SFIN-20260527-1330

I call the Senate Finance Committee back to order from today— this morning's meeting. It is 1:30. We have Senator Steadman, Senator Kiel, Senator Merrick, Senator Cronk, Senator Kaufman, and Jesse Bergman, Senator Bergman is here as well. We have a quorum to do business. We will continue on.

Oh, I forgot our illustrious President, Senator Stevens, is with us. So with that, Nicholas Fulford, please identify yourself and proceed with this morning's presentation. Thank you, Chairman. And so this is Nicholas Fulford, Senior Director at Gaffney Cline, continuing with the presentation from this morning. So I think we'd finished the dialogue on this pricing slide, and so the next section in the slide pack relates to the LNG activity that's happening just south of here in Canada, in British Columbia.

And just before we move into that section, I think really there's two things to remember in the context of AK LNG. The first is that for the foreseeable future, LNG prices will be determined by US Gulf Coast export economics.

This is really because, you know, as we discussed this morning, Qatar represents the kind of initial building block of LNG demand. It's so low cost that it will always take the, the first piece of demand. Then you have various other projects and so forth, but where people are looking for incremental demand these days is, is from the U.S. Gulf Coast, partly because there's, there's already a lot of LNG capacity there A lot of it that is there is being expanded, and then there's a whole slew of LNG projects being built, some of which have got to FID, some haven't. But either way, there's a perception that the U.S. Gulf Coast is a little bit like a tap for LNG, that, you know, when there's demand, you can turn the tap and a little bit more will come on. So that's relevant to Alaska because You know, something we'll, I'm sure, return to.

But one of the key features for Alaska is that when you look at that delivered cost to Asia, it's going to have to be roughly the same or slightly less than that U.S. Gulf Coast marginal price. So that's, that's one consideration. Now, the second consideration from a competition point of view is, is Canada. And the reason for that is that the economics of LNG coming out of Canada are broadly the same as, as that in Alaska. The, um, the gas price, the input gas price that they have to pay, is slightly higher than the numbers that we've been seeing reported in the press for Alaska.

But the gas is relatively dry, relatively clean, and so the need for that very large CO2 removal plant doesn't exist. So, in very basic terms, the cost of gas coming into the Alaskan plant plus the cost of the gas processing plant needs to be roughly equal to the cost of producing gas in British Columbia. That's, that's broadly speaking the equation. Most of the gas projects in Canada involve a long-distance pipeline, and that includes LNG Canada. But by and large, Canada shares with Alaska this geographic advantage of being able to deliver gas quickly and at low risk to markets in Asia.

So if you look at what's been happening in Canada, probably 8 or 10 years ago now, there were perhaps 5 or 6 different LNG export projects on the books. Some of them were on the large scale, some of them smaller, but the one The one project that finally made it to FID was what's known as LNG Canada in Kitimat. And the BC Parliament, the legislature, they started looking at LNG legislation in about 2013. They got to FID on LNG Canada in 2018. and over that time there were quite a number of different changes in legislative approach and strategy which ultimately enabled that FID.

So they, they did succeed. LNG Canada started delivering about 18 months ago, a little bit more now, and so they've got 14 million tonnes in, in delivery. They are contemplating a second phase of another 14 million tonnes, and there are a number of other LNG projects out there which I'll come on to. So, in the sense that capital and investment is globally mobile, there are investors who would be comparing and contrasting right now the projects in Canada with the project here in, in Alaska, and considering a whole range of things including gas availability, risk, fiscal stability, and ultimately the economics. So as you consider the tax arrangements for AKLNG, whether it be property tax or something different, a lot of these international investors will be looking at which is the most favorable tax rate, tax environment to operate in, and obviously along with the other things like how much gas there is and how much it costs.

So let's go through some of the other projects. My favorite one to start with in the context of AK LNG is the Xyla Shims project, which is potentially a 12 million ton floating LNG project. Literally just a few hundred yards from the Alaskan border. And as it says on the slide there, as the crow flies, it's about 60 miles from Ketchikan. So it's, it's a very local project, but it's on the Canadian side of the border.

So that project is at a similar stage of development to the one you have here in Alaska. Elements of the pipeline exist already. Some elements would need to be built. It's, it's a three-way, um, it's a three-way joint venture between the First Nations community who are hosting the, the terminal just there on the, on the canal. There's a, an amalgam of British Columbia gas producers, and then there's a Houston-based infrastructure, energy infrastructure fund that's behind it too.

