PAGENO="0001" ALASKA NATURAL GAS TRANSPORTATION_SYSTEM ç/O4OI3~!3 OVERSIGHT HEARINGS BEFORE THE SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS OF THE COMMITTEE ON INTERIOR AND INSULAR AFFAIRS HOUSE OF REPRESENTATIVES NINETY-SIXTH CONGRESS FIRST SESSION ON ALASKA NATURAL GAS TRANSPORTATION SYSTEM HEARINGS HELD IN WASHINGTON, D.C. OCTOBER 15 AND 16, 197~ Serial No. 96-.22 Printed for the use of the Committee on Interior and Insular Affairs 11 ~ IZ') L' 1 f~"~ U.S. GOVERNMENT PRINTING OFFICE 57-087 0 WASHINGTON : 1980 PAGENO="0002" COMMITI'EE ON INTERIOR AND INSULAR AFFAIRS Housx OF REPRF.SENTATWES MORRIS K. UDALL, Arizona, Chairman PHILLIP BURTON, California DON H. CLAUSEN, California ROBERT W. KASTENMEIER, Wisconsin Ranking Minority Member ABRAHAM KAZEN, JR., Texas MANUEL LUJAN, JR., New Mexico JONATHAN B. BINGHAM, New York KEITH G. SEBELIUS, Kansas JOHN F. SEIBERLING, Ohio DON YOUNG, Alaska HAROLD RUNNELS, New Mexico STEVEN D. SYMMS, Idaho ANTONIO BORJA WON PAT, Guam JAMES P. (JIM) JOHNSON, Colorado BOB ECKHARDT, Texas ROBERT J. LAGOMARSINO, California JIM SANTINI, Nevada DAN MARRIO~VI', Utah JAMES WEAVER, Oregon RON MARLENEE, Montana BOB CARR, Michigan MICKEY EDWARDS, Oklahoma GEORGE MILLER, California RICHARD B. CHENEY, Wyoming JAMES J. FLORIO, New Jersey CHARLES PASHAYAN, JR., California DAWSON MATHIS, Georgia ROBERT WHIT]~AKER, Kansas PHILIP R. SHARP, Indiana DOUGLAS K. BEREUTER, Nebraska EDWARD J. MARKEY, Massachusetts MELVIN H. EVANS, Virgin Islands PETER H. KOSTMAYER, Pennsylvania BALTASAR CORRADA, Puerto Rico AUSTIN J. MURPHY, Pennsylvania NICK JOE RAHALL II, West Virginia BRUCE F. VENTO, Minnesota JERRY HUCKABY, Louisiana LAMAR GUDGER, North Carolina JAMES J. HOWARD, New Jersey JERRY M. PA11~ERSON, California RAY KOGOVSEK, Colorado PAT WILLIAMS, Montana CHARLES CoNKLIN, Staff Director LEE McELvAIN, General Counsel STANLEY ScovmLE, Special Counsel for Legislation GARY G. Eu.swoRTH, Minority Counsel SUBc0MMrrFEE ON OVERSIGHT AND INVESTIGATIONS HAROLD RUNNELS, New Mexico, Chairman PAT WILLIAMS, Montana DON H. CLAUSEN, California JIM SANTINI, Nevada DON YOUNG, Alaska JAMES WEAVER, Oregon ROBERT J. LAGOMARSINO, California DAWSON MATHIS, Georgia MELVIN H. EVANS, Virgin Islands MORRIS K. UDALL, Arizona Tmlo'rHY W. GLIDDEN, Staff Director-Counsel JANE5 C. ROGERS, Jr., Minority Counsel on Oversight and Investigations No'rE.-The first listed minority member is counterpart to the subcommittee chairman. UI) PAGENO="0003" CONTENTS Page Hearings held: October 15, 1979 October 16, 1979 MONDAY, OCTOBER 15, 1979 Statements: Loeffler, Robert H., counsel, on behalf of the Governor and State of Alaska.. 67 Panel consisting of: John G. McMillian, chairman and chief executive officer, Northwest Energy Co., Northwest Pipeline Corp., Northwest Alaskan Pipeline Co., and chairman of the board of partners of the Transportation Co 18 Mark J. Millard, chairman and senior managing director, Loeb Rhoades Shearson 35 Frank P. Moolin, Jr., president, Frank Moolin & Associates, and former senior project manager for the pipeline portion of the trans- Alaska pipeline project 43 Pierce, Robert L., president and chief executive officer, Foothills Pipe Lines (Yukon) Ltd 3 Pyle, J. Conrad, project manager, Northern Border Pipeline Co 61 Sproul, John A., executive vice president, Pacific Gas & Electric Co., and chairman of the board and chief executive officer, Pacific Gas Transmis- sion Co 53 TUESDAY, OCTOBER 16, 1979 Statements: Curlin, Hon. James W., Deputy Assistant Secretary for Land and Water Resources, U.S. Department of the Interior 88 Curtis, Hon. Charles B., Chairman, Federal Energy Regulatory Commis- sion, U.S. Department of Energy 95 Robinson, Brig. Gen. Hugh G., Deputy Director of Civil Works, Office of the Chief of Engineers, U.S. Department of the Army 105 Rhett, Hon. John T., Jr., Federal Inspector, Officer of the Federal Inspec- tor, Alaska Natural Gas Transportation System 73 APPENDIX Additional material submitted for the hearing record from: Subcommittee on Oversight and Investigations of the Committee on Interior and Insular Affairs: 1. Report entitled, "Alaska Natural Gas Transportation System: Status Report" (with appendixes) 109 2. Appendix I: Section 301 of Public Law 93-153 158 3. Appendix II: Public Law 94-586 159 4. Appendix III: Reorganization Plan No. 1 of 1979 173 5. Appendix IV: Executive Order No. 12142 (EPB) 178 6. Appendix V: Agreement on Principles 180 7. Prepared statement of J. Dexter Peach, Director, Energy and Minerals Division, U.S. General Accounting Office 205 8. Alaska study entitled, "Perspectives on Major Issues Impacting the Alaska Gas Pipeline," dated October 17, 1979, prepared by the Congres- sional Research Service of the Library of Congress 214 9. Report entitled, "Issues Relating to the Proposed Alaska Highway Gas Pipeline Project" 260 (III) PAGENO="0004" lv APPENDIX-Continued Foothills Pipe Lines (Yukon) Ltd.: Page 1. Prepared statement of Robert Pierce 412 2. Letter from Hon. Harold Runnels, chairman, Subcommittee on Over- sight and Investigations, to Robert Pierce, president, Foothills Pipe Lines (Yukon) Ltd., dated October 23, 1979, transmitting additional questions to Mr. Pierce 420 3. Letter from Robert Pierce to Hon. Harold Runnels, dated December 3, 1979, responding to questions in Mr. Runnels' letter of October 23, 1979... 422 Northwest Alaskan Pipeline Co.: 1. Prepared statement of John G. McMillian (with exhibits) 425 A. Exhibit A: Letter from John G. McMillian, chairman, Board of Partners, Alaskan Northwest Natural Gas Transportation Co., dated September 20, 1979, to five major natural gas companies encouraging them to consider entry into the partnership 469 B. Exhibit B: Alaska Northwest Natural Gas Transportation Co., financial report to board of partners, June 1979 471 C. Exhibit C: Filings before the Federal Energy Regulatory Com- mission showing expenditures by category of expense 486 D. Exhibit D: Descriptive summary of technical consultants and constructors employed for Alaska highway pipeline project 514 E. Exhibit E: Document entitled, "The Market Outlook for Alaskan Natural Gas," a report to Northwest Alaskan Pipeline Co., prepared by Jensen Associates, Inc., September 1979 519 F. Exhibit F: Document entitled, "A Review of Alaska Natural Gas Transportation System Issues," prepared by ICF, Inc., submitted to the Federal Energy Regulatory Commission, May 1979 587 G. Exhibit G: Letter from Darrell B. MacKay, vice president, Northwest Alaska Pipeline Co., to John T. Rhett, Jr., Federal Inspector, Office of the Federal Inspector, Alaska Natural Gas Transportation System, dated October 3, 1979, concerning com- pletion schedule of the Alaska segment of the pipeline system; and enclosing schematic chart showing major milestone sched- ule for Alaska segment 704 2. Letter from Hon. Harold Runnels to John G. McMillian, dated October 23, 1979, transmitting additional questions to Mr. McMfflian 707 3. Letter from John G. McMillian to Hon. Harold Runnels, dated Novem- ber 9, 1979, enclosing responses to questions in Mr. Runnels' letter of October 23, 1979 709 4. Letter from John G. McMillian to Hon. Harold Runnels, dated Novem- ber 6, 1979, enclosing specific information requested at the hearing of October 15, 1979, dealing with governmentally caused delays as evi- denced in the Alaska highway gas pipeline project 716 5. Prepared statement of Mark J. Millard 719 6. Prepared statement of Frank P. Moolin, Jr 724 Pacific Gas & Electric Co.: 1. Prepared statement of John A. Sproul 780 2. Letter from Hon. Harold Runnels to John Sproul, dated October 23, 1979, transmitting additional questions to Mr. Sproul 796 3. Letter from John Sproul to Hon. Harold Runnels, dated November 27, 1979, enclosing responses to the questions in Mr. Runnels' letter of October 23, 1979 798 4. Letter from John Sproul to Hon. Don Clausen, ranking minority mem- ber, Committee on Interior and Insular Affairs, dated October 30, 1979, responding to Mr. Clausen's request at the hearing of October 15, 1979, for additional details concerning regulatory problems 808 Northern Border Pipeline Co.: 1. Prepared statement of J. Conrad Pyle 811 2. Letter from Harold Runnels to J. Conrad Pyle, dated October 23, 1979, transmitting additional questions to Mr. Pyle 828 3. Letter from J. Conrad Pyle to Hon. Harold Runnels, dated November 28, 1979, responding to the questions in Mr. Runnels' letter of October 23, 1979 (with an attachment) 830 A. Attachment entitled, "Agreement Dated as of October 25, 1979, among Northern Border Pipeline Company, TransCanada Pipe- lines, Ltd., and TransCanada Border Pipeline, Ltd." 834 PAGENO="0005" V APPENDIX-Continued The State of Alaska: Page 1. Prepared statement of Robert H. Loeffler 869 2. Letter from Hon. Harold Runnels to Robert Loeffler, dated October 23, 1979, transmitting additional questions to Mr. Loeffler 878 3. Letter from Robert Loeffler to Hon. Harold Runnels, dated November 19, 1979, responding to the questions in Mr. Runnels' letter of October 23, 1979 880 Office of the Federal Inspector, Alaska Natural Gas Transportation System: 1. Prepared statement of John T. Rhett, Jr 884 2. Letter from Hon. Harold Runnels to John T. Rhett, dated October 23, 1979, transmitting additional questions to Mr. Rhett 900 3. Letter from John T. Rhett to Hon. Harold Runnels, dated November 6, 1979, responding to the questions in Mr. Runnels' letter of October 23, 1979 902 4. Document entitled, "Quarterly Report to the President and Congress on the Construction of the Alaska Natural Gas Transportation System," dated October 1979 908 U.S. Department of the Interior: 1. Prepared statement of Hon. James W. Curlin 934 2. Letter from Hon. Guy Martin, Assistant Secretary for Land and Water Resources, U.S. Department of the Interior, to Hon. Paul E. Goulding, Acting Administrator, General Services Administration, dated June 15, 1979, outlining problems associated with the Haines-Fairbanks right-of- way and its relationship to the proposed Alaska Natural Gas Transpor- tation System (ANGT5) 944 3. Letter from Hon. Harold Runnels to Hon. James W. Curlin, dated October 23, 1979, transmitting additional questions to Mr. Curlin 959 4. Letter from Hon. James W. Curlin to Hon. Harold Runnels, dated December 19, 1979, enclosing responses to questions in Mr. Runnels' letter of October 23, 1979 961 5. Letter from Hon. James W. Curlin to Hon. Harold Runnels, dated November 1, 1979, enclosing responses to Mr. Clausen's request for information on the length of time taken by the Department in issuing rights-of-way grants for ANGTS and specifically for Pacific Gas Trans- mission Co 965 Federal Energy Regulatory Commission: 1. Prepared statement of Hon. Charles B. Curtis (with attachments) 968 A. Attachment 1: Document entitled, "Federal Energy Regulatory Commission Actions for the Alaska Natural Gas Transportation System" 976 B. Attachment 2: Letter from Don S. Smith, Vice Chairman, FERC, to Hon. John Dingell, chairman, Subcommittee on Energy and Power, dated May 16, 1979, responding to Mr. Dingell's letter of February 9, 1979, to Secretary Schlesinger, concerning U.S. Government effort to insure that U.S. firms have a fair chance to compete in the Canadian portion of the Alaska gas pipeline project 986 2. Letter from Hon. Harold Runnels to Hon. Charles B. Curtis, dated October 23, 1979, transmitting additional questions to Mr. Curtis 993 3. Letter from Hon. Charles B. Curtis to Hon. Harold Runnels, dated December 26, 1979, responding to the questions in Mr. Runnels' letter of October 23, 1979 995 4. Document from the Canadian National Energy Board identified as Order No. GH-4--79, and including notice of hearing 1002 5. Document from the Canadian National Energy Board identified as Order No. RH-2-79, and including a notice of hearing 1013 6. Commission opinion issued August 6, 1979, docket Nos. CP78-123, et al., entitled, "Order Approving Alaska Segment Design Specifications and Initial System Capacity 1027 Office of the Chief of Engineers, Department of the Army: 1. Prepared statement of Brig. Gen. Hugh G. Robinson 1035 PAGENO="0006" PAGENO="0007" ALASKA NATURAL GAS TRANSPORTATION SYSTEM MONDAY, OCTOBER 15, 1979 HOUSE OF REPRESENTATIVES, SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS, COMMITTEE ON INTERIOR AND INSULAR AFFAIRS, Washington, D.C. The subcommittee met, pursuant to notice, at 9:47 a.m., in room 1324, Longworth House Office Building, Hon. Harold Runnels (chairman of the subcommittee) presiding. Mr. RUNNELS. The subcommittee will come to order. Today the Oversight and Investigations Subcommittee will begin hearings on the Alaska Natural Gas Transportation System. This subcommittee has been assigned legislative jurisdiction over this project by the House Committee on Interior and Insular Affairs, a responsibility conferred upon the committee under rule X of the rules of the House of Representatives through assignment of juris- diction over public lands. I have called these hearings because I feel it is essential for all Members of Congress and the public to be kept informed of the progress toward construction of what will likely be the largest privately financed international business venture of all time. Be- cause the pipeline will transport a domestically produced energy resource from the North Slope of Alaska, through Canada, to criti- cal markets in the Midwest and the west coast, it is unique in an otherwise complicated and uncertain national energy picture. Two factors, the pipeline's impact on our domestic energy supply picture and the reorganization of Government to accomplish a specific energy goal, underscore my interest in holding these hear- ings. Today, we will hear from the four project sponsors who will be building the pipeline. We hope to find out how much it will cost and when it is expected to be completed. Tomorrow we will hear testimony from the new Federal inspec- tor, Mr. John Rhett, who will function as the "one window" contact point with the project sponsors and will carry with him all Federal authority on matters pertaining to preconstruction, construction and initial operation of the system. I believe that Mr. Rhett fully appreciates that the success of this approach will depend on his ability to achieve prompt, coordinated decisionmaking. There are questions about the pipeline which cannot yet be answered. We want to learn about these issues, whether they are environmental, technical, or financial, and about the issues which have already been resolved through the diligent efforts of the sponsors and the Federal agencies. This subcommittee intends to (1) PAGENO="0008" 2 keep an open minded and supportive position in the process of identifying and resolving conflicting interests. In any project of this magnitude and complexity those interests are serious and can have long-range impacts. It is our intention to continue to bring signifi- cant issues to light through further hearings in the months ahead. When the transcripts of these hearings are printed, a staff report on the status of this project will also be printed as part of the hearing record. I hope all of you will have a chance to read it. I would at this time like to thank the witnesses for coming today. Many have had long distances to travel and are taking time away from busy schedules, and we appreciate the effort which they have made. We intend to make their complete testimony available for full distribution to our congressional colleagues and the public. I would ask that all witnesses summarize their statements in about 10 minutes, if that is possible. We will then follow with questions. Mr. Clausen. Mr. CLAUSEN. Thank you, Mr. Chairman. I want to commend you for scheduling these oversight hearings on the proposed Alaska Natural Gas Transportation System and to join with you in welcoming the witnesses to the committee. I am hopeful we can develop the kind of hearing and the data in this hearing process that you have articulated in your opening state- ment. Today, we in the Congress realize the urgent national need for establishing energy distribution systems to various regions of our Nation. Hopefully, these hearings will reflect congressional concern in seeing that such systems are actually established. It seems only yesterday that we as members of the Subcommittee on Public Lands reported a bill entitled Alaska Natural Gas Trans- portation Act for the full Interior Committee to consider. The primary purpose of this legislation was to expedite a decision on the delivery of the Alaska natural gas to U. S. markets. As you will recall, while this legislation was being considered I expressed three main areas of interest: One, a provision for new facilities to assure direct gas deliveries to the western and eastern regions of the United States; and second, a need for one department, entity, or administrator to be responsible for approving preconstruction, construction, and initial operation of the gas system; and third, to recognize a need for coordination and cooperation toward achieving energy self-suffi- ciency here in this Western Hemisphere. Fortunately, in 1976 Congress enacted the Alaska Natural Gas Transportation Act and mandated that new facilities must be in- cluded within the particular route selection by the President. Later, in September 1977, Congress received and approved the President's route decision. In a short period of time afterward, an executive policy board came into existence and later a Federal inspector position was created. We are now in a position to receive through this subcommittee's oversight and investigative authority an update on the progress toward achieving construction of an Alaska natural gas transporta- tion system. Mr. Chairman, I am hopeful the subcommittee members and staff will exhibit as much vigor and determination in addressing PAGENO="0009" 3 the proposed transportation system as we have in addressing the equitable distribution of Alaska North Slope crude oil. Again, Mr. Chairman, we, the members of the committee, are grateful and deeply in your debt for moving quickly in taking the initiative to permit us to' develop the kind of a hearing record that is in our area of jurisdiction and responsibility. So I commend you, sir. Mr. RUNNELS. Do any other members of the subcommittee have an opening statement? Mr. LAGOMARSINO. Mr. Chairman, just a few words. I want to join my colleague Mr. Clausen, in commending you and in commending him for holding these hearings. I think while per- haps other oversight committees of the Congress get more press and while they do things that might be more dramatic, the record will show that the work of this subcommittee has been very con- structive and has already resulted in some very important legisla- tion and some important issues being discussed and brought to the attention of the public. We made some changes; we have not just made headlines. So I compliment the gentleman. Mr. RUNNELS. Any other opening statement? If not, I thank each one of you for being here this morning. Before proceeding to our first witness, we will have inserted as part of the hearing record the staff report previously mentioned, including the appendixes to that report; plus a prepared statement submitted by the General Accounting Office. Hearing no objection, so ordered. [The report referred to above entitled, "Alaska Natural Gas Transportation System: Status Report"; and the prepared state- ment from the General Accounting Office may be found in the appendix. See table of contents for page number.] Mr. RUNNELS. Our first witness will be Mr. Robert L. Pierce, president and chief executive officer of the Foothills Pipe Lines (Yukon) Ltd. Is Mr. Pierce here? Mr. MCMILLIAN. We requested a change in schedule. Mr. RUNNELS. I know but we are going to try to keep to our schedule and call witnesses as we had them on the witness list. Is Mr. Pierce in the room? Mr. PIERCE. Yes. Mr. RUNNELS. You may proceed. [Prepared statement of Robert L. Pierce may be found in the appendix.] STATEMENT OF ROBERT L. PIERCE, PRESIDENT AND CHIEF EXECUTIVE OFFICER, FOOTHILLS PIPE LINES (YUKON) LTD.; ACCOMPANIED BY MURRAY STEWART, EXECUTIVE VICE PRESIDENT; BRUCE SIMPSON, AND RICK COOKE, EXECUTIVE ASSISTANTS Mr. PIERCE. Mr. Chairman, members of the committee, my name is Robert L. Pierce, president and chief executive officer of Foot- hills Pipe Lines, Yukon, the company essentially responsible for the construction of the Alaska Highway System in Canada. With me is Mr. Murray Stewart, executive vice president, sitting behind us are Mr. Bruce Simpson and my executive assistant, Mr. Rick Cooke. ~ PAGENO="0010" 4 During the time available, Mr. Chairman and members of the committee, we would like to provide the committee with a brief summary of the progress made in Canada since the fall of 1977. In that context we will comment upon significant Canadian legislative developments, progress of technical work which has been carried out by the Canadian sponsors, the status of pertinent NEB proceed- ings, and the outlook for private financing of the Canadian seg- ment of the system. We would also like to discuss shortly with you as well the propos- al to prebuild the substantial portion of the system in order to export an additional 1.04 billion cubic feet of Alberta natural gas to the United States. The Canadian portion of the system will have an initial capacity to transport approximately 2 to 2.4 billion cubic feet per day of Alaska gas and 1.2 billion feet per day of Canadian gas, with the addition of looping and compression, however. The system could ultimately transport as much as 3.2 billion feet of Alaska gas per day. Our NEB 1979 capital cost estimate for the Canadian portion of the system was $5.768 billion for a late 1984 startup as compared with the original antitarget of 4.235 billion for a January 1983 start. The increase has been caused primarily for the regulatory and legislative delays occurring in the United States. We are doing everything possible to minimize our expenses with- out jeopardizing the current construction schedule. Fortunately, however, the principal cause of cost increases today is delay. Con- tinuing delay makes any project more costly, particularly now, given the current inflation rate in North America and the spiral- ing cost of capital. Notwithstanding that we are hopeful, a significant portion of the Canadian-United States segments can be prebuilt within the next 2 years. If this proposal is approved in a timely fashion by the appropriate Canadian and American regulatory bodies, we would believe it would accomplish the following: One, it would reduce the capital cost of a significant portion of the system; Two, it would spread out the total construction period; Three, it would serve to reduce the ultimate total cost of service for Alaska gas; Four, it would improve the earnings and the cash flow of the project sponsors, thereby strengthening their financial position as they continue their work to complete the total system; and Five, it would demonstrate that the large diameter high-pressure pipeline can be installed and safely operated without major cost overruns and schedule delays. To achieve these benefits we have advised the Northwest Alaska that in our view there must be complete dedication of all concerned parties to assure completion of all the components of the prebuilt, including the northern border section, by November 1981. Further, the Canadian participants in the project believe that not only is such a schedule achievable, but are prepared to join with Northwest to achieve such completion of the northern border pipeline. PAGENO="0011" 5 In Canada over the past 2 years, we believe there has been significant progress. In April of 1976, approximately 5 months after congressional ratification of the presidential decision, our Parlia- ment passed the Northern Pipeline Act, which gave full force and effect to the agreement reached between our two countries. Among other things, that act granted certificates of public con- venience and they are authorizing the five Foothills subsidiaries to construct and operate the Canadian portion of the system, establish procedures and standards for the filing and review of Foothills tariffs, and limited judicial review of the decisions issued by `the National Energy Board in connection with the pipeline. The act also established the Northern Pipeline Agency, some- thing very much akin to your Federal inspector, and vested it both with the responsibility and the authority to oversee the construc- tion of the pipeline in Canada. The agency has already issued final terms and conditions on technical requirements for the system and its final terms and conditions on socio-economic and environmental matters are ex- pected to be issued in the near future. National Energy Board has also worked hard to expedite the Canadian process. It has issued a proposed approach to the incen- tive rate of return mechanism which was envisioned by the agree- ment in principal between our two countries; it has issued orders on the proposed mainline and prebuild tariffs of Foothills, as well as the method for regulation of the cost of service contracts, and it has completed hearings on the application of Pan-Alberta to export in excess 1 billion cubic feet of gas per day to the United States through the prebuilt portions of the systems. The indications are that a decision should be forthcoming on that hearing within the next month and a half. The board has also established and expedited schedules for all remaining matters affecting the system in Canada, including proof of financing, and the finalization of its approach to the incentive rate of return. At the company level, Foothills had made a substantial amount of progress in the technical work which must be completed prior to the commencement of construction. Detailed location work is essen- tially complete for the entire system; design work is in an ad- vanced stage for the entire system, and almost complete for the prebuild portions; geotechnical and geothermal studies are continu- ing in the Yukon at a high level; frost heave studies are continuing at our facilities in Calgary, and additional pipe burst tests are scheduled for next month. We are trying to do everything that we set out to do 5 years ago. We can assure you if there is further delay in the project it will not be caused by anything within the reasonable control of our compa- nies. We remain optimistic about the Alaska natural gas transmission system. We are convinced today as we were before that the project is in the best economic interests of both our countries. We are also convinced that the project should be privately finished without any form of direct governmental participation. Notwithstanding our optimism, we are concerned not only with those delays which have PAGENO="0012" 6 already ensued, but with those which, if the past is an indicator, may occur in the future. As private companies, we have the financial strength to continue reasonable expenditures on the project, to make a substantial in- vestment in the project's equity, and to attract the debt financing which is required for its completion, provided that we have satis- factory contractual arrangements with shippers of substance which are perceived as such by the investment community, and which essentially means that there must be a well recognized and accept- ed tracking system in place. We cannot, however, be placed in the continuing position of flowing millions upon millions into this project year-after-year without assurance that the project will commence construction on a timely basis and be completed, and that on completion we will be allowed a fair and reasonable return on our investment. We now believe that at least two things should occur soon, if we are to continue funding the project at the present rate. First, we must be assured that the money which we invest will be recouped in the event the project is not completed because of problems occurring in the United States. Second, we must be satisfied that once the system is completed we will be allowed to earn a fair and reasonable return on our investment, and there are ongoing proceedings before the National Energy Board in which we will be appearing towards this end within this month. We would assure you that the Canadian companies involved in this project remain fully committed to the private financing and early completion of the project. As of December 31, 1979, we esti- mate we will have spent $125 million in the project and, although we intend to continue our financial support, we can only do so for as long as it appears reasonable. We thank you, Mr. Chairman, and your colleagues for the oppor- tunity to appear before you. If there are questions we may attempt to answer, we would be pleased to be at your disposal. Mr. RUNNELS. Thank you very much, Mr. Pierce. I would like to just ask a few brief questions. In your statement you say the cost escalated from $4.3 billion to $5.6 billion. This is a $1.3 billion increase. I believe you stated that it is due to delays. What kind of delays caused this much escala- tion? Mr. PIERCE. Essentially, Mr. Chairman, the agreement between our two countries called for the system to be in being, be complet- ed, and combine delivering gas in January 1973. Subsequently, we were advised by our American colleagues that this date could not be achieved because of certain matters which had to be done in the United States, and we thereupon agreed that the date should be delayed until the fall of 1984. Now that 1984 date of course was also dependent upon certain things falling into place before that time. I am concerned by some of the evidence that I have read last night that is going before this committee that the 1984 date is beginning to look pretty shaky. Essentially these are dollars as spent, and the longer your project stretches out, the more dollars you have to spend just on basic PAGENO="0013" 7 inflation which relates to the longer period of time; the more dollars you also have to spend in keeping an operation in place that you expected to start working full out on a particular date and now find you have to keep them for another two years before you can get them working full out. The chairman is well aware, in private business you soon get to the point that you either lay the people off or you find something else for them to do. Mr. RUNNELS. Your statement says that it is estimated that at the end of December 31, 1979 you and your other sponsors will have already spent $125 million. Mr. PIERCE. That is our present estimate. Mr. RUNNELS. You say you will continue to support it financially as long as it is reasonable. Do you have any estimate as to what you think is reasonable at this point? Mr. PIERCE. Mr. Chairman, my idea of what has been reasonable has varied almost all of my life. The older I get, the more I find unreasonable; there are more and more things I find unreasonable. I would not have thought the short-term money interest rate of 13- plus percent was reasonable, but we got it. I do not know how much longer it will be reasonable, but I can say this, Mr. Chair- man: we are heartened by what we have seen recently-we are heartened by the fact that there is a Federal inspector there. We had originally hoped to see him 2 years ago. We really thought he would have been there before our Parliament, who have appointed the commissioner under the Northern Pipeline. So that is positive. I think essentially what it boils down to is this: that if we have to fund this project and pay 14 and 15 percent prime rate on money, what is reasonable is a little less than it would have been if we were paying 9 percent on our money. So the delays are very important. The other side of it is our experience with capital projects is that what causes costs to escalate out of control are delays, because when you estimate something in 1975 or 1976 and say you are going to complete it by a particular date, you are expecting, in the 2 years normally you can control, that you are going to get an awful lot in the ground. When you get past those two years, infla- tion tends to take off on you. What causes more concern than anything else is your ability to really estimate what it is going to be. What is reasonable? I would think, Mr. Chairman, we have, this year, cut our expend- itures from what we had originally planned to spend. If there is not a continued improvement as we have seen in the last few months, we will cut our expenditures further next year and really just go into a holding pattern. Mr. RUNNELS. Thank you. You state that you think that under the free enterprise system that you should be allowed to earn a fair and reasonble rate of return on your investment. Do you have an off-the-cuff estimate of what you think is a fair and reasonable return on your stockhold- ers' investment? Mr. PIERCE. Before anybody ever thought of the incentive rate of return, Mr. Chairman, we had agreed with Northwest Alaska that we would build the pipeline if we got a 16 percent rate of return to PAGENO="0014" 8 equity, or the same return, the highest return as was earned by any other pipeline in Canada in similar circumstancess. Now there are not any other pipelines in Canada in similar circumstances. The evidence before you shows that this will be a very unique thing. But I think I can assure you, Mr. Chairman, that we would expect to earn a higher return on this system with the risks involved than we do on the normal systems that we have been running for the last 20 years, and that are in place with all kinds of loop. And I should say this as well, historically in Canada the rate of return to equity has been higher than it has been in the United States, essentially because money in Canada costs more. We will be appearing before the National Energy Board again this week and we will be saying to the National Energy Board through professional witnesses, one of whom is well-respected in the United States, that if we were to be compensated on a compa- rable basis to the other pipelines in Canada, the minimum rate of return we would earn on this project would be 16 percent to equity. Mr. RUNNELS. Thank you. Mr. Clausen. Mr. CLAUSEN. Mr. Chairman, I ask unanimous consent that all members of the subcommittee be permitted to submit questions to the witness because I am sure there will be follow-on questions that will help us develop the kind of record we would like to have. Mr. RUNNELS. Hearing no objection, it is so ordered. Some of you people who are standing around the room might like to come up and sit next to us. Feel free to do so. Mr. CLAUSEN. Yes. Off the record. [Discussion off the record.] Mr. CLAUSEN. It is interesting to note the line of questioning that our chairman has directed to you because I made some similar notes on your testimony that I was going to ask. I wonder if you would elaborate a little more specifically on the point that you made that this increase has been caused primarily by regulatory and legislative delays in the United States? Could you be a little bit more specific on the kind of regulatory and legislative delays that you are talking about? Mr. PIERCE. Congressman, a great deal of this is set out in other material that will be before you. But for instance, the incentive rate of return system is something that people have been grappling with for the last 14 or 16 months. We are still grappling with it in Canada. Until you know the basis upon which you are going to earn a return, you can hardly go to somebody and say invest, because as we all realize, pipelines being regulated, you do not invest for speculative purposes. The day of the capital gain on a pipeline stock tended to disappear when it was regulated because regulations are not put there to give you more but to give you less. So that is a situation that has been setting for a very long time. One of the other situations has been the design of the system. Although our system design has been approved and the certificates essentially given, subject to the final engineering, the Northwest Alaska System has just been in the last month, last 2 months that there `has been a decision as `to the size of .the pipeline and the pressure. PAGENO="0015" 9 I understand, for instance, that the question of the alinement of the system is yet to be determined. Our system is basically alined in Canada. We know we are going to have to change the alinement but that happens in the normal pipeline construction. I understand the question of exactly where the pipeline is going to be in Alaska still remains to be determined, generally. But you cannot complete your designs or do those things until they are in place. The question of congressional passing, someone told me the other day it is almost a year now since the Natural Gas Pricing Act was passed, whatever it is called down there; it was a matter that was causing substantial concern in respect once again of financing be- cause we did not know whether or not the gas was rolled in. We did not know what the price of the gas was. Now it may well have been that those things could not have been achieved any sooner. But if they had been achieved sooner, if all of them were achieved, including tracking things like that, we would be a lot further ahead than we are today. Mr. CLAUSEN. I think this is an extremely important question and, under the unanimous consent that has been granted to us, I would like to have you, if you could, prepare for the record a more specific list of the kinds of regulatory and/or legislative inhibiting factors that have had an impact on your efforts. Quite frankly, it would be interesting, to have a list that applies to the United States, and also a comparative list that would apply to the Canadian legislative and/or regulatory requirements. If we have that on the record it will set the stage for us to follow through and see whether some of these regulatory requirements are indeed nuisance or necessary. Mr. PIERCE. I would be pleased to do. that. Mr. CLAUSEN. It would be very helpful. Mr. PIERCE. I take it our counsel could work with the commit- tee's counsel. Mr. CLAUSEN. Right. It will take some time but I think it is important for us to have this on the record for us to peruse and evaluate. Mr. PIERCE. Fine. In this respect, I might mention one of the concerns we have is that under the Canadian-United States agree- ment we are not responsible, when it comes to what our return will be on an incentive basis, for delays that relate to the U.S. Govern- ment, its agencies or U.S. shippers. The problem we have under the agreement, Mr. Chairman, is that those are matters which will be negotiated without us present between both levels of government following the completion of the system, and if they do not agree it will go to international arbitra- tion. I am afraid if you are going to invest substantial dollars in 1980 that you are not really prepared to sit back until 1984 to find out what your return is going to be. Mr. CLAUSEN. Along those lines, I have one more question: To your knowledge, is there anything in the way of a line of communi- cation between the United States Federal Energy Regulatory Com- mission and the Canadian National Energy Board? Mr. PIERCE. A lack of communication or a line of communica- tion? PAGENO="0016" 10 Mr. CLAUSEN. Is there a line of communication or is there a lack of communication? Mr. PIERCE. I do not know whether there is a lack of communica- tion, but there is a line of communication and of course it is provided for in the agreements between the two countries, if their regulatory agency will communicate. I have not seen any indica- tion that there is any lack of communication. Mr. CLAUSEN. We would appreciate your keeping us advised of what your perception of that communication is as we go along. Mitchell Sharp of the Northern Pipeline Agency, which I believe is equivalent to our Federal inspector, recently stated that Can- ada's National Energy Board may not grant export licenses for Alberta gas through the proposed prebuilt United States section until financing for the entire project is approved. Do you agree with that statement or would you comment on his statement? Is that an accurate statement? Mr. PIERCE. Congressman, it may have been what Mr. Sharp said; I believe what he is referring to is condition 12 of the condi- tions of the certificates that we hold. Condition 12, which is appended to our Northern Pipeline Act, states that the companies shall, before the commencement of con- struction, file with the Minister of Documents relating to financing of the pipeline-but I think essentially the part he is talking about is the second end of the section-and establish to the satisfaction of the Minister, that is the Minister responsible for the Northern Pipeline Agency, which is presently the president of the Canadian Privy Council, Mr. Baker, and to the satisfaction of the National Energy Board that: One, financing has been obtained for the pipeline, and I would say this, that since this is a Federal act of the Government of Canada, when they talk about the pipeline it is the pipeline in Canada, because I think that is how it is defined in the act. Two, protection has been obtained against risk of noncompletion of the pipeline and interruption of construction on a basis accept- able to the Minister and the board. So it seems that the key matter is that whatever is required must be to the satisfaction of the Board and the Minister. And on that basis, although I think Mr. Sharp is the Deputy Minister, I do not think Mr. Sharp today can determine what will be necessary to satisfy the Minister that the project is proceeding. Mr. CLAUSEN. Do you think it would be helpful if we tried to obtain from him a clarification of that statement? Mr. PIERCE. It would be helpful I would think at this time but, having said that, I think all it means in the end is that a nonelect- ed official has indicated what he thinks an elected official will require. Mr. CLAUSEN. On page 4, and this will be my final question for the moment, you allude to action by the Canadian Parliament on the Northern Pipeline Act. What are the names of the specific Canadian Parliament committees which were actually involved? If you do not have that you can submit it for the record? Mr. PIERCE. We can submit it. I think in the end there was a Northern Pipeline Committee, but we will submit it for the record. PAGENO="0017" 11 Mr. CLAUSEN. Fine. Thank you, Mr. Chairman. Mr. RUNNELS. Thank you. Mr. Williams. Mr. WILLIAMS. Thank you, Mr. Chairman. Mr. Pierce, I think all of us are concerned about delays due to legislation or regulation, which cause slowdowns in needed energy construction projects. I do not know if we talked much about the fact that perhaps somewhere there is some legislation or some regulation which may assist construction projects such as yours. I am wondering, if you know of any legislation or regulation that has assisted you in either the design, location, geotechnical studies which you are doing. Would you share that with the committee? Mr. PIERCE. Congressman, the Northern Pipeline Agency was set up for that purpose. It was set up for the purpose of assuring that certain public interests were taken care of but, on the other hand, it was there for the expedition of the project. The proof will be in the eating. And I would say to you that at this stage our relations with the Northern Pipeline Agency are satisfactory. At the time the project has been completed, I think we will be in a position to tell you better as to whether or not it is of real assistance. Mr. WILLIAMS. On pages 7 and 8 you mention assurances that the investment will be recovered in the event the project is not completed because of problems occurring in the United States. What form of assurances do you expect for the recovery of expend- ed funds should noncompletion be caused by the United States? And what do you mean, caused by the United States? Mr. PIERCE. I would think that we started out on this project on the basis of an agreement between our two countries, which said that the project would be expedited for completion in January 1983. It is now apparent that the project will not be completed by January 1983. As to what assurances we will need as we go down the line, I am unable to tell you, but I think we have less confidence in words, whether it be in an agreement by our two governments than we have on what we see in relation to expedition of the project. And we are more skeptical today than we were in the beginning, at the time the agreement was approved by both legislatures; what we know now, we would not have $125 million in the project. We would have something in the project but not that much money. So what is required in the future? I guess that will be deter- mined by what happens over the reasonable future. We think that the Federal inspector has been a very positive thing, but we expect- ed the Federal inspector a couple of years ago. Quite frankly, we were being asked by our American colleagues, get your Parliament going, or they are going to get that act in place, what is holding them up? Eventually the Parliament passed it, passed the act, put in place an agency, an agency in Canada which is for the purpose of providing the one window and establishing quick means of com- munication and, by the way, which we as the pipeline operators pay for. So we already have that that we are paying for, those Government servants put on the payroll to expedite this pipeline. So I am not sure what the assurances are, but certainly we are going to have to be absolutely satisfied that-and the financiers are 57-087 0 - 80 - 2 PAGENO="0018" 12 too-that before much more substantial amounts of money are put in, one, that the project is going to proceed; two, that the project is capable of being financed. We believe the Canadian portion is, but there is no sense in financing the Canadian portion in Canada if all you are going to build is a pipeline in Canada that has nothing going into it or coming out of it. This is something our people are now studying. Over the next few months, depending on the kind of progress we see, the assurances may vary up or down. I guess we are at the point now that we take an awful lot less for granted than we did before, Congressman. Mr. WILLIAMS. I agree. It is a pretty serious matter that you are addressing here. It would seem to me to be appropriate to define just what those assurances are. If we know what the goal is, we will know whether or not we have reached it. Mr. PIERCE. Tracking certainly. The people who invest are pre- pared to take their own risks but, in taking their own risks, have to be assured that the cost they have incurred can be passed on in a way that is clear and legally unquestionable-and tracking is a most important matter in that respect. Mr. WILLIAMS. Thank you, Mr. Chairman. Mr. RUNNELS. Mr. Young. Mr. YOUNG. Mr. Chairman, I would like at this time to submit an opening statement to the committee for the record. Is it permissible? Mr. RUNNELS. That is. Mr. YOUNG. Mr. Chairman and fellow colleagues, I think there is one factor that we are overlooking and that is the fact of the State of Alaska. We have heard a great deal from the Foothills represen- tation, of course, and we will hear from Northwest and from the Federal Government and also from the State. I have read the testimony of the gentleman before us and that of future witnesses, and it seems of little interest to the role the State will play. I think it has to be recognized by this committee and by those people involved, the Federal Government, the participants of the pipeline, Foothills and Northwest, that it is very, very impor- tant to the State of Alaska that this construction starts, but with the understanding there is an interfacing that we have the capabil- ity of utilizing our gas, our "State of Alaska's" gas within the State. We also should recognize that without our one-eighth gas there is little chance of this line being built. Those may be strong words, butT think everyone should be very much aware of them. We are a little sort of like the mouse that roared; we have members on this committee who participated in the taking of the lands away from Alaska which belonged to us under our constitutional rights. Now we note an insensitivity to taking of our oil and gas from the State. I will remind this committee that there is really only one owner of that oil, it is not the oil companies or the gas companies, it is the State of Alaska. Under our constitution we sold the oil, but we control the flow of the oil and the gas. Mr. RUNNELS. The one-eighth? Mr. YOUNG. For the total field because we control the flow, that means we control the flow of oil and gas. PAGENO="0019" 13 I want to get that out in the open because there is great concern in my State that again we are being ignored, shunted aside; those from gas-producing States, though I see in this committee few oil- producing States, I think they have the same feeling. This is not only a national project, it is a State project. I have only one question for this gentleman who just testified. It is, you have made the statement there is not going to be any financing for your portion of the line if there is not a tracked system, and yet I have been through Canada, I have seen the work that is being done, you are far ahead, there is alinement of the pipeline already in place, test holds have been drilled extensively, clearing has been done in some areas, you are much further ahead than we are. I will compliment you on your statement. I think it has been held back by this Congress and this Government of ours. But you are also building the line very close to the proximity of about 27 trillion cubic feet of gas which I believe belongs to part of your consortium. Can this line be started and finished on your side and utilized to deliver gas from that field to the United States? Mr. PIERCE. The main gas production in Canada today of course is in the Province of Alberta. Province of Alberta would cover somewhere in the neighborhood of about 800 miles of pipe. The Canadian system totals 2,000 miles of pipe. So I guess cate- gorically the answer would be "No." Mr. YOUNG. There is no design work in transporting Canadian Alberta gas in this pipeline once it is built? Mr. PIERCE. The work that is going on in relation to the prebuilt system is for the purpose of transmitting Canadian export gas in the early years to get the system in. But that system we would anticipate on the western leg would go from the southwestern part of British Columbia on the U.S. border up to Calgary; it would be a 36-inch system. On the eastern leg it would go from Calgary to Monchy, Mont., in a 42-inch line. So that essentially the major construction of the prebuilt-and the prebuilt occurs in the lower 48, with a combination of northern border system and whatever system is put on the western legislation. And yes, our design, we are shooting to make deliveries on the western leg in the fall of 1980, if the necessary regulatory appro- vals are available, and to make deliveries by November 1981 on the eastern leg through the northern border. Our design work is a long way ahead, our alinement is a long way ahead, and in some ways the right-of-way is there. Mr. YOUNG. One further thing is the question of pressurization of the line. When the line enters Canada now from Alaska, it is proposed by FERC a 1,200-pound test line. What is the test that you foresee as it goes into Canada and where will we lose the pressure of that line or will we lose any pressure at all? Mr. PIERCE. As a matter of fact, I think as the system is present- ly designed, and I should leave this to engineers, when the gas comes out of Canada we boost it up to 1,440 to go into the northern border. Mr. YOUNG. You do boost it up? Mr. PIERCE. Sure. That is essentially that that pressure is main- tained from Alaska until you get to the Canadian side of Monchy PAGENO="0020" 14 and then you move it up to provide better economics for Alaska again through the northern border. Mr. YOUNG. In your design is there any proposal for extracting wet gases out of the Alaskan gases delivered to Canada? Mr. PIERCE. No, sir, it is not, that is not our gas to extract. Mr. YOUNG. Thank you. Mr. RUNNELS. Thank you. Mr. Santini. Mr. SANTINI. Mr. Pierce, you have testified on pages 3 and 4 about your understandable concerns on delay and then you just briefly, responded in terms of Foothills' efforts, that you feel in some phases in our endeavor at this time you are ahead. Where do you feel Foothills is at in terms of complying with its own calendar projections? Mr. PIERCE. We think, Mr. Chairman, that we can still make a November 1984 delivery. Mr. SANTINI. So you are on schedule in balance? Mr. PIERCE. In balance we are at a position that we have cut back, you do not get burned twice the same way, you know, but we are still in a position that we have the resources we believe that we can gear you to meet that date. Mr. SANTINI. You have also testified in response to questions from one of the members of the committee that you lamented- that was not your word, I will probably regret it-the fact that the Federal inspector had not been on the scene sometime earlier. I believe you indicated 2 years ago it would have been helpful. When you made inquiries as to the reasons for the delay in getting the Federal inspector there, what answers or explanations were you. offered? Mr. PIERCE. I cannot really recall but if I had to guess it would be the same kind of reasons that we use in Canada when some- thing does not happen. It is the Government's fault. Mr. YOUNG. Will the gentleman yield? Just for the record, the Federal inspector they are referring to is the U.S. inspector. Mr. SANTINI. I am aware of that. Mr. YOUNG. Is this Federal inspector today on line and in. the field? Mr. SANTINI. That was my understanding of Mr. Pierce's testimony. Mr. PIERCE. He has been appointed. Mr. SANTINI. He has been identified? Mr. PIERCE. As I understand it, he is one of the witnesses appear- ing before you. Mr. RUNNELS. That is correct. He will be the first witness tomorrow. Mr. YOUNG. Then we will find out where he really is. I am curious. Mr. SANTINI. I am shocked our Government has been responsible for the delay. I cannot believe that, but-the whole committee has been shocked to near silence. I am concerned about another matter discussed with our chair- man in the past. That is a bottom line concern with regard to your phase of the project. Those of us in the lower 48 have some sensi- PAGENO="0021" 15 tivity to it and the upper one has some sensitivity to it. What are the legal possibilities as you understand them today for discrimina- tory taxation by the Provinces on your leg of the pipeline? Mr. PIERCE. As I understand them, Congressman, none. There is the treaty which exists between our two countries which says there will be no discriminatory treatments. As we understand it, this pipeline cannot be treated any differently than any other pipeline in Canada. As a matter of fact, I would think in that respect, since it relates to an agreement between our two countries, if one is to assume there is ever discrimination that Government levies on its citizens, I would think there would be less discrimination on this pipeline. Mr. SANTINJ. That is good to hear. Mr. PIERCE. Now that is not to say that the governments of the Provinces will not grind their best taxes. Mr. SANTINI. We all deal with and are aware of governmental tax efforts, Mr. Pierce, whether Canada or the United States, whether local or Federal. How are you going to handle the problem that you shared with us this morning, concerning your cost overruns? Where are you going to get that money for the cost overruns? Has that been worked out yet? Mr. PIERCE. I suppose that assumes there will be a cost overrun. Mr. SANTINI. The Federal Government is involved, Mr. Pierce? Mr. PIERCE. That does not necessarily have to follow. We were talking about other agencies which were set up for the purpose of helping. And I said to you that I believe the Northern Pipeline Agency was set up for that purpose. The proof will be in the eating. When we talk about overrun, we have been involved in projects not as complicated as this, but in the so-called inflationary years we were involved togehter with a number of other companies in putting together a large project which totaled $1.5 billion United States, in 1975 dollars. It was completed this year under budget. So you know the overrun to be, quite frankly, in that case we provided financing for the overrun to the extent of 25 percent. I am sorry to have to tell you that we are going to have to give some of the money back to the lenders. What really bothers me about that money is that it was 8.25 percent money. Mr. SANTINI. An encouraging glimmer on a rather dark horizon. Thank you. Mr. RUNNELS. Thank you. Mr. Lagomarsino. Mr. LAGOMARSINO. Thank you, Mr. Chairman. Mr. Pierce, the discussion this morning has been mainly on the Government delays. Are there any other problems you think that could delay the project, assuming you can get the-big assump- tion-the legislative and regulatory decisions made that you want made and in the proper timely fashion? Mr. PIERCE. There are always the normal construction risks that delay a project. I think it is fair to say this project is probably more researched than anything else. Essentially we believe if you got the environmental and the regulatory out of the way, it is essentially a pipeline. And it is a pipeline using basic technology. It has a big pipe and it has a lot of money, but it is a pipeline and we have been building pipelines for many, many years. PAGENO="0022" 16 On the other hand, it seems that man can always invent ways to delay and can never seem to invent ways tO expedite. So what else can delay it? I guess, Congressman, if you could guarantee that Government would only act reasonable and that the people who work for it would not take the position of safety, which is the no-impact posi- tion, and on that basis I do not guess any of us would still be here. I am not even sure whether or not the Indians would have been allowed to ride a horse across the prairie, because everything we do has an impact. There are inherent problems in any kind of a construction proj- ect. You can research it, but you cannot dig a hole every inch of the way to find out what is down there. Periodically, even in building a building, you are going to find a great big boulder and you can be in the middle of the prairie where there are not any other boulders and you are going to have to blow it up and it is going to delay the building. I am not an engineer, but I believe we have as good engineers as exist anywhere in the world. We believe the construction side of the project can be handled in normal fashion. We know there are going to be people looking over our shoulders all the time. We have had a lot of it up until now. We are not really sure how much that has cost us. But I would bet, on the basis of productivity, our people spend almost as much time making reports, sitting in meetings with various agencies, as they do doing anything productive. What are the delays going on? The normal construction delays. The project I just described is a project which included a 1,700-mile pipeline from Fort Saskatchewan north of Edmonton to Ohio, across all kinds of States, some of which had no eminent domain. It was completed in budget and included five extraction plants, two or three derivative chemical plants, world scale ethylene plant, and essentially the overall project was completed in budget and on time. So it can be done. But there are other projects that are delayed. We do not believe that there is a question of construction, the Olympic Village or the Olympic Stadium in Montreal; we believe there are an awful lot of lessons we have all learned, hopefully, on both sides of the table, from the TAPS pipeline. Mr. LAGOMARSINO. I take it you do not foresee any problem with the availability of supplies. Mr. PIERCE. Not at this stage. As a matter of fact, we put our pipe orders up some time ago and we have recently called tenders on the prebuilt system and we expect we can get the deliveries, and the prices are essentially within those we have estimated~ The one thing I must say to you quite frankly is, today there are two things I will not try to estimate: One, what is the cost of money going to be, in either your country or mine, over the next 6 months, or what is the inflationary rate going to be? I do not feel badly about this because there seem to be an awful lot of people who are trying to deal with the situation who are not prepared to give any statements. Mr. RUNNELS. Thank you. Mr. Udall, chairman of the full com- mittee. PAGENO="0023" 17 The CHAIRMAN. Thank you, Mr. Chairman. I appreciate your holding these very important hearings and I will try to participate as much as I can. The only thing I wanted to comment on now was our ability to learn the lessons of the past. This committee is involved, as will be the whole Congress this month, in trying to crank up and write a piece of fast track legislation, to speed up major energy projects here in the United States. I was thinking myself how well this ties in with what we are discussing here today because essentially we built a fast track for the Alaska pipeline. In the judicial-legislative history the staff notes that in 1976 we set up the structure for making a decision quickly. By 1977 it was all done, action in both countries, action in Congress, everything was done. But I think this suggests that we can move, that we can make decisions. But I am discouraged that we get into this many fast-track disputes. It seems more and more like society has become so complex, so divided, so many interests at stake that every prov- ince, every special group can find some reason to go to court, some reason to ask for delay, to ask for information, more studies, and so on. One of the real tests of our country's ability to work with its neighbor and make decisions is whether or not this pipeline is built. It ought to be built, it should be ahead of where we are now. If you and the other witnesses can tell me what we should have learned from all of this, what lessons for general fast-track efforts, I would be very grateful. I am not sure that I am prepared to draw any specific lessons. Do you have any thought, any advice to the American Congress about what we might do to expedite major energy decisions? Mr. CLAUSEN. As a Congress. Mr. PIERCE. Congressman, I certainly have lots of advice for our Canadian Parliamentarians and I think it is proper for me to have the advice. I guess I would not have any advice for you other than the fact that my wife and I often talk about budget and we often put them together but really, in my experience, whether or not the budget turns out is not how you put it together but how you make sure that it is adhered to and that you move forward. Our resolution is always great but somehow you have to see that action comes and maybe that is what is tending to be wrong