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Vol. 12, No. 3 Week of January 21, 2007
Providing coverage of Alaska and northern Canada's oil and gas industry

MEET ALASKA 2007: Alaska wants gas pipeline, but industry needs fairness, predictability

Petroleum News: What advice do you offer Alaskaís new governor, Gov. Sarah Palin?

Jim Eason: My advice is centered on what she apparently is doing, based on her public comments and her comments before the election. From every indication since then that Iíve seen, she appears to favor an open and competitive process to identify all the parties that might have an interest in developing the (gas) pipeline on Alaskaís behalf.

Ö I think it is in the stateís best interest to have as much opportunity to visit with different folks and to get every proposal that might be out there. Compare them and make the judgment which best suits the stateís interest.

PN: So you are not all concerned that this reopening of the process might set back the pace of development somewhat?

Eason: I think the question is whether we go for a review of all alternatives or whether we run the risk of accepting a project and making concessions that enable us to have a project that might not necessarily be in the stateís best interest.

I understand the sense of urgency that people have, but as you know from the public record, there was considerable concern about the contract terms that Gov. Murkowski had negotiated. There were numerous opportunities or efforts to move that contract through the Legislature, all of which failed. I think we are still looking at a fair amount of time to try to put together where we were with that contract, and also to try to find out what it was the governor recommended as renegotiated provisions. We must keep in mind that none of those apparently, or at least according to the public record, none of those suggested provisions have been accepted by the producers. That makes it very difficult then to say how long that process is going to take.

PN: As Gov. Palin looks at all of the proposals, what should she be looking for?

Eason: She should be looking for something that provides a guarantee, or as close as she can get to a guarantee, that there actually will be a project. One of the things to keep in mind is that a couple of years or more of pretty steady effort has been made to reach a conclusion on a contract with the producers. When it was all said and done, under the words of that contract, there was no commitment to build that pipeline. There was a commitment to do some intermediate steps. But there were so many provisions that allowed the companies to reconsider based upon changed circumstances that the state, for sure, was giving up a number of things when it signed that contract that, on the other hand, the producers werenít. They were essentially taking an option on the pipeline without a formal guarantee of producing it.

In my opinion, that is a very important feature. We want to be sure we are getting what we think we are, and everybody seems to think the one thing they want is the pipeline. Ö We need to understand the full range of all the costs that the state is incurring to encourage a contract. That is sometimes very difficult to get at, because so many things got added to the mix in the negotiations, including fuel costs.

You may or may not remember that in early 1978 or 1979, the stateís leasing law underwent a major reorganization in the Legislature. Under that series of amendments, one of the things done in answer to the continuing Amerada Hess litigation was to remove any ambiguity or dispute between the producers and the state over whether the state had any obligation to pay fuel costs when oil and gas is produced. The Legislature said from this point forward, ďNo.Ē And as a matter of fact, it is so important to the state that we have to put this provision in every lease form we issue, saying that no fuel costs are allowed.

And during these negotiations on the gas pipeline, the producers got a concession from Gov. Murkowski that would in fact not only give them fuel costs for all the leases they hold today, but also would acknowledge that would be available to them for leases in the future as well as to the producers and lessees who are not party to that contract. When we add those dollars up, thatís hundreds and hundreds of millions of dollars. Thatís just one issue.

I think itís important for anyone representing the interests of the State of Alaska to understand the full range of the costs incurred in the negotiations. Itís not just the things that are the most obvious. That contract is hundreds of pages long and has thousands of pages of attachments when itís all said and done. I guess another way of saying it is we need to take our time and do a thorough analysis of all the pieces and then make the judgment about whether we are looking at the only deal or the best deal.

PN: What about the whole question of access to the pipeline?

Eason: Without access, weíre simply going to consolidate the power in the hands of the three major producers who will control not only the pace and ownership of leasing but also the pace of development. That is an extraordinarily important thing for the state to insist upon. And it needs to be explicit. Again, one of the problems with the proposed contract is it has very ineffective access provisions. The stateís certainty of access could be guaranteed by simply agreeing in the contract, as a consideration of that contract, that access will be full and open.

PN: What about oil and gas incentives?

Eason: Historically, the Department of Natural Resources has had the ability to provide a pretty wide range of incentives, starting with the fact that it can tailor its lease terms prospectively to provide for relatively low lease bonuses, and it can lease at rates as low as 12.5 percent royalties. Those things, I think the record reflects, have been pretty successful in encouraging fairly competitive lease sales. I think thatís something the state already had the authority to do, and based on historical activity, probably will continue to do that.

The other thing that certainly has happened in recent months has been amendments that were done to the severance tax law of last year. Among the principal features that that accomplished is the ability to recoup the cost of exploration and development under the defined terms of that statutory change for new development. There was a lot of discussion in the Legislature before they finally, after several attempts, settled on a new severance tax provision, and most of that discussion, or at least a great deal of it, was centered on the fact that it was intending to encourage exploration but more importantly to encourage early development of things that were discovered. That is something thatís new that was just instituted this past summer, in one of those iterations for special sessions.

PN: This is the production tax?

Eason: Thatís right. And weíve still got the exploration licensing provision for the state to encourage people to come in and look under fairly low financial commitment terms at large areas, areas that have not been developed and in most cases, have been lightly or not explored at all. I think those terms are about as lenient and encouraging as any we will find anywhere in the world. Thatís the tool the state has, and they have used it and will continue to use it. I think those things are very important because people canít spend huge amounts of money required to explore truly virgin territory, sometimes without some major incentives. Those incentives are designed to provide for that but theyíre designed to also ensure the state gets a commitment for it and the commitment is timely made.

