do, because they don't get a return on it, and asked what kind of return AIDEA gets on a road, for instance, that they invest in. MR. SPRINGSTEEN answered that returns are deal by deal, but it ranges from 6 percent to 12 percent, or potentially more depending on what partner they are working with and what is on the other side. SENATOR WIELECHOWSKI asked why AIDEA would not invest in wells, for example. MR. SPRINGSTEEN answered there is "an expression of disinterest" by oil and gas developers for AIDEA to participate below the ground in the reservoir development. SENATOR WIELECHOWSKI said that didn't make sense to him, because that's where the money is, and asked why the state would want to take away its ability to make extraordinary rates of return. MR. SPRINGSTEEN answered that AIDEA provides a lot of support for industrial developments in the State of Alaska and has other vehicles for making those kinds of returns through royalty and tax revenue. SENATOR WIELECHOWSKI asked if he would object to an amendment that allowed AIDEA the ability to invest in those sorts of things. MR. SPRINGSTEEN answered that it's a measure of what risks AIDEA would engage in, what type of collateral is available for the project, and what type of partners they have on the financing side. There could be potential for that kind of participation, but generally it's been AIDEA's role to provide support for industrial development in Alaska rather than the actual development itself. The Red Dog Mine road to port, for example, is a partnership between the state and the Teck mining company, where they focus on the resource development, because they have specific expertise in it. AIDEA supports the infrastructure consisting of the road, the port system, and the warehousing system. 4:37:28 PM SENATOR MICCICHE asked if AIDEA has any commercial industrial loans with a variable rate based on profitability of the person/company holding the loan. MR. SPRINGSTEEN answered that AIDEA has entered into transactions where they finance a deal and adjust the rate considering the types of risks and collateral, but in deference to its 735,000 shareholders, they need to be conservative in their stewardship of the AIDEA funds. SENATOR MICCICHE said he specifically asked about a variable return rate based on profitability, which is a little different than risk. MR. SPRINGSTEEN replied that generally AIDEA enters into fixed rate loans, but in the case of the Red Dog Mine road and port facility, an annual assessment is part of the arrangement; there is also some participation in terms of a kicker for an uptick in zinc prices, for instance. It is gauged to the metrics of the particular industry rather than the profitability of the company, which is out of their control. SENATOR MICCICHE said he would like to learn more of whatever AIDEA can share about the difference between risk and profitability for the Red Dog arrangement. MR. SPRINGSTEEN responded that he will provide what is publically available and, under their confidentiality statute, they can provide additional information as long as he complies with the statute. 4:39:50 PM MR. SPRINGSTEEN said in his view, AIDEA has roughly 735,000 shareholders, the population of the State of Alaska, who are represented by the Alaska State Legislature, an institutional shareholder in the governor, a seven-member board appointed by the institutional shareholder, and the AIDEA staff managing the day-to-day business. AIDEA currently has three funds and two special appropriation projects. Today the majority of AIDEA's core day-to-day business of providing capital and partnering with industry to help drive the state's economic engines is done through its Revolving Loan Fund. He explained that the Revolving Loan Fund has investments across the state, which are relatively aligned with industry and commerce in the state. CHAIR GIESSEL said that Senator Micciche noted that he left the Kenai Peninsula off of his map of investments. SENATOR STOLTZE noted that was to ensure the fish could reach the Mat-Su area. MR. SPRINGSTEEN said he would adjust that. He said the Revolving Loan Fund has a diversified portfolio of investments and Alaska businesses and operates under the prudent investor rule. It has historically made select investments that support oil and gas development in the state: a loan for a drill rig in Cook Inlet with Blue Crest, road and pad construction on the North Slope, and a loan for a camp in Deadhorse. Additional investments by the Revolving Loan Fund in projects that support oil and gas development could outweigh what is currently a diversified portfolio. 