A royalty modification at the Nuna development will expire at the end of September.
The pending expiration forces operator Caelus Energy Alaska LLC to either reapply at some future point in its development of the North Slope field or revise economic models.
The company had sought a two-year extension to its agreement with the state. The extension would have given the company until Sept. 30, 2019, to meet the final two work commitments requirement by the agreement: spending at least $260 million on facilities at the development and beginning sustained oil production from the Torok formation.
The Alaska Department of Natural Resources determined that it did not have the authority to grant the extension but welcomed a new application from the company.
Caelus Energy Alaska spokesman Casey Sullivan told Petroleum News that the company will “most certainly” re-apply for royalty modification at some point in the future.
Asked whether the loss of royalty modification for the time being threatened the viability of the project, Sullivan responded by email, “There are many factors that determine our development decisions. Those include but aren’t limited to confidence in a sustained price of oil, the cost of conducting business in Alaska and favorable tax and regulatory policies. The Nuna project was put on hold for many of the aforementioned factors but specifically the ongoing low commodity price and instability in oil tax policy.”
Sullivan added that Caelus believes that Nuna “could be an integral part of Alaska’s production profile over the next 40 years” and, if developed, would “produce hundreds of jobs, millions of barrels of oil and billions in tax and royalty revenue for Alaska.”
He also noted that the Department of Natural Resources, in its original 2015 decision, confirmed that while the Nuna project was economically challenged without royalty modification, it would, if pursued, be economically beneficial to the state and its resident.
Requesting relief
Caelus inherited the Nuna development project in late 2013 and early 2014, when it acquired the North Slope assets of former operator Pioneer Natural Resources Alaska Inc.
Caelus quickly expressed enthusiasm in pursuing the project, which involved building a new drilling pad and associated facilities at Oliktok Point to develop an accumulation in the Torok formation estimated to contain between 75 million and 100 million barrels.
After closing on the deal and studying the project in greater depth, Caelus determined that it would need some form of state assistance to make the $1.4 billion project economic. The company asked the state to modify the royalty structure on the project.
With the application coming during the transition between the Parnell and Walker administrations, the royalty modification request quickly became a political dilemma for both the outgoing and the incoming administrations. In particular, Rep. Les Gara asked the Parnell administration to leave the decision for the Walker administration, and claimed that existing provisions in the state fiscal system favored the Nuna project.
In a decision from January 2015, acting Natural Resources Commissioner Marty Rutherford agreed with Caelus that the project was challenged without royalty modification and reduced the royalty rate until Caelus recovered certain upfront costs.
The deal lowered the usual 12.5 percent royalty rate to 5 percent on oil produced from the Torok formation from five leases associated with the Nuna development. The relief would remain in effect until Caelus earned approximately $1.25 billion from the project.
In return for the royalty reduction, the state required Caelus to sanction the Nuna development by March 31, 2015, start its spending program by Sept. 30, 2015, and spend at least $260 million and begin sustained production by Sept. 30, 2017. The state also required Caelus to provide public project updates after bringing the project online.
Early start
Caelus fully sanctioned the Nuna development in early 2015 and subsequently completed several major infrastructure projects, including the Nuna Drill Site 1 and access road. The company also began permitting a second pad, should it later decide to expand the project.
But in early 2016, the company suspended its ongoing drilling program at the Oooguruk unit and reduced its Alaska workforce by 25 percent in response to low oil prices.
The suspension also impacted the timeline of the Nuna project. The company shifted the estimated startup date to “2018 or later” from an earlier date of September 2017.
Around that time, in March 2016, Caelus submitted a confidential request to the state, asking for a two-year extension for the final two work commitments. The company cited “the continued low oil price environment and continuing uncertainty around HB 247,” the tax credit reform measure promoted by Gov. Bill Walker, as reasons for the request.
In the request, Caelus Energy Alaska Senior Vice President Matt R. Musselman noted that the company had spent $110 million on the project in 2015. The majority of the budget went toward the construction of the 22.5-acre Nuna drilling pad with some going toward the engineering and fabrication of production modules. The company still needed to spend approximately $250 million in advance of drilling operations and production.
The company had hoped to also complete a seven-mile pipeline connecting the Oooguruk Tie-in Pad to the Nuna drilling pad but had to postpone the project for financial reasons.
The company remained committed to the project and intended to resume construction work “as soon as possible,” but “it has become clear that a 2017 startup is impossible.”
In an April 2016 decision, then-Division of Oil and Gas Director Corri Feige wrote that the state did not feel it had the authority to extend the deadlines - in part, she implied, because of the internal departmental evaluation and the public review portion of the original decision. “However, the DNR fully appreciates the impact of the current market conditions and the extent of the company’s investment and commitment to (the) Nuna Development project, and will be open to consider a new Royalty Modification application from Caelus, of the company chooses to apply again, taking into account the current commercial environment and forward-looking investment plans,” Feige wrote.
Going forward
Even after the setback, Caelus has continued pursuing the Nuna project.
In the recently completely development year, the company continued refining its cost estimates and assessing the overall commercial viability of the project based on drilling and engineering results and on permitting requirements, according to a plan of development. In the coming year, the company expects to continue design, engineering and procurement work and ongoing geologic studies with the goal of a “2018 or later” startup. Plans also include an ongoing evaluation of “facility construction schedule and cost in light of oil price and tax structure environment,” according to the company.
Asked about the cost of a royalty modification application, Sullivan replied, “The royalty modification is a rigorous and thorough process that in the case of Nuna took the greater part of a year to get to the finish line. That being said, royalty modification remains a critical arrow in the state’s quiver to encourage new oil developments to come online.”