The other thing is the state still has the opportunity to look prospectively as production is occurring in changed circumstances and to adjust royalty rates through royalty reductions in those situations where it is appropriate. There have been two instances in the past two or three years where the state has done that for North Slope producers.

Those are things that have been available to the state, in one fashion or another, under statutes and regulations in the Department of Natural Resources. They clearly work when they are appropriate, and in my view sitting on the outside looking in, the state has been pretty reactive in responding to those requests and taking a serious look at the economics and in those situations where they are justified, making changes.

PN: On the North Slope small independents may be running into difficulty gaining access to production and transportation infrastructure. What should Gov. Palin do about that?

Eason: Some effort, mostly since I have left the position as director, has been made to deal with this. Ö That process is clearly one that should be pursued to the fullest extent that the state can. Because on most of these fields that have been in production now for a number of years, there is excess production capacity in the facilities. It is in the stateís interest to have that capacity made available to its new producers and to its explorers under as favorable terms as possible because it increases the wellhead value for the state. It also makes those investments easier to make, and it makes conservation of the stateís resources more certain because people continue to produce not only the small fields but they produce the fields beyond the point that they would have, had they had responsibility for building new infrastructure or paying more for it. It also in the long run is helpful to the producers that own that infrastructure. Having something, as an offset for continuing costs from the access provision, is better than having nothing.

Ö Itís the same issue really, that drives the importance of having true, confirmed access to the North Slope gas pipeline. We donít want to recreate the situation where we have a few producers virtually controlling access to facilities on the North Slope, gas and oil. Thatís not good for the state.

PN: What else should Gov. Palin do to encourage exploration in frontier areas like the offshore?

Eason: I think all the tools are there. I think her ability to offer through the Department of Natural Resources very favorable leasing terms, and one of the things I didnít mention, which the state still has and has used frequently, is exploration incentive credits. Thatís where they issue leases that have the standard lease provisions, but they provide for the state sharing the cost of exploration wells. Under the new severance tax provisions, they are allowing people to recapture some costs there, but the stateís ability still exists to use what theyíve done in the past, the exploration incentive credits.

In addition to monetary things, there are philosophical things that the governor and her administration can do, that at least from my perspective, are almost as important as the monetary things.

Lessees need to be treated fairly and predictably. I was always very concerned, and I personally believe government has an obligation to treat lessees not only fairly, but predictably and consistently. We need to make sure that every lessee, from the smallest to the largest, knows that the state is not going to do things differently for them than we would for others. I think that is a very important rule. It reduces litigation because people wonít sue the state because somebody else got what they think is a better deal or a bad deal. They arenít waiting until the last minute to develop things, hoping they can convince the state not to honor and follow its lease terms. The more predictability we give people, the more robust production is likely to be.

PN: Are you aware that the state has ruled that the owners of Point Thomson are in default? At this point, what should be done?

Eason: From reading what the Department of Law representatives have said and what they said in negotiations on the gas pipeline, they expect that litigation to take two, or perhaps three, years.

I think in comparison to the period of time that has passed without development, thatís a pretty small bump in the road. I think the decision was absolutely 100 percent correct, that it was years overdue.

Itís in the stateís interest to have some predictability and consistency in the way it enforces its rules. The history of Exxon and its partners is one commitment after another, including commitments of money and wells, that they have failed to produce, after saying in writing without any question that in the deals they were getting to extend those leases they were going to drill wells or pay multimillion-dollar sums of money. Over the last two or three plans, they simply did not do that. We canít allow that to go on. We have to make a decision that we are going to fish or cut bait.

Thatís what the governor did. I fully support the decision. Itís the decision I would have made if I had the authority. I expect Exxon will contest it, and it will be a fairly expensive piece of litigation. But in the long run, that is not something people should be afraid of. Sometimes the stakes are so high we have to defend the stateís interests. Ö There are hundreds of millions of barrels of oil and condensate there that can be produced without damaging the ability to produce the gas. It makes no sense to wait on a pipeline for the gas in order to produce the oil. As a matter of fact, it can result in losing some of the volume of oil and condensate if that happens.

PN: What about Cook Inlet? What should be done to meet the challenges there, which are considerable with the looming gas shortage?

Eason: .... The state has leveraged about all it can in Cook Inlet. Itís made it a very favorable place, on the royalty and the tax side, to explore. But unfortunately several large, promising prospects have not turned out to be what they had hoped they would be. Cook Inlet is just at that point in a basinís life when it likely can see other discoveries, but peopleís perception of the upside is obviously not there. Itís one of those places that could benefit from new ideas and new eyes. Ö

The other thing is I was hopeful we would see some leasing on the OCS, the federal land in Cook Inlet. But in the recent federal lease sale, attempts to generate interest there by the Minerals Management Service sort of fell on its face because peopleís perceptions just werenít that high. Ö

PN: Anything else?

Eason: Both Cook Inlet and the North Slope still have great promise. Itís reassuring to see that new people are expressing an interest in both places. I can remember when I first came to Alaska in 1974. That was three years before the pipeline was finished, and yet there were a large number of companies exploring there. A lot of people were present that have the names that people have today, like Shell, Chevron and others. We all watched them go from fairly large presences in the state to no presences to speak of. Over the last few years, weíre seeing them come back, along with others that are new to the area. Historically, thatís the way things often happen in largest prospective oil and gas basins. Itís a good sign, and hopefully we will see more of it.



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