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Providing coverage of Alaska and northern Canada's oil and gas industry
March 2006

Vol. 11, No. 12 Week of March 19, 2006

Legislature goes for sliding scale oil tax

North Slope, Cook Inlet producers, independents, explorers all unhappy with committee substitute for governor’s PPT tax bill

Kristen Nelson

Petroleum News

The Alaska Legislature’s House Resources Committee used the governor’s proposed production profits tax bill as a starting point for raising taxes.

Representatives of Alaska’s oil and gas industry made it clear to the committee March 15 that they considered the governor’s proposal the maximum industry would support.

Legislators said the issue was ensuring that the state got a fair share of the profits from its resources at high prices.

Industry said the issue was keeping projects in the state competitive for investment and growing the pie for both industry and the state.

North Slope producers had told legislators in late February that their support for House Bill 488 was reluctant, and only given because it was viewed as a step toward getting a gas pipeline project moving.

Cook Inlet producer Unocal said at that time it was concerned about the effect of higher taxes on a declining oil industry in the basin and explorers saw a benefit from a $73 million standard deduction.

None of the companies testifying March 15 were in favor of the committee substitute. It wasn’t available yet, but House Resources provided a summary of substantive changes March 14 (see sidebar to this story).

ConocoPhillips: negative impact on investment

Brian Wenzel, vice president of finance and administration for ConocoPhillips Alaska, told legislators that based on the summary handed out March 14, the committee substitute will have a negative impact on the attractiveness of Alaska for investment.

ConocoPhillips “absolutely” opposes the committee substitute and any increase beyond the $1 billion per year in additional taxes proposed by the governor, he said.

Wenzel said the substitute would increase taxes $1.8 billion a year at today’s prices, an $18 billion increase over the next 10 years.

You hired consultants — “we also hired consultants” — but at the end of the day, he said, none of those consultants must make or live with the decision before the Legislature and none of them will ever make an investment decision for ConocoPhillips.

The assertion of the Legislature’s consultants that additional taxes would have no impact on investment is “absolutely wrong,” he said. Taking away the upside potential on the North Slope will have a negative effect on decision making, not just from the increased tax burden but from reduced confidence in the future fiscal environment.

Wenzel said it is antipathy toward the industry that concerns ConocoPhillips the most and called the committee substitute an exercise to see how much the state can take from the private sector.

Nearly all provisions of the original bill have been changed, he said, destroying the balance.

The reduced transition provision is a penalty for those who invested in Alaska too early for being too optimistic, he said.

Wenzel also called the effective date of April 1 impractical. Procedures and regulations can’t be adopted in time, he said, forcing companies to guess at taxes in an attempt to avoid the punitive 11 percent interest rate and the 5 percent penalty on top of that.

He said the changes are completely inconsistent with the goals of fair and reasonable and urged the committee not to move the bill until it can be revised.

Pioneer: Shooting too high

Pat Foley, manager of lands and external affairs for Pioneer Natural Resources Alaska said a committee member had characterized the choices in an oil tax change as shooting a little low or a little high.

“You chose early on to shoot low and leave a vibrant industry,” Foley said, “now you’re shooting high.”

He told the committee that the progressive tax rate and the way the tax is structured fails to take into account that investors’ costs increase at high oil prices. The provision to extend exploration incentives created under Senate Bill 185 for 10 years, he said, is only modestly helpful since those incentives are only available for certain activities.

The $10 million limit on credits the state would purchase at face value might be beneficial to an explorer, but not to a developer, he said. He suggested either a discount floor for sales of credits or adding broadening the pool into which credits could be sold by allowing them to be used for state income tax.

Resources co-Chair Ralph Samuels, R-Anchorage, said the thinking on that was that the state was already taking a production task risk at low prices and didn’t want to extend that risk to the income tax.

Rep. Paul Seaton, R-Homer, asked if a 90 percent floor would be helpful and Foley said it would be.

Foley also asked that if the bill must have a progressive tax rate triggered by the oil price, that whatever price used be inflation-adjusted and that the benchmark not be West Texas Intermediate but Alaska North Slope oil delivered on the West Coast.

Anadarko: 20/20 a balance

Mark Hanley, Anadarko Petroleum’s Alaska public affairs manager, said Anadarko thought the 20/20 proposal in the governor’s bill struck a balance: the tax was a little higher but the companies got some exploration credits.

“On balance I think this goes a little bit the opposite direction,” he said, and said Anadarko thinks the committee substitute is a little worse for exploration.

Hanley said inflation was an issue with the committee substitute because, while the original PPT was on profit, it is his understanding that the incremental tax will be on the gross.

Hanley was also concerned about the progressive tax effect on gas. “For those of us looking at gas, you’ve now increased the price of gas based on oil price changes.” Not only are the two not related, he said, but the “risk of that can have a real dampening effect on gas exploration.”

BP: getting barrels down the pipeline

Angus Walker, BP Exploration (Alaska)’s commercial vice president, told the committee BP is not in favor of a progressive tax and cannot support the committee substitute. The company makes no money in Alaska at low prices, he said, moderate profits at moderate prices and needs profits from high prices to stay in business.

Ramras told Walker he was taking offense at industry’s assertion that the opportunity to profit at high prices was what kept companies in Alaska. The real question for legislators to be asking, he said, is “at what point does industry want to share the windfall?”

Walker disagreed.

What legislators need to be asking industry and consultants, he said, is what it would take to double investment on Alaska’s North Slope, because that is what it will take to extend oil production out to 2050 and keep the business healthy to support a gas industry.

