Focus turns to revenue as oil prices fluctuate

Illustration/Nadya Gilmore/AJOC

Now that the state’s oil production tax has been retained following the rejection of Ballot Measure 1 in the Aug. 19 primary election, what are the implications for state oil income? It’s an important question because oil revenues pay for about 90 percent of Alaska’s budget.

In the aftermath of the intense Ballot Measure 1 campaign, the performance of the new tax, enacted in Senate Bill 21 in 2013, will be closely watched and measured against what the former tax, known as ACES, might have brought in.

Estimates by the state Department of Revenue, which uses oil price and production assumptions in the Spring 2014 revenue forecast, show that at current oil prices and investment levels, SB 21 and ACES would bring in about the same amounts of revenue.

The estimate showed that in the current year, SB 21 brings in a bit more income. This is consistent with similar comparisons made by the department last November.

If oil prices were to drop to $90 per barrel, for example, the analysis from April shows that SB 21 would bring in more revenue ($3.22 billion) compared to ACES ($3.08 billion).

At higher prices, $120 per barrel for example, ACES would have brought in more revenue ($6.1 billion) in comparison to SB 21 ($5.89 billion.)

These effects are generally consistent with other forecasts of the two tax systems, such as those prepared by the University of Alaska’s Institute of Social and Economic Research.

However, these estimates do not reflect the revenue effect of added production over the Spring 2014 forecast. The Department of Revenue’s last full production forecast, published in Fall 2013, has yet to take into account much of the activity announced by oil companies since the tax change took effect.

If SB 21 results in new production on the North Slope, enough to essentially stop the decline for the next five years, the new tax law would result in more revenue compared with ACES.

Department of Revenue Commissioner Angela Rodell said given the annual 6 percent decline in oil production, “even a flattening of the decline curve under MAPA could be considered an increase in production over the path we were on.”

The ‘what ifs’

At the request of the Juneau Empire, the Revenue Department looked at how a percentage of production increase would impact state revenues over a five-year period, from fiscal year 2015 through fiscal year 2019, at two price oil levels. The analysis, and the revenue estimates compiled from it, should not be considered an official revenue forecast, the department said.

According to the figures, if the current $105 per barrel oil price is assumed as well as the production estimated in the Spring 2014 revenue forecast (which assumes continued decline), ACES slightly outperforms SB 21 over the next five years through fiscal year 2019.

Using those assumptions, from fiscal year 2015 through fiscal year, ACES would bring in about $22.6 billion compared with about $22 billion under SB 21, over the five years.

However, if more production is factored in, so that oil production averages about 500,000 barrels per day, SB 21 brings in more money, or about $23.6 billion compared with $22.6 billion under ACES, according to the figures.

If oil prices were to increase to $110 per barrel, but still assuming the continued production decline in the fiscal year 2014 forecast, ACES would outperform SB 21 by about $900 million over the five years.

Increased oil production changes things, however. If oil production remained relatively flat, around 500,000 barrels per day, SB 21 would bring in about $1 billion more over the five years, or $26.05 billion in tax collections compared with $25.1 billion for ACES.

Additional production would also bring in about $170 million more in royalties over the five-year period, part of which would go to the Alaska Permanent Fund. 

What the future may hold

Deputy Revenue Commissioner Mike Pawlowski said the investment-stimulus effect of SB 21 will be felt more substantially beyond 2019.

“As investment increases in the near term, in response to the more predictable, competitive climate created by SB 21, we expect any difference between tax revenues raised by the system (compared with ACES) to be minor, especially if (oil) prices continue to decline,” he said.

“Over the medium to long term, additional production we expect to be generated from these investments will raise additional production tax, corporate income tax, property tax and royalties for the Permanent Fund and General Fund.”

Pawlowski and other revenue officials are keeping a wary eye on oil price trends. North Slope crude oil is currently selling for about $103 per barrel, down from $110 per barrel in early July. The forecast for fiscal year 2015 is $105 per barrel, but there are concerns that increased rail shipments of light Bakken shale oil to the west coast, where Alaska’s oil is sold, could undercut prices.

“I think it’s easy to imagine an oil price scenario that stays flat or actually declines in the next five years or more,” Rodell said. “Currently, ANS (Alaska North Slope) crude oil enjoys a premium in the price of the crude over WTI because of its west coast location delivery point. The influx of Bakken crude on the west coast via rail could put downward pressure on crude prices on the west coast in the future.”