4:41:39 PM SENATOR MICCICHE said he was unaware that AIDEA had invested in a car wash. MR. SPRINGSTEEN replied that there are multiple Alaska Laser Car Washes and many are in Anchorage; they participate through their loan participation program primarily. He said the oil and gas industry continues to be a crucial contributor to the state and for AIDEA to continue supporting it, it would be beneficial for it to have a separate tool and fund solely focused on supporting oil and gas development by making investments in infrastructure. Infrastructure investment means roads, camps, pads, processing facilities, gathering systems, and similar above-the-ground assets. Among the criteria AIDEA uses to qualify projects, the infrastructure investment must be for a field with proven reserves, because that serves as part of the collateral. He said the definition in the bill uses the Society for Petroleum Engineers definition. Representative Hawker and industry representatives want this definition aligned with Alaska statute and the SEC definition. 4:43:36 PM MR. SPRINGSTEEN said SB 129 has an opt-out provision in section 12. If a developer uses this program, he would opt out of certain tax credits going forward. He knew from conversations with industry representatives that they are resistant to this provision. However, use of the program would be at their option. SENATOR COSTELLO asked if that provision exists for companies that are accessing AIDEA loans in the diversified portfolio. MR. SPRINGSTEEN replied that it does not exist currently. SENATOR COSTELLO asked if there are federal guidelines dictating what a diversified portfolio has to look like. 4:45:12 PM MR. SPRINGSTEEN answered the fund is managed using conversations with their chief financial officer, ratings agencies and the board about maintaining a well-diversified portfolio following the prudent investor rule; it's not a strict federal guideline. CHAIR GIESSEL said he alluded to the "proven reserves" term and asked if it was correct that companies asked to use the state statute definition. MR. SPRINGSTEEN answered yes; they were asked to align with existing statutory definitions. CHAIR GIESSEL asked if they had not offered any amendment to the legislation in the other body. MR. SPRINGSTEEN said that is correct. He said that it's important for AIDEA to evaluate the risks of a project, itself, in terms of interest rates. Among these are: the operating performance of the field, the size of the field, projected costs and cash flow, capabilities of the operation, borrower credit worthiness, commitments by the owner and by financing partners who are backing the field development, their expectation of financial returns, collateral to be made available to AIDEA, and the benefit to the state, including tax and royalty revenue, and employment. CHAIR GIESSEL asked what capacity AIDEA has to evaluate the project itself under review for investment. MR. SPRINGSTEEN answered because AIDEA has a broad portfolio of investments throughout the state, it has some amount of limited expertise, but sometimes they call in specific technical expertise for reservoir evaluation and evaluation of the plans for development that don't exist within AIDEA. SENATOR COSTELLO said language on page 5, section 9, makes it sound like AIDEA can have different interest rates for each program, and his explanation made it sound like the entire fund would have a particular interest rate. She asked if there was a problem with the language. MR. SPRINGSTEEN responded that the interest rates are based on each particular project, but that language would be clarified. 4:48:39 PM He said language in the Sustainable Energy Transmission and Supply (SETS), the Arctic Infrastructure Development Program/Fund and the oil and gas infrastructure programs allow investment of up to 50 percent or guarantee of a loan up to $25 million for an eligible project. The SETS and Arctic Infrastructure current limits are 33 percent or $20 million with legislature approval for amounts above that. He handed the presentation over to Mr. Therriault to do a sectional analysis. 4:49:13 PM MR. THERRIAULT said the real meat of the bill in setting up the new fund is in section 12. Sections 1-3 add the new fund to AIDEA's existing suite of funds with respect to calculation of the dividend to the state. Sections 4-9 also add the new fund into the sections of statute that talk about the interest that is to be charged for the different programs. Sections 4-8 are all existing statutory language. Section 9 is where specific language is added to give AIDEA the flexibility through regulations to set interest rates reflecting the risk on the particular project they are being asked to invest in. 4:50:54 PM CHAIR GIESSEL noted that the Working Group spoke with ING and Bank of America last summer, and that is something