So it's a three-way joint venture, and they are busy looking for customers. They've already signed up Shell and Total with a couple of million tonnes each, and Total have also committed equity. You've got Cedar LNG, which is much, much smaller but nevertheless still underway. And then there's Woodfibre, which is another smaller one which doesn't involve a, um, a pipeline in, in the sense that it leverages the pipeline already going to Vancouver. So I think this goes to show that, um, when it comes to investment in LNG, you do have some very active and potentially competing projects just to the south, and, and that is probably going to be one of your considerations as you legislate around the project here in Alaska.

One of the, um, as I say, one of the differences is that the, the way these projects procure gas is, is a little bit different to how it will happen here. They're having to essentially contend with the same gas market that the British— that the Gulf Coast LNG exporters do. And although Western Canadian gas prices are typically considerably lower than Henry Hub down in the Lower 48, the two prices are linked. So if Henry Hub goes up, then so will the cost of the Canadian LNG Whereas in Alaska, you know, because of the isolated nature of the gas, it has no commercial linkage, at least, with Henry Hub. So I'll pause at that point briefly for any questions about these Canadian projects that might seem relevant.

Do you have questions from Senate Finance members? Senator Kiel. Thank you, Mr. Chairman. Mr. Fulford, I think in an earlier slide you had a number of other LNG projects around the Pacific Ocean, over into, in fact, the eastern coast of Africa as well. Is there a reason we should be looking more at Canadian potential competition than at Tanzania and Papua New Guinea and—.

The others, uh, thank you, Senator Keogh, through the chair. Um, yeah, that's, that's a very valid question. It's clearly at the moment, um, the project in Tanzania is, um, well advanced and has been on the brink of FID for some time now. And with everything that's happened in the LNG industry, I would expect that project to receive a boost. From, from that.

So they, they may well get the project over the wire. Mozambique is another one which is just about to enter the market. They've got two floating LNG units already operating and they're contemplating a third land-based one. You know, that, that's another interesting compare and contrast with Alaska in the sense that One of the reasons that land-based, much larger-scale LNG project hasn't been built yet is the security situation in northern Mozambique and the problems of operating a large construction camp in the midst of that disruption.

So, that project was under a force majeure claim, so that the producers had declared force majeure, which meant that they were relieved of their contractual obligations to pursue the project while that was going on, but that's been lifted now.

So all those, certainly Mozambique, Tanzania, they are very well positioned to supply India and Pakistan, so those are probably the key markets, but nevertheless that gas could easily reach the same markets that this is aimed for.

Can you give us, excuse me, the construction cost for each of these, the top 3 projects, pipeline size and the length of the lines? Yes, Chairman, I think we can do that. I don't have those numbers at my fingertips. I mean, LNG Canada, the biggest The biggest cost overrun with that project was the pipeline. I think the liquefaction, I recall it was about $1,300 or $1,400 per ton per annum.

So for 14, that'd be about $20 billion. Anyway, I'll come back to you with some numbers. But certainly the pipeline that was built There were a number of issues with it. One was that COVID hit right in the middle of construction, so of course that created, you know, a very chaotic environment which led to cost increases. The, the other factor for that project is that I think there were about 19 First Nations tribes that were involved in the right of way for the pipeline.

And I think when the— when FID was taken, agreements were in place with the vast majority of those entities, but the lack of agreement with some of the others caused some delays and protests and legal delays to the pipeline. So I think the I'd have to check back, but yeah, I'd prefer to check back just in case, but it was about a doubling of the cost of the pipeline. What I would say about that project, and again it's a lesson that applies to many others, that as I say, they're on the brink of reaching FID on another 14 million tonnes You know, obviously that adds considerably to the sort of economies of scale for around the pipeline and the other infrastructure that had to be built. So the, um, the, the financial return on that second expansion will be considerably better than the first. So even though there was a doubling of the cost of the pipeline, that project now looks potentially quite attractive.

Because of the way it's turned out. So based on just Phase 1, I think the, the economics would have been somewhat underwater, but now that they've got this Phase 2 ready to go, I think the economics would have improved a lot. And on these projects, what concessions did British Columbia make to build the lines, if any?

Thank you, uh, Chairman. This— and that's probably a good segue into the next slide. So you have a question on the previous slide, Senator Steadman? No, Mr. Chairman, but I'd like to add, it'd be nice when we look at these 3 projects, um, if he could break down the cost overruns, which ones had cost overruns and what the cost overruns were targeted at, because we always get and hear about the quality of the work being done on the Alaska project and that it's not going to have cost overruns. Because their quality is so high.

