Print this page

Cook Inlet Study

Written by 
Published in Anchorage Chamber News
Rate this item
(3 votes)
17 Apr
Cook Inlet Study

In Alaska, the oil and gas industry is seldom far from our thoughts.  Production tax structure, gas line plans, and falling TAPS throughput are mainstays of the front page.  And when we think of the oil and gas industry, it almost goes without saying that what we are thinking of is the North Slope.  And for good reason – the Slope is home to North America’s largest oilfields, provides 90% of the state’s general fund, employs about 10,000 people and produces about 97% of the state’s crude oil.  How we act to address the downward trajectory of oil production from the North Slope is arguably the most critical issue facing Alaskans, which is why replacing ACES with a more competitive production tax was the Anchorage Chamber’s number one priority in 20012 and 2013, and why opposing the ballot measure which would overturn this critical reform is our top priority today.

 

However, our lives are even more intimately connected with the Cook Inlet, an oil and gas basin which is frequently reduced to a parenthetical note, if mentioned at all.  It was the discovery of oil in Cook Inlet which helped pave the way for statehood, and it was the discovery and production of abundant supplies of natural gas which enabled the creation of our present-day energy infrastructure.  If you live in Anchorage, the Valley, or much of the Kenai Peninsula, the chances are excellent that you use Cook Inlet gas to heat your home, cook your eggs, and dry your clothes.  If you turn on a light switch, the majority of that electricity came from a natural-gas fired turbine.  100% of Cook Inlet’s oil production stays in state, and goes to supply liquid fuel for Alaskans.  In the form of heat, electricity, and fuel, we literally rely on the products of Cook Inlet almost every moment of our lives.  50 years of cheap, plentiful gas blessed Southcentral Alaska with some of the lowest energy prices in the nation, and no doubt played a key role in its emergence as the state’s most populous and developed region.

But Cook Inlet, like the North Slope, has suffered from years of declining production.  Over the last decade, continual declines in the availability of natural gas led to an increasing sense of unease.  Large industrial users of gas either ceased operations (Agrium’s fertilizer plant) or appeared on the verge of doing so (ConocoPhillips’s LNG plant).  Utilities began having a hard time finding long-term gas supply contracts, and analyses showed that there was much less investment in drilling gas wells than would be needed to stabilize production rates[1].  Hard questions began to be asked by utilities, businesses, the mayor, and the legislature.  What if Cook Inlet’s gas wells were not ableto supply enough gas to satisfy demand?  Would we need to cut power to preserve heat if a cold snap hit?  What realistic alternatives were there for us?  Which alternative would be best, and how much would it cost? 

These worries were expressed by the Chamber’s membership, which ranked energy security as one of their top concerns.  That led the Chamber to form the Cook Inlet Subcommittee, which recommended that the Chamber commission a study to better quantify the role of Cook Inlet in our economy.  There did not appear to have been much study done on this subject.  The PRA reports had looked at the availability of natural gas.  Studies by ISER and the McDowell group had examined the role of oil and gas in the state’s economy[2], but these had focused on the North Slope and its contributions to government revenue and direct, indirect, and induced employment benefits.  It is the Chamber’s hope that this new study will help our membership, the city and the state as a whole to better address two key questions: how important is Cook Inlet to our economy, and what would be the impact if Cook Inlet were not able to meet local energy demand?

Since the time this study was commissioned, the Inlet has experienced a burst of activity, and utility contracts have been filled in the medium-term.  But the longer-term questions remain.

What would a shortage mean?

As shown in Figure 6 of the report, the average Anchorage household would see their annual heating bill jump from $1,386 to $7,053 if they switched to propane, or $4,385 if they switched to fuel oil furnaces.  Given the cost, the report finds that Southcentral cannot viably switch to a different fuel for heat in the foreseeable future.  Therefore, our only option would be to bring in natural gas from Somewhere Else.  The leading options examined by the report would be to truck LNG down from the North Slope, or to bring LNG a tanker from Canada.  This imported gas would be delivered to our utilities at a cost of $12 - $13 per thousand cubic feet (Mcf), over double the current average weighted cost of Cook Inlet gas, which is $5.58 /Mcf (4Q13).

Substitution of Cook Inlet gas with $12/Mcf gas would result in a 67% increase in the monthly cost of natural gas (see Figure 7) for the average Anchorage resident or business compared to 2012.  It would also mean an increase of roughly 58% in their monthly electric bill (see Section 3.3.5) compared to 2012.  This does not factor in the costs required to allow LNG imports ($50-$135 million see Section 3.1).