they take into account as well. MR. THERRIAULT said sections 10-11 propose to adjust existing limits for SETS and the Arctic development Program/Fund. Right now the limits are for projects above 33 percent participation or a loan guarantee above $20 million. For the new fund they are proposing a limit of up to 50 percent or a loan guarantee of up to $25 million. AIDEA thinks there is some benefit to having consistent limitations across the different investment tools just for ease in understanding where the limits are. However, this is a separate policy call for the legislature to make. Section 12 establishes the new fund. The statutory framework follows along with the framework that was used when the legislature established the SETS Fund and the Arctic Infrastructure Development Program/Fund. A provision specific to this fund is the requirement that a project proposer would have to select between using this loan mechanism and continuing to access oil and gas credits. That is also spelled out in this section. Section 13 provides definitions. Fleshing out the definition of "proven reserve" is one of the things they anticipate doing by taking proposed language back to the House Resources Committee. He explained that a concern with the SEC definition of "proven reserves" is that it looks at the previous 12-year price for commodities. Some House members also want to look forward at what the anticipated price is going to be, if in fact the reserves are going to be used as part of the collateral for the loan. The final portion of section 13 says the definition of oil and gas infrastructure is surface infrastructure and for proven reserves. That is the end of the bill. 4:55:03 PM CHAIR GIESSEL found no questions on the sectional analysis. MR. SPRINGSTEEN said AIDEA performs its due diligence process prior to investment. These include technical due-diligence, reviewing the field and reserves, the operator, the development plan, what type of infrastructure is being requested to support the developments, financial due diligence, which includes a look at credit worthiness, commitments, collateral, project economics, and financial stress testing. Equally important are benefits to the state for job creation and revenue. In addition to AIDEA staff, they hire financial and technical experts and the AIDEA board makes the final investment decision. He explained the four phases of their decision-making process: 1. Suitability assessment for alignment with AIDEA's mission 2. Project feasibility analysis 3. Structuring a deal and performing detailed due diligence for the project. 4. Finalizing closing agreements and contracts. 4:56:28 PM In terms of financing repayment generally, Mr. Springsteen said, upon the establishment of the fund, AIDEA makes investments based on market rates to reflect project risk and benefits to the state. Loans are repaid with interest and AIDEA pays a dividend to the state. He walked them through AIDEA's general framework for best-fit products (slide 15). On the bottom axis was the project stage going from concept to development to construction to operation. The left axis is risk and cost of capital (which generally run together). The curve represents the idea that as one moves through the different project stages, the risk is being reduced, so one should be eligible for less expensive sources of capital. The line on the top bar represents early stage projects (generally equity heavy) and late stage projects (can accommodate more debt). The orange boxes on the curve delineate the different types of capital available at different stages of the project. In the concept stage there is seed capital, which can take the form of grants or equity. Then as a project is de-risked, it becomes available for venture finance, which is still very expensive, but for projects going through concept to development maybe less expensive than the initial equity. Further down in the construction stage a project may be eligible for a private equity investment and, as it moves through the process, be eligible for longer term construction loans and long-term debt and bonds, which can be less expensive. The big blue box illustrates what AIDEA looks for in a best fit project near the construction stage. So, generally these six factors are: operation experience, capital contribution (stuff that has been done previously), final design (plans and specifications), complete permits, signed purchase agreements, and signed sales agreements. It's generally much easier for developers with signed sales agreements to raise capital, because they have a destination for a product as opposed to an "if you build it they will come" type of approach. 