with our system. I am not sure that if Columbus and Isabella were alive today in North America that they would have been able to get him off the ground to discover the country. And it is interesting to think back in those days that she was both, I suppose, the person who could authorize it and who could take whatever steps were necessary to kick him off the shore of Spain. The CHAIRMAN. That may be putting an analogy on that happy note. Mr. RUNNELS. Thank you, Mr. Chairman. Thank you Mr. Pierce for coming here today. We appreciate your testimony and we will have some written questions to submit to you. Mr. PIERCE. Thank you. [Questions submitted to Robert Pierce, with responses, may be found in the appendix. See table of contents for page number.] PAGENO="0024" 18 Mr. RUNNELS. Our next witness will be Mr. John McMillian, chairman and chief executive officer with Northwest Energy Co., Northwest Pipeline Corp., and Northwest Alaskan Pipeline Co. Welcome to our subcommittee. We appreciate your being here today. [Prepared statements of John G. McMillian, Mark J. Millard, and Frank P. Moolin may be found in the appendix.] PANEL CONSISTING OF JOHN G. McMILLIAN, CHAIRMAN AND CHIEF EXECUTIVE OFFICER, NORTHWEST ENERGY CO., NORTHWEST PIPELINE CORP., NORTHWEST ALASKAN PIPE- LINE CO., AND CHAIRMAN OF THE BOARD OF PARTNERS OF THE TRANSPORTATION CO.; MARK J. MILLARD, CHAIRMAN AND SENIOR MANAGING DIRECTOR, LOEB RHOADES SHEAR- SON; AND FRANK P. MOOLIN, JR., PRESIDENT, FRANK MOOLIN & ASSOCIATES, AND FORMER SENIOR PROJECT MANAGER FOR THE PIPELINE PORTION OF THE TRANS- ALASKA PIPELINE PROJECT Mr. McMILLIAN. I would rather summarize the statement. I have two gentlemen with me, Mr. Mark Millard, our chief financial adviser, and Mr. Frank Moolin. Mr. RUNNELS. They may come to the table. Mr. MCMILLIAN. Mr. Chairman, before I summarize my state- ment, I would like to say something. We have a very good working relationship with our Canadian partners. We have made many decisions just over the telephone. I have complete confidence in what they say and do. I think it is a mutual working relationship. As Dizzy Dean said, "If you can do it, you ain't bragging." If you will look at their history in pipeline construction, they have constructed over 700 miles per year in Alberta, so their construction record is very good, and we feel very confident about them and their ability to finance the project. With me today, is Mr. Millard, chairman and senior managing director of the Loeb Rhoades Shearson; Mr. Millard has been in- volved in the financing of four major interstate transmission lines that now exist in our country and has had many years of pipeline experience. We also have Mr. Moolin, of Frank Moolin & Associates. He was the man responsible for the pipeline construction of the TAPS system. The reason that Mr. Moolin is here is to bring forth the compari- sons and differences between the two systems, and to talk about the problems that we will be facing and that TAPS faced, how the projects do differ, and why we feel confident that our project can be done. There have been several events since September 1977, which indicate our increasing need for the Alaskan gas. There has been no increase in the U.S. annual natural gas supply. The gas reserves continue an 8-year downward trend to 200 trillion cubic feet or a reserve life index of 10 years. The total gas reserve additions in 1978 were 11 trillion cubic feet compared with 26 trillion cubic feet available in Prudhoe Bay. We look at the Alaskan gas system not only to take the gas from PAGENO="0025" 19 Prudhoe Bay but from the North Slope of Alaska. We believe there is two to three times more gas yet to be discovered in the Prudhoe Bay area. There has only been one major gas discovery in the United States and that is in the overthrust area in the West, but basically most of the discoveries in the United States have been small scale discoveries. As we all know, OPEC oil increased from $12.70 a barrel when the project was first approved until today, when it is a floating figure, hard to pin down, but we do know that British Petroleum did announce they bought spot market oil for $35 a barrel. We do know that new oil in the United States is going for up to $30 a barrel. The cost of this energy and the need for the energy source from Prudhoe Bay, I think, is well known to this committee, so I will not dwell upon that. I would like to mention to the committee a few of the positive things that have happened since we were here last and then talk about some of the other things. One positive development that has taken place since the project was approved is passage of the Natural Gas Policy Act. This al- lowed an energy program to be set forth for our country. It also established a field price for the natural gas from Prudhoe Bay, Alaska, and allowed us to roll in the pricing of this Prudhoe Bay gas with the lower 48 gas thus insuring its marketability. The President's limited reorganization plan was presented to Congress and approved and the Federal inspector, Mr. Jack Rhett, is now onboard. We think it is a good selection. He has visited Alaska and all of the major companies dealing with the project. He is positive in his approach. He is firm, but we think he knows big projects and he knows the problems of working with Government and the different Government agencies, and we are very pleased with this man and have great hopes for him. We have developed two partnerships, and they are strong part- nerships, that I think are worth mentioning. We now have six major natural gas transmission companies in the project. Those companies are Northwest Energy Co., Northern Natural Gas Co., United Gas Pipe Line Co., Panhandle Eastern Pipeline Co., Pacific Lighting Development Co., and Pacific Gas and Electric Co.; the last two companies are from California. This is a strong partnership and we have spent some $100 to $130 million in preplanning, preengineering work. We are planning to increase these expenditures. The other thing that has happened is that the oil and gas compa- nies have finally executed gas contracts for their gas in Prudhoe Bay, and there are an additional four other transmission compa- nies that we hope will join the project very shortly. We will spend some $400 million in preengineering and development work before our final certificate is approved, and we will spend some $600 million before we lay our first joint of pipe in the ground. These expenditures are at the risk of the natural gas transmis- sion companies in the project; and we think it's unfair for some other companies to have contracted for gas in the Prudhoe Bay field and not join the project. PAGENO="0026" 20 They have their right, because we are in effect a common carrier and they can sit back and not join the project and allow the rest of the companies to do this and then come in at the last moment, and we think that is unfair. We are working with these companies and hope we can negotiate with them in a positive manner to join the project. We have had some very recent decisions from various regulatory agencies. FERC has finally issued the incentive rate of return decision; and we think that this decision is a good decision that we can live with and we are now assured that this decision with its tariff structure will allow us to put together a financing package to go to the financial market for the first time. The pipeline size and pressure that Mr. Pierce referred to has just been recently approved, so we now know that we are dealing with a 48-inch 1,260-pound pressure system and we can proceed with our engineering work on that basis. The conditioning plant costs have been determined by FERC, and made is the responsibility of the oil-producing companies, and we think that this is flexible if the oil companies participate in the financing of the project. We hope so, and we are working with the oil companies as required by the Presidential decision and approved by Congress, that the beneficiaries of the Prudhoe Bay gas sales should partici- pate in the financing of the project, and we have had several meetings with the oil companies. We understand they are meeting with the Government and we plan to continue working with them. The DOT has recently issued a provisional alinement approval giving us a basis to start doing our detailed engineering, geotechni- cal and environmental work along the route, and we are working with the DOT, to start the detailed mile-by-mile, foot-by-foot type of engineering that is required. We have acquired the basic geotechnical data from Alyeska and acquired the camps in agreement with them, so we think that these are the positive things that are happening. We think there are still some critical items to resolve. We need more equity participants in the project and we need the producer support for financing or we cannot finance the project privately. We need definitive financing commitments; and Mr. Millard will speak to that. We also need approval of our actual cost and expend- itures to date by FERC. We need the tracking approval by FERC that Mr. Pierce men- tioned. This mechanism governs charges for the cost of service from Alaska through Canada and the Lower 48 and is put in place so all the participants will be secure in how they recover their funds. We need the pipeline stipulations from the Department of Interi- or and FERC to be approved. This is the legal basis on which we are required to build the pipeline. As for the project schedule and costs, our project can still be completed in what we call the 1984-85 winter heating season or in November of 1984. This depends on several factors. It depends upon the oil produc- ers completing the conditioning plant on the same schedule. It depends upon no changes in pipe size or in pressure. It depends PAGENO="0027" 21 upon the producer's financial support this year in order to go to the lenders in the first quarter of next year. It means an early resolution from the DOT in rerouting and technical issues in late 1979 or very early 1980. We need a final FERC certificate by January 1, 1981. As to the costs of the project, the capital costs are now estimated for the 730-mile Alaskan por- tion, with AFUDC dollars, at $6 billion; about $6 billion, or slightly less than $6 billion for the Canadian section; and for the Lower 48, $3 billion, for a total of $15 billion. All in escalated dollars. The original costs, without AFUDC have escalated and changed, as I mentioned in my written report from $3 billion in the original estimate compared to $5 billion that we have today. This gives us the cost of service for the transportation of gas for 1984 of approximately $5 per million Btu in 1978 dollars. In 1990 this cost of service would decline to $3.50; the year 2000, the cost would go to $2. The question of private financing has been widely publicized, and we could not go to the financial markets with a definitive absolute request for private financing until the two issues, the incentive rate of return and the tariff issues had been settled. We now are going forward with the private financing, and Mr. Millard will speak to that. The CHAIRMAN. I just have one quick question, and I do have to go to make another commitment. The President's decision stated that the beneficiaries identified as the producers in the State of Alaska should share or participate in the financing of the project. What can you tell me about that, or have they agreed to? Mr. MCMILLIAN. No, sir; they have not agreed to. We are work- ing with them, we feel in a positive manner. Now, we have had several meetings with the oil companies involved, Exxon, Arco, Sohio, BP. We met with those companies ourselves and our Govern- ment. When I say our Government, I refer to Secretary Schlesinger and the Department of Energy. They feel that they had very posi- tive meetings with them, and so we are working with them but we do not have a commitment. We need a commitment by the end of this year to meet our schedules. The CHAIRMAN. Has Mr. Don Young been cooperative and help- ful? Mr. MCMILLIAN. He has been a very cooperative young man. The State of Alaska has not been cooperative in the financing of the project, and I had to report to the President I had some serious doubts that they would be. I had a meeting with the Governor, and it was a positive meeting and he said he is going to get a committee together and get our financial advisers together, and we are trying to work out a way. Mr. YOUNG. Will the gentleman yield to me? My name was mentioned? The CHAIRMAN. I did not mean to start a rally. Mr. YOUNG. There is a great concern in the State of Alaska. I have urged the State to participate in the financing of this line because I think it protects our interest. We are recognized for our share of gas which is within the President's Directive, that we have PAGENO="0028" 22 the right to utilize that gas and there has been some reluctance on the part of FERC to allow us to, and that decision was unwise, because it leaves us no alternative to be less cooperative with the Federal Energy Regulatory Commission than as cooperative as we had been before. Mr. CLAUSEN. Will the gentleman yield? You have touched on a point that needs some elaboration, Mr. McMillian. When you say the State of Alaska has been a little less than cooperative, is it the Governor? Is it the legislature or some com- mittees in the legislature? Can we get that kind of information so we know what we are dealing with? Mr. MCMILLIAN. Yes, sir; I would be glad to comment on that now, because it was not the Governor. The Governor, Jay Ham- mond, is a Republican Governor, a good Governor. We like him, and we have been able to get along fine together. The problem has not really been with the Governor. We think that in the senate, some members have been fairly responsive and some members have been supportive of the State. The house is another question. It is mainly, I think, that we always hear, we cannot get this through the house. In talking to the house members we always hear, well, we do not want to go first. We try to explain they will not be going first but we do need some kind of commitment from them. But the main point, I would say, of delay is the house rather than either the senate or the Governor's office. Mr. CLAUSEN. I will follow up later. The CHAIRMAN. Thank you, Mr. Chairman. Mr. RUNNELS. Thank you, Mr. Chairman. Go ahead, Mr. McMillian. Mr. MCMILLIAN. When you look at the financing of the project, you must break the project down to its incremental parts. We look at Alaska as one part and the Canadian portion as another; and Mr. Pierce has spoken to that project. We have confidence in our Canadian partners they will be able to construct this on time and on budget, and be able to finance this in their own traditional ways. We have the western leg, and we have two very strong California partners there; PG & E and Pacific Lighting. PG & E will build this on their own system, and since they are the world's largest utility, it is kind of like loose pocket change. They can build it on the existing balance sheet. In the eastern leg, there are four companies within that group officially today. They are Northern Natural, ourselves, Northern Energy, United Gas, and Panhandle Eastern. These are four good transmission companies, and we believe that the approximately $1.4 billion project can be financed by these companies themselves, but we have an additional company to that portion of the project, and that is Trans-Canada, a large Canadian transmission company which will join Northern Border for a respectable interest of ap- proximately 30 percent. This not only strengthens the partnership, but I think insures that Canadian exports, pre-Alaskan delivery exports, as brought PAGENO="0029" 23 forth by the National Energy Board in their decision could be brought in through the Northern Border pipeline. I would like to stress right now the importance of the prebuilding of the Northern Border pipeline, of the concept that we have proposed or really that the Canadian Government came up with. This would allow us to use surplus Canadian gas that is now available. We have applied for an export license for a 12-year period. We hope this is approved. If it is not approved, Trans- Canada agrees to step up to the table and give us certain arrange- ments that we think that the project could be financed with, if shorter exports licenses are obtained. But by having them as a partner we think that it will give us the opportunity to continue the Canadian exports which makes the overall Alaskan project more economical. Another question was asked about the building of facilities in Canada for Canadian gas. There is a 56-inch loop in Canada, and this line is designed to bring their frontier gas to the Canadian markets when need be, and we also think this is another positive decision that was made by both our Governments, because it not only allows Alaskan frontier gas to be brought to our markets, but also allows frontier Canadian gas to be brought to United States markets. We feel that when you break the entire system down into the four parts they become much more realistic and manageable and controllable. The toughest section we have is through Alaska, and that is 40 percent of our total cost, and that is because of the climatic condi- tions and the other difficulties that we may experience in Alaska. Mr. Moolin will touch upon this. We think that the TAPS experience and our amount of planning and preengineering work has given us an acceptable construction risk basis to finance the project and construct the project on time and within budget. We believe in the project. We believe that the project is necessary, and we believe the project in these times and conditions will displace from 600,000 to 700,000 barrels of OPEC oil, depending on Canadian exports and the final volumes of gas deliv- ered from Prudhoe Bay. We have devoted our time and energy to this project and contin- ue to do so. We appreciate this committee's interest in this project. We think it is important. We know that there will be other hearings, and we would like to extend to the committee sometime the opportunity to visit the State of Alaska and look at the system, look at the route and look at some of the problems that we will be discussing in the future. We think once we both have looked at these possible areas of concern, that there might be less concern and at least a better opportunity to discuss these with you, so we would like to offer and extend that invitation to the committee, hoping that we can do that. If it pleases the chairman, you may ask me questions now or let Mr. Millard and Mr. Moolin finish and ask us all questions. Mr. RUNNELS. We thank you for your invitation. We have been to Alaska and we only go when it is warm. PAGENO="0030" 24 We are running a little late, and I will do the best I can to speed up the process of the subcommittee. I know you have two col- leagues that have statements. May we have some questions and answers of you at this time, Mr. McMillian? Mr. MCMILLIAN. Please. Mr. RUNNELS. I thank you for a very comprehensive report to this subcommittee. Does this pipeline and this system have anything to do in a competitive manner with the Mexican pipeline that we heard about today? Mr. MCMILLIAN. No, sir; we do not think so. We do not think that the surplus Canadian gas or the Mexican gas is competitive with Alaska gas for a lot of reasons. One is that what you are looking at is a domestic supply of gas that is very badly needed, and we think in the time frames that we are talking about, 1984 and 1985, and with only a 10-year reserve life index for the entire natural gas industry, you are going to need all of the volumes of gas you can get from Mexico and Canada and Alaska, so we do not see that they are competitive. Mr. RUNNELS. Has anything been worked out in the way of a pricing schedule? Did you mention something about $5 per thou- sand cubic feet of gas? Mr. MCMILLIAN. Total of cost of service. Mr. RUNNELS. Did I understand you to say your price estimates have escalated from $3 billion to $6 billion? Mr. MCMILLIAN. Yes, sir. Mr. RUNNELS. Overall this project is estimated to cost $15 billion at this time? Mr. MCMILLIAN. Yes, sir. Mr. RUNNELS. There are several things that I think are holding up this pipeline. As I remember, we started back in 1976 when Congress passed the Transportation Act. That was 3 years of delay. Then in 1977, the President reached his decision and this decision was reviewed by Congress. That was 1 more year. You have mentioned that the appointing of the Federal inspector has had a lot to do with overcoming some of these obstacles. Is this correct? Mr. MCMILLIAN. Yes, sir; we believe it was a very positive move and a good one. Mr. RUNNELS. You say in your report that over 80 percent of the gas in the Prudhoe Bay field has been committed to 11 major natural gas companies. What has happened to the other 20 percent? Mr. MCMILLIAN. The other 20 percent, of course, 12½ percent of that is the State's royalty gas. Mr. Young suggests we cannot build the line without State support. We submit that they cannot use the gas until the line is built. So, 12½ percent of that is the State of Alaska's gas, and the rest belongs to major oil producers and companies such as Standard of California, Mobil, Phillips, 2 to 4 percent; but the majority of the gas has been contracted for with the transmission companies. Mr. RUNNELS. The companies that have purchased that 80 per- cent, have they joined in the financing of this pipeline? PAGENO="0031" 25 Mr. MCMILLIAN. No, sir; they have not. It has been quite a concern to all of us in the project, because we are spending around $4 million a month on engineering work and geotechnical work and planning. The two companies that have had the gas for the longest are Columbia Gas and American Natural Resources, and we have invit- ed them to join. We have sent them letters, and copies of the letters are in my testimony. There have been two recent contracts for Arco's gas, with transmission that is Texas Eastern and Texas Gas. We contacted both ot those companies and hopefully they will join. In the initial comments from American Natural Resources and Columbia Gas, they wonder whether it could be financed pri- vately, and they would like to see further governmental action before they join. We say to them, that is fine. We are going to get these things done. We need your help now, and we need your assistance now. If you had questions, why did you contract for the gas, because you knew these problems were before us then. We are encouraging these people to join. If they do not we are going to have to come back to you and ask that the Alaska Natural Gas Transmission Act might be modified, because we think it is unfair for a majority of the industry to have to bear portions of the developmental costs of this project, which keep rising and the others not to bear their part. We are encouraging them to come in and we are waiving a penalty fee that FERC established on late-comers and trying to get them to come in, and I will keep the committee apprised of this, but it is a concern to us. Mr. RUNNELS. Let me make sure I understand what you just said. Did you say your company is spending about $4 million per month? Mr. MCMILLIAN. Our group of companies, our six companies are spending $4 million a month. Mr. RUNNELS. Mr. Pierce just testified that his group had already spent some $140 million. Is this included in the $4 million? Mr. MCMILLIAN. No, sir; we are talking about two separate amounts in both Canada and Alaska. This does not include the eastern leg. Mr. RUNNELS. The Sohio pipeline project comes to mind. We held hearings in California repeatedly. We worked on the Sohio project for years trying to untangle a situation that everybody agreed was a good idea. We need a southern leg and a northern leg to move oil across the United States. I know what happened with the Sohio pipeline proposal. After $40 million of stockholders' moneys had been spent and log jams and delays and so forth by the State of California and the Federal Government, Sohio finally threw their hands up and said, "Forget it". They abandoned the project. Here America sits with no oil pipeline. I am amazed that people will sign contracts to contract for gas and then not join in the project, because their contract is not worth the paper it is written on if they do not have a delivery system. PAGENO="0032" 26 Mr. MCMILLIAN. Yes, sir, under the act we are in effect a common carrier. Mr. RUNNELS. Yes; I realize that. Mr. MCMILLIAN. They can transport their gas through our system without putting in a penny. Mr. RUNNELS. You have got to build it. Mr. McMILLIAN. If we do not build it it is not any good to them. Mr. RUNNELS. Under present law nobody else can come in here and advocate building a pipeline, can they? Mr. MCMILLIAN. No, sir. Mr. RUNNELS. Here you sit with a piece of paper and authority for you and your group to build a pipeline on this side; over here on this side there are some people who own the gas, and they are not joining in the project. So in the meantime, stockholders in Canada and stockholders here in America are spending tremendous amounts of money, and nothing is developing. Is this correct? Mr. MCMILLIAN. That is correct. Mr. RUNNELS. Does the fast track legislation affect anything or does this have to do strictly with trying to get people to join the project? Mr. MCMILLIAN. The biggest detriment to the project's progress, was getting the energy bill in place in a timely manner. We thought that would take 3 months. It took a little over 1 year longer. There were a lot of uncertainties, so there was reluctance to go forward by some parties until that happened. The second most detrimental thing to the project was the incen- tive rate of return decisions. When it first came out, it was a very negative report; and once you read that you had to grit your teeth to really go foward. But we did, and we worked with FERC, about a 17-month effort in all, but we got that worked out and so that is done. We have other things that we have to do like a tracking method and working with various governmental agencies and the stipula- tions and the things that I mentioned to you that we must also resolve in a timely manner. The transmission companies are saying let us get a little farther down the road and show us this and show us that, and then they will look at joining, so we were on the verge of really coming to the President and Congress asking for a waiver of the Natural Gas Act because of the delay on the incentive rate of return. That is behind us now. If there is a fast track method we encourage that, and if there is a 17-month delay, or 1-year delay, in a process that need not be when it has clearly been defined in the Nation's best interests, which this project has, by the President and by Congress, then if there is a method for quicker decisions on the fast track method, we need that. Of course, we think we have some advantage over some of the fast track bills that we have seen, but we would like to see a bill or a method similar to what is being proposed. Mr. RUNNELS. Is the steel for this pipeline available in America? Mr. McMILLIAN. We are talking to the U.S steel people. There is one steel mill in the United States that can make 48-inch pipe. The PAGENO="0033" 27 steel that we require is a very tough steel, a very pure steel, very highly specialized steel. There is some question in our metallurgists' minds whether we can really produce this steel but we are working with the American producers trying to do it. It is a common steel that is used in Russia, and it is produced in Japan, Germany, Italy, France; but we hope that the U.S. plants and the mills can produce pipe of this quality. Mr. RUNNELS. Thank you. May I ask you what is being done with the natural gas at this time? Mr. MCMILLIAN. It is being reinjected into the reservoir. They do use some gas for fuel to reinject it. There is a cost, reinjection cost that is substantial; but it is not being wasted. Mr. YOUNG. Will the gentleman yield? Mr. RUNNELS. Yes. Mr. YOUNG. That is State law. We do not have any flaring of gas. Mr. RUNNELS. I am happy to hear that they are not flaring it and warming the air up there. Thank you. Mr. Clausen? Mr. CLAUSEN. Thank you, Mr. McMillian, for a very constructive and comprehensive statement. We have had you before the committee on numerous occasions, and I have always had respect for the fact that you tell it like it is without any wavering or equivocating, and I want you to know we appreciate the amount of time and effort that you have put into this. If you were standing on the floor of the House as a Member of Congress to address the so-called fast track legislation that is now pending with a recommendation from the administration for an energy mobilization board, would you be for it or against it on the basis of your experience? Mr. MCMILLIAN. I would be for it very much. It is a very good, strong bill. Mr. CLAUSEN. I am going to try to do some tracking myself on the experiences that took place with the Sohio people. It was unbelievable that we could have that kind of delay and I am just wondering if there are relevant factors that occurred in the Sohio problem area to the Alaska natural gas transportation system ob- jective here that we are seeking. Are there comparable factors? Mr. MCMILLIAN. We did not have the State of California. We had the State of Alaska. We have a good working relationship with the pipeline people and the officials in Alaska. Yes, I can give you a chronological development or nondevelopment of events. I can give you that in writing. I cannot repeat it right now because it is too detailed and com- plex, but if you wish I will be glad to furnish it to you with an explanation of each item and each problem. [In response to Mr. Clausen's inquiry, Mr. McMillian subsequent- ly furnished the information requested in a letter dated November 6, 1979, to Chairman Runnels. That letter may be found in the appendix. See table of contents for page number.] 57-087 0 - 80 - 3 PAGENO="0034" 28 Mr. CLAUSEN. Yes; I think it would be extremely helpful. I asked the previous witness to do something along those same lines. I think one of the important efforts that we are attempting to ac- complish here is to gather the data, the facts as they are or have been, so that we can use that as a basis of information upon which to communicate with State and Federal agencies that are involved. We need to have a factual record, and this would be extremely helpful on the basis of experience and not on the basis of theory. Mr. McMILLIAN. I wish you would look at Mr. Pierce's compari- son very carefully. He was very kind to us in what he said, the way they have their governmental interface and relations set up. They have made decisions, not months but sometimes years ahead of us, and I think it is not a bad process. I know that, compared with us. Mr. CLAUSEN. On page 2 you refer to section 9 of the Alaskan Natural Gas Transportation Act and state that Congress directed Federal permits should be expedited and given priority considera- tion. Of course, this is correct. However, in your opinion, has the executive branch actually followed this congressional mandate? Mr. McMILLIAN. I guess there was an unexpected delay in the reorganization bill that was to create the Office of the Federal Inspector. I think that that is the main one that I was thinking about. We also had a delay, as I mentioned before, of the energy bill approval. During the uncertainty about an energy bill, rigor mortis almost set in within our industry about development of large projects, not knowing where they were really going to go, or whether they were really going to be financed. The energy bill was another; the reorganization bill was another, but our main hurdle was the incentive rate of return. Mr. CLAUSEN. Should the Alaskan project be included in fast track legislation, or if needed, should we simply amend existing legislation, if we conclude that our Government is not moving fast enough? Mr. MCMILLIAN. I will tell you what we are concerned about on the fast track bill that you have. We would like to see a strong fast track bill, an effective bill that would really be fast track. We are concerned, in comparison with some of the bills, that some of the judicial review processes that we have in our Alaska natural gas bill are better than some of the ones we see. What we would like to ask you for is the best of both. We would like to say that we have some good traits in our bill, but if there is something that does not allow us to expedite deci- sions, then we would like to be included for those particular traits in the fast track bill, and I think in the Senate, Senator Stevens from Alaska did introduce an amendment along those lines that we think, if it can be agreed upon, is a very good amendment. Mr. CLAUSEN. On the basis of your own experience, what do you think the communication between the Federal Energy Regulatory Commission and the National Energy Board has been? Do you think it has been adequate? Mr. McMILLIAN. The National Energy Board, I know, has been involved; their contact has been Jeff Edge. Their point of contact PAGENO="0035" 29 with FERC was Don Smith, and he has recently resigned. I do not know who their contact is now. I think it is the chairman. I know they have regular meetings, and I know that they discuss things. I think they have a working relationship, but how effective it is, since we are not in these meetings, we do not know. Some of their decisions favor Canadians, and sometimes we are not always happy with some of their decisions, and sometimes they are not always happy with some of our decisions. I do know that they talk together and communicate, and I do know there was a great deal of mutual respect between Jeff Edge, the Canadian representative and our Commissioner. Mr. CLAUSEN. Do you think it would be helpful for those of us in this committee that are going to be involved in monitoring the progress on that particular project for us to meet with our own parliamentary peers of our respective committees and the Canadi- an Government so that we can mutually discuss what kinds of problems they are having to address, so we do not have to reinvent the wheel in both c~ountries? Mr. MCMILLIAN. Very much so, and unlike our system here, most of the National Energy Board, decisions do have to go to Parlia- ment or Cabinet, so it is very important for you to understand the Canadian point of view and they to understand yours, and I would encourage that very much. They do have hearings such as you are having today, and even an exchange of witnesses between the two countries to get an exchange of views on national policy would be positive, and I would encourage it. Mr. CLAUSEN. As you know, and this will be my final point, some of us have been monitoring the disposition of the Alaskan oil and came to realize the number of problems that were evolving. Once we pass a law we anticipate that certain things are going to occur, but that just is not happening, so we have had a continuing monitor- ing role. I think the time has come for the people in this country to recognize, like it or not, with the energy demands that are here and the kinds of geopolitical influences and pressures that are occurring every place in the world, that they have to put a very high priority on the development of an adequate, safe, and secure and very functional distribution network between Canada, the United States, and Mexico. Am I overly concerned or underconcerned or on the right track? Mr. MCMILLIAN. If anything, you are underconcerned. This is underway, and I agree with you we need this energy exchange; and I could not agree with that statement more. Mr. CLAUSEN. I am concerned because of what I perceive to be a level of vulnerability. Underlying all of this is a need for an as- sured energy supply and self-sufficiency, and we do not seem to have people who are adequately concerned about this in positions of influence. I want to develop the most factual record possible to go to the American public and let them know in no uncertain terms that this committee is trying to develop the facts. Mr. SANTINI. Mr. McMillian, as temporary chairman, it is my turn to welcome you. PAGENO="0036" 30 I think we ought to put you on part-time status around here. I am sure there are other preoccupations that might not make that possible. Are you on your timetable? Mr. MCMILLIAN. Not our original timetable. Mr. SANTINI. How much are you behind? Mr. MCMILLIAN. In the original testimony that we had during the hearings, our target date for completion was January 1 of 1983. We believe if events had transpired we could have met that sched- ule; but now we are looking at a schedule of 1984, 1985, so we are off our original schedule. Mr. SANTINI. So you are somewhere between 1 and 2 years behind at this point? Mr. McMILUAN. Yes, sir. Mr. SANTINI. When will your financial cost estimate be ready? Mr. McMILLIAN. We will have a definitive, not complete, finan- cial cost estimate of the project by the fourth quarter of this year, which we will then base our financing plan on with our financial advisors, and our financial plans will be complete by the fourth quarter of this year around December. Mr. SANTINI. Do you have any sense of when you will be going to the market? Mr. MCMILLIAN. Yes, sir; we plan to go to the market the first quarter of 1980. Mr. SANTINI. Thank you, Mr. McMillian. Thank you, Mr. Chairman. Mr. RUNNELS. Mr. Young? Mr. YOUNG. Mr. McMillian, let me say that the feelings are mutual as far as our respective personal roles in this endeavor. I think you have conducted yourself well, and there have been times when you have possibly offended those in Alaska because they do not understand your frustration. The State has in no way impeded the construction of this line other than the fact that they have been unable to help finance it. That is a problem of education. One thing you said that you are on track and you foresaw no real slowdowns under the act and under the fast track act pro- posed, but have you applied for any of the permits necessary for the construction of this line at this time, crossing of streams, all of that kind of stuff? Mr. MCMILLIAN. We have a constant approval or request process for permits. Now, the actual construction permits are right-of-way permits. No; we have not. Mr. YOUNG. Do you foresee any delay at the Federal level, for example with the U.S. Fish and Wildlife Service of the U.S. Park Service? Mr. MCMILLIAN. That is always a problem. We see two real problems from that standpoint, and one of them is the snow pad construction. This concerns us because we think this concept was thoroughly disproven and if we were mandated by Government to construct on such a method or mode of construction with snow pads with the uncertainty that it could bring forth, we are afraid that we would have to come back and ask for governmental funds to do those functions. PAGENO="0037" 31 Mr. YOUNG. Of course, my big interest and the interest of Alaska is the conditioning plant. Northwest has indicated repeatedly in Alaska that the company supports to the maximum extent feasible in-State use of the State's royalty share of Prudhoe Natural Gas. If in fact it does withdraw its one-eighth share of the gas at a point in Alaska, say Fairbanks, for in-State use, is Northwest designing its gasline to carry less gas from that takeoff point further south? Mr. MCMILLIAN. Our time considerations include those volumes of gas. Mr. YOUNG. Can a gasline designed to carry 100 percent of Prudhoe Bay production still operate efficiently and economically if the State withdraws its one-eighth royalty share for in-State use? Mr. MCMILLIAN. The initial design is 2.0, 2.4 cubic feet of gas per day. That can be expanded as more gas is available. We do have flexibility in our design to go to lower or higher volumes. Mr. YOUNG. If the company cannot economically or efficiently operate its gasline south of Fairbanks with seven-eights of the production stream, will Northwest oppose any State efforts to uti- lize its royalty gas within Alaska on the grounds it will jeopardize the economic viability of the project? Mr. MCMILLIAN. I did not get the last part of your question. Mr. YOUNG. If the State decides to use it, will Northwest oppose any State efforts to utilize its royalty gas within Alaska on the grounds it will jeopardize the economic viability on the project? Mr. MCMILLIAN. What are you going to do on the financing? Mr. YOUNG. That, we will get to in another question. Mr. McMILLIAN. I would like to work with the State of Alaska in optimizing their resources. Our decision has always been, that we are willing to work with you and will continue to try to work with you, but I think you can understand if we do not get a positive response our attitude would naturally change. Mr. RUNNELS. Would the gentleman yield at this time? Mr. YOUNG. Yes. Mr. RUNNELS. I keep hearing about Alaska helping to finance the project. You do not actually mean that Alaska would have to put out bundles of money to finance it, do you, Mr. McMillian? Mr. MCMILLIAN. That is what the Presidential order says, and that is what you approved in Congress and, yes, we expect them to do it. Mr. RUNNELS. As Don Young said, it does not say Alaska has to do it. It says they are encouraged to do it. Mr. YOUNG. I am sure Mr. McMillian is doing all he can. Mr. RUNNELS. Do they have bonding authority to do this in the State of Alaska? Mr. MCMILLIAN. We thought we did, but we kind of wonder now, and we have been working on it for 2 years, but they do have that authority. They could do it and raise revenue bonds. We put a proposal to the State of Alaska that we thought was probably the least onerous type of request that we could make, and we asked for $1 billion worth of tax-free bonds. The project would be the sole source of credit. Mr. RUNNELS. I thank the gentleman for yielding. What types of money are we talking about? PAGENO="0038" 32 Mr. MCMILLIAN. For 2 years we could not get this concept through and get anything done on this concept; and what I am saying, and I mentioned this to the Governor, if they have one- eighth of the gas and are going to use it intrastate, let us see them step up the table and pay one-eighth of the cost. Mr. YOUNG. And get one-eighth of the profit back, if they are going to finance the line. That is negotiable. I am sure we are working on that. This is a line of questioning really basically to get right down to it, and you know what it is and the committee should know what it is, it is where the conditioning plant should be located. That is what it is all about. I can tell you how to get that line financed real quickly if that conditioning plant is put in the proper place in the State. If it is put in Prudhoe Bay as suggested by FERC you will have all kinds of problems and so will FERC. Keep that in the back of your mind. Northwest is committed to delivery, I believe, under contract, a minimum number of Btu's, 1,100 Btu's per 1,000 feet of natural gas across the Alaskan border into Canada for further transmission to the lower 48. If the State withdraws all or part of its royalty gas for in-State use, will this action reduce the number of Btu's to below the level required by either contract, treaty or technical terms for that portion of the gas downstream of the Alaskan takeoff point? If you cannot answer that now you may get an engineer to answer it, too. Mr. MCMILLIAN. Do you mean if you withdraw certain liquid hydrocarbons from your gas stream, then how does that affect the Btu value of gas and will it affect it to below 1,100 Btu's? Mr. YOUNG. Does it affect a treaty or agreement or contract, as we have set it up now with Foothills and within the act itself? Mr. MCMILLIAN. Let me speak to this in general and see if I can answer your question. The Canadians made an early decision as to pipe diameter; on 48-inch pipe they chose 1,260 pounds, and it has been approved by our Government and the Canadian Government stated at that time given the state of the art of history, that for this diameter pipe under these kinds of conditions this was the state of the art that they felt comfortable with and did approve. So that means that when we go into the State of Alaska, we have 1,260-pound, 48-inch line. And they also negotiated between the two countries to build a 56-inch-diameter pipe where the Canadian gas can connect with the Alaska system. The amount of liquids that you can carry in a gas stream are a function of the pressure and temperature. What you are going to be looking at is at the lowest pressure that you are looking at in the entire transportation system, which is a 56-inch line in Canada and that is 1,100 pounds. We can reconstruct and it depends on the processing method that is chosen; but we can reconstruct this gas and process it so it has 1,150 Btu's. It depends on which liquids they wish to take from Fairbanks, and so on and so forth. I would like to speak to the processing plant. PAGENO="0039" 33 In my opinion, and I think in most other people's opinion, you would not be able to transport the gas from Prudhoe Bay to Fair- banks without a North Slope processing plant. You have to remove the water vapor from the gas stream, and the CO2. You have to remove the sulfur from the gas stream. You have to remove the heavier hydrocarbon C5's, plus you have to remove butanes and propanes because if you do not you have hydrates in your system. So there has to be some form of processing plant at the North Slope. That does not mean that a petrochemical complex cannot be built in Fairbanks. There is enough ethane in this gas stream at 2 billion cubic feet a day to build two world-size plants with the ethylene source of your petrochemicals. We have heard there is a world glut of ethylene and you want those other goodies. Well, to find those other goodies that you want, let us know what they are, and let us know what kind of petrochemical plant a responsible party wants to invest in. I think we can get you the liquid hydrocarbons that you want without endangering the Btu's. It might be 1,150 or 1,095, but the Btu will still be about what we projected. Mr. YOUNG. I know this is a complex issue and a lot of rumors are heard. I believe you know my interests and the Interior's interests and the State's interests: The main conditioning plant be established in the interior of Alaska. I am not an expert on what can be taken off and what should be taken off and what is market- able. I think that can be worked out. Our biggest fear is it will be established in Prudhoe which will take off some of the by-products to use for bunker fuel, and I think that will be a terrible disservice to the United States and, No. 2, it will go by Alaska in the lower 48 and there is going to be a large profit down there, and everybody says that is fine. Frankly, we do not care about the profit in Alaska anymore because the surplus of dollars, of funding moneys, created by the previous administration and this administration will be of little value. We need to broaden the economic base within the State of Alaska to establish some interfacing so we do not have the up-and- down process. That is what we are really driving for. If we can work together on this, and I am sure we will, we can solve a lot of your problems and this Nation's problems and cer- tainly a lot of Alaska's problems. Mr. MCMILLIAN. I know what you are saying. I think it is termi- nology when you say processing plant in Fairbanks. You cannot eliminate that much CO2 in the Fairbanks area. There are other environmental concerns you have to think of carefully. I think what you want is a petrochemical complex there. If you do have somebody to define whether they want ethylene or what type, we have enough ethylene in that stream for two world-size plants. Mr. YOUNG. Basically, in the designing you said you were going to spend $400 million in designing the line. Have you taken into consideration the utilization of the State gas, the off-stations on the line? Mr. MCMILLIAN. Yes. Mr. YOUNG. Good to hear that. PAGENO="0040" 34 There has been much discussion about pressurization of line, increasing the pressure from Prudhoe Bay to Fairbanks. Is that an engineering feasibility? Can you do that and lower the pressure at Fairbanks after the liquids are taken off? Mr. MCMILLIAN. A decision was made by the Canadian Govern- ment that operation of the system should be the state of the art. Our opinion is that once you go through a new technological break- through, talking about 48-inch-diameter pipe, and unknown costs of time, you go through a technological barrier. Most of the 48-inch systems are in 1,000 pounds but we are going 25 percent over. If you went to, say, 1,680-that was a popular pressure proposed at one time and was very controversial-you are going 68 percent beyond the known actual technology that we have. So we feel that to privately finance this we have to have some- thing that we know is reliable, so that we know that our cost estimates are going to be reliable when we design it and we know we can weld this thickness of pipe and other factors. Mr. YOUNG. May I finish with two questions? One is, you are saying you want the 1,680 that is unpressurized line and could possibly open it up to an environmental lawsuit? Mr. MCMILLIAN. It is not environmental so much. I think it is a technical problem to create reliability in cost estimates and the other factors that are involved, so it is more of a technological problem than environmental. Mr. YOUNG. On the bottom line, Northwest Pipeline Consortium will or would support a feasible petrochemical industry in the Fairbanks region if properly proposed to you? Mr. MCMILLIAN. If properly proposed and if it did not require an unusual or exotic technology, we would be glad to support it. Mr. YOUNG. That is good to hear. One last thing is, the comment you made about Mr. Rhett I think was well taken-the Federal inspector. I will ask him ques- tions. I hope you will be able to help as time goes by. There seems to be a tendency to underfund his office at this time. If you see any delaying factors as we go through, I hope you will contact this committee because one of the things we found out with TAPS, it was a whole mores of trying to work with the Federal agencies and getting things agreed to and passed and moving along. Mr. Chairman, I have some other questions for Mr. McMillian, but I will submit them to him. If he will answer them in writing, I will appreciate it. Mr. RUNNELS. Mr. Lagomarsino? Mr. LAGOMARSINO. Thank you, Mr. Chairman. I have just a couple of questions. Do I take it, Mr. McMillian, that your statement is really not that much different from Mr. Pierce's when you talk about the role of Government? You say in your statement that most of the obsta- cles have been removed when you talk about the Natural Gas Act, the appointment of the inspector and so on. Then you also have pointed out that the delay in those things has caused the delay in the scheduling from 1983 to 1984, hopefully. PAGENO="0041" 35 Are we talking about a half empty glass of water as compared to a half full glass of water? Mr. MCMILLIAN. I think that is right. We have these major hurdles behind us that require us to do things now to meet the time schedule. It gives us the freedom and flexibility to go ahead. We have to file for our certificate and we plan to do it the last of June, first of July, 1980. We would like to have that certificate processed in 6 months and I think it can be because the Federal inspector whom we work with has worked together with us on problems so that this should not attain the complexity of most certificates. So we hope when we reach that point that it will be expedited in a very efficient manner. Although we are over the hurdles, the governmental hurdles, there will be others we have to face in the future. That is why I was looking for the best of both worlds in your fast track. We feel the mechanism we have in effect here with the Federal inspector will allow us to go ahead, but in case something hap- pens--- Mr. LAGOMARSINO. I gather from what you were saying earlier the amendment Mr. Stevens got into the fast-track legislation would help take care of your problem? Mr. MCMILLIAN. Yes, it would give us the best of both worlds. Mr. LAGOMARSINO. I would take it one of the reasons you are having problems in getting additional investors is because of the uncertainty about the regulatory process as we go down the road? Mr. MCMILLIAN. That is part of the problem. Mr. LAGOMARSINO. Thank you. Mr. RUNNELS. Mr. McMillian, I want to congratulate you on your fine testimony. Now I know why you are chairman of the board and chief executive officer-because you certainly know your an- swers. You have two gentlemen with you and it is 1 minute before noon. Which one would like to present his testimony at this time? Mr. MCMILLIAN. I would like Mr. Millard first. Mr. Moolin is going to go into more of the problems actually to be faced and might require more time. So I would suggest Mr. Millard go ahead at this time. Mr. RUNNELS. You are the money man. Please go ahead. Mr. MILLARD. Thank you, Mr. Chairman. I think I have been identified by Mr. McMillian in his introduc- tory remarks, and in line with the chairman's admonition, I would like to say that as it frequently happens when you elaborate after Mr. McMillian, one has very little left to do when he has finished. I will only hit the high spots. Perhaps the most important thing which I can say to you gentle- men of the committee is that there is a great deal of conversation going on about the fact that there are difficulties, that there is a doubt, that there is uncertainty as to whether this pipeline can be privately financed. I think what all these commentators and critics overlook is the fact that the work on the financing in a true sense had not yet begun. It could not begin because there was no basis in law, in regulatory practice, or in important elements of the total mosaic of PAGENO="0042" 36 this financing which would have made serious negotiations with financial institutions possible. Until the passage of the Natural Gas Policy Act, until the deter- mination of the rate, until other equally important things, until the decision in the matter of the incentive rate of return, and until the appointment of the Federal inspector, there was no basis to negotiate with financial institutions. I think that the people who jump to the conclusion that some- thing which had not begun had failed, act a little bit like men who would permit the travesty of a very famous remark in this form: They are saying you have not been given the tools; have you finished the job? Now the great progress which has been made in the field of regulation in the last 9 months beginning with the passage of the Natural Gas Policy Act has brought us almost to the point where we can begin seriously negotiating with the financial institutions for the financing of this pipeline. But not quite. We are not quite there because the two matters remain which have been frequently mentioned this morning. The President's decision wisely stated that it is based on the expectation that the beneficiaries of this pipeline will participate meaningfully in its financing. I believe that I should testify to the fact that it was not North- west Alaskan who failed in trying to initiate this work at an early date. We have suffered sometimes disappointments and sometimes just an attitude which might be described as a lack of response. Now we have full understanding for some of the delays which we encountered on that score both with the oil companies and with the State of Alaska. They have their problems, too, some of which have been resolved in the last few months as ours have been resolved. But they also have profits, and while it is true that some of their profits are a cause of their problems, where the financing of the Alaskan pipeline is concerned that connection for opportuni- ty does not exist. I think it may be worth your while to see the order of magnitude of what we are talking about. I think for all the beneficiaries of the Alaska pipeline, meaning the oil companies and the State, on the pretax basis the daily cash flow today is on the order of $10 million. I believe that the expansion of crude oil production will increase this cash flow by an order of magnitude of 30 to 40 percent. But I also believe that the incorporation of the Prudhoe Bay gas into the natural gas supply of the Nation would lead to a further increase in the cash flow by the same order of about 30 or 40 percent. We are dealing, therefore, with very large numbers, and these numbers are important to us because they lay the foundation for what we consider-and we have reason to believe that the oil companies consider in the same sense-as a real basis for harmoni- ous cooperation between our project and the two beneficiaries in financing the pipeline through a massive presence of the beneficia- ries' capital in the investment cost of the line. I think it is fair to say, Mr: Chairman, that these base profits cannot be realized without the existence of the pipeline. That is PAGENO="0043" 37 obvious. But it is fair to say that it will be extremely difficult to finance the pipeline privately without that contribution. Congressman Clausen said at the beginning of this meeting this morning it feels almost like yesterday when the act was passed. If I may say so, these 3 years have been very long years. We, for the reasons which I stated, have been condemned to inaction. We are just at the point here we believe financial action can begin. Unfor- tunately, it is not only a matter of time lost. It is also a matter of ground lost. The facts of finance today are very different from those which existed in 1977. We are dealing with inflation, we are dealing with interest rates and with a rate of inflation unprec- edented in the history of the Nation. None of that has led us to jump to the easy conclusion of saying it is time to be done. We are just about, with confidence and determination, to test our belief that it can be done provided assistance in this operation which we need and which we think is justified from the point of view of the parties to whom we look will be there. I believe that the prebuilding of the Northern Border to which both Bob Pierce and John McMillian referred is an excellent exam- ple of the vigor and the inventiveness of the financial community when it can operate in the framework which makes it practical to try to accomplish a certain aim. I have real hope that the Northern Border will be operative even before ground day on the big system, and that means in a very short period of time. I also have confidence, and I would like to close by stating that, that when the project moves from being a conversation piece at the general bankers gathering supported or not supported by costs to the area of real hard work, the financial community will respond to it with the full awareness of the national priority which the importance of the Alaskan pipeline has today for the country. Thank you. Mr. RUNNELS. Thank you, Mr. Millard. I understand you are chairman and senior managing director of your firm; is that correct? Mr. MILLARD. That is correct. Mr. RUNNELS. And that you have acted for the financial advisor and have testified in this capacity before the Federal Power Com- mission and committees of the House and Senate. Mr. MILLARD. I have, sir. Mr. RUNNELS. You mentioned doubt and uncertainty on the part of those who are saying in a whisper that this pipeline cannot be financed by private individuals. You say they are overlooking one thing, that those in the financial community have not yet begun but are just poised to begin. Is that correct? Mr. MILLARD. That is correct. Mr. RUNNELS. Mr. Clausen said it only seemed like yesterday when the act was passed. Can you tell me what interest rates were when yesterday occurred, when the bill was passed? Mr. MILLARD. I meant to look it up yesterday but I did not. Speaking from memory, I will say the prime rate in 1977 was on the order of 8 percent and it is today 14½. PAGENO="0044" 38 Mr. RUNNELS. From 8 percent to 14½. Can your memory tell you what inflation was running at in 1977? Mr. MILLARD. Between 6 and 8 percent as against 12 to 14 today. Mr. RUNNELS. Thank you. We now have a timetable where Con- gress has acted, the President has acted, and now we are waiting on either States or oil companies or somebody to make these other commitments. Once these commitments are made, how long do you think it will take financial institutions to agree to fund this pipeline? Mr. MILLARD. I think it may be worth mentioning that the smallest part, if any, of the financing will be in the nature of a public sale. It will be in the nature of private placements with financial institutions here and maybe abroad. I think that without that in camera aspect of this financing it would take years and it would really be a self-defeating process because you need a commitment of the totality of the funds re- quired before you break ground. Given the fact that it will be a private placement, I hope that it could be completed essentially in a 6-month period. There will always, Mr. Chairman, be side aspects of the matter which have to be resolved as time progresses but I think the bulk of it, what is necessary in order to get started, can be done in 6 months. Mr. RUNNELS. Thank you, Mr. Millard. Mr. CLAUSEN. Mr. Millard, you clearly are recognized and re- spected as, if not the most knowledgeable financial advisor in the field, certainly very near the top, and I think you lend a high level of credibility to the hearing process that we are attempting to conduct, so we appreciate very much your taking the time to come down here today. Would you venture to guess or project what these scheduling costs are going to be, the money costs for the projects between now and 1984 in light of the history of inflation, and interest trends since 1976 that you alluded to earlier? Mr. MILLARD. Mr. Clausen, would you be equally satisfied with an answer which is slightly different from the question which you asked and which would be an answer to the question: What it would be if all of it were to be financed today or tomorrow or the day after. Mr. CLAUSEN. That is fine. Mr. MILLARD. I think we are dealing with a long-term interest rate of somewhere between 11 and 12½ percent. Mr. CLAUSEN. On this project? Mr. MILLARD. On this project. Mr. CLAUSEN. For the financing to complete it. Mr. MILLARD. That is right. Mr. CLAUSEN. Coming from you that has substance. As I under- stand, you have had a little experience in this field. Would you relate that experience to the committee on the basis of your back- ground. I understand that you have been involved in a few projects like this for how many years? Mr. MILLARD. I have been a partner of the predecessor firm of Loeb, Rhoades, Shearson since 1944 and associated with it since 1940, and I probably