Persily: State needs to begin negotiating

Federal coordinator says there is room in market for North Slope gas; state needs to stop waiting, start fiscal term discussions

Steve Quinn

For Petroleum News

Larry Persily has seen the prospects of a large-diameter natural gas pipeline from the perspective of a journalist, a deputy revenue commissioner, a Washington, D.C.-based aide in Sarah Palin’s administration and a legislative aide.

Now he serves as the federal coordinator for Alaska natural gas transportation projects under the Obama administration.

It’s a daunting job that places him squarely in the middle of discussions ranging from regulatory debates and questions over whether the state will ever get a natural gas pipeline under construction.

Since taking the job in March 2010, the state went from competing large-diameter projects to a single pursuit by TransCanada and Exxon, while the prospect of an in-state line has emerged.

Just after returning from the National Association of Regulatory Utility Commissioners in Los Angeles, Persily spoke to Petroleum News about his first 15 months at the helm and his thoughts on the natural gas market and how it could affect the prospects of a long-awaited, large-diameter gas line for Alaska.

Petroleum News: What did you take away from the conference in Los Angeles?

Persily: That utilities and state utility regulatory commissioners are seeing the benefit of certainty of supply along with the certainty of price, that utilities are starting to look favorably at power generation to go out and sign long-term deals for gas supply and hedge for the future. Even if it means in some years they might pay less for gas supplies in the spot market, it’s OK because they are guaranteed that supply. It’s important for the Alaska project because the producers are going to have to sign to move 4.5 billion cubic feet a day everyday for 20 years to finance the project; they are going to want to sell the gas to someone for the next 20 years. As utility regulators feel comfortable with an abundant, stable, long-term domestic supply, they are longer-term deals and that helps underpin financing.

Petroleum News: What have you learned about natural gas markets since taking this job?

Persily: Everyone who makes a prediction is wrong, myself included. Aside from that it’s very complex. A lot of factors go into it. Clearly demand is on the upswing as is supply. Those two seem to be irrefutable facts. Utilities and power generators continue to be nervous over what kind of air quality regulations are on the horizon and how it will affect coal as a fuel for electrical generation. How much that is going to effect the future of gas, the gas demand and gas prices — well, those are some pretty big unknowns.

Petroleum News: Is that why so many predictions can be wrong?

Persily: Anything can affect it: weather; the environmental opposition to hydraulic fracturing; the regulations on coal plants; discoveries; the economy; hurricanes. All factor into it. There does seem to be a consensus that we are in for a long time of stable prices. The abundance of shale gas will prevent the price spikes we had in 2000-2001 and 2008. Before shale gas production took off utilities were worried about price spikes. Are you going to spend a billion dollars on a huge gas fired plant when you don’t know the cost of fuel for 30 years and if they are going to be able to pass that on to consumers? The spikes we had in past decade scared the hell out of them, and consumers and politicians.

Petroleum News: Does North Slope gas have a future outside of Alaska?

Persily: Yes, it does. I think Alaskans need to realize they have an interest in a commodity, which is not as scarce as they thought it might be a few years ago, but it’s still in high demand. North America burns a lot of natural gas. Between the U.S. and Canada something like 80 billion cubic feet a day. Yes, shale gas is growing but conventional gas production is declining much like North Slope oil. So you need a lot of new gas to replace the old stuff that isn’t there anymore and a lot of new gas to supply the new demand. If Alaskans get realistic as to what their gas is worth, at least in the short term, and look at the benefits over 50 years of a big gas line project with cheapest gas for Alaskans and with concurrent oil and gas exploration that would occur in the North Slope, we could still do very well with a North Slope gas line. The leaders of the state have to sit down and see if they can negotiate reasonable fiscal terms with the producers. The producers are going to have to take risks of billions and billions of dollars to pay for construction and the mortgage for 20 or 30 years until it’s paid off.

Petroleum News: I don’t see any movement of that kind. When should it begin?

Persily: I’d say they do it now. It’s going to take two or three years realistically to negotiate fiscal terms. Why not start in 2011. The Trans Canada-Exxon schedule calls for them to receive a yes or no on their certificate application from FERC in 2014. If it’s going to take two or three years to negotiate fiscal terms, why not start now?

Petroleum News: Should we be concerned by the lack of news from the open season? We are about 13 months past the end of it.

Persily: We should be realistic. Commercial negotiations are high-centered because Point Thomson hasn’t been resolved, because there has been no initiation of initial talks with the state, because the three producers aren’t exactly best buddies to begin with, because gas prices are low. BP has other things it’s dealing with — its problems in Russia. Conoco is busy splitting itself into two companies and getting a new CEO. There are other things the companies have to do so rather than wait for their schedule, why don’t we force the issue? Why don’t we find out is it possible to negotiate fiscal terms? I haven’t seen or heard anything that tells me it’s impossible.

Persily: Anybody who proclaims it’s uneconomical is looking at today’s spot prices, which have nothing to do with a decades-long, multibillion-dollar investment. Yes it’s uneconomical at today’s prices. No one is building it today and locking in today’s prices for the next 50 years.

Petroleum News: Didn’t you say last year if they didn’t have precedent agreements by now it was bad?

