HOUSE FINANCE COMMITTEE MAY 1, 1996 8:45 A.M. TAPE HFC 96 - 152, Side 1, #000 - end. TAPE HFC 96 - 152, Side 2, #000 - #171. CALL TO ORDER Co-Chair Mark Hanley called the House Finance Committee meeting to order at 8:45 A.M. PRESENT Co-Chair Hanley Representative Martin Co-Chair Foster Representative Mulder Representative Brown Representative Navarre Representative Grussendorf Representative Parnell Representative Kelly Representative Therriault Representative Kohring ALSO PRESENT Annette Kreitzer, Staff, Senator Loren Leman; Kenneth Boyd, Director, Division of Oil and Gas, Department of Natural Resources, Anchorage; Patrick Coughlin, Deputy Director, Division of Oil and Gas, Department of Natural Resources, Anchorage. SUMMARY SCR 23 Relating to long range financial planning. SCR 23 was rescheduled for hearing at a later date. SB 112 An Act establishing a discovery royalty credit for the lessees of state land drilling exploratory wells and making the first discovery of oil or gas in commercial quantities. HCS CS SB 112 (FIN) was reported out of Committee with a "do pass" recommendation and with fiscal notes by the Department of Revenue dated 3/29/96 and the Department of Natural Resources dated 3/25/96. SB 98 An Act making changes related to the aid to families with dependent children program, the Medicaid program, the general relief assistance program, and the adult public assistance program; 1 directing the Department of Health and Social Services to apply to the federal government for waivers to implement the changes where necessary; relating to eligibility for permanent fund dividends of certain individuals who receive state assistance, to notice requirements applicable to the dividend program; and providing for an effective date. SB 98 was rescheduled for a hearing at a latter date. SB 89 An Act relating to the members of the board and staff of the Alaska Permanent Fund Corporation. SB 89 was rescheduled for a hearing at a latter date. SB 289 An Act relating to runaway minors and their families or legal custodians. SB 289 was rescheduled for a hearing at a latter date. SENATE BILL 112 "An Act establishing a discovery royalty credit for the lessees of state land drilling exploratory wells and making the first discovery of oil or gas in commercial quantities." ANNETTE KREITZER, STAFF, SENATOR LOREN LEMAN, testified in support of SB 112. She noted that SB 112 had been introduced by the Senate Resources Committee, which would return language to where the law had been when it was repealed in 1969; recognizing that terms such as "in commercial quantities", "geologic structure" and "first discovery" would have to be discussed. Ms. Kreitzer indicated that vague terms resulted in litigation over previous discovery royalty programs. The Senate Resources Committee worked closely with the Department of Natural Resources (DNR) and industry to write legislation which narrows the opportunity for litigation over who could be awarded a discovery royalty under current proposal. The new program would reward the first person to drill a well, resulting in a new discovery. That person must also complete the well, resulting in production. Ms. Kreitzer continued that the discovery royalty provision was available to all Cook Inlet Sedimentary Basin future leases and to 2 non-producing, non-unitized leases entered into before the effective date of the act. She summarized that it is the sponsor's intent that the legislation encourage new activity in the Cook Inlet region. Ms. Kreitzer provided a sectional analysis of the proposed legislation. Representative Martin referenced a letter from Mayor Gilman, Kenai, regarding the retroactive section. [Copy on file]. Mr. Kreitzer replied that Page 4, Lines 17 - 24 addressed the retroactive concern. If a lease currently exists and until the time the regulations are promulgated, 180 days after the effective date of the act, a party would then be eligible to apply for discovery royalty. KENNETH BOYD, DIRECTOR, DIVISION OF OIL AND GAS, DEPARTMENT OF NATURAL RESOURCES (DNR), added, if a person had a pre- existing lease which was not working or producing, they would retroactively be permitted to pick up the discovery royalty provision. The Department supports a prospective discovery lease program. In response to Representative Martin's query, Ms. Kreitzer stated that the terms "geologic structure" or "first discovery" do not occur in the bill. That language created litigation concerns in other legislation. Mr. Boyd continued, the Department has worked to more clearly define the regulations within the legislation. Discovery royalty had been in Alaska since statehood in 1959, and was then repealed in 1969. At that time, the big lease sale around Prudoe Bay was "coming up". The regulations were repealed in 1979. Regardless, there existed a discovery royalty in Alaska for 10 years. He questioned if the State, after 40 years, really wanted to bring back the program. Mr. Boyd commented that very few companies support the bill. The bill will apply to existing leases. He suggested that if the Committee intends to pass the legislation, it should be made "prospective". That way the bill would not capture any upside potential. Mr. Boyd advised that 180 days to draft regulations was not reasonable. The repealed regulations could be resurrected to provide a basic outline. The regulations could not be drafted in less than one year. A law without regulations could place litigation concerns before the State. Mr. Boyd concluded, speaking briefly to the timing of the bill. The "ten year clock" should begin as soon as possible to receive discovery, although, the actual certification would be 3 placed later. Representative Brown agreed with Mr. Boyd's suggestions. She asked if a "force majeure" provision would affect the concern. Mr. Boyd thought it would not. Representative Brown understood that condition would provide people incentive to begin production earlier. Representative Brown questioned the effect of the proposed incentive versus other exploration incentive credits. She believed that the benefit would be delayed. Ms. Kreitzer replied that the Committee had considered other credits, pointing out that discovery royalty had been considered two other times. In the fall of 1994, Senator Leman asked big oil companies for suggestions which the Legislature could implement to address the overall picture. "Discovery royalty" was the predominate request. Representative Brown stated that