Legislature(2015 - 2016)BUTROVICH 205

04/09/2016 09:00 AM RESOURCES

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09:00:16 AM Start
09:00:49 AM SB130
11:36:01 AM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
<Pending Referral> --Invited Testimony Only--
Heard & Held
-- Testimony <Invitation Only> --
+ Industry Stakeholder Testimony: TELECONFERENCED
Caelus Energy; Furie Alaska; The Ahtna Corp;
Great Bear Petroleum; BlueCrest Energy
-- Testimony <Invitation Only> --
+ Bills Previously Heard/Scheduled TELECONFERENCED
           SB 130-TAX;CREDITS;INTEREST;REFUNDS;O & G                                                                        
        [Contains discussion of companion bill HB 247.]                                                                       
9:00:49 AM                                                                                                                    
CHAIR GIESSEL announced consideration of SB 130.                                                                                
PATRICK  FOLEY, Sr.  Vice  President,  Alaska Operations,  Caelus                                                               
Energy Alaska, Dallas,  Texas, said he is responsible  for all of                                                               
Caelus'  Alaska  operations.  He  was sorry  to  not  be  present                                                               
physically this morning. He was  at their world-wide headquarters                                                               
in Dallas resolving some "very  significant employment issues" in                                                               
planning  for their  2016 operations.  He  would be  back in  the                                                               
Anchorage office on  Monday to deliver a  very unpleasant message                                                               
to about 25 percent of his workforce.                                                                                           
He said the slide presentation is  the same series of slides that                                                               
he previously presented  and testified to in  other committees on                                                               
this same bill.  He would not go through that  pack page by page,                                                               
but he  would focus on key  issues. He would also  emphasize some                                                               
of the points  raised in President and CEO of  Caelus Energy, Jim                                                               
Musselman's, letter to the Governor on Friday.                                                                                  
CHAIR GIESSEL noted that members had received that letter.                                                                      
9:03:15 AM                                                                                                                    
MR. FOLEY said Caelus, combined  with their Pioneer heritage, had                                                               
spent  an  aggregate  of  $2  billion in  the  State  of  Alaska,                                                               
produced 23 million barrels of oil,  and last year had a drilling                                                               
capital budget  of roughly $300  million. That work  activity has                                                               
earned them about $100 million in transferable tax credits.                                                                     
Over the last several years,  Caelus had employed about 300 hard-                                                               
working  Alaskans focused  on four  projects: Oooguruk  (offshore                                                               
the Colville Delta),  a companion onshore project  called Nuna, a                                                               
400,000 acre  acquisition of  leasehold and  exploration activity                                                               
on  those leases,  and they  have  shot two  very substantial  3D                                                               
programs.  In this  last  week they  drilled  two very  expensive                                                               
exploration wells at Smith Bay on their Tulimaniq Project.                                                                      
9:04:45 AM                                                                                                                    
"On  the bright  side,"  Mr. Foley  said,  Caelus produced  about                                                               
18,000 barrels  of oil  at Oooguruk yesterday  and over  the next                                                               
month  they  will  complete stimulation  activities  on  all  the                                                               
wells, so that  production will grow to  over 20,000 barrels/day.                                                               
Then production will deplete normally over the next 30 years.                                                                   
He said  the results  from the  two wells at  Smith Bay  are very                                                               
encouraging  and  they  plan  to  be out  there  next  winter  to                                                               
continue with an  appraisal program. He hopes to be  able to tell                                                               
them about development plans at some point in the future.                                                                       
"On a  significantly less  bright side," in  response to  the low                                                               
oil price  and tax uncertainty,  Mr. Foley said, Caelus  has been                                                               
forced to  make very  immediate and  drastic changes  to business                                                               
operations and last week announced  suspension of drilling "grass                                                               
roots"  wells at  Oooguruk. This  means that  their Nabors  19 AC                                                               
drilling rig  that has been drilling  365 days a year  since 2008                                                               
will  cease.  That project  employs  nearly  300 contractors  and                                                               
those jobs  will be temporarily, he  hopes, put on the  shelf. In                                                               
addition, they will lay off  nearly 25 percent of their workforce                                                               
next week. The Nuna Project remains on hold.                                                                                    
Simply put, Mr.  Foley said, Caelus is struggling  to survive and                                                               
this is  probably the story  of many  other oil companies  in the                                                               
United  States  today. Survival  uses  a  fairly common  formula:                                                               
eliminate waste and reduce all  the costs wherever possible. Now,                                                               
the only tools  that remain available to them are  a reduction in                                                               
their capital  program and  administrative expenses.  Simply put,                                                               
they cut payroll. They will do  these things and at the same time                                                               
maintain their  wells and facilities  and continue with  the same                                                               
excellent AHFC  program. They  will just  have to  find a  way to                                                               
accomplish their objectives with fewer people.                                                                                  
9:08:20 AM                                                                                                                    
MR.  FOLEY said  their  business  has been  funded  for the  last                                                               
several years by  combining all of their available  cash with any                                                               
free cash  flow that  is available  and all  of their  earned tax                                                               
credits. They  take that  money and drill  wells. The  reality is                                                               
that the company  has limited capital and no  excess revenue over                                                               
their costs  at this time, and  in the future if  the tax credits                                                               
are reduced  they will have even  less capital. That is  why they                                                               
decided to suspend drilling operations.                                                                                         
9:08:58 AM                                                                                                                    
SENATOR WIELECHOWSKI joined the committee.                                                                                      
MR. FOLEY said  slide 6 demonstrated how  the current legislation                                                               
would impact Caelus.  It used today's pricing,  $36 or $37/barrel                                                               
in 2016,  and increased  that to  $52 over  the next  five years.                                                               
They  tried to  portray  what  their base  business  is and  then                                                               
applied the various elements of the bill.                                                                                       
9:09:50 AM                                                                                                                    
SENATOR STEDMAN joined the committee.                                                                                           
MR. FOLEY continued that the GVR  "fix" would no longer allow the                                                               
gross value reduction (GVR) to  be included in the calculation of                                                               
a net  operating loss  (NOL). That  simple piece  actually erodes                                                               
the value  of his  business by  about 13 percent  and adding  a 4                                                               
percent hard floor erodes the value  of his business even more by                                                               
a total  of 31 percent.  A $25 million transferable  credit limit                                                               
would erode the  value of his business by 77  percent and raising                                                               
the hard floor to 5 percent  would erode the value by 83 percent.                                                               
Then his business would be worth "17 cents on the dollar."                                                                      
He also calculated the impacts of  the bill that just came out of                                                               
the House. It used a 2 percent  hard floor, a $100 million cap on                                                               
transferable  tax  credits,  and limited  the  GVR  applicability                                                               
period to 5  years. Its provisions are more  favorable, but still                                                               
reduce the value of his business by nearly 50 percent.                                                                          
The Nuna  Project (slide 7)  is the kind  of project that  is "on                                                               
the  bubble," Mr.  Foley said.  It needs  some price  recovery in                                                               
order to go forward and it would  also require some kind of a tax                                                               
credit system.  But if  it does go  forward, it  represents about                                                               
100 million  barrels of oil  and peak at production  of 20-25,000                                                               
barrels/day.  It  would  employ  nearly  300  full-time  employee                                                               
contractors for two  years of construction and for  about four or                                                               
five  more years  of a  drilling  program. That  would result  in                                                               
future royalty payments  of nearly $900 million to  the state and                                                               
future net profit share payments  of $500 million. There would be                                                               
$250 million  in future  production tax  payments and  about $100                                                               
million in ad velorem tax payments.                                                                                             
MR. FOLEY said this project would  be entitled to earn about $150                                                               
million in  future NOL cash  payments from the state.  At today's                                                               
prices, this  project won't go  forward, but in  the neighborhood                                                               
of $70/barrel it  would. Then they would receive  $250 million in                                                               
credits  and  that  would  be offset  by  future  production  tax                                                               
payments to  the state in  a similar  amount. But over  and above                                                               
that,  the state  would bring  in  nearly $1.5  billion in  other                                                               
9:14:34 AM                                                                                                                    
MR. FOLEY said  he appreciates that the  Alaska State Legislature                                                               
is in a fiscal crisis, like  his company. Because of the economic                                                               
conditions his company faces, he  will be reducing the payroll by                                                               
25  percent,  but they  would  "find  ways" to  accomplish  their                                                               
objectives with a smaller workforce.  On Monday, he will have the                                                               
very  unpleasant  task of  sitting  across  the table  from  very                                                               
smart, hardworking,  caring, dedicated, hopeful people,  many who                                                               
are his friends, and he will explain  to them that in a matter of                                                               
days their  employment will end.  "And I  can assure you  that no                                                               
matter  what side  of  that  table you  find  yourself, it'll  be                                                               
simply horrible..."                                                                                                             
He  said the  oil industry  has borne  the vast  majority of  the                                                               
state's tax  burden since  the early  development of  Prudhoe Bay                                                               
and that may have been appropriate  in the prosperous days of the                                                               
past, but those  days are behind us now. The  price has collapsed                                                               
by 70  percent in just  this last year  alone and at  today's oil                                                               
price, his company loses money with every barrel it produces.                                                                   
MR. FOLEY said there  is a lot of talk about  a need to diversify                                                               
revenue sources  to help balance  the budget and he  advised that                                                               
it would be wise to seek  a fair and balanced approach that takes                                                               
all the  necessary measures to  adequately protect  the wellbeing                                                               
of the most  vulnerable. Many of the tax  credits contemplated in                                                               
the original  bill attack the  most vulnerable in  industry, even                                                               
if they are oil companies.                                                                                                      
9:18:12 AM                                                                                                                    
CHAIR  GIESSEL  noted  that   Senator  Wielechowski  and  Senator                                                               
Stedman  had joined  the committee.  She also  noted that  Deputy                                                               
Commissioner of DOR, Jerry Burnett, was in the audience.                                                                        
SENATOR COSTELLO said  she appreciated slide 6 that  laid out how                                                               
the different components of the  bill will impact his company and                                                               
asked  him to  comment on  the logic  that previous  legislatures                                                               
have  used  to  try  to  incentivize  his  and  other  companies'                                                               
activities,  and  now  say  they were  successful  and  now  it's                                                               
prudent to pull back on some  of that because the state is facing                                                               
budget challenges.                                                                                                              
MR. FOLEY  responded that SB  21 found  the right balance  of tax                                                               
and credits.  It was a  simple bargain  that said we're  going to                                                               
help struggling  new companies by  offering tax  credits upfront.                                                               
In exchange,  those projects will generate  royalties, production                                                               
tax,  and in  his case,  net profit  share payments,  as well  as                                                               
other payments  to the state. So,  SB 21 did exactly  what it was                                                               
intended  to  do.  It  allowed Caelus  to  purchase  the  Pioneer                                                               
assets. The  biggest driver  that brought them  to the  state was                                                               
the tax credit  system. Alaska has always been known  for being a                                                               
high cost  environment, but with tremendous  rocks and tremendous                                                               
reservoir properties  and the tax  credit program  helped balance                                                               
those costs.                                                                                                                    
9:21:21 AM                                                                                                                    
SENATOR  COSTELLO   asked  how   the  investment   community  has                                                               
responded to this legislation.                                                                                                  
MR. FOLEY answered that the  investment community is "terrified."                                                               
They need favorable  fiscal terms, but more than  that, they need                                                               
stability and  predictability. They need  to know that  the rules                                                               
in place when  investment decisions were made will  stay in place                                                               
for the life  of a project. Pioneer came up  in 2002 and Oooguruk                                                               
commenced production in 2008. So,  they were "sort of born during                                                               
the ELF  environment." There  have been  five or  six significant                                                               