was the senior man on three or four large intrastate pipeline financing, to wit, the financing of Trunkline, PAGENO="0045" 39 the financing of Gulf Columbia and the financing of Trans-West- ern, all three pipelines which are financed as project financing, in other words, not depending on the credit of other parties. Mr. CLAUSEN. With your previous experience and knowing what we are faced with in this particular project, the magnitude of which appears to be somewhere in the range of $15 billion to $20 billion, does this not frighten you away from your willingness to coordinate the financial aspects of the project? Mr. MILLARD. Sir, it would be wrong and almost improper if one were to look at the $15 billion project without some degree of trepidation. We feel it. But what helps us a great deal is that we are justified in looking at it in what I might call a segmented way. There are really four projects from the point of view of the mechanics of financing. There are the two Lower 48 pipelines, the western leg and Northern Border; consider them as having been financed. There is Canada. Robert Pierce spoke with deep knowl- edge and with the confidence which has always been the hallmark of his company, about their ability to get the job done. True, some of that Canadian financing will overflow into the U.S. market because the U.S. capital market has always been a source of capital for Canada but it will be bolstered, underpinned and really firmly founded in huge financial resources which public and private institutions in Canada possess which are deeply inter- ested in this particular project. So we are left now with Alaska. Alaska, as we all know, has been price-tagged for the purposes of these discussions with $6 billion. We believe if we solve the problem of the regulatory environment and of our relations to the parties concerned, these $6 billion can be financed. Mr. CLAUSEN. References are made on page 5 of your testimony to the so-called financial agreement that you developed between the public and the private sectors of Canada. Would this be an invasion of privacy or are these public sector documents which could be made available to us so we could have the benefit of that kind of arrangement? What would be your response to providing that information? Mr. MILLARD. Mr. Clausen, I did not refer to any private docu- ments in contradistinction to public documents. I said that public and private sources of financing in - Canada would be available. Mr. CLAUSEN. So there is no formal agreement between the public and the private sector organizations? Mr. MILLARD. I am not aware of it. Mr. CLAUSEN. You place a very heavy emphasis on: A satisfactory financial agreement with the producers must precede serious con- versations with the financial institutions. Failure to obtain that agreement could jeopardize private financing. Could you elaborate on that? Mr. MILLARD. I think it can be done in simple words as follows: The world is aware of the importance of the economic contribution which the marketing of Alaskan gas would make to the well-being of the oil giants owning Alaskan gas, and I think it is also known by one and all that all the parties concerned, including these three companies, are very much interested in matters which concern the public welfare in the field of energy. PAGENO="0046" 40 A refusal by the oil companies to do their financial share, which can be measured in general terms remembering what they have done when it came to financing the movement of the crude oil, and the general development of the Prudhoe Bay field would perhaps be regarded as a vote of no confidence, especially since the very same parties are the ones who probably have maximum experience in the engineering technical and organizational problems which the construction of this pipeline must face. Mr. RUNNELS. Would the gentleman yield at that point? Mr. CLAUSEN. Yes. Mr. RUNNELS. Mr. Millard, on the Alaskan oil pipeline, who owns that pipeline? Mr. MILLARD. Three companies primarily. In addition to those, there are two or three smaller oil company participants. The larg- est owner is Standard Oil of Ohio controlled by British Petroleum. Atlantic Richfield and Exxon come next. I believe that amongst the three they own something on the order of 96 percent of the stock of TAPS. Mr. RUNNELS. Is the reluctance on the part of the oil companies and those who own the oil or gas in Prudhoe to join this system because they do not own the pipeline? Mr. MILLARD. Mr. Chairman, I find that this is a very difficult question to answer. It requires more knowledge of a hopefully logical and probably very complex attitude in oil company manage- ment with respect to the problem which you raise. If you go back in the history of the American oil industry you will find that the big oil companies have spent 20 years to get out of the natural gas business because they were afraid of regulation. Could it be possible that they want to get back into something which they dreaded so much in the past. One sometimes has the impression that they would welcome combining a higher participa- tion in earnings of the new system than just the ownership of bonds of that system would give them, and I do not believe that northwest Alaskan has ever said a clear-cut no to any such aspira- tions if they were supported by positive action justifying the proposal. Mr. RUNNELS. Thank you. Mr. CLAUSEN. I think for the moment that will suffice. Would you be willing to respond to follow-on questions that some of us on the committee might like to make after we have concluded our hearings? We would like to write to you and then have you respond in writing to some follow-on questions. Will that be agreeable to you, sir? Mr. MILLARD. I am always available to every member of this committee at any time. Mr. CLAUSEN. Thank you very much. I think your presentation has been very helpful. I gather from what you are saying that there is a need for something in the way of more of an equity on the part of the producers, an equity interest in this pipeline, than has now taken place. Mr. MILLARD. If I may, I would just like to say I am not saying at all I do not want to make up anybody's mind, including the oil companies, as to whether they should or want to have a manageri- al or a decisionmaking participation. If they are talking about PAGENO="0047" 41 remuneration for money, then the gas companies probably will listen to them with an open mind. Mr. CLAUSEN. Are you saying equity capital is needed? Mr. MILLARD. No, I am not saying that. That was asked by the chairman, whether they would want to have or whether I suggest- ed that they wanted to have something like an equity participa- tion. I answered that I have not quite said that but I think their willingness to invest might be encouraged if we can talk to them about the fair distribution of the earnings of this pipeline across the table. Mr. RUNNELS. I think it should be made clear that it is the President's decision that forbids the oil companies, which we have been talking about, from holding an equity position in this pipe- line. Mr. MILLARD. We are very much aware of that. Mr. RUNNELS. The members of the committee should understand that. Mr. MCMILLIAN. I think they are referring to equity in the light of and in the context of managerial control because there could be a very definite conflict between the producers and the gas trans- portation companies if they had managerial control of the project. There are many forms of equity. There can be preferred equity where they have no voting rights but have the same income rights as common equity. There are many ways this could be structured within the imagination of man. So we feel that the debt markets will give us our debt. We feel that the pipeline companies them- selves, with the help of public offerings, can get the equity. A real concern is the oil line heritage we were left with and the tremendous cost overruns that were experienced. We are living with that heritage every day. We have to explain that all the time. So what we are asking in our first concept proposal to them is a cost overrun pool of funds that the financial market would be comfortable enough with if there were enough funds for comple- tion. We think the debt market has enough funds there, we know with the public markets we can create equity as required. We would not mind talking to them about participating in higher earnings as Mr. Millard said, because we think it is fair. Mr. RUNNELS. Mr. Lagomarsino. Mr. LAGOMARSINO. I just want to say I very much appreciate your testimony. I think it is very helpful. You have laid it out so we get a better understanding of exactly what the real problems are. Hopefully, as these hearings develop, we can explore some of these things perhaps with you and with others to see if we can be of some assistance in working it out. Mr. MILLARD. May I thank you for your kind words and thank you in particular for your willingness to work with us. Mr. RUNNELS. Mr. Santini. Mr. SANTINI. No further questions, Mr. Chairman. Mr. RUNNELS. Mr. Weaver. Mr. WEAVER. Thank you, Mr. Chairman. When you say working with us, sir, do you anticipate a change in the law in any way? PAGENO="0048" 42 Mr. MILLARD. It is not quite my domain to think in legislative terms but this frequently occurs to members of my firm and mem- bers of Goldman Sachs and of Lehman Brothers, our financial advisers to the project. Certain things which appeared logical in 1976 are less appropriate under the conditions existing today and while no one wants to add to the legislative burdens in Congress, if these matters become very important, which is more than second- ary we will have to come to you and put them before you. Mr. WEAVER. What is the primary feature you are discussing now? Mr. MILLARD. I think most important now in the ANGTA legisla- tion is the wholesale provision that any shipper of gas can avail himself of the facilities of the system without contributing to its construction, organization, and to all the problems which we are seeing today. This had some meaning in 1976 for the simple reason it appeared that participation in the system would be at the premium value. As you know, participation in the construction of the system is a task which requires long days and nights in which you worry an awful lot about that. Mr. WEAVER. Are you asking also the possibility the oil compa- nies be allowed to have an equity share? Mr. MILLARD. No, sir. I would certainly not suggest that the oil companies, given their long record of a desire to stay out of all regulated industries, be allowed to participate in the managerial function, direct or indirect, in the Alaskan gas transportation system. I think that the word "equity," as Mr. McMillian suggested, is something which requires definition. We would not mind if they would participate in earnings beyond the limit of a simple bond interest. Mr. WEAVER. Are you asking in any way for any Federal Govern- ment assistance financially? Mr. MILLARD. I tried to make the point that although some of our well-wishers-and very many of our not-so-well-wishers-say we can do it without such assistance, we are steadfastly continuing in the difficult role of doing it without Federal assistance. Mr. WEAVER. I know in Mr. Millard's testimony-I have not had a chance to read Mr. McMillian's testimony-you say, "The ap- pointment of a Federal inspector dedicated to the success of the process was a great step forward. This will help speed the project," and, "The sponsors will receive speedy review and approval" of design changes on the job. I find that all very interesting. In light of that and other mat- ters, some environmental groups have suggested there be set up an oversight committee to watch over environmental considerations as the pipeline is constructed. Mr. McMillian, would you see any problem with an oversight committee watching to see that we were proceeding in a sound environmental manner? Mr. MCMILLIAN. No. We have a good working relationship. If it is the type of oversight that advises the Federal inspector, we think that could be very helpful and beneficial to the Federal inspector. We need an operators committee too. PAGENO="0049" 43 Mr. WEAVER. Thank you. Mr. RUNNELS. Thank you. The Chair would like to announce that we will recess for lunch and be back at 2 p.m. and start where we left off. Thank you very much. [Whereupon, at 12:40 p.m., the subcommittee recessed, to recon- vene at 2 p.m., the same day.] AFTER RECESS Mr. RUNNELS. The subcommittee will come to order. We will continue from where we were before we recessed for lunch. Mr. Frank Moolin, currently president of Frank Moolin and Associates, Fairbanks, Alaska is now our witness. You may summarize your 56-page statement, and then we will ask some questions. Mr. M00LIN. Thank you, Mr. Chairman. My comments are going to be brief, as you suggested. They are going to certainly synthesize from the written statement that I prepared and submitted to the subcommittee. I am going to shift gears now and move away from the fundamental program issues that were discussed by Mr. McMillian and the financial issues discussed by Mr. Millard. I am going to discuss what I refer to as the project issues. I am going to speak to four basic points. First, there are many similarities but there are also many differ- ences between the proposed gasline and the Alaska crudeline, but I think the subcommittee should recognize that with few exceptions both the similarities and the differences are such that the risks and the potential for cost increases the gasline is going to be exposed to are going to be considerably less than was the case for the crudeline. Second, today there is much more understanding about the proc- ess of building a large pipeline in Alaska. This is true not only from the technical point of view but certainly with regard to man- agement and the Government involvement. Third, the transporting chilled gas across permafrost is inherent- ly easier than transporting hot oil. And with several exceptions I believe that the technology required to do this is state of the art. Fourth, the crudeline was a pioneer project. It was built across a tremendous expansion of land with nothing in the way of support infrastructure and to a large extent the gasline is going to be able to take advantage of existing camps, roads, work pads, and so on. Finally, that a key to cost-effective completion of the pipeline is going to be the commitment of governmental agencies to maintain- ing a rigorous timetable for making decisions; that Government must recognize that many decisions are going to be made with less than perfect information, yet they are going to be informed deci- sions based on the best engineering advice that is available. It is not necessary to reinvent the wheel and relearn many of the lessons we have already learned from Alaska. I cannot emphasize too much to this subcommittee the importance of clear, concise and unequivocal decisions using what we learned from the construction of the crudeline and applying that to the construction of the gasline. 57-087 0 - 80 - 4 PAGENO="0050" 44 Recently there has been, and we are pleased to see, some im- provement in the decisionmaking process from Government and certainly with the assignment of the Federal Inspector we have confidence that Government recognizes the role that it plays and the very signal role that Government plays in affecting the costs and the schedule for the project. If I had to sum my entire testimony in a single statement, it would be that the gasline is a different line, the gasline is a different project, being built at a different time under different physical, social and environmental conditions, but it has a huge advantage because of the tremendous body of knowledge that was developed during the design and construction of the crudeline. My prepared testimony goes into 11 specific areas related to the construction of the crudeline and how the crudeline and gasline are similar or different, but right now I am going to limit my comments to only several of these. They are going to be limited to the infrastructure; second, to the physical scope of work; third, to some of the planning abilities now associated with the gasline, and fourth, the interface between Northwest and the various regulatory agencies. As far as infrastructure is concerned, the crudeline was a pio- neer project. The gasline is not going to be a pioneer project because much of the infrastructure that was required to build the gasline is already in place. The technical problems associated with the crudeline did create cost increases and delay but a very signifi- cant cause that also had serious ripple effects throughout the entire project was the total lack of infrastructure, infrastructure so frequently taken for granted in the lower 48. Infrastructure was almost totally lacking-and when we are talking about infrastructure we are talking about roads, communi- cations systems, camps, places for people to eat and sleep-was totally lacking. There were no roads north of Livengood-a 70-mile road had to be built to the Yukon River and a 360-mile road from Yukon River to Prudhoe Bay. In October of 1975 we had completed 40 percent of the crudeline. Until that time there was no vehicular access across the Yukon River. Today there is vehicular access all the way north of Fair- banks to Prudhoe Bay, including crossing the Yukon River. The gasline will not by any stretch of the imagination be subjected to the type of uncertainty and disruption that existed during the early phases of the crudeline. For Alyeska we built 19 pipeline camps; actually a total of 29 camps. were built to accommodate a peak work force of 15,000 people. These camps by and large exist today; Northwest has al- ready acquired many of them and intends to make use of them for their facilities. I do not want anyone to misunderstand me, to understand that the infrastructure existing in Alaska here today is akin to what is found in the lower 48 because it is not. But there have been significant improvements. The fact is, many of the concurrency problems, the pulling of one's self up by the bootstraps that Alaska had to go through, will to a large extent not exist on the gasline. I do have some concerns about the effective use of some of the infrastructure, however, because I hear comments from regulatory PAGENO="0051" 45 agencies that they may not permit the use of several of the Alaska camps such as the Prospect Creek and Gaibraith, primarily be- cause of small oil spills that occurred, not crude oil but fuel oil spills that occurred in the camps. I believe these problems have been remedied by Alaska. It still may be necessary for Northwest to take some further action to prevent the situations from developing again. But to require these camps to be moved, to be totally relocated, which has been advocated by some governmental officials, would in my opin- ion result in an unnecessary environmental impact and certainly unconscionable cost increases. There is nothing wrong with using these camps to build a gasline and I think that everything should be done both by Northwest and the Government agencies to con- centrate disturbances at existing camp locations, not create addi- tional problems by having to relocate these small cities, and the tens of millions of dollars associated with them. The second area I am going to speak to is the physical scope of work, to point out the basic differences between the crudeline and the gasline. I described the crudeline project; I would like to say the crudeline is a civil engineering project that happened to have a pipeline associated with it. I mentioned the 412 miles of road that had to be built, 137 miles of access roads, the fact there was about 93 million cubic yards of earth work required for the project, and even projects like the Fort Peck Dam only require about 100 million cubic yards of dirt. One of the concerns, certainly it is in the best interests of North- west to take advantage of much of the infrastructure, much of the work pad and the dirt work and the civil work already done by Alyeska. It is difficult to find suitable gravel locations, for instance, in the State of Alaska. Many people do not understand this. But gravel is a scarce commodity in the State of Alaska. Many of the best and least costly gravel sites were already mined by Alyeska for building the crudeline. Considerable costs were involved in the mining, hauling, placing and rehabilitating the material sites. I believe that the gasline should make maximum use of the work pad that was constructed for the crudeline. However, there are comments being made by various regulatory agencies that the gas- line alinement should deviate substantial distances from the crude- line. If that takes place, an entirely new work pad would have to be built. Directionally this would significantly increase the gravel requirements and only if there is substantial cost or schedule re- duction benefits should any such deviation like this be considered. I mentioned before a cold gasline is inherently simpler than a hot oil pipeline. One has to be careful to avoid tainting--and I use that in the best of possible sense-tainting the gasline with many of the overly conservative and costly approaches that were mandat- ed for crudeline construction. I recognize that the Alyeska work pad must be rehabilitated at certain locations, thickened, perhaps widened, extended in width, perhaps additional insulation placed under it so that the below- ground gasline can be placed about 80 feet from the centerline of the crudeline. In absolute terms, this is not a small amount of work; it is a significant amount of work but it is nevertheless orders of magnitude less than the effort that would be required if PAGENO="0052" 46 an entirely new work pad had to be constructed to build the gasline. Another element of the physical scope of work that I would like to make a comparison with is the aboveground pipeline system. The quantity of materials and the logistical support and the trans- portation and the construction that was required for the crudeline was immense compared with what is going to be required for the gasline because the crudeline required 423 miles of the pipeline to be placed aboveground. The gasline is planned to be in many respect a conventional pipeline. The gas is going to be chilled, it should not result in any thermal degradation of the permafrost. There should be few if any places where the gasline needs to be located above ground. The only exceptions should be river crossings and stream crossings. Many of the negative surprises that we experienced in building the aboveground crudeline, the upsetting situations, cadence breaks- cadence is the essence of cost-effective pipeline construction-are going to be considerably less for the gasline construction. Yet there continues to be a number of written statements from members of regulatory agencies indicating that it may be desirable to place substantial lengths of the gasline above ground. In my opinion, there is no reason for the gasline to be above ground and the design solutions that we had to use on the crude- line primarily because hot oil is being moved through that or you had or unstable materials are not applicable to the gasline. One final area that I should bring to your attention about the difference between the gasline and the crudeline construction is the fact that the gasline is planned to be totally buried, essentially totally buried for 741-mile length, whereas only 375 miles of the crudeline were buried. Using conventional ditching methods, including drilling and shooting much of the ditch, I do not expect unusual problems in ditching for the gasline. However, this statement is predicated upon being able to work from a normal gravel work pad to perform and support the ditching and subsequent pipelaying operations. In permafrost, ditching is going to be done when the ground is frozen. However, there are statements being made by members of regulatory agencies promoting the use of snow pads. Mr. McMillian referred to this earlier, promoting the use of snow pads, where you actually lay a road of snow in essence down on top of the perma- frost instead of gravel, proposing that the ditching for the pipeline be performed only in the wintertime working off these snow pads. The concept of trying to perform substantial ditching and then subsequent pipe-stringing and laying from a snow pad during the coldest seasons of the year is totally impractical because of two specific reasons: first, because much of the work would have to be done in the coldest and least productive time of the year, but second, and probably most importantly, because of the loss of flexi- bility. Working off a gravel pad gives a degree of flexibility that is impossible to obtain with a snow pad. Certainly that is true for construction of the gasline, but even more true for operation of the gasline when, if problems did exist-the settlement, for instance, it PAGENO="0053" 47 would be necessary to gain access to the line, there would be no gravel pad to get access alongside of the line. Regardless of the best and the most knowledgeable predictions that were made by the best experts that we could find about the working and weather conditions in Alaska, so-called abnormal con- ditions caused deterioration of the 6-mile-long snow pad that Alyeska built and required additional construction season to com- plete the work. If this happens to substantial lengths of the gasline, then I can say with considerable certainty that the schedule slip- page will occur and this will be equated into cost overruns. Just a few words about the planning abilities. Certainly for the crudeline there was little in the way of data base, little in the way of data about working in the Arctic. For the gasline this is not going to be the case. A substantial and even overwhelming data base was generated by Alyeska about work along with the crude- line. The data base probably includes the most comprehensive soil information that exists about any 800-mile-long stretch of ground in the world. However, a word of caution about this. That is one of the things that can be learned from the crudeline planning and construction, the fact that the number of options and the number of alternatives that are available cannot be kept open forever. There has to be a definitive plan of identifying options, eliminating options that are not cost effective and reducing the number of parallel pads that a project can be carried down. There is a tendency, what I identify as the Alyeska syndrome, to continue to study, explore and to find different questions that can be asked without making engineering judgments regarding the significance of these questions. This is devastating to the progress, morale and effectiveness of the project team. This can only be brought under control by firm direction from management, both from within Northwest and the Federal inspector's office. Finally, I conclude my oral statement by making a number of observations about the several recommendations that I think are essential that have to be taken by Northwest and the regulatory agencies. First, this is the participation, the acceptance and the commit- ment of agencies. I cannot express to you too strongly how much impact the Government has both on the cost and the schedule of this project, or will have on the cost and schedule of this project. During planning and~ design and early phases of the project, it is essential that the Government agencies participate, accept and, most importantly, commit themselves to identifying site and time- specific constraints. This level of involvement is necessary to come up with the detail that is required to build the project and to identify the scope of work and reduce to a minimum those situa- tions that are going to cause upsets in the field. Second, it is to keep the technological content state of the art. There is a tendency on the part of agencies to use the project as an opportunity to study exotic solutions to problems that may not exist. There are going to be strong pressures to try unique solutions to problems, and again there has to be firm management direction both within Northwest and by the governmental agencies to keep PAGENO="0054" 48 the project on course by keeping the technological content state of the art. Finally, and possibly most important, is that of change control. There has to be a recognition that the source of many of the changes that the project will experience, that is going to affect the cost and the schedule of the project and the quality of the project, will be one or more of the governmental regulatory agencies that have responsibility. I strongly recommend that a formal program be developed by senior Northwest and Government officials to contain change and to review, approve or disapprove, and document any change that significantly affects the cost, the schedule, or the quality of the project. Furthermore, Northwest and Government officials should commit themselves to basing their go/no-go decisions on the cost and benefits of proposed changes. Unless a high level containment and formal review of proposed changes is achieved, a myriad of changes is going to end up being built with considerable cost and schedule effects, without control of or even senior management knowledge that the changes are taking place. Mr. Chairman, that concludes my oral comments. I am convinced that the project can be cost-effectively completed by taking advantage of the lessons that we learned with Alyeska, and certainly some of the recent evidence that I have seen of Government participation, handing down some decisions, and the involvement of the Federal inspector is going to go a long way to that end. Thank you. Mr. RUNNELS. Mr. Young. Mr. YOUNG. Thank you, Mr. Chairman. Mr. Moolin, good statement. Two questions. Three or four times you referred. to agencies recommending moving certain camps, agencies recommending this. I would like to, Mr. Chairman, respectfully ask the witness to submit to this com- mittee the same request that Mr. Clausen asked for, for the com- parison where you see there can be potential bottlenecks, slowing down of this project. You referred to it three or four times. Mr. M00LIN. I will be glad to do that. I cannot tell you offhand. Mr. YOUNG. I think it would be helpful to this committee. One thing we do not want to get bogged down like you did, as you know well, you are well-versed with the TAPS project, was the constant, who is on first base?-one reason it went to $10 billion. There is no way Mr. McMillian or anybody else can control the cost of a project when you do not have control of the project. Hopefully that can be avoided and we should be notified ahead of time. The snow pads, if I understand your testimony correctly, you envision a line within the working area primarily of the TAPS line? Mr. M00LIN. Within the general corridor, yes, but not necessarily as close to the crude line as it could be. For instance, if the-- Mr. YOUNG. You say could be. Who has made that decision? Mr. M00LIN. I do not think the decision has been made yet. The Department of the Interior has come down with the decision that PAGENO="0055" 49 the basic location of the gas line will be about 60 feet minimum from the crude line, but there is considerable-that is a general statement-numerous site-specific locations where agencies are proposing moving the gas line a considerable distance away from the crude line. Mr. YOUNG. Do you have offhand, the agencies recommending that? Mr. M00LIN. No, sir, I do not, but again I will submit that with my supplemental testimony. Mr. YOUNG. It would be my feeling that the closer proximity with the safety factors that have been established with previous experience, that line should follow that pad, working facilities and corridor, as closely as possible to the TAPS line unless there is real good sound reason for it. Hopefully you can name those agencies so we can ask them to come down and appear before us. Mr. M00LIN. Yes, sir. Mr. YOUNG. On the snow pad, I happen to agree with you. I personally think it is the greatest grass-cutting project in the world, Mr. Chairman. It is like cutting grass. You have seen these make-work projects; you cut the grass and you say you are em- ployed; of course the grass grows back and you have to cut it again. It is a great way to put people to work; you never finish the job. Building a snow pad is similar-in the springtime it thaws out, there is no more snow pad-I am not sure they protect the environ- ment. Next year you build it all over again. It is a great way to build. Thank you. Mr. RUNNELS. Thank you. Mr. Lagomarsino. Mr. LAGOMARSINO. I do not have any questions. I just wanted to comment that although the witness skipped through his testimony very quickly, I have been reviewing some of the additional com- ments here and will read the whole thing. I think there is some very good material here that will be of help to the committee in making its evaluation. Mr. RUNNELS. Thank you. Did you state that you believe most of the gas pipe line will be underground? Mr. M00LIN. Yes, sir. Mr. RUNNELS. Would you state for the record why you say it should be underground rather than aboveground? Mr. M0OLIN. Yes, sir, it is very simple. Building aboveground pipeline is many times more expensive than building belowground pipeline. The TAPS crude line was placed aboveground only when it became necessary. It carries hot oil and whenever the pipeline would have to be placed in what is called thaw-unstable soils-in other words, the hot oil would cause the soil to thaw and settle excessively-the crude line would be placed aboveground. The gas line is going to be chilled, operate at below the freezing point of water. Mr. RUNNELS. Could you tell us how you are going to freeze or chill this line? Mr. M00LIN. The gas will be chilled at the compressor stations. So the gas in essence, technically the hurdles are a lot lower in moving cold gas than moving hot oil. PAGENO="0056" 50 Mr. RUNNELS. We are trying to get a little education as to the difference between gas and oil pipelines. Mr. MCMILLIAN. If the chairman pleases, I would like to com- ment. We are going to have about 26,000 horsepower at each compres- sor station for the compression of gas. Since it is a gas, it can be frozen and chilled and we are having 7,000 to 13,000 horsepower of refrigeration at each compressor station to chill the gas. So gas will be chilled at each compressor station to complete any degradation. But additional problems of putting the gas line aboveground-I know in your experiences you have watched a gas line blow-and if you have ever watched a gas line blow aboveground, it is an awesome experience. If you put that belowground where it is protected from sabotage, where it is firmly emplaced, you have an additional. safety factor putting it underground. Then in a real cold environment, such as we will be passsing through, when it gets to 60 below zero the heat exchange of the extra coldness created in that atmosphere above- ground will cause problems with liquids falling out and liquid slugs created in the line that cause operational problems. There are all kinds of reasons for us to be belowground. Mr. RUNNELS. Thank you. Mr. Moolin, what is the single most uncontrollable cost in build- ing a pipeline? Mr. M00LIN. In my experience the single most uncontrollable cost and yet unidentifiable costs are going to be the requirements of governmental agencies. Mr. RUNNELS. Requirements of Government agencies? Mr. M00LIN. Yes, sir. Mr. RUNNELS. You had a lot to do with the supervision of the TAPS pipeline. You were in on the planning and the construction. Can you tell me how in the world a pipeline system such as TAPS escalated from $900 million to $9.3 billion? Mr. M00LIN. I am glad you asked that question. That would require a lot more time than I am sure you are going to give me. But certainly the numbers thrown out in 1968 when oil was discovered at Prudhoe Bay by building a pipeline across Alaska, some offhand comment about an $800 million project, it was about a project talking about apples and oranges, comparing it with watermelons. The original concept in the minds of people that gave that number was digging the pipeline, placing a pipeline as you do in west Texas or east Texas; you take a ditch, you put the pipeline in the ditch, you take the stuff that you dug out of the ditch and dump it back around the pipeline. That is not the case. Actually, when you compare the cost increase, if you want to compare an apple with apple, apples with apples basis on the crude line you would have to be looking at a $5.3 billion project which was the first definitive estimate of the project, based on having about half the project aboveground. I have to say placing a pipeline aboveground varies anywhere from 4 to 7 to 10 times more expen- sive than placing a pipeline belowground. Mr. RUNNELS. Could the same thing happen with this gas line that happened with the oil pipeline? PAGENO="0057" 51 Mr. M00LIN. No, sir. I think people recognize many of the issues that impact the total cost of a program of this size. Some of the actions that have already been taken to get the definitive-to get a detailed definitive design prior to start of construction, No. 1, but second, getting the Federal inspector or involvement in the project at an early stage, these are going to go a long way to preventing overruns. For all the reasons I indicated, the lack of infrastructure Alyeska was subjected to, also remember it was talked about in 1968 and the project completed in 1977, sO the impact of inflation was cer- tainly substantial. But not only the impact of inflation, the cost of maintaining a large organization, keeping a large organization alive for an extended period of time in itself creates or contributes significantly to the total cost of a program. So to answer your question, the bottom line, I cannot see this $800 million to $7.8 billion type of increase occurring. There can be cost increases but certainly we understand how to control them now. Mr. RUNNELS. On page 9 of your statement, you say that in over 4 years and over 200 meetings with governmental representatives at all levels, you did not recall a single instance where a Govern- ment representative ever mentioned the cost effect of any particu- lar requirement or course of action recommended by the Govern- ment. What do you think is the real reason for this and was this ever brought to the attention of any congressional committee? Mr. M00LIN. I do not believe that Government ever perceived its role in the crude line project as being one to insure the most cost- effective construction of the line. Government perceived its role- and I think this was reported to the Congress in the GAO report to Congress about the completion of the crude line-I think the GAO report indicates that Government perceived its role as being one of insuring pipeline integrity and making sure that the environmen- tal stipulations were complied with. It did not in fact see its role one of controlling costs, although the stipulations, the agreement between Alyeska and the Government say that the parties shall balance environmental amenities and values with economic practi- calities and technical capabilities to be consistent with applicable national policies. Mr. RUNNELS. On page 16 you state that the Government has recommended that camps be relocated due to fuel oil leakage. What additional cost and what additional environmental impact or damage can be done by from moving these camps? Mr. MOOLIN. I do not know what the additional cost would be except it is certainly the multimillion-dollar range, less than $5 million but certainly more than $1 or $2. Certainly any time in Alaska you attempt to build a new camp at a new location, there is additional environmental impact than there would have been if you had continued using the same camp. Mr. RUNNELS. On page 30 you refer to the Alyeska syndrome whereby people continue to study, explore and continue to ask different questions without ever making engineering judgments regarding the significance of the questions that they ask. Is this trait particular to the Government agencies or is it present in the project companies? PAGENO="0058" 52 Mr. M00LIN. No, sir. It certainly is not present in the project companies. Certainly it is in the best interests of the companies that own or operate these pipelines that they be technically com- plete, that they be able to operate these pipelines. It is not in the best interest of anyone Owning these pipelines that there be trou- bles with the operation because obviously it affects the bottom line of the operation. The so-called Alyeska syndrome came about with Alyeska be- cause of a very large number of agencies interfacing, individually in some cases, but in many cases in an uncontrolled way and impacting or stipulating and applying conditions that had to be met by Alyeska. These were the additional studies that never seemed to be satisfied and questions that never seemed to be an- swered. Mr. RUNNELS. You further state that this can only be brought under control, by firm direction from Northwest management and from regulatory agencies. Do you think the structure of the Federal inspector's office will completely solve this problem? Mr. M00LIN. I think that the Federal inspector, everything .1 have seen so far, tells me that directionally this is the right way to go. And I think time will tell. It is going to take time, of course. The Federal inspector is new in his role, but everything I have seen so far and what I have read that the Federal inspector has said leads me to believe that the Federal inspector certainly under- stands how important this is to control the cost; that Government itself has a big impact on cost and schedule and he understands this. Mr. RUNNELS. Thank you, Mr. Moolin, for your fine statement. Is there any other statement you or Mr. McMillian would like to make at this time? Mr. MoouN. No, sir. Mr. RUNNELS. Mr. McMillian, could you stay? If there are any questions later would you feel free to answer anything that comes up? Mr. MCMILLIAN. Yes, I will be available through the entire hear- ing. Mr. RUNNELS. Tomorrow also? Mr. MCMILLIAN. Tomorrow also. Mr. RUNNELS. I want to thank you both for being here. [Additional written questions submitted to Mr. McMillian by the subcommittee, with responses, may be found in the appendix. See table of contents for page number.] Mr. RUNNELS. Our next witness will be Mr. John Sproul, Pacific Gas & Electric Co. [Prepared statement of John A. Sproul may be found in the appendix.] PAGENO="0059" 53 STATEMENT OF JOHN A. SPROUL, EXECUTIVE VICE PRESI- DENT, PACIFIC GAS & ELECTRIC CO.; AND CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER, PACIFIC GAS TRANSMISSION CO.; ACCOMPANIED BY DANIEL E. GIBSON, GENERAL COUNSEL, PACIFIC GAS TRANSMISSION CO. Mr. SPROUL. Thank you, Mr. Chairman, and members of the committee. Mr. LAGOMARSINO. If I might interrupt the witness, I wanted to note for the record Mr. Clausen does intend to be here later. I am sure he would want to be here, Mr. Sproul. Mr. SPROUL. I am an executive vice president of Pacific Gas & Electric Co. and chairman of the board and chief executive officer of the Pacific Gas Transmission Co. With me here today is Mr. Daniel E. Gibson, the general counsel of Pacific Gas Transmission Co. I have submitted a prepared written statement for your consider- ation which I will, as you requested, summarize in, I hope, a reasonably brief manner. P.G. & E. and its subsidiary PGT have been designated by Presi- dent Carter to build the western leg of the Alaska Natural Gas Transportation System (ANGTS). In addition, P.G. & E., through another subsidiary, Calaska Energy Co., is participating in the partnership that will build the Alaska portion of this system. P.G. & E. will also purchase Alaska North Slope gas to serve the 9.1 million people in our service area in northern and central California. We have entered into a contract with the Exxon Corp. to pur- chase one-third of its share of the gas production from the Prudhoe Bay field. Thus, you can see that P.G. & E. and PGT are deeply involved in and strongly committed to this overall project. We believe it to be the single most important domestic energy project on the Nation's agenda today. We propose to loop or parallel our existing pipeline by installing about 882 miles of new 36-inch diameter pipe side-by-side with the existing line. We will need no new compressor stations or addition- al horsepower to carry the initial volume of North Slope gas along with roughly 1 billion cubic feet of gas we are carrying now. The authorized western leg design is blessed with the virtue of simplicity. Conventional pipeline design and construction tech- niques will be used throughout, relying on known, proven technol- ogy. The potential for unforeseen problems and difficulties is vastly reduced by the fact that the western leg expansion is essentially a replication of the existing pipeline and, of course, this in itself will minimize disturbance to the environment. The authorized western leg design can provide for delivery of approximately 30 percent of the initially expected North Slope natural gas. That is about 600 to 700 million cubic feet of gas per day to markets in California, the Pacific Northwest and other Western States, including Arizona and New Mexico. PGT's portion is estimated, in 1978 dollars, to cost approximately $417 million. P.G. & E.'s portion is estimated on the same basis to cost $212 million. Thus, the total western leg capital cost is esti- mated at $629 million. These amounts, while sizable, are within the financial abilities of P.G. & E. and PGT. PAGENO="0060" 54 Mr. McMillian said this morning, "It is pocket change for us," but it is something within our ability to do. As I am sure you are aware, Mr. Chairman, and other members of the committee, we, along with other sponsors of the Alaska Highway pipeline project, are proposing at this time to prebuild some of the southerly portions of the overall project. President Carter, in his 1977 decision, recognized that these addi- tional Canadian gas exports could help offset potential gas short- ages in the lower 48 States before the completion of the entire project. That is what the prebuild facilities are designed to do, to bring additional gas from Canada in advance of the overall project. The President also noted that the ready market for the addition- al Canadian exports could stimulate exploration and development activities in Canada. Even more important, in the long run is that the availability of this additional Canadian gas will support early construction of the portions of the Alaska Highway pipeline project and will thereby help us to finance and complete the rest of the project. The supply is there and so is the need. Pacific Interstate Transmission Company, an affiliate of South- ern California Gas Co., entered into a contract with Northwest Alaskan to purchase 240 million cubic feet per day of this Alberta- source gas for delivery to consumers in southern California. PGT will "prebuild" approximately 160 miles of the western leg expansion in order to transport the additional 240 million cubic feet per day of Alberta-source natural gas from the international boundary near Kingsgate, British Columbia to a point of intercon- nection with the pipeline facilities of Northwest Pipeline Corp. near Stanfield, Oreg. From that point, the gas would be transported over the facilities of Northwest Pipeline and El Paso Natural Gas Co. to southern California. The total pipeline distance from the Canadian border to the interconnection between PGT and Northwest Pipeline at Stanfield, Oreg., is actually over 277 miles. Cost of PGT's western leg pre- build facilities is estimated to be $116 million, on a 1978 cost basis. The Federal Energy Regulatory Commission is considering PGT's application at this time. If it issues a final certificate by the end of this year and if all other necessary regulatory approvals, including the Canadian export license, are in place by that time, we may be able to construct enough of the prebuild facilities in 1980 to allow a portion of the projected additional Alberta gas to flow by late 1980. In addition to the obvious benefit of providing an additional early source of new gas to southern California consumers, pre- building does offer a number of other substantial benefits. First, transportation costs for Alaska gas should be less because a portion of the western leg facilities will have been installed at an earlier date at less inflated costs. Second, two-phase construction of the western leg will also make it easier and more economical to obtain labor and. materials neces- sary for the overall Alaska pipeline project. Third, PGT will gain additional revenues from transportation of the Alberta gas for Pacific Interstate, thus making available addi- tional internally generated funds for financing of the ultimate PAGENO="0061" 55 phase of the western leg expansion, and reducing the need to issue additional equity shares or long-term debt. Fourth, and perhaps most important of all, the successful con- struction of the prebuild phase of the western leg will, I believe, greatly increase investor confidence in the probable success of the overall ANGTS. Prebuilding will offer firm and convincing evidence that the U.S. Government is fully committed to and supportive of the construc- tion of the western leg and all other portions of the Alaska natural gas transportation system. The Federal Government has in fact been encouraging in its approach recently to the regulatory responsibilities regarding the western leg so that it can be built in a reasonable and expeditious manner. The recent appointment of Mr. John T. Rhett, Jr. as Federal inspector is an encouraging sign that the Government is gearing up to expedite the project and Mr. Rhett is moving quickly to set up an effective organization. All that I have said is very positive but I would be less than candid with you, however, if I did not admit that we face a very real threat in regulatory delay which would thwart our ability to achieve the prebuild delivery schedule. For example, we are still tied up in hearings before FERC with 160 miles of prebuild even though this construction is simply a portion of what was authorized by the President back in 1977. Second, we are still waiting for the issuance of a final right-of- way permit from the Department of the Interior to allow us to cross the three miles of Federal lands-out of the 160-mile total- that are involved in the western leg prebuild proposal. We need other subsidiary Federal authorizations and site-specific terms and conditions must be developed to enable us to go to final design. Of course, one of the key elements in the prebuild equation must come from Canada in its approval of the proposed export of Alberta gas. Quite simply, if we are to have any hope of delivering the first quantities of Alberta gas by the end of 1980, we must have all final major regulatory approvals in place by the end of this year, 1979. Mr. Chairman, we believe that the expeditious handling of the western leg prebuild is clearly in the national interest. it is one way, and an important way, to help displace some of the demand for OPEC oil. Even of greater importance, perhaps the prebuild will truly be a testing ground for the entire new regulatory struc- ture which has been established to supervise construction of the Alaska natural gas transportation system. There have been 2 years of delay during which this vital energy project has been exposed to the ravages of inflation. Nevertheless, we are optimistic that the entire Alaska Highway pipeline project can and will be built, but if we face further delay, gas consumers throughout the United States, and the national interests in energy security will have been badly served indeed. Thank you for the opportunity to present these remarks and I will be pleased to answer any questions you may have. Mr. RUNNELS. Thank you, Mr. Sproul. I appreciate your state- ment. I would like to say that in reading it over I think that I find PAGENO="0062" 56 in your statement that you are a little leery of what the bureaucra- cy of the Federal Government is doing to this project. I am reading on page 11. However, we have worked carefully with Federal agency representatives to famil- iarize them with the true nature of the western leg. We are happy to report that there is a growing recognition on the part of Federal officials that the western leg poses no significant environmental problems. I think this is what we are trying to do in this committee, to educate ourselves and our colleagues so that they will know that building the western leg is slightly different from building the pipeline in Alaska. Mr. SPROUL. We certainly think so, Mr. Chairman. I might add we need your help. I think we are making progress but whatever you and the members of the committee can do in this regard would certainly be appreciated. Mr. RUNNELS. This is what we are trying to do. On page 12 you say: We are still tied up in hearings before the FERC for the 160 miles of western leg prebuild, even though these facilities are simply a portion of the same facilities that were authorized by the President and conditionally certificated by the FERC almost two years ago in December, 1977. Why they are still tied up in hearings is beyond me. Then you say: We are still waiting for the issuance of a final right-of-way permit from the Department of the Interior to allow us to cross the three miles of Federal lands- out of the 160 mile total-that are involved in the western leg prebuild proposal. Whoever is sitting on that either ought to be fired or chased off if he does not get about his business. I think that is ridiculous. We will try to do all that we can to expedite some of the bureaucracy that is holding up the western leg. Mr. SPROUL. Thank you, sir. Mr. RUNNELS. I think this is why private business becomes frus- trated. I think we are guilty on the legislative end too. Mr. Clausen. Mr. CLAUSEN. Thank you, Mr. Chairman. Mr. Sproul, forgive me for being delayed. I have had a chance to read your testimony and, of course, we are delighted to have you give us the benefit of your experience in the problems you have been facing. We appreciate very much your report today. With respect to PGT's application for a final certificate for the prebuild facilities before the Federal Energy Regulatory Commis- sion, do you believe the Federal Energy Regulatory Commission is moving expeditiously on this application? Mr. SPROUL. Sir, I cannot really say that we do. We are hopeful as a result of certain steps that we have taken recently and have asked for a degree of expedition which we hope they will see in a favorable light, that things will now happen rapidly. I think while you were out of the room I was talking about our need to have all of the regulatory approvals in play by the end of this year if we are to be able to deliver any part of the prebuild quantities by the end of next year. One of these is, of course, the FERC approval. So maybe they have not gone as fast as we would have liked in the past but, PAGENO="0063" 57 hopefully, they have been encouraged and have been advised of our degree of need for a quick answer, and we certainy hope we will get it because we have to get it if we are to get this project going. Mr. CLAUSEN. I am assuming when you say you have to have that in order to get the project going, your situation would be the same as those mentioned by Mr. McMillian this morning, namely, you have to have all the things in line in order to get all your financial arrangements in order, or am I misreading you? Mr. SPROUL. Our financial arrangements for the prebuild are- this is the prebuild alone and in a sense for the total western leg- really not all that complicated. Sure, it is difficult in a time like this to raise a lot of money but we feel confident we can do it in a conventional manner. It is not the financial aspects of the prebuild that bother us so much as we need the regulatory approvals so that we can order the pipe, do the final planning, do the final design work so we can get people out in the field next year to start doing the work. Mr. CLAUSEN. I think this is a natural follow-on to the points my colleague was making. Do you believe that FERC actually has exhibited a degree of understanding and cooperation toward expe- diting this prebuild process? Mr. SPROUL. No, sir; 1 do not. Mr. CLAUSEN. You cannot be any more forthright than that. What do they relate to you as factors that causes you to make that point? Mr. SPROUL. it is somewhat difficult for me to respond to that question. Perhaps Mr. Gibson could do better because he is in contact with them all the time, which I am not. But it seems that they do not exhibit the same sense of urgency that we are trying to communicate. Perhaps they do not believe us, that we have to do these things in order to get people in the field next year-to buy the pipe, to do the planning, to get the final engineering done. But we have been before them now for some time. As I say, I think things are looking up. Dan may be able to give you some detail that I cannot fill in. Mr. CLAUSEN. Through the course of my questioning I have tried to give people the opportunity to follow up in writing to obtain more specific information and, frankly, more in-depth information, so rather than taking the time of the committee right now I will simply ask that you and your counsel prepare something a little more specific and in as much detail as you feel you can share with us so, again, we will have the kind of hearing record upon which the committee can then start moving toward addressing some of these inhibiting problems. Mr. SPROUL. We would be glad to do that. [Editor's Note: In response to Mr. Clausen's request for further details concerning regulatory problems, Mr. Sproul subsequently furnished that information in a letter dated October 30, 1979, to Mr. Clausen. That letter may be found in the appendix. See table of contents for page number.] Mr. CLAUSEN. How long has your right-of-way permit for crossing 3 miles of Federal lands been before the Interior? I guess the bottom line is has the Department of the Interior moved expedi- tiously? PAGENO="0064" 58 Mr. SPROUL. Mr. Gibson advises me that it has been on file since 1974. Mr. CLAUSEN. That is not what you would describe as being very expeditious, is it? Mr. SPROUL. I would not characterize it as such. Mr. CLAUSEN. The same thing would follow, Mr. Gibson. I would like to have you give us a chronological projection of your experi- ence on this matter. Clearly, this has extended over a couple of administrations in the Department and I would like to be able to pin down where the hangup is. We talk about fast track legislation and all that but as I see it, one of the principal purposes of this Oversight and Investigation Subcommittee, one of its present func- tions, is for us to get to the facts and this would permit us leverage on people who are supposed to expedite procedures. Mr. RUNNELS. Mr. Lagomarsino. * Mr. LAGOMARSINO. Thank you, Mr. Chairman. I want to compli- ment you, Mr. Sproul, on your statement. You, in very understand- able terms, pointed out some of the problems you have, many of which sound as if they are completely avoidable. I hope this com- mittee is able to find out why some of these things that sound outrageous are happening or are not happening. Was the idea of the prebuild part of the original plan for the pipeline? Was that part of the package all along? Mr. SPROUL. You have to go back a ways. Certainly I do not think you can say it was part of the original plan but it was mentioned, I believe, for the first time, in the decision by the National Energy Board of Canada when they selected Mr. McMil- han's project as the successful one to build the entire system. I believe in that decision which goes back a considerable period of time now that NEB said it might be desirable to have what we now call prebuild as a kind of forerunner to the construction of the entire Alaska Highway pipeline project. Mr. CLAUSEN. Will the gentleman yield? Mr. LAGOMARSINO. Yes. Mr. CLAUSEN. Have you had anything in the way of a working relationship with the NEB as contrasted with FERC? Mr. SPROUL. In a very general sense we have. Mr. CLAUSEN. In your view is the Canadian National Energy Board inclined to be more expeditious and more responsive by comparison? Mr. SPROUL. I think that is a fair statement. Mr. CLAUSEN. You think they are more expeditious and more responsive? Mr. SPROUL. I do. Mr. CLAUSEN. Are there more in the way of regulations and/or laws in Canada than what you have to deal with here or are they comparable? Mr. SPROUL. I suspect comparable in a rough sense. They have an Energy Board which is roughly equivalent to our FERC. They have a Conservation Board in Alberta which is roughly equivalent to the California Public Utilities Commission. Certainly, the gener- al statutory scheme is not the same word for word or is not on all fours, but I think they are generally comparable. PAGENO="0065" 59 Mr. CLAUSEN. Are the time permit procedures as time consuming as here? Mr. SPROUL. They do not seem to be, sir, by comparison. One thing I think-and I believe this to be true generally-once you get an administrative decision in Canada, that is pretty much the end of it. The ability to go to court to overturn it or to attack it is somewhat limited. Here in the United States we have a somewhat different situa- tion. Of course, you cannot blame that on our regulatory agencies. Mr. CLAUSEN. Thank you. I thank the gentleman for yielding. Mr. LAGOMARSINO. Obviously, going back to my previous ques- tion, the Canadian Government is well aware of the prebuild idea. Mr. SPROUL. Yes, sir; and we have to have a Canadian permit as part of the overall scheme to accomplish it. Mr. LAGOMARSINO. Is there any concern on the part of the Cana- dian Government that should you go ahead with the prebuild and get into the process of importing more of their gas that the rest of the line might not be built? Mr. SPROUL. Yes, there is that concern. I think it was mentioned this morning when one of the members of the committee read the statement by Mitchell Sharpe, and Mr. Pierce addressed himself to it. They have indicated on a number of occasions that prebuild is not going to go forward until the Canadian Government is satisfied that the entire Alaska Highway pipeline project will be built. I guess the key to that is what it is going to take to satisfy them that is going to occur. I do not think that has been defined yet, at least to my knowledge it has not been, but the concern that you mention is certainly there. Mr. LAGOMARSINO. You say, "We have all final regulatory appro- vals in place by the end of this year, 1979." Are you talking about the process in Canada as well as in the United States? Mr. SPROUL. I