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Vol. 12, No. 19 Week of May 13, 2007
Providing coverage of Alaska and northern Canada's oil and gas industry

Pipeliners talk AGIA

MidAmerican says North Slope producers will commit gas if Alaska project economic, which it believes it is; TransCanada wants customers first

Kristen Nelson

Petroleum News

Three pipeline companies — Enbridge, MidAmerican and TransCanada — have talked to the State of Alaska and to legislators about building a natural gas pipeline.

Enbridge has said it will not apply under the governor’s Alaska Gasline Inducement Act because it believes the way to go forward with the project is in partnership with the North Slope producers who hold leases for known natural gas resources.

MidAmerican’s testimony indicates it is the most interested of the three in pursuing an application under AGIA; TransCanada does not want to go forward for a Federal Energy Regulatory Commission certificate if an initial binding open season fails to attract enough gas to justify the project (see sidebar on TransCanada).

MidAmerican believes alignment of stakeholder interests is essential for a North Slope natural gas pipeline project — but believes “the project can be advanced concurrent with the resolutions of issues that today remain outstanding,” Kirk Morgan told House Finance May 3. Morgan is president of MidAmerican subsidiary Kern River Gas Transmission Co.

Morgan said the company’s approach does not exclude interested parties: “even if a pipeline is developed by an independent developer, the North Slope producers will play a critical role as shippers on the line and sellers of gas to other shippers.”

“MidAmerican, as an independent pipeline, is impartial and in a unique position to help facilitate solutions where stakeholders’ interests diverge,” he said.

Morgan said MidAmerican has no competing interests in the upstream, downstream or globally. In fact, it would like to see AGIA amended to require applicants “to disclose existing or prospective commercial interests, business activity and or revenue streams from upstream, downstream or global activities which may affect or conflict with achieving the objectives of this project.” And the presence or absence of those conflicts “should be given significant weight in the evaluation criteria for selecting a licensee.”

MidAmerican supports AGIA, he said, and supports the requirement for a project labor agreement which was added to the bill.

MidAmerican: AGIA not too prescriptive

On other proposed changes, Morgan said MidAmerican disagrees with those who say AGIA is too prescriptive. “The state has set forth its overarching policy objectives and set forth certain terms that will accomplish those objectives,” he said. Since AGIA is not exclusive, parties are free to make proposals and the Federal Energy Regulatory Commission is free to authorize them. “To put it another way, if a party thinks it has a superior proposal, nothing in AGIA stops it from putting that proposal in writing,” Morgan said.

“This project requires a serious commitment of stakeholders, not a series of options,” Morgan said.

MidAmerican supports rolled-in rates, he said, but believes it would be fairer to shippers if those rates are tied to initial rates, likely negotiated, rather than to initial recourse rates established by FERC.

MidAmerican does want the assurance proposed in AGIA that the state will stay with the licensee it picks — or pay a penalty if it changes projects. Morgan said, as he has in the past, that MidAmerican doesn’t want to participate in another project where it is simply a “stalking horse to create negotiating leverage for the state,” his description of what happened to MidAmerican in the Murkowski administration’s negotiations under the Stranded Gas Development Act.

A failed initial open season

Morgan said that MidAmerican “intuitively” believes the project is economic. If it is, and an initial open season fails because “shippers refuse to commit their gas to an economic process,” then the company believes it should go forward to FERC certification.

“I don’t think it’s a sustainable position” for the producers to “warehouse their gas and withhold that gas from Alaska and from the United States’ market.”

The project does become “more risky if you have unwilling gas sellers,” he said. But the state is offering a match of up to 80 percent to go from a failed open season to FERC certification and that “would be sufficient for MidAmerican.”

In the two years following receipt of a license MidAmerican would do “engineering and environmental analysis and cost estimating and the market studies that have to be done,” he said, and if those show that the project is not economic, there are provisions in AGIA to walk away from an uneconomic project. “But if we believe that it’s clearly economic the fact that the producers are withholding gas is an unsustainable position and we think with the appropriate time we can convince them to commit their gas to the project.”

Withholding the gas would be unsustainable for a number of reasons, Morgan said: “First, they have a duty to develop and duty to market their gas.” And, he said, withholding that gas would be a type of behavior that is “clearly anticompetitive” and of concern to the Federal Trade Commission, the Department of Energy and FERC.

Morgan said he doesn’t expect the producers to withhold their gas from an economic project.

He said he doesn’t know “if the project’s marginally economic (or) it’s a screaming economic project,” but if money can be made by selling the gas and that gas can be brought onto the balance sheets of the companies, he thinks shareholders would want the gas sold.

And the companies wouldn’t necessarily have to take firm transportation commitments. “They can sell the gas at a commercially reasonable price and other buyers will come and buy it; other parties will take the gas.”

“I think it’s posturing today. I think that the gas must be committed if the project’s economic.”

$500 million and fiscal certainty

Morgan pointed out that the $500 million provides an inducement to applicants to move the project forward — and also reduces the tariff, which is an inducement to shippers, as well as benefiting the state with a higher netback value for the gas. That same amount put into construction wouldn’t have the front-end benefit of attracting applicants, he said, and if the state wants the money back if the project is successful, then it would lose the benefit of the lower tariff.

On the fiscal certainty issue, Morgan said the state will know a lot more after a couple of years of work by a licensee, before the open season, so that the licensee will “be able to make a credible case that the project is economic and the tariffs that are being proposed are reasonable.”