tax  regime  changes  since  then. Nowhere  else  on  the  planet                                                               
changes  its fiscal  policy so  frequently.  When the  investment                                                               
community looks  at that  it gives them  grave concern  in making                                                               
future  investments.  You  can't  blame  everything  on  the  tax                                                               
policy,  but  along  with  the  depressed  oil  price,  it  makes                                                               
attracting future investment "very, very difficult."                                                                            
SENATOR COSTELLO asked the total  government take at the Oooguruk                                                               
MR. FOLEY  answered that simply  put, government take is  a share                                                               
of the  profits, as are  the costs. The  company take is  what is                                                               
left over and  at today's prices, he has no  profits. His take is                                                               
zero. Government take could be  described as 100 percent, meaning                                                               
they  take royalty  payment despite  profitability. Property  tax                                                               
payments are made despite profitability,  as well - although that                                                               
is part of  their contract. The issue today is  that there are no                                                               
profits and  the bill before them  tries to take a  greater piece                                                               
of the money that is available.                                                                                                 
CHAIR GIESSEL said some folks assert  that the rig being down and                                                               
layoffs would  have happened for  Caelus anyway in  today's price                                                               
MR. FOLEY  responded that there is  an element of truth  to that,                                                               
but  the facts  are that  the price  is horrible,  Caelus is  not                                                               
profitable  and  can't  continue  to make  investments  to  drill                                                               
wells. To finance drilling of wells  they take the cash they have                                                               
available  and add  future  tax  credits to  that.  As they  lose                                                               
confidence that  they are going  to continue to receive  and earn                                                               
those tax credits, their future  forecasts for capital that would                                                               
be  required  to  continue  drilling  wells  is  higher  than  it                                                               
otherwise would be with those tax credits.                                                                                      
9:25:24 AM                                                                                                                    
Their rig  is idle, but  hopefully, they will see  price recovery                                                               
and be able to  start it back up again. He  didn't know the exact                                                               
price  at which  that  would  happen, but  he  did  know that  if                                                               
changes are made  to the tax credit system and  other elements of                                                               
the state's  fiscal policy,  the price  required to  restart goes                                                               
higher than it  would otherwise be if the tax  policy remained as                                                               
it is today.                                                                                                                    
CHAIR GIESSEL  thanked him and asked  if he had received  a reply                                                               
to the letter he sent to the Governor.                                                                                          
MR. FOLEY replied  that the letter was sent by  Jim Musselman and                                                               
he was not aware of a reply.                                                                                                    
SENATOR WIELECHOWSKI asked  him if Alaska should  be lowering its                                                               
taxes or  providing more tax  credits to keep companies  like his                                                               
from leaving Alaska.                                                                                                            
MR. FOLEY  answered that he believes  the balance found in  SB 21                                                               
is appropriate.  Caelus was able  to drill two  exploration wells                                                               
out  in  Smith  Bay  under  it,  which  also  earned  exploration                                                               
incentive credits (EIC).  It is also a program  that will sunset.                                                               
He appreciates that it costs the  state money to fund the credits                                                               
earned  for exploration,  but he  also believes  more wells  were                                                               
drilled because of those credits.  If those go away, he suspected                                                               
there would be less exploration activity in the future.                                                                         
SENATOR WIELECHOWSKI asked  if it's appropriate for  the state to                                                               
take more than  100 percent (that Mr. Foley had  testified it was                                                               
taking under the current tax structure).                                                                                        
MR. FOLEY answered no.                                                                                                          
SENATOR WIELECHOWSKI  asked if he  was saying in order  to change                                                               
that, the tax needs to be lowered.                                                                                              
MR. FOLEY  answered under today's  price Caelus make  no profits.                                                               
Hopefully,  the  price  will  go  up and  they  will  again  make                                                               
profits.  They made  previous investment  decisions  under SB  21                                                               
rules and they would continue making those investment decisions.                                                                
SENATOR  WIELECHOWSKI asked  what percentage  of the  exploratory                                                               
work was paid to Caelus with state tax credits.                                                                                 
MR.  FOLEY  answered  that  tax credits  haven't  been  paid  for                                                               
anything yet.  The work has been  done and all of  the bills have                                                               
been  paid by  Caelus; that  work enabled  them earn  tax credits                                                               
which  they have  not received.  Specifically, Caelus  has earned                                                               
two  forms  of  tax  credits:   NOL  and  EIC  credits,  and  the                                                               
combination  of  those two  equals  nearly  75 percent  of  their                                                               
SENATOR WIELECHOWSKI asked if any  other oil jurisdictions in the                                                               
world provide 75 percent in tax credits incentives.                                                                             
MR.  FOLEY  answered no,  but  the  bargain  struck under  SB  21                                                               
offered credits  up front in exchange  for a bigger piece  of the                                                               
profits  down the  road. If  there is  no project,  there are  no                                                               
9:29:57 AM                                                                                                                    
SENATOR  WIELECHOWSKI  said  the  director of  the  Tax  Division                                                               
testified  earlier  that  the  state  wouldn't  receive  more  in                                                               
production taxes than it is paying  in tax credits until 2025 and                                                               
asked  if  Caelus received  any  royalty  relief  in any  of  its                                                               
MR. FOLEY  answered yes; their  Oooguruk project  enjoyed royalty                                                               
relief. It  is one of  the highest  royalty and NPSL  projects on                                                               
the  North   Slope.  He   explained  that   royalty  modification                                                               
basically encourages  a project  to go  forward by  improving the                                                               
economics.  Pioneer  was  encouraged  at the  time  to  make  its                                                               
original  investments with  a flat  5 percent  royalty until  the                                                               
project became profitable.                                                                                                      
As to  the second question  about credits being greater  than the                                                               
state's revenues, and the point he  tried to make with slide 7 is                                                               
that  there is  coincidentally  an absolute  balance between  the                                                               
credits  that are  earned  by  the Nuna  project  and the  future                                                               
production  tax payments.  But  production tax  is  not the  only                                                               
revenue that  the state gets; it  also gets nearly $1  billion in                                                               
royalty  payments  and about  $.5  billion  in net  profit  share                                                               
SENATOR  WIELECHOWSKI  asked  if  any  of  Caelus'  projects  are                                                               
eligible for  the GVR, which  reduces the production tax  down to                                                               
MR.  FOLEY replied  that the  Oooguruk field  qualifies for  a 20                                                               
percent GVR  reduction that allows  them to eliminate  20 percent                                                               
of the revenue  in the calculation of their tax  bill and NOL. In                                                               
this instance  he is  not yet  profitable, so he  does not  pay a                                                               
production tax.  The GVR doesn't  necessarily mean that  each and                                                               
every GVR field would not pay a production tax.                                                                                 
SENATOR WIELECHOWSKI said the State  of Alaska paid 75 percent of                                                               
their   exploration  costs   and  asked   what  percent   of  the                                                               
development  costs  the  state   picked  up  through  development                                                               
credits and deductions.                                                                                                         
MR. FOLEY answered  that it is a matter of  semantics, but no one                                                               
has paid 75 percent of the  costs. Caelus paid 100 percent of the                                                               
cost and  that work will earn  them credits, but they  don't have                                                               
them now. Tulimaniq  wasn't an exploration project and  is not in                                                               
development. Oooguruk is  a field that does have  a net operating                                                               
loss and it does earn NOL  credits. He reminded them that Pioneer                                                               
came to Alaska  in 2002 and spent $2 billion  and the project has                                                               
yet  to make  a profit.  So,  they are  in a  net operating  loss                                                               
position. Some people may ask how  they can have been here for so                                                               
long and still  not make a profit  - they must not  be very good.                                                               
The reality is under the  production tax system the net operating                                                               
loss simply  means that they spend  more money in the  state than                                                               
they bring in. That is typical  of any new growing business where                                                               
all your money  is plowed back into future  capital projects, and                                                               
down  the road  they will  become profitable.  And down  the road                                                               
Caelus would pay a production tax.                                                                                              
9:35:16 AM                                                                                                                    
SENATOR WIELECHOWSKI asked  if the state were to  make no changes                                                               
to  its oil  tax structure  or the  tax credit  system, would  he                                                               
commit to reverse his decision to  cut the workforce and cut back                                                               
on some of their drilling.                                                                                                      
MR. FOLEY  answered that price  of oil  forced them to  make that                                                               
decision,  but they  hope  for  price recovery,  and  if the  tax                                                               
system becomes  less favorable,  it will take  a higher  price in                                                               
the future for them to resume drilling activities.                                                                              
SENATOR  WIELECHOWSKI  asked  if  they did  nothing  to  the  tax                                                               
structure this  year, would  he stay in  Alaska and  keep current                                                               
work levels as they are.                                                                                                        
MR. FOLEY answered  that Caelus has no plans to  leave Alaska and                                                               
will continue  to produce  the Oooguruk field,  but they  are not                                                               
able to make continued capital  investment. So, the real question                                                               
is if the  tax laws stayed the same, would  they continue to make                                                               
capital  investments, and  the  answer is  that  they still  need                                                               
price  recovery. But  if the  tax law  changes the  price has  to                                                               
recover to a higher level.                                                                                                      
9:37:26 AM                                                                                                                    
SENATOR MICCICHE  said the second  page of Caelus' letter  to the                                                               
governor  talks  about  the  constant  barrage  of  anti-industry                                                               
rhetoric, but  those that  worked on the  current tax  regime are                                                               
also under  attack. "So, we get  it." For some reason  some folks                                                               
just don't  like the  oil industry and  that's just  the reality.                                                               
They like some  larger companies that provide  them products that                                                               
perhaps are optional, but they  strongly dislike energy companies                                                               
that provide products that are necessary.                                                                                       
The letter  says the state  is struggling to evaluate  its entire                                                               
fiscal  system right  now, because  it has  a problem  called the                                                               
$4.1  billion fiscal  gap. He  didn't  like the  "wiser heads  in                                                               
Juneau" comment.  He found it  offensive. He advised that  as the                                                               
legislature  struggles  through  this   problem,  for  people  to                                                               
provide  helpful comments  on some  of the  ways the  state could                                                               
better manage its way through a low price environment.                                                                          
SENATOR MICCICHE  noted the slide  that says "Nuna, A  Project on                                                               
the Bubble"  could have  said "The Energy  Industry, a  Sector on                                                               
the Bubble," because  every member in that sector  is feeling the                                                               
pain right now  and Mr. Foley had clarified  that their decisions                                                               
were based largely on the economics.                                                                                            
SENATOR  MICCICHE said  he had  personally  sat in  on some  very                                                               
painful discussions over  the last year and a  half with industry                                                               
and  he has  always counted  the State  of Alaska  as a  partner,                                                               
because  it is  "our economy."  Unfortunately, the  state is  not                                                               
diversified and is very dependent  on the revenue that comes from                                                               
oil and  gas. He  concluded that  he would love  to see  a letter                                                               
with  some suggestions  on  how  to manage  through  a low  price                                                               
environment and that  he had asked the  state's industry partners                                                               
for the same. He  would love to hear from them,  but hasn't had a                                                               
What he  gets from the  Musselman letter is that  the legislature                                                               
and perhaps the administration has  been largely irresponsible on                                                               
some of  their decisions, and  he would  like to see  that turned                                                               
around  to:  "If I  were  in  your  position, being  an  industry                                                               
expert, what  I would suggest is  that you look at  some of these                                                               
9:41:12 AM                                                                                                                    