So I would assume that these projects here had similar caliber consultants and construction companies and engineering companies working on them that Alaska would have.

Uh, so a good comment, Senator, through the chair. The, um, the other difference, irrelevant difference between certainly LNG Canada and the Alaska project, is that the pipeline was routed through some very difficult terrain over the Rocky Mountains, and I think technically that was one of the challenges there. Obviously in Alaska, the pipeline routing is, is pretty well known, so I think that potentially is one less risk in the context of cost overruns in Alaska. But But yes, we can come back with details on cost overruns on these projects, the ones that have been built, certainly. Thank you.

Thank you, Senator Sidman. Please proceed.

Thank you. So the LNG Canada story is an interesting one and one that we can go into in more detail if it's appropriate. So in, in the early 2010s, when it became clear that, um, you know, the shale gas revolution had, had opened up so many of these unconventional basins and was producing, you know, huge reserves of, of low-cost natural gas, there was this rush of interest in LNG in British Columbia, as, as in, in the Gulf Coast. And the legislature at the time, they were kind of looking at landed LNG prices in Japan, which probably about $15, $18 at the time, and they were looking at the wholesale gas value in British Columbia, which might have been a couple of dollars, and, and they're looking at that arbitrage and thinking, well, my goodness, that there's a huge amount of profit here to be captured, so we need to make sure that's taxed. So they introduced, um, an LNG project tax intended to make sure that there was an appropriate level of government take in terms of how those contracts would work.

They also introduced a CO2 tax, which was quite a material burden on the project. Which was in line with the then government policy in BC of curbing emissions.

So as I say, a number of projects were envisioned, one or two of them very, very large, and gradually many of these projects kind of fell by the wayside. They just couldn't get the right lineup of economics and environmental constraints and so forth. And so LNG Canada was kind of the last one left standing other than these smaller ones which were on my chart before. At the time, the Canadian federal government realized that, um, an export route into the Pacific for their gas was essential because of the way the market in the U.S. had changed. So a demand for Canadian gas had dropped enormously just because of the sort of shale gas production that was going on.

So then the federal government got involved as well. And so there was quite a high degree of collaboration between the provincial and federal government in those last months leading up to FID. And there were a couple of things which came to light and were included in the legislation.

First of all, you know, similar to what we were doing this morning, you know, looking at the landed cost of gas and the economics and the investment required, it became abundantly clear that, you know, this was a project that was going to need help to get across the finish line. So the first thing that happened was that the LNG project tax was revealed— repealed. Then in the run-up to FID, the depreciation mechanisms were accelerated by the federal government. There was a complete deferment of sales tax on the project while it was being built. So it wasn't a tax holiday, but it was a deferment of the nominal tax for 20 years.

So effectively, it's an interest-free loan for 20 years for the project to repay finally. And then the, the other two elements that happened— one was that the CO2 tax was also reduced quite substantially. It wasn't eliminated, but ultimately, as you can see on this slide, the, the final part in that kind of fiscal package was a natural gas credit which was applied to corporate income tax, provincial corporate income tax. So that, that reduced the provincial corporate income tax effectively from 12% to 9%, leaving a net 24% tax rate. So obviously if you compare that with the corporate and— sorry, the, the federal and state corporate income tax here, because federal tax is allowable, it comes to 28.4% as opposed to adding the two numbers together.

So you can see there that already there's a potentially more favorable tax treatment in Canada. Um, has to be said, of course, that the BC upstream tax and royalty mechanism is different to the one here in Alaska. So, so there is that difference as well. But as you consider, um, you know, property tax and, and volumetric tax and other features which you might want to consider for this, it is worth bearing in mind that, um, these tax concessions have been offered for Canada and that it represents a competitive framework to consider. So I think that was my last prepared slide.

I'm very happy to take any questions. So on the Canadian comparison, did the Canadian government give any tax concessions? The federal government? Federal government. Yes, so the two— I think the two tax concessions and I can do a little bit more work on this, but one was the deferment of the sales tax, which was quite a few million dollars.

I forget exactly what—. That's a federal sales tax? It was the sales tax—. The federally—. Federal sales tax, yes.

And I think that included some element of provincial sales tax too. There was accelerated depreciation for the LNG project to essentially defer tax for that. I think those were the two main things. So when you look at the 15% Canadian federal CIT rate, does that represent a reduced federal tax rate?