He cited a natural decline rate of 15 percent a year, an actual decline rate of 6 percent a year supported by $1 billion to $1.5 billion a year in investment and a 3 percent decline rate requiring $2 billion to $3 billion a year in investment to extend production to 2050.

“The point we’re trying to make is barrels down the pipeline is what really matters to Alaskans,” Walker said.

The North Slope is on a 6 percent decline rate with the existing tax system. The new tax system “is a huge additional tax burden on major producers on the North Slope,” Walker said, and BP is concerned that it may move production to a steeper decline than 6 percent. The goal should be to find a solution that gets us to 3 percent, he said, and that would require lower taxes, not higher taxes.

Chevron: all levers pushed in one direction

John Zager, general manager of Chevron in Alaska, told the committee that he had noted in his February testimony that Cook Inlet was different and should be considered for special treatment, asked that the committee consider all the levers available to it and not to pull them all at the same time and to keep it simple.

“In general we find that none of this counsel was retained” in the summary of the committee substitute, he said.

The progressive tax proposed in the committee substitute is “very complex,” he said, and would take a large effort to track. He also questioned profits for gas being tied to the oil market.

On the windfall issue Zager said taking away the windfalls lowers the expected value to investors — it’s as if you told the fishing industry that government would take 50 percent on the best 50 fishing days of the year. He called it “a move against industry and a move against additional investment in Alaska.”

His biggest disappointment, Zager said, is that Cook Inlet is not recognized as a separate area and he said the proposal would “lower investment opportunities in Cook Inlet” and said Chevron’s planned investment would suffer due to the bill.

The committee pulled all the levers in the state’s direction, he said, and zero in industry’s direction, and changed the bill from one Chevron could “reluctantly support to one that’s lopsided in favor of the state” and that Chevron cannot support.

ExxonMobil: Changes exacerbate concerns

Richard Owen, production manager and vice president for ExxonMobil Alaska Production, told the committee that ExxonMobil had concerns about HB 488, and the changes described “exacerbate” concerns he expressed to the committee in February.

HB 488 as proposed was a “dramatic tax increase,” he said, and there was concern “some of challenged resources wouldn’t be developed.” Now the committee is considering “higher taxes.” Companies will, he said, accept long-term risk when there is upside potential; but if the state caps or limits upside benefits that reduces the attractiveness of investment opportunities and “will lead to reduced investments” and a negative impact on the state’s economy.

Ramras said the committee’s notion is that the state is participating in rewards but is at risk at low prices.

Owens said the increase to 20 percent in the tax level in the original bill “was balance for low-side protection” and ExxonMobil accepted that higher tax rate. The committee substitute, he said, goes beyond that.





Summary of committee substitute to HB 488

Blame the April Fools’ Day effective date in the committee substitute for House Bill 488 on Dan Dickinson.

Ralph Samuels, R-Anchorage, co-chair of House Resources, told the committee March 14 that when he suggested making the production profits tax effective, like any other legislation, two weeks after the governor signed it, he saw the panic in Dickinson’s eyes. Dickinson, former director of the Tax Division, said please, on behalf of bureaucrats, make the tax effective on a quarter.

HB 488 had an effective date of July 1. The April 1 effective date will give the state an estimated $200 million additional from the severance tax in the current fiscal year, House Resources said in a summary of substantive changes to HB 488 dated March 14.

Sliding scale

The committee’s most significant change is a sliding scale which cuts in when West Texas Intermediate oil prices reach $50 per barrel.

The 20 percent tax rate then begins to increase at 0.3 percent for each $1 increase in the WTI oil price, capping at 50 percent at about $150 per barrel.

The committee also reduced the transitional allowance in the governor’s bill, which allowed five years of past investments to be deducted as costs. The committee said it believed recovery of those costs has been “enhanced by extremely high oil prices,” and replaced the 100 percent cost recovery of the previous five years with a 75 percent allowance for 2005 expenditures, a 50 percent allowance for 2004 expenditures and a 25 percent allowance for 2003 expenditures — all of which can be deducted as costs.

The bill proposed a payback period of six years; that has been increased to seven years. The committee substitute contains the same $40 per barrel price before recovery is allowed. An inflation indexing mechanism will be included in statute, not left up to regulators.

The committee said this change reduces the amount of deduction allowed from $5 billion to $2 billion, and the amount of credit from approximately $1 billion to $300 million.

Exploration tax credits extended

The Senate Bill 185 exploration tax credit of 40 percent will be extended 10 years; the governor’s proposed credit rate of 20 percent remains in the bill. As they do currently, the committee said, the company will choose the credit more beneficial to them.

The committee substitute says abandonment costs will not be eligible for tax credits.

The committee substitute eliminates the $73 million allowance, which resulted in a $14.6 million credit and substituted “an annual direct tax credit, dollar for dollar, for the first $10 million worth of expenditures.” This credit is annual, non-transferable, non-salable, cannot be carried forward and can only be applied to the current year’s severance tax.

If a company has income but spends less than $10 million, they can only claim credit up to the amount spent.

The state will buy back up to $10 million per year per company of credits at 100 percent of face value to help explorers and new entrants, but companies must show that an equivalent amount to the credit is being reinvested for exploration or lease purchase in Alaska.

The committee substitute also puts in place a 5 percent penalty for underpayment of the monthly severance tax bill for any amount below the 90 percent threshold. Interest will be charged on any payment shortfall.

The committee substitute was not available as Petroleum News went to press, but both House and Senate Resources committees were scheduled to take it up March 16.

—Kristen Nelson


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