SENATOR MICCICHE said  most of U.S. oil is just  trying to manage                                                               
its way  through a very low  price environment and hoping  for an                                                               
improvement in the future. He  thought Mr. Foley would agree with                                                               
that. He asked if Caelus  has any production that looks different                                                               
than slide 5 right now.                                                                                                         
MR. FOLEY  replied that  Oooguruk is the  only field  that Caelus                                                               
operates in  Alaska and right now  Alaska is the only  place they                                                               
operate. Senator Micciche is exactly  correct, the whole industry                                                               
is struggling  whether they  are in  Alaska or  the Lower  48. He                                                               
uses  his company  as  an example  of all  of  the newer  smaller                                                               
companies, but  in reality none  of the companies  are profitable                                                               
at today's oil prices.                                                                                                          
In response  to Senator Micciche's comment  about industry coming                                                               
forward  with  suggestions, Mr.  Foley  said  he was  invited  to                                                               
testify as an  expert in the oil industry, and  his point is that                                                               
the oil  industry doesn't have  any excess profits to  give. They                                                               
are struggling for survival just like the State of Alaska.                                                                      
SENATOR MICCICHE said that was  fair and he agrees. However, some                                                               
suggestions might be  ideas on how to manage through  a low price                                                               
environment together  and ways  that might  soften the  effect on                                                               
the general  fund when things  are improved. Think about  it that                                                               
way, he advised; these are tough decisions.                                                                                     
CHAIR GIESSEL thanked Mr. Foley for his testimony.                                                                              
SENATOR  WIELECHOWSKI  said  Caelus   alleged  that  there  is  a                                                               
constant  barrage  of anti-industry  rhetoric  and  asked if  Mr.                                                               
Musselman  or Mr.  Foley could  provide  a list  of the  constant                                                               
barrage of anti-industry rhetoric in writing.                                                                                   
CHAIR  GIESSEL  supported the  request  and  asked Mr.  Foley  to                                                               
submit that request  in writing. She then invited  Mr. Bruce Webb                                                               
from Furie Alaska to testify.                                                                                                   
9:46:18 AM                                                                                                                    
BRUCE  WEBB,  Sr. Vice  President,  Furie  Operating Alaska  LLC,                                                               
Anchorage, Alaska, said Furie took  over leases from Escopeta Oil                                                               
Company in  2010, and with the  State of Alaska as  partner, they                                                               
went down  the road of putting  in a new development  in the Cook                                                               
Inlet.  For   the  last  five   years  they  have   drilled  five                                                               
exploration wells;  one was  converted to  a development  well on                                                               
their new platform. They have also  put in about 16 miles of sub-                                                               
sea pipeline and a new processing facility.                                                                                     
Prior to 2015,  they had spent about a half  billion dollars, and                                                               
last   year  alone,   they  spent   $200  million   to  put   the                                                               
infrastructure in place. They employed  about 300 Alaskans during                                                               
that project. They  are very proud of the two  gas contracts that                                                               
give them a  brighter future. When they started this  they had no                                                               
gas contracts and  no way to repay their debt.  Furie is here for                                                               
the long  run, he said. Some  companies have gone bankrupt  and a                                                               
couple large  companies decided  to leave  Cook Inlet,  but Furie                                                               
decided to stay.  They view the State of Alaska  as a partner and                                                               
hope they continue their partnership into the future.                                                                           
9:48:12 AM                                                                                                                    
MR.  WEBB said  the tax  credits are  very important  to the  oil                                                               
industry;  they  provide investments  and  jobs  to Alaskans  and                                                               
supply revenue to  the state. He explained that  because Furie is                                                               
in Cook  Inlet it  doesn't pay  production tax,  but they  do pay                                                               
lease  rentals and  royalties, property  tax  and other  payments                                                               
that directly benefit the state.  They have already invested $700                                                               
million and  have employed  300 people  in Alaska.  Their utility                                                               
contracts have begun to reduce energy costs in the Cook Inlet.                                                                  
He   pointed  out   that  100   percent  of   every  tax   credit                                                               
reimbursement  Furie  gets  is  reinvested  directly  into  their                                                               
project. None  of the tax  credit money has left  Alaska. Without                                                               
the tax  credits Furie  will have  to significantly  reduce their                                                               
exploration and  development that  will ultimately result  in the                                                               
reduction of jobs.  He showed a couple pictures  of their onshore                                                               
facility  at Nikiski  and the  offshore  platform. He  reiterated                                                               
that they had lowered the price  of energy in Cook Inlet and have                                                               
increased revenues to the state of  Alaska, as well as adding new                                                               
jobs. The  tax credit  lowers the risk  of shortfalls  of natural                                                               
gas in the  future and it may be short-sighted  to end that 15-20                                                               
year  supply of  natural gas  right now  or they  may be  back to                                                               
where they were in 2008/9.                                                                                                      
9:50:46 AM                                                                                                                    
He  had heard  that Cook  Inlet benefits  only the  people around                                                               
Cook Inlet, but that is not  correct. Everything that goes to all                                                               
the  communities in  Alaska comes  through Anchorage.  Cook Inlet                                                               
has what  is called sweet light  crude; it is taken  to the local                                                               
refinery  and  turned  into  gasoline,  diesel  fuel,  jet  fuel,                                                               
heating oil  and propane. This  local energy reduces the  cost of                                                               
transportation   of   everything:   food,   building   materials,                                                               
automobiles, and everything that is shipped to the villages.                                                                    
In March 2014, the Chamber  of Commerce commissioned a study with                                                               
Northern Economics  that concluded  that Cook  Inlet oil  and gas                                                               
production directly  benefits the rest  of the state to  the tune                                                               
of $2.4 billion. So, for people  who say otherwise, it's just not                                                               
correct. Without the lowered  transportation costs, everything in                                                               
all the other villages and communities would be more expensive.                                                                 
MR. WEBB said  the current tax credit program as  it exists today                                                               
is crucial to  their business. They use the  20 percent qualified                                                               
capital expenditure, the $25 million  carry forward loss, and the                                                               
40  percent  lease  operating  costs.  Without  this  tax  credit                                                               
structure, Furie would not have been  able to make it in the Cook                                                               
Inlet. The  price of  doing business there  is about  three times                                                               
higher  than anywhere  else in  the  United States,  and add  the                                                               
offshore environment to that where  you can only drill six months                                                               
out of  the year and must  pay for storage the  other six months.                                                               
The  upside is  that the  resource is  larger. So,  there is  the                                                               
prospect of being  profitable in the future and they  hope to see                                                               
a  profit under  the current  tax structure  until 2018  when the                                                               
Enstar natural gas contract comes into effect.                                                                                  
During  the peak  of  construction last  year,  Mr. Webb  stated,                                                               
Furie employed  300 people.  They paid  $2.9 million  in property                                                               
taxes to the state, cities,  and borough in 2012-2015. Those same                                                               
payments this  year are going to  be in the neighborhood  of $4.8                                                               
to  $5  million. So,  local  communities  are already  seeing  an                                                               
increase of  income. The  lease rentals paid  to the  state since                                                               
2011  are  $1.6  million;  estimated  royalties  are  about  $300                                                               
million for  the life of  the project under the  current reserves                                                               
if they  don't develop any  more. He  provided a "short  list" of                                                               
100 local businesses they supported during this project.                                                                        
In  terms of  lowering  energy costs,  Homer Electric  (supplying                                                               
30,000  customers  in  the  Kenai  Peninsula),  stuck  with  them                                                               
through the  entire process. When  they started  the development,                                                               
Hilcorp had absorbed  the whole gas market.  The attorney general                                                               
instituted  what  was  called  "consent  decree  pricing."  Their                                                               
contract with Homer Electric started just  a few days ago and now                                                               
Furie  supplies all  the gas  for the  Kenai Peninsula.  In 2018,                                                               
those  costs will  decrease by  about 16  percent over  what they                                                               
would  have been  had  Furie not  been in  the  Cook Inlet.  Just                                                               
recently, they  signed the Enstar  contract, which  will decrease                                                               
energy  costs  by 17  percent  to  Cook  Inlet and  the  Railbelt                                                               
communities. That  isn't just Furie, though;  the Chugach/Hilcorp                                                               
contract in  2018 will decrease  energy costs by 8  percent. That                                                               
is because Hilcorp now has  competition. Across the board, energy                                                               
prices  in Cook  Inlet will  go down  as will  the transportation                                                               
costs to other communities in Alaska.                                                                                           
MR. WEBB said  the tax credits were  put in place for  them to do                                                               
what they  have done. But  they are not  done yet. With  the $200                                                               
million  Furie has  invested, the  State of  Alaska is  a partner                                                               
that will be going down this  road with them. The tax credits are                                                               
like  energy  bars, and  occasionally  the  state gives  them  an                                                               
energy bar  and says  keep going. Taking  those energy  bars away                                                               
will slow things  down a lot. "We're still going  to make it over                                                               
the  finish line,  but  we're just  not going  to  be running  as                                                               
MR. WEBB  had some general  comments: Furie sympathizes  with the                                                               
situation the state  is in with budget deficit and  hopes to work                                                               
out a  good compromise. They think  CSHB 245 is a  good solution;                                                               
it would be  like the state not giving them  as many energy bars.                                                               
Saying, "Hey, we have to cut  back; slow down your pace; conserve                                                               
your energy.  We'll help  you get  over the line."   But,  if you                                                               
just  take  them  away  it  will be  devastating  to  the  entire                                                               
9:56:36 AM                                                                                                                    
MR.  WEBB explained  the process  behind their  low cost  capital                                                               
structure. He said they go to  Wall Street and talk to banks like                                                               
Bank  of  America and  ING,  and  finance  the tax  credits.  The                                                               
certainty of the  tax credits and their  historic performance has                                                               
brought their  cost of  capital down  from 17 percent  to 5  or 6                                                               
percent.  Before the  governor's  veto of  the  $200 million  tax                                                               
credit appropriation  last year,  companies were financing  90 to                                                               
95 percent of the tax credit's  face value at an interest rate of                                                               
5-7  percent.  Recently  these  same  companies  are  willing  to                                                               
finance only  50 percent of  the tax credit certificate  at 17-20                                                               
percent. It's a  huge difference. That money  is received upfront                                                               
and  provides them  the liquidity  to invest  in a  project. Then                                                               
they get the  tax credit and pay it back.  It's a constant, fluid                                                               
motion of money coming in and going out of the company.                                                                         
SENATOR STEDMAN  asked if  a finer distinction  could be  made on                                                               
the credits'  effect on  their cost  of debt,  not their  cost of                                                               
MR. WEBB answered yes.                                                                                                          
SENATOR  STEDMAN said  normally a  20 percent  capital credit  is                                                               
offset with some  tax collection mechanism. So, it  looks like an                                                               
imbalance in Cook  Inlet where they have left  the capital credit                                                               
in place but  there is no viable mechanism for  the severance tax                                                               
portion to do the offset.                                                                                                       
MR. WEBB  responded that Furie  doesn't pay severance tax  on oil                                                               
or gas production under the current  tax regime, and they are not                                                               
opposed  to paying  their fair  share. However,  they do  pay the                                                               
royalties, which are much more  significant than the property tax                                                               
would  be. Their  cost  of capital  has gone  down  and with  the                                                               
sunsetting of this  project at the point of paying  off all their                                                               
debt, the  prospect of paying tax  in the future isn't  exactly a                                                               
SENATOR MICCICHE  asked for a couple-sentence  description of how                                                               
the 2015 credit veto affected Furie.                                                                                            
MR. WEBB  recalled that  he was  in Kenai  for an  economic forum                                                               
when the  governor vetoed the  credit appropriation and a  lot of                                                               
cellphones  started  ringing,  not  just his.  The  reaction  was                                                               
