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Prepared Witness Testimony The House Committee on Energy and Commerce
Natural Gas Supply and Demand Issues
Full Committee on Energy and Commerce
Mr. Forrest E. Hoglund
Chairman Tauzin, Congressman Dingell, Members of the Committee: Thank you for the opportunity to speak here today on the importance of adequate natural gas supplies to our nation's energy security and economic vitality. My name is Forrest Hoglund, and I am the CEO of Arctic Resources Company (ARC), a sole purpose company developed to facilitate permitting, construction and operation of a natural gas pipeline from Alaska's North Slope to gas-hungry markets in the lower-48 states. Chief among this nation's opportunities to increase our domestic natural gas supplies and increase our energy security is facilitating construction of a natural gas pipeline from Alaska's North Slope to markets in the lower-48 states in the lowest cost, shortest, and most environmentally sensitive manner available. Without Congressional impediments currently included in the House and Senate energy bills, the market will ensure that this line is constructed and operates to the benefit of all natural gas consumers, gas producers and explorers, the U.S. government, U.S. taxpayers, Alaskans, Native Peoples and the Canadian government. Construction of an Arctic natural gas pipeline is the biggest impact energy project available and the most important to America today. The question to Congress is this: Should a pipeline be constructed in the lowest cost and most environmentally responsible manner that provides the most benefit for taxpayers and natural gas consumers, or should Congress mandate that a high cost, economically risky project be undertaken to appease some Alaskan political interests and economically benefit the largest oil companies in the world by shifting the project risk from the companies to the U.S. tax payers? I submit that if the Congress passes legislation in the form that is currently being considered, no pipeline will be built. The construction of an Arctic gas pipeline has an interesting history. There was a big push by industry, the U.S. and the Canadian governments for construction of a line 28 years ago. Industry spent about $750 million and almost all the stakeholders decided that a Northern Route was preferable both economically and environmentally. One buried pipeline laid in a good pipeline construction path was much better than two pipelines, one of which had to run through approximately 900 miles of mountains. The same remains true today. Unfortunately in the 70's, due to Aboriginal opposition and Aboriginal land claims that were not settled at that time, a Canadian Commission called for a 10 year moratorium on a pipeline through the Mackenzie Valley, and that ended up blocking the Northern Route. With the Northern Route ruled out, President Jimmy Carter approved the Southern route in the Alaskan Natural Gas Transportation Act (ANGTA), but it was so uneconomic it was never built. Alaskan politicians and labor unions kept the ANGTA Route as their dream and kept working to find ways to get someone to subsidize its construction. Today, Alaska, BP and ConocoPhillips think they have found the way. Both last year and apparently this year they have convinced Congress to mandate the uneconomic Southern Route. The U.S. Senate is also seriously considering some very flawed tax and other economic incentives in its energy bill that it knows are needed since the mandated route is uneconomic. The Bush Administration is firmly against the mandate and these incentives, and considers that approach bad energy policy as evidenced in their May 8, 2003, Statement of Administration Policy (attached). Comparing the Two Options The Alaskan proposal requires two pipelines - the Alaskan Highway (or Southern) Route and another to connect Canadian reserves through the Mackenzie River Valley. Below are maps of the two separate pipeline routes that would be needed to transport both Alaskan North Slope and Canadian Mackenzie Valley natural gas to markets. Chart 1 Alaska Highway Plus Canadian Pipeline This Southern Route parallels the oil pipeline right of way to Fairbanks, and then proceeds down the Alaska Highway to pipeline interconnects near Edmonton, Alberta. Interestingly, two-thirds of the Southern Route line must be laid in Canada. The Mackenzie Valley only line originates in the Mackenzie River Delta and follows the Mackenzie River Valley south to Edmonton. The following map shows the proposed Arctic Resources pipeline route. This proposal is very close to the preferred route proposed 28 years ago. Chart 2 Arctic Resources Pipeline The Arctic Resources proposed pipeline proceeds offshore from Prudhoe Bay to the Mackenzie River Delta, connects the Canadian reserves, and then continues down the Mackenzie River Valley to Edmonton, Alberta. The offshore segment of the pipeline will be buried in a 15 foot trench and will be constructed during the winter months. This route is shorter, faster to construct, and has a lower cost. This project does not need subsidies or financial incentives. All one needs to do is look at the maps to decide which answer is best. Chart 3 One Pipeline Versus Two As shown in Chart 3, in comparing the competing pipeline proposals, one must realize that a Southern Route requires two pipelines whose combined