Alaska Gov. Sean Parnell says the state must eliminate billions of dollars in tax credits paid to oil companies because the incentives aren't leading to new production, yet his administration has provided little evidence to support his claim.
Meanwhile, oil companies big and small say the roughly $2 billion the state has already given out in capital-expenditure tax credits have proven essential to producing more Alaska crude. In fact, one relatively new explorer argues the tax credits help promote investment in Alaska compared to the company's much bigger interests in Texas, where oil development takes a fraction of the time, money and headaches.
The conflict over the tax credit program puts Parnell, a former ConocoPhillips lobbyist, in an unusual position. While oil companies roundly support his efforts to cut their production taxes, the two sides are on opposite sides when it comes to eliminating tax credits.
The conflict also highlights a critical information void in a key part of Parnell's proposal to overhaul Alaska's oil tax system. As always, state lawmakers are being asked to make multibillion-dollar decisions with little information due to confidentiality rules surrounding Alaska tax policy and agreements with oil companies.
Looking for balance
Once the nation's petroleum cache, the 49th state has watched petroleum output slide steadily over the last quarter-century, from a peak of more than 2 million barrels a day to just one-fourth that amount now. The downward trend is increasingly worrisome for a state that's 70 percent dependent on oil revenues, especially as a shale-drilling boom has completely bypassed Alaska while helping Lower 48 states.
Parnell says cutting taxes for the companies will reverse the decline. His theory goes that Conoco, BP, Exxon Mobil and others will voluntarily reinvest in Alaska with the removal of the current tax regime, created in 2007 under then-Gov. Sarah Palin. That tax system has padded state coffers by the billions and funded a capital budget that helped the state avoid economic recession.
Parnell's plan, Senate Bill 21, would eliminate the progressive tax that increases with the price of crude. Industry claims it hurts investment in the state's North Slope oil patch because it cuts deeply into their profits. (It's worth noting the companies are still earning billions in annual profits under the current Alaska tax system.) It would leave behind a flat tax on profits, recently upped to 30 percent by a Senate committee, after Parnell had proposed 25 percent.
The progressivity feature now brings about $1.5 billion annually to the state, and Parnell's proposal to cut it would severely gouge state tax income. Enter the plan to eliminate the so-called cap-ex tax-credit, the second key element of Parnell's bill. That move would save the state about $740 million a year, on average, over the next six years, according to estimates.
That's an increase from the roughly $400 million that the state has paid out in recent years for the so-called cap-ex credits. The expected increase comes because the state believes that spending by companies will increase, especially as some successful exploration efforts move into a costlier development phase.
The elimination of the tax credit tempers the blow of removing progressivity and makes the bill more politically palatable. Parnell has said the idea provides "downside protection," meaning the state won't be on the hook for all that cash, and that could prove critical if crude prices, and the state's oil income, unexpectedly tank.
Parnell: Tax credits bad
Capital expenditure tax credits -- just one of a suite of incentives now offered by the state to oil companies -- are worth 20 percent for every dollar spent. They're handed out as cash to smaller explorers that aren't producing oil. Meanwhile, the bigger producers, usually giants such as BP, Exxon and Conoco, receive a credit that helps offset their production taxes.
Parnell and his team complain they've seen no evidence that the tax credits, in place for seven years, have led to new oil production. Natural Resources Commissioner Dan Sullivan, writing a letter recently to the Fairbanks Daily News-Miner, called the credits a "critical flaw" in the current tax system. The state "gives out enormous tax credits and direct cash payments -- estimated to exceed $1 billion in the next fiscal year -- to companies that have not committed to producing a drop of oil," Sullivan wrote.
Parnell officials have also complained the cap-ex tax credits are too broad -- they're paid out for items that aren't directly tied to production, things such as trucks or runway improvements or emergency response facilities.
This narrative has seemingly taken hold in the halls of the Capitol as Parnell's bill has wended through Senate committees. With one month remaining in the three-month session, the Senate has maintained the proposed elimination, while tweaking the bill to offer other incentives. Lawmakers supportive of the measure repeat the administration's rhetoric, yet don't offer specific examples of projects that aren't leading to new oil.
The subsidies "have put the state at great risk without resulting in any new production," said Sen. Pete Kelly, co-chair of the Senate Finance Committee, in a recent press release. "Right now, the fact is our liability has averaged $400 million each year ... and little of that money has gone towards putting new oil in the pipeline. That's the real giveaway."