immediate: Wall  Street and European  investors were  calling the                                                               
owners and CFOs to  find out what was going on.  That veto sent a                                                               
ripple across the finance world  that immediately started pulling                                                               
back funds and  looking at higher interest  rates. Their comments                                                               
were the worst thing they can deal with is instability.                                                                         
SENATOR  MICCICHE said,  "We're proud  to have  you there,  and I                                                               
definitely believe  a deal is a  deal. We need to  have clear-cut                                                               
policy  going forward  and  not  provide a  game  changer in  the                                                               
middle  of the  season...Thanks  for being  there. We're  excited                                                               
about what you are doing."                                                                                                      
10:01:28 AM                                                                                                                   
SENATOR  STEDMAN   said  the  legislature  can   make  additional                                                               
appropriations into  that credit fund  and asked Mr. Webb  how he                                                               
thought the  state could  handle funding  the credits  to control                                                               
their  impact   on  the  treasury.  Should   we  have  open-ended                                                               
appropriations? Should we follow  the appropriation cap language,                                                               
which is currently at $73 million?                                                                                              
MR. WEBB  responded that the  state is in  a tough spot,  but the                                                               
industry  needs stability.  It makes  raising additional  debt or                                                               
equity  much easier.  The  $25 million  cap in  the  bill is  not                                                               
enough for  Cook Inlet  or his  company. He would  like to  see a                                                               
$100-200 million  range, something that  they know will  be there                                                               
and will be  enough to get through 2016 and  into 2017. Once that                                                               
happens,  a  reduction  in  the  amount of  the  tax  credits  is                                                               
something they can plan for.  Time is needed for planning; abrupt                                                               
change is hard to adapt to.                                                                                                     
SENATOR  STEDMAN said  the cap  is  calculated off  of the  gross                                                               
production tax  revenue and  they are in  the minimum  tax arena.                                                               
Somebody has to  pay it just to get the  calculation to work. But                                                               
tying the credits  to the revenue side from  a policy perspective                                                               
also  works together  in  a  system. His  concern  was that  some                                                               
delinking  is going  on that  is creating  some instability.  The                                                               
state is in a very peculiar position.                                                                                           
10:05:36 AM                                                                                                                   
MR.  WEBB said  in  the  past there  has  always  been a  special                                                               
appropriation, and  it would be  nice to continue that.  He would                                                               
ask his CFO to write a  response with suggestions. "He's a pretty                                                               
sharp guy."                                                                                                                     
SENATOR  STEDMAN said  he thought  that  would be  a good  policy                                                               
discussion  to have  at the  table,  because in  the minimum  tax                                                               
arena the  whole concept  of the tax  formula gets  turned upside                                                               
CHAIR  GIESSEL said  that formula  is based  on production  taxes                                                               
coming from another basin and  asked his thoughts on a production                                                               
tax  for  Cook Inlet  noting  that  the House  Finance  Committee                                                               
Substitute  had  a  35  percent production  tax  for  Cook  Inlet                                                               
incorporated into it.                                                                                                           
MR. WEBB answered that he thought  Caelus could manage that if it                                                               
becomes effective in 2017, so it could be planned for.                                                                          
CHAIR GIESSEL  thanked him for  testifying today and  invited Mr.                                                               
Cook to testify.                                                                                                                
10:07:51 AM                                                                                                                   
CHRIS  COOK, Director,  Finance, Ahtna,  Incorporated, Anchorage,                                                               
Alaska, said  Ahtna is  using AS 43.55.025(a)  tax credits  - the                                                               
Frontier  Basin  tax  credits  and Middle  Earth  tax  credits  -                                                               
currently to explore  the Copper River Basin. Ahtna  would not be                                                               
doing  that exploration  if these  incentives were  not available                                                               
due to the high risks of exploration and financial risks.                                                                       
He said  their current drill  site is  on state land.  The upside                                                               
for the state for this  activity is royalty and production taxes,                                                               
lower rural energy costs, and  community and economic development                                                               
in the Ahtna  region. The purpose and need for  gas in the Copper                                                               
River Basin is to develop  and produce energy for local residents                                                               
and  utilities  by  conducting exploration  in  the  basin  which                                                               
includes drilling  the Tolsona 1  in the next several  months and                                                               
potentially future  targets in the  area. He said Ahtna  hopes to                                                               
be able to reduce  the cost of energy in the  area and that would                                                               
encourage  business and  therefore, reduce  out-migration of  the                                                               
population.  They  also  hope  to  build  infrastructure  in  the                                                               
10:10:44 AM                                                                                                                   
Ahtna has  drilled 11  exploration wells since  the 1960s  in the                                                               
Copper River  Basin. The most  recent well was drilled  by Rutter                                                               
in  2005  and  then they  came  back  in  2008.  So, there  is  a                                                               
potential for energy exploration and production in that area.                                                                   
10:11:13 AM                                                                                                                   
MR. COOK said Ahtna's originally  acquired some Amoco seismic and                                                               
over the  last several years  has been working  their exploration                                                               
program off of that. Ahtna has  submitted its data to the DNR and                                                               
obtained prequalification  to utilize the 025  tax credits. Their                                                               
seismic program has  targeted drilling the Tolsona 1  in the next                                                               
several months on state land. The  site is about 10 miles outside                                                               
of  Glennallen  heading  toward   Anchorage;  the  pad  is  being                                                               
installed now.  A road is being  built that will be  also be used                                                               
for  public access  to the  Crosswind Lakes  Trail. He  explained                                                               
that the  well is expected  to be  about 4500 vertical  feet deep                                                               
and targets  the Nelchina  sandstone. They  have had  natural gas                                                               
shows in  nearby wells, which  indicates a great potential  for a                                                               
local fuel source.                                                                                                              
10:12:46 AM                                                                                                                   
MR. COOK  said the Tolsona 1  project team is 100  percent Ahtna.                                                               
Although Ahtna prefers  having good partners to  work with, their                                                               
partners  with Copper  River  Basin experience  are  not able  to                                                               
participate in this well due to  low energy prices (slide 8). The                                                               
Tolsona  Exploration Oil  and Gas  Company has  a lot  of Alaskan                                                               
companies working  for it: Ahtna  Construction is putting  in the                                                               
pad right now; Restoration Science  and Engineering is working on                                                               
permitting; HXR Drilling Services  is doing the well engineering;                                                               
Michael  L. Foster  Group  companies are  providing  some of  the                                                               
services;  and  many  state,  local   and  federal  agencies  are                                                               
supporting them in  getting the well ready to go.  As an example,                                                               
the DNR Division  of Oil and Gas director has  visited the region                                                               
and the project site.                                                                                                           
10:14:02 AM                                                                                                                   
MR. COOK  concluded with their  request: to extend  025(6)(a) and                                                               
(7) tax  credits from July  2, 2016 to  July 1, 2022,  similar to                                                               
other tax  credit expiration dates.  Ahtna also  supports keeping                                                               
the 023  and 025 (a)(1-4)  Middle Earth  tax credits in  place as                                                               
incentive  to  explore and  develop  energy  in that  region.  He                                                               
thanked the  committee, the Alaska Legislature,  the Governor and                                                               
his staff, and the citizens of Alaska for their support.                                                                        
10:15:04 AM                                                                                                                   
SENATOR WIELECHOWSKI asked if their  exploration is targeting oil                                                               
or gas.                                                                                                                         
MR. COOK answered that it is targeting gas.                                                                                     
CHAIR GIESSEL finding no further  questions, thanked Mr. Cook and                                                               
invited Mr. Galvin to testify.                                                                                                  
10:15:23 AM                                                                                                                   
PAT GALVIN,  Chief Commercial Officer and  General Counsel, Great                                                               
Bear  Petroleum, Anchorage,  Alaska, related  a quick  history of                                                               
the company (slides 2-3) and  then talked about their project and                                                               
how the state  tax credit program affects it. He  said Great Bear                                                               
was founded  in 2010 when  it picked  up almost 500,000  acres of                                                               
oil and gas  leases just below Prudhoe Bay and  Kuparuk. They are                                                               
exclusively focused on  Alaska's North Slope and  have offices in                                                               
Anchorage; all  of their  employees work  and live  in Anchorage.                                                               
They  currently hold  the  original acres,  but  have brought  in                                                               
additional partners  that has  raised the  total area  to 590,000                                                               
acres. They  have acquired  500 square miles  of 3D  seismic over                                                               
the last  four winters  and are  currently acquiring  another 450                                                               
square  miles of  seismic. They  have  drilled three  exploration                                                               
He said  the Great Bear story  really starts with the  shale play                                                               
and the  idea that  the North  Slope has  tremendous opportunity,                                                               
because of  prolific shale intervals  that are stacked on  top of                                                               
each other. The  expectation is that those can serve  as a source                                                               
for the kind  of shale play that has  been successfully developed                                                               
in basins in the Lower 48.                                                                                                      
Great  Bear  drilled its  first  two  wells  with the  intent  of                                                               
pursuing that type  of a play, but discovered  that the 2010-2014                                                               
cost structure  on the  North Slope would  prohibit that  type of                                                               
development.   Then the  question became how  to get  the initial                                                               
investment in  infrastructure in  place in order  to make  such a                                                               
project economic.  Fortunately, during  that time they  were able                                                               
to  acquire  the  3D  seismic  which  allowed  them  to  identify                                                               
conventional plays  for a development project  that would support                                                               
the infrastructure  capital costs thus laying  the infrastructure                                                               
for the future  shale play. They still believe that  a shale play                                                               
is a potential in  the long term on the North  Slope, but it will                                                               
have to be built upon the  foundation of a series of conventional                                                               
MR.   GALVIN  said   with  that   transition,   the  Great   Bear                                                               
organization  significantly  changed   its  management  team  and                                                               
expanded   its  geoscience   and  technical   capabilities.  They                                                               
analyzed  the seismic  data and  developed  a prospect  inventory                                                               
that increased  their confidence  where even  in the  current low                                                               
price environment they saw opportunity.                                                                                         
10:20:47 AM                                                                                                                   
He said  the management team  was expanded to  include operations                                                               
expertise  that it  previously did  not have;  their new  CEO and                                                               
president, Mike  Mason, is  a petroleum engineer  and has  a long                                                               
history  and career  of  drilling throughout  the  world. At  one                                                               
point he  was the top petroleum  engineer at BP. He  ran Apache's                                                               
Egypt operations immediately before coming to Great Bear.                                                                       
The Chief  Operating Officer is Clark  Clement who is one  of the                                                               
leaders  in hydraulic  fracturing. He  has drilled  all over  the                                                               
world   and  has   significant  experience   in  developing   new                                                               
technologies and unlocking the potential in different fields.                                                                   
MR. GALVIN said  their acreage sits due south of  Prudhoe Bay and                                                               
Kuparuk;  Dead  Horse  sits  just  above  them.  The  TransAlaska                                                               
Pipeline  (TAPS) and  the  Dalton Highway  cut  right through  it                                                               
providing   a    significant   advantage   as    an   established                                                               
transportation corridor.  Earlier, Great Bear formed  a strategic                                                               
partnership  with Halliburton  that became  a 25  percent working                                                               
interest owner  of the leases  and paid  for the first  two wells                                                               
and  some seismic.  Recently, they  struck a  deal with  Borealis                                                               
that  was subsequently  purchased by  Otto Energy,  an Australian                                                               
publically traded company that purchased  an 8-10 percent working                                                               
interest in most of their leasehold  in order to bring them below                                                               