am. Mr. LAGOMARSINO. I take it the U.S. process has to come first. Mr. SPROUL. Not necessarily. We just need both of them, U.S. and Canadian, but they do not have to come in sequence. Mr. LAGOMARSINO. But each is relying on the other. Mr. SPROUL. Yes, sir. Mr. LAGOMARSINO. Put it in escrow or something like that. I am sure it would be probably asking for speculation but can you give me any idea of why Interior has taken over 5 years to not decide on the 3-mile crossing? Mr. SPROUL. I really am not familiar with the details of that. Perhaps Mr. Gibson is. He has been intimately familiar with those dealings and I think he could probably help you. Mr. GIBSON. If it please, Mr. Chairman and Mr. Lagomarsino, I would not want to overstress the difficulties that we have had with the Department. Certainly they have been frustrating. But the fact is that we have had our right-of-way permit application on file for the entire western leg since 1974, and the lands that are to be crossed by the prebuild portion of the western leg of course are just a portion of the total amount of lands of approximately 150 miles of Federal lands that are to be crossed by the total western leg. The Department of the Interior has been processing the applica- tion, has considered the environmental impact, issued the environ- 57-087 0 - 80 - 5 PAGENO="0066" 60 mental impact statement which in part was the basis for the congressional determination of adequacy of environmental impact that preceded the determination for the entire Alaska transporta- tion system. Since it became clear that the project was going to go forward in 1977, we have continually urged the Department of the Interior to move on our entire application for right-of-way across Federal lands. Ever since we put on file before the FERC in November, 1978, our application for a final certificate for the prebuild portion we have been urging action by the Department of the Interior on that portion. I must say I do not understand why it should take as much time as it does, but you have to understand it in the context of the way the Government is approaching it. The Department of the Interior has looked at the matter of the point of view having first developing terms and conditions for the entire right-of-way permit. As Mr. Sproul indicated in his testimo- ny, one of our ironic little tragedies on the western leg is that just because it is a part of the Alaska natural gas transportation system the initial reaction of the uninformed observer is, well, it must be just as complicated as any other part of the Alaska system, therefore, we should apply the same terms and conditions to it. It took a long time to finally get across the point that it was not as complicated as this. Now the Department of the Interior, I think, is moving along quite well. I really think it has every possibility of getting the right-of-way through those 3 miles of Federal land out by the end of the year. Mr. LAGOMARSINO. Who have you been dealing with? Mr. GIBSON. The Department of the Interior has a project office. Mr. William Toskey is the man primarily in charge as the liaison person over there. Mr. RUNNELS. He is our third witness tomorrow. Mr. LAGOMARSINO. I want to make one comment that applies to perhaps all the witnesses' testimony. In another committee we were holding a hearing on whether or not we should get into a new system of insurance for American firms that do business overseas. We have insurance called Overseas Private Investment Corpora- tion, OPIC, which insures certain American companies against cer- tain risks, including appropriation by foreign governments of their assets. It was proposed that we expand that program to also cover not only appropriations but "creeping appropriations." I asked what that was and I was told when the Government, after giving permits to a company to operate, imposes restrictions so onerous that in effect you have taken away a part or all of their assets or their value. I made the comment that I know a lot of constituents feel that is exactly what is happening in this country but I doubt if anybody would write insurance for American companies against that kind of risk. Mr. CLAUSEN. In going through your testimony, Mr. Sproul, you seemed to place heavy emphasis on "One of the key elements in the prebuild equation must come from north of our border: Can- PAGENO="0067" 61 ada's approval of the proposed 12-year export of Alberta gas is necessary if the prebuild concept is to go forward as planned." Then you go on to say, "The National Energy Board has conclud- ed its omnibus hearings on exports, and we believe it reasonable to expect that a decision on exports will be issued and approved by the Canadian Government by the end of this year." Are they on track? Is there any reason for you to be concerned because you have placed heavy emphasis on that point? What would be the possibility of delay? Mr. SPROUL. We think they are on track, Mr. Clausen. I was being, I hope, on the conservative side when I said by the end of this year. I really have some expectation that the Canadian deci- sion will come down well before the end of 1979. Mr. CLAUSEN. Were you making that point in order to draw the comparison hoping that the United States would keep the same pace? Mr. SPROUL. Partially, sir. Yes. Right. Mr. RUNNELS. Mr. Sproul, I want to observe that I believe the Western Leg may have been caught in what we term where I come from, "We walk a switch." I think the State of California and its State agencies were dragging their feet on the Sohio pipeline system and I believe the Federal Government has been dragging its feet on the Western Leg. You may be the victim of circumstances. Mr. SPROUL. We really think things are going to get better. Mr. RUNNELS. Cannot get much worse, can they? On this pocket change, did you hear Mr. McMillian say it was pocket change? Mr. SPROUL. Mr. McMillian referred to pocket change when we built the western leg but we think $600 million plus is a little more than that. Mr. RUNNELS. We thank you very much for your presentation and we will be offering some questions to you for the record. [Editor's note: Additional questions submitted by the subcommit- tee, with responses from Mr. Sproul, may be found in the appendix. See table of contents for page number.] Mr. RUNNELS. Our next witness is Mr. Conrad Pyle, Northern Border Pipeline Co., and Mr. Meierhenry. [Prepared statement of J. Conrad Pyle may be found in the appendix.] STATEMENT OF J. CONRAD PYLE, PROJECT MANAGER, NORTH- ERN BORDER PIPELINE CO.; ACCOMPANIED BY ROY A. MEIERHENRy, TREASURER, NORTHERN NATURAL GAS CO. Mr. PYLE. Mr. Chairman and members of the subcommittee, it is indeed a great pleasure to be here. This is our first opportunity to appear before this subcommittee. Indeed, it is a great honor to present our project. We are always glad to speak to groups about the Northern Border Pipeline Co. and the prebuild project. We think it is one of the key hinge pins to getting the Alaska natural gas transportation system off the ground and moving. Briefly, we have submitted our written statement. I would like to make a few comments to summarize that. PAGENO="0068" 62 The Northern Border Pipeline Co. is the eastern leg of the Alaska natural gas transportation system which was approved by the President in his decision in 1977. It originates at the Canadian- United States border in Saskatchewan and extends 1,117 miles through five States and ends up in the sixth State of Illinois. The project is approved by the President, 1,117 miles of 42-inch diameter pipeline with seven compressor stations which was de- signed to handle about a 1,500 million cubic feet of gas from Alaska. The partners within the partnership today consist of subsidiaries of Northern Natural Gas Co., United Gas Pipeline Co., Northwest Pipeline Co., Pan Border Gas Co. These four companies are the partners who are now engaged in the project. I would like to describe some of the prebuild portion. Earlier there has been an overall description of what prebuilding for Canadian gas is. The Northern Border has been involved in it. Three of the companies, the partners within the Northern Border partnership, have purchased gas, Northwest Alaskan whose companies are United Gas Pipeline, purchased 450 million cubic feet a day; Northern Natural Gas Co., purchased 250 million cubic feet a day; Panhandle Eastern Pipeline, who has purchased 150 million cubic feet a day. For the prebuild project we are proposing building the first 809 miles of the 42-inch diameter pipeline to a point near Ventura, Iowa, together with one 16,200-horsepower compressor station in MacKenzie County, N. Dak. This would have the capability of transporting 800 million cubic feet a day. The overall system when expanded for the Alaskan Gas, by the addition of compressor stations and additional 308 miles of 42-inch pipeline would have a capability of transporting 2.2 billion cubic feet a day of gas which would be in addition to roughly 1.4 billion cubic feet a day of Alaskan gas in addition to the 800 million cubic feet a day of Canadian gas. The benefits from the prebuilding of the Northern Border are numerous. I would like to briefly enumerate the benefits as we view them. First of all, the prebuild would bring the addition of 800 million cubic feet of additional gas reserves into the United States. The Northern Border with various interconnections of the pipe- lines, the deliveries from the three companies purchasing this gas, indirectly make deliveries from those pipelines that serve almost all the States east of the Rockies. One of the benefits from the prebuild is it increases the volume through the pipeline by 800 million cubic feet a day. Consumers would benefit from the economies of scale, also service for trans- porting all the gas would be decreased by the increased volume going through the pipeline. By prebuilding the project for the Canadian gas in an earlier time frame we would reduce the effects of inflation, decrease the total capital costs of the system itself. Also, if we prebuild and operate the pipeline on Canadian gas prior to the transportation of Alaskan gas, the system would be partially depreciated, depreci- ation having occurred by the introduction of Alaskan gas, thus reducing the costs of transportation for Alaskan gas. PAGENO="0069" 63 Additionally, the cash flow generated from the operation of the prebuild project would generate funds, would help finance the Alaskan system. I also see from a project management standpoint immense benefit from building a major portion of our system prior to construction of the Alaskan system, and it would reduce the demand on supplies and contractors in furnishing both materials and labor in construction of the pipeline. By reducing this demand it should make it easier to maintain the schedules and complete the project on time. Also, by building a large portion of our system prior to the building of the Alaskan system, we would reduce the demand on capital in any given year since the major capital demands for our project would occur in an earlier time frame. The final reason, which was also enumerated by Mr. Sproul, is that we would increase investor confidence if we can build a major portion of the system prior to getting into construction on the Alaskan system. Just a minute on the current status of the project in the regula- tory scene. We have received a final order of 31-B incentive rate of return rulemaking of September 5 which was one of the major considerations in bringing together our final filing on the cost estimates and the schedule for the project. We are now in phase 2-B of the hearings in which we will be filing in the future cost estimates and financial statements before the FERC. I would like to mention just one thing which has occurred within the past week. We have delayed filing our cost estimate as request- ed to the FERC. We have 30 days to file our cost estimate to accommodate maintaining 1981 service which I will talk about in a few minutes. I would like to spend just a minute talking about the design of our pipeline, the route and design as opposed to prebuild which is the identical system filed with the FERC, started in 1974, amended in 1976. It is currently the same 42-inch diameter system as ap- proved by the President. We do have some minor reroutes which we have proposed making. One of them was around an area which was identified by the FERC in earlier hearings, and we have accommodated that reroute. The second one is around the coal fields in North Dakota, which have been identified after the point in time the President had approved our route. It is one which we very much intend to make as a very minor route deviation. Environmentalists have filed envi- ronmental reports with the FERC indicating that this route is equally as environmentally acceptable as the earlier route ap- proved by the President in his decision. We have one further reroute, which is a last resort, which is a potential reroute around the Fort Peck Indian Reservation. We are negotiating with Fort Peck Indians in trying to get a permit to cross their reservation. It is a unique situation in that the entire route of our pipeline, of course, comes under FERC jurisdiction with right of eminent domain except for the Indian reservation. PAGENO="0070" 64 So in the event that we are unsuccessful in negotiating for the permit across the Indian reservation, we would require a reroute around that reservation. We have been encouraged by recent meetings and correspond- ence with the tribe and expect in the near future to have that resolved. To get back to our reason for delay in filing the cost estimate, originally our project had been planned on a 2-year construction program, one which we thought was a reasonable and achievable schedule. Since September 5 and the incentive rate of return order, we have proceeded on that original construction plan, which was realistic and achievable in preparing our cost estimates. During this past month and a half, we have worked towards the cost estimate based on that 2-year construction schedule. We came to the conclusion that if we were to maintain a 2-year construction schedule that it would result in a delay in the in-service date of the project until late 1982. Our original in-service date had been pro- jected in our filing as late 1981. Late last week, the partners decided that other factors, such as the desire for early delivery of gas and the concerns of the produc- ers, weighed so heavily that we must consider revising our cost estimate and filing it on the basis of a 1-year construction program. We are in progress now of reconstructing our schedules, both con- struction and procurement activities, and recasting our estimate based on a 1-year construction program which would then result in the same in-service date of late 1981. I might mention that our reluctance to proceed on a 1-year construction program resulted from the incentive rate of return rule making and procedures. There are a number of aspects of that procedure which place a great deal more risk on the sponsors in the event that they cannot meet the 1-year construction program. From the standpoint of the sponsors, overruns of the construc- tion schedule would result in additional financing charges, or in this case a financing charge on the cost of the money which re- duces the earned rate of return. From the standpoint of the con- sumers, it could possibly end up in higher cost to the consumer if we are unable to achieve the 1-year program, having attempted it. One other aspect of the incentive rate of return is that inflation indexing, to protect the sponsors against the ravages of inflation, does not work accurately unless the sponsors are able to make expenditures as projected in their estimate. As long as we were on a 2-year construction program, we felt quite confident we could control expenditures and be fully protect- ed under the inflation indexing mechanism. On a crash program- 1-year construction-this is much more risky and would be much more difficult to control expenditures; and that was weighed in our decision to recast our cost estimate on a 1-year basis. One further factor that places a great deal more risk on sponsors in going to a 1-year program, is that compressing all of the con- struction activities into a single year for 809 miles of pipeline, if you compare that to Alaska which is 720 miles, is that it will require a number of construction spreads be active in a single year. We are estimating if we are to do it in a single year, it will take PAGENO="0071" 65 from eight to nine separate contractors, and in the pipeline indus- try we refer to them as contract spreads. This, of course, will run concurrently with construction programs with the west coast companies and also with the construction pro- grams at the Foothills pipeline in Canada. The demand for the labor, contractors' resources, for the materials, pipes, valves and fittings and other equipment required for construction will be much greater during this same time period. This will tend to decrease the competition between contractors and suppliers of materials and could end up with higher costs for each of these items. In closing, I would like to make just a few points about Northern Border and the importance that it has to the overall Alaska natu- ral gas transportation System. Mr. Millard recognized that North- ern Border was of great importance to financing the overall proj- ect. If we could get Northern Border completed and financed and in operation prior to the Alaskan system, it would aid in the financial area from a confidence standpoint in the financial com- munity. Additionally, Northern Border is the largest segment to be pre- built of the Alaska natural gas transportation system. It is an 809- mile, 42-inch pipeline which is the largest single section being prebuilt. One other benefit from the prebuilding of Northern Border is that it has been viewed-and I think accurately so-as being the guinea pig for various new procedures which are going to be ap- plied to the Alaska natural gas transportation system. Unlike the western leg, we will be under the incentive rate of return. We will be under the cost reporting system to the Federal inspec- tors and will have to institute the inspection program and environ- mental training required under the President's decision. We will have to comply with EEO and MBE requirements as described in the President's decision. And we have a new one which has recently come up, which is the procurement practices being negotiated between Canada and the United States, making each of the sponsors bid competitively, both to the United States and Canada, to give both of these coun- tries a fair competitive position on supplying goods and services. So, we see many benefits from the project. We think the North- ern Border project is a hinge operation and very important part of the Alaska natural gas transportation system and feel confident because our system is being built in the lower 48 States, is of conventional design, does not have the environmental problems of some of the other segments, that it can be built on schedule. That concludes my comments, Mr. Chairman. I will be glad to answer any questions. Mr. RUNNELS. Thank you very much, Mr. Pyle. Do you have the same feeling that Mr. Sproul had, that you have been had by being associated with the difference between building the pipeline in Alaska and one in the lower 48? Mr. PYLE. We feel we have been painted with the same brush. Mr. RUNNELS. People should distinguish between the two. Is this correct? PAGENO="0072" 66 Mr. PYLE. In my opinion, we feel the project would have gone quicker and simpler if we had not had the additional regulations. Mr. RUNNELS. Will you have any problem in getting the 42-inch pipe you will need for your segment of the pipeline? Mr. PYLE. The availability of the pipe size diameters and specifi- cations that we have should not be a problem but, depending on the schedule, a 1-year construction schedule, depending on when all the Federal approvals, and so forth, are forthcoming, it could be a problem to get them soon enough in a short enough time span. Mr. RUNNELS. You are going to put in 809 miles of new pipeline, is that right? Mr. PYLE. That is correct. Mr. RUNNELS. How long do you think it would take you to get 809 miles of new pipe if you placed the order today? Mr. PYLE. We have had estimates that run from 6 to 12 months in order to get deliveries of that amount of pipe. Mr. RUNNELS. I guess I am a little confused. I thought that your timetable was 2 years to complete this pipeline? Mr. PYLE. That is correct. Mr. RUNNELS. Now it has slipped and you are talking about 1 year. So if you are talking about 1 year, and this will escalate the cost, and so forth, and I believe you said you would have to wait from 6 months to 12 months just to get the pipe-- Mr. PYLE. That is correct. Mr. RUNNELS. How are you going to finish it in a year if it is going to take you a year to get the pipe? Mr. PYLE. We are talking about a 1-year construction program with enough advance time to get all the materials and the contrac- tors and equipment on site. Our 1-year construction program would be within the year 1981. We would reserve the year of 1980 to get the delivery of the pipe and the associated materials. Mr. RUNNELS. How about the right-of-way across the Fort Peck Indian reservation? Mr. PYLE. We hope to have that in 1980. Mr. RUNNELS. You do not believe you will have a problem with the coal field, or ironing out the problems to get across the Indian reservation you mentioned in your testimony? Mr. PYLE. The question on the reroute around the coal field is getting approval from the FERC for the reroute and acknowledg- ment by their environmentalists that it is indeed not any larger environmental impact than the original route. Mr. RUNNELS. Do you feel as though your group would have any problems, with the interest rate running what it is today, on the financing of your part of the pipeline? Mr. PYLE. On the financial end, I guess I would defer to Mr. Meierhenry, who has more expertise in that area. Mr. MEIERHENRY. Mr. Chairman, in answer to your question, at this point our project is not one to be characterized a pocket change, slightly bigger, but we do not anticipate any major prob- lems, and, as Mr. McMillian alluded this morning, we are looking forward to Trans Canada becoming part of the project in making additional capital available from the Canadian market, also. PAGENO="0073" 67 Mr. RUNNELS. Thank you very much. We appreciate your testi- mony today, and we will submit some written questions for the record. [Editor's Note: Additional questions submitted by the subcommit- tee, with responses from Mr. Pyle, may be found in the appendix. See table of contents for page number.] Our next witness for today is Mr. Loeffler, counsel to the State of Alaska. I believe you are appearing in behalf of the Governor, is this correct? Mr. LOEFFLER. That is correct. Mr. RUNNELS. Welcome to the warm country. [Prepared statement of Robert H. Loeffler may be found in the appendix.] STATEMENT OF ROBERT H. LOEFFLER, COUNSEL, ON BEHALF OF THE GOVERNOR AND THE STATE OF ALASKA Mr. LOEFFLER. Thank you. Unfortunately, I spend most of my time down here, anyway. I should clarify that I am appearing on behalf of the Governor and his administration, and, therefore, I cannot speak for the Alaskan Legislature, which has received some comment this morning. I think I will let my prepared testimony be submitted, and I will try and hit the five or six large points that I tried to make in the testimony. First, the Hammond administration and the Governor personally support the gas pipeline, and they support the Northwest Partner- ship as the person to construct the pipeline. The Governor has announced it will be a priority of his administration to get the pipeline built. The next question, of course, is State of Alaska financial partici- pation. To date, we have created an Alaska gas pipeline financing authority although there are some problems with it. In the next few months we are going to be engaged in an effort to consider the various options for State financial participation and to try and gain a consensus within the State on that question. And we hope this will fit into the schedule of both the Federal officials and the Northwest Partnership. Historically, we have said that the proposal of Northwest for tax- exempt bonds looks attractive to the State, and it still looks attrac- tive, but is by no means the only method of participation and won't necessarily be part of the final package. As I say, we expect to have some answers within the next few months on those questions. Speaking for the State of Alaska in terms of its royalty interest, we see the conditioning cost issue, and that is the financial and other responsibilities for the construction of the $2 billion condi- tioning plants, somewhere in Alaska, as a critical issue to getting the project moving. The FERC has adopted an order which would place the entire responsibility for that plant upon the producers and upon the State. That order is now undergoing rehearing. There have been rather strident protests filed against the order by both the State and the producers, because we think it is not consistent with what Congress ordered in the Natural Gas Policy Act, and I am afraid unless the PAGENO="0074" 68 Commission changes its course, and it may, that is one that may end up in court. More than the legal question, the problem I see there is that for several years now parties have said that the execution of gas purchase contracts is essential to the financing of the pipeline. This past spring and summer either contracts or letters of intent were negotiated. The difficulty is that the disposition of the conditioning costs in those contracts is not consistent with Order 45. So we have the possibility of the contracts being upset by the action of the FERC. That is not a sign of progress, and we hope that one way or another the issue will be compromised so that the contracts can stand, and that the people who sign the contracts can join the project and move it forward. In terms of the State's own interest, as he mentioned, the issue of petrochemicals in the last few years is a vital concern. This issue is related both to the location of the conditioning plant and to the pressure of the gas pipeline at least between Prudhoe Bay and Fairbanks. We have attempted to get the Commission to look again at that issue, and we have been unsuccessful, and I must report that we have gone to court under the Alaska Natural Gas Transportation Act to try and overturn the Commission's determination on that. By law, that decision must come within 90 days, which is approxi- mately January 3. There is immense popular interest in Alaska in the question of petrochemicals and the related question of the location of the conditioning plant, and unless that concern is satisfied, I suspect that it will be difficult for Alaska's elected officials to find the consensus and support for State financial participation. We also have been critical of the FERC's approach to a number of the regulatory issues. We share with Northwest in the frustra- tion at the amount of time and proceedings that the incentive rate of return took. In fact, at the opening of those proceedings we urged the Commission to abandon the concept because it was just going to take a long time and with uncertain benefits. In the last revamping of the incentive rate of return, we think the concept has been substantially changed-I will not say abandoned-but changed from what was originally proposed and, therefore in look- ing back, we question whether the year and a half spent on those regulatory proceedings was really fruitful. We also believe that the conditioning cost issue question of the CO2 content of the gas, certain other quality questions are interre- lated and should not be handled piecemeal in separate proceedings. This was the brunt of our last petition to the Commission, which they turned down. On the question of State-permitting authority, I think it is impor- tant to point out I have heard no criticism today of the State of Alaska's pipeline coordinator or the functions under him. The pipe- line crosses substantial parts of State land, and there will be a right-of-way issued by the State as well as by the Department of the Interior. To my knowledge, there are no major problems there. In fact, the State appointed its State pipeline coordinator 1½ years before the PAGENO="0075" 69 Federal inspector was confirmed, and we now are on our second pipeline coordinator. The first one, I think, got a bit frustrated. But the comments I have heard this morning have really been directed to the question of the State participation in financing, which is quite different than the problem that affected the Sohio line with apparently the State of California's permitting authority. Lastly, we do see a hopeful sign in the efforts undertaken by the Secretary of Energy to get the various participants and potential participants to agree on a kind of financial plan. This is an effort that is going on outside the FERC processes. We have confidence in the individual selected to gather the information and put together the plan, and we hope that this will provide a means of compromising the various outstanding issues of getting the financing established and letting the project go forward. That is all I have to say and I would be happy to answer any questions. Mr. RUNNEL5. Thank you, Mr. Loeffler. I note in your testimony that you say that the State of Alaska supports the construction of the Alaska gas pipeline, and that it supports the construction of the pipeline by Northwest Partnership along the proposed route. Is that correct? Mr. LOEFFLER. That is correct. Mr. RUNNELS. And Governor Hammond has made it a priority of his administration? Mr. LOEFFLER. That is correct. Mr. RUNNELS. Further in your testimony you say, "even if the legislature had enacted technically perfect legislation, a change in Federal law-the Internal Revenue Code-to afford tax-exempt status with regard to the authority's bonds was necessary." Are you saying that we need to look at Federal law at this point in time? Mr. LOEFFLER. I think that question is undergoing a further look by the State. With the oil pipeline, the plans were issued under a provision of the revenue code and applies, I believe, to docks and harbors, and it covered the facilities at Valdez. I am not a tax lawyer and I do not venture into that area. I had an understanding that there was a revision necessary to be abso- lutely certain that the bonds were covered, but I would say it is premature, because of the efforts going on under the auspices of the Secretary of Energy, and, second, the efforts going on by the State to reconsider what is the most feasible form of financial support. So, right now, I think it is premature for the subcommit- tee to look at that. Mr. RUNNELS. In your statement you say that the proposal, in brief, was that the State create a pipeline bonding authority to issue $1 billion in tax-exempt bonds to assist financing of the gas pipeline. A similar arrangement assisted the financing of the Trans Alaska Oil Pipeline. Mr. LOEFFLER. Right, but there was no amendment, and I am not saying it is necessary to cover the oil pipeline bonds. One may be necessary for the gas bonds. Mr. RUNNELS. What makes the gas pipeline different from the oil pipeline according to State-- PAGENO="0076" 70 Mr. LOEFFLER. Because we are not talking about docks and har- bors, which I believe is the language existing in the Internal Reve- nue Code provision. This pipeline does not go anywhere near the water. Mr. RUNNELS. Also, you stated on page 4, "CO2 content of the gas must be reduced from 12 percent to 1 percent, its pressure must be increased, and much of the natural gas liquids must be removed from the gas because the 1,260 p.s.i.g. pressure Northwest line cannot accept them. "The cost of the facilities to perform these conditioning functions approaches $2 billion. The Federal Energy Regulatory Commission in its Order No. 45 has said that the producers must perform these functions and may receive no extra compensation for them." Does the State of Alaska agree or disagree with Order No. 45? Mr. LOEFFLER. It strongly disagrees. Mr. RUNNELS. Why does the State strongly disagree? Mr. L0EFFLER. There are several reasons. Legally it disagrees because the legislative history of the Natural Gas Policy Act indi- cates that the gas may be sold for the maximum lawful price without conditioning. And Order No. 45 says this isn't so. So, as a legal matter, we think the Commission is in error, and we have made that argument. In a pipeline sense we argue, and the producers argue, that the gas as it comes off the oilfield separators is ready to be transported in the ordinary lower-48 sense, and that the additional conditioning that is required here is transportation related; it is not an essential part of production, by distinction. We also believe it is wrong because the order has created sort of a wedge between the producers and the pipeline, and what is needed is to get the producers in some acceptable form into the financing of the pipeline. Mr. RUNNELS. I noted that Don Young alluded this morning to certain things which would happen if Northwest Pipeline would do certain things. You stated that the people of Alaska really want a petrochemical complex. Is this what they really want? Mr. LOEFFLER. From my communications with State officials and my own visits to Alaska, yes, there seems to be a great interest. The reason for that is, as you probably know, Alaska has very little industry, and once the oil and gas disappears, there is little left, and there is a hope this will diversify the industry. Mr. RUNNELS. Do the people of the State of Alaska take into account that Alaska is a long way from where the market would be. Do the people of the State of Alaska take this into account when they are talking about a petrochemical complex? Mr. LOEFFLER. There are people from the industry who come to Alaska and say that they want to do it or that it is possible, and that the markets would be not the normal markets, but the Pacific rim, and these people are usually welcomed when they come. We are undertaking, the State administration, an effort to really determine how much serious interest there is in petrochemicals. The Governor appointed a task force to look at that recently. The task force included not only the administration and legislature, but representatives of the bureaus, Fairbanks, Anchorage, North Slope, and their conclusion was they didn't know; they didn't have PAGENO="0077" 71 enough information to determine whether a petrochemical indus- try was feasible, but they wanted to preserve the right. They have heard both sides of the argument, and there are people in the industry who say it is possible in Alaska. Mr. RUNNELS. Are the people saying this, the ones who have an interest in the oilfields or interest in the gas? Mr. LOEFFLER. No. Mr. RUNNELS. These are outsiders? Mr. LOEFFLER. Yes. Mr. RUNNELS. I want to thank you for your presentation. We may send you some questions for the record. We appreciate your being here today. Mr. LOEFFLER. Thank you. [Editor's note: Additional questions submitted by the subcommit- tee, with responses from the State of Alaska, may be found in the appendix. See table of contents for page number.] Mr. RUNNELS. This committee will recess until 9:45 in the morn- ing. I thank those who were our witnesses and those who have come to observe today. Thank you very much. [Whereupon, at 3:55 p.m., the subcommittee recessed, to recon- vene at 9:45 a.m. o'clock, Tuesday, Oct. 16, 1979.] PAGENO="0078" PAGENO="0079" ALASKA NATURAL GAS TRANSPORTATION SYSTEM TUESDAY, OCTOBER 16, 1979 HOUSE OF REPRESENTATIVES, SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS, COMMITTEE ON INTERIOR AND INSULAR AFFAIRS, Washington, D.C. The subcommittee met, pursuant to notice, at 9:50 a.m., room 1324, Longworth House Office Building, Hon. Harold Runnels (chairman of the subcommittee) presiding. Mr. RUNNELS. The Subcommittee on Oversight and Investiga- tions of the Interior and Insular Affairs Committee will come to order. Our first witness this morning is John T. Rhett, Federal Inspec- tor. I believe he will be accompanied by Peter Cook, the Executive Officer. Welcome, both of you. [Prepared statement of Hon. John T. Rhett, Jr., may be found in the appendix.] STATEMENT OF HON. JOHN T. RHETT, JR., FEDERAL INSPEC- TOR, OFFICE OF THE FEDERAL INSPECTOR, ALASKA NATU- RAL GAS TRANSPORTATION SYSTEM, ACCOMPANIED BY PETER COOK, EXECUTIVE OFFICER AND DEPUTY FEDERAL INSPECTOR Mr. RHETT. Good morning, Mr. Chairman. I am really pleased to have this opportunity to appear before you today and introduce myself and my organization, and to discuss the progress that has been made on the pipeline to date. I do plan to summarize my statement. I obviously will be open for questions from any of you. During my nomination hearing on July 12, I characterized the job of Federal Inspector as a most challenging assignment. My experiences during these first 3 months as Federal inspector have more than supported that preliminary assessment of the task which lies ahead. The diversity of terrain, the sensitivity of the environment, the unique construction conditions, the geographic scope of the project, the number of Government and corporate entities involved, and the cost of the project together pose a considerable challenge to all participants. This, however, should not deter us because the bene- fits to the sponsors and to the country are substantial. Completion of the pipeline will deliver a volume of natural gas roughly equivalent to 450,000 barrels of crude oil per day. With the (73) PAGENO="0080" 74 addition of compression, this system has the potential to deliver enough energy to offset 600,000 barrels of crude oil per day. Looking at it another way, the gasline will ultimately supply 5 percent of current U.S. natural gas needs for a period of 25 years. This project, therefore, offers us a unique challenge to marshal the resources of a number of communities-Government, industry, fi- nancial, academic-to build an energy transportation system with significant and undisputed benefits to the Nation. I have been asked to lead the Federal Government's response to this challenge. While the Government is neither building nor fi- nancing this pipeline, the extent of our regulatory role makes our participation critical to the success of this project. It is my job to assure that the Federal Government exercises its duties both com- petently and promptly. In addition, the development and maintenance of a constructive working relationship among all parties is necessary to assure that the project is constructed in a timely and cost-effective fashion, consistent with environmental and public safety requirements. I am prepared to do everything I can from the Government side to foster such a constructive relationship. A large percentage of my efforts to date have been directed to "getting acquainted" with the project sponsors, the Federal agen- cies, the States and especially Alaska and its people; the Canadi- ans; and, indeed, with the project as a whole. Getting acquainted with the project itself is a challenge. I have traveled over 32,000 miles in the past 8 weeks in an effort to acquaint myself with the sponsors and the project. The Alaska Natural gas transportation system spans Alaska, four provinces in Canada, and 10 lower 48 States. It covers every conceivable type of terrain from the fragile Arctic tundra to the prairie pothole region in the Dakotas and Minnesota. I have flown over most of the line in Alaska and Canada and have been on the ground in many places. I have also visited Northwest Alaskan Pipeline Co. and their principal construction manager, Fluor Engineering. Northwest has assembled a team composed of topflight personnel, thoroughly ca- pable of providing the needed technical engineering support. In addition, the final resolution of the incentive rate of return and pipe pressure issues, reached by the Federal Energy Regulatory Commission in early September will enable Northwest to continue their mobilization effort. Due to schedule conflicts, I have not yet been successful in ar- ranging a visit to Pacific Gas Transmission Co. and Pacific Gas & Electric Co. headquarters. However, my discussions with Mr. Prud- homme, president of Pacific Gas Transmission Co., have been very constructive and encouraging. We do plan to meet next Monday and to fly the western leg together. The western leg of the Alaska natural gas transportation system consists of looping the existing Pacific Gas Transmission Co. and Pacific Gas & Electric Co. system. By virtue of having constructed and operated a gas transmission line on this right-of-way, Pacific Gas Transmission and Pacific Gas & Electric Co. are well prepared to move ahead with their portion of the Alaska natural gas transportation system. PAGENO="0081" 75 The Federal Energy Regulatory Commission is scheduled to issue a Certificate of Public Convenience and Necessity early next year and I foresee no major problems which the Office of the Federal Inspector and the sponsors cannot resolve. The exclusion of the western leg from the incentive rate of return process further sim- plifies the Office of the Federal inspector's responsibilities on the western leg. The Northern Border Pipeline Co. faces a somewhat more com- plicated set of problems, but the sponsors are doing an impressive job of dealing with them. Northern Border is completing its final filings for a certificate and work on right-of-way acquisition is also proceeding. By conventional standards, construction of the 800 miles of pipe- line necessary to allow early delivery of Alberta gas constitutes a major undertaking. However, the construction problems on this segment will not be unique. The sponsors' planning process is well underway and should result in an effective marshaling of the necessary manpower, equipment, and materials. Obviously, construction on a new alinement has potential for surprises. Yet this route underwent careful analysis before Presi- dential selection and Northern Border is continuing to supplement the existing data base to reduce the potential for both environmen- tal and technical surprises later on. Of course, all of the questions have not been answered, nor have all of the problems been resolved. But I am firmly convinced that the successful, timely, cost effective, and environmentally accept- able construction of the Alaska natural gas transportation system rests on two critical factors: One, careful and thoughtful planning to foresee and resolve problems early and, two, genuine dedication by all parties, both Government and private alike, to cooperatively resolve the problems which surface. I am encouraged by what I have seen so far in both of these areas. For any project, and especially for one of this magnitude, the development of realistic and detailed schedules is a significant element of the total project planning process. All relevant activities and their interrelationships must be considered. In the beginning a certain number of assumptions must be made from which subse- quent activity time frames are developed. Current sponsor schedules assume satisfactory and timely com- pletion of financing, the Federal Energy Regulatory Commission certification process and other major actions. Failure to complete any of these major actions within the assumed time frame thus necessitates reevaluation of the remainder of the schedule. Because project schedules are a major component of the sponsors' certifica- tion filings, all existing schedules are now being reviewed. A review of these schedules by Federal Energy Regulatory Commis- sion and myself is currently underway as a part of the sponsor's request for certification. The schedules presently under review call for Alaskan gas to begin flowing from Prudhoe Bay to the Lower 48 during the winter of 1984-85. 57-087 0 - 80 - 6 PAGENO="0082" 76 The eastern and western legs do not involve unique construction situations. I am convinced that while the Federal Government obviously has to make sure that all of the applicable rules and regulations are carried out, it also must let the companies proceed in order to get these projects moving quickly. This is particularly important with the prebuild section which can bring excess Canadian gas to the lower 48 before Alaskan gas is available. I do not mean by this that there are not problems. I do not mean that there is not an oversight responsibility; both by me and obvi- ously by you. The major thing that I do want to emphasize is that we are concentrating on trying to clear all the roadblocks early. Since my confirmation as Federal inspector in July, I have devot- ed a great deal of my energies to developing an organization which will be capable of effectively fulfilling all Federal inspector respon- sibilities. My responsibilities are spelled out in the Alaska Natural Gas Transportation Act, the President's Decision and Reorganiza- tion Plan No. 1. The principal ones are: (1) Coordinating the scheduling and issuance of all Federal au- thorizations for the project; (2) Enforcing all relevant Federal statutes, including monitoring compliance with any terms and conditions imposed; (3) Monitoring all actions taken to assure that cost control, safety and environmental protection objectives are fulfilled while still achieving the timely construction and initial operation of the Alaska natural gas transportation system; and (4) Establishing a joint, cooperative relationship with affected State governments and the Government of Canada. The organization of the Office of the Federal Inspector must be capable of fulfilling this wide range of responsibilities and it must do so within a rather unique set of parameters. The Office of the Federal Inspector is a single purpose organiza- tion with a wide scope of responsibilities, with a limited duration. It must be highly flexible, in order to be capable of focusing atten- tion on problems wherever they arise. Although initially our major headquarters will be located in Washington, we plan to have field offices in the near future on each segment of the pipeline: Eastern, western, and Alaska, we will also establish close liaison with Canada. As the work builds up in Alaska, the bulk of the Washington personnel will be shifted there. My full testimony and our quarterly report cover the organiza- tion in detail. Copies of the report have been furnished to the staff. The regulatory decisions that have been made by the Federal Energy Regulatory Commission in the past 2 months have collec- tively begun to create the positive regulatory climate essential to project success. For example, the producers are currently evaluating investment options while Northwest Alaskan continues to pursue various other funding sources. In general, the financing community is responding favorably to the recent turn of events. Department of Energy rep- resentatives are closely watching this area and are keeping me apprised of developments as they occur. PAGENO="0083" 77 Another long-standing issue which is nearing resolution is the content of the administrative, environmental and technical stipula- tions which will be attached to the Department of the Interior's grant of right-of-way across Federal lands. These stipulations have been under development for some time and the project sponsors have actively participated throughout the process. The Department of the Interior will be ready to issue grants to both the Pacific Gas Transmission Co. and Northern Border before the end of next month. Work on the grant and stipulations for the Alaska segment is also nearing completion. The Department of the Interior also has the lead responsibility for the preparation of a set of regulations to implement the equal employment opportunity provisions of the Alaska Natural Gas Transportation Act and the minority business enterprise participa- tion requirements of the President's decision. My staff has been involved with this effort and I am pleased to report that the cooperation evidenced by both the Department of the Interior and Federal Energy Regulatory Commission has been exemplary in this area. When these regulations are finalized, the Alaska Natural Gas Transportation System will have an effective means to assure equal opportunity and to promote minority busi- ness enterprise participation in all phases of the project. Even though these minority business enterprise regulations have not yet been finalized, the Department of Transportation has taken affirmative steps to fulfill the intent of the Alaska Natural Gas Transportation Act and the President's decision in this area. Late in 1978, the Department of Transportation solicited offers from minority businesses to provide technical assistance in review- ing the design and quality control programs. My staff is actively participating in the final contract negotiations to broaden the scope to include other areas of the Office of the Federal Inspector's interest. Also of note in the area of technical assistance, I am developing an agreement with the Chief of the Corps of Engineers for assist- ance in reviewing Northwest's engineering solutions to permafrost- related problems. This assistance will be provided by a number of the Corps of Engineers' divisions and laboratories, including the Cold Regions Research and Engineering Laboratory which employs some of the world's experts in permafrost dynamics and Arctic engineering. In addition to their inhouse expertise, the Corps of Engineers will draw upon the resources of the U.S. Geological Survey, and the academic and international engineering communities. This exper- tise will be invaluable to the Office of the Federal Inspector during the design review stage. I would like to divert a minute. During the design phase, we do not plan to be a reactive organi- zation. We plan to be completely active, helping the sponsors and their contractors resolve any problems that might exist. This is, I think, an example of where we will be able to aid by bringing together the top expertise in the country. The support and cooperation I have gotten from all the agencies is especially appreciated since I do not intend to duplicate existing PAGENO="0084" 78 expertise which can be made available to the Office of the Federal Inspector. There exists among the Federal agencies a sincere desire to face the issues squarely and to resolve them with equanimity and pru- dent haste. This is not to say that reaching agreement has always been easy or quick. As I have reported already, there are a number of issues which are still unresolved. Yet the lines of communication are open and the flow of information and ideas is steadily increasing. And, more importantly, all key parties both in Government and the private sector are participating. This is a new atmosphere for the Alaska Gas project and I firmly believe it is a healthy one. I intend to do everything I possibly can to see that it continues. At the September Executive Policy Board meeting, the State of Alaska's pipeline coordinator reported significant progress in the area of socioeconomics in which the State has assumed the lead responsibility. The State and Northwest Alaskan have been able to reach agree- ment on a number of provisions which the State believes will be effective in minimizing socioeconomic impacts during construction. Here again, the case is by no means closed, but the outlook is encouraging. I will continue to follow developments in this area closely. Socioeconomics is but one of the areas of impact on, and involve- ment with, the State of Alaska which merits special attention. As mentioned before, the State has participated in the development of the environmental and technical stipulations to assure uniformity of the requirements which will be imposed on both State and Federal lands. Not only should the requirements be as uniform as possible, but the monitoring and enforcement structures should also be compati- ble and closely coordinated. The vehicle for the resolution of this and other related issues is, of course, the Joint Federal/State Moni- toring Agreement. Because these issues are both very complex and extremely impor- tant, I have personally been involved and will continue to monitor the negotiation process to assure that the details of the agreement are fairly and intelligently developed. This is also an extremely important area~ For the company to be able to project costs, they have to know what to expect. Thus, there has to be an evenhanded, reasonable approach which the compa- nies can predict. A number of surprises will undoubtedly occur in Alaska during construction, I do not want the Federal Govern- ment's actions to be one of them. As the members of this committee are well aware, this is not the first time that the Alaska natural gas transportation system has received congressional attention, nor, I dare say, will it be the last. This project is immense, no. matter what measuring tool one ap- plies. Somewhere along the line almost everyone has an interest. Some of the interests are very limited in time; some are quite narrow in scope; and some pervade every facet of the project. As Federal Inspector, I fully recognize that it is my responsibility to be constantly aware of these interests. During my trips to both PAGENO="0085" 79 Alaska and Canada, I have met, or tried to meet with, as many groups as possible who have expressed an interest in this project. While in Washington, I have spent time with representatives of various groups and through these talks I have gained a valuable understanding of the perspective of each of these interests. I have also come to understand that achieving a balance between these interests will not always be easy. Yet, as Federal Inspector, I am prepared to fully accept my responsibility for determining how competing interests will be balanced and for accomplishing this in a fair and responsible manner. For example, environmental groups have proposed formation of a citizens committee which would be attached to the Office of the Federal Inspector. The perspective which such a citizens committee could bring to the Office of the Federal Inspector could be a valua- ble asset to the decisionmaking process. I am currently analyzing the available options to determine which alternative will best achieve our common objective: the minimization of environmental damage. I remain firmly convinced that early, careful planning will ac- complish this objective; first by eliminating most of the major potential environmental problems, and second by serving to reduce the severity of the problems which may surface later. The key is to recognize problems early so that they can be solved reasonably and without excessive costs or delays. The past 3 months have been an education; and a valuable and rewarding one. I am encouraged by what I have seen and I am optimistic about the future. As a result of the dedicated efforts and cooperative attitude evidenced by all sides, a number of problems are now on their way to resolution. I fully recognize that there are difficult choices ahead, but I stand prepared to assure you that they will be made fairly, intelli- gently and quickly. If we can succeed in maintaining the forward motion which has already begun, we shall have a successful project which is a credit to us and to the Nation. Both Mr. Peter Cook, my deputy, and I are available for any questions, Mr. Chairman. Mr. RUNNELS. Thank you very much for a most enlightening statement. I congratulate you not only on your statement, but also on your appointment. I am no flaming liberal and in my career as chairman of this subcommittee you are the first to indicate to me that you are a conservative. The reason I say this is that you used both sides of your sheets of paper. No other witness has been conservative enough to use their paper that way. I congratulate you. If that is any indication of how you are going to run your office, you and I are going to get along real well. Mr. RHETT. Mr. Chairman, of course, one of the big issues that is outstanding is the reimbursement issue and I am sure that Mr. McMillian was counting the number of sheets of paper that I used. Mr. RUNNELS. It is the American taxpayer and the American consumer that should be saying "thank you" because if you are going to operate in this manner, you are going to save money in the long run. I know a lot of people say you are going to be saving for Northwest Pipeline. That is not who you are really saving for. PAGENO="0086" 80 You are saving money for the American consumer because that is who will pick up the tab. Is this correct? Mr. RHETT. Yes, sir. Mr. RUNNELS. How large is your staff today? Mr. RHETT. Presently it is 26 people. We are exactly on schedule. Mr. RUNNELS, At its peak during the construction period, what do you think it will be? Mr. RHETT. In the neighborhood of about 230. We will have about five to six offices, but the bulk of this staff will be in Alaska. Mr. RUNNELS. What is your budget for fiscal year 1980? Mr. RHETT. For 1980, $15 million. Mr. RUNNELS. What in your opinion are the most serious unre- solved issues up to this point? Mr. RHETT. The most serious one is financing. In the 2 months that I have been on board, Mr. Chairman, the whole atmosphere of the project has changed due to the regulatory decisions that have been made. I think the financial community has more confidence in the project as a result. There are some technical hurdles but in my opinion these can all be overcome by competent engineering, in an adequate period of time and in a cost effective way. Mr. RUNNELS. I am happy to hear you say that you can see this change of atmosphere and change of feeling. The testimony yester- day indicated a lot of it was due to your being appointed Federal Inspector. What do you think caused the delay in your appoint- ment? Mr. RHETT. Mr. Chairman, you are a little out of my bailiwick; although it does seem like it took an inordinate amount of time. I know that the Canadians are about 14 months ahead of us, but I can assure yout that we are catching up fast. Mr. RUNNELS. In your testimony you have stated that you have visited the western leg and the northern leg and also your various counterparts in Canada. Is this correct? Mr. RHETT. Yes. Mr. RUNNELS. I am trying to establish a complete record. It was a long time coming and we are happy that you have been appoint- ed. I have already established that you are conservative; now, to ask you a personal question. We are running a little bit behind on this project. By any chance were you a 7-month baby? If you do not want to answer, you do not have to. We are going to assume that you are going to double up and catch up. Mr. RHETT. Yes, sir. Mr. RUNNELS. Mr. Clausen. Mr. CLAUSEN. I want to join my genial chairman in welcoming you before the committee, Jack, and to add to what he has said in a bipartisan tone about how genuinely pleased we are that you have been selected to serve in this capacity. I say this on the basis of the many, many years we worked together on my other commit- tee assignment when you were serving in the Environmental Pro- tection Agency trying to bring some semblance of balance between the economical and environmental considerations we all have to face. I think you are eminently qualified. As you can see by the reception you are receiving from this committee, as well as the PAGENO="0087" 81 feedback I am hearing, people are genuinely pleased at your ap- pointment. I think there is lots of optimism simply because of the fact you were selected for this important responsibility. Mr. RHETT. Thank you. Mr. CLAUSEN. There are a few things. You made reference to the Joint Federal/State Monitoring Agreement. How voluminous is that agreement? Mr. RHETT. Mr. Clausen, I cannot really tell you yet because we are still negotiating. It could end up being fairly complex and fairly thick, but the major part of the agreement, that part which estab- lishes a cooperative working relationship, should only be very, very short. There are a number of difficult problems which, though mainly legal, still have to be worked out. If necessary, the agreement could have appendices to resolve any legal problems. Mr. CLAUSEN. My reason for asking how voluminous it might be is whether it should be made a part of our record because we are attempting to develop the kind of record that would include the most important documents. As a part of our total effort it would be helpful if the committee had that or if it is very voluminous a summary of the agreement. Mr. RHETT. The problem is that neither myself nor the State has approved it as yet. We are still in the middle of negotiations. I wonder if it might not be appropriate for us to finish this extremely important document and then furnish it to the commit- tee. Mr. CLAUSEN. That is exactly why I am making the request. As soon as it can be completed I would like to see it, Mr. Chairman, be made a part of the record or the file, depending upon the size of the document. Mr. RUNNELS. Without objection, it is so ordered. Mr. CLAUSEN. On page 4 of your testimony with respect to the western leg, you state that "the Federal Energy and Regulatory Commission is scheduled to issue a Certificate of Public Conven- ience and Necessity early next year and I foresee no major prob- lems which the Office of the Federal Inspector and the sponsors cannot resolve." While the section regarding your office is encouraging, there appears to be some slippage on the Federal Energy Regulatory Commission western leg approval when compared to testimony received yesterday. Why cannot FERC approval be forthcoming this year? Mr. RHETT. Mr. Clausen, I think that Chairman Curtis will be here. Mr. RUNNELS. He is our next witness. Mr. RHETT. I wonder if I could defer that issue to him? Mr. CLAUSEN. All right. But I will get back to you. Mr. RUNNELS. Would the gentleman yield? If I understood correctly, the Inspector does not really have full sway over the western leg and the Northern Border pipeline system. Mr. RHETT. No, Mr. Chairman, the Federal inspector will have oversight responsibility on both Lower 48 legs as well as the Alas- kan segment. PAGENO="0088" 82 Mr. RUNNELS. I mean concerning things like issuing the permits like the Department of the Interior's. You mentioned in your state- ment that the Department is going to be issuing one next month. I was trying to point out the difference between your role in Alaska which is a little different from the role in the Lower 48. Mr. RHETT. That is particularly true for the western leg, because it does not have the incentive rate of return mechanism which is a very complex experiment. I am sure Chairman Curtis can address this in more detail. The major thing on the western leg is that the company is well prepared. I am convinced that if something