What is the role and size of Cook Inlet in our economy?

This is a tricky question, and one that is not quantitatively answered in this report.  But I believe the report gives us the data to go about making an informed estimate.  In my view, there are three primary components to the economic value of the Cook Inlet oil & gas industry: Jobs, Stuff, and Energy.

Jobs

“Jobs” refers to the amount of money introduced into the economy from wages (see section 4.1).  Over 1,100 people are employed in the Cook Inlet oil and gas sector, not including the roughly 200 jobs the Tesoro refinery.  82% of these workers were Alaska residents[3]

Including indirect and induced jobs, the McDowell Group estimated that the oil and gas industry accounted for a total of 4,700 jobs and $320 million in payroll in the Kenai Peninsula Borough (KPB) in 2010.  This number overestimates the effect of Cook Inlet, though since approximately 53% of them were employed on the North Slope[4].  So a reasonable estimate of the direct, indirect, and induced payroll effect of Cook Inlet should be about $150 million.

That number does not account for individuals who work in Anchorage, where many Cook Inlet oil & gas companies have their offices and obtain most of their professional services.  Based on my own experience with Cook Inlet Energy, it is likely that although there is more direct employment in the KPB, there is ultimately more money spent in Anchorage, and therefore the indirect and induced numbers should be higher.  An educated guess might put this number in the neighborhood of $200 million, for an approximate combined effect on the Southcentral economy of $350 million.

We can validate that number by looking at how much Cook Inlet companies are spending.  According to a report recently released by the Alaska Department of Revenue (DOR)[5], Cook Inlet is saw about $400 – 500 million in lease expenditures annually between 2009 and 2012 (anecdotally this has increased since then).  Lease expenditures do not include general and administrative overheads; so around $500 - 600 million is probably a good estimate for what is spent by these companies annually.  Around $350 million in direct, indirect, and induced wages stemming from $500-600 million in spending is pretty plausible.

Stuff

“Stuff” refers to the value of the industrial output of Cook Inlet, and is the biggest number of the three (see Section 4.2).  In 2011 the economic output of oil and gas operations in the Kenai Peninsula Borough was $2.8 billion.  It is notable that the majority of this ($2.2 billion) was produced by the Tesoro refinery in Nikiski.  The refinery was designed to use Cook Inlet crude, but currently receives only ~20% of its feedstock from Cook Inlet.  Perhaps the refinery would continue operating as always, even if Cook Inlet oil production went away entirely.  However, because of the low shipping costs, good quality and competitive price of Cook Inlet crude, more Cook Inlet production is beneficial to the refinery, and less is bad.  But I’m not sure anyone outside of Tesoro could say for certain the degree to which the refinery’s margins depend on local crude production, but the two are intertwined.  I believe the best future for Southcentral’s businesses consumers would be one in which Cook Inlet crude production increases to the point where the refinery can be supplied entirely by Cook Inlet crude, and more expensive crude oil imports are eliminated.

Energy

“Energy” refers to the benefit to the Southcentral economy of those reduced utility bills discussed above (Section 3.2).  Compared to the cheapest alternative, Cook Inlet hydrocarbon production lowered our collective utility bill by $423 million in 2012 ($199 million in gas, $226 million in power).  As Section 3.4 discusses, demand for heat and power is not likely to shrink much in the medium term even if prices rise significantly.  So that represents $423 million dollars that consumers and businesses do not have available to spend on other items.  And businesses would feel pressure to preserve their margins by passing these costs on in the form of higher prices for the goods and services they sell.  Faced with higher prices and less disposable income, consumers would buy less.  So this would have a direct, as well as an indirect effect on the economy, but it is unknown what the appropriate economic multiplier to use would be.  However, the current velocity of money in Alaska is in the range of 3 – 4 times, meaning a dollar spent in state may generate another 2 or 3 dollars in spending; the McDowell Group’s employment estimates suggest a multiplier of about 4 for a dollar in payroll.  Assuming the multiplier effect is similar for energy expenditures, the state’s economy was about $1.5 billion bigger in 2012 than it would have been without Cook Inlet gas.

Together, Jobs, Stuff, and Energy represent $4.7 billion in economic activity.  How big is that?  For reference, in 2012 Alaska’s entire economy totaled $44.7 billion.  So while there are a few estimates involved, it’s clear we’re talking about a major chunk of the state economy that is supported by the Cook Inlet oil & gas industry, far more than its 2.5% share of the state’s oil production would imply.