I would have to refer back to our research, Chairman, but I think it's the— for this class of industrial project, I think it's a standard rate. Senator Steadman. Thank you, Mr. Chairman. Well, when we look at the Alaska corporate income tax rate, then could it be looked at an incentive to be a Subchapter S and not pay that?

Certainly, thank you, Senator Steadman, for the question, through the Chair.

Obviously, tax treatment for S corps is quite complex in the sense that notionally at least, tax is payable at a federal level on dividends. Now, the optionality that would follow from S corp status and, and not having an obligation to pay corporate income tax in Alaska. Obviously that provides value to a potential investor, and it's one of the things which, um, I imagine the legislature will look at fairly carefully in terms of the investors in the LNG project, given the tax rate, tax amounts potentially collectible. Senator Steadman, just for those watching at home, you know, when we're looking at this, we— if the gas is sold at the wellhead or at the edge of the field, they're going to pay the upstream producers. The oil companies are going to pay the corporate income tax, royalties, severance tax, and Oh, the fourth one.

And that package then will be the, I guess, the upstream taxes, property tax is the fourth one.

But when we look at the midstream, which is the gas line, they pay a corporate income tax. There's Subchapter S, there's there is no corporate income tax, no tax in the state, and that's it, along with property tax.

So I think it would be interesting to see how they view the Subchapter S as a— if they do view it as an incentive versus having a corporate income tax, because then our rate here would be 21% versus 24% in Canada. The numbers flip. It's a very good observation, Senator Steadman. And through the chair, the, um, the other complicating factor, of course, in British Columbia is that personal income tax rates are considerably higher. It's used to fund healthcare and there's a whole raft of government revenue and expenditure features which are very different to Alaska.

So I would definitely caution on looking at this analysis in isolation and thinking that that's the end of the story. But certainly tax rates on the midstream in the absence of income tax and other features would appear to be relatively light in Alaska without some kind of additional property tax or volumetric tax.

And—. Could you repeat that? I wasn't paying attention as much as I should have. Thank you, Senator. I was speculating that without a property tax or a volumetric tax, in the absence of these other mechanisms, that the taxation on the midstream element of the project could be relatively light for the reasons you pointed out.

So when the Canadian project was contemplated, did the tax concessions at the federal level come before the construction of the project? Was it included in the legislation that Canada had, or how— at what point was that concession made by the federal government? Because they had to give that to— so that BC could proceed with this project.

The timing was prior to FID.

So the sort of fiscal compact and the enabling legislation for these Canadian projects was, as I say, it was in the works really from 2013 onwards, with, you know, change of governments and so forth.

But it was really when the federal government decided that exports of LNG into the Pacific were a kind of a national— were of national importance, that they collaborated with the provincial government at a level which I think has never been seen before. So it became a kind of a three-way negotiation between the project developers, the provincial government, and the federal government. And that all came to a head in March 2018, and I would describe it as the last piece in the jigsaw which then enabled FID to be taken in October 2018. So it was really that enabling legislation and fiscal compact that was the that was the last piece in the jigsaw that enabled FID to happen. And I think there were one or two other concessions which were negotiated after FID, but all of this was done before the investment was committed.

And you said the project became of national importance. What were the criteria to determine that it was nationally important?

Thank you, Chairman. It's, um, I can't quite remember the, the, the criteria, but, um, I think it would be, you know, relatively easy to establish. I can come back to you, but I think both for, for oil and for gas, you know, because the Canadian oil and gas economy had been so closely linked to that of the U.S. With the advent of first shale gas and then tight oil, both of those kind of pulled the rug from underneath the Canadian resource economy, and it was clear that exports through to the Pacific were of such national importance that the project was given this special status.

Interestingly, I was reading about an LNG export project on the East Coast of Canada, which as well has this kind of special status. So it's this kind of special status given to LNG export projects federally is something that continues today. Senator Keele, then Senator Steadman. Thank you, Mr. Chairman. Mr. Fulford, you talked about this —set of concessions and accommodations to make the project go as the last piece of the jigsaw puzzle.

I guess it's an interesting case study. Can you describe to us how much of the rest of the puzzle could they see? Did they have a Class I cost estimate or a Class IV? Did they have information on the corporate structure or— What was the governmental visibility into the details?