does not really get hung up in the Federal Energy Regulatory Commission right now, and if the Canadian National Energy Board approves the prebuild, that leg will stay on the schedule presented yesterday. Mr. CLAUSEN. Are you confident that the Department of the Interior will be ready to issue a right-of-way grant to the Pacific Gas Transmission Co. by the end of next month? Mr. RHETT. Yes, sir. In fact, I discussed this with them yesterday. Mr. CLAUSEN. Do you have adequate or truly full support and cooperation from the executive branch in the staffing and the funding of your office consistent with what you perceive to be the requirements? Mr. RHETT. Very much so. In fact it is somewhat unique. As my budget examiner told me, he was putting on his white hat for these two or three budget exercises that we are going through now, but next year he will put his black hat on. We are getting complete support, yes, sir. Mr. RUNNELS. Excuse me. You might tell him where your office is so he will know. Where is your office? Mr. RHETT. It is presently with 0MB in the New Executive Office Building. Mr. CLAUSEN. You make reference to the dedicated efforts and the cooperative attitude evidenced by all sides. Is that unique in your experience? Is this cooperative effort because of the recogni- tion of the energy crisis and the requirements~ that have to be met here? Mr. RHETT. I think it is unique. As you know from my back- ground, I have had to work with a number of agencies before. We are just not seeing the turf fighting. People are trying to put their shoulders to the wheel and to make sure that the problems are resolved, but I really think it is the result of two factors. First, it is the energy crisis and the dedicated effort of the top people to resolve the issues. That attitude is filtering down. The second thing is that the office of the Federal inspector is an experiment in public administration. I think between the power that is given to the Federal inspector and the energy crisis, I am seeing something very unique. Mr. CLAUSEN. The fact that this was created by the Congress suggests that maybe we have done something right for a change. Mr. RHETT. I think so, very much so. Mr. CLAUSEN. Let me just ask you a final question. A lot of us on the committee and in the Congress have placed a high priority on the establishment of an energy distribution net- work here in the Western Hemisphere. Are we overstating its PAGENO="0089" 83 requirements or needs in terms of meeting the energy needs or are we understating it? I feel very strongly about it. That is the reason why I am pleased to see a person of your caliber aboard to bring it on line as quickly as possible. I would like to have your view on the necessity for an energy distribution network. Mr. RHETT. I think it is completely essential. I do not think there is any understatement at all. We still have problems in oil distribu- tion; there will be further gas distribution systems. I am just convinced that the country needs this project. I am sure you have read articles in the newspapers which I claim that Mexican gas or liquid natural gas are viable alternatives to the Alaska pipeline. I just do not believe it. We need all of these energy sources. And we also need the distribution systems to be able to carry energy where the country needs it. I think this project is an integral portion of that distribution system. Mr. CLAUSEN. We certainly look forward to working with you. I am sure the committee will not only follow your activities with interest, but as part of the monitoring effort we want to be in the writing wing with you. Mr. RHETT. Right, I am looking forward to it. Mr. RUNNELS. Before the next Congressman asks questions, I might suggest to those of the press, those who are writing, who want to use these seats around here, that they may feel free to come up here and sit down. There is no use standing up when there are seats available. Mr. RUNNELS. The gentleman from Montana, Mr. Williams. Mr. WILLIAMS. Thank you, sir. How will your office and the Federal Energy Regulatory Division divide responsibility in computing costs for the incentive rate of return mechanism? Mr. RHETT. We are presently negotiating what the exact division of responsibility will be. In fact, I met with Chairman Curtis last Friday. I would assume that we ought to be able to resolve this issue within the next 2 to 3 weeks. Obviously, I am trying to make sure that I have enough tools to do the job and do the job properly. Chairman Curtis, though, also by law has certain responsibilities in this area and either I have to satisfy those for him or he has to have some oversight. Mr. WILLIAMS. Thank you. What are the employment requirements under the equal oppor- tunity provisions of the act? Mr. RHETT. Excuse me? Mr. WILLIAMS. What are the minority employment requirements under the provisions of the equal employment opportunity provi- sions? Mr. RHETT. We have a set of regulations that are just about to go out; in general, for EEO we will be trying to at least meet the general pattern of population distribution. Also, in minority busi- ness, we are considering dropping the level for contract review from $1 million down to $500,000. I am not sure exactly how this will come out. PAGENO="0090" 84 Mr. WILLIAMS. We heard a great deal of concern expressed yes- terday from officers of both Foothills and Alaska Northwest Natu- ral Gas concerning what they claimed to be the costly and time- consuming delays which they say are caused by legislative and regulatory proceedings here in the United States. Recognizing that you have not-that your tenure in this specific job is yet limited, do you have some thoughts about those delays? Are they real? And do you have any recommendations for this committee about how legislative or regulatory delays and lags might be prevented in the future? Mr. RHETT. I think there are two things. One of them you all are presently acting on. That is your Energy Mobilization Board. This is where you finally get a focal point and somebody who is respon- sible. I think that where the responsibility can be spread around it is difficult to get timely decisions. With your Energy Mobilization Board, handling the priority projects, I think many of these regula- tory problems can be overcome. I also think that you need to watch me and my organization very closely, because this is an experiment in the same thing. It is a little more down on the back end rather than the front end like the Mobilization Board, but I think these two items are not only impor- tant, I think they are essential for us to meet our energy needs. Mr. WILLIAMS. Thank you. Mr. CLAUSEN. Would the gentleman yield? Mr. WILLIAMS. Yes. Mr. CLAUSEN. You have made reference to the Energy Mobiliza- tion Board. The Senate has passed a bill. The House Interstate and Foreign Commerce Committee and the Interior Committee have versions of their own. Have you had a chance to evaluate the Senate version? Will it get the job done? Mr. RHETT. Congressman, I assume we are talking about the general energy field rather than the pipeline. First, let me make sure I understand the question. Mr. CLAUSEN. One or both. Mr. RHETT. OK. Let us talk in general. Mr. CLAUSEN. General energy projects? Mr. RHETT. Yes, generally I believe it will. I think it is an extremely good bill and I think the authority to expedite should accomplish our purposes and yet not reach the point that we are running roughshod over the States or something of this nature. Mr. WILLIAMS. If I may reclaim my time. You are saying, sir, that you prefer the Energy Board to deal with procedural delays and difficulties rather than substantive law? Mr. RHETT. In general, this is my feeling. I feel we are better off that way. If you have the procedure set up, and if you can isolate the problems early, I personally think the substantive part can be resolved. Mr. WILLIAMS. From your experience, are the delays occurring because of States or because of Federal law and procedures? Mr. RHETT. I think it is a combination. Mr. WILLIAMS. Governors tell us that they are on time and on line and the Federal Government is creating the delay. PAGENO="0091" 85 Mr. RHETT. I think it is all the way across the board. There are problems statewide, there are local problems, and there are also Federal problems in this. Most States have parallel laws for envi- ronmental or consumer protection that can cause delays. And if you have one central focal point where all of these can be laid out, and if you can waive the procedural portions, State, local and Federal, I think we have an opportunity to speed these projects along. I firmly believe that you always need to be able to "pin the rose" on one person. The head of your board would have the responsibili- ty for making sure that these things are done; there would be no diffusion of responsibility. Mr. RUNNELS. The chairman is invoking the 5-minute rule as of right now. I tried to be lenient yesterday and tried to be lenient today. If we do not invoke the 5-minute rule-we were here until after 3 o'clock yesterday afternoon. So it is the 5-minute rule. Next, Mr. Lagomarsino. Mr. LAGOMARSINO. I will use the 50-second rule. Thank you, Mr. Chairman. I am sure that you are well aware from your work and also from the testimony yesterday that, unlike so many other projects that we have had the luxury of dragging out for years and so on in the past, if we apply that same standard to this project we may well not have one; that it is not just a question of delay costs money, delay may cost the entire project, as apparently was the case with the Sohio project in southern California. So I compliment you on your statement and on your willingness and eagerness to get on with this job. I think it is essential to the future of the energy- independent feature of our country. Have you had a chance-this was alluded to earlier but I am not sure the specific question was asked or answered-have you had a chnace to look at the language that Senator Stevens of Alaska inserted in the Mobilization Board bill? Mr. RHETT. I have read it. We are in the process of analyzing it. However, I need to do more analysis of it. What he is trying to accomplish is extremely good; in other words, the best of both worlds. I am trying to look at it from a procedural administrative view- point. The one thing that I do not think would be helpful is to put another layer over the Federal Inspector. In other words, if the Federal Inspector has to operate under the board, then I am afraid we are going to get two things: We are going to get into adminis- trative and legal problems, plus, again we have reached that point of not having a single focal point of responsibility. I am not sure whether this is adequately taken care of. My lawyers are working on this. We would be happy to work with the committee's staff on this. Mr. LAGOMARSINO. Thank you. I might just say that I hope and I am sure you will share that information with us because we are going to be working on that legislation ourselves pretty soon on the floor. Mr. RHETT. I will, sir. Mr. RUNNELS. Mr. Young of Alaska. PAGENO="0092" 86 Mr. YOUNG. Mr. Chairman, I thank you for invoking the 5- minute rule; I appreciate it. Mr. RUNNELS. You knew what was coming. Mr. YOUNG. I knew what was coming. I was late getting here. So I am doubly chastised. Mr. RUNNELS. No, no, no. It applies to the chairman as well as to the members. Mr. YOUNG. Mr. Rhett, I want to personally compliment what progress you have made. You mentioned staff, 26 members; how many are in Alaska now? Mr. RUNNELS. How many what? Mr. YOUNG. How many staff members are in Alaska now? Mr. RHETT. My top technical man is there right now; but let me explain that. Mr. YOUNG. You do not have to explain too much; I am just curious. Mr. RHETT. I have one staff person there now. But I think it is important for you and the committee to understand the way that I am developing my organization. I brought one man down from Alaska and he is my top technical man. There is a second man, Paul Steucke, who has been in Alaska for the last 3 or 4 years and will be sent back shortly. But at the same time I struck an agreement with the executive coordinating committee which is run by Curt McVee from Alaska. They agreed to operate for me until I could select a top quality staff. I am getting tremendous support from all quarters. And I might add, it is not just the Federal establishment but it is also Chuck Behlke, the Alaska State Pipeline Coordinator, who is a real pro. We almost always have somebody in Alaska; as a matter of fact, I plan to be there next Tuesday. Mr. YOUNG. At the appropriate time I hope you plan on staying for a period of time while you are in Alaska. Mr. RHETT. Yes, sir. Mr. YOUNG. This is out of line in a sense. I also have suggested we consider, because the line is 400 miles north of Fairbanks and 400 miles south of Fairbanks within Alaska, that Fairbanks be given some consideration. It is very difficult for me since I am a Representative of all the State. But I had an experience with this during the TAPS operation where a lot of the decisions were made in Anchorage, 400 miles away from the line. I think you should be in the field close to the operation. Yesterday during the testimony of a couple of witnesses, there was allusion to agency lack of action, not referring to you particu- larly. Have you run into any difficulties with fish and wildlife, birds and feathers and all those things? Mr. RHETT. Congressman Young, not really. Now let me explain this. I have been on board a little over 2 months and I am finding nothing but cooperation. That does not mean that there were not delays in the past. There have been major delays in the past on the project. But I think that since I have come on board, and I hope part of it is leadership that my office has been able to give, that we are finding a very cooperative approach to resolution of problems. PAGENO="0093" 87 Mr. YOUNG. What is your linkage as far as your answering to anybody other than the President? Who do you answer to? Mr. RHETT. Theoretically I answer to the President. Of course Vice President Mondale has been intimately involved in the proj- ect, as well as Secretary Duncan. I also answer to the oversight committees. Mr. YOUNG. What I am trying to get across is, I am sure as this line progresses after going through the TAPS line, that there is going to be a lot of people trying to tell you what to do that have nothing to do with the pipeline as far as I am concerned. Do you have to answer to Andrus or Kathy Fletcher or Joan Davenport or Chris Carlson or any of that type. Mr. RHETT. No. In general, my access has been straight to the Vice President to date. Mr. YOUNG. One thing I would appreciate not only as a repre- sentative from the State but as a member of this committee that if there is any time we can be of assistance to you, please let us know. We want to make sure there are not arbitrary roadblocks of things that really do not make sense. Please feel free to contact this committee-and of course myself, respectively, and we will see if we can help-because your job is very important. I like the idea of "pinning a rose" on you. I think that is the whole key to the timely construction of this pipeline, not only engineeringwise but delivery to the consumers. I went through this time and again where there would be a delay, for absolutely no reason at all. We dug up pipe that had no reason to be dug up, none whatsoever. Someone said it was not properly done, one group. We had stoppages at crossings, we had to go through four, five different agencies, it was just a whole boondoggle of manage- ment. I hope your position will give you the authority to make those decisions with the responsibility laying upon your back. Mr. RHETT. I appreciate the offer. You know, I do not want to underplay the fact that, as I have said, we have some tough deci- sions and some tough head-knocking coming. None of these issues will be easy to resolve; if they were you would not need me. Mr. YOUNG. But the decision has to be in your hands. That is one thing I was pleased with what you said. Even with Mr. Stevens, my senior Senator, I hope he recognizes that a double layer of brass will not achieve what we are seeking out of this committee. I am sure that is not his intent at all. Mr. RHETT. I am sure it was not. Mr. YOUNG. I hope you will make the pertinent decisions regard- ing construction of this line. Mr. RUNNELS. The gentleman's time has elapsed. We want to thank you for being here. Mr. Cook, do you have any statement you would like to make. Mr. CooK. Thank you, sir. I think Mr. Rhett has said everything for now. Mr. RHETT. Good deputy. Mr. RUNNELS. Jack, you were answering a question as to who you had to answer to. Is your wife in the audience? Mr. RHETT. Yes, sir. PAGENO="0094" 88 Mr. RUNNELS. Will she raise her hand, please? She comes from the finest congressional district in America. I did not say where. Mr. CLAUSEN. And I thought your opening remark was sincere. Mr. RUNNELS. We thank you for being here. If this committee can be of any assistance at any time, we would hope that you would feel free to keep our staff informed of your operations and on what is going on so that we may be able to help out. Mr. RHETT. Mr. Chairman, I appreciate the opportunity to appear before you today. Mr. RUNNELS. Thank you. Is Mr. Curtis in the audience yet? Mr. Curtis had another meeting to go to. He wants to appear personally. So we will have Mr. Curlin, accompanied by Mr. Toskey. Mr. Curlin is Assistant Deputy Secretary of the Depart- ment of the Interior. We are happy to have you here. You may summarize your statement and it will be included in its entirety. [Prepared statement of Hon. James W. Curlin, may be found in the appendix.] STATEMENT OF HON. JAMES W. CURLIN, DEPUTY ASSISTANT SECRETARY, DEPARTMENT OF THE INTERIOR, ACCOMPANIED BY WILLIAM M. TOSKEY, AGENCY AUTHORIZED OFFICER, ANGTS Mr. CURLIN. Thank you very much, Mr. Chairman. This is the first time before this subcommittee and I am looking forward to this interchange, as well as those in the future which I am sure will occur. I am prepared to summarize my statement, Mr. Chairman. I would like to do this as briefly as possible and talk about three particular items of interest to the subcommittee: First, the situations that will be required for grants of right-of- way; second, the alignment of the right-of-way; and third, the unique qualities of the Haines-Fairbanks right-of-way decision. In that order, then, with regard to the right-of-way grants, the Department of the Interior has responsibility for making these grants over Federal lands. It will have to make grants to each of the following four companies-there will be four grants: Northwest Alaskan Pipeline Co., Alaskan leg; Northern Border Pipeline Co., eastern leg; Pacific Gas Transmission Co., western leg from the United States-Canadian border to Oregon-California State line; and .the Pacific Gas & Electric Co., western leg within the State of California. For the convenience of the committee, we have included a map attached to the testimony that you may look at if you wish. According to the current construction schedules, construction will begin first on the eastern leg and the Pacific Gas Transmission segment of the western leg from the United States-Canadian border to Stanfield, Oreg. The right-of-way grants covering portions of these systems will be executed upon completion of the stipulations and, as the Federal inspector has said, this will be in November. Grants covering the Alaskan leg and the Pacific Gas Transmission segment of the west- ern leg from Stanfield to the Oregon-California line will be done in sequence. The Alaskan leg should be within the next 6 to 9 months. PAGENO="0095" 89 The cooperation that has been received by the Department from other agencies and the Federal inspectors is a splendid example, I believe, of the cooperation that this administration, is putting forth in pursuing this and other major energy activities. However, to be perfectly blunt, we do have a problem within the Department of the Interior in balancing the objectives of several of the statutes which we have to work with. One of these, of course, is the Mineral Leasing Act under which the right-of-way grants are made, and the second is the expedited processes of the Alaska Natural Gas Transportation Act which we are discussing today. There are four things that are required of us with regard to the granting of rights-of-way: The restoration, revegetation, curtail- ment of erosion that might result from construction; protection of air and water quality that might derive from the activities of this construction and the operation of the pipeline; control or preven- tion of, environment and property damage and hazards to public health and safety, and fourth, the protection of the interests of individuals living in the general area of the right-of-way who rely upon those resources for subsistence. Now, it is expected in a 4,000-mile pipeline right-of-way project that there are going to be both the extremes of the environment involved and some extremely difficult engineering and environmen- tal problems to be resolved, particularly in the construction through permafrost. It is not exactly what you call state-of-the-art technology, but each and every turn can bring surprises. The Fed- eral inspector has recognized this in his statement and we are prepared to deal with these problems as they come up. Another responsibility of the Department of the Interior is the impact that may derive on wildlife, fisheries habitat, and so forth. Inevitably there will be damage. This has been acknowledged. Our problem is minimizing that. I believe through the splendid cooperation that we are receiving from the company and the cooperation we are receiving from the other Federal agencies that we can minimize these impacts and move in an expedited way to accomplish the objectives of the project. With regard to the Alaska Natural Gas Transportation Act, its objectives are to bring the resources of the Government together to expedite the construction of the project. The urgent need for the pipeline, combined with the constraints imposed by the incentive-rate-of-return concept, does create some economic tensions between what one might characterize as least cost engineering solutions and the achievement of the environmen- tal protection that I have just summarized. In addition to the consideration of capital costs for engineering and construction adjustments for environmental reasons, we feel that the life-cycle costing for maintenance of the line should also be considered in the formulation of the incentive rate of return. Now personally, I do not hold myself out as having any expertise. I have a minimal knowledge with regard to the calculation of this experimental concept of regulation and I am sure that Chairman Curtis will treat this indepth. But the Department has been urging the Regulatory Commission to consider the life-cycling costs, the impact of these costs on both the construction and the maintenance PAGENO="0096" 90 of this line with regard to the rates, and the company's response to the Government's need to protect and maintain the environment. We have been seeking mutual solutions. As I mentioned, the progress has been good. It is not to say that we are over the hump yet, but the stipulations are well developed. We are confident we will be able to move expeditiously in November. Mr. Toskey has just returned from Alaska. He has information of greater detail and on the progress that has been made on formulat- ing the stipulations. These will be compiled in a handbook which will be used by the construction crews at the pipeline, the pipeline management, and the Federal agencies and personnel who are responsible for overseeing these activities. By assembling this in handbook form, we feel that everyone will have information that has been developed and derived by the interaction of the Federal- private sector in the State of Alaska. The second item is pipeline alignment: The President's decision and report to Congress, in September 1977, set out the general location of the pipeline, that is with regard to paralleling the Alyeska oil line to Delta Junction and then following the Alaskan Highway to the Canadian border. However, there are a number of details with regard to alinement, in placing this natural gas line parallel to the oil pipeline, which still must be resolved. After a number of exchanges between the company and the Department of the Interior and other agencies, there was a work- ing group assembled in Salt Lake City to discuss the technical concerns that still faced the group in meeting these responsibilities. Membership of this group included representatives of Federal agen- cies, the State of Alaska, the Trans-Alaska pipeline system (TAPS), and, of course Northwest Alaskan Pipeline Co. itself. The working group, made up of an impressive mass of expertise, was divided into eight technical teams to examine specific con- cerns. These teams dealt with construction, thermal problems, geo- technical problems, the proximity problems, hydrology, the cost, erosion control, and biological impacts. However, while the working group was contemplating these problems and devising solutions and expanding data and informa- tion, the company was permitted, of course, to go ahead with its design and planning based upon the resolution of several factors that were agreed to by the company with the working group. And the planning and design has continued on that basis. There has been one meeting held. There are three meetings scheduled with the working group and the company to convey the information and develop the strategies. The first one was held in September and there will be another meeting held in the early part of November, somewhere between the 8th and 10th. This schedule has not been nailed down. There still remain a number of concerns that this working group will have to address, however. To summarize: There is the effect of frost heave on the chilled buried line, the effect on ground water, thermal interaction with the hot oil line if it is buried in close proximity to that line, the impact of blasting on the oil line, risk analysis of the mutual impact between oil and gas line during the construction and operation, slope stability of thaw-unstable soils, PAGENO="0097" 91 crossings of the oil line, and then, of course, the mitigation meas- ures for fish and wildlife and their habitats. The company continues to work on these in close association with the Department. We have offered our assistance. We will go as far as necessary in resolving these particular problems. The last item, the Haines right-of-way, is a rather complex situa- tion. The status of ownership of some of the right-of-way is still under advisement. I have brought with me for inclusion in the record with permis- sion a letter which was transmitted from Assistant Secretary Guy Martin to the General Services Administration, which outlines in detail the problems associated with the Haines right-of-way. Mr. WILLIAMS. It is so ordered. Mr. CURLIN. Thank you. [The letter referred to above may be found in the appendix.] Mr. CURLIN. Involved in these uncertainties of jurisdiction are certain Native claims which must be resolved by the Alaska Native Claims Appeal Board of the Department of the Interior. You can appreciate that trying to reach a schedule and hold a schedule on something as complex as an appeal procedure with regard to Native claims prohibits us or makes it very difficult to anticipate when this will be resolved. However, we will be moving as expeditiously as possible to re- solve those decisions. In addition to the Native claims problems, there are three Feder- al agencies which are involved as well: The Department of the Interior, the General Services Administration, and the Department of the Army. The Department of the Interior, as soon as the clarification with regard to some of the uncertainties of the ownership of the right-of- way area is resolved, will move expeditiously for grants of right-of- way to the company. However, in the event that certain of these areas are found to be within the realm of the Native claims, then of course this will become a private negotiation with the company and with the Natives. Just to summarize, we are quite pleased with the cooperation we are getting, with the guidance we are getting from the Federal inspector. The Department has created a counterpart to the Feder- al inspector's office. Mr. Toskey heads that up. It operates as an independent unit under the Assistant Secretary for Land and Water. We feel in this way we are able to deal with the internal problems of the multiple agencies of the Department of the Interi- or much in the way the Federal inspector is dealing with the overall Federal agencies. Mr. YOUNG. Did you say Mr. Koskey? Mr. CURLIN. Mr. Toskey. Mr. YOUNG. Is he the same one that held up the lake for P.G. & E. for 3 to 5 years? Mr. CURLIN. I will let him answer that. Mr. YOUNG. Are you the same gentleman? Mr. TOSKEY. No, sir, I have been in the Department of the Interior only 3 months. Mr. YOUNG. You are not the same one? Mr. TOSKEY. Yes. 57-087 0 - 80 - 7 PAGENO="0098" 92 Mr. YOUNG. You are the same one that was mentioned yester- day? Mr. TOSKEY. Yes. Mr. YOUNG. You are the counterpart? Mr. TOSKEY. I hold the position within the Department of the Interior responsible for coordinating all activities within the De- partment for the gas line. Mr. YOUNG. I can see why we are going to have to have the Energy Mobilization Board. Thank you. Mr. CURLIN. This concludes my statement and I would be willing to answer questions. Mr. WILLIAMS. Thank you. Originally Northwest proposed that the gas pipeline cross over the oil pipeline 64 times. What is the latest proposal? Mr. CURLIN. We now estimate the cross-overs will be approxi- mately 40. Mr. WILLIAMS. Thank you. Mr. Young. Mr. YOUNG. Mr. Chairman, Mr. Curlin, I was reading your testi- mony while you presented it. On page 3 you have some remarkable statements. For example, Arctic permafrost is a fragile feature of the northern environment. I have heard that since 1968. I think that has been established. Is there anything new about the construction or the crossing of streams or location of the pipeline from Prudhoe Bay to Delta? Mr. CURLIN. We have gained a great deal of experience, Mr. Young. Of course, with each excursion into that area we learn more. Certainly there are unique situations that will arise. Because of the proximity, however, with the oil line, we do have that base of knowledge upon which to operate. The difference between burying a chilled line and a hot oil line over the surface, of course, can result in different engineering considerations. I personally do not have the expertise to make any specific judgment. My intuition however, is that while we may run into some surprises from time to time, in general we have the knowl- edge to carry this project out without major concern. Mr. YOUNG. Further on page 4, it says hundreds of spawning beds for commercial and sports fish lie in the same general path of the pipeline. Are any of these streams different than were crossed with the oil line? Mr. CURLIN. I believe not. Mr. YOUNG. Was there any damage to anyone's knowledge to any of the spawning stream? Mr. CURLIN. Not of a major nature. Mr. YOUNG. It says, "The exact location of each spawning bed is not known." Mr. CURLIN. I believe that stands on the facts, yes. Mr. YOUNG. But it is the same path that we took with the TAPS line. Mr. CURLIN. I do not disagree. Mr. YOUNG. To my knowledge, there is only one spawning stream that will be crossed from Delta to the Alaskan border. PAGENO="0099" 93 Mr. CURLIN. You probably know more about that than I. Mr. YOUNG. The thing that really bothers me is, this is fine testimony but it is fraught with insinuations there is going to be great environmental damage done when we are really following the parallel path of the TAPS line and we have a counterpart to Mr. Rhett and we are going to hear from the Army in a few moments, and it looks to me we are appearing to build a case to be faced with the same exact problems of delay that was fraught with the TAPS line. Mr. CURLIN. I would disagree that you could follow that conclu- sion, Mr. Young. You may interpret it that way. I do not see that as a prospect. I think the Department is looking at these possibilities. We do have the experience. It was not intended that this statement be inflammatory or to imply that we will have horrendous problems, but merely to recognize that in dealing with these problems there is a responsibility, a legal responsibility on our part, and that we will do the best we can to resolve them. We all recognize the need for the pipeline. We intend to see that it is constructed expeditiously and with minimal impact on the environment. Mr. YOUNG. The last sentence, "Thus, some unforeseen damage to spawning beds will inevitably occur," that is an assumption. Mr. CURLIN. It is an assumption, correct. Mr. YOUNG. It is inflammatory, to say something like that about spawning streams, that this pipeline is going to cross exactly the same way TAPS did. It has a fine record, to my knowledge there has been no damage. This is a beautiful piece of Interior work. Thank you, Mr. Chairman. Mr. RUNNELS. Thank you. Mr. Lagomarsino. Mr. LAGOMARSINO. Mr. Curlin, is the Haines right-of-way the one referred to yesterday by the witnesses? Mr. CURLIN. I am not sure. There is only one Haines right-of- way. Mr. LAGOMARSINO. They did not use that term. They said there was a 3-mile--- Mr. CURLIN. No, that was a different situation, sir. Mr. LAGOMARSINO. Can you tell us about that situation? Mr. CURLIN. The situation to the degree of delay that was im- plied with regard to the 3-mile sector, is that it? I can address that in a general way. I have no institutional memory on this, sir, so I am having to rely on other information. I think there are three elements, at least two elements that you must consider as back- ground on that particular situation. The President's decision was pending until the fall of 1977 with regard to this pipeline action. That is the first point. The second point is that the policy board, which supports the activities of the Federal inspector, had made a decision that it wished to make the stipulations as uniform as possible among all of the legs of the pipeline. Therefore, to get uniformity, they must consider in totality those actions. These stipulations have now been developed. We are ready to move forward. PAGENO="0100" 94 Those two elements, the delay in the President's decision with regard to the overall project and, second, the wish for uniformity among stipulations on the right-of-way-the right-of-way stipula- tions are the other factor. We are ready to move. Mr. LAGOMARSINO. Thank you. Mr. RUNNELS. Thank you. Mr. Clausen had an important meeting in his office and he asked if counsel would ask some questions that he had and I agreed to it. Mr. ROGERS. Thank you, Mr. Chairman. Welcome to the subcommittee, Mr. Curlin. Mr. CURLIN. Thank you, sir. Mr. ROGERS. Have you taken the position formerly occupied by Gary Wicks? Mr. CURLIN. That is correct. I am known as Wick's replacement. Mr. ROGERS. Will you be the Department's point of contact for matters concerning the proposed Alaska gas project? Mr. CURLIN. I will be at the Deputy Assistant Secretary's level, yes, sir. Mr. ROGERS. Will the staff of the authorized officer in Anchorage be converted over to the proposed Alaska gas project? I am speak- ing of the office in Anchorage, Mr. Turner, the other gentlemen who have been involved in that office with the Trans-Alaska Pipe- line System. Mr. CURLIN. We do not anticipate that move at this time, no, sir. Mr. ROGERS. Will the authorized office or staff remain independ- ent as it relates to a chain of command within the Department of the Interior or will it be converted, against the wishes of this subcommittee, into the Bureau of Land Management? Mr. CURLIN. No, it will not be against the wishes of the subcom- mittee. We expect it to remain independent. Mr. ROGERS. Would you please provide for the record a detailed analysis on why it has taken the Department of the Interior 5 years to review Pacific Gas Transmission Co.'s right-of-way perma- nent grant application? Mr. CURLIN. We will be pleased to provide that for the commit- tee. Mr. ROGERS. Thank you. Thank you, Mr. Chairman. [Editor's Note: The Department subsequently submitted the in- formation requested above in a letter dated November 1, 1979. The letter may be found in the appendix. See table of contents for page number.] Mr. RUNNELS. Thank you. Bill, do you have any statement you would like to make? Mr. TOSKEY. No, sir, Mr. Chairman. Mr. RUNNELS. I recognize that you have only been on board for a few months. Is this not correct? Mr. CURLIN. Sir, a few weeks; 4 weeks, as a matter of fact. Mr. RUNNELS. Yesterday the Secretary of the Interior, Secretary Andrus, made a recommendation to the President concerning the Northern Tier oil transportation systen. This is fine. We have had a communications problem, they have failed to keep this subcom- mittee informed on the actions which they have taken over which we have jurisdiction. We do not have a copy of the report. PAGENO="0101" 95 If you could see that the information is provided to us on his selection yesterday of the Northern Tier oil pipeline proposal, we would appreciate it. Mr. CURLIN. I will be pleased to do that, Mr. Chairman. Mr. RUNNELS. The reason we need this information, is that the decision has a kicker in it that we do not quite understand. He made the recommendation, and gave them a reasonable time to get financing and so forth. We would like to have the report for our records to know what a reasonable time is, because if that does not happen, then he recommends another pipeline system. So there are really two recommendations. Would you see that we get it? Mr. CURLIN. Yes, we will get that to you, Mr. Chairman. Mr. RUNNELS. We want to thank you very much for your testi- mony today and we will be looking forward to visiting with you later. Mr. CURLIN. Thank you very much. Mr. RUNNELS. We will now revert back on our schedule. I see Mr. Curtis has come into the room. We will have the Honorable Charles B. Curtis, Federal Energy Regulatory Commission, accom- panied by Mr. John Adger, director of Alaska Gas Project Office. Chairman Curtis, you may summarize your statement, if you wish. It will be included in its entirety in the record, and we will have questions and answers. [Prepared statement of Hon. Charles B. Curtis may be found in the appendix.] STATEMENT OF HON. CHARLES B. CURTIS, CHAIRMAN, FEDER- AL ENERGY REGULATORY COMMISSION, U.S. DEPARTMENT OF ENERGY; ACCOMPANIED BY JOHN B. ADGER, DIRECTOR, ALASKA GAS PROJECT OFFICE Mr. CURTIS. Thank you, Mr. Chairman. I will do that. First, let me express my appreciatiOn to the committee for hear- ing me out of order. As the chairman was informed, the Commis- sion held hearings this morning of an extraordinary nature to evaluate the circumstances of the accident of the Cove Point LNG facility and to hear a proposal for the resumption of service. That hearing will reconvene this afternoon, and I am grateful for the committee's indulgence in accepting this change in time. I will attempt to summarize my statement, which, is very short because I recognize that the committee wishes to proceed to ques- tions. Your invitation requested that I address the Commission's regu- latory actions pertaining to the Alaska natural gas transportation system, and the progress of our talks with the Government of Canada regarding agreements regarding a procurement policy for the pipeline. My statement summarizes the key Commission actions briefly; I have attached a more complete account of what the Commission has done and is doing. With regard to procurement policy, I have also attached to my statement a copy of a letter sent by then Commissioner Don S. Smith to Congressmen Dingell and Eckhardt, reporting on the outcome of Mr. Smith's most recent discussions with the Canadian Government representatives on that subject. PAGENO="0102" 96 I would like to defer to the State Department and to the Office of the Federal Inspector for any further information on progress in formalizing the agreements referred to in Commissioner Smith's letter. Mr. Chairman, following the passage of a joint resolution by the Congress in November of 1977, confirming the President's recom- mendation for the selection of a transportation system, the Com- mission began an evaluation of various authorizations it would have to grant in the course of completing the certification process for the Alaska natural gas transportation system. This evaluation was an effort to identify those matters on which a decision might be necessary, helpful, or essential in assisting the private parties involved in the project to move forward to the project-financing stage. Although the Commission's normal posture is to respond to ap- plications made by sponsors of projects, the Commission has taken the initiative in a number of areas to provide timely resolution of the many complex issues which affect the Alaska natural gas transportation system. We believe we have now completed action on the principal decisions required of us to permit the sponsors to formalize and complete project-financing plans. These decisions have to do with the rate of return on equity investent in the project, and with the project. The rate of return on equity is important for attracting capital support for the project. The project company tariffs establish the contractual conditions which govern provisions of the transporta- tion service. Under the financing framework recommended by the President and approved by the Congress, the tariff provides an essential piece of security for the project's debt, once operations commence. Thus, early resolution of these questions was important to negotiations over financing. The Commission has also resolved a key design question: the size and maximum allowable operating pressure of the Alaska seg- ments. Although this issue is not normally considered until final certification, application for which in this case was not expected before June of 1980, this issue was selected by the Commission for early resolution in order to facilitate preparation of detailed cost estimates for the Alaska segment. Such estimates are also impor- tant, if not essential, to obtaining financing. The Congress, itself, has provided perhaps the most important of the decisions remaining after passage of the joint resolution ap- proving the President's recommendation. That decision was to fix a price for the gas at the Prudhoe Bay Reserve. Passage of the Natural Gas Policy Act in late 1978 provided a ceiling for the field price of the gas, and rolled in pricing treatment for that price, plus the cost of transporting the gas to market. In the absence of congressional action, the Commission would have been required to make these decisions pursuant to its authority under the Natural Gas Act-a task which I think all parties would agree would have entailed years to bring to successful conclusion. Mr. Chairman, these three sets of decisions-the rate of return and tariff, the Alaska segment design, and the pricing treatment- we believe provide a foundation for development of a definitive financing plan for the Alaska natural gas transportation system. PAGENO="0103" 97 Before returning to the specifics in the course of responding to your questions, let me simply, in conclusion, observe that in my opinion the Commission has worked conscientiously and diligently in an attempt to meet the statutory direction to expedite considera- tion of the project. Clearly, the most fundamental decision facing the Commission has been the decision on the incentive rate of return, which is a mechanism commanded by the President's decision and affirmed by the Congress. It is a mechanism, the theory of which was sound, which had not previously been developed. The Commission has confronted an extremely difficult chore, one which we believe and hope, through conscientious efforts, we have now reached a successful conclusion. If the Commission's conclu- sions survive court review this project will then be able to be presented to the financial markets for the assemblage of necessary capital for its financing. Mr. Chairman, I recognize that this committee and the Congress in general have justifiable concerns that the agencies of Govern- ment are incapable of responding promptly and expeditiously to render decisions on essential energy projects in order to meet the requirements of the nation. I can only say for the Commission's part, it has been a difficult chore; one that I hope this committee will agree we have given an honest and conscientious effort toward, and one that we believe now is in a state where the framework has been established to permit the project to go forward. With that, I would be happy to attempt to respond to any of your questions. Mr. RUNNELS. Thank you very much, Mr. Curtis, for an excellent statement. I think the members of this subcommittee can sympathize with you as to the magnitude of your job. As you stated, just with the rate of return and tariff proceedings before the Commission, you considered almost 1,000 pages, consultant reports, staff reports and comments, and so forth. You said that in 2 months you did what under a jury or a trial situation would take 3 years to accomplish. We recognize that your job is tremendous. However, I believe that the American people have watched the bureaucracy-and I include the legislative branch as well as the executive branch of Government-drag its feet since October 1973. They do not really understand what is happening to them as far as inflation and the cost of energy are concerned. I think the majority of the American people want Government to cut or speed up the process somehow. If we in this committee can help you in any way, please feel free to call on us. Mr. CURTIS. Thank you, sir. I certainly agree with your com- ments. The mechanisms of Government have not been effective and responsive to the needs of the people. We have difficult balances to strike. We have processes which simply must be adapted to the demands of the 1970's. That has not been done in the past as effectively as it must be done in the future. Mr. RUNNELS. Mr. Curtis, you and Mr. Adger, and I know he is a well-informed person and probably knows as much or more about PAGENO="0104" 98 the Alaska project than anyone, are getting kicked every day. That makes your job that much tougher. I would like to ask you if you know what the arguments are against locating the conditioning plant in Fairbanks. Is this under your jurisdiction? Mr. CURTIS. I must give you a complicated answer to the ques- tion. The Commission has rendered a decision which approved the applied-for design specifications for the Alaskan segment of the project, regarding both the size and the pressure of the pipe. I would be happy to offer for the committee's consideration, a copy of the Commission's opinion issued Aug. 6 of 1979 in this docket, which, on page 7, recognizes that the Commission's decision may have some effect on the liquid-carrying capacity of the pipeline, but that the capacity is also affected by other factors, such as the carbon dioxide content of the gas stream, as well as the nature of the conditioning-processing facilities. In that proceeding, the State of Alaska and Earth Resources both urged the Commission to defer its decision and not approve the applied-for pipe size and pressure specifications of the applicant. They did so on the basis that there was an interrelationship between the pipe size and pressure deci- sion and the CO2 content decision, which would affect the location of the conditioning plant. The Commission's original proposal was put out for comment, and an opportunity for hearing was afforded. No party requested a hearing before the Commission, and none was held. The Commis- sion stated, "On the basis of the record before us that record supported the choice of 1,260 p.s.i.g. and does not support any other choice." The Commission has received a petition to vacate. We have denied that petition. The basis of our decision on August 6, and of our determination to deny the petition to vacate, was essentially the determination that the record before us provided support for the applicant's choice of 1,260 p.s.i.g. and the sizing, 48-inch, of the Alaskan segment. I would point out that the Commission authorized that choice. It does not mandate that choice. Applicant could have chosen another choice and attempted to support it, or applicant may in the future amend its certificate to offer another sizing and pressure provided applicant can justify it as being economically sound and otherwise consistent with the public convenience and necessity. Thus, it was on that basis the Commission decided to render the decision of August of this year rather than to defer any longer. I call the committee's attention to a statement appearing on page 6 of that decision, which states: "The basic issue therefore is whether the Commission should decide the pressure now or delay its deci- sion, pending further proceedings to compile a more extensive record. In this regard, Alaskan Northwest, the applicant, states in its comments that a choice of any pressure other than 1,260 p.s.i.g. would substantially delay the project." And the Commission quotes from that statement. [The Commission opinion, issued August 6, 1979, Docket Nos. CP78-123, and others, referred to above, may be found in the appendix. See table of contents for page number.] PAGENO="0105" 99 Mr. CURTIS. This Commission has taken very seriously its con- gressional mandate in section 9 and elsewhere in the Alaska Natu- ral Gas Transportation Act to expedite its decisions. We deter- mined that we could defer no longer, and, therefore, given the choice between further delay, which the applicant tells us could substantially add to both the cost and the construction period for this project, and arriving at the conclusion that the record before us supported the specifications as applied for by the applicant, we did confirm and approve those pressure and sizing proposals. The Commission further recognizes that the issue of who shall bear the cost of the conditioning plant, also influences the position- ing of the conditioning plant, since that issue is entangled with a question of allowing amounts for certain production-related cost above ceiling prices set in section 109 of the Natural Gas Policy Act. The Commission has made a decision on that matter although unlike the pipe size and pressure decision, this decision is still subject to rehearing. Essentially the Commission has this problem: We are under a statutory direction to decide. The participants in our proceeding have asked us to defer and to delay for further consideration and the development of a more extensive record on CO2 specifications, on pipe sizing and pressure, as well as on the production-related cost issue. In each instance, this Commission has tried to make the decision on the basis of the record before us in carrying out the statutory mandate. We recognize fully that if the various participants in the case of production-related costs are able to work together outside of the adversarial context of a proceeding before the Commission, there will be a better opportunity that this project will, in fact, go for- ward and be built under the time schedules targeted for it. Weighed against that realization is the command that the Com- mission decide. For example, on the production-related cost issue, the Commission has been working on this issue in various stages- as described more fully in my attachment 1-since February of this year. We have, as of yesterday, received a request to issue an order which will, in essence, hold in abeyance a final Commission deci- sion to allow the Secretary of the Department of Energy to inter- vene in our proceedings and present matters for our consideration. The Commission will act upon that request tomorrow, therefore I cannot discuss its merits. Yet, I wanted to draw that outline for the committee so that you understand, as I am sure you do, the record reflects the rock and the hard-place type of position that the Com- mission finds itself-both giving an opportunity for this evolution- ary negotiating process to take place among the various persons who have direct and substantial interests, and at the same time, carrying out the statutory direction to make decisions necessary to get essential elements in place to permit this project to be financed. Mr. RUNNELS. Thank you very much. My time has expired. The gentleman from Montana, Mr. Williams. Mr. CURTIS. I apologize. Mr. RUNNELS. That is not necessary. Just so we have the details in the record. Mr. WILLIAMS. Thank you, Mr. Chairman. PAGENO="0106" 100 I want to comment some, if I may, Mr. Chairman, on the state- ment which you made concerning the dismay which the public has regarding the legislative and regulatory and judicial delays which have slowed some of the needed energy projects. I think the Congress and the bureaucracy joins the public in that concern. Out in Montana, which is the State I represent, there are people who have those same concerns, and there are other voices, too. Those other voices are in the vast majority, and they say unquestionably that while they want to cut through the regula- tions and the restrictions and the redtape and the judicial delays which are preventing needed energy construction projects from going ahead, they do not under any condition wish to return to the "good old days" when industry alone decided its convenience and necessity and the public was left out of those decisions. Our State of Montana, you know, along with some other States which were rich in natural resources, were used for many years as colonies to industry. We do not want to return to those days; so I guess we will have to find a middle ground here in cutting through the restrictions, regulations, and the redtape, and I commend you, Mr. Curtis, and you, Mr. Chairman, for trying to speed that day when we can stop the foot-dragging and get on with the necessities occasioned by our energy crisis. Mr. Curtis, does the Commission have sufficient resources with which to dedicate priority actions to this project? Mr. CURTIS. We will need additional resources in the future, Congressman. One of the ironies confronting the Commission in its last budget cycle was that our authorizing committee cut a sub- stantial portion of the money which we had requested to be devot- ed to this function on the conclusion, as stated in the committee's report, that we were running far ahead of the applicant and that we should not be spending public moneys until there was a com- mensurate commitment of private moneys. That budgetary decision was confirmed by the Appropriations Committees and in the appropriation bill which has been signed into law. We will seek to recover additional moneys in the next fiscal year, which we continue to believe are required for us to adequately carry out our responsibilities. Mr. WILLIAMS. In closing, Mr. Chairman, I just want to say I was intrigued by Mr. Curtis' description of the rock and the hard place in which the Commission finds itself, and in that description you delineated the scenario and the evolution of some of the processes you go through, and I noted that on more than one occasion the sponsors of the project have asked for delays. I think the record should note that, and I appreciate having your testimony to that effect. Thank you, Mr. Chairman. Mr. RUNNELS. Would you care to respond to that? Mr. CURTIS. I think Mr. Williams is correct; that there have been instances of requesting delays in the pacing of the decision; but I must admit that a fair statement would be that the project spon- sors continually urged the Commission to adopt a decision pace that was more ambitious than the Commission was finally able to conclude. However, there have been those instances of delays sought for the project sponsors. A number of parties have request- PAGENO="0107" 101 ed delays of the Commission; and this is part of the balance of which Mr. Williams speaks. It is incumbent upon the agencies and independent commissions to provide both the forum for the ration- alization of a multitude of social goals which represent conflicting but deep commitments on the part of the people, as well as a balance in the procedural mechanisms by which we discharge that decisional responsibility. By that I mean we must afford an oppor- tunity to present views while at the same time allowing for the decision to be rendered in an expeditious and timely manner. It is quite understandable that the participants in the process may dis- agree, and do disagree rather strongly sometimes, as to the striking of those balances that the Commission comes out with. Mr. RUNNELS. Where I come from, we have a statement that sort of fits in: Sometime you have to do less butt kicking and more handshaking. Mr. CURTIS. That is good advice. Mr. RUNNELS. Mr. Young? Mr. YOUNG. Mr. Curtis, first, let me say-as one who has sup- ported basically the position I support that we are going to need energy in Alaska, and provide it-you are one of those who sup- ported my position before the hearings we had, which makes it very difficult for me to be terribly upset with you personally. I want you to know that. But there are some questions I would like to ask. Do you have a copy of the Fairbanks response, Prudhoe v. Fair- banks? Mr. CURTIS. Not with me. Mr. YOUNG. I would like to submit that to you and have one of your staffers read it, because there is pertinent information there. If I understood your answer to the chairman, the basic decision on pressurization of the line was based upon the applicant's re- quest. Mr. CURTIS. Yes, sir. Mr. YOUNG. Were there any other decisions, like the potential for the petrochemical industry? Was that taken into consideration in Alaska? Mr. CURTIS. Yes. We evaluated the record, which consisted of a number of things: first, a report from the Alaskan delegate, who is the Alaskan project director, Mr. Adger, on my right, as well as the comments received on that report, the minutes of a number of informal meetings, together with the materials developed in the course of Mr. Adger's report to the Commission on which we solicit- ed comments. Mr. YOUNG. May I interrupt? Mr. CURTIS. If I may just add, both Earth Resources and the State of Alaska made appearances in that proceeding. Their com- ments were evaluated by us in reaching the conclusion noted on page 6 that the record before us supported the choice of 1,260 p.s.i.g. We did not believe that the record before us supported any other choice. But that does not mean it was an exclusive decision. Mr. YOUNG. As long as the chairman does not take all my time up with the answers, and I do appreciate them, because they are informative. PAGENO="0108" 102 On page 2 of your testimony-is this correct? The Commission issued the delegate's report on May 17, 1979, and there was no request for public hearings? Mr. CURTIS. That is correct. Mr. YOUNG. The State did not request it? Mr. CURTIS. That is correct. Mr. YOUNG. And Earth Resources did not request it? Mr. CURTIS. That is correct. They filed comments. Mr. YOUNG. But they did not request public hearings? Mr. CURTIS. Yes, sir. Mr. YOUNG. I think that is important for the record, too. Second, with your recommendation what will happen to the liq- uids at Prudhoe Bay? Mr. CURTIS. It depends on the liquids, as I understand it, Mr. Young. Some of the liquids, the ethanes and the propanes, will be consumed in the act of conditioning. Other liquids could be, as I understand it, transported through the oil pipeline. Mr. YOUNG. Are any of those liquids going to be utilized for energy to operate the conditioning plant? Mr. CURTIS. It is my understanding that a good portion of the propanes and ethane would be consumed in the operation of the conditioning plant. Mr. YOUNG. Did FERC consider the possibility of using the vast quantities of coal located up there for alternate energy and utiliz- ing the ethanes and propanes further down the line? Mr. CURTIS. The Commission does not have certification authori- ty with respect to the conditioning plants design and process, or as to the fuel which is consumed by it. As you know, Mr. Young, if the conditioning plant is located at Prudhoe, it will be on State land. It is unclear to me whether the State has some certificate authority, or could impose some restrictions which would allow address to the question that you just asked of me, but it is not one that we would address in the course of our proceedings. Mr. YOUNG. You are in court now over your decision? Mr. CURTIS. On the pipe size and pressure; yes, sir. Mr. YOUNG. The Canadian pressure is a 56-inch pipe? Mr. CURTIS. Forty-eight-inch. I beg your pardon. The Alaskan segment is 48-inch. The joint segment from Whitehorse to Dawson is 56-inch, 1,000. Mr. YOUNG. Mr. Chairman, I am not an engineer. I am trying to figure out why one is 48 and one is 56, and what we plan to do with lower pressure on one end and larger pressure on the other end. We heard testimony there was no plan to transport immediately any Mackenzie field gas. There is more than meets the eye here, and we want to make sure we look at that. I know my time is running out, Mr. Chairman. Mr. Curtis, we are not through with this. You have fulfilled your job, I think adequately, and if you sensed the hostility had for some other agencies, you may be well aware of this. I have seen the Federal Energy office guilty of this, and I have been sometimes blaming the delays on your agency, and it appears to me there are a lot of other people undercutting you constantly, which makes your job more difficult. PAGENO="0109" 103 I am going to continue, as Congressman, and the State is, too, to see if we cannot reverse the decision of the pressure line, or if we cannot deliver that pressure but still deliver gas to where the conditioning should take place and not on the State lines. Mr. Chairman, I have no further questions. Mr. RUNNELS. Mr. Lagomarsino? Mr. LAGOMARSINO. Thank you, Mr. Chairman. Just a couple of specific questions. On page 5, Mr. Curtis, you say, "The Commission is scheduled to consider action in the first phase of that proceeding this week"- talking about the prebuilt project-"and we are hopeful of complet- ing action in all phases in early 1980." Could you be more specific? Mr. CURTIS. I will try. The Commission has divided its prebuilt applications into three phases, believing this method is the most expeditious way of sort- ing through the decisions that are required to be made. For exam- ple, phase 1 deals with the interrelationship of the prebuilt to the total system. We believe that the Commission's decision on that is