total will be twice as long (3490 miles versus 1665 miles) and twice the cost ($14.6 Billion versus $7.8 Billion) of a single Northern Route. Proponents are working to have the Southern Route subsidized. The Northern Route does not need to be subsidized. In fact, the Northern Route should create significant tax revenue for both the United States and Alaska. Pipeline tariffs on the Northern Route are in the range of 50 to 75 cents per thousand cubic feet (Mcf) lower than a Southern Route alternative, which means better economics for the natural gas explorers and therefore more natural gas will be found for American consumers. In any business where a product is a long way from the market, the lower-cost transportation system is always more desirable. When politics get in the way of sound economics, nothing good happens. If the economic comparison is so compelling, why are the major producers not backing the Northern Route? Good question. They did 28 years ago, but now, two of the three North Slope majors - BP and ConocoPhillips - have fallen in lockstep with the Alaskans. They dispute the cost differences (not the distances) and their latest answer is that both routes cost nearly the same. It is interesting that this new position came after Congress showed a willingness to subsidize the Southern Route. Several parts of their estimate need to be expanded upon. First, they added roughly a $4 billion cost contingency for summertime offshore construction in the Beaufort Sea evidently due to more ice problems. This does not affect our estimate since we are talking about winter construction. They also say construction costs are around $20 billion to get the gas all the way to Chicago when there is no clear economic evidence to show that a pipeline needs to go beyond the existing pipeline interconnects near Edmonton, Alberta. These two producers evidently feel that if the U.S. taxpayers will guarantee the debt and subsidize a line to Chicago, why not try for it? They also never mention the cost of the line in Canada. Keep in mind that they want a mandate so that the projects cannot be compared. ARC is not seeking a mandate; we are willing to stand on merit, markets, geometry and statutory regulatory requirements. Buying the mandate argument is like letting the wolf design how strong the hen house will be. The real question should be: Why is Congress mandating a route rather than letting the regulatory process and market forces work as they were designed? The Bush Administration has recognized this important question and has asked the Congress not to mandate a route and not to subsidize the pipeline with tax credits. Such Congressional action is unnecessary. It could be very expensive for the taxpayers. And, it will jeopardize the construction of any pipeline by aggravating our Canadian neighbors. Important Interests Not Represented Several important parties and issues are being ignored in the current Congressional debate on construction of this natural gas pipeline. First of all, Canada is a very important player in this pipeline debate because the National Energy Board (NEB) of Canada must approve the pipeline plans for either route. About two-thirds of the Southern Route goes through Canada (if Edmonton is the terminus), and about 90% of the Northern Route is in Canada. Applications must be filed with the NEB and the Board must consider economic, regulatory and environmental aspects of the line. It will not be in Canada's interest to approve a subsidized line for Alaskan gas that will disadvantage Canadian gas in the marketplace. The Canadian government has been vocal on this issue. The Canadian alternative is to build a Canadian-only line which is not very economic either. Two high-priced pipelines will definitely limit the exploration potential in Alaska and Canada due to higher pipeline tariffs and less profit on the lines, to the detriment of both countries. Additionally, there are significant Canadian Aboriginal land claim problems with the Alaskan route that are being glossed over. The likelihood that Canada will delay or block the Alaskan plan is high. As previously mentioned, two high cost pipelines into Alaska and Canada will limit the exploration efforts in both the North Slope and Canada's Mackenzie Valley. A subsidized pipeline will be an economic discouragement to exploration and production interests in all other North American producing regions. A number of independent companies and industry associations have protested against the Congressional actions. One low cost pipeline system, selected through market competition in an open and transparent regulatory process, with open access features for new volumes, is what is needed to maximize the exploration potential in each area. This is the most important energy project in North America; both countries and other interested parties need to be involved in the process. Two high cost pipelines, particularly one that goes all the way to Chicago from Prudhoe Bay, will be very expensive to U.S. and Canada taxpayers and natural gas consumers. The subsidies being considered for the Southern Route are designed to move only the current proved reserves on the North Slope of Alaska. The Northern Route does not need subsidies and, in fact, would create significant tax revenues for both Alaska and the United States government. In mandating an uneconomic route and forcing taxpayers to