Oil tax debate cuts to core of state-industry relationship

JUNEAU -- In a state Capitol meeting room hundreds of miles from where most Alaskans live, a Senate panel is digging into one of the most complex and important issues in state government: How much to tax Big Oil.

The proceedings challenge the very nature of the state's relationship with the oil industry.

Can the state's leaders trust what the major oil companies tell them about oil reserves, drilling plans and the operations of the trans-Alaska pipeline? If the state cuts oil taxes, will that reverse declining oil production and put 1 million barrels of North Slope oil down the pipeline every day, a top goal of Gov. Sean Parnell? Will the key to boosting production lie with small or independent explorers, not the big three oil companies, BP, Exxon Mobil and Conoco Phillips?

Over three days of testimony last week, lawyers who have fought the big oil companies told the Senate Resources Committee the problem of declining production is rooted not in high taxes but in the struggles of small companies trying to enter Alaska's market. They said there's plenty of oil, and legislators must push hard for detailed information.

"You don't need to give money to people to do what the marketplace is designed to do, particularly when we are dealing with the oil prices that we are," Anchorage lawyer Robin Brena told the senators.

The panel, co-chaired by Sen. Joe Paskvan, D-Fairbanks, and Sen. Tom Wagoner, R-Kenai, is taking a lead on crafting an alternative to House Bill 110, the controversial measure lowering oil taxes pushed by Parnell and passed last year by the House.

Parnell and House leaders say a tax cut is needed to make Alaska competitive with other states and to ramp up declining oil production. It's already expensive to do business here because of the harsh climate, challenging geography and distance from markets. The state can't control those things but can lower taxes, backers of the tax change say.

Critics of Parnell's proposal blasted it as corporate welfare. They say it would cost the state $8 billion over five years in a giveaway to oil companies with no guarantee of more jobs or drilling. Last year, senators said they needed more time and information for such an important decision. Now, armed with hundreds of pages of information and hungry for more, the pressure is on them to come up with something else.

TRUST BUT VERIFY

Revenue from oil provides about 90 percent of the state's general fund dollars. When oil prices or production drop, or taxes are set too low, the state ends up pinched for money to pay for essentials: schools and health care, roads and law enforcement. But if taxes are too high, oil producers say they won't invest in new projects here.

"Is it a game of chicken, in your opinion?" Sen. Lesil McGuire, a Republican from Anchorage who is on Resources, asked Brena, who has argued on behalf of municipalities trying to get higher property taxes off the pipeline. McGuire noted that both BP and Conoco Phillips have pledged to invest $5 billion each in Alaska if the taxes are rolled back.

Brena told the senators they should follow the "trust but verify" standard. He said they should collect much more detailed information before acting on billions in tax breaks. On his short list: the last three field development plans for all North Slope fields, recent internal oil company "authorization for expenditures" for projects that top $25 million, and planning documents for producing heavy oil.

"The last thing in the world that you want to do is give away $2 billion a year to an oil company so they go do what they were going to do anyway," Brena told the senators.

As it is, the big oil fields are aging and what they call easy oil is becoming more scarce. Oil production shipped through the trans-Alaska pipeline has declined from a peak of 2 million barrels a day to about 600,000 barrels a day. Supporters of Parnell's bill say if it passes, that production would rise, so there would be more oil to tax, offsetting the lower rate.

Last week, the Resources Committee introduced Senate Bill 192, a scant 1 1/2 pages that as written would raise oil taxes at high oil prices, not lower them. At $140 a barrel, every penny of profit would be taken by taxes and royalties under the measure. The bill is just a placeholder, not a solution, Paskvan said. No one wants to raise oil taxes, and the oil industry and its supporters shouldn't be alarmed, he said.

Senators will be concentrating on the aspect of Alaska's oil tax known as "progressivity," which increases the tax rate when oil prices are high, Paskvan said. The tax system, called Alaska's Clear and Equitable Share, or ACES, was passed in 2007 to replace a year-old oil tax that was tainted by a political corruption scandal.

TO MARKET

Last week, the committee heard mainly from Brena, the lead lawyer for municipalities last year in a nine-week trial over how to value the trans-Alaska pipeline for tax purposes. Reams of information revealing the inner workings of Alaska's oil industry came out during that trial and other litigation. Paskvan followed it closely, even coming to Anchorage to attend some of the trial.