Another factor, according to Rodell, is the increase in shale and tight oils in the Lower 48 coming from states such as Oklahoma, Texas and Colorado, which have also seen oil booms due to the practice of fracking. The oil being pumped from those states may increase domestic supply, Rodell said, “prompting calls for the U.S. to export oil for the first time in many years.”

“Such increases in supply could also contribute to keeping oil prices at the current level or below,” she said.

There is so much oil available currently being produced in domestic and international markets that recent turmoil in the Middle East hasn’t had much of an effect on oil prices, unlike in July 2008 when oil prices spiked at nearly $150 per barrel.

At that price, the progessivity factor of ACES taxed oil at 51.6 percent. When the cost of oil dropped months later, so did the tax rate. From November 2008 through April 2009, companies paid a 25 percent tax, not including adjustments for tax credits.

Even though a scenario of flat — and possibly even declining — oil prices is a possibility, the state is projecting oil prices will continue to climb through 2022, reaching $133 per barrel.

The forecast also projects a decline in production from 520,000 barrels per day in 2014 to 342,000 barrels in 2022. Those numbers can be misleading, Rodell notes, and doesn’t include several known projects expected to come online.

“The Department of Revenue has issued only one full production forecast since the passage of MAPA – that being the Fall 2013 forecast,” she said. “That forecast was prepared less than eight months after the passage of SB 21 and prior to the act taking effect with the 2014 tax year. We expect after a full year of corporate budget cycles to see many of the announcements made recently incorporated into our Fall 2014 forecast this December.

“The department’s production forecast follows a strict standard for inclusion in the forecast. To be incorporated in our forecast, all future production projects must have known reserves and some reasonable certainty of completion. The projects with the most risk are classified in our production forecast as ‘under evaluation.’”

Rodell said that projects already approved and budgeted are often classified as “under development” in production forecasts are assigned risk factors. Risk factors are based on any “uncertainties surrounding the timing and the amount of future production volumes.”

“As these projects become more certain,” Rodell said, “they will be fully incorporated into our production forecast, with less or no risk factors.”

State projection confirmed

The Revenue Department’s prediction of increased oil production through SB 21 proved true this year. The department finalized its fiscal year 2014 production numbers Aug. 8. The fiscal year ended June 30. 

Production was virtually even compared with the previous fiscal year at an average of 531,074 barrels per day compared with a 531,639 barrels the previous year. In December, the department had projected 508,200 barrels per day.

Pawlowski said the state will be able to better forecast under SB 21 than ACES because there are fewer moving parts.

“Small movements in any of the factors has a significant change,” he said of ACES, referring to the progressive tax scale that varies month to month. SB 21 has a flat 35 percent tax rate for existing wells.

Actual fiscal year 2014 production was about one-tenth of 1 percent down from the previous year, said John Tichotsky, the state’s chief petroleum economist. 

“The difference is within the error range in equipment used to meter the oil flow,” Tichotsky said.

The oil producers’ achievement compares with the 8.2 percent decline between fiscal years 2012 and 2013. The long-term decline has been about 6 percent annually, Tichotsky said. 

The production increase is a result of increased drilling and well “workovers” on older producing wells over the last year in the large producing fields of the North Slope.

All sides in the debate agree that getting addition production into the Trans-Alaska Pipeline System is crucial. At an average of 530,000 barrels per day, TAPS is carrying about one-fourth of the 2 million barrels it was designed for. That’s how much oil flowed through TAPS until 1989 when the rapid decline began.

Without additional production, there will be increasing strains on the state budget, which is already running $1 billion-plus deficits.

In a yearly analysis of state budget and revenue trends, Professor Scott Goldsmith, senior economist at the University of Alaska Anchorage’s Institute of Social and Economic Research, predicted last January that if the 6 percent decline were to continue and only very modest additions of 2 percent yearly were allowed for state general fund spending, the state’s savings accounts, excluding the Alaska Permanent Fund, would be depleted by 2024.

The Legislature has since converted $3 billion from budget reserves to pay down state pension funds.

In a revised estimate not yet published, Goldsmith calculated that with the $3 billion taken from reserves, the depletion of the savings account would be accelerated to 2020.

However, if oil production were increased by 1 to 2 percent, yearly savings accounts would not be depleted, Goldsmith said, and a 3 percent annual growth of oil production would retain a healthy surplus in the state’s savings through 2023.

Charles L. Westmoreland, managing editor of the Juneau Empire ,contributed to this story.

11/22/2016 - 3:24pm