the acreage limit.                                                                                                              
MR.  GALVIN  explained that  there  are  three primary  shale  or                                                               
source  rock  intervals on  the  North  Slope  and they  are  all                                                               
present within  Great Bear's leasehold.  Most recently  there has                                                               
been a  lot of talk about  the QHRZ, because of  the Icewine well                                                               
that has  been drilled just to  the south of their  acreage. That                                                               
is  one of  the potential  source  rock intervals  Great Bear  is                                                               
looking at.                                                                                                                     
The Shublik is considered to  be potentially the most prolific of                                                               
the  source rock  intervals. With  the 3D  seismic and  the wells                                                               
they have drilled, they have  also identified reservoir rock that                                                               
has been produced  elsewhere on the North Slope  present on their                                                               
acreage  as  well.  Those  sit nested  between  the  source  rock                                                               
intervals, which  is an  ideal situation.  Their objective  is to                                                               
look somewhere between a conventional  and an unconventional play                                                               
within these  various nested  rock intervals  and find  out where                                                               
the  oil may  be trapped  and where  it may  be producible  given                                                               
particular rock properties.                                                                                                     
The  bright line  terms  for  conventional versus  unconventional                                                               
have really  been blurred over  the last  decade or so,  he said,                                                               
with new  technologies being used  on a more  conventional basis.                                                               
The  particular reservoir  properties they  are looking  for have                                                               
shifted   significantly  over   that   time   and  have   created                                                               
opportunities to  develop fields that previously  would have been                                                               
considered uneconomic.                                                                                                          
10:25:05 AM                                                                                                                   
MR.  GALVIN said  that Great  Bear  sees the  opportunity to  use                                                               
unconventional  technology  (horizontal  drilling  and  hydraulic                                                               
fracturing)  to  develop   a  range  of  fields   that  would  be                                                               
considered somewhere between conventional and unconventional.                                                                   
10:25:31 AM                                                                                                                   
SENATOR COGHILL joined the committee.                                                                                           
10:25:48 AM                                                                                                                   
MR.  GALVIN said  slides 8  and 9  were a  representation of  the                                                               
modeling that had been done previously  on the North Slope as the                                                               
oil is  produced towards  the south in  the source  intervals and                                                               
then  migrates north  into the  fields that  are currently  being                                                               
produced. It recognizes  that most of the oil  being produced out                                                               
of Prudhoe  Bay and  Kuparuk actually  originated south  of their                                                               
acreage and  has migrated over  the millennia into  their current                                                               
fields.  The Great  Bear  concept recognizes  that  this oil  has                                                               
moved through their  area or was produced under it  and goes back                                                               
to the  source and to  see if it  can be produced  there. Because                                                               
most of  the time,  oil remains trapped  within the  reservoir or                                                               
the first  rocks that  created it. Also,  there are  likely traps                                                               
along the  way where the  oil has pooled, another  opportunity to                                                               
10:26:54 AM                                                                                                                   
He said  Great Bear has  spent four winters shooting  seismic and                                                               
has acquired 500 square miles  across the center portion of their                                                               
acreage  position. This  winter they  have completed  the western                                                               
block and are currently shooting  the eastern block with hopes of                                                               
completion before  the season  ends. Once this  is in  hand, they                                                               
will have  a complete inventory  across their  primary contiguous                                                               
acreage,   a  significant   tool  for   identifying  conventional                                                               
In 2012, Mr.  Galvin said, they drilled two wells  along the Haul                                                               
Road  and permitted  six sites  that are  all adjacent  to gravel                                                               
access  roads to  TAPS, which  means  the sites  can be  accessed                                                               
year-round (slide 10). The Alcor  and Merak wells were drilled in                                                               
the summer of  2012 primarily to test the shale  intervals and to                                                               
pull  whole  core  samples  from   them  to  provide  significant                                                               
information  about the  shale  play opportunities.  Subsequently,                                                               
using 3D seismic they were  able to identify conventional targets                                                               
and drilled  the Alkaid  well about  3.5 miles  west of  the Haul                                                               
Road on  an ice pad  in the winter of  2015. They were  hoping to                                                               
drill two other  sites that winter, but the short  season as well                                                               
as operational issues  precluded that and they were  only able to                                                               
complete the one well.                                                                                                          
10:28:32 AM                                                                                                                   
Going  forward (slide  11),  he  said that  Great  Bear plans  to                                                               
complete their seismic  program this year and  develop a priority                                                               
list of  prospects that  will be drillable  and ready  to pursue.                                                               
They will  execute a  multi-year, multi-well  exploration program                                                               
to  pursue those  conventional prospects.  And through  that they                                                               
hope to  achieve more cost-effective services  in the exploration                                                               
10:29:06 AM                                                                                                                   
He  said  there  are  four   myths  about  how  the  North  Slope                                                               
exploration works in  that environment and the  tax credit issue.                                                               
1.  That  exploration  companies  are "financed"  by  Alaska  tax                                                               
2.  That exploration  companies don't  have skin  in the  game on                                                               
these exploration plays.                                                                                                        
3. That Alaska  could get the same level  of exploration activity                                                               
with lower exploration tax credits.                                                                                             
4. That tax credit payments can  be delayed with little impact to                                                               
exploration companies.                                                                                                          
10:30:22 AM                                                                                                                   
MR.  GALVIN said  the truth  is that  companies have  to actually                                                               
spend the  money up  front to  be eligible  for the  tax credits.                                                               
They  will pay  for  their employees,  their  offices, all  their                                                               
rentals, and  all of  their contractors, and  then some  of those                                                               
expenditures  will  be  eligible  for tax  credits  in  different                                                               
amounts. Great Bear's seismic activities  between the EIC and NOL                                                               
programs are  potentially eligible  for up  to 75  percent credit                                                               
this year. It will drop to 35 percent in June 2016.                                                                             
He  explained  that  an  explorer can  currently  borrow  on  the                                                               
expectation of  getting those tax  credit payments back  from the                                                               
state.  That's  really the  only  borrowing  that an  exploration                                                               
company can  do, because  it's the one  certain cash  flow coming                                                               
back  from the  operation.  Exploration companies  have a  better                                                               
than  50/50  chance  of  not  seeing any  cash  flow  from  their                                                               
exploration  expenditures and  no one  will lend  money on  that.                                                               
Money is borrowed only through having equity.                                                                                   
10:31:51 AM                                                                                                                   
At  no  time  does  an  exploration company  make  money  off  of                                                               
exploration activities in  Alaska, at least as it  relates to tax                                                               
credit reimbursement from the state, Mr. Galvin said.                                                                           
SENATOR STEDMAN said Mr. Galvin was  in kind of a unique position                                                               
being  an ex-commissioner  of the  Department  of Revenue  (DOR),                                                               
understanding  the  politics  of  the building,  and  having  his                                                               
current background.  So he has a  pretty good feel for  what they                                                               
are struggling with on both sides  of the table in trying to meet                                                               
payrolls    and   financing    the   credits    with   open-ended                                                               
appropriations  versus  the   appropriation  cap  mechanism  that                                                               
impacts industry and  exposes the treasury, and  he was wondering                                                               
if he had any comments on that particular issue.                                                                                
MR. GALVIN responded that he  disagreed with the characterization                                                               
of the  statutory language as a  "cap." It was never  intended to                                                               
be a cap  in any way. It  was intended to basically be  a flow of                                                               
automatic money  that would go into  the fund in order  for it to                                                               
be legally  recognized as a source  of funds from the  state. The                                                               
expectation  throughout the  development of  the tax  credit fund                                                               
was that  there would  be annual  appropriations based  upon what                                                               
the  expected cash  flow obligations  of the  state to  that fund                                                               
would be.   Almost  immediately it  was set  up as  an open-ended                                                               
appropriation  in order  to  forestall the  risk  that the  state                                                               
would  not  be   able  to  meet  the  obligations   of  a  credit                                                               
certificate being submitted to it for reimbursement.                                                                            
10:34:41 AM                                                                                                                   
He explained that the reimbursable  tax credit program was always                                                               
seen as a  cash flow obligation of the state  and it was expected                                                               
to be part  of the cash flow  structure in terms of  the plan the                                                               
state would  develop in order  to meet its obligation.  Right now                                                               
with the low  oil price, the state is in  a significant cash flow                                                               
challenge,  but "it  is just  that:  a cash  flow challenge,"  he                                                               
MR. GALVIN  said he had testified  a number of times  with regard                                                               
to the oil  production tax, that the expectation was  at high oil                                                               
prices the state would sock away  the surplus in order to be able                                                               
to meet its  obligations during the times of low  oil prices. The                                                               
state is dependent upon a  cyclically priced commodity and it has                                                               
to plan accordingly.  This happens to be one of  the most extreme                                                               
periods of having to meet that obligation.                                                                                      
SENATOR  WIELECHOWSKI said  the original  ACES legislation  had a                                                               
lower  progressivity than  the ultimate  ACES: a  25 percent  tax                                                               
rate and  .2 percent progressivity after  $30, but it also  had a                                                               
10 percent  floor for legacy  fields. As the bill  negotiated its                                                               
way through the  process, the producers said they had  to get rid                                                               
of the 10  percent floor, which they did. But  they increased the                                                               
progressivity at the  high end, too, to .4  percent. Now, they've                                                               
taken away the  progressivity at the high end  and have decreased                                                               
the floor  to 4 percent,  which can go  below zero. He  asked Mr.                                                               
Galvin if  he thinks  it was  appropriate at the  time and  is it                                                               
appropriate now to have a 10 percent floor on legacy fields.                                                                    
10:38:00 AM                                                                                                                   
MR. GALVIN replied  he had testified a number of  times on behalf                                                               
of  the   Palin  administration  that  the   state  accepted  the                                                               
elimination of  the floor solely  because of the addition  of the                                                               
progressivity; it was a trade-off.  Elimination of the 10 percent                                                               
floor resulted  in basically falling  back to the  previous floor                                                               
that existed; it wasn't putting a  new floor in. That was seen at                                                               
the time as the appropriate deal for that legislative session.                                                                  
SENATOR  WIELECHOWSKI  asked  now  that we  no  longer  have  the                                                               
progressivity  levels  that we  had,  would  he agree  that  it's                                                               
appropriate to reconsider a higher floor. He recapped:                                                                          
     The  way  the  deal  works,   we  no  longer  have  the                                                                    
     progressivity we had under ACES.  The original deal was                                                                    
     we  get a  10 percent  floor, lower  progressivity. Oil                                                                    
     companies  said  no we  don't  want  that. We  got  the                                                                    
     higher  progressivity; got  rid  of the  floor for  the                                                                    
     most part. Now  that we've got rid  of progressivity at                                                                    
     the high  end like  we had,  it would  seem appropriate                                                                    
     that we  go back to  a 10  percent floor on  the legacy                                                                    
MR. GALVIN  responded that he  understands the logic, and  he had                                                               
accepted  that   trade-off  in  the   early  ACES   structure  as                                                               
legitimate,   but   now  there   are   a   number  of   different                                                               
considerations with regard  to the tax system  besides just those                                                               
two moving parts.                                                                                                               
