Policymakers heading to Juneau will be revisiting the ACES oil tax legislation passed in 2007, which raised taxes on the oil companies. Since that time, exploratory drilling has gone down. Over the past year, oil and gas employment dropped as well. The pipeline is two-thirds empty, and output is going down 6 percent per year.
The upside is that the state took in billions of dollars in 2008 as result of that oil tax. When oil jumped to $140 that year, the state won big time.
The current ACES tax system really favors the state government in a kind of heads I win, tails you lose way; when oil prices spike higher, the state wins, but when they are low, the producers lose. Without the possibility of upside, why take the risk? That's what the oil companies are arguing.
Some independent analysts, like Roger Marks, agree. Writing in the Oil and Gas Financial Journal, he examines the "progressivity" of ACES, noting that at oil prices of $90 (about where we are now) the marginal tax on the oil companies is around 80 percent. It rises to 93 percent at $120 per barrel. Marks points out this is quite high compared with other countries.
I know it's "our oil," but we aren't the ones working to find it or extract it. And, taxes impact behavior. Ronald Reagan understood that. As an actor in the 1950s, he saw many actors quit working around September because they had reached an earnings level where the government took 90 percent of every additional dollar earned. That high marginal tax rate was a huge disincentive to work more.
Don't get me wrong. Asking the oil companies if they need lower taxes is like asking a barber if you need a haircut. I understand that. But I do confess to being sympathetic to their plight.
Perhaps that's because I read John Miller's new book "The Last Alaskan Barrel: An Arctic Oil Bonanza That Never Was." This former ARCO project manager argues that oil companies would have been as well off never building the pipeline and just putting their money in Treasury bills.
Before one barrel of oil went down the pipeline, the oil companies had spent $15 billion in this high stakes gamble on Alaskan oil. The after-tax real rate of return that resulted, based on the actual cash flows, was 7 percent. This is less than one-half the hurdle rate (anticipated return) the project required. Miller says "The risk and uncertainty of exploration, oil prices, costs, taxes and inflation proved greater than forecasted."
Oil prices traded around $20 to $30 per barrel from 1979 to 2004 and closer to $50 was necessary to earn the hurdle rate. Then, just when prices finally spiked higher, the state capped the upside in 2007.
I assume his data is good. Oil companies are loathe to share profitability information, so it's difficult to confirm. This leaves even the state making educated guesses about the impact of taxes on exploration and production in negotiating with the oil companies.
I can tell you that an investment in oil company stocks has kept pace with the stock market over the past 30 years ending in 2009. According to Bloomberg, Exxon gained on average 14.6 percent per year, BP 11.3 percent and ARCO/Conoco 11.3 percent. This compares with a 10.9 percent return for the S&P 500. Returns should be higher than the market, because oil and gas exploration is a risky business. Losses can be enormous.
I can remind you that ACES was forged in an emotional and politically charged atmosphere. Gov. Sarah Palin had just ridden into Juneau on her populist horse. The VECO scandal, a self-inflicted wound for the industry, was fresh in everyone's mind. Socking it to the oil companies was a no-brainer, politically speaking.
But now that we've had a few years of experience under our belt, it's time to dispassionately review ACES. Oil is the lifeblood of Alaska. Getting this right is important. We can continue to milk our cash cow, but only with care.
Jeff Pantages is an investment adviser. He lives in Anchorage.
By JEFF PANTAGES