Is Cook Inlet being subsidized?

Cook Inlet does not operate under the same tax regime as the North Slope.  Relative to the North Slope, it has lower taxes and better credit programs.  This has been the result of multiple actions over the years by the Alaska legislature, which has taken action to try to arrest the precipitous decline in Cook Inlet oil & gas production.  In 2010 the legislature passed a very significant piece of legislation in this regard: HB 280, or the “Cook Inlet Recovery Act”.  HB 280 expanded capital credits and cleared the way for construction of a natural gas storage facility.

Since the passage of this act, investment in Cook Inlet has increased significantly.  Oil production has begun to increase after decades of relentless decline.  New gas discoveries have been announced.  It is also significant that a large natural gas storage facility, CINGSA, has since been constructed, and will now allow surplus summer production to be stored away for the high demand period in the winter, reducing the odds we will be caught without gas on a cold winter’s night. 

But is Cook Inlet a net loss or a net contributor to the state coffers?

According to the same DOR research report mentioned above, Cook Inlet and other non-North-Slope received $40 million in tax credits in 2012.  Set against a $4.7 billion economic engine, $40 million in tax credits does not look like a large sum of money (less than a penny on the dollar).  But is it a net drain on the public purse?  It turns out the answer is also “no”.

Section 4.3 discusses the government revenue generated by the industry.  In 2012, Cook Inlet paid $68 million in royalties and $20 million in property taxes, and $4.6 million in lease sales, for a total of $93 million.  This does not account for income taxes paid on Cook Inlet profits, revenue from lease sales, sales tax generated in the KPB, or production taxes paid on Cook Inlet gas.

So Cook Inlet generated about $53 million in net government revenue (not including income, sales, or production taxes), after the value of the credits was taken into account.  And the true value of the incentives will only become clear in the future, since they are not the price of today’s oil and gas production, but the investment we make in tomorrow’s production.

A couple disclaimers

I hope that it’s clear that this study does not claim to give a precise measure of economic activity, a precise recommendation on the best supply strategy in the event of a shortage.  We have not taken a guess at what the future will hold, or what the impact increased production would have on the economy.  We have not taken a guess at the impact on the price liquid fuel of having a local refinery producing from local crude sources.

But this does fill an information vacuum, and give us a framework for understanding an often unappreciated sector of the state economy.  It gives estimates of the impacts to the local community.  It is the Chamber’s hope that this information will be interesting and useful to both its members and the public at large. 

Thank you very much to Northern Economics for their work on this project, and to our project sponsors, who made this report possible.


Sincerely,



JR Wilcox

Chairman, Cook Inlet Subcommittee


[1] see PRA’s 2010 Cook Inlet Gas Study www.petroak.com/CI_Gas_prareport.pdf and the 2012 update www.petroak.com/CI_Gas_Supply_Update_102312.pdf



[2] See ISER’s report on Alaska’s “three-legged stool” at www.alaskaseconomy.org, the McDowell Group’s 2011 “The Role of the Oil and Gas Industry in Alaska’s Economy” at www.pxd.com/docs/economic-impact/oil-and-gas-industry-in-alaska%27s-economy.pdf?sfvrsn=2, and the McDowell Group’s 2013 follow-up report  “Oil and Gas Industry Employment on Alaska’s North Slope” at www.mcdowellgroup.net/pdf/publications/NorthSlope_JobsReport.pdf .



[3] Cook Inlet Oil and Gas Industry Labor Force Assessment Report, KPEDD, May 2013, from Mayor Navarre’s 2013 RDC presentation at www.akrdc.org/membership/events/conference/2013/presentations/navarre.pdf



[4] 1,287 workers worked in the KPB, as opposed to 2,748 KPB residents who worked in oil and gas, indicating that around 47% of those workers worked in the KPB.



[5] “Cook Inlet and Other Non-North Slope Production And Revenue”, ADOR, March 6, 2014



 

Download the Study Here

Caleb Kreuzenstein

If you’ve called the Anchorage Chamber, you’ve most likely spoken with Caleb Kreuzenstein. Caleb is the first point-of-contact for members, callers and Anchorage Chamber visitors. He handles calls and e-mails from people around the world, and provides administrative support to the president and staff. Caleb also enters new members into the company system and takes reservations for the weekly "Make it Monday" forum, as well as many other events.