Tax impacts on exploration, production differ Econ One looks at likely impacts on different activities from proposed State of Alaska tax/credit rates of 20/20 and 20/25 Kristen Nelson Petroleum News
Impacts of the governor’s proposed production profits tax could be different on explorers than on producers, economists representing Econ One Research told legislators March 13.
At low oil prices, for example, a 25 percent profits tax and a 20 percent credit rate helps companies that are exploring more than a 20 percent tax rate and a 20 percent credit.
Why is this?
Tony Finizza, an economist working in conjunction with Econ One, told legislators that it’s because the explorer has a negative cash flow for so many years before it has any production, it is marginally better off with 25/20 than with 20/20.
Finizza, a Ph.D. in economics and finance from the University of Chicago, and chief economist for ARCO from 1975 to 1998, said that unless the coastal plain of the Arctic National Wildlife Refuge is opened to exploration, large oil discoveries on the North Slope are unlikely. But incentives are required at low prices, and either the 20/20 or the 25/20 proposed PPT would be an improvement over the status quo as an incentive to exploration. And under either of the proposed tax and credit rates the remaining resources are economic, except at low prices of less than $30 a barrel. How an explorer looks at prospects A new field has an exploration and appraisal period of perhaps four years, development of three years and production over five to 20 years, depending on the size of the field, Finizza said.
He used estimates from the U.S. Geological Survey of a mean of 4 billion barrels for technically recoverable undiscovered oil on the central North Slope vs. 10.4 billion barrels in ANWR.
But on the central North Slope the USGS estimates that 51 percent of that oil will be found in fields with fewer than 64 million barrels, none in fields over 1 billion barrels and only 2 percent in fields over 500 million barrels. The USGS mean for undiscovered central North Slope fields (excluding ANWR) is 21 fields of 50 million barrels (60 percent), 11 fields of 100 million barrels (25 percent), four fields of 150 million barrels (10 percent) and one 500 million barrel field (five percent).
At $30 oil prices, the USGS estimates 860 million undiscovered barrels on the central North Slope would be economic, at $40 oil 1.89 billion barrels, at $50 oil 2.66 billion barrels and at $60 oil 3.2 billion barrels. One in six chance of finding oil Based on recent North Slope experience there is about a one in six chance that an exploration well will find oil, so an explorer would calculate the net present value of outcomes based on that one in six chance. Cash flow from exploration will always be negative; one-sixth of the time that will be followed by positive cash flow from production.
The proposed $73 million standard deduction helps the economics of an exploration program, he said, but net present value calculations still come up negative at $30 oil prices based on drilling six wells to make a discovery.
Finizza told legislators that by giving incentives to exploration the state is basically stepping in and saying well, the market won’t do it, I’ll encourage it. The state is helping out, so “you could get exploration that won’t pay and you’re going to hold some of the bill on that.”
ANWR is a critical point, Finizza said: Without it, smaller sized fields will be found and incentives for exploration will likely be needed.
The proposed PPT likely would get the state more exploration, but he said it’s impossible to say how much, because the expected small central North Slope field sizes weigh against the economics. The PPT helps, he said, and incentives would help; both tax credit combinations work better than the status quo. Majority in known fields Barry Pulliam, senior economist with Econ One Research, told lawmakers that the majority of North Slope production, more than 70 percent through 2030, will come from existing major fields and their satellites: Prudhoe Bay, Kuparuk River and Alpine. Of a total estimated at 5.6 billion barrels, only some 28 percent is expected to come from other fields.
The reason the Legislature hired EconOne, Pulliam said, was to look at the work done by Pedro van Meurs and the Department of Revenue and tell the Legislature whether or not that work was reasonable. While different people will have different assumptions, that doesn’t mean either set of assumptions is unreasonable and Revenue’s numbers look reasonable, he said.
Pulliam said Econ One added Oooguruk to future production numbers, since that project has begun since Revenue prepared production figures in the fall. And he said he disagreed on the point of when the North Slope might shut down without a gas line. Econ One thinks, he said, that if oil is at $40, then the North Slope, particularly Prudhoe Bay, would be economic for longer than 24 more years. But, he said, he puts more emphasis on the next 10 years because changes out farther than that are so hard to forecast. EIA forecast used for some work Over the next 10 years the U.S. Department of Energy’s Energy Information Administration has recently forecast prices at an average of $54.70 per barrel.
Using Revenue’s worst case scenario — no ANWR and no exploration — and the EIA price forecast, Econ One estimated $29.255 billion from a 20/20 (20 percent tax; 20 percent credit) PPT tax through 2030, $17.971 billion more than the state would have received under the status quo, and an effective tax rate of 12.6 percent compared to 4.9 percent under the status quo.
At a $40 oil price, the state would earn $8.888 billion, $3.434 billion more than under the status quo, and have an effective tax rate of 10.2 percent, compared to 6.3 percent under the status quo. The breakeven point would be an oil price of $30.50.
Pulliam also presented a case where deductible costs are 20 percent higher, which moved the breakeven point between the PPT and the status quo to $34.60 per barrel, and resulted in severance tax revenues of $7.419 billion at $40 per barrel, an increase of $1.965 billion over the status quo. The sliding scale Pulliam said he talked with Daniel Johnston (see story this issue) about making the plan more progressive with a sliding scale at higher oil prices.
He showed tables of what kind of a change a sliding scale would make when added to the PPT at higher oil prices.
While the effective tax rate at $40 oil is 10 percent with a 20/20 PPT (2007 through 2030) compared to 4.9 percent under the status quo, that effective tax rate goes to 11.9 percent if the price of oil rises to $50 and a 0.30 percent increment kicks in at a $50 threshold price. (See story this issue on committee substitute prepared by House Resources, which includes a sliding scale.)
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