subsidize the construction and operation of the line, Congress seems to not be fairly representing the majority of its constituents. Natural gas consumer interests are also not being adequately represented. The lowest cost system will create the largest gas supplies and the best economic results. If the U.S., Canada and Alaska will support the lowest-cost system, it will also be the fastest line to be built. The project can also be a definite plus for U.S. and Canadian businesses if done right. The Southern Route (ANGTA) pipeline plan involves laying 52-inch high pressure pipeline through approximately 900 miles of mountains and the chances of significant cost overruns are present. There are no pipe mills in North America that can manufacture any significant quantity of 52-inch pipe; only German and Japanese mills can manufacture the steel for a pipeline of this magnitude and pressure. Construction of this natural gas pipeline would be the largest steel order in North American history. It would be a shame to congressionally mandate a project in which North American pipe mills could not participate. The Arctic Resources plan for laying two 36" lines in succession would allow Canadian and U.S. pipe mills to help fill the orders. In addition, standard construction equipment could be used to lay the pipeline. There is currently no construction equipment to lay 52-inch pipe, so contractors would have to build new equipment for the project. Operating in mountainous terrain is another cost risk. Limited pipe suppliers and unfamiliar equipment are recipes for cost overruns. With regard to jobs, there is no great differential between the routes. Many qualified people will be needed, and either route will have to employ significant labor from Canada, Alaska, and the lower-48. The Route Mandate There are several flaws in the route mandate and the subsidies being proposed in the House legislation (H.R. 6) and the Senate version (S. 14). First of all, there is a better route than the Southern Route. A single Northern Route is preferable to two - an expensive Alaskan line, plus another line through the Mackenzie Valley for the Canadian reserves. As noted, in ARC's view, the two lines would be twice as long and cost twice as much as one Northern line. In addition, the footprint of the pipeline would be 3,400 miles instead of 1700. A mandate for the more costly option does nobody any good over the long term and should be fought as hard as the tax and economic subsidy being proposed. The Tax Credit Subsidy This Senate's proposed subsidy package also has several questionable features. The $.52 per million British thermal units (MMBtu) tax credit that the Senate Finance Committee has endorsed would kick in when wellhead prices dip below $1.35 per/Mcf. There are two objectionable features in that approach. First, proponents claim that up to 20% of U.S. gas has Section 29 credits, so they should get these credits as well. What the Senate has proposed is not a Section 29 tax credit. Section 29 credits are normally given when it has been established that they are needed to develop the resource. The credits would not be given if there were less costly ways of developing the resource. Alaska and two major companies' logic is to first mandate that a high-cost route be built, then a subsidy would obviously be needed. A much better, free market approach would be to have no mandate and no subsidy. In the alterative, if Congress deems that subsidies are necessary, then they should apply to any route built and be available to any gas that moves through the pipeline. Secondly, basing the tax credit on the North Slope wellhead price is a way of shifting the cost/risk responsibility from the North Slope gas producers (BP, ConocoPhillips and ExxonMobil) to the pipeline debt holders or guarantors. If the high-cost approach being taken by the majors ends up costing considerably more, the multi-national oil company producers would still be guaranteed at least $.52/Mcf after taxes (that is more like an $.80 wellhead price), no matter how high the pipeline tariff goes. The major producers have found a tricky way to shift the risk away from them. Congress should recall that the last time the majors built a big pipeline in Alaska, the Alaskan oil pipeline, the cost estimate of roughly $900 million ended up ballooning to $9 billion. Other Subsidies In another questionable maneuver, the majors also want to include the gas conditioning plant in the pipeline tariff before getting to a wellhead price. The plant is needed to clean out CO2 and nitrogen from the gas and, under normal industry practices, that cost would not be included in a pipeline tariff. For example, if other producers have clean gas, they would not need a gas conditioning plant and they would not want to pay for a portion of the majors' plant. By trying to include the plant in the tariff, the total pipeline tariff is higher and, therefore, the wellhead price lower, which means the tax credit is triggered faster. They also want and the Senate legislation provides for federal debt guarantees of up to $18 billion for the pipeline. That level of guarantee is needed to get the pipeline all the way to Chicago so that the majors can control the gas going to market there. Normally the line would stop near Edmonton where existing or expanded intersecting pipelines would move the gas to markets on the West