essential for early project financing purposes. That is the decision that we expect to make within this next week or so. With respect to the remaining phases of the decision, if I might relate to what I know is a specific concern of this committee, we intend to make the decision with respect to the western leg before the end of the year. With respect to the eastern portion of the system, in the north- ern border, we intend to make that decision in early 1980, and it is for that reason that you have our statement that we hope to conclude the entirety of it by early 1980. We do however, recognize the importance of making a decision on the western leg before the end of calendar 1979, and we intend to make a decision by then. Mr. LAGOMARSINO. That is very encouraging. Then you say with regard to the Alaska segment, the project sponsors do not currently plan to file for these approvals until June of 1980. How long do you think it will take the Commission to act on the applications once they are filed? Mr. CURTIS. I understand that the applicant hopes for a decision to be rendered by the Commission within 6 months. Assuming that the applicant's submission is complete and well documented, I be- lieve it reasonable to expect the Commission to act within the 6- month period. Mr. LAGOMARSINO. Thank you. Mr. CURTIS. I cannot however, judge the adequacy of the applica- tion at this time. Mr. LAGOMARSINO. Thank you. Mr. RUNNELS. Thank you. Since Mr. Clausen cannot be here, we will have some questions from his counsel. Mr. ROGERS. Mr. Curtis, I would like to welcome you today on behalf of Mr. Clausen. He asked that I express to you, in his capacity as being ranking Republican on the full committee, his appreciation for the outstanding job that your Commission has PAGENO="0110" 104 done in keeping all of the subcommittees, at least on the minority side, informed. Unfortunately, the Department of the Interior does not do half as good a job as your Commission, and they come under our juris- diction. Maybe it comes from your training of being independent at the Securities and Exchange Commission? Who has replaced former Commissioner Don Smith in meeting with the Canadian Government representatives on the proposed Alaska gas transportation system? Mr. CURTIS. When Commissioner Smith, who had assumed, at my request, primary responsibility for this project on behalf of the Commission, resigned his position on the Commission effective June 30, I took over direct control of the project and have been engaged in the regulatory consultations as contemplated under article 9 of the principles of agreement. With respect to the functions Commissioner Smith engaged in regarding the procurement aspects of it, that has not been a matter that I pursued. It is the general belief that the State Department and the Federal inspector will pick up that function. In my opin- ion, this task is more appropriate for the Federal Inspector's broad- er reach and vision of the project. Mr. ROGERS. And would you please provide for the record the names and respective positions of the individuals within the Cana- dian National Energy Board who serve as counterparts to the Commissioners of your Commission? Mr. CURTIS. We would be happy to do so. [In response to the above request, the FERC subsequently fur- nished the following information.] The NEB is composed of nine members, which form into panels to hear cases. The panel considering matters affecting the Alaska Natural Gas Transportation System (ANGTS) is one dealing with tariffs and financing for the system. That panel is chaired by C. Geoffrey Edge, Vice-Chairman of the NEB, and includes Livia M. Thur and R. B. Homer as Members. Order No. RH-2-79 (copy attached) establishes the subject matter and conduct of the panel hearings. Another NEB panel is considering applications for net new exports of Canadian gas, among them those sought by the United States and Canadian sponsors of the proposal to "pre-build" the southern segments of the ANGTS. The presiding member of that panel is NEB Chairman J. G. Stabback, and includes J. R. Jenkins and J. Farmer as Members. Order No. GH-2-79 (also attached) establishes the subject matter and conduct of those hearings. Mr. ROGERS. Thank you very much. That is all, Mr. Chairman. Mr. RUNNELS. Mr. Curtis, and Mr. Adger, we want to thank you both for being here today and we appreciate the work you are doing. We are looking forward to working with you in the future. Mr. CURTIS. Thank you, Mr. Chairman. I especially want to state on behalf of the Commission our appreciation for the fairly unusu- al experience of the subcommittee's understanding of the difficul- ties that confront us. There is room for criticism of the Commis- sion's actions, but we hope that the committee can conclude that we have conscientiously attempted to discharge our responsibilities. We thank you, sir. Mr. RUNNELS. Thank you very much. Our next and last witness is Brigadier General Robinson, Deputy Director of Civil Works, Office of the Chief of Engineers, Depart- PAGENO="0111" 105 ment of the Army, accompanied by Col. Robert Bauchspies, Agency Authorized Officer. [Prepared statement of Brig. Gen. Hugh G. Robinson may be found in the appendix.] STATEMENT OF BRIG. GEN. HUGH G. ROBINSON, DEPUTY DI- RECTOR OF CIVIL WORKS, OFFICE OF THE CHIEF OF ENGI- NEERS, DEPARTMENT OF THE ARMY, ACCOMPANIED BY COL. ROBERT BAUCHSPIES, AGENCY AUTHORIZED OFFICER (AAO) Mr. RUNNELS. Welcome, General, to our subcommittee. You may summarize or give your statement any way you want to. It will be included in the record in its entirety. General ROBINSON. Thank you very much. It is a pleasure to be here. In addition to being Deputy Director of Civil Works, I am also the Chief of Engineers' representative from the Executive Policy Board, and Colonel Bauchspies is the Agency Authorized Officer. I appreciate this opportunity to appear and with the chairman's permission I will summarize my statement which has been submit- ted for the record. As you are aware, Public Law 94-586 made it clear that the Federal agencies, such as the Corps of Engineers, were to assist the then Federal Power Commission and the President, within the scope of their existing statutory authorities, in carrying out their respective responsibilities pursuant to the act. Further, Public Law 94-586 indicated clearly that actions neces- sary or related to the construction and initial operation of the approved transportation system, such as the issuance of permits under the statutory regulatory program of the Corps of Engineers, would continue to be an agency responsibility but would also be expedited and take precedence over other similar permit actions before the agency. As a result of Public Law 95-158, the Executive Policy Board envisioned in the 1976 act came into existence on an ad hoc basis. The Corps of Engineers, the Environmental Protection Agency, the Federal Energy Regulatory Commission, and the Departments of Transportation and Energy were the first members of the EPB. The corps was active in all aspects of the work of the EPB to include, of particular relevance to these hearings, active participa- tion in the technical advisory committee to include, by mid-1978, one technical subcommittee concerned with permafrost and an- other technical subcommittee concerned with geology. As Mr. Curlin earlier stated, we have been participating in a joint multidisciplinary working group with the corps being the chairman of the geotechnical group for that particular effort. With congressional approval of Reorganization Plan No. 1 of 1979-Office of the Federal Inspector for Construction of the Alaska Natural Gas Transportation System-by May 31, 1979, and by virtue of Executive Order 12142, the Alaska Natural Gas Trans- portation System, dated June 21, 1979, the role of the Corps of Engineers changed from that of an active agency participant in interagency technical review and study activities and membership on an ad hoc Executive Policy Board to that of full membership by Presidential designation on an Executive Policy Board with a spe- PAGENO="0112" 106 cific charter and a concurrent responsibility to appoint an Agency Authorized Officer. Since Jack Rhett was confirmed by the Senate as the Federal inspector there has been an exchange of ideas between the Chief of Engineers and the Federal inspector, and members of their staffs, upon the Federal inspector's initiative with a view to identifying areas in which the Corps of Engineers could, as a Federal agency, provide technical assistance within its many areas of engineering and related expertise to the Federal inspector and his office on matters pertaining to the preconstruction, construction, and initial operation of the system. As Jack said in his testimony, we are seeking to achieve a formal agreement for the corps to provide cold weather engineering tech- nical support to the Federal inspector on frost heave problems and provide assistance in the review and design of a cost/schedule control system for the Federal inspector's office while further ex- ploring means to provide corps support on such matters as the review of engineering designs, plans, and specifications; field en- forcement of permits and other authorizations; and audit and cost control including application of the incentive rate of return. In summary, the Corps of Engineers currently occupies a policy advisory role through its membership on the recently established Executive Policy Board and is represented within the Alaska Natu- ral Gas Transportation System through its appointed Agency Au- thorized Officer, Colonel Bauchspies. The corps is ready to provide, and to study further means of providing, technical assistance support to the Federal inspector and his office as determined to be necessary, and requested, by the Federal inspector in the public interest for the economical and expeditious completion of the approved transportation system. This concludes my statement. I will be glad to answer any ques- tions that you may have. Mr. RUNNELS. Thank you very much. I would like to congratu- late you on your direct and to the point testimony. Would you please elaborate on your agreement to provide techni- cal support to the Federal inspector? General ROBINSON. The Federal inspector had asked the Chief of Engineers to advise him on the support that might be available from the Corps of Engineers. As a result of that and a particular request back from Jack Rhett, we are considering providing techni- cal support in the frost heave area. As you probably know, our region does have expertise in this area, and we do intend to bring together all of the expertise that is available, including the academic community, Government agen- cies, et cetera. There was one other part that he did ask us for and I believe that was the scheduling costs. Mr. RUNNELS. On page 2, in the middle paragraph, can you summarize the issues you mention are under study by a geotechni- cal group? General ROBINSON. Yes, sir. That ad hoc group is looking at some of the particular construction problems that are entailed in the construction of this pipeline, transporting natural gas under 1,260 PAGENO="0113" 107 psig via a buried 4-foot diameter pipeline through a permafrost area offers unique challenges to the state-of-the-art. Various technical groups have made a preliminary listing of potential technical problems which require analysis that could occur during construction of ditching operations, after pipe burial and prior to chilled gas flow, and during the actual operation of the system. These technical areas are, of course, in addition to areas relating to the proximity issue. They deal in part with ditch instability, slope stability, changes in hydrology and erosion control, thaw, pipe floating, frost heave, and the creation of a frost bulb around the pipe. Mr. RUNNELS. Thank you very much. Mr. Rogers, I believe, has some questions for Mr. Clausen. Mr. ROGERS. Thank you, Mr. Chairman. Welcome to the subcom- mittee, General. I am sure you know the people on this side of the aisle from Public Works and Transportation. When do you anticipate reaching a formal agreement with the Federal inspector on providing cold weather engineering technical support to the Federal inspector on the frost heave problem? General RoBINSoN. We anticipate we will have complete agree- ment to include all of the other areas that the Federal inspector asked us to look at by the first of November. Mr. ROGERS. How many personnel within the corps have been committed to the Alaska Natural Gas Transportation System proj- ect? General RoBINsoN. At the present time we just have one Agency Authorized Officer, Colonel Bauchspies. A number have been in- cluded in the technical review. All along our districts anywhere along the pipeline have been involved; the Alaska district is par- ticularly involved in the project, and I do not know the exact number of people they have had with them on the project. Mr. ROGERS. Thank you, sir. Thank you, Mr. Chairman. Mr. RUNNELS. We want to thank you very much, General, for appearing here today and you, also, Colonel. We will be in touch with you through our staff. I want to thank the witnesses who have appeared before this subcommittee. I want to thank those who have observed these hearings. Particularly, I want to compliment the staff of this sub- committee for arranging a very fine hearing as far as the chairman is concerned. These hearings are concluded for today. [Whereupon, at 12 noon, the subcommittee was adjourned.] 57-087 0 - 80 - 8 PAGENO="0114" PAGENO="0115" 109 APPENDIX Additional Material Submitted for the Hearing Record ALASKA NATURAL GAS TRANSPORTATION SYSTEM STATUS REPORT Prepared by Staff for the SUBCOMMITTEE ON OVERSIGHY~ AND INVESTIGATIONS of the COMMITTEE ON INTERIOR AND INSULAR AFFAIRS ofthe U.S. HOUSE OF REPRESENTATIVES Ninety-Sixth Congress First Session December 1979 PAGENO="0116" 110 COMMITTEE ON INTERIOR AND INSULAR AFFAIRS LEE MC ELV*IS U.S. HOUSE OF REPRESENTATIVES GECERALCOUNSEL WASHINGTON, D.C. 20515 ST~cOVILLE December 12, 1979 The Honorable Harold Runnels Chairman Oversight and Investigations Subcommittee 1535 Longworth House Office Building Washington, D.C. 20515 Dear Mr. Chairman: There is hereby submitted for consideration by Members of the Oversight and Investigations Subcommittee the following report relating to the Alaska Natural Gas Transportation System. Sincerely, \ Joy~R. Gwaltney ~ Staff irector-Counsel Research Consultant -- Mart a Anne McIntosh Research Consultant PAGENO="0117" 111 CONTENTS Page Letter of Transmittal i I. Introduction 1 II. Project Description 1 A. Alaskan Leg 2 B. Canadian Leg 3 C. Western Leg 4 D. Eastern Leg . 5 III. Background 5 A. Legislative History 6 B. Negotiations 8 IV. Federal Reorganization 9 A. Office of the Federal Inspector 10 B. Agency Authorized Officers 12 C. Execuitve Policy Board 13 V. Regulatory Issues 13 A. Department of the Interior 14 1. Stipulations 14 2. Proximity 18 3. Haines Right-of-Way 20 B. Federal Energy Regulatory Commission... 21 1. Incentive Rate of Return 21 2. Conditioning Costs 24 3. Pipeline System Design 26 4. Terms and Conditions 30 VI. Special Concerns 30 A. Financing 30 1. Major Beneficiaries 36 2. Shipper Tracking 39 B. Location of the Conditioning Plant 40 C. Procurement: "Canadian Content" 42 VII. Conclusion 45 Appendices Appendix I - Section 301, P.L. 93-153 Appendix II - P.L. 94-586 Appendix III - Reorganization Plan No. 1 of 1979 Appendix IV - Executive Order 12142 (EPB) Appendix V - Agreement on Principles PAGENO="0118" 112 I. INTRODUCTION The Alaska Natural Gas Transportation Systen (ANGTS) may serve as a prototype for this Nation's proposed "fast track" energy projects. The ANGTS is an ambitious undertaking. Its $15 billion proportions alone serve to support its number one standing within Federal agencies, taking regulatory and administra- tive precedence over all other projects. The Congress has focused its attention on the system on five separate occasions since 1973, giving the concept form, defining the Federal role, and providing a regulatory climate suitable to a one-of-a-kind project of this magnitude. The executive branch of the Federal government has been equally active: it negotiated a treaty with Canada which was formalized in 1977, the President referenced his full support of the project in a televised energy speech, and then the executive branch effected a limited reorganization of the government to provide a Federal focal point for regulating construction and operation of the pipeline. This report will trace the progress of this energy project, identify the participants and their responsibilities, .and discuss issues which are yet to be resolved. II. PROJECT DESCRIPTION The Alaska Natural Gas Transportation System is currently in its design and engineering phase. When operational, the pipeline will transport natural gas 4,787 miles from Prudhoe Bay on the North Slope of Alaska, across the Canadian frontier PAGENO="0119" 113 to a point near Calgary where it will split into two lines going into the lower 48 states, one toward the West Coast and the other into the Midwest. The pipeline will be capable of transporting 2.4 billion cubic feet of gas per day (bcfd) with a built-in expansion potential to 3.4 bcfd. The cost to construct the systen is estimated to be $15 billion in escalated dollars, 1984 dollars, with a completion target date of November 1984. The Prudhoe Bay field is estimated to contain 26 trillion cubic feet (tcf) of natural gas. By comparison, the total proven. U.S. gas reserves (non-Alaskan) are estimated at 185 tcf. The annual rate of consumption of natural gas within the U.S. is 19.9 tcf (1977). Therefore, at peak production the ANGTS could deliver 6 percent of the nation's natural gas requirements from a reserve that represents more than 10 percent of the known U.S. supply of natural gas. For planning and construction purposes the ANGTS is broken down into four sections, or legs. Although each leg has,its own sponsors, contracts, and construction schedules, the system is statutorily a single entity with close coordination both internationally and among the corporate sponsors. A. Alaskan Leg The Alaskan Leg will consist of 741 miles of pipeline. It will parallel the Trans-Alaska oil pipeline from Prudhoe Bay to a point south of Fairbanks where it will turn eastward and follow the Alaska Highway and the Haines oil products pipeline right-of-way to the Alaska/Yukon Territory border near Border City, Alaska. -2- PAGENO="0120" 114 Plans call for a buried pipeline carrying chilled gas at 1260 pounds per square inch (psig) pressure through 48-inch diameter pipe. It is estimated that the Alaskan Leg will cost $6 billion in escalated dollars (a figure which includes finance charges on funds used during construction or AFtJDC) to construct. The sponsors of the Alaskan Leg are a consortium of six gas transmission companies, with Northwest Energy Company of Salt Lake City, Utah, acting as the managing partner. The consortium is called the Alaskan Northwest Gas Transportation Company and is composed of Northwest Energy Company, Panhandle Eastern Pipeline Company, Northern Natural Gas Company, United Gas Pipeline Company, Pacific Lighting Corporation, and Pacific Gas and Electric Company. Efforts are being made to have other gas transmission companies join this consortium. Current projections by the sponsors indicate that this leg will be operational by late 1984. B. Canadian Leg The Canadian Leg will travel 2,028 miles from the Alaska/Yukon Territory border, parallel to the Alaska Highway, through the Provinces of British Columbia and Alberta to a point near Caroline Junction, Alberta. There the pipeline will split into the Western Leg which will enter the United States near Eastport, Idaho, and the Eastern Leg which will cross the international border at Morgan, Montana. The design and diameter of the Canadian Leg will vary according to need. Plans call for a buried line using 48-inch diameter pipe from the Alaskan border to Whitehorse, Yukon, where the pipe diameter will increase to 56-inches. This enlargement is intended to accommodate possible future Canadian gas sources in the Beaufort -3- PAGENO="0121" 115 Sea through the use of a proposed Dempster Highway Lateral pipeline which will connect to the ANGTS at Whitehorse. The pipe dinensions will again change south of Caroline Junction, Alberta, by employing 36-inch diameter pipe for the Western Leg and 42-inch diameter pipe for the Eastern Leg. The sponsoring consortium of the Canadian Leg is called Foothills Pipe Lines (Yukon) Ltd. Foothills is the parent organization of five subsidiary companies which will construct and operate the line. The Alberta Gas Trunk Line Conpany owns 50 percent of the outstanding shares of stock in Foothills. The remaining 50 percent is owned by Westcoast Transmission Company Limited. C. Western Leg The Western Leg will carry the Alaska North Slope gas 911 miles from the international boundary near Eastport, Idaho, through the states of Washington and Oregon and into California where the line will terminate at Antioch near the San Francisco Bay. This leg is the most conventional of all the ANGTS sections in design, construction techniques, financing., and tariff provisions. It is a full paralleling or "looping" of an existing natural gas pipeline owned and operated by the Pacific Gas Transmission Company (PGT) through Idaho, Washington, and Oregon, and the Pacific Gas and Electric Company (PG&E) in California. PGT is a 53 percent owned subsidiary of PG&E and these two companies will jointly sponsor, finance, construct and operate the Western Leg. Approximately 883 miles of new, 36-inch diameter pipe will be installed alongside an existing pipeline. No new compressor stations will be required to maintain an operating pressure of -4- PAGENO="0122" 116 911 psig. Through interconnection with other transmission companies, the Alaskan gas will reach markets throughout the Pacific Northwest and the Rocky Mountain States. A segment of this Leg is expected to be operational in late 1980. D. Eastern Leg The Eastern Leg will transport gas from the Saskatchewan! Montana border near Morgan, Montana, for 1,117 miles across North Dakota, South Dakota, Minnesota, Iowa and into Dwight, Illinois, south of Chicago. The 42-inch diameter pipeline will carry gas at a pressure of 1435 psig to markets throughout the Plains states, the Midwest, the South and the Eastern Seaboard through the existing transmission systems of various partners in the Northern Border consortium. The consortium consists of Northern Natural Gas Company of Omaha, Nebraska, the managing partner, Northwest Energy Company, Panhandle Eastern Pipeline Company, United Gas Pipeline Company, and TransCanada Pipelines, Ltd. TransCanada is the largest gas transmission company in Canada. When the firm joined the Northern Border consortium in October 1979 it became a 30 percent equity partner and agreed to secure the entire debt structure of the Eastern Leg through Canadian markets. The sponsors of this Leg plan to have a portion of it operational in the fall of 1981. III. BACKGROUND The term "Prudhoe Bay" became linked with domestic energy resources in 1968 with the first big oil strike on the North Slope. The Prudhoe Bay field isabout 18 miles wide and 45 miles long -5- PAGENO="0123" 117 and is estimated to contain 9.6 billion barrels of recoverable oil associated with 26 trillion cubic feet (tcf) of saleable natural gas. Although part of the natural gas is in solution, a significant amount is in a free gas cap above the oil. A consensus has been reached among various petroleum engineers on the probable size of the gas reserve, however some experts believe that the potential quantity of recoverable gas could range from 72 to 185 tcf. A. Legislative History After five years of debate in the courts and within the Federal government on the best route for construction of a pipeline to transport oil from Prudhoe Bay to market, Congress enacted `legislation in 1973 which authorized the construction of a pipeline from Prudhoe Bay to Valdez, Alaska. Incorporated in this measure, Public Law 93-153, the Trans-Alaska Pipeline Act, was a provision which heralded the development of the Alaska Natural Gas Transportation System. Section 301 of that Act authorized and requested the President to determine the willingness of the Government of Canada to permit the construction of a natural gas pipeline for Alaska North Slope gas across Canada (Appendix I). Almost immediately an application for a certificate to construct the gas pipeline was filed with the Federal Power Commission (FPC) in the U.S. and its Canadian counter- part, the National Energy Board (NEB), by the Arctic Gas consortium. A competing application was filed six months later, in September 1974, by El Paso Alaska Company, and in July 1976 another application was filed by the Alcan Pipeline Company (later called the Alaskan Northwest consortium). Each proposal included a different pipeline route. -6- PAGENO="0124" 118 Congress returned to the Alaskan gas pipeline issue in 1976. Recognizing the shortages of natural gas, the large reserve in Prudhoe Bay, the critical need for the Federal government to marshal forces to expedite construction of a gas pipeline, and the disastrous impact delays were having on the cost of constructing the oil pipeline, Congress debated and passed the Alaska Natural Gas Transportation Act, Public Law 94-586 (Appendix II). This Act was a break from tradition: it structured a route selection process that would draw upon all relevant governmental, public, and private expertise; it gave a new definition to the relationship between the Federal regulatory agencies and the private pipeline sponsors; it acknowledged the need to expedite administrative procedures; it limited judicial review to claims that the Act infring- ed upon Constitutional rights and to claims that certain actions were beyond the bill's scope of authority; and it called for the appoint- ment of a Federal Inspector to coordinate and direct Federal activities. Within a year of passage, the President selected a route and issued his Decision and Report to Congress on the Alaska Natural Gas Transportation System. This September 1977 document selected the Alcan Pipeline Company proposal to construct and operate a gas pipeline., it identified the system's components and route, and it set general terms and conditions relating to financing, antitrust policies, environmental and engineering standards, and enforcement of Federal requirements. The Decision in its entirety assumed the force of law when Congress passed Public Law 95-158 approving the President's action. -7- PAGENO="0125" 119 Congress' most recent examination of Alaskan gas policies occurred in 1978 when it considered and enacted the Natural Gas Policy Act, P.L. 95-621. Two aspects of this complex and contro- versial Act have direct bearing on the proposed pipeline: first, the Act assured North Slope gas producers a wellhead price of $1.45 per thousand cubic feet plus an allowance for inflation, and second, the Act allowed the cost of Alaskan gas transported through the ANGTS to be "rolled in," a term which refers to a pricing mechanism wherein the price of Alaskan gas is averaged in with the prices of other cheaper gas supplies resulting in a higher overall gas price for all consumers in the ANGTS system, but a lower price than the cost of the Alaskan gas. B. Negotiations with Canada The State Department began negotiations with Canada in 1974 in response to the Congressional mandate spelled out in the Trans-Alaska Pipeline Act. The Government of Canada indicated a willingness to first consider an agreement of general applicability, with an agreement on a specific pipeline proposal to follow. The first product of these negotiations was the Transit Pipeline Treaty which was initialled in January 1976 and formally ratified by Congress in 1977. The Treaty governs all existing and future transit pipelines in the two countries for thirty-five years and provides (a) assurances of noninterference with the flow of hydrocarbons, (b) avenues for binding arbitration in the event of disputes, and (c) terms of non- discriminatory treatment by either country with regard to taxation. -8- PAGENO="0126" 120 The negotiators' second product was an Agreement on Principles, signed in September 1977 which deals specifically with the Alaska gas pipeline. It provides assurances on taxation levels, tariffs, project timetables, and a general designa~fion of route. It also provides an outline of the financing plans, regulatory requirements, competitive contracting mechanisms, and methods of coordination and consultation between the two governments. The Canadian Parliament moved quickly to give legal status to this Agreement. In April 1978 Parliament assented to the Northern Pipeline Act which established the Northern Pipeline Agency and trans- ferred to it the necessary powers to carry out the Federal respon- sibilities outlined in the Agreement on Principles. Beyond the ~ct's similarities to its american legislative counterpart, it goes into a regulatory area where Congress is unable to follow. The Northern Pipeline Act officially grants a certificate of public convenience and necessity to Foothills Pipe Lines (Yukon) Ltd. In the United States issuance of a similar certificate culminates years of regulatory proceedings by the Federal Energy Regulatory Commission and immediately precedes initiation of construction. In short, the Northern Pipeline Act retooled Canadian administrative mechanisms in the form of the Northern Pipeline Agency, a counterpart to our Office of the Federal Inspector. IV. FEDERAL REORGANIZATION The need for a coordinated approach to Federal oversight and management of the ANGTS was graphically~ demonstrated during the construction of the Trans-Alaska oil pipeline. In attempting to -9- PAGENO="0127" 121 construct the oil pipeline across Federal land in an arctic environ- ment, the sponsors bitterly complained that, in addition to environ- mental and technical uncertainties, the uncoordinated actions of the Federal government added to construction ~elays and cost increases. A. Office of the Federal Inspector The concept of a "one-window" approach to Federal control over planning, construction, and initial operation of the gas pipeline received Congressional endorsement in the Alaska Natural Gas Transportation Act with the "one-window" being the Office of the Federal Inspector. By Presidential decree and Congressional consent the enforcement powers of all responsible Federal agencies were vested in the Federal Inspector for the purpose of constructing the gas pipeline (Reorganization Plan No.1 of 1979 - Appendix III). Accordingly, the Federal Inspector is responsible for the following: 1) enforcing all Federal `statutes relevant to the ANGTS, including the monitoring of compliance with any terms and conditions or stipulations which are attached to any Federal authorization; 2) monitoring actions taken to assure that cost control, safety, and environmental protection objectives are fulfilled while still achieving the timely construc- tion and initial operation of the ANGTS; 3) keeping the President and the Congress informed on project progress, including factors which may delay construction and initial operation of the system and the extent to which the objectives outlined in Number 2 above are being met; PAGENO="0128" 122 4) establishing a joint surveillance and~monitoring agreement with the State of Alaska; and 5) coordinating the scheduling ~and issuance of all Federal permits and related activities to assure timely and unified decisions. Simply stated, the Federal Inspector is designated to be the principal point of contact for the pipeline owners, contractors, state agencies, and Canadian entities. He serves at the pleasure of the President. Moreover, the statutory enforcement responsibilities of the Environmental Protection Agency, the Corps of Engineers, the Department of Transportation, the Department of Energy, the Federal Energy Regulatory Commission, the Department of the Interior, the Department of Agriculture, and the Department of Labor have been transferred to the Federal Inspector. These agencies retain their authority to issue necessary permits; however, the Federal Inspector will set the timetable for permitting actions and will be responsible for keeping the agency actions on schedule. John T. Rhett, Jr. was appointed Federal Inspector by the President and confirmed by the Senate in July 1979. The Office of the Federal Inspector is being organized by function with three field/project offices, corresponding to the three ~merican legs of the pipeline, and a headquarters in Washington. When construction of the Alaskan Leg begins in 1981 the headquarters will be relocated to a site in Alaska. Currently no decisions have been announced on the locations of the field/project offices in Alaska or the lower 48 states. Staff requiremehts are expected to include over 200 positions during construction in Alaska with an annual budget of approximately -11- PAGENO="0129" 123 $30 million. A considerable portion of the budget will be applied to contracts for outside support in the fi~lds of engineering and environmental review and quality assurance. Staff requirements will drop off drastically in late 1985, the anticipated first anniversary of the operation of the pipeline. B. Agency Authorized Officers In accordance with provisions of the President's Decision and the Reorganization Plan, each Federal agency with statutory respon- sibilities relating to the ANGTS has appointed an Agency Authorized Officer (AAO). These officers iepresent and exercise the internally delegated authorities of their respective agencies in matters pertain- ing to the project. During the permitting phase of the project the AAOs will be responsible for expediting the issuance of their agency's permits. They will also prepare enforcement handbooks for use by field-level personnel. During the enforcement phase of the project. AAOs will review the enforcement efforts of the Federal Inspector's staff to assure that their agency's policies are being properly carried out. While serving as AAOs for the project, these officials will have ot~d'~ administrative duties within their agencies, they will be located within the Office of the Federal Inspector, and they will relocate to Alaska along with the headquarters staff.at the start of the construction phase of the Alaskan Leg. Organizationally, the AAO5 have direct access to the Federal Inspector, the functional elements within their agencies, and their respective members on the Executive Policy Board. -12- 57-087 0 - 80 - 9 PAGENO="0130" 124 C. Executive Policy Board The Executive Policy Board was created through Executive Order 12142 as an advisory body to the Federal Inspector on matters per- taining to overall project management and~to specific agency authori- ties (Appendix IV). The Board is composed of the Secretaries, or their designees, of eight Federal agencies: Agriculture, Energy, Labor, Transportation, Interior, Environmental Protection Agency, Federal Energy Regulatory Commission and the Army Corps of Engineers. Additional members may be elected to the Board by vote of a majority of the members. The Department of State has indicated an interest in participation as a member of the Board. The Chairman is elected annually by majority vote of the members. Recently, the Army Chief of Engineers was elected the Board's first Chairman. V. REGULATORY ISSUES During the period from September 1977, when the President announced his selection of the Alcan pipeline proposal, to July 1979, when the Federal Inspector was confirmed, two agencies were the focus of Federal regulatpry activity: the Department of the Interior and the Federal Energy Regulatory Commission. The Department of the Interior took the lead in several areas pertaining to the ANGTS. A set of stipulations to attach to the eventual grant of right-of-way across Federal land was drafted through consultation with the Executive Coordinating Committee, a group of state and Federal officials interested in the environmental and technical standards to be required of the pipeline sponsors. Department officials also began looking at the "proximity" problems, -13- PAGENO="0131" 125 those difficulties relating to the ~construction of a cold gas pipe- line next to a hot oil pipeline in Alaska's extreme climate. A third area requiring attention was the possible use of the abandoned Haines oilproducts pipeline right-of-way south of Fairbanks. The Federal Regulatory Commission began an intensive series of proceedings which will eventually culminate in the issuance of certificates of public convenience and necessity to the sponsors of the various legs. A. Department of the Interior 1. Stipulations - In May 1979 the Department of the Interior published proposed .stipulations which will apply to the construction, operation, and termination of all three l½merican legs of the ANGTS and which encompass administrative procedures, environmental require- ments, and~ general technical standards. These stipulations were revised in September 1979, but will not be considered final until they are attached to the Federal grant of right-of-way. In accepting the grant, the pipeline sponsors will become legally bound to the terms and conditions spelled out in the stipulations. Although the Federal Energy Regulatory Commission and the State of Alaska must publish terms and conditions applicable within their jurisdictions, the Department of Interior stipulations are significant for two reasons. First, the stipulations will control the environmental and technical standards of construction over two-thirds of the route of the Alaska segment and to a large extent will set the standards for other units of government to follow in exercising their regulatory authorities. Second, the stipulations were drafted to reflect the experience gained in constructing the Trans-Alaska oil pipeline. In -14- PAGENO="0132" 126 that venture the General Accounting Office, among others, concluded that uncertainty over the interpretation of that project's stipula- tions complicated planning, delayed the construction schedule, and added to the cost of the project. The stipulations for ANGTS are general in nature and provide the framework for further planning and design by the sponsors. Control over the details will be afforded the Federal Inspector through the comprehensive "preliminary" plans which include: * Environmental briefings * Oil and hazardous substances control * Air quality * Pesticides, herbicides, chemicals * Solid waste management * Liquid waste management * Erosion and sedimentation control * Stream, river, and flood plain crossings * Material exploration and extraction * Overburden and excess material disposal * Clearing * Visual Resources * Blasting * Restoration * Pipeline contingency * Quality assurance, quality control * Surveillance and maintenance * Cultural resource preservation s Fire control * Wetland construction * Seismic monitoring * Corrosion control * River training structures * Traffic management * Materials stockpiling The preliminary plans, along with an analysis of the effect of plans on the Trans-Alaska oil pipeline, will be submitted to the Federal Inspector and will have to be approved in writing before a "notice to proceed" with construction will be issued. In addition, the sponsors are also directed to submit to the Federal Inspector summary network analysis diagrams for use in determining the -15- PAGENO="0133" 127 adequacy of the sponsor's management approach. This factor was also identified b~j the General Accounting Office in 1978 as being underemphasized in the Trans-Alaska oil pipeline project and, once again, as being directly related to that project's cost overruns. The following is a brief summary of the three categories which are addressed in the stipulations for all three ANGTS legs: a. General Requirements This category provides to the sponsors: (1) a definition of terms, (2) procedures to be followed in dealing with the Federal government (as represented by the Federal Inspector during all phases of planning, construction, and initial operation), (3) a register of the rights and responsibilities of both the sponsors and the Federal Inspector, and (4) a list-of subjects (listed above) for which comprehensive' plans are required prior to issuance of a "notice to proceed". b. Environmental Requirements The following provisions are contained in this section: (1) the sponsors shall provide environmental briefings to their supervisory and field personnel, (2) pollution control efforts must meet all applicable air and water quality standards, address sanitary and waste disposal, and the use of pesticides, (3) measures to minimize erosion and sedimentation on land and at stream crossings must be undertaken, (4) free passage of fish and big game must be assured during construction, and the sponsors - -16- PAGENO="0134" 128 must avoid disturbances of fish spawning, rearing, and overwintering areas, (5) clearing, debris disposal, and restoration must be accomplished under stated guidelines, (6) the use aiid storage of explosives must follow a pre- approved plan and shall be limited in certain areas, (7) cultural resources must be identified and protected, and (8) a pipeline contingency plan must specify the steps to be taken in the event of a break, leak, or explo- sion. c. Technical Requirements The standards outlined in this category make reference to proven engineering practices and Federal safety standards and are applied to roads, slope stability, bridges, erosion, and pipeline design. Of special importance are the weld inspection requirements (not less than 90 percent using x-ray radiography), earthquake and fault displacement protection, and pipeline corrosior~ control and maintenance. These requirements differ very little among the three legs. More coverage is given to the Alaskan segment because of the nature of the terrain, the proximity of the pipeline to the TAPS line, and the critical balances which exist within the arctic biota. It has. been pointed out by Department of the Interior officials that the stipulations are not considered to be a final package. Prior to the time of signing of the grant of right-of-way by the Secretary and the sponsors, further modifications in the stipulations may occur. -17- PAGENO="0135" 129 2. -Proximity - No single issue underscores the technical difficulties in constructing a buried pipeline in an arctic environment like the proximity issue. In passage of the 1973 amendments to the Mineral Leasing Act, P.L. 93-153, Congress found utilization of existing right-of-way corridors across Federal lands to be in the public interest. By encouraging multiple use of these existing corridors, the impact of proliferat- ing, pipeline routes on the environment is reduced. The proposed route of the Alaskan Leg of the ~NGTS follows the Trans-Alaska oil pipeline right-of-way for approximately 540 miles. The ANGTS sponsors point to the economic and environmental benefits to be derived from building the gas pipeline on the other side of the gravel work pad which parallels the oil pipeline and from using the same haul road and construction camps that were used in constructing the oil pipeline. While the owners of the oil pipeline are on record as support- ing the construction of a gas pipeline, they, have expressed concern over the impact construction of the new gas pipeline will have on operations of the oil line. At present the owners of the oil line are by statute strictly liable for any damages in connection with or resulti~ng from activities in the oil line right-of-way, without regard to fault. These owners are concerned about the effects of blasting during construction of the gas pipeline, the number of times the two lines cross over or under one another, the impact on slope stability of new construction in thaw unstable soils, and a variety of other related geotechnical issues. The oil pipeline owners' risk analysis of the impact of construction -18- PAGENO="0136" 130 of the gas pipeline adjacent to the existing oil pipeline concludes that substantial damage and spillage of crude `oil will occur with the probable consequence of long shutdown periods for the oil pipeline. The Department of the Interior has -the authority to grant' multiple uses of existing corridors and to set conditions to assure a safe and harmonious relationship between parties in the same right-of-way. In preparing to set conditions for the Alaskan Leg the Department-assembled a working group of technical experts from government and industry for the purpose of identify- ing the problems that need to be solved before a right-of-way is granted. In June 1979 the Department wrote to the gas pipeline sponsors and allowed them to proceed with planning and design based on their proposed route provided they could (a) resolve twelve major concerns of the working group, (b) consider a number of site-specific route alternatives, and Cc) accept seventeen assump- tions and conclusions of the work group relating to such issues as a minimum separation distance of the two pipelines of 80 feet, the use of the existing workpad, and the effects of controlled blasting. The Interior letter was significant because it enabled the sponsors to accelerate their engineer±ng and geotechnical studies to focus on the issues identified by the Interior Department. Tests are `being conducted relating to such subjects as frost heave effects, metallurgy, blasting, hydrology, soils, and pipe corrosion. Meetings are continuing between the sponsors, the owners of the -19- PAGENO="0137" 131 oil pipeline, and the Department of the Interior. Until various technical issues can be satisfactorily resolved, a final route cannot be identified and a firm construction cost estimate is impossible. 3. Haines Right-of-Way - The proposed route of the ANGTS in Alaska will require legal clarification of the ownership of the Haines oil producet pipeline right-of-way from Delta Junction southeasterly past the communities of Tanacross, Tok, and Northway Junction in Alaska. This right-of-way is closely parallel to the Alaska Highway. The ownership question is complex. The Haines oil products pipeline was constructed in the 1950's by the Army Corps of Engineers for use by the Department of Defense. The 50-foot wide right-of-way, across public land was set aside at that time in cooperation with the Bureau of Land Management through several different procedures all authorized under existing law. Over the years much of the public lands traversed by the pipeline was conveyed out of Federal ownership although the right-of-way was reserved for Federal use. Some of the public lands occupied by the pipeline which remain in Federal ownership have beenselected by Alaskan Natives or claimed by the State of Alaska. In 1973, the Corps of Engineers initiated procedures under the Federal Property and Administrative Services Act to relinquish Department of Defense jurisdiction over the pipeline. The General Services Administration began procedures to determine if the remaining lands should be disposed of through public sale or re- turned to the public domain. The Department of the Interior has announced its intention to grant a right-of-way for the ANGTS across -20- PAGENO="0138" 132 all Federal lands along the Haines right-of-way. This action will be subject to adjudication as it relates to several land claims filed by Alaska Native corporations before the Alaska Native Claims Appeal Board. The General Services Administration is expected to either sell or lease lands within its jurisdiction to the gas pipeline sponsors, again subject to the adjudication of land claims by Alaska Natives. With respect to lands determined to be Native lands, the gas pipeline sponsors will negotiate with the owners for purchase of rights-of-way in the same manner involved in access across any private lands. Decisions on claims before the Alaska Native Claims Appeal Board are expected within a few months. B. Federal Energy Regulatory Commission 1. Incentive Rate of Return - The Incentive Rate of Return (IROR) is a concept which was expressed in the President's Decision for use in deterring cost growth during construction of the pipeline. It is a format that is not available under conventional public utility ratemaking practices and applies only to the Alaskan segment and the Eastern Leg (Northern Border) of ~NGTS. The IROR attempts to provide an incentive for management to reduce construction costs by allowing rates of return on equity to be increased if the actual construction costs of the project are at, or below, the target estimates. As cost overruns accelerate, the rate of return diminishes to a predetermined `floor" or minimum amount. On August 29, 1979, the Federal Energy Regulatory Commission (FERC) published its final order setting the terms for the IROR -21- PAGENO="0139" 133 and pipeline company tariffs. The IROR mechanism has associated with it nuir~erous new definitions, but the tariff schedule boils down to an understanding of four key terms: center rate of return, marginal rate of return, cost performance~ratio, and operation phase rate. "Center Rate of Return": The center rate of return is that return which the sponsors will earn on thekr equity investment if they are able to build the project at the cost estimate determined by the President in his Decision. This rate may be adjusted later, at the time of final cost estimates perhaps, but currently assumes that the system will be constructed with a 30 percent cost growth in the Alaskan Leg, and a 10 percent cost growth inthe Eastern Leg~ Given these allowances for cost growth, the sponsors can expect a rate of return of 17.5 percent and 15 percent respectively. If the project is constructed at costs under the final cost estimate, significantly higher rates of return are allowed. If the project is constructed at costs above the final cost estimate, lower rates of return are allowed. "Marginal Rate of Return": This is the rate of return allowed on cost overruns. The marginal rate has been set at 8 percent, a level below the cost of capital which is expected to act as an incentive to reduce spending on cost overruns. This rate also is the floor of the IROR schedule. "Cost Performance Ratio " : This ratio is used to measure the degree of cost growth or reduction from-the projected costs of - the project. It is the ratio of Actual Capital Costs to the Projected Capital Costs. A ratio of greater than 1.0 indicates that actual costs are greater than the budgeted costs. As mentioned -22- PAGENO="0140" 134 above, the Alaskan segment is expected to be built with a 30 percent cost growth (its center rate which would earn 17.5 percent). There- fore, the Alaskan cost performance ratio would be 1.3. The follow- ing chart provides a sarnple schedule for the IROR mechanism given variable cost performance ratios: Cost Performance Ratio 0.8 0.9 1.0 1.1 1.2 1.3 1.4 1.5 1.6 1.7 1.8 1.9 2.0 2.1 2.2 2.3 2.4 2.5 2.6 2.7 2.8 Rate of Return (%) Alaskan Leg 23.44 21.72 20.35 19.23 18.29 17.50 16.82 16.23 15.72 15.26 14.86 14.50 14.17 13.88 13.61 13.37 13.15 12.94 12.75 12.57 12.41 Rate of Return (%) Northern Border 17.62 16.56 15.70 15.00 14.42 13.92 13.50 13.13 12.81 12.53 12.28 12.05 11.85 11.67 11.35 11.35 11.21 11.08 10.96 10.85 10.75 toperation Phase Rate": This rate applies to the return on equity which will compensate equity investors for the risks incurred during operation of the pipeline. It has been set by FERC at 14 percent for the Alaskan segment, and 13 percent for the Eastern Leg. Another feature of the final FERC order on project tariffs is that the tariffs are to be "cost-of-service" rather than the con- ventional fixed-rate tariffs. The cost-of-service tariff allows the project sponsors to charge their customers rates adequate to recover their full expenses regardless of fluctuations in costs or volumes -23- PAGENO="0141" 135 of gas transported. These tariffs will not become effective until the system is completed, thereby removing the consumers from risk of noncompletion of the system. A provision has been adopted in the event of an extended total cessation of service for thirty consecutive calendar days unde~ which the sponsors would forfeit their return on and of equity until service resumes. Debt service will be allowable in all events except non-completion. 2. Conditioning Costs - Settlement of the issue of who should be responsible for gas conditioning costs was FERC's second major challenge. Unlike other issues in the ANGTS proceedings, this conditioning question directly involved the producers of Prudhoe Bay natural gas - Atlantic Richfield, Exxon, and Sohio. The con- ditioning decision was also thought to be the most likely to result in litigation. It was made on August 24, 1979, as FERC Order No. 45. The two central questions addressed were who should be responsible for the construction and operation of a conditioning facility, and what allowances, if any, should be permitted in the $1.45 per mcf ceiling price of Alaskan gas to reflect conditioning costs? "Conditioning" is defined by FERC as any treatment of the raw gas which is necessary to render it transportable through the ANGTS. This includes chilling and compressing the gas, water removal, and cleansing the gas stream of sulfur, hydrogen sulfide, oxygen, carbon dioxide and other impurities. Quality specifications for Alaskan gas have not been made final by regulatory authorities in either the United States or Canada. The debate centers on the levels of carbon dioxide to be allowed. Some carbon dioxide removal is -24- PAGENO="0142" 136 required to prevent corrosive chemical reactions from occurring in the pipeline (such reactions occur at C02 levels above 3 percent by volume). A further reduction of carbon dioxide content below 3 percent permits the transportation of a greater volume of gas, thereby enhancing the transportatiori~efficiency of the system. Therefore, a 3 percent level could be required for pipeline safety considerations, but a lower level would clearly benefit the trans- porters and shippers. The cost of gathering and conditioning Alaskan gas has been estimated at $.75 per million btu (1978 dollars). A conservative cost estimate for construction of a gas conditioning facility is.$2 billion. FERC Order No. 45 places responsibility for conditioning on the producers, a responsibility which the producers say will reduce their return on gas sales significantly. The FERC order accomplishes this in two ways. First, it amends the Commission's interim regulations implementing the Natural Gas Policy Act of 1978 (P.L.95-62l) to allow first sellers (the producers) to apply to the Commission for an allowance on the costs incurred in remov- ing carbon dioxide from levels of 3 percent or lower. Second, the Commission publicly announced a statement of policy that any costs incurred by shippers or transporters to condition gas will be considered "imprudently incurred" and not recoverable in their tariffs. In the first instance, producers cannot expect to pass- through costs to condition gas to the 3 percent level and may "apply" for an increase in the wellhead ceiling price for their gas only for costs to condition it below 3 percent. In the second instance, FERC has announced that it will not approve any tariff submitted by -25- PAGENO="0143" 137 the pipeline company which reflects conditioning costs. FERC has gone one step further by adjusting its previously issued tariff order (the incentive rate of return rulemaking) to reflect a prohibition on passing through any conditioning costs from transporter to shipper, except to remove carbon dioxide to levels below 3 percent. The rationale for the final decision on conditioning costs is based on a line of reasoning that has been evident in all FERC decisions on ANGTS: the need for a reasonable distribution of the financial burden of constructing the system among the potential beneficiaries. In the President's Decision the producers were specifically prohibited from equity participation in the pipeline. Although it is yet considered a possibility that the producers will proffer some form of debt guarantee, FERC has de- termined that the capital investment required for the conditioning facilities would only be a further financial burden on the ANGTS and that it is an appropriate responsibility of the producers. A discussion of project financing will follow later in this report, however, officials of the' Department of Energy considered FERC's Order No. 45 on conditioning costs so integrally related to an overall financing structure that the Secretary of Energy requested a rehearing to allow additional time for financing proposals involving the producers to emerge. The request was granted by FERC and the effective date of Order No. 45 was stayed until December 5, 1979. 