the proposed legislation appeared to be a mandatory retroactive application and would not be a beneficial tool to the Department of Natural Resources. She continued, a general principle is that the Legislature should not retroactively amend contracts by changing material terms in the contracts which were made competitively. The legislation would violate that legal principle. Representative Brown asked if the bills sponsor was receptive to making the bill prospective. Ms. Kreitzer responded that the Senate Resources Committee debated that issue, deciding to make it retroactive to only those leases that are not producing. It was a deliberate decision to include that language. Representative Brown asked for a description of litigation the State has been involved in regarding the proposed issue. PATRICK COUGHLIN, DEPUTY DIRECTOR, DIVISION OF OIL AND GAS, DEPARTMENT OF NATURAL RESOURCES, spoke to the cases he was familiar with. The first was a Pan American case in the early 1960's. The issue of concern with that case was determining the meaning of "commercial quantities" which had been defined by regulation. Although, the regulation was not in effect at the time of discovery. There was substantial disagreement between the two companies as to the meaning. The director issued a decision, which the court affirmed, explaining that the issue was a "competition" between two companies. The issue was separate from the concern the State had with Conoco. Here again, commercial quantities was the issue. That situation resulted because Conoco had been the first to discover the quantities referred to as the Shradder Bluff. Their claim was made, even though, there were 87 previous 4 wells which had penetrated that formation. There was no risk in the exploratory drilling. That case was appealed to the commissioner, and was then appealed to the superior court. Representative Brown proposed a hypothetical situation of drilling, which would result in a pool at another location. She asked if that would be considered a discovery royalty. Mr. Boyd stated it probably would, depending on the definition of the word "pool". A pool means something that is structurally distinct from a neighboring entity. The fault would separate it structurally, making it a separate pool. Ms. Kreitzer commented that the Senate Resources Committee had considered that concept in their final decision. Representative Brown MOVED to adopt Amendment #1 which would remove language on Page 5. [Copy on file]. There being NO OBJECTION, it was so ordered. Representative Brown MOVED to adopt Amendment #2 which would remove the retroactive issue. [Copy on file]. Ms. Kreitzer noted that the Senate Resource Committee deliberately placed that language in the legislation and would not support the amendment. Representative Therriault OBJECTED. A roll call was taken on the MOTION. IN FAVOR: Navarre, Brown, Martin. OPPOSED: Parnell, Therriault, Kelly, Kohring, Foster. Representatives Grussendorf, Mulder and Hanley were not present for the vote. The MOTION FAILED (3-5). Representative Brown MOVED to adopt Amendment #3. [Copy on file]. The amendment would provide the Department a year to draft the regulations. She pointed out that the Division's budget was being cut substantially this fiscal year and that there had been other complex programs linked to further add responsibilities to that Division. Ms. Kreitzer replied that the Senate Resources Committee felt that because regulations had been created in the past, the Department would not be beginning from scratch. Representative Navarre countered that the regulations had been repealed in 1979. He asked if the Senate Resources Committee had gone through the litigation to predetermine if 5 the regulations should be redrafted. Ms. Kreitzer noted that the Department had advised the Committee of the previous litigation. Mr. Boyd pointed out that the Division's budget had been reduced by $50 thousand dollars, which would affect the pre- sale position, those employees who create regulations. Representative Brown added, there had been a substantial reduction to the Civil Division within the Department of Law. That Division is responsible for addressing review of the regulations. Representative Martin believed that one year would be too much time. Representative Navarre MOVED to adopt a "friendly" amendment to Amendment #3, changing one year to 270 days, which would be a compromise between the legislation and Amendment #3. (Tape Change, HFC 96-152, Side 2). There being NO OBJECTION, it was adopted. Representative Parnell OBJECTED to Amendment #3 as amended. A roll call was taken on the MOTION. IN FAVOR: Brown, Navarre. OPPOSED: Parnell, Kelly, Kohring, Foster. Representatives Therriault, Grussendorf, Mulder and Hanley were not present for the vote. The MOTION FAILED (2-5). Representative Brown questioned the effect if the regulations were not in place when the legislation went into effect. Mr. Boyd replied that the law would go into effect without regulations. Representative Kelly MOVED to report HCS CS SB 112 (FIN) out of Committee with individual recommendations and with the accompanying fiscal notes. Representative Kohring voiced support for the legislation and surprise that the Department opposed the legislation. He reiterated that SB 112 was a "good" piece of legislation. Representative Navarre MOVED an amendment. Representative Kelly WITHDREW the MOTION to move the bill from Committee. Representative Navarre MOVED a change to Page 2, Line 11, deleting "completion of the" and "well in", and inserting "of". The same change would occur on Page 4, Lines 8 & 9. Mr. Boyd stated that it was a technical amendment. Ms. 6 Kreitzer agreed with the proposed amendment, noting that it had been a change made in House Resources Committee. There being NO OBJECTION, the amendment was adopted. Representative Brown MOVED a technical amendment to Page 2, Lines 8 & 9, deleting "as that term is defined in AS 38.05.180(f)(4)". Ms. Kreitzer agreed. There being NO OBJECTION, the change was adopted. Representative Kelly MOVED to report HCS CS SB 112 (FIN) out of Committee with individual recommendations and the accompanying fiscal notes. There being NO OBJECTION, it was so ordered. HCS CS SB 1120 (FIN) was reported out of Committee with a "do pass" recommendation and with fiscal notes by the Department of Revenue dated 3/29/96 and the Department of Natural Resources dated 3/25/96. ADJOURNMENT The meeting adjourned at 9:30 A.M. 7