Persily: In December when Trans Canada didn’t meet its self-imposed deadline, well, yeah I worried because I think Alaskans are giving up on the project without trying. AGIA was oversold to Alaskans and to the Legislature. It doesn’t get you a project. All it gets you is a certificate, which is valuable if you’re going to build a pipeline. But if you’re not going to build a pipeline that’s a $500 million certificate to hang on the wall. It’s part of the job, but wasn’t going to get you a project. Anyone who believes so, who says so, it’s misleading. So the state had decided four years ago in the interest of moving this along, to get a certificate. Now Alaskans need to finish the job to see if they can put together fiscal terms to put together with a certificate. It’s going to be more difficult than it was three years ago based on the long-term outlook for prices, but North Americans are still going to burn 80 billion cubic feet a day of gas. It’s got to come from somewhere. If you can get Alaska gas into that market and still make some money off of it, why not?

Petroleum News: Does it make things easier for you now that you’re down to one project to focus on with BP and Conoco pulling the Denali project?

Persily: No. because the permits are the same. Whether you talk to the federal pipeline safety office, FERC, or Fish and Wildlife for permitting, or are looking for data collection needed for the pipe. There was only going to be one pipeline. You still need BP and Conoco the producers.

Petroleum News: What about Shell pulling out of the Mackenzie Valley gas project in Canada? Does that concern you from a market perspective?

Persily: No. That’s a smart business decision by Shell. Companies don’t throw money at every venture out there. Mackenzie has spent a lot of money, a lot of time. Mackenzie’s economics are tougher than Alaska’s. Alaska has a producing field out there. The gas comes up. We just have to treat it and stick it in the pipe. Mackenzie has none of the production facilities. A little more than half of the $16 billion will go to production facilities; a little less than half is going to the pipe. With the Alaska project, let’s face it, oil is going to carry most of the cost up there. Whether it’s airstrips, electrical power, the wells, that’s basically been charged off against oil. The Mackenzie project has to cover all that.

Petroleum News: You’ve noted other developments that speak to demand. Can you discuss those?

Persily: The biggest demand driver in the years ahead is going to be electrical generation. Anytime a utility or power generation company announces they are going to retire an old coal fired plant that builds more demand. The more demand, the better shot Alaska has in getting into a growing market. That isn’t the only one. The demand build that is necessary to increase the odds for an Alaska project is not going to come from people turning up the thermostat at home on cold days. It’s going to come from long-term purchase contracts from utilities and industrial customers. The truth is, shale gas by holding down prices, even though Alaskans are aghast at the notion, lower prices do build more demand. Not just utilities switching from coal, but the resurgence of petrochemical and industrial users, so if it goes their way and we reach a sweet spot and there is enough demand for Alaska gas to get into there. You certainly don’t want demand overwhelming supply because that gets out of balance and prices go too high, and when prices go too high people stop using gas. Certainly there is talk about long-haul truckers and delivery fleet vehicles switching to compressed natural gas. I think there will be more of that, but nothing near the volume you get off power plants. There is a lot of that in countries other than the U.S. If things go well, you’re talking about 1 billion cubic feet of demand increase in the next 10 years for compressed natural gas vehicles. Sure it helps. But in the last two years, you’ve had 4 billion cubic feet a day of increased gas demand for power-generation. That’s where the big numbers are going to come from.

Petroleum News: You helped draft the state’s gas storage law and your office recently produced a report on gas storage in the U.S. How important is that?

Persily: Gas storage is essential to Alaska no matter where they get it: Cook Inlet; Prudhoe Bay; Indonesia. There is a huge spike in the winter. You can’t open a valve and drain wells any quicker because of a cold day. Storage has been essential to the North American gas supply system. It gives utilities certainty knowing the gas is there. It creates a year round demand and there is a place to sell it year round.

Petroleum News: What were your thoughts on the in-state line report?

Persily: It’s very thorough, it’s well documented. They did a good job on a short timeframe. Even the report said it’s Plan B, but I know a lot of Alaskans view it as Plan A. It does point out that the economics of it are very marginal. More than likely you are going to have to have state investment in it. Again I pose the question: Before you invest billions of dollars on a small line, so small that it’s not going to create a need for more exploration on the North Slope and won’t produce that much in production tax revenues, why don’t you see if you can somehow use that same amount of money, leverage it to get a big line that produces a lot of tax and royalty revenue, cheaper gas tariffs and an immediate need to go out there and look for oil and gas. I understand Alaskans are frustrated, they have been hearing about a gas line since 1968. They’ve had a series of governors that told them it’s coming any day now. Well it didn’t come any day now. They are angry; they are pissed off; they don’t want to hear it anymore. They want to see something done, and the right to decide when something gets done. It makes sense to have it as an option, to have it ready if Plan A doesn’t work out, but realize that it comes at a high cost and has its own problems, too.

Petroleum News: Getting back to the fiscal negotiations with the state, where do you start?

Persily: You do not take out the Stranded Gas Act from the Murkowski administration and say ‘OK, boys this is our starting point.’ I don’t think you do that.

The last time Alaska tried negotiating with producers it was a political disaster of epic proportions.

If you are going to try to convince people of something that is very controversial, very contentious, I don’t see why starting with a draft with one of the most unpopular laws, during one of the most unpopular negotiations by one of the most unpopular governors. They meant well with it, but the execution was lacking. Start with a blank piece of paper and see what you can get done.

I don’t see any permit problem that can’t be resolved. I think the economics and fiscal terms and the politics are what would stop this project.

I don’t see myself as an optimist or a pessimist; I’m just a realist. Alaska needs it. Alaska can profit from it. Complaining that it wasn’t done yesterday, well we should confront the issues and see if we can get it done tomorrow.