3. Pipeline System Desig~ - Design standards for the construc- tion of any pipeline must identify two basic factors: operating pressure and pipe diameter. Debate on_pipeline design centered -26- PAGENO="0144" 138 primarily on the Alaskan Leg and portions of the Canadian Leg where "conventional" standards do not exist because of extreme clin~tic conditions. International agreement was necessary~ because the pipe design used in Alaska would necessarily be followed across the border into Canada at least as far asWhitehorse, Yukon, where the "joint-use" segment begins. This segment stretches from Whitehorse to the point at Caroline Junction, Alberta, where the line bifurcates. It is this portion of the pipeline which is designed to carry future quantities of Canadian gas when such resources begin to flow from potential reservoirs in the Beaufort Sea. American and Canadian government technical representatives began meeting soon after Congress approved the President's Decision. That document identified the desirability of a 48-inch diameter pipeline and created a predisposition to a 1260 psig operating pressure by stating that the facilities approved by the President are those contained in the Alcan application. Alcan (later Alaskan Northwest) applied for 1260 psig. The Decision goes further, however, by suggesting that the sponsors should consider greater operating pressures in order to increase throughput of gas. The matter was left for resolution by FERC and the Canadian National Energy Board (NEB). For their part, the Canadians expressed reservations about the safety and reliability of a high pressure system. Their technical representatives pointed out that the capital cost estimates of such a system are questionable because the high pressure design goes beyond proven technical standards, which are conventional -27- PAGENO="0145" 139 systems operating below 1100 psig. As a result of these concerns, the Canadian NEB selected a large diameter pipe, 56-inch, and an operating pressure of 1080 psig for the joint-use section. The Canadian design decision on the joint-use segment effective- ly narrowed the options for system design-north of Whitehorse. The choices became the 1260 psig system proposed by the sponsors of the Alaskan Leg, or a thicker walled 48-inch diameter pipe which could operate at 1400 psig, 1440 psig, or 1680 psig, as proposed by other parties to the FERC design proceedings. The choice of operating pressure is important, not only be- cause of the relationship of the pressure to throughput (directly proportional), but also because there is a relationship between the pressure and the ability of the gas stream to carry natural gas liquids. These gas liquids, or NGL, are hydrocarbons containing more carbon atoms in each molecule and are "richer" than natural gas (which is composed mostly of methane). Energy Values Source Btu*/èubic foot Btu/barrel Natural Gas: C1 (methane) 950 2,478,000 Gas Liquids: C2 (ethane) 1,700 2,916,000 C3 (propane) 2,550 3,824,000 C4 (butane) 3,354 4,162,000 C5 (pentane) 4,015 4,625,000 Crude Oil: C6 and higher 5,800,000 *Britih Thermal Units The State of~ Alaska is looking very closely at the ability of the gas stream to carry the NGL in order to keep open the option of developing a world-class petrochemical industry using the NGL as - - -28-' 57-087 0 - 80 - 10 PAGENO="0146" 140 feedstocks. The State's principal objective is to relieve the "boom-bust" cycles associated with direct export of its raw materials. In the case of the State's royalty oil, agreements were reached to insure construction of in-state refining capacity. State officials contemplate a similar venture for their royalty gas and they specifically support development of a petrochemical plant near Fairbanks where unemployment now stands at 14 percent. Alaska's comments in FERC's proceeding on system design underscore the interrelationship of several major issues under review by FERC in separate proceedings. The State recommended an omnibus proceeding to resolve at one time (a) pipeline design, (b) location of the conditioning plant, and (c) carbon dioxide content of the gas stream. State officials contend that a decision on the sponsors.' pipeline design could foreclose the possibility of transporting the NGL to Fairbanks through the pipeline. The level of C02 in the pipeline affects the safety and efficiency of the pipeline. However, once CO2 is removed, the ability of the gas stream to transport the NGL is reduced. FERC announced on August 6, 1979, its decision to approve the sponsors' system design of 48-inch diameter pipe and 1260 psig operat- ing pressure. The Commission indicated that it would consider the complex NGL carrying capacity issue in the context of the carbon dioxide proceeding rather than delay a system design decision. The State of Alaska has challenged the FERC decision. It filed an appeal in the U.S. Court of Appeals for the District of Columbia Circuit on October 5, 1979. Under the judicial review process man- dated in the Alaska Natural Gas Transportation Act, the Court has 90 days to rule on the complaint. -29- PAGENO="0147" 141 4. Terms and Conditions - Similar to the Stipulations of the Department of the Interior, FERC's Terms and Conditions are requirements that are attached to the certificate of pullic con- venience and necessity and relate specifically to private lands. FERC's draft Terms and Conditions were published for comment in May 1979 and proposed that the pipeline sponsors prepare a handbook for all private landowners along the right-of-way containing in- formation on construction schedule, environmental and safety prac- tIces, and settlement procedures. Also recommended is the installa- tion of toll-free telephone lines to the pipeline companies for use by the affected landowners when questions arise. The FERC document also proposed conditions relating to the issuance of stop-work orders by government field officials. Final action by FERC on its Terms and Conditions is pending consultation with the Federal Inspector. VI. SPECIAL CONCERNS Three issues of special significance to the ANGTS have not been fully resolved to date. The first is the question of project financing: Can the sponsors of the ANGTS attract major lenders for debt support? The second issue involves the location of the gas plant. The third special concern is with the implementation of procurement agreements between the United States and Canda. A. Financing A major factor in the selection of the Alcan proposal by the President and its concurrence by Congress was the pledge of the PAGENO="0148" 142 sponsors that the system would be privately financed. The foundations for a financing plan were laid in the President's Decision. This 1977 document stands out in the midst of the 1979 financing imbroglio by virtue of its simplicity. It has withstood determined attempts since 1977 to soften its require- ments. However, the first and only test of the Decision's financing tenets and the sponsors' solemn pledges to secure private financing will cone during the first quarter of 1980 when major lenders will be given a financial prospectus and asked to materially support the $15 billion project. The Decision includes the following requirements: 1. The sponsors shall provide for private financing of the project; 2. The producers of Alaskan gas shall be excluded from owner- ship of the gas pipeline. They may not be equity members of the sponsoring consortium, have any voting power in the project, have any role in the management or operations of the project, or have any continuing financial obliga- tion in relation to debt guarantees associated with initial project financing after the project is completed and the tariff is put into effect; 3. The producers of Alaskan gas may provide guarantees for project debt; and 4. A variable rate of return shall be set to provide substantial incentives to construct the project with- out incurring overruns. -31- PAGENO="0149" 143 The report accompanying the President's Decision outlines a plan to enable private financing by allocating the project's risks. it provides: 1. The equity investment in the project shall be placed at risk under all circumstances and considered the first funds spent. The rate of return on equity will compensate sponsors for bearing this risk; 2. Major beneficiaries of the project, the producers and the State of Alaska, should participate in the financing either directly or in the form of debt guarantees; 3. The burden of cost overruns shall be shared by equity holders and consumers through the variable rate of return; and 4. Consumers will provide debt service in the event of service interruption only after the pipeline is completed and service begins. Conventional financing structures consist of cash from sponsors, who hold title to the facilities being financed, and cash from lenders, who require a reasonable rate of return on their principal over a specified period of time. A 50 percent debt, 50 percent equity capital structure is customary for major natural gas pipeline companies in the lower 48 states. The equity investors, or sponsors, generally "risk" their capital; that is, in the event of project failure the equity owners obtain a return of their investment only in the event assets remain after repayment of principal and accrued interest to lenders. By contrast, lenders., such as major insurance companies, / -32- PAGENO="0150" 144 pension funds, and banks, do not perceive their advances as "risk' capital, but require assurances, under any circumstances, of recovery of their principal with interest. Various risks associated with a $15 billion project, portions of which are to be constructed in an arctic environment, will be critically examined. The risk of non-completion encompasses factors such as unmanageable cost overruns, unforeseen technical problems, or delaying legal or regulatory obstacles which could cause the project to be abandoned prior to completion. The risk of service interruption, once the pipeline is operational is based on the possibility that problems along the pipeline, within the gas conditioning plant, or associated with gas reserve itself could stop or reduce gas flow to consumers. Another risk is that of project abandonment once it has been completed. For example, if interruption of service continued for an extended period of time, the project could fail. A final type of risk which will be examined by lenders is the risk that the gas, once onstream, will cost too much to market. Whereas, most of these risks are associated with construction of the Alaskan Leg of the pipe- line, their impact on financing falls equally on all segments of the system because revenues will depend on the flow of Prudhoe Bay gas. The sponsors of the Alaskan Leg propose a 75/25 debt to equity ratio and non-recourse "project financing" to construct their $6 billion segment of the pipeline. This proposed unconven- tional financing structure results from the relatively small size of the six pipeline companies in the consortium and their PAGENO="0151" 145 correspondingly narrow equity base. The partners' capital struc- tures are presently highly leveraged and they do not have the advantage of owning the resource to be transported. By comparison, it was the asset of owning the oil reserves which enabled the sponsors of the Trans-Alaska oil pipeline to leverage the sizeable cost overruns which they experienced *in construction of that pipeline. Non-recourse "project financing", as distinguished from "balance sheet" financing, will have significance for ANGTS debt lenders In project financing a new enterprise or project entity is created which, in and of itself, could generate sufficient revenues to pay.its operating costs, interest and principal on its debt, and a return on and, ultimately, a return of equity to its investors. In other words, the pipeline's equity owners will not be responsible for debt service if construction is delayed or abandoned, if the gas turns out to be unmarketable, or if gas shipments are reduced or interrupted. The only source of funds for the purpose of debt repayment will be the gas consumer. To protect the consumer from unreasonable risk, the President's Decision and Report limits the payment of debt service by consumers to the operating phase, not the construction phase. Consumers will share the risk of service interruption, not the risk of non-completion. Debt lenders will face the risk of non-completion without recourse. In the case of the more conventional "balance sheet" financing, the sponsoring companies would have to place their entire assets behind the project debt. - 34 - PAGENO="0152" 146 Within this framework of risk allocation the sponsors of the Alaskan Leg have endeavored to reduce lender uncertainty by working to secure positive regulatory actidn on major rate- making issues, by trying to attract other gas transmission companies into their consortium as equity partners, and by encouraging the other project beneficiaries, the gas producers and the State of Alaska, to help finance the system. The sponsors' efforts and other events in government have combined to help establish a favorable regulatory climate: the pipeline system design, incentive rate of return, and tariff issues were addressed by FERC; the appointment of a Federal Inspector with strong decision-making authority has had positive implications; Congress passed the Natural Gas Policy Act which set a wellhead price for Prudhoe Bay gas without need of further onerous regulatory review; and, gas sales contracts between the producers and gas transmission companies were initialed. Lender uncertainty currently centers around four factors: (a) whether the Federal government can be self-disciplining and assure timely action, (b) the need for additional expenditures by the project sponsors for design, engineering, and other tech- nical work, (c) whether the other major beneficiaries will provide debt support or overrun guarantees, and (d) whether there can be assurances of perfect shipper tracking once the project is completed. An examination of the last two factors follows. -35- PAGENO="0153" 147 1. Major Beneficiaries Producers - The sponsors of the Alaskan Leg point out that the main producers of Prudhoe Bay gas, Exxon, Atlantic Richfield, and Sohio will realize $50 billion in 1979 dollars from the sale of their natural gas. The producers, however, re- spond that before any gas can be shipped they must invest $1 to $2 billion in field development, $2 billion to construct the gas conditioning plant, and potentially another $2 billion to institute waterflooding in the Prudhoe Bay reservoir. An impasse was broken in July 1979 when the President publicly accused the producers of foot-dragging and announced that he had instructed the Secretary of Energy to meet with the producers and discuss ways to help finance the project. Secretary Schlesinger met with the producers on August 8, 1979, and outlined that the producers should provide the $2 billion for the gas conditioning plant and $2.7 billion in guarantees against cost overruns on the pipeline. The producers replied that they would not commit funds without a voice in the management of the project. In October 1979 Exxon presented a counter-proposal to the Department of Energy pledging the producers to a 40 percent equity and a 40 percent debt role in project financing provided that (a) construction and operation of the conditioning plant would become the responsibility of the sponsors, (b) producer participation in system ownership would be approved by FERC, and (c) the present partnership agreement would be revised for a two-thirds vote on significant issues. -36- PAGENO="0154" 148 The other two producers indicated they agreed with the general outline of the Exxon proposal. Further meetings on the issue are expected to take place to narrow the distance between the Secretary of Energy's plan and the Exxonproposal while keeping within the provisions of the President's Decision and Report. State of Alaska - Alaska is included on the list of major beneficiaries by virtue of its "producer" status as owner of 12.5 percent of the Prudhoe Bay gas and because of the predictable revenue increases and employment benefits which would result from construction of the project. It is anticipated that the State could realize as much as $7.5 billion from the sale of Prudhoe Bay gas in the form of royalties and severance taxes, as well as $50 million per year in property taxes. Several hundred permanent jobs would be created in addition to the sizeable labor force needed during the project's construction period. In 1978 the sponsors of the Alaskan Leg requested the State of Alaska to support the project in the form of $1 billion in tax-exempt revenue bonds and $500 million in convertible debentures, which are interest-bearing securities that are ex- changeable for preferred equity after construction is completed. Later that year the State Legislature passed a bill to set up the Alaska Gas Pipeline Financing Authority through which the State could issue the $1 billion in tax-exempt bonds. Technical revisions to the bill became necessary after questions arose as to the legal ability of the Authority to issue bonds. In addition, -37- PAGENO="0155" 149 the revenue bonds could only have been issued after the U.S. Congress acted to amend the Internal Revenue Code to give the project special tax-exempt status. In looking further at the bonding authority, State officiaLs began to discuss the possibility of tying policy objectives to the revision amendments to insure in-state hire and the availability of comprehensive information on the sponsors' overall financing plan. The sponsors withdrew their proposal for. State participation after a special session of the State Legislature in August 1979 failed to give approval to either the technical amendments for debt participation or to any form of equity participation. The reluctance of the State Legislature to act on this measure despite Governor Hammond's indication that the pipeline was a priority project in his administration was based on the Legislature's conclusion that the State was being asked to become a lender without sufficient financial information on the project, well in advance of the sponsors' formal proposals to other lenders. Under these circumstances the Legislature objected to unconditional commitment of funds. Other factors contributed to the Legislature's conclusion including the following: a commonly shared belief that the sponsors' actions during the debate had alienated Alaskan groups which traditionally support growth and development; the fact that no action was taken by the sponsors to secure the necessary change in law by the U.S. Congress; the fact that the requested equity contribution represented one- half of the State's annual operating budget; the compounded risk -38- PAGENO="0156" 150 which would result from committing State revenues, which are heavily dependent on Prudhoe Bay oil production income, to another venture associated with the same reservoir; and, the hope of legislative leaders that the financing issue could be used to leverage support from the sponsors for locating the gas conditioning plant in Fairbanks. Although several options for financial participation are actively being examined by the State, it is likely that the agreement finally reached on producer participation will have a strong impact on the State's participation plan. 2. Shipper Tracking In deciding whether or not to participate in financing on a non-recourse basis, lenders will look both at the ability of the sponsors to complete construction and at the - project's tariff arrangements. The tariff is a lengthy legal and operating document that defines how the company owning and operating the pipeline will charge its customers "the shippers" and what transportation services will be provided by the company. At a minimum, tariff arrangements are expected to provide sufficient dollars to cover debt obligations under each and every circumstance. FERC approved the cost-of-service tariff applications of both Alaskan Northwest and Northern Border which allows them to automatically pass along costs associated with operation of the pipeline without prior approval by FERC. The key issue is the extent to which the shippers will be able to "track" or -39- PAGENO="0157" 151 pass the costs along to local distribution companies and ultimately to end users. The obstacle to perfect `tracking" by the shippers of all legitimate charges is the separation of regulatory authority between FERC and the state utility commissions. Under normal operating conditions all transportation costs could be expected to be passed along to the end user. However, a question remains as to whether or not the individual state regu- latory authorities will approve agreements requiring pass-through of costs, particularly debt service, during periods of service interruption. B. Location of the Conditioning Plant The State of Alaska strongly supports a Fairbanks location for the gas conditioning plant. The Alaskan Leg sponsors have proposed that the plant be located at Prudhoe Bay. A decision on location will be based on factors under review in several FERC proceedings including pipeline system design, CO2 content, and conditioning costs. Responsibility for construction of the facility has not been finally assigned and is a significant factor in development of a financing plan. The plant is expected to cost in excess of $2 billion and to take four and one-half years to construct with a 1,000 person workforce. FERC gave direction to the debate on location in July when it released a draft environmental impact statement which was pre- pared by its environmental staff in cooperation with the Environmental Protection Agency. FERC prefaced this action with two explanations. First, even though the facility does not come under certification requireme~~~, the agency felt compelled to present all relevant -40- PAGENO="0158" 152 information on ~NGTS to the public. Second, FERC determined that an environmental assessment was necessary because (a) the conditioning facility will be a major construction project, and (b) the facility is not covered under Sections 8(e) and 10(c) of the Alaska Natural Gas Transportation Act and is therefore subject to the requirements of the National Environmental Policy Act. Public hearings on the draft impact statement were held in September. On the basis of environmental factors, the July draft statement concluded that a Prudhoe Bay site would be superior to the Yukon River and Fairbanks alternatives and that the North Slope site would have the-fewest adverse effects. The land in the vicinity of Prudhoe Bay has already undergone significant development by the petroleum industry and the North Slope Borough has proposed zoning in the area of preferred industrial development. Another strong argument supporting a Prudhoe Bay site is based.: upon the sponsors' desire to employ the most cost-effective construction methods available. Although construction costs on the North Slope are higher than in Fairbanks, the coastal location of the Prudhoe Bay site enables it to be served by barges. Barges are able to transport very large modules which can be set in place on prepared gravel pads, eliminating the need for extensive on-site construction in extremely adverse conditions. The modules are fabricated at locations in the lower 48 states where assembly costs are lower and productivity and quality assurance are more -41- PAGENO="0159" 153 reliable. An inland location in Alaska, such as Fairbanks, requires the transporation of much smaller components on trucks or by rail with a greater degree of on-site assembly resulting in the opinion of the sponsors, in higher overall costs. The State's primary objective is to encourage long-term industrial expansion and provide permanent employment opportuni- ties within the State State officials argue that the economies of scale used to justify the Prudhoe Bay site are outweighed by lower costs in Fairbanks. They urge recognition of the State's. proposal to construct a petrochemical manufacturing facility in Fairbanks with its concomitant co-location economies with the conditioning plant. At present the State is acting through legal channels to keep all of its options open and is seeking the support of the sponsors in exchange for the State's participation in the financing of the pipeline. C. Procurement: "Canadian Content" The issue of procurement practices to be followed by the United States and Canada in constructing the ANGTS was an important and difficult aspect of the negotiations on the Agreement on Principles. Canadian procurement policy, commonly referred to as the "Canadian Content" policy, runs counter to normal United States' policies on international trade. Canadian policies are outlined by the National Energy Board in its July 1977 decision approving a joint project for delivery of northern gas: -42- PAGENO="0160" 154 "In respect to Canadian content: (1) The Company shall so design its program for the procurement of goods and services for the project to assure that: (a) Canadians have a fair and competitive opportunity to participate in all facets of the project; (b) the level of Canadian content is optimized, so far as practicable, with respect to the ~drigin of products, services, and their constituent components; (c) maximum advantage is taken of opportunities provided by the project to establish and expand supplier firms in Canada; and (d) maximum advantage is taken of opportunities provided by the project to foster research and development techno- logical activities in Canada." To assure that Canadian policies are used only to give Canadian firms a fair opportunity to compete, rather than to allow them to obtain contracts without regard to competition from out- side Canada, Sections 7 and 8 were added to the Agreement on Principles (Appendix V). Section 7 was added to provide the standard of "generally competitive terms' and the factors to be weighed in determining whether or not competition was being unfairly restrained. Section 8 was added to provide a consultation mechanism for reso- lution of any differences which might arise. Section 7 also lists the available remedies, including the renegotiation of contracts or the reopening of bids. Also contained in the Agreement on Principles, however, is a statement of objectives which has been used to fortify the "Canadian Content" procurement policy. The preface states, in part, that it is desirable to maximize related industrial benefits of each country through construction and operation of the pipeline system. Thus, "Canadian Content" has come to mean a Canadian procurement policy which has as its goal the enhancement and expansion of Canadian industry. -43- PAGENO="0161" 155 Two events occurring in February 1978 focused attention on Canadian procurenent policies. First, during the debate in the Canadian House of Commons on the pipeline enabling legislation, officials stopped just short of giving legal status to the Foothills' target of 90 percent "CanadianContent." Deputy Prime Minister Allan J. MacEachen was quoted as saying that the Canadian government would assist the sponsors in reaching that goal. The second event was Canada's announcement on February 20, 1978, that it had selected a 56-inch, 1080 psig pipeline system design for the 1,085 mile segment between Whitehorse, Yukon, and Caroline Junction, Alberta. United States officials had informed their Canadian counterparts that they preferred a 48-inch system because they felt that it would provide the lowest cost of service, a cost that the American gas consumer will ultimately have to assume. Deputy Prime Minister MacEachen was quoted as saying that a key reason his government prefers the 56-inch version is that the large size pipe is currently made by two Canadian companies but isn't made in the United States. In light of these events, development of detailed procedures and safeguards under Section 8 of the Agreement on Principles is essential. Fundamental elements of the consultation mechanism are (a) the assurance of access to all relevant documents to insure that the procurement process is on a competitive basis, and (b) the assurance that access to this information will be provided within a timeframe which has meaning in the bidding process. The consultation procedures under Section 8 have not 57-087 0 - 80 - 11 PAGENO="0162" 156 yet been agreed to despite the advanced progress of procurement activities for the Canadian Leg of the ~NGTS. Consultation is expected to involve officials of the Northern Pipeline Agency and the Office of the Federal Inspector rather than the tradition- al governmental authorities, the Canadian National Energy Board and the Federal Energy Regulatory Commission. It is hoped that a regular exchange of information will take place with the under- standing that each party must have full access to all relevant forms and documents. VII. CONCLUSION The Subcommittee on Oversight and Investigations of the Committee on Interior and Insular Affairs held hearings on October 15 and 16, 1979, concerning the Alaska Natural Gas Transportation System. The purpose of the hearings was to focus attention on the current status of the regulatory decisions affecting construction of the pipeline, to meet the newly appointed Federal Inspector, and to receive testimony from the pipeline sponsors outlining their plans and requirements. It was apparent from the testimony received that the level of confidence in the project had improved significantly in the weeks immediately preceding the hearings. This confidence was reflected in statements by both the sponsors and the Federal regulators and could be attributed to two factors. First, a combination of regulatory decisions and the appointment of the Federal Inspector enabled the sponsors to begin formulating credible cost estimates and financial proposals to present to potential PAGENO="0163" 157 lenders. Second, events occurring in oil exporting countries had revived the sense of urgency within the United States to develop a greater degree of energy self-sufficiency. The Alaska Natural Gas Transportation System is the only project on the drawing boards that would provide a major new domestic energy supply to the nation in the near future. On several occasions President Carter has reiterated his commitment to building the gas pipeline in order to improve our national security position with respect to increasing energy supplies and with respect to reducing the outflow of dollars to oil producing nations Future milestones which will determine the fate of the pipeline are (1) an agreement among the participants on financial support roles, (2) the ultimate decision of lenders on debt support, (3) the outcome of technical challenges to construction of the pipeline in Alaska and northern Canada, and (4) the development of a working relationship between the sponsors and the Federal ~Inspector during construction of the pipeline. The Subcommittee will continue to review progress at each of these milestones and will schedule oversight hearings when appropriate -46- PAGENO="0164" 158 APPENDIX I Public Law 93-153 93rd Congress, S. 1081 November 16, 1973 ~n ~it To iiiiieiid $P(li('iI ~S Of the 31i11(ral leasing Act of 1920, and to authorize a I ra,isAiiisha oil pipeline, and for other purposes. * * * * * * TiTLE ill-NEGOTIATIONS WITH C~\N.~1)X SEe. 301. Ilie Piisideiit of the Fnited States is nit lioiizid itid requested to enter into negotiations with tile (ioveriiiiieiit of (111)0(10 1(1 leti)Iillifle- (a) the wihiiiigness of tim Goveriiiiieiit of Caillola 10 periiiit lie (oust riictioii of pi~)eliiieS or ot liii t ransilurtat mu systeiiis across Cllultdiau territory for (lie traiis1 oct of not iirai gas and oil fri)in Alaskas ~oit ii Sloi e. to iiiarltits iii I lie ITiiit ed States, inciiiil ing I lie use of tankers by way of tim Northwest Passage; b) tim. med for nit ergoveriinient al uiiiitrst andiiigs. agree- iieiits, or I eat irs to protect, the. interests o (lie Goveriiiiients of (~alisda 11111 tue i iiited States 111(1 ii1l~ party or partieS involveil wit Ii tin' oust ructicin, oi)eratmn, u1d niainteuiaiice of 101)11 ills (ii ot lieu t riiiispoitatiiiii systenis for the trauisport of such uiat unit gas or oil (c) the terms a'id coiiditions under which liipel IIi's or It I rauiSp(irtatioit systeiiis could he const nicted humps ( `aii;i ii territory; . . (ii) thin desiraliihity of undertaking jmnt studies a nt iiivest gat ions designed to insole protect ion of I lie iii vi monuiueuit. iii Ice legal and niguulatory uneertalitty, and uuisure I lout I he iesptit iVe eliergy requirements of the people of (`allaila and of (lie I niteul States are adequately uiet; 87.STAT. 589 (e) tim quiant ii v of such oil iuid uiatu cal gas from tTie Noit ii Slope of Alask: (cii which the (h'ivemuiuiieuit of Canada would guiaraatee trauisif : ail(h (f) the feasil ii ty, c0uisistiiit wit Ii the. iiisds of other sections of the liii ted St lu's. (if htCilli ml lug 1(1(1 it lOulhi I iliergy Iron i other sources that won lii His he uiuiiim.-cssa uy thin si ii1 in ieuit of oil from (lie Alaska puiieliuie liv taiikur unto tie I `uigit ~u)li1I(l area. The President. shall report to t lie. I loinse nid Senate (.oniniittecs on Presidential interior 011(1 huisiilar A lairs the, actions taken, the progress achieved, report to the a teas of ohisagrei-nieuit, 111(1 (lie matters about which iiiome infornia- cong'esoional (iou is uui-i'(ieil, ti)gethlir ~vit.li ins o-econinteuidations for further action. comittees. Su:c. 3(12. (a) The Secretary of thin Interior is authorized and Study. ill itt u-il to iii vt-st gate the feasibility of Ole. or tiiore oil or gas l)i pci lIPS frouii the North Slope of Alaska to connect with a pipeline through Cauuada that will deliver oil or gas to United States uiiarkets. (h) All costs assocuated with making the illvestigtitioulS authorized Investigation l)y subsection (a) shall he charged to any fuitu -n app) il-alIt who is costs. gu-auited a u-ight-Of-\vay for ouie cuf tile routes stuudied. The. Set-netary Reports to shall subunit to the house auud Senate (`onuunittees out Tuiteu-io~ 011(1 congressional Iuusuulau- Atfairs 1)eto(he reports of his investigation, and the fuuual committees. report of tile Secretary shah he suubnuitted withuiui two years fu-om the date of this Act. Site. 303. Nothing in this title. shall limit tite auuthorit.y of (lie Scene- any of the interior or any other Federal official to grant a gas or oil pipeline right-of-w-ay or pci-unit which lie is otiierwise authorized by law to grant. * * * * * * PAGENO="0165" 159 APPENDIX II PUBLIC LAW 94-586-OCT. 22, 1976 90 STAT. 2903 Public Law 94-586 94th Congress An Act To expedite a decision on the delivery of Alaska natural gas to United States Oct. 22!197~ markets, and for other purposes. [S. 3521] Be it enacted by the Senate and Iloune of Representatives of the United States of Anwrica in Congress assembled, AlaskaNatural Gas SHORT TITLE Transportation Act of 1976. SECTION 1. This Act may be cited as the "Alaska Natural Gas 15 Usc 719 note. Transportation Act of 1976". CONGRESSIONAL FiNDINGS SEC. 2. The Congress finds and declares that- 15 USC 719. (1) a natural gas supply shortage exists in the contiguous States of the United States; (2) large reserves of natural gas in the State of Alaska could help significantly to alleviate this supply shortage; (3) the expeditious construction of a viable natural gas trans- portation system for delivery of Alaska natural gas to United States markets is in the national interest; and (4) the determinations whether to authorize a transportation system for delivery of Alaska natural gas to the contiguous States and, if so, which system to select, involve questions of the utmost importance respecting national energy policy, international rela- tions, national security, and economic and environmental impact, and therefore should appropriately be addressed by the Congress and the President in addition to those Federal officers and agencies ttssigned functions under ]aw pertaining to the selection, construc- tion, and initial operationof such a system. STATEMENT OF PURPOSE SEC. 3. The purpose of this Act is to provide the means for making 15 USC 719a. a sound decision as to the selection of a transportation system for delivery of Alaska natural gas to the contiguous States for construc- tion and initial operation by providing for the participation of the President and the Congress in the selection process, and, if such a system is approved under this Act, to expedite its construction and initial operation by (1) limiting the jurisdiction of the courts to review the actions of Federal officers or agencies taken pursuant to the direction and authority of this Act, and (2) permitting the limi- tation of administrative procedures and effecting the limitation of judicial procedures related to such actions. To accomplish this purpose it is the intent of the Congress to exercise its constitutional powers to the fullest extent in the authorizations and directions herein made, and particularly with respect to the limitation of judicial review of actions of Federal officers or agencies taken pursuant thereto. PAGENO="0166" 160 90 STAT. 2904 PUBLIC LAW 94-586-OCT. 22, 1976 DEFINITIONS 15 Usc 719b. SEC. 4. As used in this Act: (1) the term "Alaska natural gas" means natural gas derived from the area of tl~~ State of Alaska generally known as the North. Slope of Alaska, including the Continental Shelf thereof; (2) the term "Commission~' means the Federal Power Commission; (3) the term "Secretary" means the Secretary of the Interior; (4) the term "provision of law" means any provision of a Federal statute or rule, regulation, or order issued thereunder; and (5) the term "approved transportation system" means the system for the transportation of Alaska natural gas designated by the President pursuant to section 7(a) or 8(b) and approved by joint resolution of the Congress pursuant to section 8. FEDERAL POWER COMMISSION REVIEWS AND REPORTS Proceedings, SEC. 5. (a) (1) Notwithstanding any provision of the Natural Gas suspension. Act or any other provision of law, the Commission shall suspend all ~ ~ proceedings pending before the Commission on the date of enactment W. of this Act relating to a system for the transportation of Alaska natu- ral gas as soon as the Commission determines to be practicable after such date, and the Commission may refuse to act on any application, `amendment thereto, or other requests for action under the Natural Gas Act relating to a system for the transportation of Alaska natural gas until such time as (A) a decision of the President designating such a system for approval takes effect pursuant to section 8, (B) no such decision takes effect pursuant to section 8, or (C) the President decides not to designate such a system for approval under section 8 and so advises the Congress pursuant to section 7. (2) In the event a decision of the President designating such a system takes effect pursuant to this Act, the Commission shall forth- with vacate proceedings suspended under paragraph (1) and, pursu- ant to section 9 and in accordance with the President's decision, issue a certificate of public convenience and necessity respecting such system. (3) In the event such a decision of the President does not take effect pursuant to this Act or the President decides not to designate such a system and so advises the Congress pursuant to section 7, the suspen- sion provided for in paragraph (1) of this subsection shall be removed. Recommenda- (b) (1) The Commission shall review all applications for the issu- lion, submittal ance of a certificate of public convenience and necessity relating to to President. the transportation of Alaska natural gas pending on the date of enactment of this Act, and any amendments thereto which are timely made, and after consideration of any alternative transportation system. which the Commission determines to be reasonable, submit to the President not later than May 1, 1977, a recommendation con- cerning the selection of such a transportation system. Such recom- muendation may be in the form of a proposed certificate of public convenience and necessity, or in such other form as the Commission determines to be appropriate, or may recommend that no decision respecting the selection of such a transportation system be niade at this time or pursuant to this Act. Any recommendation that the Presi- dent approve a particular transportation system shall (A) include a description of the nature and route of the system, (B) designate PAGENO="0167" 161 PUBLIC LAW 94-586-OCT. 22, 1976. 90 STAT. 2905 a person to construct and operate the system, which person shall be the applicant, if any, which filed for a certificate of public conven- ience and necessity to construct and operate such system, (C) if such recommendation is for an all-land pipeline transportation system, or a transportation system involving water transportation, include pro- vision for new facilities to the extent necessary to assure direct pipe- line delivery of Alaska natural gas contemporaneously to points both east and west of the Rocky Mountains in the lower continental United States. (2) The Commission may, by rule, provide for the presentation of Rule. data, views, and arguments before the Commission or a delegate of the Commission pursuant to such procedures as the Commission deter- mines to be appropriate to carry out its responsibilities under para- graph (1) of this subsection. Such a rule shall, to the extent determined by the Commission, apply, notwithstanding any provision of law that would otherwise have applied to the presentation of data, views, and arguments. (3) The Commission may request such information and assistance Cooperation. from any Federal agency as the Commission determines to be neces- sary or appropriate to carry out its responsibilities under this Act. Any Federal agency requested to submit information or provide assistance shall submit such information to the Commission at the earliest practicable time after receipt of a Commission request. (c) The Commission shall accompany any recommendation under Report, public subsection (b) (1) with a report, which shall be available to the public, availability. explaining the basis for such recommendation and including for each transportation system reviewed or considered a discussion of the following: (1) for each year of the 20-year period which begins with the first year following the date of enactment of this Act, the estimated- (A) volumes of Alaska natural gas which would be avail- able to each region of the United States directly, or mdi- rectly by displacement or otherwise, and (B) transportation costs and delivered prices of any such volumes of gas by region; (2) the effects of each of the factors described in subparagraphs (A) and (B) of paragraph (1) on the projected natural gas supply and demand for each region of the United States and on the projected supplies of alternative fuels available by region to offset shortages of natural gas occurring in such region for each such year; (3) the impact upon competition; (4) the extent to which the system provides a means for the transportation to United States markets of natural resources or other commodities from sources in addition to the Prudhoe Bay Reserve; (5) environmental impacts; (6) safety and efficiency in design and operation and potential for interruption in deliveries of Alaska natural gas; (7) construction schedules and possibilities for delay in such schedules or for delay occurring as a result of other factors; (8) feasibility of financing; (9) extent of reserves, both proven and probable and their deliverability by year for each year of the 20-year period which PAGENO="0168" 162 90 STAT. 2906 PUBLIC LAW 94-586-OCT. 22, 1976 begins with the fir~ year following the date of enactment of this Act; (10) the estimate of the total delivered cost to users of the natural gas to be transported by the system by year for each year of the 20-year period which begins with the first year following the date of enactment of this Act (11) capability and cost of expanding the system to transport additional volumes of natural gas in excess of initial system capacity; (12) an estimate of the capital and operating costs, including an analysis of the reliability of such estimates and the-risk of cost overruns; and (13) such other factors as the Commission determines to be appropriate. (d) The recommendation by the Commission pursuant to this sec- tion shall not be based upon the fact that the Government of Canada or agencies thereof have not, by then rendered a decision ~s to authorization of a pipeline system to transport Alaska natural gas through Canada. Transportation (e) If the Commission recommends the approval of a particular system, transportation system, it shall submit to the President with such r~cornmcndation, recommendation (1) an identification of those facilities and opera- ~ubn~2tal to tions which are proposed to be encompassed within the term "construe- resi ent. tion and initial operation" in order to define the scope of directions contained in section 9 of this Act and (2) the terms and conditions 15 Usc 717w. permitted under the Natural Gas Act, which the Commission deter- mines to be appropriate for inclusion in a certificate of public con- Environmental venience and necessity to be issued respecting such system. The Com- impact statement, mission shall submit to the President contemporaneously with its ~ibn~2tal to report an environmental impact statement prepared respecting the resi ent. recommended system, if any, and each environmental impact state- ment which may have been prepared respecting any other system reported on under this section. OThER REPORTS comments, SEC. 6. (a) Not later than July 1, 1977, any Federal officer or agency submittal to may submit written comments to the President with respect to the President. recommendation and report of the Commission and alternative meth- 15 Usc 719d. ods for transportation of Alaska natural gas for delivery to the Public contb~uous States. Such comments shall be made available to the availability, public by the President when submitted to him, unless expressly exempted from this requirement in whole or in part by the President, under section 552(b) (1) of title 5, United States Code. Any such written comment. shall include information within the competence of such Federal officer or agency with respect to- (1) environmental considerations, including air and water quality and noise impacts; (2) the safety of the transportation systems; (3) international relations, including the status and time sched- ule for any necessary Canadiaa approvals and plans; (4) national security, particularly security of supply; (5) sources of financing for capital costs; (6) the impact. upon coml)etitlOn (7) impact on the national economy, including regional natural gas requirements; and PAGENO="0169" 163 PUBLIC LAW 94-586-OCT. 22, 1976 90 STAT. 2907 (8) ~re1ationship of the proposed transportation system to other aspects of national energy policy. (b) Not later than July 1, 1977, the Governor of any State, any Comments, municipality, State utility commission, and any other interested per- submittal to son may submit to the Presidentsuch written comments with respect President. to the recommendation and report of the Commission and alternative systems for delivering Alaska natural gas to the contiguous States as they determine to be appropriate. (c) Not later titan ~Ju1y 1, 1977, each Federal officer or agency shall Report to report to the President with respect to actions to be taken by such President. officer or agency under section 9(a) relative to each transportation system reported on by the Commission under section 5(c) and shall include such officer's or agency's recommendations with respect to any provision of law to be waived pursuant to section 8(g) in con- junction with any decision of the President which designates a system for approval. (d) Following receipt by the President of the Commission's recom- mendations, the Council on Environmental Quality shall afford interested petuons an opportunity to present oral and written data, views, and arguments respecting the environmental impact state- ments submitted by the Commission under section 5(e). Not later than Report to July 1, 1977, the Council on Environmental Quality shall submit to President. the Presidesit a report, which shall be contemporaneously made available by the Council to the public, summarizing any data, views, and arguments received and setting forth the Council's views con- cerning the legal and factual sufficiency of each such environmental impact statement and other matters related to environmental impact as the Council considers to be relevant. PRESiDENTIAL DECISION AND REPORT SEC. 7. (a) (1) As soon as practicable after July 1, 1977, but not 15 USC 719e. later than September 1, 1977, the President shall issue a decision as to whether a transportation system for delivery of Alaska natural gas should be approved under this Act. If he determines such a system should be so approved, his decision shall designate such a system for approval pursuant to section 8 and shall be consistent with section 5(b) (1) (C) to assure delivery of Alaska natural gas to points both east and west of the Rocky Mountains in the continental United States. The President in making his decision shall take into consider- ation the Commission's recommendation pursuant to section 5, the report under section 5(c), and any comments submitted under section 6; and his decision to designate a system for approval shall be based on his determination as to which system, if any, best serves the national interest. (2) The President, for a period of up to 90 additional calendar Transmittal to days after September 1, 1977, may delay the issuance of his decision Congress, delay. and transmittal thereof to the House of Representatives and the Senate, if he determines (A) that there exists no environmental impact statement prepared relative to a system he wishes to consider or that any prepared environmental impact statement relative to a system he wishes to consider is legally or factually insufficient, or (B) that the additional time is otherwise necessary to enable him to make a sound decision on an Alaska natural gas transportation sys- tem. The President shall promptly, but in no case any later than Notice to September 1, 1977, notify the House of RepresentatIves and the Congress. PAGENO="0170" 164 90 STAT. 2908 PUBLIC LAW 94-586-OCT. 22, 1976 Senate if he so delays his decision and submit a full explanation of the basis of any such delay. (3) If. on or l)efore ~\Iny 1. .1977. the President determines to delay issuance. and transmittal of isis decision to the 1-louse of Representa- tives and the Senate pursuant to paragraph (~) of this subsection, he may authorize a delay of not more. than 90 days in the date of taking Notice to of any action specified in sections 5 and 0. The President shall prOrnl)tlY Congress. notify the House of Representatives and the Senate of any such author- ization of delay and submit a full explanation of the basis of any such authorization. (4) If the President determines to designate for approval a traiis- l)omtation system for delivery of Alaska natural gas to the contiguous States, he shall in such decision- (A) (lescribe the nature and route of the system designated for approval (B) designate a person to construct and operate such a system, which person shall be the applicant, if any, which filed for a certif- icate of public convenience and necessity to construct and operate such system: (C) identify those facilities, the construction of which~ amid those. operations, the conduct of which, shall be enconipassed within the term "construction and initial operation" for purposes of defining the scope of the directions contained in section 9 of this Act, taking into consideration any recommendation of the Commission with respect thereto; and (D) identify those provisions of law, relating to any determina- tion of a Federal officer or agency as to whether a certificate. per- mit, right-of-way, lease, or other authorization shall be issued or be granted, which provisions the President finds (i) involve deter- minations which are subsumed in his decision and (ii) require waiver pursuant to section 8(g) in order to permit the expeditious construction and initial operation of the transportation system. Chairman, (5) After a decision of the President designat.in~ an Alaska natural appointment, gas transportation system takes effect under section 8, the President shall appoint an officer of the United States, with the advice and con- sent of the Senate, or designate a board (consisting of such an officer, so appointed with the advice and consent of t.he Senate, as chairman and such other individuals as the President determines appropriate to serve on such board by reason of background, experience, or position) to serve as Federal inspector of construction of such transportation system. except that no such individual or officer may have a financial interest in the approved transportation system. Upon enactment of a joint resolution pursuant. to section 8 approving such a. system the Federal inspector shall- Joint surveillance (A) establish a joint surveillance and monitoring agreement, and monitoring a~)proVed by the President, with the State of Alaska similar to that agreement, in effect during construction of the trans-Alaska oil pipeline to establishment, monitor the. co~istruction of the approved transportation system within the State of Alaska; (B) monitor compliance with applicable laws and the terms and conditions of any applicable certificate, rights-of-way, permit, lease, or other authorization issued or granted under section 9; (C) monitor actions taken to assure timely completion of con- struction schedules and the achievement of quality of construction, cost control, safety, and environmental protection objectives and the results obtained therefrom; PAGENO="0171" 165 PUBLIC LAW 94-586--OCT. 22, 1976 90 STAT. 2909 (D) have the power to compel, by subpena if necessary, sub- mission of such information as he deems necessary to carry out his responsibilities; and (E) keep the President and the Congress currently informed on any significant departures from compliance and issue quarterly reports to the President and the Congress concerning existing or potential failures to meet construction schedules or other factors which may delay the construction and initial operation of the system and the extent to which quality of construction, cost con- trol, safety and environmental protection objectives have been achieved. (6) If the President determines to designate for approval a trans- portation system for delivery of Alaska natural gas to the contiguous States, he may identify in such decision such terms and conditions permissible under existing law as he determines appropriate for inclu- sion with respect to any issuance or authorization directed to be made pursuant to section 9. (b) The decision of the President made pursuant to subsection (a) Transmittal to of this section shall be transmitted to both Houses of Congress and Congress. shall be considered received by such Houses for the purposes of this section on the first day on which both are in session occurring after such decision is transmitted. Such decision shall be accompanied by a report explaining in detail the basis for his decision with specific refer- ence to the factors set forth in sections 5(c) and 6(a), and the reasons for any revision, modification of, or substitution for, the Commission recommendation. (c) The report of the President pursuant to subsection (b) of this Financial section shall contain a financial analysis for the transportation system analysis. designated for approval. Unless the President finds and states in his report submitted pursuant to this section that he reasonably antici- pates that the system designated by him can be privately financed, con- structed, and operated, his report shall also be accompanied by his recommendation concerning the use of existing Federal financing authority or the need for new Federal financing authority. (d) In making his decision under subsection (a) the President shall inform himself, through appropriate consultation, of the views and objectives of the States, the Government of Canada, and other govern- ments with respect to those aspects of such a decision that may involve intergovernmental and international cooperation among the Govern- ment of the United States, the States, the Government of Canada, and any other government. (e) If the President determines to designate a transportation system for approval, the decision of the President shall take effect as provided in section 8, except that the approval of a decision of the President shall not be construed as amending or otherwise affecting the laws of the United States so as to grant any new financing authority as may have been identified by the President pursuant to subsection (c). CONGRESSIONAL REVIEW SEC. 8. (a) Any decision under section 7(a) or 8(b) designating for 15 USC 719f. approval a transportation system for the delivery of Alaska natural gas shall take effect upon enactment of a joint resolution within the first period of 60 calendar days of continuous session of Congress beginning on the date after the date of receipt by the Senate and House of Representatives of a decision transmitted pursuant to section 7(b) or subsection (b) of this section. PAGENO="0172" 166 90 STAT. 2910 PUBLIC LA \V 94-586-OCT. 22, 1976 (b) If the Congress do-~ not enact such a joint resolution within such 60-day period, the Pr-sident, not later than the end of the 30th day following the expiral ii of the 60-day period, may propose a new decision and shall provide a detailed statement concerning the reasons for such proposal. The new decision shall be submitted in accordance with section 7(a) and transmitted to the house of Repre- sentatives and the Senate on the same day while both are in session and shall take effect pursuant to subsection (a) of this section. In the event that a resolution respecting the President's decision was defeated by vote of either House, no new decision may be transmitted pursuantto this subsection unless such decision differs in a material respect from the previous decision. (c) For purposes of this section- (1) continuity of session of Congress is broken only by an adjournment sine die; and (2) the days on which either 1-louse is not in session because of an adjournment of more than 3 days to a day certain are excluded in the computation of the GO-day calendar period. (d) (1) This subsection is enacted by Congress- (A) as an exercise of the rulemaking power of each I-louse of Congress~ respectively, and as such it is deemed a part of the rules of each Ilouse, respectively, hut applicable only with respect to' the procedure to be followed in that House in the case of resolu- tions described by paragraph (2) of this subsection; and it super- sedes other rules only to the extent that it is inconsistent therewith: and (B) with full recognition of the constitutional right of either House to change the rules (so far as those rules relate to the pro- cedure of that- House) at any time, in the same manner and to the same extent as in the case of any other rule of such I-louse. "Resolutien." (2) For purposes of this Act, the term "resolution" means (A) a joint resolution, the resolving clause of which is as follows: "That the House of Representatives and Senate approve the Presidential deci- sion on an Alaska natural gas transportation system submitted to the Congress on 19 - and find that any environmental impact statements prepared relative to such system and submitted with the President's decision are in compliance wit-h the Natural 42 Usc 4321 Environmental Policy Act. of 1969."; the blank space therein shall be note, filled with the date on which the President submits his decision to the House of Representatives and the Senate; or (B) a joint resolution described in subsection (g). Referral to (3) A. resolution once introduced with respect to a Presidential congressional decision on an Alaska natural gas transportation system shall be committees. referred to one or more committees (and all resolutions with respect to the same Presidential decision on an Alaska natural gas transporta- tion system shall be referred to the same committee or committees) by the President of the Senate or the Speaker of the I-louse of Repre- sentatives, as the case may be. (4) (A) If any committee to which a resolution with respect to a Presidential decision on an Alaska natural gas transportation system has been referred has not report-ed it at the end of 30 calendar days after it-s referi'al, it shall be in oi'der to move either to discharge such committee from further consideration of such resolution or to dis- charge such committee from consideration of any other resolution with respect to such Presidential decision on an Alaska natural gas transportation system which has been referred to such committee. PAGENO="0173" 167 PUBLIC LAW 94-586-OCT. 22, 1976 90 STAT. 2911 (B) A motion to discharge may be made only by an individual Debate favoring the resolution, shall be highly privileged (except that it may limitation. not be made after the committee has reported a resolution with respect to the same Presidential decision on an Alaska natural gas transporta- tion system), and debate thereon shall be limited to not mole than I hour, to be divided equally between those favoring and those oppos- ing the resolution. An amendment to the motion shall not be in order, and it shall not be in order to move to reconsider the vote by which the motion was agreed to or disagreed to. (C) If the motion to discharge is agreed to or disagreed to, the motion may not be made with respect to any other resolution with respect to the same Presidential decision on an Alaska natural gas transportation system. (5) (A) When any committee has reported, or has been discharged from further consideration of, a resolution, but in nO case earlier than 30 days after the date of receipt of the President's decision to the Congress, it shall be at any time thereafter in order (even though a previous motion to the same effect has been disagreed to) to move to proceed to the consideration of the resolution. The motion shall be highly privileged and shall not be debatable. An amendment to the motion shall not be in order, and it shall not be in order to move to reconsider the vote by which the motion was agreed to or disagreed to. (B) Debate on the resolution described in subsection (d) (2) (A) shall be limited to not more than 10 hours and on any resolution described in subsection (g) to one hour. This time shall be divided equally between those favoring and those opposing such resolution. A motion further to limit debate shall not be debatable. An amend- ment to, or motion to recommit the resolution shall not be in order, and it shall not be in order to move to reconsider the vote by which such resolution was agreed to or disagreed to or, thereafter within such 60-day period, to consider any other resolution respecting the same Presidential decision. (6) (A) Motions to postpone, made with respect to the discharge from committee, or the consideration of a resolution and motions to proceed to the consideration of other business, shall be decided with- out debate. (B) Appeals from the decision of the Chair relating to the applica- tion of the rules of the Senate or the House of Representatives, as the case may be, to the procedures relating to a resolution shall be decided without debate. (e) The President shall find that any required environmental impact statement relative to the Alaska natural gas transportation system designated for approval by the President has been prepared and that such statement is in compliance with the National Environ- mental Policy Act of 1969. Such finding shall be set forth in the 42 Usc 4321 report of the President submitted under section 7. The President may note. supplement or modify the environmental impact statements prepared by the Commission or other Federal officers or agencies. Any such Submittal to environmental impact statement shall be submitted contem- congressional poraneously with the transmittal to the Senate and House of Repre- Committees. sentatives of the President's decision pursuant to section 7(b) or subsection (b) of t.his section. (f) Within 20 days of t.he transmittal of the President's decision Report, submittal to the Congress under section 7(b) or under subsection (b) of this to congress. section, (1) the Commission shall submit to the Congress a report commenting on the decision and including any information with regard to that decision which the Commission considers appropriate, PAGENO="0174" 168 * 90 STAT. 2912 PUBLIC LAW 94-586-OCT. 22, 1976 Hearings. and (2) the Council on Environmental Quality shall provide an Report, submittal opportunity to any interested person to present oral and written data, te Congress. views, and arguments on any environmental impact statement sub- mitted by the President relative to any system designated by him for approval which is different from any system reported on by the Commission under section 5(c), and shall submit to the Congress a Congressional report summarizing any such views received. The committees in each committee I-louse of Congress to which a resolution has been referred under hearings, subsection (d) (3) shall conduct hearings on the Council's report and include in any report of the committee respecting such resolution the findings of the committee on the legal and factual sufficiency of any environmental impact statement submitted by the President relative to any system designated by him for approval. Waiver, submittal (g) (1) At any time after a decision designating a transportation to Congress. system is submitted to the Congress pursuant to this section, if the President finds that any provision of law applicable to actions to be taken under subsection (a) or (c) of section 9 require waiveti in order to permit expeditious construction and initial operation of the approved transportation system, the President may submit such pro- posed waiver to both Houses of Congress. (2) Such provision shall be waived with respect to actions to be taken under subsection (a) or (c) of section 9 upon enactment of a )oint resolution pursuant to the procedures specified in subsections (c) and (d) of this section (other than subsection (d) (2) thereof) within the first period of 00 calendar days of continuous session of Congress beginning on the date after the date of receipt by the Senate and House of Representatives of such proposal. (3) The resolving clause of the joint resolution referred to in this subsection is as follows: "That the House of Representatives and Senate approve the waiver of the provision of law ( ) as pro- posed by the President, submitted to the Congress on 19 ." `l'he first blank space therein being filled with the citation to the provision of law and the second blank space therein being filled with the date on which the President submits his decision to the House of Representatives and the Senate. (4) In the case of action with respect to a joint resolution described in this subsection, the phrase "a waiver of a provision of law" shall be substituted in subsection (d) for the phrase "the Alaska natural gas transportation system.". AUTHORIZATIONS 15 USC 719g. Sttc. 9. (a) To the extent that the taking of any action which is necessary or related to the construction and initial operation of the approved transportation system requires a certificate, right-of-way, permit, lease, or other authorization to be issued or granted by a Federal officer or agency, such Federal officer or agency shall- (1) to the fullest extent permitted by the provisions of law administered by such officer or agency, but (2) without regard to any provision of law which is waived pursuant to section 8(g) issue or grant such certificates, permits, rights-of-way, leases, and other authorizations at the earliest practicable date. (b) All actions of a Federal offices' or agency with respect to con- sideration of applications or requests for the issuance or grant of a certificate, right-of-way, permit, lease, or other authorization to which subsection (a) applies shall be expedited and any such application or PAGENO="0175" 169 PUBLIC LAW 94-586-OCF. 22, 1976 90 STAT. 2913 request shall take precedence over any similar applications or requests of the Federal officer or agency. (c) Any certificate, right-of-way, permit, lease, or other authoriza- Terms and tion issued or granted pursuant to the direction under subsection (a) conditions. shall include the terms and conditions required by law unless waived pursuant to a resolution under section 8(g), and may include terms and conditions permitted by law, except that with respect to terms and conditions permitted but not required, the Federal officer or agency, notwithstanding any such other provision of law, shall have no authority to include terms and conditions as would compel a change in the basic nature and general route of the approved trans- portation system or those the inclusion of which would otherwise prevent or impair in any significant respect the expeditious construc- tion and initial operation of such transportation system. (d) Any Federal officer or agency, with respect to any certificate, permit, right-of-way, lease, or other authorization issued or granted by such officer or agency, may, to the extent permitted under laws administered by such officer or agency add to, amend or abrogate any term or condition included in such certificate, permit, right-of-way, lease, or other authorization except that with respect to any such action which is permitted but not required by law, such Federal officer or agency, notwithstanding any such other provision of law; shall have no authority to take such action if the terms and conditions to be added, or as amended, would compel a change in the basic nature and general route of the approved transportation system or would otherwise prevent or impair in any significant respect the expeditious construction and initial operation of such transport~tion system. (e) Any Federal officer or agency to which subsection (a) applies, to the extent permitted under laws administered by such officer or agency, shall include in any certificate, permit, right-of-way, lease, or authorization issued or granted those terms and conditions identified in the President's decision as appropriate for inclusion except that the requirement to include such terms and conditions shall not limit the Federal officer or agency's authority under subsection (d) of this section. JUDICIAL REVIEW SEC. 10. (a) Notwithstanding any other provision of law, the actions 15 Usc 719h. of Federal officers or agencies taken pursuant to section 9 of this Act, shall not be subject to judicial review except as provided in this section. (b) (1) Claims alleging the invalidity of this Act may be brought not later than the 60th day following the date a decision takes effect pursuant to section 8 of this Act. (2) Claims alleging that an action will deny rights under the Con- stitution of the United States, or that an action is in excess of statutory jurisdiction, authority, or limitations, or short of statutory right ma be brought not later than the 60th day following the date of suc action, except that if a party shows that he did not know of the action complained of, and a reasonable person acting in the circumstances would not have known, he may bring a claim alleging the invalidity* of such action on the grounds stated above not later than the 60th day following the date of his acquiring actual or constructive knowledge of such action. (c) (1) A claim under subsection (b) shall be barred unless a com- plaint is filed prior to the expiration of such time limits in the United States Court of Appeals for the District of Columbia acting as a PAGENO="0176" 170 90 STAT. 2914 PUBLIC LAW 94-586-OCT. 22, 1976 Special Court. Such court shall have exclusive jurisdiction to deter- mine such proceeding in accordance with the procedures hereinafter provided, and no other court of the United States, of any State, ter- ritory, or i~ossession of the United States, or of the District of Columbia, shall have jurisdiction of any such claim in any proceeding iiistitiited prior to or on or after the date of enactment of this Act. (2) Any such proceeding shall be assigned for hearing and com- pleted at the earliest possible date, shall, to the greatest extent practica- ble, take precedence over all other matters pending on the docket of the court at that time, and shall be expedited in every way by such court and such court shall render its decision relative to any claim within 90 days from the date such claim is brought unless such court determines that a longer period of time is required to satisfy require- USC prec. title I. nients of the United States Constitution. (3) rrhe enactment of a joint resolution under section 8 approving the. decision of the President shall be conclusive as to the le~al ~nd factual sufficiency of the environmental impact statements su~mitted by the President relative to the approved transportation system and no court shall have jurisdiction to consider questions respecting the sufficiency of such statements under the National Environmental 42 Usc 4321 Policy Act of 1069. note. SUPPLEMENTAL ENFORCEMENT AUTIIORITY Compliance order SEc. 11 (a) In addition to remedies available under other applicable or civil action. provisions of law, whenever any Federal officer or agency determines 5 Usc 719j. that any person is in violat.io~i of any applicable provision of law administered or enforceable by such officer or agency or any rule, regulation, or order under such provision, including any term or condi- tion of any certificate, right-of-way, permit., lease, or other authori- zation, issued or granted by such officer or agency, such officer or agency may- (1) issue a compliance order requiring such person to comply with such provision or any rule, regulation, or order thereunder, or (2) bring a civil action in accordance with subsection (c). (h) Any order issued under subsection (a) shall state with reason- able specificity the nature of the violation and a time of compliance, not to exceed 30 days, which the officer or agency, as the case may be, determines is reasonable, taking into account the seriousness of the violation and any good faith efforts to comply with applicable requirements. civil penalty. (c) Upon a request of sucl1 officer or agency, as the case may be, the Attorney General may commence a civil action for appropriate relief, including a permanent or temporary injunction or a civil penalty not to exceed S25,000 per day for violations of the compliance Jurisdiction, order issued under subsection (a). Any act.ion under this subsection may be brought in any district court of the United States for the dis- trict in which the defendant is located, resides, or is doing business, and such court shall have jurisdiction to restrain such violation, require compliance, or impose such penalty or give ancillary relief. EXPORT LIMITATIONS ~5 usc 719j. SEC. 12. Any exports of Alaska natural gas shall be subject to the is usc 717w. requirements of the Natural Gas Act and section 103 of the Energy PAGENO="0177" 171 PUBLIC LAW 94-586-OCT. 22, 1976 90 STAT. 2915 Policy and Conservation Act, except that in addition to the require- 42 Usc 6212. ments of such Acts, before any Alaska natural gas in excess of 1,000 Mcf per day may be exported to any nation other than Canada or Mexico, the President must make and publish an express finding that Presidential such exports will not diminish the total quantity or quality nor finding, increase the total price of energy available to the IJnited States. publication. EQUAL ACCESS TO FACILITIES SEC. 13. (a) There shall be included in the terms of any certificate, 15 USC 719k. permit, right-of-way, lease, or other authorization issued or granted pursuant to the directions contained in section 9 of this Act, a provi- sion that no person seeking to transport natural gas in the Alaska natural gas transportation system shall be prevented from doing so or be discriminated against in the terms and conditions of service on the basis of degree of ownership, or lack thereof, of the Alaska natural gas transportation system. (b) The State of Alaska is authorized to ship its royalty gas on the approved transportation system for use within Alaska and, to the extent its contracts for the sale of royalty gas so provide, to withdraw such gas from the interstate market for use within Alaska; the Federal Power Commission shall issue all authorizations neces- sary to effectuate such shipment and withdrawal subject to review by the Commission only of the justness and reasonableness of the rate charged for such transportation. ANTITRUST LAWS SEC. 14. Nothing in this Act, and no action taken hereunder, shall 15 usc 719! imply or effect an amendment to, or exemption from, any provision of the antitrust laws. AUTHORIzATION SEC. 15. There is hereby authorized to be appropriated beginning 15 usc 719m. in fiscal year 1978 and each fiscal year thereafter, such sums as may be necessary to carry out the functions of the Federal inspector appointed by the President with the advice and consent of the Senate under section 7. SEPARABILITY SEC. 16. If any provision of this Act, or the application thereof, is usc 719n. is held invalid, the remainder of this Act shall not be affected thereby. CIVIL RIGHTS SEC. 17. All Federal officers and agencies shall take such affirmative Discrimination, action as is necessary to assure that no person shall, on the crrounds prohibition. of race, creed, color, national origin, or sex, be excluded from receiv- is usc 719o. ing, or participating in any activity conducted under, any certificates, permit, right-of-way, lease, or other authorization granted or issued pursuant to this Act. The appropriate Federal officers and agencies Rules. shall promulgate such rules as are necessary to carry out the purposes of this section and may enforce this section, and any rules promul- gated under this section through agency and department provisions and rules which shall be similar to those established and in effect under title VI of the Civil Rights Act of 1964. 