That work, he said, will allow the state to make its own judgment on how economic the project is, and respond accordingly to requests for fiscal certainty.

“If it’s marginally economic and they come to you and say ‘I need some tax concessions or royalty concession,’ or whatever it is, you’ll understand what the economics of the project really are. On the other hand, if the project is wildly economic you’ll understand that as well and may be more reluctant to provide additional inducements or incentives.”

Morgan said he has testified previously that he doesn’t think 10-year tax certainty is appropriate. He said he wasn’t offering any suggestions on what the tax rate should be, but suggested that rather than offering a 10-year term, offer “certainty on the entire volume that they’re choosing to commit” in an initial open season. MidAmerican, he said, wouldn’t be interested in developing the project if its terms could change after 10 years. “We’re looking for certainty for the life of the project as well.” Those assurances to MidAmerican, he said, would come from negotiated-rate contracts approved by FERC.

Tax rates are not an issue for the pipeline, he said, because “regulated pipelines are just that: If the taxes change I’m going to pass those through anyway. So I don’t have that same concern that the resource owners have.”

Rolled-in rates bring quicker expansions

Morgan also told legislators that the rolled-in rate provisions of AGIA are beneficial because with incremental rates the cost can be substantially higher, forcing the pipeline company to wait to expand. He said he manages a pipeline with both rolled-in rates for expansions that are economic and lower the rates, and incremental rates that are priced higher.

The time between expansions is lengthier with incremental pricing, Morgan said.

They had half a billion cubic feet of gas that could have been added but had to wait until there was enough volume that an expansion would achieve economies of scale. “When we expanded our pipeline, it was by more than double, to get a rate that would clear the market.” He said rolled-in rates prevent that. “You don’t have to wait, and it could be eight years, it could be 10 years, ‘til you aggregate another huge volume of production” to make the next expansion economic.

With rolled-in rates you can expand in smaller increments “and be responsive to the production that’s going on on the North Slope and the band of pricing, because you continue to spread those costs over a huge 6 bcf or whatever it is” of volume.

With incremental pricing, expansions “will be priced all over the map and that, by itself, sends a signal to drillers.” If the next expansion “is going to be priced at $4 instead of $2, they’re going to quit drilling.”

“So I would just say that from a policy standpoint I think the state is doing the right thing to have a rolled-in rate policy within a reasonable band of increases from the initial rates.”

Morgan said MidAmerican was definitely interested in making an application under AGIA and that their decision on an application would be made once the bill is passed and the terms are known, from the bill and from the request for applications.

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Smaller volumes, higher tariff

What if only one of the producers committed to ship gas at an initial open season for a North Slope Alaska gas pipeline?

Could a line be designed for that, Rep. Mike Kelly, R-Fairbanks, asked Tony Palmer, vice president of Alaska business development for TransCanada?

Palmer told House Finance May 3 that TransCanada has looked at alternatives, although it believes a 48-inch, 2,500-pound pressure pipeline system is “optimal for what we believe are the discovered reserves and the expected deliverability.”

But if you go “significantly below 4 bcf a day, maybe 3.5” bcf, the pipeline should be smaller unless additional gas is expected within a year or two, he said.

But what if the volume were 1.5 bcf a day?

There are “significant economies of scale in the pipeline business,” Palmer said. “So when you go from a 48-inch down to a 24-, 30-inch pipeline, unfortunately the cost increases are disproportionate. That’s a concern that the Mackenzie project is facing today,” he said. “Unfortunately they’re building a project there that is to move somewhere in that 1 bcf a day initially and ultimately 2 (bcf). And they’re finding that they have significant diseconomies of scale relative to this project,” he said.

TransCanada could certainly design a project to move 1.5 bcf a day, “we do that everyday,” Palmer said.

“But you would find the toll disproportionately higher than for 4.5 (bcf) with the design we have.”

He said he thought shippers would be “much more reluctant to commit their gas in that circumstance because the toll or the tariff would be significantly higher” unless the additional gas was added within a year or two.

Failed open season an issue

Palmer has said in the past that TransCanada would not want to continue past a failed open season to get a certificate for the project from the Federal Energy Regulatory Commission and would like to see AGIA amended to remove that requirement.

He said monies spent after a failed open season to get a FERC certificate “are truly at risk if the project does not proceed.”

The governor’s Alaska Gasline Inducement Act currently proposes to match up to $500 million spent by a licensee at a rate of 50 percent up to the open season and at a rate of 80 percent after the first binding open season, but requires a licensee to go forward to a FERC certificate even if not enough gas is pledged in an initial open season.

TransCanada has proposed amending AGIA to remove the requirement to go forward to a FERC certificate after a failed initial open season.

Palmer said TransCanada does not believe the “risk-reward balance” is there for monies the company would commit following a failed open season. “It is a significant impediment for us.”

Rep. Mike Hawker, R-Anchorage, asked if it would make a difference if the state picked up 100 percent of the cost of a FERC certificate following a failed open season.

Palmer said that would be significant, although the company’s board would still have to agree to dedicate people for a period of time. He said he would be more confident of getting board approval to go ahead with an application in there was a 100 percent match after a failed open season, but it would still “take a significant dedication of our corporation’s talent to pursue the project.”

The norm in the industry, Palmer said, is to have customers before pursuing a FERC certificate. TransCanada’s predecessor spent the money to get a FERC certificate for this project without customers in place, he said. “We did spend the money — when I say we, our predecessors spent the money 30 years ago — and we just would not like to repeat that process.”

—Kristen Nelson