OPINION: This week, Alaska lawmakers took testimony about the progress of Alaska's natural gas pipeline from the Palin administration, as well as the oil and gas companies that hold the leases to develop the North Slope's gas reserves.
As they have since the introduction of the Alaska Gasline Inducement Act (AGIA), the Palin administration testified that they view the economics of the pipeline project as profitable and the state doesn't need to make any concessions to attract investment.
Meanwhile, as they have since the introduction of AGIA, oil and gas companies reiterated their need for fiscal certainty before committing to pay for the largest and most expensive energy project in the world.
But with the Palin administration locked into AGIA, Revenue Commissioner Pat Galvin told lawmakers that those who will accept the risks don't need any more certainty other than what currently exists because the state's economic analysis shows the project is deep in the money.
This apparent disagreement demands a closer look.
The state's economic modeling that Galvin is touting has always been viewed by some as fuzzy math. During testimony last summer, producers offered a number of areas where the state's analysis failed to account for risk.
On July 11, 2008, Exxon's Marty Massey testified that the state's economic analysis was based on "simplifying assumptions." The analysis ignores the reality of the real risk that firm transportation commitments represent, by classifying them as normal operating expenses. Massey stated that under the proper analysis, the net-present value to his company isn't $13.5 billion, as stated in the state's analysis, but zero.
State Sen. Gene Terriault asked Massey if it was true that those FT's represented just a footnote on their balance sheet. Yes, Massey replied, but the entire footnote currently existing on Exxon's balance sheet today is $3 billion. With this project it would increase to almost $80 billion, which makes a dramatic difference.
John Zager, of Chevron, put the risk in perspective. The reliance on net present value as the state has done is only one way companies look at the economics of the project. Firm transportation commitments represent a real transfer of value that in this case would equal upwards of $125 billion. This is quickly approaching the market cap of both Chevron and Conoco, Zager stated.
And it's not just oil and gas companies that are pointing out flaws in the state's economic modeling.
In a paper to be published in the September 2009 edition of the Journal of Economic Issues, Roger Marks, a former Alaska Revenue Department petroleum economist, will lay out the case of how the administration's multi-million-dollar analysis "overstated the economic vitality of the project and hence understated the severity of the commercial issues."
Second, Galvin's defense of maintaining the status quo with regards to tax rates and certainty seem at odds with prior testimony and reality.
During testimony on AGIA in April 2007, Galvin was asked about the state's existing gas tax rate. He replied, "Our level of confidence in the current tax rate is relatively low".
A few days later in the House Resources Committee, lawmakers queried Galvin about why the state wouldn't make necessary adjustments to the tax rate before asking for competitive bids under AGIA.
With all the concerns about the lack of fiscal predictability in AGIA, why wouldn't you want to nail down something as critical as tax rates, asked one Representative. How do you expect someone to submit a complete bid if they don't know what their tax rates are going to be, asked another?
"You have moved from a question of whether the producers need to have this level of certainty that they keep talking about at the time they submit the application or whether it's at the time they commit their gas. What we have structured in the bill is that level of certainty we believe is appropriate at the time they commit their gas", Galvin answered.
Twenty-four hours after Galvin said the state had determined that it wasn't important for AGIA applicants to know the actual tax rate, the House Resources Committee took testimony from a prospective applicant who disagreed and told the committee just how critical it is for private companies in the real world.
"To make a sound and fundamental good decision, I have to know," replied Massey from Exxon when asked about the importance of knowing the tax rate. "I don't know, I really don't know what rate to run the economics at because it can change, all of it can change."
Nine months later, on Jan. 19, 2008, Marcia Davis, Deputy Revenue Commissioner, testified in front of the Senate Resources Committee. Davis was asked if the legislature should begin discussions about changing the gas tax in anticipation of an open season. "Beginning the gas-talk discussion is certainly not inappropriate," she said. Davis went on to admit that the tax rate "effects what a producer puts into their consideration as they approach an open season and decide whether to tender their gas".
Isn't that exactly what Massey from Exxon said almost a year earlier when the producers were advocating changes to AGIA to make it commercially viable so they could offer a competitive bid? Yes, it was.
However, the administration's strategy has been to try and force the producers to accept the terms of AGIA by committing their gas to a TransCanada pipeline in exchange for a favorable tax structure.
"The horse is already out of the barn, we've already picked someone with whom we've partnered," said Kurt Gibson, deputy director of the Alaska Division of Oil and Gas, in an Aug. 8, 2008, interview with CNN. "The TransCanada pipeline is the vehicle for fiscal certainty."
The problem for the administration is that its bluff is transparent. Legally, the state can't adopt a tax structure that applies only to those who agree to commit their gas to a TransCanada's pipeline. That would violate just about every equal access provision and restraint of trade clause. Once the legislature adopts a tax structure, it will apply to all of the producers regardless of AGIA.
