EQUITY PARTICIPATION AND RISK SHARING ALASKA GAS PROJECT

1. EQUITY PARTICIPATION AND RISK SHARING ALASKA GAS PROJECT October 13, 2004 Pedro van Meurs Presentation to the Legislative Budget and Audit Committee Senate Resources Committee

2. EQUITY PARTICIPATION AND RISK SHARING BY THE STATE OF ALASKA This presentation will deal with the following issues related to State equity participation: • The risk-reward balance • The international experience • The issue of risk on pipeline project • The unique position of Alaska

3. RISK – REWARD BALANCE The more risk investors have to accept the more profits they want. The more risk a government is prepared to accept the higher the government revenues.

4. RISK – REWARD BALANCE Stranded Gas is being developed around the world by lowering project risk.

5. INTERNATIONAL EXPERIENCE Many jurisdictions alter the risk-reward balance in order to achieve policy objectives. This can be done through: • Equity participation, and/or • Production/Risk sharing agreements

6. INTERNATIONAL EXPERIENCE These methods are used by governments in gas projects: • To create additional revenues for the State • To make marginal or stranded gas projects more competitive, in particular with respect to LNG Two concepts are employed: • Joint Ventures • Production/Risk Sharing Agreements

7. INTERNATIONAL EXPERIENCE Joint Ventures are typically of three different types: • Joint Stock Companies • Joint Operating Agreements • LLC’s or LP’s

8. INTERNATIONAL EXPERIENCE • JOINT STOCK COMPANIES: • Parties are shareholders • Assets owned by the company • Decisions are made by the Board appointed by the shareholders • Capital to be contributed is share capital • Individual shareholders cannot "opt out" of any of the project of the company • Operations are managed by the Managers of the new joint corporation • Income is distributed as dividends • the new joint venture is a separate taxable entity

9. INTERNATIONAL EXPERIENCE JOINT OPERATING AGREEMENTS • Parties remain independent • Assets owned pro-rata by the working interest owners • Parties can vote in accordance with their working interest in the venture • Decision are made by the Operating Committee • Capital is contributed project by project on the basis of cash calls • Parties can "opt out" of certain projects they do not consider attractive, • Operations are managed by one of the Parties (Operator) • All gross income (less operating costs) is distributed in accordance with working interest percentages • each party remains a separate taxable entity.

10. INTERNATIONAL EXPERIENCE LIMITED LIABILITY COMPANIES/LIMITED PARTNERSHIPS • Parties remain independent members • Assets owned by the LLC/LP • Parties can vote in accordance with their membership interest in the venture • Decision are made by the Management Committee, often levels of voting • Capital is contributed project by project on the basis of cash calls • Parties can "opt out" of certain projects they do not consider attractive, • Operations are managed by a Manager • All gross income (less operating costs) is distributed in accordance with working interest percentages • each party remains a separate taxable entity.

11. INTERNATIONAL EXPERIENCEExamples: Joint Ventures Joint ventures involve the contribution of equity capital in upstream and/or midstream: • The Netherlands • Venezuela • Russia • Brunei • Oman • Qatar

12. INTERNATIONAL EXPERIENCEExamples: Joint Ventures Joint ventures involve the contribution of equity capital in upstream and/or midstream: • Norway • Malaysia • China • Colombia

13. INTERNATIONAL EXPERIENCEExamples: Production Sharing Production sharing involves the taking of a share of the gas in kind, rather than levying royalties and tax: • Trinidad & Tobago • Indonesia • Malaysia • China • Bangladesh • Egypt • Yemen

14. THE ISSUE OF RISK With respect to a pipeline project there are two important parties: • The Shipper of the Gas • The Pipeline Owner

15. THE ISSUE OF RISKShipper vs Pipeline Owner The most rudimentary project, would be a $ 14 billion pipeline from Prudhoe Bay/Point Thomson to the BC/Alberta border. The tariff could be estimated as $1.20 per MMBtu (2004 $) (incl. feeder line, GTP and Alberta Hub entry). To build the line a pipeline owner would need a shipping commitment for at least 15 years of throughput. At 4.1 Bcf/day of sales gas this would be for 22 Tcf of gas. In other words a $ 28 billion contract is required.

16. THE ISSUE OF RISKShipper vs Pipeline Owner Example The main risk is committing to a $ 28 billion contract. This is the shippers risk. On the basis of the guaranteed income of a $ 28 billion contract, the pipeline owner can invest the required $ 14 billion to build the line.

17. THE ISSUE OF RISKProducer decision The producers can take the decision to either: • Commit $ 14 billion to the construction of the pipeline, or • Commit to a $ 28 billion contract, so pipeline company can built the line

18. UNIQUE ALASKA ISSUES The main risks in the case of the Alaska Gas Project are: • The huge size of the project • Gas Price Risk • Cost Overrun Risk • Regulatory Risk

19. UNIQUE ALASKA ISSUES: Project size The gigantic size of the Alaska project compared to projects in the rest of the world increases the difficulties in absorbing risk.

20. UNIQUE ALASKA ISSUES: Project size The huge up front capital requirements of the Alaska Project create a project that has a low rate of return compared to competing projects

21. UNIQUE ALASKA ISSUES: Project Size The huge size of the project also creates the opportunity for huge rewards.

22. UNIQUE ALASKA ISSUES: Price Risk and Cost Overrun Risk However, …..significant price uncertainty and cost overrun risk create a huge down side risk.

23. UNIQUE ALASKA ISSUES In summary the Alaska Project has unique challenges: • An extra-ordinary large project, with • A low rate of return, and • Huge downside risks, in • The most complex regulatory environment in the world But potentially also a huge reward for Alaska and Producers under upside conditions. To get this project going requires unique solutions.

24. RISK – REWARD BALANCE The low profitability of the project makes it imperative to lower risk otherwise the project will not go forward.

25. NEW IDEAS: Risk Reduction On April 7, 2004, I already presented to the Joint Caucus the overall strategy as follows: • A Stranded Gas Agreement with improved competitiveness and fiscal stability • A Risk Sharing Package between the State and the Producers, and • The need for a Federal Energy Bill.

26. NEW IDEAS: Risk Reduction The Federal Energy Bill is a classic example of a superb risk reduction package, which contains: • Enabling provisions to significantly reduce regulatory risk • Federal Loan Guarantees to reduce financing risk and • Attractive tax provisions to reduce down side risk

27. NEW IDEAS: Risk Reduction The passing of the Federal Energy Bill is a gigantic step forward for the Alaska Gas Project. The onus is now on Alaska to implement quickly the next steps.

28. NEW IDEAS: Risk Reduction We are negotiating with various parties, to bring one or more Stranded Gas Contracts to the Legislature with competitive fiscal regimes and appropriate fiscal stability provisions.

29. NEW IDEAS: Risk Reduction The last piece of the puzzle is the Risk Sharing Package. We can use ideas that have been employed elsewhere to make Stranded Gas projects economic, such as: • Equity participation and participation in shippers risk • Taking Gas in Kind in a manner similar to production sharing provisions in other countries.

30. NEW IDEAS: Risk Reduction A well structured Alaska risk sharing package will eliminate the need for Federal tax credits in order to deal with downside risk. It will be a structure that much better protects the Alaska interests.