New incentives move Alaskan gas line toward negotiation

Nick Snow
Washington Correspondent

HOUSTON, Oct. 27 -- Alaskan government officials and the three major North Slope producers express optimism that they will reach an agreement to build a natural gas pipeline to the Lower 48 states now that several incentives have become federal law.

Gov. Frank H. Murkowski met with executives of Exxon Mobil Corp., BP PLC, and ConocoPhillips during the American Petroleum Institute's annual meeting in Pasadena, Calif. After the meeting, Murkowski said the state would submit an initial proposal to the producers by Oct. 28, and the producers indicated they would try to respond within a week. Both sides want to have a final plan ready when Alaska's legislature meets in January.

The state's efforts to get the pipeline built were clearly helped when its congressional delegation successfully got most of the provisions it wanted moved from the comprehensive energy bill, which is dead for this session, to the fiscal 2005 military construction appropriations bill. The provisions include a loan guarantee that requires the federal government to pay 80% of the first $18 billion spent if the pipeline is not completed.

A second financially significant provision, which became part of a jobs bill, shortens the pipeline's authorized depreciation period to 7 years from the current 15 years allowed under the federal modified accelerated cost recovery system, but keeps the project's class life at 22 years.

These two provisions helped set the stage for negotiation of an agreement that the producers and Alaska hope will provide the fiscal certainty needed for such a mammoth project.

Questions seen
But a leading corporate financial advisor who specializes in oil and gas still sees significant questions that need to be addressed.

David T. Lupia, president of David T. Lupia Inc., Ridgefield, Conn., said that if the first provision simply said that $18 billion of the project's cost would be paid by the federal government, the incentive would be very beneficial.

"As I understand the legislation, however, there are two conditions: one, that there are equity commitments to finance the remaining 20% of the pipeline's cost, and two, that there will be a completion guarantee provided," he said. "This completion guarantee is a limiting factor in the financing of the pipeline. It means that somebody is going to have to be willing to open a checkbook and pay for 20% of the total project cost. Since no one knows what it will be, that's an open-ended commitment. Should the pipeline cost more than $22.5 billion to complete, the equity holders would be on the hook for the remaining costs."

The provision also could put the US energy secretary in the position of having to assess the capability of equity holders to make adequate capital commitments with satisfactory guarantees, according to Lupia. He believes that the three major North Slope producers are the only group with the financial muscle to make such a commitment.

"If it were not for the completion guarantee, my guess is that this would be a done deal. But that guarantee essentially says that somebody has to take an extraordinary risk," Lupia said. "The pipeline would go through high mountain passes. It would be extraordinarily long¿much longer than the trans-Alaskan pipeline¿and we don't know what the sponsors would discover as they built it. What if there was a technical problem in the design and it didn't work as planned? That would involve additional costs that could be substantial."

He emphasized that he doesn't know details of Alaska's new strategy of providing some of the gas pipeline project's equity support and assuming some of its risk.

"To the degree that the state is prepared to shoulder some of the completion risk for constructing the pipeline and some of the economic risk that may exist after it is completed by absorbing pipeline costs that cannot be passed on to the marketplace in the form of a selling price, its participation in the project very well could enhance its viability," Lupia said.

"Exactly how the state might go about assuming that risk is another matter entirely. If it's just a question of supplying capital without taking any risk, I don't really know if that advances the football down the field."

He said the second provision includes an enticement for the producers by giving them what amounts to a 15% tax credit on their North Slope gas production and processing facilities that could cost as much as $2.6 billion to build.

"What's fascinating is that in order for producers to get these benefits, an Alaska natural gas pipeline could not cross into Canada north of the 68th Parallel. This effectively precludes a northern route, which would be much more economical," Lupia said.

"In a way, what has been done is that the government is offering subsidies in the form of debt guarantees and income tax adjustments to improve a less attractive investment alternative. Obviously, Alaska convinced Congress and the federal government that the pipeline should go through as much of the state as possible."

Other provisions
Other Alaskan natural gas pipeline provisions that wound up in the military construction appropriations bill authorize:

-- Streamlined permitting and expedited court review by creating the Office of the Federal Coordinator for Alaska Natural Gas Transportation Projects.

-- Protection of rights-of-way and permitting certificates granted for an Alaska gas pipeline under the 1976 Alaska Natural Gas Transportation Act. The provision also requires the US Court of Appeals in Washington, DC, to expeditiously hear any judicial complaints about a pipeline.

-- Environmental review provisions identifying the Federal Energy Regulatory Commission as the lead agency for a single environmental review that must be completed within 18 months of the application being filed. The provision requires FERC to issue a permit within 60 days of completing the environmental review.

-- Alaska control of in-state use of the gas to facilitate use for heating or construction of a petrochemical plant in the state.

-- Fair-competition provisions to assure that all gas producers in Alaska will be able to compete for transmission capacity on the pipeline.

-- A $20 million job-training program in Alaska, including $3 million to construct a facility in Fairbanks. The provision also requires the US labor secretary to make grants to the state for training programs that will include Alaska natives so they can work on the project.

-- Incentives to use US-made steel for the pipeline, to hire Alaskans as construction employees, and to give Alaskans opportunities to invest in the project.

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