Lower costs, federal tax cut boost producers’ share of profits

  • In its 2017 presentation to the Senate Finance Committee, ConocoPhillips noted that the state share of profits was greater than the producer share at all price points. (Chart/CononoPhillips)
  • In its January 2018 presentation to the House Resources Committee, ConocoPhillips' updated chart on government take shows the benefits of the federal corporate tax cut that grew its share to larger than the state's at current prices. (Slide/ConocoPhillips)

For at least one quarter, the total taxes paid by Alaska’s largest oil producer appear to contradict a longstanding argument against raising them, but ConocoPhillips maintains that the results jive with its previous statements to the Legislature.

Alaska oil industry advocates have fought attempts to raise North Slope oil production tax in part by insisting that “total government take,” an all-in calculation of combined taxes, royalties and fees paid to the state and federal governments, consistently exceeds the share of profits large companies are allowed to keep on the oil they produce at all prices.

That claim has generally applied to the three major producers of BP, ConocoPhillips and ExxonMobil, which own the Prudhoe Bay, Kuparuk and Alpine oil fields that provide the lion’s share of North Slope production. More recently Hilcorp has joined those three as a large producer by state taxing standards with more than 50,000 barrels of production per day.

ConocoPhillips reported net income of $445 million in the first quarter, while paying $400 million to governments — $298 million to the State of Alaska in royalties, property, income and production taxes, and $102 million in federal corporate income taxes — for a government take of 47 percent while the company correspondingly kept 53 percent of its taxable revenue.

Before a one-time $79 million special item expense related to a Trans-Alaska Pipeline System tariff settlement, the company had $524 million in net earnings from Alaska.

The company, Alaska’s largest oil producer, is required to break out its Alaska operations in its regular corporate financial reporting to the Securities and Exchange Commission because its activities in the state account for significant segment of its worldwide business.

ConocoPhillips Alaska representatives emphasized that total government take is still greater than what the company retained based on its first quarter 2018 earnings.

Spokeswoman Amy Burnett wrote in an email that on a net cash flow basis, which has been the basis of its presentations over the years to the Legislature, the company kept $367 million during the first quarter, or 48 percent of its total net cash flow of $767 million.

The end net cash flow is calculated, according to Burnett, by adding back a $185 million depreciation expense on the company’s assets to the $445 million profit before deducting $263 million in capital expenditures for the quarter to arrive at the $367 million figure.

Alaska Tax Division Director Ken Alper said total government take should generally be in the “low 50s range” at recent prices, but noted that “if you’re in a low 50s paradigm it doesn’t take that much to get further into a high 40s paradigm.”

However, on the most basic level, “If in fact they’re now below 50 percent in the first quarter that’s going to be a hard admission for them because their reports are always caveated with how much taxes they pay.”

Alper said that the changes in the numbers are driven by lower company costs and federal tax reform, which cut the top corporate tax rate from 35 percent to 21 percent as of Jan. 1.

Before the federal corporate tax rate cut, the state share was larger than the producer share at all prices. The federal tax cut now puts the producer share larger than the state’s at prices up to $85 per barrel.

Total take

The complex state production tax is geared to support small companies and those producing oil from new developments while capturing revenue from the owners of the large, aforementioned legacy fields.

ConocoPhillips Alaska leaders asserted in an April 2017 presentation to the House Finance Committee about a proposal to increase production taxes that the company’s share of taxable revenue peaked at 38 percent at oil prices between $70 to $80 per barrel.

The company’s share shrank to 15 percent at roughly $45 per barrel and quickly became negative at prices of about $40 per barrel when costs outpaced revenue and the company began losing money on each barrel it produced.

Companies and supporters of the current system note the royalty and gross tax require the producers to pay hundreds of millions each quarter during such exceptionally low price periods when they are losing money on each barrel of oil they produce.

Burnett stressed, as others in the industry have, that the state’s tax and royalty levels must remain competitive with other regimes around the world so the producers will continue to invest in Alaska’s high-cost North Slope.

BP paid $464 million to the state in 2016 when it lost $358 million in Alaska overall, with operating expenses combined with low prices more than erasing the $85 million North Slope upstream profit, according to BP Alaska Region President Janet Weiss.

ConocoPhillips paid $492 million to the state in 2016 when it made $319 million here but lost $3.6 billion companywide.

State royalties of 12.5 percent to 16.6 percent, depending on the leases where the oil is produced, and the gross 4 percent minimum production tax are collected regardless of a company’s profitability.

During its April 2017 presentation at the Legislature, ConocoPhillips estimated the federal government would take 20 percent to 21 percent of the taxable revenue while the state would collect the remaining 41 percent to 42 percent in the $70 to $80 per barrel price band.

More recently, during a Jan. 29 House Resources Committee meeting on another oil tax increase bill, company representatives showed a similar slide indicating a company’s would “take” peak at 48 percent when oil prices averaged $65 per barrel when the state got 39 percent and the feds took 13 percent.

The chart also shows a large producer is likely profitable at lower prices as well, with the company not going into the red until $35 per barrel oil and still retaining 23 percent of taxable earnings at $40 per barrel prices.