He said  Great Bear and  its partners had  spent a total  of $220                                                               
million  on  exploration  activities  and are  eligible  for  and                                                               
expect  to recover  $140 million  from  the state  in tax  credit                                                               
payments. Great  Bear investors had contributed  $80 million that                                                               
will not  be reimbursed. As  an exploration company, none  of the                                                               
tax credits  go back to  their investors;  they are all  put back                                                               
into the ground to do more exploration.                                                                                         
10:41:29 AM                                                                                                                   
This exploration  is valuable to not  only Great Bear but  to the                                                               
state, because  it is developing  state resources.  Their seismic                                                               
is  immediately available  to the  state and  will eventually  be                                                               
available to  the public  after their lease  term. The  well data                                                               
goes straight  to the  state of Alaska  and becomes  public after                                                               
two years, as  well. This is a tremendous resource  for the state                                                               
in its  ability to identify  future oil  to be produced.  This is                                                               
important because  there is  a vast  amount of  oil that  has not                                                               
been discovered  on the North  Slope and  the only way  the state                                                               
can get to  it is to invest the money  to acquire the information                                                               
to determine  where it may  be and  where it may  be economically                                                               
developed. So, the tax credits,  particularly the exploration tax                                                               
credits,  were a  very  conscious  decision on  the  part of  the                                                               
state's resource  managers to try  to incentivize  the investment                                                               
in this exploration activity that is otherwise very risky.                                                                      
10:43:00 AM                                                                                                                   
As  to the  question of  whether or  not lower  tax credits  will                                                               
still result  in the same amount  of activity, the truth  is that                                                               
the  decision  making process  for  an  exploration company  just                                                               
doesn't work that way. As an  example, he used a scenario where a                                                               
company like Great  Bear has $100 million  from investors willing                                                               
to put  that into exploration  activity. So, with the  ability to                                                               
borrow on the  tax credits they anticipate getting  back from the                                                               
state (35 percent tax credits), they  can plan for a $140 million                                                               
exploration  program.  Their  equity  money will  pay  for  Great                                                               
Bear's portion  of the  well. The  rest will  be borrowed  and be                                                               
paid  back   at  the  end  of   the  day  with  the   tax  credit                                                               
reimbursement. A finance charge is  associated with that and so a                                                               
bit of  money goes out  of the system  to the financers,  but the                                                               
rest of it goes into the ground.                                                                                                
If the  state offers a 65  percent tax credit, then  Great Bear's                                                               
exploration  program is  going  to be  $260  million, because  of                                                               
their  equity investment  and borrowing  against the  tax credits                                                               
they earn  through that expenditure.  So, the tax credits  on the                                                               
exploration side simply  create a multiplier effect  for how much                                                               
exploration activity is  going to be generated  by the investment                                                               
dollars that come from companies  like Great Bear. Simply put, by                                                               
offering  a  higher tax  credit,  the  state will  generate  more                                                               
exploration activity.                                                                                                           
10:45:08 AM                                                                                                                   
To  Senator  Stedman's  question,  what happens  when  the  state                                                               
changes  the flow  of cash  back to  the exploration  company, he                                                               
said  that  if  there  is   a  delay  in  reimbursement  but  its                                                               
anticipated  and spread  out,  it will  just take  on  more of  a                                                               
finance  cost. More  money in  their budget  will go  to interest                                                               
payments on the  borrowing against those tax credits  and it will                                                               
likely be at  a higher interest rate. If there  is uncertainty or                                                               
surprises in  the state's reimbursement,  such as  the governor's                                                               
veto, it increases  the perspective of risk  and basically scares                                                               
away potential lenders.                                                                                                         
MR. GALVIN  explained that the  state has  successfully attracted                                                               
much lower  cost of  debt capital on  these tax  credit financing                                                               
deals over  the past three years  - going from the  high teens to                                                               
the single digits. That has resulted  in a much greater amount of                                                               
the tax  credit money  going back  into the  exploration activity                                                               
itself, as opposed to going to finance costs.                                                                                   
If  a   pattern  of  uncertainty   is  created  or  a   sense  of                                                               
vulnerability of that cash flow coming  from the state to pay for                                                               
the   certificates,   that   will  basically   chase   away   the                                                               
conventional  banks.  Then companies  will  at  best be  able  to                                                               
retain  the  private equity  groups  that  were lending  at  high                                                               
interest rates. However,  there is a good chance  that even those                                                               
will  be lost  as well.  If exploration  companies are  no longer                                                               
able to  borrow against the  tax credit reimbursement,  the model                                                               
he described  earlier completely changes.  They end up  with that                                                               
$100  million  and  have  a  $100  million  exploration  program,                                                               
because that's  all the  money they  have. Eventually  they would                                                               
get reimbursed from the state and  would have to decide to pocket                                                               
that  money  or try  to  have  another exploration  program,  and                                                               
somehow  cobble   together  additional  equity   investment.  The                                                               
uncertainty  would both  slow down  and  result in  significantly                                                               
less  exploration  activity  going  forward  than  having  steady                                                               
predictable payments  that the companies  can borrow  against and                                                               
basically  spend the  tax credit  before it  comes back.  From an                                                               
exploration side, that is what creates the multiplier.                                                                          
10:48:38 AM                                                                                                                   
SENATOR STEDMAN asked  him to elaborate on short  funding or lack                                                               
of appropriations  to pay  full credits and  how a  company would                                                               
plan on getting  them in 2016 or  17, or could they  even plan on                                                               
getting them  if they hypothetically  still have 2015  credits on                                                               
the books.                                                                                                                      
MR.  GALVIN replied  going back  to his  earlier characterization                                                               
that the statutory  language is truly perceived as a  cap and the                                                               
amount of  annual funding  for the  tax credit  reimbursement was                                                               
set  at  that  formulaic  rate,  then  he  could  predict  fairly                                                               
confidently that  Great Bear  would no longer  be able  to borrow                                                               
against the tax  credits. The reason being that  as an individual                                                               
borrower, they could not predict  to their lender when they would                                                               
be  reimbursed,  because  it  would  depend  on  multiple  things                                                               
outside  of  their   control:  the  oil  price,   the  amount  of                                                               
production  tax the  state  is going  to get,  and  the level  of                                                               
credit  applications  the  state receives  from  other  potential                                                               
companies. "That  level of uncertainty  would pretty much  dry up                                                               
any ability to borrow against the credits," he said.                                                                            
10:50:45 AM                                                                                                                   
If the  state institutes  a cap at  an individual  company level,                                                               
similar to what is being  proposed now, that would be manageable,                                                               
because it  would be  a "predictable delay."  The question  is at                                                               
what level it  gets set: the lower the level,  the more expensive                                                               
the debt will be. More money will  go to lenders and less will go                                                               
into the actual exploration activity.                                                                                           
SENATOR WIELECHOWSKI  said he appreciates Great  Bear's work, but                                                               
he was  on this committee five  years ago when Great  Bear talked                                                               
about  how they  would  see 1  million barrels  a  day within  10                                                               
years.  The state  has now  invested $140  million and  is hoping                                                               
they  see some  production,  but  it seems  that  Great Bear  has                                                               
abandoned  unconventional  production  and  is  now  focusing  on                                                               
conventional, which  won't get them  anywhere near what  they had                                                               
initially  said  years  ago.  He   asked  from  the  big  picture                                                               
perspective, which  is what they have  to manage, how he  can, as                                                               
the  former Revenue  commissioner, have  supported a  system that                                                               
had the state paying out more in  oil tax credits than it gets in                                                               
production  taxes  for  a  decade. The  state  won't  be  revenue                                                               
positive  from a  production  tax perspective  until  the end  of                                                               
10:53:38 AM                                                                                                                   
MR.  GALVIN   answered  that  it's  important   to  separate  the                                                               
different  tax credits  from each  other. There  is a  difference                                                               
between the North  Slope cash flow and the Cook  Inlet cash flow.                                                               
On  the North  Slope  different cash  flows  are associated  with                                                               
exploration,   development   projects,   and   with   production.                                                               
Exploration is probably  the lowest of the cash  outflow from the                                                               
state in terms of that  system, because development is what sucks                                                               
up a  lot of investment and  creates a significant amount  of tax                                                               
credit eligibility.  Their analysis needs  to split those  up and                                                               
not just paint it all with one broad brush.                                                                                     
Great  Bear  truly  believes  tax credits  still  remain  a  very                                                               
valuable investment  for Alaska. Continuing the  EIC credit would                                                               
be  a  good investment,  as  well,  because those  are  providing                                                               
tangible benefits  back to the  state in the form  of exploration                                                               
data that  the state needs in  order to develop its  resources in                                                               
the future.                                                                                                                     
MR. GALVIN  said while it's  true that  Great Bear was  here five                                                               
years ago talking  about the shale play, they  have not abandoned                                                               
the concept  of the shale  play; the  prize is still  there. They                                                               
just believe they have to take  a different route to get there by                                                               
doing  a  conventional  play  first in  order  to  establish  the                                                               
economic framework that a shale play can work from.                                                                             
10:56:05 AM                                                                                                                   
To  Senator Wielechowski's  overarching point  that the  state is                                                               
not going to  see any positive cash flow from  production tax, he                                                               
had not spent a lot of  time looking at the modeling that results                                                               
in  that conclusion,  but it  is  something he  questions in  the                                                               
sense  that there  are  multiple  variables and  there  is a  big                                                               
question with  regard to behavior.  If the low  price environment                                                               
continues on for  that decade and results in  low production tax,                                                               
the  state  will  simultaneously see  significant  reductions  in                                                               
expenditures from  the companies, which paying  out significantly                                                               
less credits.  So, there is  a certain aspect  of self-correction                                                               
to the system.                                                                                                                  
MR.  GALVIN said  they had  dropped into  this exceptionally  low                                                               
price environment at  such a rapid rate that a  lot are hoping to                                                               
come  out  of it  and  just  continue  to  move forward.  But  as                                                               
companies,  like Caelus,  begin to  deal with  that and  begin to                                                               
lower  their  capital  expenditures,   then  the  state's  credit                                                               
responsibilities  are  going  to shrink,  as  well.  Having  been                                                               
through a big  drop and rise in oil prices,  he still expects oil                                                               
prices  to come  back  up again,  and  whatever modeling  Senator                                                               
Wielechowski is  looking at is  going to prove  to be as  full of                                                               
errors as Great Bear's was when he was commissioner.                                                                            
He advised  that a clear balance  has to be struck,  but it's not                                                               
something  one could  broadly  brush;  you have  to  look at  the                                                               
component parts.                                                                                                                
10:59:05 AM                                                                                                                   
He  added that  the  state had  invested  significant policy  and                                                               
money  in and  attempted to  help  the natural  evolution of  the                                                               
North Slope from being dominated by  just a few players to having                                                               
a  diverse group  of independents  who will  not only  create new                                                               