Industry: Credits good
Oil company executives say the opposite. They say the tax credits are paying for important oilfield infrastructure needed for oil output and shouldn't be eliminated.
In the next six years, it's the large oil companies that are expected to take most of the cap-ex credit, about $3 billion, as it allows them to offset their large production tax liability, according to state estimates. Smaller oil companies that don't produce oil are expected to take about $1.2 billion.
The smaller companies, such as Brooks Range Petroleum, are the ones exploring aggressively for oil on state lands, a critical role if the resource will continue to support Alaska's treasury. They say the credit is especially valuable for them because it provides critical upfront cash and through the life of project. The millions of dollars help supplement investors skittish about the expensive and agonizingly slow pace of development in Alaska. Also, industry officials say it's important to remember that they spend hundreds of millions of dollars before getting 20 percent back from the state. Their initial investment creates jobs, supports contractors and boosts the economy.
Brooks Range Petroleum, for example, has put every tax-credit dollar its received back into the ground to drill more exploration wells or to conduct seismic surveys to find new prospects, says Ken Thompson, a former ARCO Alaska president and a co-owner in the small Alaska-based company that's been the most active explorer on state North Slope lands in recent years.
The work has paid off. Brooks Range says it's close to producing oil at a field called Mustang near the Colville River mouth about 150 miles southeast of Barrow. By late 2014, Mustang is expected to become the North Slope's next producing field, with peak production estimated at 15,000 barrels per day.
Tax credits have helped accelerate development plans at Mustang by a full year, Thompson says. They helped supplement fixed capital from investors, allowing for example, three wells to be drilled in a season, instead of just two.
Brooks Range has drilled 10 of the 36 "exploration penetrations" on state North Slope land between 2007 and 2012, Thompson adds. For that, Brooks Range received $31 million under the state's capital expenditure tax credits program.
The state will recoup that investment in the very first months of Mustang production, in the form of production taxes, royalties and other income, Thompson says. Over the life of the 44-million-barrel field, the state will receive more than $1 billion.
"I would say this has been a high return on the state's tax credit refund program," said Thompson. "Our company has clearly given the state what they hoped for."
Conoco gets a paved runway
So who should you believe? Gov. Sean Parnell? Or the oil companies?
Whoever you want. That's because the stark information void surrounding the cap-ex tax credits means that, once again, lawmakers must consider an enormous decision based largely on trust.
Despite urging from some lawmakers, the state hasn't completed an audit of the state's current tax system in close to five years. And the state's Revenue Department will only release tax information in groups of three or more oil companies, citing a law that says violators could face jail time. As a result, few people know what the tax credits have really been spent on.
Parnell hasn't offered much help. In speeches, he's cited one vague example, complaining that the state has written a check for a new aircraft runway at a North Slope oil field. The runway is only "indirectly related to production," he's said.
The airstrip he's talking about is at Kuparuk, one of the biggest oil fields in North America, where ConocoPhillips is the operator and majority owner and BP, Exxon Mobil and Chevron are minority partners. Conoco, by the way, once employed Parnell as its government relations director.
A request from the Dispatch seeking more information about the how the cap-ex tax credits have been spent led Joe Balash, deputy commissioner for the Natural Resources department, to provide two examples. Those two examples are a small portion of what are likely hundreds or even thousands of purchases that have qualified for cap-ex credits.
As for the Kuparuk runway, it was upgraded from a gravel runway to a paved one, with help from the tax credits, said Balash.
"You kind of ask yourself, if they've had a gravel runway for the last 25 years, what's different?" he asked.
What's different is Conoco recently got rid of the aging Boeing 737-200 jets that could operate on gravel and replaced them with 737-700 jets, which can't be retrofitted to operate on gravel, said Amy Burnett, a Conoco spokeswoman. The new jets are safer and more reliable, cheaper in the long run, and they carry more workers. The purchase of the jets did not qualify for the tax credits, she said.
"Additionally, replacement parts are readily available -- also a significant improvement from the 737-200," Burnett said in an email.
Conoco gets a new snack room
Balash provided another example of a tax-credit use that was not tied directly to new oil production.
At the Alpine oil field, Conoco added a new dining facility, he said. Conoco operates Alpine, with Anadarko as a minority partner. The field opened an important western front, not far from the National Petroleum Reserve-Alaska, when it began producing 15 years ago, and now gives up about 65,000 barrels of crude daily.
