At the end of the road and the end of a shift, workers in Alaska’s Prudhoe Bay, the largest oil field in North America, come to Deadhorse.
Alaska has a plentitude of colorful place names, such as Cold Bay, Abyss Lake and Red Devil. But Deadhorse comes closest to embodying Alaska’s slumbering oil and gas industry. Many trillions of cubic feet of gas and billions of barrels of oil lie beneath the North Slope’s tundra, yet production has dwindled.
In 1988, the state produced 738 million barrels (MMbbl) of crude, equal to about 25% of all U.S. production. In 2013, Alaska’s yield had fallen to 188 MMbbl, about 7% of U.S output.
Production continues to slip about 6% each year. Some independents have taken flight, some are waiting for takeoff, and a few have landed hard.
Yet Alaska is poised to break out of its slump. Newcomers are believers, set on unlocking the state’s resources in what Gov. Sean Parnell calls “The Alaska Comeback.” Companies are working diligently to find oil and gas and some, such as Miller Energy Resources and NordAq Energy Inc., are set on becoming Alaska pure-plays.
Partly, Alaska’s optimism is traceable to the reform of its paradoxical tax system on North Slope production. Enacted in 2007, the old law linked higher taxes to higher oil prices. Levies could hit up to 75% of net profit.
Bob Swenson, deputy commissioner for Alaska’s Department of Natural Resources, said the state’s previous tax regime was onerous until changes were made last year. Enacted in 2007, the old law linked higher taxes to higher oil prices. Levies could hit up to 75% of net profit. Since then, the nominal tax rate has been set at 35%.
Bob Swenson, deputy commissioner for Alaska’s Department of Natural Resources, said the state’s previous tax regime was onerous until changes were made last year. Since then, the More Alaska Production Act (MAPA) has capped the nominal tax rate at 35%. It rewards production instead of the former system’s emphasis on lease capital investments.
The law can help defray a large slice of costs. From June to October 2014, Miller Energy received tax credits, in cash, of about $56 million.
“It makes the state and the state’s fiscal regime more attractive and more competitive in a global marketplace,” Swenson said. “We’re seeing a lot of activity, and I think there are a lot of different things playing into that. And, of course, commodity price is another big driver.”
Though Alaska is home to the largest oil companies in the world, such as ExxonMobil and BP, smaller companies are having a big impact. Independent oil companies are boosting oil production in Cook Inlet, and a new independent-led project on the North Slope is beginning to take shape.
Cook Inlet feared gas shortages a couple of years ago. These fears have been rectified by companies such as independent Hilcorp Alaska LLC throwing everything it can at upping production.
Cook Inlet offshore oil production also is increasing. Production rose to 15,486 bbl/d in third-quarter 2014 from 13,677 bbl/d in the previous quarter. The increase reflects the trend in oil production during the past two years.
“Ongoing investment by the Cook Inlet operators continues to yield added value for the state,” said Bill Barron, director of Alaska’s Division of Oil and Gas.
Swenson said companies, including Repsol S.A. and ConocoPhillips, have drilling programs under way. In late October, the latter announced a new drillsite at Kuparuk that is expected to produce 8,000 bbl/d of oil at peak production.
The company credits incentives in MAPA that Parnell signed into law in May 2013. “This is the first new drillsite at Kuparuk in nearly 12 years, bringing a $500 million investment in the near term, hundreds of new jobs and greater economic opportunity for Alaskans,” Parnell said in a news release. “When coupled with two other newly planned ConocoPhillips North Slope projects, this will provide a $2 billion investment for our state. Our oil tax reform changes are working, and this is only the latest example.”
The drillsite is one of the key projects announced since the passage of MAPA, said Trond-Erik Johansen, president of ConocoPhillips Alaska.
“This is in addition to the two rigs we have added to our North Slope drilling fleet as well as the new-build drilling rig currently under construction,” he said. “The positive investment climate we now have in Alaska has been an important factor in the increased investment levels.”
Operators have plenty to shoot for. Alaska has produced 16.2 Bbbl of oil in its history, largely from the North Slope. What remains are 5.6 Bbbl of discovered conventional resources, another 19.2 Bbbl of undiscovered crude and 5.5 Bbbl of unconventional resources.
Party favors
Ambition is easily transmitted among independents on the North Slope. And Alaska likes independents—a lot.
Stephen Hosmer, CEO of Royale Energy Inc., said Parnell has been aggressive in trying to recruit independent producers to the state.
“I was recently invited into the governor’s office with a group of independent producers,” Hosmer said. “I’ve never been invited to the governor’s office in any other state. That shows a certain level of commitment to the industry.”
Parnell’s support of smaller independents is what will help create new productive fields.”I think he’s being rather visionary in that regard,” Hosmer said.
Royale announced in June that it was targeting two potential drilling sites reviewed by Netherland Sewell & Associates. Geological and geophysical data, including a 3-D seismic survey, “concluded the targets contain 17.8 to 325.3 million barrels [MMbbl] of oil in place,” the company said. Recovery ranges from 14% to 42% of oil in place.
