by Tim Bradner

31-10-04

Alaskans face a decision soon that ranks up there with the Permanent Fund in terms of significance. Gov. Frank Murkowski has made a proposal for the state to invest in a natural gas pipeline to be built from the North Slope to the Lower 48.
Industry appears receptive to the idea, based on comments made in the press. The companies involved are now studying a state proposal. The specifics are still confidential but the governor and other state officials are letting state lawmakers know the broad outlines of the deal they have proposed.
Legislators had better listen up. This is a big one.

Partial state ownership of the pipeline is part of a broader contract being negotiated on state fiscal terms. The agreement, if it is concluded, will be released for public review in early spring, administration officials say. Submission to the Legislature for approval will come after a 30-day public review period. We need to think this through carefully. There are risks, but there could also be big rewards.
As a part-owner the state could earn much more revenue than might be the case if we just collected taxes on gas production and revenue from sale of our one-eighth royalty share of the gas. As a partner in the pipeline we could earn steady profits from our ownership share. As long as gas moves through the line we profit, no matter what happens to gas prices. The biggest reward, however, could be in just helping the project happen.

The stakes are huge. Plainly put, if a gas pipeline happens it will not only bring hundreds of millions of dollars a year into the state treasury but could rejuvenate our North Slope petroleum industry and extend its life for decades.
If the pipeline doesn't happen, the gas remains stranded until some other way is found to market it, such as converting it to a liquid and moving it through the existing oil pipeline. Meanwhile, our North Slope oil industry could wither as the aging oil fields decline. There will be no new state revenue and in a few yearswe'd be faced with huge budget gaps.

If partial-state ownership reduces risks for all parties and allows the project to move forward, this initiative will be worth it.
How does state investment help the project? By reducing several kinds of risk and increasing returns for all parties, the administration says.
What's being discussed is for Alaska to enter a production-sharing agreement with the industry, a kind of joint venture. This might seem radical in the United States but it is common in other oil-producing countries. The industry is used to the concept, and that's why it's receptive to this idea.

Simply put, the state would take ownership of a significant share of the gas production, more than our present one-eighth royalty. Think of it as a larger royalty. We would take the royalty in-kind, meaning in the form of gas rather than money. We do this now with royalty crude oil.
Alaska would then invest in a share of the pipeline itself, both the pipe and the capacity to ship through it, sothat it ships its own gas and earns profits for moving its own gas. The state would sell its gas on the market and based on our two decades-plus experience in selling royalty crude oil, can reasonably expect to earn more from that than if the royalty gas were just sold to the producing companies.

We've sold state royalty oil on the market for years, and we've also nurtured local industries with royalty oil. Refineries that operate near Fairbanks, Kenai and Valdez would not be there if the state didn't sell its royalty oil to the refineries.
For the companies, a renegotiated fiscal deal with the state reduces risk because taxes are converted to a royalty and the royalty is taken in the form of gas. That reduces huge uncertainties and future lawsuits over tax and royalty administration. The industry's overall political risk in Alaska is reduced by having the state as a partner. Risk reduction aside, the state administration says its calculations show the industry does better financially under this arrangement.

The state would appear to do better, too. As a partner in the project the state is in a more advantageous position than the industry partners because its earnings are free of federal income tax.
Can the deal be done without betting the Permanent Fund? State officials think it can. Recent legislation passed by Congress will have the federal government guarantee 80 % of any debt for this project. That leaves the state on the hook for only 20 % of its investment. Financial consultants have told the administration that even this portion can be financed with debt, so the state wouldn't have to invest cash.

Revenue bonds would be issued to raise money, and revenue from the project used to repay the debt. However, this isn't entirely a free lunch. Even with revenue bonds there is a moral obligation for the state to stand behind the bonds even if there is no legal obligation. However, the amount of exposure seems reasonable considering the potential rewards, the administration believes.
This is a big-ticket decision, make no doubt. We should look at this carefully and not have our judgment clouded by a desire for short-term prosperity and construction jobs. Alaskans showed wisdom when they created the Permanent Fund. Multiple generations are benefiting. We made good decisions then, and we can again.

Tim Bradner writes for an Alaska economic reporting service. He also consults for private clients and writes for business publications.