"The guys who are out there got to eat obviously, but most of the man camps and things I've been to out there pretty much look like they did 30 years ago, and Alpine is one of newest fields out there," Balash said.
Conoco has no new dining hall at Alpine or anywhere else on the Slope, Burnett said. Perhaps Balash was thinking of the "Spark Room?" "The 'Spark Room' at Kuparuk (where sandwiches, soups, baked goods, fruit, etc. are available on a 24-hour, self-service basis to accommodate the varying work schedules) was expanded a couple of years back," Burnett said in an email. The Spark Room covers 1080 square feet, about the size of an average two-bedroom house, and the remodel added 100 square feet within the existing building footprint, she said.
Burnett would not say how much in tax credits that Conoco, which produces more oil in Alaska than anyone else, received for specific projects. That information is confidential, she said. "In general, ConocoPhillips has earned tax credits ... as a result of our capital expenditures in new wells, facility expansions, drill-site expansions and new pipelines," Burnett said. The credits have also paid for "asset renewals that have addressed quality of life, safety and operational integrity, all of which are necessary components to offsetting North Slope production decline and managing aging facilities."
Tax credits help "incentivize investments," she said. But they don't work under the current, progressive tax system because the credits provide only a "small offset" to Conoco's high tax burden, she said.
Conoco paid Alaska about $20 billion in taxes and estimated royalties between 2007 and 2012, after tax credits were applied, for pumping crude from state lands, she said. In comparison, Conoco in Alaska earned $12.1 billion in profits during the same period.
Balash also said the tax credits are a problem for the producers because they are coupled with the progressive tax rate that is calculated monthly as oil prices fluctuate. Oil companies trying to plan for long-term investments don't know what they'll pay in taxes, or how much they can expect back in credits, making planning difficult.
"It's hard to factor in the value of the deduction when you're making a really big decision on, call it a billion-dollar field," Balash said. "Is that deduction going to be worth 43 percent or 32 percent? You can't know because progressivity is calculated monthly.
Tax credits may help again
Another explorer that says it successfully took advantage of the tax credits to produce oil is Pioneer Natural Resources, based in Irving, Texas. It's one of the few companies to discover a commercially profitable field in Alaska in the last decade.
"We believe the credits absolutely have value in producing new oil," said Casey Sullivan, a Pioneer spokesman in Alaska. "It's a direct incentive for action" because it's available early on and throughout a project's life.
After drilling 10 exploration wells, Pioneer discovered Ooguruk, now an artificial island off the mouth of the Colville River. It began producing in 2008, and yields about 6,000 barrels a day. The tax credits were essential to bringing Ooguruk on line, along with a deal providing royalty relief, said Sullivan. Under the deal, the state agreed to reduce the royalty oil it collects from producing fields once Pioneer reached production.
Exploratory drilling from Ooguruk helped lead to another find. Just to the south, Pioneer has discovered Nuna, a prospect the company says could peak at 14,000 barrels a day. If Pioneer's board approves the project, the tax credits could prove essential into bringing Nuna into production, Sullivan said.
That's because the mid-size company is far more likely to spend its money in Texas where Pioneer has several large projects. The tax credits help Alaska compete with Texas for the company's limited dollars, Sullivan said.
By far, Texas is winning. Pioneer is spending $2.8 billion in Texas this year, and less than $200 million in Alaska. Part of the Alaska work includes drilling wells at Ooguruk in hopes of enhancing production there. In Texas, oil can flow just a year after exploration. In Alaska, with hurdles that include short work seasons and brutal cold that often stops development, it can take seven years.
"People forget how hard it is to work on the Slope. In Texas, you drive up and plunk a hole in the ground," Sullivan said.
Pioneer didn't come to Alaska for the tax credits -- the program didn't exist when Pioneer arrived about a decade ago. But the company soon learned how valuable they are, especially for small or midsize producers with limited assets. "Once we started working here, we realized how expensive it is," he said.
Pioneer has used the credits wisely, on items that have lead toward oil, he said. "When we spend money at this juncture, we're spending money to produce new oil. It could be everything from a valve to a pump to a new pipe," Sullivan said.
"Trust me, we are not going to waste money on the North Slope. It doesn't benefit our shareholders or our company."
Contact Alex DeMarban at alex(at)alaskadispatch.com