Hosmer said Royale was ready to drill until a former partner was unable to fulfill its responsibility to fund drilling of the first two wells. Plans to drill are on hold until winter of 2016.
“We’re very excited about getting the project underway, but rather disappointed that we didn’t get it done for this winter,” Hosmer said. “We are fully committed to Alaska and to testing this property’s concept.”
Hosmer said he finds that most people in Alaska are excited to work in a “more stringent environment.” That includes a great deal of regulatory oversight.
“I’ve never worked in place that has the regulator working constructively with industry as much as they do in Alaska,” he said.
Stephen Hosmer, CEO of Royale Energy Inc., has been struck by the helpfulness of regulators and even received an invitation to meet with Alaska's governor. "I've never been invited to the governor's office in any other state; that shows a certain level of commitment to the industry."
The state’s tax reform has been an important development for working on the North Slope and the company is watching regulatory and taxation matters with interest. “But in terms of the overall property, the technical merits are the primary motivator for us,” he said. “We’re not doing the project for tax benefits, but certainly the simplification and the tax structure are very helpful.”
Still, like any business, some companies will make it, and others will step aside, Swenson said.
Independent mainstay Pioneer Natural Resources entered Alaska in 2002 and seemed a fixture. But in October 2013 the company announced it would sell its Alaska holdings to Caelus Energy Alaska LLC for $500 million. Pioneer was then producing 4,000 boe/d.
Pioneer said its goal was to repatriate funds to the Permian, but the company took a beating on the deal when it closed in April, receiving $253 million after slashing its asking price and adjusting for losses.
In June, independent Buccaneer Energy Ltd., which also had operations in Alaska, fell, filing for bankruptcy. It listed $7.4 million in assets and $64.4 million in liabilities.
“I think we’ve seen a lot of success, but we’re also seeing some failures,” Swenson said. “It’s going to be up to the state and the companies working together to minimize the failures and make sure we have as many successes as we reasonably can.”
A gas, gas, gas
The slogan posted on Hilcorp’s website—“we produce the energy that keeps the lights on”—is not all hyperbole.
The lights have stayed on and then some, with Hilcorp tripling its natural gas production from Alaska.
Lori Nelson, Hilcorp’s manager for external affairs in Alaska, said the company has made significant investments in Cook Inlet over the past two years in order to ramp up production.
“Hilcorp’s business model is much different than the companies we acquire these types of assets from,” she said. “Reducing costs and creating efficiencies allows further investment into aging fields like Cook Inlet. We brought more rig capability to the area that has allowed us to perform dozens of successful workovers. Simply drilling more wells has also brought production up for both oil and gas.”
The company has made strides in restoring production and calm regarding Cook Inlet’s ability to meet demand.
Before Hilcorp took over, a report by Petrotechnical Resources Alaska that was reviewed by lawmakers found Cook Inlet’s gas supply would be unable to keep up with anticipated demand by 2014 to 2015. The firm predicted brownouts could occur in that time period. Plans were being made for alternative supplies to be trucked in.
After buying nearly 70% of the natural gas produced in Cook Inlet and going through federal and state reviews, Houston-based Hilcorp was ready to step up.
Hilcorp’s success in Cook Inlet wasn’t assured, but perhaps it was a safe bet given the right operator. The U.S. Geological Survey estimates technically recoverable oil and gas remaining to be found includes 19 trillion cubic feet of natural gas, 600 MMbbl of oil and 46 MMbbl of NGL.
Swenson said the real problem during the fear of brownouts was a misalignment in the market and high costs.
“It really is a stranded asset, and the cost of drilling and the costs of production, like anywhere in Alaska, are relatively high,” he said.
Incentives, changes in market price and drilling activity have aided the situation.
“The outlook for Cook Inlet is actually quite good,” he said.
Hilcorp has also been producing oil in Cook Inlet and plans to drill for a great deal more. In April, BP announced that Hilcorp would buy four of its operated oilfields on Alaska’s North Slope.
The net asset value for the assets is an estimated $2.6 billion, or 1.7% of BP’s market cap, Tudor, Pickering, Holt & Co. said. The sale price was not disclosed.
The sale agreement includes all of BP’s interests in the Endicott and Northstar oilfields and a 50% interest in each of the Liberty and the Milne Point fields. The sale also includes BP’s interests in the oil and gas pipelines associated with the fields.
Hilcorp’s next three to five years in Alaska will bring continued significant investments both in Cook Inlet and on the North Slope.
“Capital projects, drilling, facility and maintenance projects will all play a role,” Nelson said. The company will take the same approach with its North Slope assets as it has with others in Alaska and in the Lower 48.
“We will look to reduce cost, build efficiency and increase investment. We see a lot of potential for the North Slope and have the capability and expertise to make a difference in those fields,” she said.
Having an experienced Alaskan workforce is of key importance to the company’s success in Cook Inlet and on the North Slope. “We are fortunate to be retaining the vast majority of field personnel on the North Slope,” Nelson said. “The folks who know the assets best are in the field and are often the driver behind our success.”