Brena and a fellow Anchorage lawyer, Craig Richards, presented highlights and analysis to the Senate committee. They weren't being paid for their testimony.

Oil producers will get their chance to testify this week. So will the Alaska Oil and Gas Conservation Commission, a state agency that oversees drilling and operational plans, and the state Department of Revenue. And the Senate Resources and Finance committees will hold joint hearings to hear from Pedro Van Meurs, the Legislature's consultant on oil and gas issues.

The problem with declining production isn't taxes but rather a market that is controlled largely by BP, Conoco and Exxon, Brena asserted. The companies produce more than 95 percent of North Slope oil and together have about that size interest in the trans-Alaska pipeline, according to the judge's ruling in the property tax case. That makes it hard for independent oil companies to get their oil to market, unlike in other states, where there are numerous shippers and marketers that buy and sell oil, Brena said.

For instance, the owners of the pipeline intentionally set high charges for shipping oil through the line, Brena said, reading from an internal 1977 BP memo. It's a double win for them -- they are paying the money to themselves, and they can write the expense off their taxes. The Regulatory Commission of Alaska found that between 1977 and 1996, the pipeline owners collected $13.5 billion in tariffs more than would have been allowed under the current system, Brena said. A $2-per-barrel cut in shipping prices can make a huge difference, he said.

Besides that, independent explorers that find oil may have to build their own small pipelines and processing centers in the field to get the oil to the big pipeline -- even if the major operators have capacity in their lines, he said.

Some of the same issues were raised early in the administration of former Gov. Frank Murkowski by Mark Myers, then the director of the state Division of Oil and Gas, Paskvan told the committee.

"Mergers and market concentration on the North Slope have created a non-competitive environment in which three majors have a near monopoly that gives them a large competitive advantage in exploration, development, production, and transportation," Myers wrote in a memo to Murkowski's chief of staff in January 2003 that Paskvan read to the committee. There's 7 billion to 8 billion barrels of proven oil reserves on Alaska's North Slope and that's not counting oil that's technically challenging or ultra-expensive to produce or on land closed to development, Brena said. At $100 a barrel, the reserves amount to $700 billion worth of gettable oil, and producers won't leave it behind, he said.

'CASH COW'

The big companies are doing little to nothing to explore for new oil, so the state shouldn't lower taxes to meet their demands, Brena said.

BP, which operates Prudhoe Bay, didn't make it a secret when it decided to back away from Alaska exploration in the early 2000s, selling leases distant from existing fields. Still, how BP characterized its Alaska operation raised some eyebrows in the Senate committee.

In a 2004 internal report, an excerpt of which Brena provided, BP said, "Alaska's role in BP's portfolio is to provide a stable production base and cash flow to fuel growth elsewhere." In other words, it's a "cash cow," Brena said.

That seemed to trouble Sen. Bill Wielechowski, D-Anchorage, another committee member. Without guarantees of exploration, why should the Legislature lower taxes? he asked Thursday, when the committee heard an alternative view from a different Anchorage oil and gas lawyer, Bradford Keithley.

The answer is partly in the definition of exploration. There's still lots of oil in existing fields and near existing infrastructure, though it's getting more costly to produce, Keithley said. But drilling there usually isn't considered exploration, which involves looking for oil outside known pools.

BP and Conoco Phillips, Alaska's largest producer and the operator of the Kuparuk field, say they are concentrating on existing fields. They say they know there's a lot of oil that can be put into production more quickly than through exploration.

One Prudhoe project that both are excited about is called I pad, which would involve 50 new wells and an estimated 80 million barrels of oil, BP chief financial officer Claire Fitzpatrick said in a November speech. But it will happen only "when the investment climate becomes more competitive," she said.

And BP has spent $100 million on an experiment to produce heavy oil without knowing whether the project will work, spokesman Steve Rinehart said.

At any rate, the premise of no exploration may be off-base.

Conoco Phillips has done more exploring on the North Slope than any other oil company in recent years, according to drilling data compiled by the Alaska Oil and Gas Conservation Commission.

While the number of exploration wells drilled has been dropping since 2007, things may be looking up. No exploration drilling permits were approved in 2010 and just four in 2011, though some of the paperwork may not have come through yet, according to the commission. But already in 2012, the commission has approved seven.

None were for BP, Conoco or Exxon.

Senate leaders hope to have a Senate alternative to the House bill clear the Senate by mid-March. The issue would then be back before the House.