Thank you, Senator Kyl, through the chair. So this is a project that Shell and their co-investors, but mainly Shell, Mitsubishi, COGAS— I forget the other equity partners, but Shell were leading that project. You know, even Shell today, they are the biggest LNG company in the world. So I mean, there's a huge amount of resource and experience that went behind that.

So at that point, they had the design worked out. It was— the whole design of the project was to be very low emissions. So they looked at particular types of turbines, you know, many details of the engineering design. They had at the very least Class 2 estimates from their suppliers, which is pretty well what you need to take FID. So these wouldn't be— these wouldn't necessarily have been final costs, but they would be near final.

They would have had EPC contractors lined up to build everything. As I say, they had almost all the agreements in place with the First Nations uh, and entities that, that they were crossing with the pipeline. So really, and then to answer your question about visibility, so British Columbia legislature, or certainly parts of it, um, they participated in a, in a kind of economic modeling exercise with Shell. So within within the usual sort of constraints around confidentiality, that the BC government were able to see pretty well every detail of the economics of the project before they made those concessions.

Senator Keele. No, thank you, Mr. Chairman. That's just my statement. Thank you, Mr. Chairman. You know, we've discussed several times privately and then here at the table today about trying to get federal government, you know, involved in maybe an equity position like they bailed out Chrysler and General Motors and then sold their investment after the companies were turned around for profit.

But one of the things, Mr. Chairman, we might want to think about is this issue of the rapid depreciation of the infrastructure and the incentive that brings to the table. And as I recall, Ronald Reagan did that to the real estate markets back when he was president and lit the real estate market, turned it around, lit it on fire. That went on for about a decade. So I think it would be helpful if Mr. Fulford could help us with what kind of accelerated cost recovery schedule changed the Canadians offered up to help move the project forward. And we could maybe take that as, or the issue as a note when we, if we put something together for a congressional delegation to assist in moving this project forward.

I mean, that would be an easy way to move the cash flows forward in time to make the project more attractive and not cost anybody a lot other than the federal government time value of money on tax collection. So very good observation, Senator Steadman, through the Chair. One of the features of the DOR model or the model hosted by DOR, I know that has, you know, in the numbers presented to you at the committee, there's a number of assumptions that drive that, one of which is the depreciation model. And I think they may be using a fairly accelerated depreciation in the model, and that's something which I think would probably warrant a sensitivity to look at. Senator Steadman.

Thank you, Mr. Chairman. It would be nice to know what schedule the pipeline would be under currently, under current federal law. And then if, because if we have a model that accelerates that and it's different from the federal government, that it might be a distortion in our, in our view of what can move forward and what can't. So I think we need to line that up, what's actually available through the IRS, and then is there other schedules that we could advocate for to accelerate it.

Talking about last pieces of the puzzle, in the Canadian model, did they have information on total construction costs available by the British Columbia Parliament? Was that readily available to them? Mr. Tam. Thank you, Chairman. The— my understanding is that there was something akin to this open book economic model.

I forget exactly the terminology they applied to it, but I think typically with this sort of thing, it's a group of individuals who are allowed access to that economic model, which would have included, I think, provincial government employees and possibly elected officials, but certainly the degree of visibility that the BC government had in terms of the project economics, its costs, its returns, would have been quite significant. And another area, when we were considering— I don't remember if it was under the the Murkowski or Parnell administration, there's discussions that when you're giving up the tax structure, one-third for the federal government, one-third for local governments, and I think one-third for state governments, was that calculated in the Canadian model?

The— thank you for the question, Chair. The, the, um, one of the differences with the Canadian model, I think if one of my first slides talked about the, um, the sort of community impact aspects of, of these Canadian projects, and I think partly because these settlements are relatively small in, in comparison to some of the communities in Alaska who would be hosting these facilities. The property tax community impacts was also very small. So the transition of funds towards local communities, boroughs, call it what you will, was relatively low. So the split was primarily between provincial and federal with very little going to local.

Partly because of the lack of population?

I think what I was referring to was the take by the industry, but we can get into that at a later time. Are there any additional questions that members of the Finance Committee have this afternoon?

Any closing comments, Mr. Fulford?

No, I think obviously it's a privilege to be here talking to the committee about a subject that matters a lot to me, so appreciate your time. Thank you. It was very informative to me and I'm sure to the members of the committee and to the listening audience. That concludes today's meeting. Our next meeting is tomorrow morning at 9:00 a.m. We will continue having further discussions with Mr. Fulford.

Is there anything else to come before the Committee at this time? Seeing none, we are adjourned.