Viable gas line seen

Alaska consultant says fiscal incentives, state ownership could boost project

Wesley Loy

For Petroleum News

A proposed Alaska liquefied natural gas export project could be economically feasible with “changes to the project’s cost structure and the state’s fiscal framework.”

That’s the view of Black & Veatch, a Kansas-based global engineering, consulting and construction company the state hired to study the project.

The consultant’s 188-page report, released Nov. 18, also says partial state ownership of the project could help it along.

The study comes amid yet another surge of hope for building a second trans-Alaska pipeline to develop the rich but stranded reserves of natural gas on the North Slope. Alaska’s frustrated dreams of such a pipeline are as old as the existing 800-mile crude oil line, which has been operating since 1977.

The facts behind the lack of a gas line are well known: Such a project would be hugely expensive and risky. And gas simply isn’t the valuable commodity that crude oil is.

The current project on the drawing board would see construction of a pipeline to carry gas south to tidewater, perhaps in Cook Inlet, where it would be superchilled into a liquid form for transport in special tankers to Asia.

The project would involve BP, ConocoPhillips and ExxonMobil, which are the North Slope’s major oil producers, along with perhaps the pipeline company TransCanada.

Such an LNG export project has been considered in the past, only to be written off as uneconomic.

The oil companies are considering the idea again, apparently at the prodding of Alaska Gov. Sean Parnell.

Nothing much new

It begins by rehashing many obvious and well-known facts.

The project would be enormously expensive, probably around $45 billion. It would consist of three major components, each of which would be a megaproject in its own right: a plant on the North Slope to treat the raw gas out of the ground ($10 billion), the pipeline itself ($12 billion), and the liquefaction plant on the south end ($23 billion).

Other governments and companies around the world also are pursuing LNG projects to try to capture a piece of the growing gas market, and Alaska’s project will have to compete with these.

Alaska can help with incentives such as royalty relief or tax breaks, but estimated future market prices for gas dwarf all other variable in the project’s economics, Black & Veatch says.

Finally, the firm says partial state ownership “can offer benefits to all parties involved in the project.”

The notion of state ownership also is not a new concept. It was considered strongly during the administration of former Gov. Frank Murkowski. It was dropped during the abbreviated term of his successor, Sarah Palin. Now, it appears it could come alive again under Parnell.

‘Big decisions’

The major readership for the Black & Veatch study is likely to include state legislators, who might be called upon to adjust the state’s fiscal terms should an actual project materialize.

Elizabeth Bluemink, a spokeswoman for the Alaska Department of Natural Resources, told Petroleum News the study cost $424,064.

“The goal of the study is to inform near-term decisions about the fiscal aspects of an LNG project in Alaska — big decisions that involve our royalties, taxes, or even a potential equity stake in the project,” said Joe Balash, Alaska’s natural resources commissioner. “This information will help us deliver on our constitutional obligations to maximize the benefits of developing Alaska’s North Slope natural gas resources.”

The study focuses in particular on that share of the North Slope gas that, upon production from state acreage, would belong to the state as a royalty. Generally, the royalty is 12.5 percent, and could be marketed either by the state itself or by the oil companies. Over the years, the state has taken both approaches with its royalty crude oil.

The royalty gas could be a valuable tool to encourage, after decades of waiting, construction of the gas pipeline, which the state covets as an economic development blockbuster.

But the state also doesn’t want to squander the royalty, which could happen if the project isn’t structured correctly.

One way to avoid this is to better “align” the state’s interests with those of the oil companies, the Black & Veatch study says.

“We have some work to do, but the good news in this report is that we don’t have to sacrifice our royalty revenue in the future to get a project going,” Balash said.

An ownership stake?

It looks at LNG projects in Norway, Yemen, Angola and Russia, and notes that state participation usually is through NOCs, or national oil companies.

Alaska could obtain an equity interest in the LNG project in exchange for royalty and tax breaks, Black & Veatch says. In some cases, governments have chosen to reduce or even zero out their royalties to improve the economics of an LNG project.

State ownership would provide some of that important alignment of interests, the study says. State ownership also could lower the upfront capital cost to the producer companies.

The question, however, is what sort of state ownership would be ideal?

The state conceivably could take a piece of the project, such as 100 percent ownership of the pipeline component, Black & Veatch says. The producers would pay a tariff to the state for transportation on the line.

Alternatively, the state could take a percentage share of the overall project.

The study finds that a 15 percent stake would not provide positive economics for the state, but 35 percent would under most scenarios.

An equity investment, however, would create serious risk exposure for the state, Black & Veatch says.

If the project saw cost overruns, the state would be responsible for its pro rata share of the increases. As an equity owner, the state would assume risk associated with force majeure, where an unexpected and disruptive event prevents the pipeline from operating and fulfilling contracts.

Also, the state would have “no control over upstream operations and volumes produced” by the oil companies, the study says.

The Black & Veatch report is available online at http://1.usa.gov/17Qd8JR.

How should Alaska market royalty gas?

The royalty is the state’s share of gas that companies produce from leased state land.

Should the state ever see construction of a megaproject to develop its vast North Slope gas reserves, a major decision for the state will be how to sell its gas.

The state would have two choices: It could take the gas physically, or in kind, and market the molecules itself. Or it could take the gas in value — that is, allow the major producer companies including BP, ConocoPhillips and ExxonMobil to sell the state’s gas along with their own volumes.

The Black & Veatch study suggests that taking the gas in value would be smarter than taking it in kind.

And why is that?

Such an organization would require 30 to 40 employees at salaries of $150,000 to $200,000 per year, the study says.

The state would lack experience in gas trading, and would face challenges in competing with the North Slope producers who have well-established liquefied natural gas, or LNG, marketing expertise and global portfolios, the Black & Veatch study says.

The state would need to make firm capacity commitments along the LNG supply chain, which could total up to $1 billion a year, the study says.

Conceivably, the state could realize “negative royalties” if the LNG price drops too low.

Bottom line, taking the royalty gas in kind could lead the state to lose up to 60 percent of its royalty value relative to the royalty-in-value approach, the Black & Veatch study says.

In any event, deciding how to monetize its royalty gas is a problem Alaska would love to have. The North Slope reserves have been stranded for decades as the state’s politicians have tried without success to compel the oil companies to lay a costly pipeline to develop the gas.

—Wesley Loy