10-26-15 Alaska LNG Legislative Struggle

Commentary:

Yesterday a friend from Canada called after reading our rare, Sunday email alert.  

Earle said, after watching some of the Alaska special legislative session weekend meetings on line, "Looks like your politicians have gotten themselves in over their heads.  What would you do, Dave"?

Of course, Earle was referring to the state's fiscal crisis: the $3-4 billion annual deficit; the diminishing Trans Alaska Pipeline throughput; billions in unfunded state employee pension liability, and the out of control spending by a bloated bureaucracy and social service system.

If that weren't enough of a challenge, the governor has been threatening Alaska's biggest investors with a predatory reserves tax on the one hand–to "leverage" producer gas marketing via an LNG project.

On the other hand, he is pressuring the legislature to draw down remaining savings accounts to cover previously made and current commitments to Trans Canada for their early participation in the Alaska LNG project.  

In addition, he doubles down by wanting to invest billions more for a higher equity position in the proposed Alaska LNG project.

His rationale sounds something like this: "We could make hundreds of millions a year more by maximizing our equity investment in the LNG project."  (i.e. someday, perhaps?)

As if a state teetering on the brink of fiscal insolvency should be gambling billions of precious savings along with probable, additional bond indebtedness on a risky gas transportation and marketing venture.  

That LNG gamble is hard enough for experienced oil and gas companies to survive profitably in today's volatile economic times.  But, just as the Soviet Union found when it followed Marx's advice to control the means, delivery and distribution of production, Alaska's governor seems fully confident that under his leadership state ownership in a massive $45-65 billion project is not Quixotic but brilliant financial strategy.

"I'm not smart enough to have all the answers," I told Earle.  "But if I were in Juneau this week I would surely be asking some questions.  Granted," I said, "some would be questions based on experience and some may found to be based on ignorance."

When he asked about what my questions of the governor's experts might be, I gave a few bullets that went something like this:

• If the state buys out TransCanada with the goal of profiting from greater equity investment, have you discounted that profit by virtue of having state bureaucrats supervising massive investment in a highly technical project?
• You say you would, "hire the experts to coordinate the state's equity investment", but do you really think that state employees and the governor would monitor and direct their work as productively and apolitically as highly experienced, private sector pipeline managers?  If not, how would you discount the state's actual financial returns.
• With the state, "having a seat at the table", what, if any, demands would be placed on participants as a result of the state's open meetings laws?  What could be the impact of Freedom of Information requests on the project if the state has any degree of equity participation?  
• Is it possible that, just as the governor has interrupted the process to demand the consortium study the feasibility of expanding the project from a 42" pipe to a 48" pipe, he could make similar, costly demands through the state's representatives overseeing its equity investment…time and time again?
• Pipeline regulatory agencies normally establish "Just And Reasonable" tariffs and would demand that the state pay for the marginal cost increase of building a 48" vs. a 42" pipe under the well established precept that the, "cost causer should be the cost payer.  Has the state agreed to reimburse other participants for their costs/losses in pursuing his demand to study the bigger inch pipe?"
• If the project builds a 48" pipe at the state's request, with spare capacity at first for lack of shippers, should not the state pay the project a separate tariff for spare capacity it has demanded as the "cost causer"?
• How does the governor envision insulating the AGDC state representatives of our equity "investment" from political pressure to arrange favorable consideration for contractors or arrange politically inspired employee hires?  Should the governor's prior associates be disqualified from project involvement due to an appearance if not reality of conflicting interests?
• The companies involved in AkLNG require some evidence that the state will not expropriate their investments via taxation after the world-class AkLNG project is built.  This is an element of "fiscal certainty" requiring Constitutional amendment.  In response to that requirement, the Governor has offered support for "fiscal certainty" of the natural gas pipeline/LNG project but not for the companies' oil investments.  Wouldn't this be a "show stopper", since without oil tax guarantees, the state could unreasonably (i.e. even retroactively) tax oil investors after their gas investment is made? 
• Can the Administration present to the legislature a reasonable plan for financing its desired short and long term investment in the AkLNG project–along with realistic assumptions and alternatives in more detail than is reflected in the Black and Veatch report?
• How much of the state's earnings reserve and CBR accounts do you anticipate needing for what portion of the FED and PRE-FEED?
• I assume the governor is aware of the PERS/TERS unfunded employee pension liability which is 2-3 times larger than the annual $3-4 billion annual deficit.  Is it the governor's judgment that the state is more ethically guided to use savings and borrowed money for investment into an unsanctioned gas pipeline than to fully fund our employees' unfunded pension liability?
• I thought "equity", as in an AHFC-financed house down payment, required earned/saved funds, not "borrowed or gifted" funds.  Do bond indentures allow and is it ethical for the state to use borrowed money for the equity portion of a 30/70 debt equity financed project?   
• Please provide a detailed response.  1) We seem to be within 3 years of not having savings to fund annual deficits…and, a few months' less time if we pay cash for AKLNG / TC expenses; and  2) The pipeline cannot begin providing net income to owners until it is operating, about a decade from now.  Therefore, the project cannot be generating help for the operating budget until long after we hit the fiscal cliff; and 3) even if all goes well and you answer the above issues well, the diminished throughput of TAPS could result in a shutdown anytime within the next few years, sometime short of a possible 2025 pipeline startup.      MY QUESTION IS: How can Alaska afford the extravagance of a $ multi-billion pipeline investment from now going forward: a) that does not involve risking the precious permanent fund corpus; b) that does not involve massive borrowing that makes world-class debtors of our children; c) that leaves our employee unfunded pension fund liability unable to keep faith with retirees; and d) enables us to maintain a deficit-free operating budget?
• The Administration advocates buying TC out largely but not exclusively because of the state's "lower cost of debt" than TC's 7.1%.  Can you envision a situation wherein the state's diminishing credit worthiness as determined by rating agencies causes the state's cost of debt to exceed TC's cost of debt?  (i.e. if the fiscal gap is not reasonably and timely plugged?)
• In view of the above, what kind of additional oil industry taxation do you contemplate in a low price environment that hinders oil industry investment just as it does our own coffers?
• Do you wish to provide the Legislature during this special session with a multi-year spending cut plan, roughly based on ISER's recommendations, that could show us how the Administration could prudently make the LNG payments required while avoiding some of the unintended consequences named above?
• Lastly, do you believe it is prudent for a state to become engaged in the risky game of LNG transportation in competition with a highly experienced private sector in an unpredictable world market?  Do you believe the risk tolerance level of our citizens is equal to the governor's…or, for that matter, SHOULD a state's risk tolerance level be equal to that of major oil and gas exploration, production, pipeline / tanker transportation and marketing companies?
  