production, but  also create a  new economy that will  bring down                                                               
costs and  create a more  cost effective way of  producing fields                                                               
that currently  may not  look economic.  That effort  has worked.                                                               
The landscape  has changed  significantly on  the North  Slope in                                                               
terms of the players and the economy.                                                                                           
He  noted that  momentum  is  an extremely  strong  force in  the                                                               
industry. It  took a  long time  to get  folks to  recognize that                                                               
they had  moved to a  net profits based  system and to  move past                                                               
some  of their  beliefs about  the State  of Alaska.  The biggest                                                               
risk continues  to be the sense  that the oil fiscal  system is a                                                               
ping pong  ball that will  continue to  bounce back and  forth as                                                               
the political  winds swing. A  way has  to be found  through some                                                               
form of a  compromise to reach a sense of  stability. Without it,                                                               
there  will  be continued  reluctance  to  come full  force  into                                                               
SENATOR WIELECHOWSKI asked if Great  Bear were to produce new oil                                                               
would it  be considered new oil  and be eligible for  the new oil                                                               
provisions of SB 21.                                                                                                            
MR.  GALVIN   answered  yes;  everything   they  have   would  be                                                               
considered new oil.                                                                                                             
SENATOR WIELECHOWSKI  pointed out this fundamental  problem: that                                                               
the  state has  invested $140  million in  Great Bear  that "took                                                               
advantage of all the incredibly  generous tax credits." And while                                                               
he did not criticize them for  doing that, they will also be able                                                               
to  take  advantage  of  all the  incredible  tax  benefits  (GVR                                                               
exclusion  and a  tremendous cut  in  production taxes)  provided                                                               
under  SB 21,  because their  production will  be considered  new                                                               
oil. His expectation is, since  it probably has high expenses, if                                                               
they  ultimately go  on line  that the  state will  see virtually                                                               
nothing  in  production  taxes  from  any  oil  that  Great  Bear                                                               
MR. GALVIN responded that a lot  of modeling will have to go into                                                               
the assumption  of how much  the state  will get from  Great Bear                                                               
production. He  would describe  it in  a slightly  different way:                                                               
that  as  an exploration  company,  they  are  hoping to  make  a                                                               
discovery. If they do, they will  have to evaluate whether or not                                                               
it  is   economic  enough  to  invest   with  development  costs.                                                               
Depending upon  the tax system  the state  has in place  and that                                                               
they expect  to be in place  as they move into  production, Great                                                               
Bear will make  that decision. It will establish  the hurdle that                                                               
they have to overcome in order "greenlight" that project.                                                                       
If the  state choses to  change that economic system  between now                                                               
and their discovery, then it  will simply change that hurdle, and                                                               
may  preclude  Great Bear  from  developing  something that  they                                                               
otherwise would  develop. That is  the risk the state  is taking;                                                               
that is  the choice the body  is making in terms  of setting this                                                               
oil  fiscal system.  The  state  needs to  know  where that  line                                                               
should be drawn  in order to properly balance  the state's desire                                                               
for a  share of that revenue  with the desire for  more lights to                                                               
turn  green  on these  development  projects.  From Great  Bear's                                                               
perspective, the legislature gets to make that call.                                                                            
MR. GALVIN explained  that Great Bear is in  a favorable position                                                               
today, because  they haven't already  made a decision  and aren't                                                               
already half-way  through a development project.  His concern and                                                               
request  was  that "you  find  that  equilibrium point  soon  and                                                               
provide  a stable  environment for  a generation  of oil  and gas                                                               
activity that I believe is still available on the North Slope."                                                                 
11:04:29 AM                                                                                                                   
SENATOR STEDMAN asked what he  thought about the $5/barrel credit                                                               
for  the GVR  that  goes  below the  floor  -  $75 million  going                                                               
against a  floor of  $182 million. The  new oil  would eventually                                                               
grow with the  decay of the other fields and  take out the entire                                                               
minimum tax if they don't take out the minimum floor.                                                                           
MR.  GALVIN responded  that from  his perspective  he hoped  when                                                               
Great Bear  is in  production they  don't have  to deal  with the                                                               
minimum  floor. It's  only  during times  of  "crisis" that  that                                                               
aspect of the cash flow is faced.                                                                                               
CHAIR  GIESSEL  thanked  Mr.  Galvin  for  his  presentation  and                                                               
invited Mr. Johnson to testify.                                                                                                 
11:06:42 AM                                                                                                                   
MR.  J. BENJAMIN  JOHNSON, President  and CEO,  BlueCrest Energy,                                                               
Fort  Worth, Texas,  said  BlueCrest is  operating  only in  Cook                                                               
Inlet right now  and he would only speak to  issues particular to                                                               
the Inlet. First, he emphasized that  the tax credit program is a                                                               
very good investment  for the state, with a good  return which he                                                               
would illustrate. He said BlueCrest  has not been involved in any                                                               
wildcat exploratory  drilling. Instead, they have  focused on the                                                               
low-risk development  of previously  identified resources  of oil                                                               
and gas in the Cosmopolitan Unit.                                                                                               
In the process of delineating  the field in 2013, they discovered                                                               
several new oil  and gas zones that added to  the total reserves.                                                               
But  the underlying  basis  of that  project  was the  previously                                                               
known oil reservoirs.  He said, "There really can  be no question                                                               
that  the state's  investment in  development of  known reserves,                                                               
like we're  doing at  Cosmo, has  a much  lower risk  factor than                                                               
support for higher risk exploratory  drilling." It's important to                                                               
understand that  the exploration  work has to  have been  done in                                                               
order to  get to  this low  risk development  phase. So  both are                                                               
MR. JOHNSON  said that BlueCrest's original  development plan was                                                               
to find  some oil and  gas properties where reserves  had already                                                               
been  identified and  where their  particular expertise  could be                                                               
used to make it more valuable.  They looked all over the U.S. and                                                               
Alaska. They  found that the cost  for doing this work  in Alaska                                                               
was roughly 300  percent more than in Lower 48  basins. What made                                                               
the difference in BlueCrest's decision  to come to Alaska was the                                                               
state's  incentive  program:  the  tax credits  and  a  zero  oil                                                               
production tax rate in Cook Inlet  until 2022. They chose to come                                                               
to Alaska and bought into the Cosmopolitan Unit.                                                                                
11:10:36 AM                                                                                                                   
MR.   JOHNSON  emphasized   that   the   state's  investment   in                                                               
Cosmopolitan will provide significant,  future, positive value to                                                               
the  state even  at  low  prices. The  state's  tax credits  have                                                               
facilitated  the   success  they   are  bound   to  see   on  the                                                               
Cosmopolitan  Unit. These  credits will  provide future  positive                                                               
value. In fact,  the tax credits under current  laws can actually                                                               
provide  higher rates  of return  to the  state than  the average                                                               
investments in the Permanent Fund.                                                                                              
11:11:18 AM                                                                                                                   
He  explained that  the Cosmopolitan's  project is  located three                                                               
miles offshore of Anchor Point in  Cook Inlet; it is all on state                                                               
leases and  subject to state  royalty. They also have  an onshore                                                               
lease  that  contains the  production  facilities  and the  drill                                                               
sites for drilling to the offshore leases.                                                                                      
MR. JOHNSON  said in the  interests of  time he wouldn't  go into                                                               
the lengthy  Cosmopolitan history,  but the field  was originally                                                               
discovered in 1967. BlueCrest acquired  its first leases in 2012.                                                               
In 2013 they  drilled a critical well and  gained new information                                                               
that  has allowed  them  to finally  begin  developing the  field                                                               
using current state-of-the-art technology.                                                                                      
The  Cosmopolitan  Unit  consists  of  two  separate  development                                                               
projects. There are numerous gas  wells directly above underlying                                                               
oil  zones; these  gas reservoirs  are not  connected to  the oil                                                               
reservoirs. They haven't started  developing the Cosmopolitan gas                                                               
zones yet; that development is  on hold due to economic questions                                                               
concerning tax credits, the cost  of drilling and confirmation of                                                               
a stable,  long-term market demand.  Two years ago, based  on the                                                               
tax  regime   in  the  Cook   Inlet,  they  committed   to  begin                                                               
development of the oil reserves and it is now under way.                                                                        
MR. JOHNSON explained  that BlueCrest is a  small private company                                                               
with a  singular focus  on developing  Cosmopolitan and  they are                                                               
very careful in developing their  business plans. This is a large                                                               
project  for their  company and  they  were also  faced with  the                                                               
challenge of paying for its  development. Although the members of                                                               
the management  team have a lot  of experience, the cost  was far                                                               
beyond their  capabilities. So,  they teamed up  with a  group of                                                               
oil   industry  investors   who  have   much  greater   financial                                                               
capabilities and carefully  developed their plan based  on all of                                                               
the laws in place at the time.                                                                                                  
11:14:31 AM                                                                                                                   
The  point of  slide  4 was  to  illustrate the  cash  flow of  a                                                               
typical  oil and  gas project  over time.  It's important  to see                                                               
that as  the curve goes down,  more money is being  spent than is                                                               
coming in.  However, when more  money starts coming in,  it's not                                                               
automatically profit. It  simply goes to repaying  the money that                                                               
was already  invested. When  that is done  is when  profit starts                                                               
being accounted for.                                                                                                            
He  noted that  slide  4  was a  representation  of a  successful                                                               
project where  a company explores  and actually  finds something;                                                               
then  it  has  to  come  up   with  the  money  to  develop  that                                                               
exploration success.  One doesn't have exploration  successes all                                                               
the time.  In fact,  the vast majority  of exploration  wells are                                                               
dry holes (two-thirds  to 90 percent in the  U.S.). However, that                                                               
work has  to be done  in order to  get to  the point of  having a                                                               
success. And  the profit from that  success needs to pay  for all                                                               
the unsuccessful exploration wells.                                                                                             
MR. JOHNSON said  the good news about Cosmopolitan is  that it is                                                               
literally  a  few  days  away  from  the  very  first  commercial                                                               
production of  oil after two years  of hard work. In  a couple of                                                               
months they  will bring  in a  brand new  drilling rig  and begin                                                               
drilling new  wells at a cost  of about over $40-$45  million per                                                               
well and hopefully bring on  the new production that will finally                                                               
allow BlueCrest to start paying  off its loans. That new drilling                                                               
cannot start until the last half of this year.                                                                                  
Slide  5 showed  BlueCrest facilities  that are  large enough  to                                                               
process the  oil from  20 new  wells. They  are also  designed to                                                               
allow  for  future expansion.  Final  operation  tests are  being                                                               
conducted before starting production.                                                                                           
11:17:05 AM                                                                                                                   
He explained what  the tax credits from  a successful development                                                               
like Cosmopolitan actually mean to Alaska:                                                                                      
     When the  tax credits are  used for development  of new                                                                    
     proven  reserves   in  the  state,  they   are  without                                                                    
     question,  a   good,  valuable,   low-risk  investment.                                                                    
     Speaking of these  credits as a give-away -  as we hear                                                                    
     sometimes  - just  completely  ignores the  substantial                                                                    
     value  that  is  received  by the  state.    These  tax                                                                    