4:59:07 PM In summary, Mr. Springsteen said, this bill will support a specific program in AIDEA to finance oil and gas infrastructure. The fields for which infrastructure would be built must have proven reserves and meet AIDEA's criteria based on its due diligence process. Finance terms would be market-based considering the project risks, commitments, and benefits to the state. He said that AIDEA originally submitted a zero fiscal note saying it would absorb program costs with existing resources, but they understand the legislature is considering HB 247 and SB 130, which if approved, would direct $200 million to this program. The board believes that the program in and of itself is valuable, but any capitalization would just make it more effective. CHAIR GIESSEL, referring to slide 15, asked if oil companies have signed sales agreements. MR. SPRINGSTEEN answered that would be one of the first things that AIDEA would look at for other industries and developers. It's less of an issue in this circumstance with a commodity market able to sell at ANS West Coast price or some similar price. Slide 15 illustrated the general framework for vetting of all projects. SENATOR MICCICHE said when one thinks about overall state risk, he wondered with the two bill numbers right next to each other, why SB 129 wasn't a piece of SB 130. Because SB 129 risks the legislature encumbering the state with another $200 million, but not touch credits. Did they consider that as another risk to the state, because he does? MR. SPRINGSTEEN answered, on behalf of the board, that there is an interest in having this be a separate program, because of the increasing balance and diversification issues in their Revolving Loan Fund. Having this program move forward was an important step for the Authority, the funding being a separate question. SENATOR MICCICHE asked if AIDEA has the ability to do everything in this bill without the carrot on page 8, lines 15-22 (Section 12), and why, because it would have been a simpler bill to move this section into SB 130. He was trying to understand the strategy. 5:02:38 PM FRED PARADY, Deputy Commissioner, Department of Commerce, Community and Economic Development (DCCED), Juneau, Alaska, said he serves on AIDEA's board, and explained that the package of bills arose out of board direction. AIDEA monitors what is in slide 4 in the context of diversification of their portfolio. The basic premise is that with oil and gas risk tipping up over 14 percent, it's become the dominant factor in their diversification. The block for mining, which represented 20 percent of the fund, is almost exclusively the Red Dog Project, which is a maturing concern, and does not pose the same risk profile. The idea was to create a separate fund so the risk could be separate and not have it overwhelm the Revolving Loan Fund. MR. SPRINGSTEEN added that the Revolving Loan Fund supports some other very important programs for the state including their Commercial Finance Program, where they engage in loan participations. A federal credit union or a commercial bank works directly with borrowers and AIDEA can provide very cost effective financing for up to 90 percent of a loan. SENATOR MICCICHE said he didn't want to remotely sound confrontational, but the percentage of total existing, approved capacity projects has several sectors in the 10-11 percent range. MR. PARADY said looking forward, and seeing the turmoil in the oil and gas industry, and the kind of projects coming in the door for evaluation, this sector appears to be significant to the board. AIDEA has already been working with Brooks Range Petroleum on the Mustang Project, and BlueCrest Energy on the Cosmopolitan Project. AIDEA has already been involved in this sector. The opportunity is significant, as well, but they don't want to unbalance the basic composition of the Revolving Loan Fund. SENATOR MICCICHE said he didn't have a problem with the concept, but he worries that with AIDEA some things have gone good and some things have gone bad. It's the nature of the business. He is trying to understand the focus and worries about the state's additional exposure. CHAIR GIESSEL said the fiscal note is dated April 1, and the last sentence is, "Capitalization of the fund is contingent on the passage of SB 130 or HB 247." She said the $200 million was not in a fiscal note before and asked if the $200 million is still in the other two bills. MR. SPRINGSTEEN answered yes. 5:07:03 PM CHAIR GIESSEL asked if they could pull $200 million from SB 130 because it's actually in SB 129. MR. THERRIAULT explained that the original fiscal note that came with the bill from AIDEA was zero, because it was just setting up the mechanism and they know AIDEA can absorb all of that cost, because it has been through the