Activity in Alaska's North Slope accounts for most of the state's oil and gas production. The area contains more than a dozen of the largest U.S. oil fields and several of the largest gas fields. Production has fallen to less than 300,000 bbl/d from a peak of 1.6 MMbbl/d in 1988.
Unlocking Alaska
Carl Giesler Jr.’s years in business have taught him that the best way to create value is to “buy right.”
“You realize value when you buy something, not necessarily when you sell it,” said Giesler, CEO of Miller Energy Resources Inc. “So we’re very careful on how much we pay for acquisitions.”
Alaska’s frequently low sale prices were just part of the appeal to Miller in making the 3,275-mile journey from Houston.
The company’s leaders are so convinced of Alaska’s potential that they are selling the last of their Lower 48 assets in the southern Appalachian Basin in Tennessee. The company’s Tennessee assets are worthwhile, but represent only a small part of Miller’s production and value.
“From an investor perspective and overall value creation perspective, we felt it was better to segment them out, sell them and become a pure-play Alaska company,” Giesler said.
In September, Miller reported average net production increased by 144% from fiscal year to fiscal year, to 3,313 boe/d from 1,360 boe/d.
Giesler said Miller’s aim is to create an oil and gas company where shareholders can focus their investments in Alaska.
Alaskan operators such as ExxonMobil, Apache Corp., ConocoPhillips, Caelus, Hilcorp and others are either far-flung giants or private companies.
“We are the only pure-play Alaska E&P company,” he said. “If you’re an investor and you want exposure to Alaska, we’re it.”
Miller wants to make the case that Alaska is one of the best places to be, not just in the U.S. but also worldwide, to explore for and develop oil and gas.
The company has access to a solid resource base, a good team and the operational and financial skills needed for development.
“Over time, we’ve been trying to simplify and lower the cost of capital, so that it’s just an easier way to invest,” Giesler said. He joined the company in September.
Unlike diversified operators in Alaska, Miller Energy Resources Inc. wants to be the only pure-play Alaska E&P, said Carl Geiser, the company's CEO. "If you're an investor and you want exposure to Alaska, we're it."
There is much on the company’s plate, he said. Miller is studying an MLP monetization of its midstream assets. In September, it entered into a nonbinding letter of intent to buy substantially all of Buccaneer Energy’s operating assets for about $40 to $50 million. Buccaneer Energy has proved reserves of about 1.9 MMboe and produces about 1.7 Mboe/d.
The company also made a $9 million offer in May to acquire Savant Alaska LLC’s Badami Unit on the North Slope.
Earlier in the year, Miller won a bid to acquire an exploration license on 168,000 acres in Cook Inlet on the Iniskin Peninsula.
Giesler said Alaska has been a good partner, and Miller will look for opportunities that make economic sense. “If we can continue to unlock the value of our resource, I think it will show in our stock price.”
Under the white
Mark Twain once quipped that he was seldom able to see an opportunity until it had ceased to be.
At first glance, Alaska’s Prudhoe Bay is a challenging place to see prospects.
Heated buildings are placed on concrete stilts to prevent the thawing of the permafrost. From June to August, hordes of mosquitoes roam, and biting flies and gnats last until September. Temperatures can drop 40 degrees below zero.
Beyond those annoyances, costs are high, and resources are in some of the more remote places in the world.
The other side of the equation is the vast hydrocarbon potential under the white. One project alone, state leaders say, can generate $1 billion in revenue.
“It’s really not about whether there’s oil there or not, it’s really about reservoir quality,” Swenson said. “It’s a supercharged basin with three different source rocks. So if you can find reservoir rock, that’s the key. Your completion technology will define how much oil you ultimately recover. We’ll see a lot of effort on that on the North Slope.”
Alaska is becoming more diversified, with portfolios ranging from super majors that are 100% internally capitalized to independents with good cash flow as well as small companies working with investment firms to provide capital.
“We’re seeing a transition in that and the state is working on making sure we’re evolving across that entire portfolio of companies,” Swenson said.
One such company, private independent Caelus Energy Alaska LLC, backed by Apollo Global Management LLC, bought out Pioneer for an entry into the North Slope. Apollo funds have the opportunity to invest up to $1 billion in Caelus in the aggregate to develop the company’s existing assets and to pursue acquisitions or other additional investments.
Swenson said the state is working with Caelus and similar companies in that vein.
“I think Caelus is a very aggressive company as far as finding new resources and getting resources online,” he said.
The company is working the offshore Oooguruk Unit, a younger, shallower rock, and the Kuparuk play, Swenson said.
“They’re also stepping out into the Nuna. That’s really going to be one of the hot plays on the North Slope,” Swenson said. “It’s a bit tighter reservoir, so it’s a little more difficult to get hydrocarbons out. But with different frack technologies and flooding efforts, we’re seeing lots of success there.”
To help Caelus to develop the Nuna project, the state has modified the company’s royalty requirements. The project has the potential to generate up to $1.4 billion in state revenue.