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  Epilogue

After asking these questions one may be left with some  discomfort that the Alaska Administration really is, as my Canadian friend, Earle, observed: "in over its head".

After working for about 50 years in government, military, small business, corporations, education and non profits and studying for a time at the feet of the late MBO Guru, Peter Drucker, I am left with a great feeling of pity and discomfort for Alaska.  

Many legislative leaders in the first hours of the special session acknowledged the huge complexity of the challenge and the lack of a plan from the Administration.

During my years of both hard and pleasant 'knocks' I emerged with one important, hard won lesson: if a project seems too complex…if it is too hard to explain … if after briefings, observers are left with even more questions than before … it is wise to consider how to make the complex simple again.  Go back to the drawing board.  Instead of being motivated by "having a seat at the table or chasing possible but risky profits", perhaps it's time to reingage wisdom and think smartly: "How can I support those who do have the experience, determination and resources to get the job done?"  (Remember Senator Duleavy's unanswered question today: What is the state's priority: maximizing financial return to the state or providing affordable {i.e. code word for subsidized} energy to residents?)

This Alaska LNG equity idea may be as complex and contentious as taking gas RIK instead of the easy RIV — partly because the Legislature, representing citizens, have not been adequately briefed on how their citizen-elected governor plans to pull off the simultaneous challenges named in the questions above.  

Thus, the average citizen is likely to be completely blinded by the complexity … including what we believe are unrealistic, misleading "assumptions" in the Black & Veatch study (i.e. which we detail here) upon which the Administration bases its assertion of money galore falling out of an LNG equity investment.

Do my Alaska readers agree that: a multi-billion dollar payment of precious Alaska tax dollars should not be much more risky than a AAA  bond purchase?  One could wisely hold that public money is not for risk.  Public money is for the necessary operation of a reasonable government at a price within the government's means that does not overtax taxpayers–including oil companies.  Public money does not belong to a governor or a legislature; it is the precious treasure of citizens who give it in trust to trusted public officials.

This LNG equity idea could be a huge public seduction that, if not curtailed — at least prior to a Final Investment Decision (FID) — could see Alaska in default, deflect future large industry investments, cause immense family suffering and job loss and forever scar Alaska's age-old, respected reputation as "The Last Frontier".

Remember that while consultants might say the major investments will occur after FID, there will then be risks of project completion, cost overruns and durability of gas purchase agreements in a volatile world that are underpinning bond indentures.

We wish our elected representatives well as they negotiate the complex and dangerous waters between Scylla and Charybdis; and, we pray that their decisions on our behalf will be both wisely and simply executed.

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Final observation for Legislators:

This is an intensely complex arrangement without involvement of a public entity.  With a public entity, we experience additional complexity involving many factors, including that of confidentiality agreements and internal disputes between the state as a gas owner and the state as a pipeline owner.  You will never be far from disputes, for example, between Municipalities and property revenue, "in lieu of taxes", pipeline valuation, etc.

If you have been concerned about your complex decision making during this process, and/or concerned about the expertise required for you to make enlightened decisions — just imagine how politically intense and complex your involvement (or that of your unknown successors) could be in the years ahead — particularly as powerful, constituent special interest groups evolve over time.  

Is having ongoing legislative/political responsibility over one of the world's largest ever construction projects a responsibility you believe the legislature and governor should have from this time on?  Or, should you be merely supporting the private sectors proper execution of the project?

How much time, year after year, will Alaska LNG equity participation demand away from your other legislative duties?  What is that cost and benefit, in your view?

Did the Constitution really anticipate that the governor and legislature would have ongoing ownership, supervisory and legislative responsibilities over a high-risk private sector project?

–DH