Coast, Midwest, or wherever else they may be needed. But, if the Alaskan parties can convince the government to guarantee the loan, the line can be constructed all the way to Chicago and the other pipelines will be bypassed. That would limit competition and further exacerbate the problems of industrial and other consumers as they struggle with high gas prices. A much better approach would be to only approve enough in loan guarantees (approximately $8 billion) to get the gas to Edmonton and to make it applicable to all routes. The Canadians may also wonder why the U.S. is guaranteeing all the debt for a pipeline that is two-thirds in Canada, particularly when the Canadians oppose this treatment. It is difficult to get the right thing done for taxpayers and natural gas consumers when the major reserve holders have fallen into the Alaskan web. They have been convinced that the taxpayers will backstop any project financial risk due to the Alaskan political strength. It must be difficult when the major stakeholders spent a lot of money 28 years ago and decided the Northern Route was lower cost, shorter to construct and was better environmentally to now try to argue the other side. Intellectually, many Alaskans, consumers and taxpayers, natural gas producers and others who have studied the problem are confounded. The Southern route is 20th century solution of necessity. Now, 30 years later, the country needs a 21st century solution to bring Alaskan and other Arctic gas to market. The Right Answer The first thing that has to happen to ensure that the appropriate pipeline is constructed is to convince Alaska that U.S. taxpayers will not take all the risks on the project, and the most economic project and the best environmental project is the one that should ultimately be built. They also should understand that the Canadian government has a legitimate role in approving and permitting the pipeline, and should be involved in the planning phase. Recently, Canadian Minister Robert Nault called for a Bilateral Commission to be formed to study this subject with the U.S. and Canada participating. I believe that this is an excellent approach to solving the problem. The U.S. also has a lot at stake since a good deal of the future exploration potential lies on federal lands; it is not all in Alaska. Alaska's Stake It should be noted that Alaskan long term economic impacts will be much better with the most economic project being built. Prior studies in Alaska have shown that with the Northern Route they should make about $4 billion more from severance taxes and royalties due to the higher wellhead prices resulting from the lower transportation tariff. With the lowest-cost system, Alaska also will have more exploration activity and therefore more future gas reserves will be discovered, which equates to more long-term jobs in the State. Any short-term construction jobs gained from building the Alaskan line do not offset the high project cost to the taxpayer or lower long-term gains for Alaska. When once again Congress refuses to provide tax subsidies for a Southern Alaskan line, Alaska's best option will be to work with the other states and Canada to get the right project built as quickly as possible. When Alaska drops its opposition to the Northern Route, a project will then be able to move forward fast, and will end up being the best answer for all. What Should Congress Do Now? The House has passed the route mandate in H.R. 6, and it appears the Senate is poised to pass the mandate as well as the tax subsidy and debt guarantee package in its energy bill, S. 14. This is exactly what happened in the last Congress. During the energy conference, the House should remain steadfastly opposed to the tax subsidy and debt guarantee package, and, just like last session, realize that the mandate without the subsidy is harmful to all U.S. natural gas consumers. The Bush Administration is supporting the no mandate or subsidy position and instead is promoting good energy and financial policy allowing the market to work for the right decision. As you join with your Senate colleagues in a conference committee on your respective energy bills, I would encourage conferees to oppose the massive subsidy package and route mandate for an Arctic natural gas pipeline. If the route mandate and subsidies are struck from a final compromise bill during the Conference Committee, then we can all start working on the right answer for everyone. Once that happens, then Alaska and the major producers will be free to pursue the most economic route available in an expeditious manner and all of the country will benefit. It should be noted that there are several provisions in the House and Senate legislation that would be beneficial to expediting construction of an appropriate natural gas pipeline to get these reserves to market. Passage of those provisions would lead to greater regulatory certainty in pipeline construction, and I would encourage you to retain these provisions in conference. Thank you, Mr. Chairman, for the opportunity to present this testimony before you here today. I appreciate your willingness to listen to my concerns, and I hope you will take my recommendations under serious consideration when you go to conference with your Senate colleagues. I look forward to answering any questions you may have for me today.
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