process twice with SETS and the Arctic Fund. The modified fiscal note was to acknowledge that there was this other legislation out there, plus a proposed budget amendment that would actually appropriate money into the fund. But that appropriation is clearly a separate policy call. This new updated fiscal note acknowledges that the cost of setting up the fund is still zero, but through other action the legislature takes, money may be put into the fund. AIDEA believes there is value to the creation of the fund, itself. If money is put into the fund it becomes a more valuable tool. SENATOR COGHILL asked if the 50 percent in sections 10 and 11 is for all three funds and if there had been pressure to go from one-third to 50 percent in the other funds and it there is an actual project out there looking for 50 percent participation. 5:09:04 PM MR. SPRINGSTEEN answered the conversations are for AIDEA to be an equal partner rather than a minority partner in program development, whether it's Arctic infrastructure, SETS, or oil and gas infrastructure development. SENATOR WIELECHOWSKI said the bill mentions Arctic development and asked how "Arctic" is defined. MR. SPRINGSTEEN answered that it runs along the Yukon and down to the Aleutian Chain roughly. It is a line through the middle of the state. However, a provision under the Arctic Infrastructure Development Program/Fund supports financing of port developments in south Alaska that support Arctic development. 5:10:33 PM SENATOR WIELECHOWSKI asked if he means all of Alaska. MR. SPRINGSTEEN answered "sort-of." CHAIR GIESSEL said it sounds like the federal Arctic Policy Commission definition of the Arctic is being used, but somewhere something is written down that it includes the reach of infrastructure outside of that defined Arctic area. MR. SPRINGSTEEN said yes. The idea that ports are not necessarily independent of each other that there is cooperation between the different types of facilities that ultimately ports in Southeast Alaska are beneficial and can support the Arctic area. CHAIR GIESSEL added that Seward was an example of an industrial port and Vigor operates a shipyard in Ketchikan. 5:11:50 PM SENATOR MICCICHE said he needed to go to another meeting and wanted to make a final statement. He worries about what the executive director of the Alaska Municipal Bond Bank told them at the last Finance Committee meeting: that Alaska's bonding capacity is maxed out. He worries about being further encumbered with the current $4.1 billion problem they are dealing with and has become extremely conservative on creating new funds. However, he would keep an open mind. MR. SPRINGSTEEN mentioned that AIDEA has a long history of issuing conduit revenue bonds where AIDEA is named as the issuer, but the bonds themselves are backed solely by the project revenue. Those were the first tools used by AIDEA before it had an account of its own. AIDEA's Revolving Loan Fund is separate from the state and it has maintained its AA-plus bond rating, a fact that was recently affirmed by Standard and Poor's. SENATOR MICCICHE thanked him for the explanation and said he was more worried about the initial fund capitalization. 5:13:33 PM SENATOR COGHILL said Alaska would be doing oil and gas development for a long while, but he struggles with the reach into SB 130 and asked about industry's perspective. MR. SPRINGSTEEN answered there was resistance from industry representatives to not being eligible for tax credits going forward if the AIDEA program was utilized. SENATOR WIELECHOWSKI said he sees that AIDEA gets two things out of this investment: the return on the investment, which is 6 to 12 percent, but also potential jobs being created and new oil. He asked if Mr. Springsteen had some sort of analysis on how much other benefits the state has accrued from AIDEA's investments and a forward-looking forecast. MR. SPRINGSTEEN responded that they do track jobs that come along with AIDEA funding as well as the returns it receives. They have not performed an analysis of additional taxes and royalties, but they could do that. SENATOR WIELECHOWSKI said the sooner he could get that information the more helpful it would be to his case. MR. THERRIAULT added that he will supply a definition of "Arctic." He clarified that SB 129 sets up the fund. The fiscal note acknowledges a proposal to put money into it, but passage of this legislation by itself doesn't endow it with the $200 million. That is contingent on other policy calls. SENATOR COSTELLO followed up on her earlier question about using the "program" in section 5, because the SETS Fund and the Arctic Fund are referred to in statute as "the AIDEA programs," and said she found that "program" was used correctly.