For the administration, the gas-tax rate and corresponding fiscal certainty is viewed as a tool to be used to leverage the producers to commit gas to a TransCanada pipeline, thus forcing a marriage governed by the uneconomical vows of AGIA. As Roger Marks will highlight in his soon to be released economic analysis of AGIA, "you cannot make a bad project good by borrowing money."
Last year during legislative hearings on AGIA, questions about adopting new gas-tax rates or fiddling around with fiscal certainty drew an animated response from Commissioner Galvin. "Don't do it," Galvin warned during committee testimony last June. "Don't think you're going to get cute and walk right up to that line, because we will have to pay TransCanada treble damages," he added.
Being handcuffed by the terms of AGIA will continue to be the way not to get a natural gas pipeline project built. The attempt to force feed the producers TransCanada and their AGIA mandates will continue to risk delays in getting to the all important final investment decision.
It's evidenced in that this week Alaska lawmakers heard the same comments from stakeholders regarding fiscal terms as they heard two years ago before they voted to pass AGIA. Even with all the pomp and circumstance surrounding Exxon's announced partnership with TransCanada two weeks ago the only thing that has changed since the introduction of AGIA is the date on the calendar.
So what needs to be done?
Alaska lawmakers must exercise their authority as a separate branch of government and begin evaluating the tax certainty question on their own without the administration. Failing to do so allows the administration to continue leading Alaska's pipeline hopes down the primrose path.
State Sen. Bert Stedman (R-Sitka) just recently returned from a five day seminar on World Fiscal Systems for Oil & Gas, which focused on quantitative analysis and a critical review of oil and gas producing regions throughout the world. Stedman, who will play a key role in determining state gas-tax policy, shouldn't wait to begin substantive legislative conversations apart from the administration to begin the inevitable task of addressing the state's gas tax structure.
And for those who doubt the need for lawmakers to engage, consider where we are after three years.
Since 2006, Gov. Sarah Palin and others like DNR Commissioner Tom Irwin have been critical of former Gov. Frank Murkowski's proposed gas line deal which included offering the producers 35 years of fiscal certainty. Critics claimed extended fiscal certainty gave away state sovereignty and thus was the primary reason why AGIA was created.
So after years of promoting AGIA as the only way to get around having to offer Murkowski-esq terms to secure commitments from the producers to build the Alaska gas pipeline, has the gas-line paradigm been changed by AGIA?
In addressing the length of fiscal certainty needed to secure commitments from oil & gas companies Exxon's Massey told lawmakers this week, "Thirty-five years will be acceptable, 10 years not." BP's Claire Fitzpatrick stated that they would want the length of certainty to reflect the length of their financial commitments.
The answer is that AGIA hasn't changed the paradigm at all. The producers permanent interests have remained just that -- permanent.
Since gas-line discussion began under the Palin administration, producers have consistently testified that 10 years was not enough time to guarantee a tax regime for the most expensive oil and gas project in the world.
After all, if 10 years is enough certainty for the producers as far as the Palin administration is concerned, why is TransCanada requiring 25 years of certainty from the producers?
Since TransCanada, according to AGIA, is requiring 25-year financial commitments from gas shippers to build the pipeline, it stands to reason that gas shippers would require a commensurate commitment since they are the ones paying for the construction and assuming the risk.
The prevailing legal theory is that the legislature may be able to approve locking in tax rates up to 10 years without stirring up constitutional concerns and a possible rebuke from the Alaska State Supreme Court. While initially AGIA granted gas shippers a 10-year fix on tax terms, the legislature removed the provision from the bill before passage, so today there is no enforceable guarantee. The state Senate's removal of the 10-year guarantee was due to questions about whether lawmakers could even approve a 10-year tax freeze without exposing themselves to a constitutional challenge.
With that in mind, the legislature should consider putting a constitutional amendment before voters in the 2010 election that allows for a very narrow exception to allow lawmakers to grant longer tax certainty in order to facilitate the gas pipeline construction in the case lawmakers decide it is ultimately necessary.
The amendment, if approved, would appear on the November 2010 ballot and if passed by voters would enable lawmakers more authority to offer terms that are more conducive to the risk associated with the magnitude of this project.
With the offer of 10 years worth of fiscal certainty being legally questionable, as well as a non-starter with stakeholders who will assume the risks, this issue will need to be resolved sooner rather than later. Gas shippers will not commit to the project unless they have confidence that any tax regime will withstand a legal challenge.
With two open seasons scheduled for 2010 and both predicted to fail, due to a lack of agreement on fiscal terms and certainty, timing is critical.
Positive movement on granting lawmakers more legal room to move would ensure they have all the tools they may need, and thus would avoid getting pushed back for years to address what will be the pivotal sticking point in achieving Alaska's goal of a natural gas pipeline.
Andrew Halcro is president of Avis/Alaska, his family business. Halcro served in the Alaska House of Representatives from 1999 to 2003. He ran for governor in 2006 as an independent. He and Democrat Tony Knowles lost to a woman named Sarah Palin. He is currently taking a break from his blog, AndrewHalcro.com.