While the federal corporate tax calculation is seemingly a simple one — 21 percent of a company’s net earnings after state taxes and royalties are deducted — federal tax credits and depletion allowances mean companies are likely to not always pay the full rate, which would lower the government’s share from the high-level charts ConocoPhillips Alaska leaders used in their testimony to the Legislature, according to Alper.

BP reports less-specific Alaska results to the SEC in its public annual reports and ExxonMobil, which discloses very little on any matter as its general practice, does not need to disclose its Alaska financials.

BP netted $830 million in upstream Alaska profits, according to its 2017 annual report published in late March — on the back of $3.2 billion in operating revenue — is due to a roughly $500 million federal corporate tax accounting benefit stemming from the tax reform Congress passed in December.

BP Alaska held a deferred tax liability of nearly $1.3 billion in 2016; that liability fell to $838 million in 2017, according to the report.

A BP spokeswoman referred further questions about the company’s taxes in the state to the annual report.

Gross versus net ‘crossover price’

The major producers were not eligible for the state’s now-scrapped North Slope refundable tax credit program, but they can purchase un-refunded credits from small companies to reduce their own production tax liability — potentially at steep discounts.

The Department of Revenue estimates roughly $100 million of credits will be sold to the large producers over the next several years.

Alaska’s oil price-linked production tax is structured to act as a progressive net profits tax at higher market prices and as a gross tax that ensures the state makes some revenue at lower prices.

Whichever calculation between the net profits calculation, with the per-barrel credit that grows at low prices, and the simpler 4 percent gross tax is the one the state applies to tax North Slope oil.

Currently, that “crossover” price, where the applied tax switches from the gross to the net tax calculation, is currently at about $65 per barrel based on the latest aggregated data reported to the state by the producers, according to Alper.

The crossover price has been falling in recent years as companies have cut costs to while prices have been mostly less than $70 since late 2014 and bottomed at $26 in January 2016.

In fiscal year 2015, North Slope operators deducted on average $43.60 in lease expenditures per barrel from the net taxable value of their produced oil, according to the Revenue Department. Today, those lease expenditures have fallen to about $25 per barrel, according to Revenue Department estimates.

As a result, the state’s take is at its smallest percentage in relation to the profitability of the oil when near the gross-net crossover price as was the case in the first quarter.

ConocoPhillips reported an average realized price of $68 per barrel in the first quarter on its Alaska oil.

“There has been more efficiency in the industry and that has made them money but that has also made us money because it lowers the breakeven price of a barrel of oil,” Alper said during January testimony to the House Resources Committee.

Unrestricted state petroleum revenue is expected to total $1.8 billion in the current 2018 fiscal year, with $654 million of that coming from oil and gas production taxes and the remaining majority coming from property and corporate taxes and royalties, according to the Revenue Department’s Spring 2018 Revenue Forecast.

The state took in $876 million of discretionary petroleum-derived revenue in 2017 and the forecast is for $1.6 billion in unrestricted petroleum revenue in 2019.

Supporters of the current system point to the increases in production even amid lower prices from 2015-17 as proof the tax regime is working for both the companies and the state.

Alper said in an interview that the numbers between the companies would differ at least slightly because each has different spending patterns, noting ConocoPhillips is generally spending more than the other majors on capital expenditures as it is working to evaluate and develop several large prospects at once.

ConocoPhillips drilled six separate exploration and appraisal wells this past winter, its busiest season in 15 years.

Members of the Democrat-led House Majority Coalition have cited Department of Revenue reports that the effective production tax rate since 2015 has been as low as at any point in the state’s history as a reason to reform the current tax structure.

The average tax rate during the last phase the state relied on a gross production tax prior to 2006 was as low as 6.4 percent in 2004 but generally higher. The economic limit factor, or ELF, tax rates varied depending on the field it was produced from.

Alper added that the state paid $50 million in production tax true-ups in April on 2017 tax payments because of “migrating” per-barrel credits that companies can earn in one month and apply to another during years when oil price fluctuations push the tax between the gross and net systems.

A similar situation occurred when prices collapsed in the latter half of 2014 and pushed the Walker administration to propose changes that would limit the ability of companies to use “migrating” per-barrel credits.

As a result, just a few months of prices above the crossover point does not necessarily lead to additional state revenue, according to Alper.

“I think the issue for the people interested in re-engaging in oil taxes is (government take) used to be deeper into the 60s and even into the 70s,” he said.

Anchorage Democrat Sens. Berta Gardner and Bill Wielechowski cited a Legislative Research Division memo in a May 4 press release that states Alaska is ConocoPhillips’ most profitable region worldwide “by a wide margin.”

“As this state continues to deflect billions of dollars in oil revenues in the form of per-barrel credits, the burden to balance the budget and provide necessary services is solely, and erroneously, forced upon working Alaskans,” Gardner said. “This is not about one company making significant profits. It’s about providing a balance to fixing our economic situation, and it takes all of us to achieve that.”

The $445 million first quarter profit in the state, which is after the $79 million TAPS tariff special item deduction, was 39 percent of the company’s overall profit of $1.1 billion despite Alaska accounting for just 15 percent of its global oil and gas production.

Further, ConocoPhillips netted an average of $26.18 per barrel of oil equivalent in Alaska during the period, compared to a $10.06 net per barrel average globally.

Elwood Brehmer can be reached at [email protected].

Updated: 
05/16/2018 - 10:25am

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