     credits  make new  projects work,  and  they bring  new                                                                    
     sources of long-term revenues to  the state for decades                                                                    
     into the future. Now, Cosmo,  we're sitting on a large,                                                                    
     proven, resource of future oil and gas that now simply                                                                     
       requires additional new investments to bring it to                                                                       
     full production.                                                                                                           
11:17:57 AM                                                                                                                   
MR.  JOHNSON stated  that on  February  19 the  DOR provided  its                                                               
analysis of the  financial impact to the state  on development of                                                               
a new typical Cook Inlet  oil field very similar to Cosmopolitan,                                                               
assuming that no  changes are ever made to the  existing tax laws                                                               
(slide 7).  Their example  was actually  more expensive  and less                                                               
productive that what  they think Cosmo will be.  So, bottom line,                                                               
their calculations were conservative.                                                                                           
It  shows   the  total   benefit  received   by  the   state  and                                                               
municipalities  including taxes  and royalties  as a  function of                                                               
future  various  oil   prices.  It  shows  that   even  for  this                                                               
conservative example,  the state  would receive back  100 percent                                                               
of  its investment  in the  tax credits  if oil  prices over  the                                                               
entire  field  life  average  only  about  $35/barrel.  At  about                                                               
$47/barrel, the  state would receive  back double  its investment                                                               
on  the tax  credits, and  at about  $59/barrel it  would receive                                                               
back triple its investments made on those tax credits.                                                                          
11:19:48 AM                                                                                                                   
The DOR  also provided a  discounted cash flow analysis  for this                                                               
example that  compared the impact  of the  tax credits as  a pure                                                               
investment to  the investments in  the Permanent  Fund (Permanent                                                               
Fund  September 2015  earnings were  6.15 percent).  The analysis                                                               
shows that  if there  are no  any changes to  the Cook  Inlet tax                                                               
system the state's investment in  those gets a better return than                                                               
the  average investment  in the  Permanent Fund,  as long  as oil                                                               
prices over the next 30 years average only $44 barrel.                                                                          
11:20:35 AM                                                                                                                   
MR. JOHNSON  provided BlueCrest's  specific comments  with regard                                                               
to SB  130. First, termination  or severe reduction  of qualified                                                               
capital and well expenditure credits  (slide 9) would result in a                                                               
significant  reduction  in  their   ability  to  continue  making                                                               
investments in  Cosmopolitan, resulting  in less  future revenues                                                               
to  the state.  The governor's  original SB  130 bill  completely                                                               
eliminated the  well lease expenditure credits  effective July 1,                                                               
but  the House  Resources and  Finance Committees  have suggested                                                               
reducing  the   credits  by  various  amounts   and  phasing  the                                                               
reduction in over a longer time period.                                                                                         
11:21:12 AM                                                                                                                   
The net operation  loss (NOL) credit is valuable to  a company in                                                               
the exploration or early development  phase prior to reaching the                                                               
point of positive cash flow. But  as a company like BlueCrest and                                                               
some others in the state  continue expanding known resources, the                                                               
NOL  credit becomes  far less  important; in  fact it  goes away.                                                               
BlueCrest does not expect to receive NOL credits in 2017.                                                                       
What is important  to allowing BlueCrest to  continue drilling is                                                               
the  well  lease  expenditure  credit.  Keeping  the  well  lease                                                               
expenditure  credit  at  40  percent  in Cook  Inlet  (as  it  is                                                               
currently) will  result in a  positive return to the  state. But,                                                               
most  importantly, it  allows  BlueCrest to  drill  at about  $10                                                               
lower oil  price than without  the credit.  That is likely  to be                                                               
really important  in 2017.  If oil  prices go  to $100  a barrel,                                                               
they don't need  the credits, but at $40 they  probably would not                                                               
be drilling. The credits allow their operations to continue.                                                                    
11:22:38 AM                                                                                                                   
BlueCrest's analysis  of the value  to the state of  keeping both                                                               
the  qualified capital  credits  and the  well lease  expenditure                                                               
credits  is that  it  gives them  the ability  to  function at  a                                                               
$10/barrel lower  price and  return 100 percent  to the  state in                                                               
both royalties and future taxes.  The state would be fully repaid                                                               
at $24/barrel on each new  well drilled. At $40/barrel the return                                                               
is  200  percent, and  at  $60/barrel  the  return is  about  250                                                               
percent.  So,  these  credits, at  least  for  Cosmopolitan,  are                                                               
expected to  provide a very  good return and  be a very  low risk                                                               
investment for the state.                                                                                                       
Another factor  in SB 130 limits  the amount of credits  that can                                                               
be  paid  annually. But  Mr.  Johnson  said, the  governor's  $25                                                               
million minimum  does not  take into  account the  differences in                                                               
qualified investments made by different  parties in the state. If                                                               
the limit is too low,  it's really particularly damaging to small                                                               
companies  like BlueCrest  that has  invested its  money in  good                                                               
faith  based on  tax  policies in  effect at  the  time. So,  the                                                               
timing of the payments is critical.                                                                                             
MR.  JOHNSON said  the most  important  factor is  the timing  of                                                               
implementation of the changes. Here  it is April and the proposed                                                               
changes in  SB 130 are  supposed to take  place on July  1, 2016.                                                               
The House helped  solved that issued by moving the  date back. He                                                               
explained that  before BlueCrest started its  development program                                                               
two years  ago, they made  sure they  would have enough  funds to                                                               
allow them  to complete the  construction of everything  they are                                                               
developing: the  drill site, production facilities,  and bringing                                                               
in the  most powerful drilling  rig in  Alaska to drill  at least                                                               
the first  two wells whose  production will pay the  debt service                                                               
on their loan. The changes have to start post July 1, 2016.                                                                     
He explained that  for BlueCrest, it cost $525 million  to get to                                                               
the point  of not  having to  borrow any  more money  (slide 12).                                                               
They put  in $200  million of  their own  money and  borrowed $30                                                               
million  from  the  Alaska   Industrial  Development  and  Export                                                               
Authority (AIDEA) on a rig loan.  The total they have received to                                                               
date in  tax credits is  $24 million. Based upon  their budgeting                                                               
going  forward  they will  receive  $121  million additional  tax                                                               
credits. So,  that leaves them  short by about $150  million; so,                                                               
they went  out and  negotiated a high  rate development  loan for                                                               
$150  million. That  is how  they have  funded Cosmopolitan.  The                                                               
bottom line  is if the credits  change, they are not  paid, or if                                                               
they  are not  paid on  time, there  will be  problems in  making                                                               
their debt service and reaching the point of self-sufficiency.                                                                  
Lastly,  he reemphasized  the importance  of  phasing changes  in                                                               
over time.  The most dangerous thing  one can do on  icy roads is                                                               
suddenly slam on  the brakes; they don't want to  see that happen                                                               
11:27:28 AM                                                                                                                   
SENATOR  STEDMAN  said  he  personally  doesn't  figure  property                                                               
taxes,  royalties,  and income  tax  in  looking at  the  state's                                                               
credits.  The production  tax had  been historically  "siloed" to                                                               
benefit both the industry and  the state through credit programs.                                                               
They should just have the zero  severance and be done with it and                                                               
only  look at  credits against  royalties. If  they decide  to go                                                               
down  that road,  the state  should talk  about taking  an equity                                                               
interest instead of providing credits.                                                                                          
He didn't  think the  comparison with the  Permanent Fund  was at                                                               
all  relevant. The  Permanent Fund  and  the way  its assets  are                                                               
allocated, its purpose, and why  it has its charter return ranges                                                               
is  a  whole   different  animal  than  the   oil  industry.  The                                                               
discussion should concentrate  on the benefits of  the credits to                                                               
the  state and  the industry,  and if  they have  to be  modified                                                               
because of  cash flow issues,  how that is done  without "turning                                                               
the  apple cart  upside  down" either  through  lower funding  on                                                               
appropriations,  interest  carried  costs,   or  timing  of  when                                                               
changes are made.                                                                                                               
He thought it was more on point  for BlueCrest to look at how any                                                               
changes to  the credits  might impact  them within  the corporate                                                               
structure and  how the  state and  industry can  get out  of this                                                               
pickle, because they can't stay on the course they are on.                                                                      
SENATOR STEDMAN  asked how much  flexibility there is  before the                                                               
apple cart gets  turned upside down if they change  the timing of                                                               
paying the credits.                                                                                                             
MR. JOHNSON  answered that BlueCrest  has not borrowed  any money                                                               
based upon the tax credits,  yet. They have been negotiating with                                                               
banks  on that  for some  time.  In their  basic assumption  they                                                               
borrowed  the  money  at  a  high  interest  rate  for  the  full                                                               
development. If they  can borrow money at a  lower interest rate,                                                               
after they  have spent  it but  before the  tax credits  come in,                                                               
that saves  them some time.  All the loan  does is save  them the                                                               
time value of money in terms  of the interest being saved. All of                                                               
their plans were based on borrowing money.                                                                                      
11:32:11 AM                                                                                                                   
SENATOR STEDMAN  asked him to  clarify if  he was saying  that if                                                               
there  was  a  delay  in   payment  of  the  credit  because  the                                                               
legislature didn't appropriate  the funds that it  might take two                                                               
years for  BlueCrest to get its  credit. He wanted a  finer point                                                               
on a company-specific, risk level  to that policy change of fully                                                               
funding  the credits  versus some  funding  mechanism below  that                                                               
that starts the  whole carry forward process,  and first in/first                                                               
out payout.                                                                                                                     
MR.  JOHNSON responded  that  in  their case  the  timing of  the                                                               
credits is absolutely  "imperative," - probably more  so than for                                                               
somebody who  is borrowing  money from  a bank  for just  the tax                                                               
credits themselves. If the state takes  two or three years to pay                                                               
these credits the delay is  very expensive for BlueCrest, because                                                               
at a  20 percent interest rate  the credit is worth  half of what                                                               
it was originally worth.                                                                                                        
SENATOR  WIELECHOWSKI asked  if Mr.  Johnson would  be open  to a                                                               
system  where  the   state  would  get  an   equity  position  in                                                               
production for  the tax credits. So,  if the state provided  a 40                                                               
percent tax credit  it would get a 40 percent  stake in the value                                                               
of the production.                                                                                                              
MR. JOHNSON  responded that  the state  already has  a one-eighth                                                               
ownership with no  cost basis in terms of the  royalty. The North                                                               
Slope  has some  higher  rates,  but it's  12.5  percent in  Cook                                                               
Inlet.  An equity  interest is  entirely different,  because with                                                               
equity one assumes  all the risk of everything.  The credits were                                                               
set up  for each  individual expenditure.  The 40  percent credit                                                               
for a new  well expenditure was set up to  encourage drilling and                                                               
clearly the  state gets  a good return  on that  investment. From                                                               
that standpoint, equity is very different from tax credits or                                                                   
from royalty.                                                                                                                   
CHAIR GIESSEL thanked Mr. Johnson.                                                                                              

Document Name Date/Time Subjects
SB130-Caelus Testimony to SRES-4-9-2016.pdf SRES 4/9/2016 9:00:00 AM
SB 130
SB130- Presentation to SRES-Furie Alaska-4-9-2016.pdf SRES 4/9/2016 9:00:00 AM
SB 130
SB130-Presentation to SRES-Ahtna-4-9-2016.pdf SRES 4/9/2016 9:00:00 AM
SB 130
SB130-Great Bear Testimony to SRES-4-9-2016.pdf SRES 4/9/2016 9:00:00 AM
SB 130
SB130-BlueCrest Testimony to SRES-4-9-2016.pdf SRES 4/9/2016 9:00:00 AM
SB 130