42 usc 2000d et seq. 57-087 0 - 80 - 12 PAGENO="0178" 172 90 STAT. 2916 PUBLIC LAW 94-586-OCT. 22, 1976 REPORT ON TIlE EQUitABLE ALLOCATION OF NOIITII SLOPE CRUDE OiL Report to SEC. 18. Within 6 months of the date of enactnient of this Act, Congress. the President shall determine what special expeditin~r procedttres are 43 USC 1651 necessary to insure the equitable allocation of iiort.l~ slope crude oil note. to tie Northerti Tiet States of Washington, Oregon, idaho, ~Iontana, North l)akota, ~\l innesota, Michigan. Wisconsin, Illinois, Indiana, 43 Usc 1651 and Ohio (hereinafter referied to as the `Northern Tici States") to note. CRITV out the l)toV1510115 Of sectioui 410 of Public Law 93-153 and shall report his lindings to the Congress. In his report, the President shall i(leuIt.i iv tin. specihic provisions of law, which relate to any deter- itiination of a Federal olhicer or agency as to whether to issue or grant i lic;itc, (it ut, rigl tt-() 1- way, lease, 01 1)1 1 tO I authotizat mu in connect iou with thin const rutction of an oil delivery system serving the ~\orthuetti Tier States and which the President finds would i~hibut the (x1)e(litiouts construction of such a system in the contiguous States of the United States. In addition the President will include in his lcI)Ort a stat(ttt(nt which (letiuonstr:tteS thit' impact that I lie delivery systetti will have oh reducing the dependency of New England and tile ~Iiddle Atlantic States on foreign oil imports. Furthermore, all Fe(l(1al ulln.cts ;uitl agencies shall, prior to the submission of sitch report atu(i fit it lie r cotigressional act ion relating thereto, expeil ite to thin fitllest practicable extent all applications and requests for action tutade with respect to such mu oil delivery system. ANTtrttusT STUDY Report to SEC. 19. The Attorney General of the United States is authorized Congress. aid ulirected to conduct a thorounrh study of the antitrust issues and 15 USC 719 note. ptobletits relating to the production an~d transportation of Alaska niutittal gas and, not later than six uno9ths following the date of etuactttuent of this Act, to complete such study and suhniit to the Congress a report containing his findings and recommendations with i(spect tltetcto. EXPIRATION 15 USC 719 note. SEC. ~0. This Act shnll terminate in the event that no decision of the President takes effect under section 8 of this Act, such tertni- nation to occur at the end of the last day on which a decision could be, l)tit is not, approved under such section. Approved October 22, 1976. LEGISLATIVE HISTORY: HOUSE REPORT No. 94-1658, Pt. 1 (Comm. on Interstate an(I Foreign Commerce). SENATE REPORT No. 94-1020 (Comm. on Commerce and Comm. on Interior and Insular Affairs). CONGRESSIONAL RECORD, Vol. 122 (1976): July 1, considered and passed Seuuate. Sept. 30, considered and passed House, amended. Oct. 1, Senate agreed to House amendments. WEEKLY COMI'ILATION OF PRESIDENTIAL DOCUMENTS, Vol. 12, No. 44: Oct. 22, Presidential statement. PAGENO="0179" 173 APPENDIX III Title 3- REORGANIZATION PLAN NO. 1 OF 197~ The President Prepared by the President and transmitted to the Senate and I-louse of Representatives in Congress assembled. April 2. 1979. pursuant to the provi- sions of Chapter 9 of Title 5 of the United States Code. Office of the Federal Inspector for Construction of the Alaska Natural Gas Transportation System Part I. Office of the Federal Inspector and Transfer of Functions Section 101. Establishment of the Office of Federal Inspector for the AIasAa Natural Gas Transportation System - (a) There Is hereby established as an independent establishment in the executive branch, the Office of the Federal Inspector for the Alaska Natural Gas Transportation System (the "Office'). (b) The Office shall be hesded by a Federal Inspector for the Alaska Natsral Gas Transportation System (the "Federal Inspector") who shall be appointed by the President, by and with the advice and consent of the Senate, and shall be compenssted at the rate now or hereafter prescribed by law for Level Ill of the Executive Schedule, and who shall serve at the pleasure of the President. (c) Each Federal agency having statutory responsibilities over any aspcit of the Alaska Natural Gas Transportation System shall appoint an Agency Authorized Officer to represent that authority on all matters pertaining to pre- construction, construction, and initial operation of the system. Section 102. Transfer of Functions to the Federal Inspector Subject to the provisions of Sections 201, 202, and 203 of this Plan, all functions insofar as ilsey relate to enforcement of Federal statutes or regula- tions and to enforcement of terms, conditions, and stipulations of grants, certificates, permits and other authorizations issued by Federal agencies with respect to pro-construction, construction, and initial operation of an "approved transportation system" for transport of Canadian natural gas and "Alaskan natural gas," as such terms are defined in the Alaska Natural Gas Transports- tion Act of 19711 (15 U.S.C. 719 at seq.), hereinafter called the "Act", are hereby transferred 10 the Federal Inspector. This transfer shall vest in the Federal Inspector exclusive responsibility for enforcement of all Feder~il statutes relevant in any manner to pre'construction,.construction, and initial operation. With respect to each of the statutory authorities cited below, the transferrmt functions include all enforcement functions of the given agencies or their officials under the statutes as may be relaled to the enforcement of such tersis, conditions, and stipulations, including but not limited to the specific sectiuns of the statute cited, "Enforcement", for purposes of this transfer of functions, includes monitoring and any other compliance or oversight actiui- ties reasonably related to the enforcement process. These transferred func- tions include: (a) Such enforcement fsisctions of the Administrator or other appropriate official or entity in the Environsiental Protection Agency related to conipli' alice with: national pollutant discharge elimination system permits provided for in Section 402 of the Federal Water Pollution Control Act (33 USC, 1342): spill prevention, containment and countermeasure plans in Section 311 of the Federal Water Pollution Control Act (33 U.S.C. 1321): review of the Corps of Engineers' dredged and fill material permits issued under Section 404 of the PAGENO="0180" 174 Federal Water Pollution Control Act (33 U.S.C. 1344); new source performance standards in Section 111 of the Clean Air Act as amended by the Clean Air Act Amendments of 1977 (42 U.S.C. 7411); prevention of significant deteriora- tion review and approval in Sections 160-169 of the Clean Air Act, as amended by the Clean Air Amendments of 1977 (42 U.S.C. 7470 et seq.); and the resource conservation and recovery permits issued under the Resource Conservation and Recovery Act of 1976 (42 U.S.C. 6901 et seq.); (b) Such enforcement functions of the Secretary of the Army, the Chief of Engineers, or other appropriate ~fficer or entity in the Corps of Engineers of the United States Army related to compliance with: dredged and fill material permits issued under Section 404 of the Federal Water Pollution Control Act (33 U.S.C. 1344); and permits for structures in navigable waters, issued under Section 10 of the Rivers and Harbors Appropriation Act of 1899 (33 U.S.C. 403); (c) Such enforcement functions of the Secretary or other appropriate officer or entity in the Department of Transportation related to compliance with: the Natural Gas Pipeline Safety Act of 1968, as amended (49 U.S.C. 1671, et seq.) and the gas pipeline safety regulations issued thercunder~ the Federal Aviation Act of 1958, as amended (49 U.S.C. 1301, et seq.) and authorizations and regulations issued thereunder; and permits for bridges across navigable waters, issued under Section 9 of the Rivers and Harbors Appropriation Act of 1899 (33 U.S.C. 401); (d) Such enforcement functions of the Secretary or other appropriate officer or entity in the Department of Energy and such enforcement functions of the Commission, Commissioners, or other appropriate officer or ëntity in the Federal Energy Regulatory Commission related to compliance with: the certifi- cates of public convenience and necessity, issued under Section 7 of the Natural Gas Act, as amended (15 U.S.C. 7171); and authorizations for importa- tion of natural gas from Alberta as predeliveries of Alaskan gas issued under Section 3 of the Natural Gas Act, as amended (15 U.S.C. 717b); (e) Such enforcement functions of the Secretary or other appropriate officc~r or entity in the Department of the Interior related to compliance with: grants of rights-of-way and temporary use permits for Federal land, issued under Section 28 of the Mineral Leasing Act of 1920 (30 U.S.C. 185); land use permits for temporary use of public lands and other associated land uses, issued under Sections 302. 501, and 503-511 of the Federal Land Policy and Management Act of 1976 (43 U.S.C. 1732, 1761, and 1763-1771); materials sales contracts under the Materials Act of 1947 (30 U.S.C. 601-603); rights-of-way across Indian lands, issued under the Rights of Way Through Indian Lands Act (25 U.S.C. 321, et seq.); removal permits issued under the Materials Act of 1947 (30 U.S.C. 601-603); approval to cross national wildlife refuges, National Wildlife Refuge System Administration Act of 1966 (16 U.S.C. 608dd-OO8jj) and the Upper Mississippi River Wildlife and Fish Refuge Act (16 U.S.C. 721-731); wildlife consultation in the Fish and Wildlife Coordination Act (18 U.S.C. 661 et seq.); protection of certain birds in the Migratory Bird Treaty Act (10 U.S.C. 703 et seq.); Bald and Golden Eagles Protection Act (10 U.S.C. 668-668d); review of Corps of Engineers dredged and fill material permits issued under Section 404 of the Federal Water Pollution Control Act (33 U.S.C. 1344); rights- of-way across recreation lands issued under the Land and Water Conserva- tion Fund Act of 1965, as amended (10 U.S.C. 4601-4-4601-11); historic preser- vation under the National Historic Preservation Act of 1900 as amended (16 U~S.C. 470-4701): permits issued under the Antiquities Act of 1900 (16 U.S.C. 432, 433); and system activities requiring coordination and approval under general authorities of the National Trails System Act, as amended (18 U.S.C. 1241-1249) the Wilderness Act, as amended (16 U.S.C. 1131-1136), the Wild and Scenic Rivers Act, as amended (16 U.S.C. 1271-1287), the National Environmental Policy Act of 1969 (42 U.S.C. 4321 et seq.), the Act of April 27, 1935 (prevention of soil erosion) (16 U.S.C. 590a-f). and an Act to Provide for the Preservation of Historical and Archeological Data, as amended (18 U.S.C. 469-469c); PAGENO="0181" 175 (f) Such enforcement functions of the Secretary or other appropriate officer or entity in the Department of Agriculture, insofar as they involve lands and programs under the jurisdiction of that Department, related to compliance with: associated land use permits authorized for and in conjunction with grants of rights-of-way across Federal lands issued under Section 28 of the Mineral Leasing Act of 1920 (30 U.S.C. 185); land use permits for other associated land uses issued under Sections 501 and 503-511 of the Federal Land Policy and Management Act of 1976 (43 U.S.C. 1761, 1763-1771), under the Organic Administration Act of June 4, 1897, as amended (16 U.S.C. 473, 474-482, 551), and under Title Ill of the Bankhead-jones Farm Tenant Act of 1937, as amended (7 U.S.C. 1010-1012); removal of materials under the Materi- als Act of 1947 (30 U.S.C. 601-603) and objects of antiquity under the Antiqui- ties Act of 1906 (16 U.S.C. 432, 433); construction and utilization of national forest roads under the Roads and Trails System Act of 1964 (16 U.S.C. 532- 538); and system activities requiring coordination and approval under general authorities of the Nationa' Forest Management Act of 1976 (16 U.S.C. 1600 at seq.); the Multiple Use-Sustained-Yield Act of 1960 (16 U.S.C. 528-531); the Forest and Rangelands Renewable Resources Planning Act of 1974 (16 U.S.C. 1601-1610); the National Trails System Act, as amended (16 U.S.C. 1241-1249); the Wilderness Act, as amended (16 U.S.C. 1131-1136); the Wild and Scenic Rivers Act, as amended (16 U.S.C. 1271-1287); the Land and Water Conserva- tion Fund Act of 1965, as amended (16 U.S.C. 400 et seq.); the Federal Water Pollution Control Act of 1972 (33 U.S.C. 1151 at seq.); the Fish and Wildlife Coordination Act and Fish and Game Sanctuaries Act (16 U.S.C. 661 et seq. and 694, 694a-b, respectively); the National Historic Preservation Act of 1966. as amended (18 U.S.C. 470-470f); an Act to Provide for the Preservation of Historical and Archeological Data, as amended (16 U.S.C. 469-469c); the National Environmental Policy Act of 1969 (42 U.S.C. 4321 et seq.): the Water- shed Protection and Flood Prevention Act, as amended (16 U.S.C. 1001 et seq.); the Soil and Water Conservation Act of 1977 (18 U.S.C. 2001 at srq.); and the Act of April 27, 1935 (prevention of soil erosion) (16 U.S.C. 590a-f); (g) Such enforcement functions of the Secretary or other appropriate officer or entity in the Department of the Treasury related to compliance with permits for interstate transport of explosives and compliance with regulations for the storage of explosives, Title XI of the Organized Crime Control Act of 1970 (18 U.S.C. 841-848); (h) (1) The enforcement functions authorized by, and supplemental enforce- ment authority created by the Act (15 U.S.C. 719 et seq.); (2) All functions assigned to the person or board to be appointed by the President under Section 7(a)(5) of the Act (15 U.S.C. 719e); and (3) Pursuant to Section 7(a)(tl) of the Act (15 U.S.C. 719e), enforcement of the terms and conditions described in Section 5 of the Decision and Report to the Gonçress on the Alaska Natural Gas Transportation System, as approved by the Congress pursuant to Public Law 95-158 (91 Stat. 1268), November 2, 1977, (hereinafter the "Decision"). Part if. Other Provisions Section 201. Executive Policy Board *The Executive Policy Board for the Alaska Natural Gas Transportation System, hereinafter the "Executive Policy Board", which shall be established by executive order, shall advise the Federal Inspector on the performance of the Inspector's functions. All other functions assigned, or which could be assigned pursuant to the Decision, to the Executive Policy Board are hereby transferred to the Federal Inspector. Section 202. Federal inspector andAgency Authorized Officers (a) The Agency Authorized Officers shall be detailed t~ and located within the Office. The Federal Inspector shall delegate to each Agency Authorized Officer the authority to enforce the terms, conditions, and stipulitions of each PAGENO="0182" 176 grant, permit, or other authorization issued by the Federal agency which appointed the Agency Authorized Officer. In the exercise of these enforcement functions, the Agency Authorized Officers shall be subject to the supervision and direction of the Federal Inspector, whose decision on enforcement matters shall constitute "action" for purposes of Section 10 of the Act (15 U.S,C. 719h). (b) The Federal Inspector shall be responsible for coordinating the expeditious discharge of nonenforcement activities by Federal agencies and coordinating the compliance by all the Federal agencies with Section 9 of the Act (15 U.S.C. 719g). Such coordination shall include requiring submission of scheduling * plans for all permits, certificates, grants or other necessary authorizations, and * coordinating scheduling of system-related agency activities. Such coordination may include serving as the `one window" point for filing for and issuance of all necessary permits, certificates, grants or other authorizations, and, consist- ent with law, Federal government requests for data or information related to any application for a permit, certificate, grant or other authorization. Upon agreement between the Federal Inspector and the head of any agency, that agency may delegate to the Federal Inspector any statutory function vested in such agency related to the functions of the Federal Inspector. (c) The Federal Inspector and Agency Authorized Officers in implementing the enforcement authorities herein transferred shall carry out the enforcement policies and procedures established by the Federal agencies which nominally administer these authorities, except where the Federal Inspector determines that such policies and procedures would require action inconsistent with Section 9 of the Act (15 U.S.C. 719g). (d) Under the authority of Section 15 of the Act (15 U.S.C. 71gm), the Federal Inspector will undertake to obtain appropriations for all aspects of the Federal Inspector's operations. Such undertaking shall include appropriations for all of the functions specified in the Act and in the general terms and conditions of the Decision as well as for the enforcement activities of the Federal Inspector. The Federal Inspector will consult with the various Federal agencies as to resource requirements for enforcing their respective permits and other authori- zations in preparing a unified budget for the Office. The budget shall be reviewed by the Executive Policy Board, Section 203. Subsequent Transfer Provision (a) Effective upon the first anniversary of the date of initial operation of the Alaska Natural Gas Transportation System, the functions transferred by Section 102 of this Plan shall be transferred to the agency which performed the functions on the date prior to date the provisions of Se~~tion 102 of this Plan were made effective pursuant to Section 205 of this Plan. (b) Upon the issuance of the final determination order by the Director of the Office of Management and Budget for the transfers provided for by subsection (a) of this section, the Office and the position of Federal Inspector shall, effective on the date of that order, stand abolished. Section 204. Incidental Transfers So much of the personnel, property. records and unexpended balances of appropriations, allocations and other funds employed, used, held, available, or to be made available in connection with the functions transferred under this Plan, as the Director of the Office of Management and Budget shall determine. shall be transferred to the appropriate agency or component at such time or times as the Director of the Office of Management and Budget shall provide, except that no such unexpended balances transferred shall be used for purposes other than those for which the appropriation was originally made. The Director of the Office of Management and Budget shall provide for the terminating of the affairs of the Office and the Federal Inspector upon their abolition pursuant to this Plan and for such further measures and dispositions as such Director deems necessary to effectuate the purposes of this Plan. PAGENO="0183" 177 Section 205. Effective Date This Plan shall become effective at such time or times as the President shall specify, but not sooner than the earliest time allowable under Section 906 of Title 5 of the United States Code, except that the provisions of Section 203 shall occur as provided by the terms of that Section. ~ Do~ ~1trei . Piled 0-11-7E 11:31 em) . Oiling code 310a-el-M ____________________________________________________________________ LEGISLATIVE HiSTORY: WEEKLY COMPILATION OF PRESIDENTIAL DOCUMENTS: Vol. 15, Na. 14: Apr. 2. Prenidential message transmitting Reorgasizatlos Plan No. 1 0(1079 to Cengress. iAiso printed as House Document No. 03.) HOUSE REPORT No. 00-222 accompanyIng H. Sloe. 199 (Comm. en Government Operabons). SENATE REPORT No. 00-191 accompanyIng S. Res. 128 (Comm. on Governmental Affairs). CONGRESSIONAL RECORD, Vol. 125 (2975): Apr. 3, H. Res. 199, resolutIon of disapproval, Introduced in House and referred to Committee on Government Operations. Apr. 4, S. Res. 120, resolution of disapproval, Introduced in Senate and refereed to Committee en Geveenmentai Affairs. May 23, S. Eec. 128, reiected by Senate, May 31, . H. Rca. 190, reiected byHouse. PAGENO="0184" 178 APPENDIX IV Title 3- Executive Order 12142 of June 21, 1979 The President The Alaska Natural Gas Transportation System By the authority vested in me as President by the Constitution and laws of the United States of America, including Section 301 of Title 3 of the United States Code and Sections 2111 and 205 of Reorganization Plan No. I of INtl. it is hereby ordered as follows: - 1-101. Reorganization Plan No. I of 1979, not having been disapproved by Congress (S. Res. 125, 125 Cong. Rec. S 6563-64 (May 23, 1979): H. Res. 199. 125 Cong. Rec. H 3950-51 (May 31, 1979)). shall be effective on July 1, 1979. 1-102. In accord with Section 201 of that Plan, there is hereby established the Executive Policy Board for the system for the transportation of Alaska natural gas ("the System") as such system is defined in the Alaska Natural Gas Transportation Act of 1976 (15 U.S.C. 719 et seq.). 1-103. The Board shall consist of the Secretaries of the Departmeri:s of Agriculture. Energy, Labor, Transportation, and the Interior, the Administrator of the Environmental Protection Agency, the Chief of Engineers of the United Stales Army, and the Chairman of the Federal Energy Regulatory Comrntssion. Additional members may be elected to the Board by vote of a majority of the members. The Board will by majority vole elect a Chairman to serve for a one. year term. 1-104. The Boart shall perform the following functions: (a) Advise -the Federal Inspector for the Alaska Nalucal Gas Trans;m I latin System (the "Federal Inspector") established by Reorganization Plan No. 1 of 1979, on policy issues in accord with applicable law and existing Department. al or Agency policies, (b) Provide advice, through the Federal Inspector, to the officers representing and exercising the functions of the Federal Departments and Agencies that concern the System ("Agency Authorized Officers"). (c) Advise the Federal Inspector and the Agency Authorized Officers on matters concerning enforcement actions. (d) At least every six months, assess the progress made end problems encountered in constructing the System and make necessary reconsmenda- tions to the Federal Inspector. 1-105. The Federal Inspector sisal) keep the Board informed of the progress made and problenss encountered in the course of construction of the System. 1-106. Whenever the Federal Inspector determines that implementation of Depuriniental or Agency enforcement policies and procedures would require action inconsistent with Section 5 of the Alaska Natural Gas Transportation Act of 1976, the Federal Inspector shall issue a written statement of such detertnination including a complete factual and legal basis for the determina. lion. A copy of each statement shall be forwarded pronsptly to the Board and made available to the public by the Federal Inspector. 1-107. After written notice of a proposed enforcement action is given by the Federal Inspector, the Federal Inspector will be subject to the rules of proce~ lure for ox pczr:e contacts us reflected in the guidelines and policies of Departments and Agencies from svhich the specific enforcement authority is transferred. PAGENO="0185" FR Ox. ?9-15836 Fikd R-~2-9 5:13 lxi tIttig t3195-el-M 179 1-lull. The Federal Inspector and all employees of the Office of the Federal Inspector shall be sublect to the provisions of Executive Order No. 11222, concerning standards of conduct fur Federal employees. The Federal Inspector shalt issue standards of conduct, pursuant to the Order, for the Office of the Federal Inspector. 1-1011. To the extent permitted by law, each Department and Agency shall cooperate with and furnish necessary information and assistance to the Board in the performance of its functions. 1-110. This Order shall be effective on July 1, 1979. THE WHITE HOUSE, June 21, 1979. PAGENO="0186" 180 APPENDIX V NATURAL GAS PIPELINE FROM ALASKA 1c~ ~y ~` HEARINGS ~f BEFORE THE SUBCOMMITTEE ON ENERGY AND POWER COMMITTEE ON INTERSTATE AND FOREIGN COMMERCE AND THE SUBCOMMITTEE ON `~ INDIAN AFFAIRS AND PUBLIC LANDS COMMITTEE ON INTERIOR AND INSULAR AFFAIRS HOUSE OF REPRESENTATIVES - NINETY~FIFTH CONGRESS ~~:F1RST SESSION S ~ ~ THE PRESIDENT'S DECISION ON AN ALASKAN NATURAL GAS TRANSPORTATION SYSTEM ~ SEPTEMBER 22 23 AND OCTOBER 14, 1977 * * * * * PAGENO="0187" 181 AGREEMENT BETWEEN CANADA AND TIlE UNITED STATES OF AMERICA ON PRINCIPLES APPLIC\TJLE TO * A NORTHERN NATURAL GAS PIPELINE - The Government of Canada and the Government of * the United States of America, : * DSI2ust~adv~ncethe national~conomic and energy interests and to maximize related industrial benefits of each country, through the construction and * . operation of a pipeline system to provide for the trans- * portation of natural gas from Alaska and from Northern * Canada, *. : - Hereby agree to the following principles for the construction and operation of such a system: .1. . *Pip~eline Route . ~. The construction and operation of a pipeline Zor * the transmission of Alaskan natural gas will be along the route set forth in Annex I, such pipeline being herein- * after referred to as Hthe Pipeline". All necessary action will be taken to authorize the construction and operation of the Pipeline in accordance with the principles set out in this Agreement.. 2. *. Expeditious Construction; Timetable . . * (a) Both Governments will take measures to ensure the prompt issuance of all necessary permits, licenses, certificates, rights-of-way, leases and other authorizations required for the expeditious construction and commencement of operation of the Pipeline, with a view to commencing -construction according to the following timetable: - Alaska - January 1, 1980 - Yukon - main line pipe laying January 1, 1981 - Other construction in Canada to.provide for timely completion of the Pipeline to enable initIal operation by January 1, 1983 (b) All charges for such permits, licenses, certi- ficates, rights-of-way, leases and other authorizations will be just and reasonable and apply to the Pipeline in the same - non-discriminatory manner ai to any other similar pipeline. 5 PAGENO="0188" 182 Cc) Both Governments will take measures necessary to facilitate the expeditious and efficient construction of the Pipeline, consistent with the respective regulatory requirements of each country. 3. ç~~4~yof Pipeline and Availability of Gas (a) The initial capacity of the Pipeline will be sufficient to meet, when required, the contractual require- ments of United States shippers and of Canadian shippers. it is contemplated that his ~`W~ Northern Canadian gas. M~ such time as a lateral pipeline transmitting Northern Canadian gas, hereinafter referred to as "the Dempster Line", is to be connected to the Pipeline or at any time additional pipeline capacity is needed to meet the contractual requirements of United States or Canadian shippers, the required authorizetions will be provided, subject to regulatory requirements, to expand the capacity of the Pipeline in an efficient manner to sect those contractual requirements. (b) The shippers on the Pipeline will, upon demonstration that an amount of Canadian gas equal on a British Thermal Unit (5Th) replacement value basis will be made available for contemporaneous export to the United States, make available from Alaska gas transmitted through the Pipeline, gas to meet the needs of remote users in the Yukon and in the provinces through which the Pipeline passes. Such replacement gas will be treated as hydrorarbons iy~ * transit for purposes of the Agreement between the Government of Canada and the Government of the United States of America concerning Transit Pipelines, hereinafter referred to as * wthe Transit Pipeline Treaty". The shippers on the Pipeline will not incur any cost for provision of such Alaska gas - except those capital costs arising from the following provisions: : (i) the owner of the Pipeline in the Yukon will make arrangements to provide gas to the communities of * Beaver Creek, flurwash Landing, Destructien Bay, Bathes ,yunction, Whitehorse, Teslin, Upper Liard and Watson Lake at a total cost to the owner of the Pipeline not * to exceed Canadian $2.5 million; * (ii) the owner of the Pipeline in the Yukon will make arrangements to provide gas to such other remote communities in the Yukon as may request such gas within a period of two years following corsw~ncesent of operation of the Pipeline at a cost to the owner not to exceed the product of Canadian $2500 and the number of customers * in the communities, to a maximum total cost of Canadian $2.5 million. 6.. PAGENO="0189" 183 4. Financin~j - (a) It is understood that the construction of the Pipeline will be privately financed. Both Governments recognize that the companies owning the Pipeline in each country will have to demonstrate to the satisfaction of the United States or the Canadian Government, as applicable, that protections against risks of non-completion and interruption are or, a basis acceptable to that Government ~~-pi uof- ~- financing is - established and construction allowed to begin. `. . *(b) The two Governments recognize the importance of constructing the Pipeline in a timely way and under effective cost controls. Therefore, the return on the equity investment in the Pipeline will be based on a variable rate of return for each company owning a segment of the Pipeline, designed to provide incentives to avoid cost overruns and tb minimize costs consistent with sound pipeline management. The base_ for the incentive program used for establishing the appropriate rate of return will be the capital costs used. in measuring cost overruns as set forth in Annex III. (c) It is understood that debt instruments issued in connection with-the financing of the Pipeline in Canada will not contain any provision, apart from normal trust indenture restrictions generally applicable in the pipeline industry, which would prohibit, limit or inhibit the financing of the construction of the Dempater Line; nor will the variable rate- of return provisions referred to in subparagraph (b) be continued to the detriment of financing the Denipster Line. . 5. Taxation and Provincial Undertakings ~a) Both Governments reiterate their commitments as set forth in the Transit Pipeline Treaty with respect to non-discriminatory taxation, and take note of the statements issued by Governments of the Provinces of Britirh Columbia, Alberta and Saskatchewan, attached hereto as Annex V, in which those Governments undertake t6 ensure adharence to the provisions of the Transit Pipeline Treaty with respect to non-interference with throughput and to non-discriminatory treatment with respect to taxes, fees or other monetary charges on either the Pipeline or throughput. (b) With respect to the Yukon Property Tax imposed on or for the use of the Pipeline the following principles apply: (I) The maximum level of the proparty tax, and other direct taxes having an incidence exclusively, or virtually exclusively, on the Pipeline, including taxes on gas used as compressor fuel, imposed by the Government of the Yukon Territory or any public authority therein on or for the use of the Pipeline, herein referred to as the Yukon Property Tax, will not exceed $30 iiiillion Canadian per year adjusted annually from 1903 by the Canadian Gins!; N3tiOflal Product price deflator as determined by Statistics Canada, hereinafter referred to as the GNP price deflator. 7 PAGENO="0190" 184 (ii) For the period bcginrt~zig January 1, 1980, and ending on December 31 of the year in which leave to open the Pipeline is granted by the appropriate regulatory authority, the Yukon Property Tax will not exceed the following: .. 1980--IS million Canadian 1981--sb million Canadian l982--$2b million Canadian Any subsequent year to which this provision applics--$25 million Canadian. (iii) The Yukon Property Tax formula described in subparagraph (b) (i) will apply from January 1 after the year in which leave to open the Pipeline * is granted by the appropriate regulatory authority until the date that is the earlier of the following, . -~ - hereinafter called the tax termination date: (A) December 31, 2008,or - (B) December 31 of the year in which * : -.. leave to open the Dempster Line is granted by the appropriate -- regulatory authority. . - - (iv) Subject to subparagraph (b) (iii), if for the year ending on December 31, 1987, the percentage increase of the aggregate per capita revenue derived from all property tax levied by any public authority in the Yukon Territory (excluding the Yukon Property * Tax) and grants to municipalities and Local Improvement Districts front the Governntsnt of the Yukon Territory, as compared to the aggregate per capita revenue derived from such sources for 1983, is greater than the percenta~c increase for 1987 of- the-Yukon Property Tax as compared to the Yukon Property Tax for 1983, the maximum level of the Yukon Property Tax for 1987 may be increased to equal the amount it would have reached had it increased over the period at the sane rate as the aggregate per capita revenue. - (v) If for any year in the period commencing January 1, 1988, and ending on the tax termination date, the annual percentage increase of the aggregate per capita revenue derived from all properly tax levied by any public authority in the Yukon Territory (excluding the Yukon Property Tax) and grants to municipalities and Local Improvement Districts from the Government of the Yukon Territory as c-oinpared to the aggregate per capita revenue derived from such sources for the immediately preceding year exceeds the percentage increase for that. year o the Yukon Property Tax as compared to the Yukon Proparty Tax for the innn~diatc1y preceding year, the maximum level of the Yukon Property Tax for that year im~y be adjusted by the pcrccntaqe increase of the aggregate per capita revenue in place of the percentage increase that otherwise mirjhl apply. 8 PAGENO="0191" 185 (vi) The provisione of subparagraph (b) (i) ~ ~or~the capaci ties Co! Le2upl~ticJ ir. thin Acjreement. The Yukon Property Tax will increase for the additional facilities beyond the a~orcsaid contemplated capacity in direct proportion to the increase in the gioss * asset value of the Pipeline. (vii) In the event that between the date of this Agreement and January 1, 1963, the rate of the Alaska property tax on pipelines, taking into account the mill rate and the method of valuation, increases by a percentage greater than the cumulative percentage. increase in the Canadian ~GNP deflator over the same period, there ma'.' be an adjustment on January 1, 1983, to the amount of $30 million Canadian described in subparagraph (b) Ci) of the Yukon Property Tax to ref lect this difference. In defining the Alaska * property tax for purposes of this Agreement, the definition of the Yukon Property !rax will apply * inutatis mutandis. *. * (viii) in the event that, for any year during * the period described in subparagraph (iii), the annual rate of the Alaska property tax on or for the use of * the Pipeline in Alaska increases by a percentage over that imposed for the immediate preceding year that is greater than the increase in percentage of the Yukon Property Tax for the year, as adjusted, from that applied to the immediately preceding year, t~e Yukon Propert.y Tax may be increased to reflect the. percentage increase of the Alaska property tax. * * (ix) It is understood that indirect socio- economic costs in the Yukon Territory will n.~t be reflected in the cost of service to the United States shippers other than through the Yukon Property Tax. It is further understood that no public authority will require creation of a special fund or funds in connection with construction of the Pipeline in the Yukon, financed in a manner which is reflected in the cost of service to U.S. shippers, other than through the Yukon Property Tax. However; should public authorities in the State of Alaska require creation of a special fund or funds, financed by contributions not fully reimbursable, in connection with construction * of the Pipeline in Alaska, the Governments ~f Canada or the Yukon Territory will have the right to take similar action. . Cc) The Government of Canada will use its best endeavors to ensure that the level of any property tax imposed by the Government of the Northwest Territories on or for the use of that part of the Demputer Line that is within the Northwest Territories is reasonably comparable to the level of the property tax imposed by thc Government of the Yukon Territory on or for the use of thai part of the Dempater Line that is in the Yukon. 9 PAGENO="0192" 186 6. Tariffa and Cost Allocation It is agreed that the following principles will apply for purposes of cost allocation used in determining the cost of service applicable to each shipper on the Pipeline in Canada: :. . .: * (a) The Pipeline in Canada and the Dcmpster Line will b÷d into zones as set forth in Annex II. - Except for fuel and except for Zone Il (the Dawson-Whitehorse portion of the Dernpster Liiie),the cost of service.to each shipper in each zone will be determined on the basis of volumes as set forth in transportation contracts. The volumes used to assign these costs will reflect the original STU content of Alaskan gas for U.S. shippers and Northern Canadian gas for Canadian shippers, and will make allowance for the change in heat content as the result of commingling. Each shipper will provide volumes for line losses and line pack in proportion to the contracted volumes transported in the zone. Each shipper will provide fuel requirements in relation to the volume of his gas being carried and to the content, of the gas as it affects fuel consumption. (b) It. is understood that, to avoid increased construction and operating costs for the transportation of Alaskan gas, the Pipeline will follow a southern route through the Yukon along the Alaska Highway rather than a northern route through Dawson City and along the Klondike Highway. In order to provide alternative benefits for the transportation of Canadian gas to replace those benef its that would have been provided by the northern route through DawsonCity, U.S. shippers will participate in the cost of service in Zone 11. It is agreed that if cost overruns on construction of the Pipeline in Canada do not exceed filed costs set forth in Part D of Annex III by more than 35 percent, U.S. shippers will pay the full cost of service in Zone 11. U.S. shipper participation will decline if over- runs on the Pipeline in Canada exceed 35 percent; however, at the minirnur~ the U.S. shippers' share will be the greater of either two-thirds of the cost of ~service or the proportion of contractedAlaskan gas in relation to all contracted gas carried in the Pipeline. The proportion of the cost of service borne by U.S. shippers in Zone 11 will be reduced should overruns on the cost of construction in that Zone exceed 35 percent after allowance for the benefits to U.S. shippers derived from Pipeline construction cost savings in other Zones. Notwithstandihg the foregoing, at the minimum, the U.S. shippers' share will be the greater of either two-thirds of the cost of service or the proportion of contracted Alaskan gas in relation to all contracted qas carried in the Pipeline. Details 0. this allocation of cost. of service are set out in Annex III. . .- . (c) Notwitim.tandirig the principles in subparagraphs (a) and tb), in the evert that the total volume of qas offered for ShipTseflt excerds the efficient, capacity of the Pipeline, the meL hod of cost a) Lnest ion for the cost of service for slip- rr~nts of Alaskan gas (minimum entitlement 2.4 bcfd) or Northern Canadian jas (minimum entitlement 1.2 bcfd) in excess of the efficient caparity of the Pipeline will lv subject to 10 PAGENO="0193" I" 187 review and subsequent agreement by both Governments; provided however that shippers of either country may transport additional volumes without such review apd agreement, but subject to appropriate regulatory approval, if such transportation does not load to a higher cost of service or share of Pipeline fuel requirements attributable to shippers of the other country. - (d) It is agreed that Zone 11 costs of service allocated to U.S. shippers will not include costs additional to those attributable to a pipe size of 42 inches. It is understood that in Zones 10 and 11 the Dempster Line will be of the same gauge and diameter and similar in other respects, subject to differences in terrain. Zone 11 costs will include only facilities installed at the date of issuance of the leave to open order, or that are added within three years thereafter. 7. ~ppl~y of Goods and Services (a) Having regard to the objectives of this - Agreement, each Government will endeavor to ensure that the supply of goods and services to the Pipeline project will be on generally competitive terms. Elements to be taken into account in weighing competitiveness will include priàe, reliability, servicing capacity and delivery schedules. ... -. (b) It is understood that through the coordination procedures in paragraph 8 below, either Government may institute consultations with the other in particular cases where it may appear that the objectives of sub- paragraph (a) are not being met. Remedies to be considered would include the renegotiation of contracts or the reopening of bids. 8. Coordination and Consultation :~ * Each Government will designate a senior official for the purpose of carrying on periodic consultations on the implementation of these principles relating to the construction and operation of the Pipeline. The designated senior officials may, in turn, designate additional representatives to carry out such consultations, which representatives, individually or as a group, may make recommendations with respect to particular disputes or other matters, and may take such other action as may be mutually agreed, for the purpose of facilitating the construction and operation of the Pipeline. 9. Reguiato~y Authorities: Consultation -. The respective regulatory authorities of the two Governments will consult from time to tine on relevant 3T~ttcrs arising under this Agreement, particularly on the matters referred to in paragraphs 4, 5 and 6, relating to tariffs for the transportation of gas through the Pipeline. 11 57-087 0 - 80 - 13 PAGENO="0194" 188 ~ 10. Technical Study Group on Pipe (a) The Governments will establish a technical study group for the purpose of testing-and evaluating 54-inch 1120 pounds per square inch (psi), 48-inch 1260 psi, and 48-inch 1680 psi pipe or any other combination of pressure and dieuneter which would achieve safety, rclinhi.lfiywid economic efficiency for operation of the Pipeline. It is understood that the decision relating to pipeline specifications remains the responsibility of the appropriate regulatory authorities. (b) It is agreed that the efficient pipe for the volumes contemplated (including reasonable provision for expansion), subject to appropriate regulatory authorization, will be installed from the point of interconnection of the Pipeline with the Dempster Line near Whitehorse to the point neat Caroline, Alberta, where the Pipeline bifurcates into a western and an eastern leg. ~ - ~ 11. Direct Charges by Public Authorities (a) Consultation will take place at the request of either Government to consider direct charges by public authorities imposed on the Pipeline where there is an element of doubt as to whether such charges should be included in the cost of service. (b) It is understood that the direct charges imposed by public authorities requiring approval by the appropriate regulatory authority for inclusion in the cost of service will be subject to all of th~ tests required by the appropriate legislation and will include only . (i) those charges that are consifsred by the regulatory authority to be just and reasonable on the basis of accepted regulatory practice, and (ii) those charges of a nature that would * normally be paid by a natural gas pipeline in Canada. Examples of such charges are listed in Annex IV. 12. Other Coats .- * It is understood that there will be no charges on the Pipeline having an effect on the cost of sevice other than those: * - * (1) imposed by a public authority as contemplated in this Agreement or i.n accordance with the Transit Pipeline Treaty, or * (ii) caused by ?~cts of God, other unforeseen circumstances, or * (iii) normally peid by natural gas pipelines in Canada in accordance with accepted reqi~latory practi Ce. - 12 PAGENO="0195" 189 13. ~~nce with Terms and Conditions The principles applicable directly to the construction, operation and expansion of the Pipeline will be implemented through the- imposition by the two Governments of appropriate terms and conditions in the granting of required authorizations. In the event of subsequent non-fulfillment of such a term or condition by an owner of the Pipeline, or by any other private person, the two Covernment~ will not have responsibility therefor, but will take such appropriate action as is required to cause the owner to remedy or mitigate the consequences of such non-fulfillment. 14. Legislation . The two Governments recognize that legislation will be required to implement the provisions of this Agreenent. In this regard, they will expeditiously seek all required legislative authority so as to facilitate the timely and efficient construction of the Pipeline and to remove any delays or impediments thereto. - - - 15. ~q~y Into Force *- .- - This Agreement will become effective upon signature ~and shall remain in force for a period of 35 years and thereafter until terminated upon 12 months notice given in writing by one Government to the other, provided that those provisions of the Agreement requiring legislative action will become effective upon exchange of notification that such lejislative action has been completed. 13 PAGENO="0196" 190 ANNEX I The Pipeline Route In Alaska: The Pipeline constructed in Alaska by Alcan will commence at the discharge side of the Prudhoc Bay Field gas plant facilities. It will paralle~ the Alyeska oil pipeline southward on the North Slope of Alaska, cross the Brooks flariqe through the Atigun Pass, and continue pn to ~lta Junction. At Delta Junction, the Pipeline will diverge from the Alyeska dl pipeline and follow the Alaska Highway and Ilaines oil products pipeline passing near the towns of Tanacross, Tok, and Northway Junction in Alaska. The Alcan facilities will connect with the proposed new facilities of Foothills Pipe Lines (South Yukon) Ltd. at the Alaska-Yukon border. In Canada: - :` In Canada the Pipeline will commence at the Boundary of the State of Alaska and the Yukon Territory in the vicinity of the towns of Border City, Alaska and Boundary, Yukon. The following describes the general routing of the Pipeline in Canada: -. .. - From the Alaska-Yukon border, the Foothills Pipe Lthes (South Yukon) Ltd. portion of the Pipeline will proceed in ~ southerly direction generally along the Alaska Highway to a point near Whitehorse, Yukon, and thence to a point on the Yukon-British Columbia border near Watson Lake, Yukon where it will join with the Foothills Pipe Lines (North B.C.) Ltd. portion of the Pipeline. The Foothills Pipe Lines (North B.C.) Ltd. portion of the Pipeline will extend from Watson Lake in a southeasterly direction across the northeastern part of the Province of British Columbia to a point on the boundary between the Provinces of British Columbia arid Alberta near Boundary Lake where it will interconnect with the Foothills Pipe Lines (Alta.) Ltd. portion of the Pipeline. The Foothills Pipe Lines (Alta.) Ltd. portion of the Pipeline will extend from a point on the British Columbia - Alberta boundary near Boundary Lake in a southeasterly direction to Gold Creek and thence parallel to the existing right-of-way of The Alberta Gas Trunk Line Company Limited to James River near Caro] inc. From James River a 0western legN will proceed in a southerly direction, generally following the existing right-of-way of The Alberta Gas Trunk Line Company Limited to a point on the A]herta-Hritish Columbia boundary near Coleman in the Crow's Nest Pass area. At or near Coleman the Foothills Pipe Lines (Alta.) Ltd. portion of the Pipeline will interconnect with the Foothills Pipe Lines (South B.C.) Ltd. portion of the P~peliue. The Foothills Pipe Lines (South B.C.) Ltd. portion of 14 PAGENO="0197" 191 the Pipeli:~ ~,il] extend from a point on the A]berva-)Iritish Columbia bt'uidary near Coleman in a southwesterly ~!irection acres:: British Columbia generaUy parallel to the exi:;ting pipe] inc facilities of Alberta Natural. Gas Cospany t.td. to a point, on the International Boundary Line between Canada and the United States of America at or near Kingsgate in the Province of British Columbia where it. will interconnect with the facilities of Pacific Gas Transmission Company. Also, from James River, an "eastern leg" will proceed in a southeasterly direction to a point on the Alberta-Saskatchewan boundary near Empress, Alberta where: it will interconnect with the Foothills Pipe Lines (Soak.) Ltd. portion of tne Pipeline. The Foothills Pipe Lines (Sask.), Ltd. portion of the Pipeline will extend in a southeasterly direction across Saskatchewan to a point on the International boundary Line between Canada and the United States of America at or near l4onchy, Saskatchewan where it will interconnect with the facilities of Northern Border !ipeline Company. 15 PAGENO="0198" 192 J i;;' ~ ~ ANNEX II :.~ : ~ - *~ Zones for the Pipeline and the. Dempster Line ~ .~ * -~ in Canada * -~cs -; ~- - * *---_ : . Zone -1 Foothills Pipe Lines (South Yukon) Ltd. ~ ~~~-;A1aska Boundary to point of interi~onnection with the * ~- - - -Derupster Line at or.near Whitehorse. *.:.~; ~ .-- * `-` j.:'t.' - *~.-~: `~ ~ ,..t . ~ ~ :r,~-'- --: .~ -:`- *~ .1.-;: -- `.`~ ..-; Zone 2 ~Foothills Pipe Lines (South Yukon) Ltd. . *~- -; - Whitehorse to Watson Lake. ~ ~~-- ~~)* ~ kji~.-~;~ t-;:..~.7--*~ £ 4.. Zone 3 *- Foothills Pipe Lines (North B.C.) Ltd. ~ ~ * ~ Watson Lake to point of interconnection with Weatcoast's main pipeline near Fort Nelson. 1 Zone 4 ** Foothills Pipe Lines (North B.C.) Ltd. Point of interconnection with Westcoast's main pipeline * near Fort Nelson to the Alberta-B.C. border. Zone 5 Foothills Pipe Lines (Alta.) Ltd. ~ * -*. ~. . Alberta-B.C. border to point of bifurcation near Caroline, Alberta. *. . . .. Zone 6 ~Foothills Pipe Lines (Alta.) Ltd. -~. *Caroline, Alta. to Alberta-Saskatchewan border near Empress. *Zone 7 . Foothills Pipe Lines (Alta.)Ltd. Caroline to Alberta-B.C. border near Coleman. Zone 8 --~ Foothills Pipe Lines (South D.C.) Ltd. Mberta-B.C. border neat Coleman to B.C.-United States border near Kinysgate. Zone 9 * Foothills Pipe Lines (Sack.) Ltd. ~ Alherta-Saskatchew~n bord.~r near Emprc s to Saskatchewan-Un i ted States border near Monchy. Zone 10 Foothills Pipe I.ines (No~j~_Yukon) Ltd. Mackenzie Delta Gas tields in the Mackenzie Delta, N.W.T., to a point near the junction of the Kiondike and Dempstcr litjhways just west of Dawson, Yukon Territory. Zone 11 Foothills Pipe Lines (South Yukon) Ltd. A point near the junction of the Klondike and Dempster Highways near Dawson to the connecting point with the Pipt~line at or near Whitehorse. * 16 PAGENO="0199" 193 * ~ AUNE~X 111 . Cost Allocation in Zone 11 The cost of service in Zone 11 shall be a1~t.~ed to United Stales shippers on the following basis (i) There will be calculated, in accorthsn~A~ with :(iji) below, a pedcentage for Zonc~ I - 9 in total by dividing the actual capi~..~i costs by filed capital costs and multiplyh~'j by 100. If actual capital costs are equal to tW less thar~ * 135% of filed capital costs, then United States shippers will pay 100% of the cost of service in * ~. * Zone 11. If actual capital costa in Zones 1 - 9 * are between 135% and 145% of filed capital costs, *"-~°` then the percentage paid by United States shippers will be adjusted between 100% and 66 2/3% on a straight-line basis, except that in ne case will the portion of cost of service paid by United States shippers be less than the proportion of the contracted volumes of Alaskan gas at the ~ Alaska-Yukon border to the same volwne of Alaskan gas plus the contracted volume of Northern Canadian gas. If the actual capital casts are :~, equal to or exceed .145% of filed capital cozts, the portion of the cost of service paid by United States shippers will be not less than 66 2/3% or the proportion as calculated above, whichever ic the greater. *. ~ . *.; t .-:. .~ *. (ii) There will be calculated a percentage for the costoverrun on the Dawson to Whitehorse lateral (Zone 11). After determining the dollar value of ~~"~the overrun, there will be deducted from it: (a) . the dollar amount: by which actual capital costs in Zones 1, 7, 8 and 9 (carrying Alaskan gas only) are less than 135% of filed ~ capita) costs referred tom (uI); below; (b) in each of Zones 2,3, 4, 5 and ~ the dollar amount by which actqal capital costs are less than 135% of filed capital costs seferred to in. (iii) belOw, multiplied by the proportion that the U.S. contracted volume `~~` `~bcars to the total contracted volume in that Zone. If the actual capital costs in Zone 11, after making this adjustment, are equal to ~r less than * 135% of filed capital costs, then no idjusteent is required to the percentage of the conS of service * paid by United States shippers as caLculated in * (i) above. if, however, after making this adjust- ment, the act ual capi tal cost in Zone 11 is * *, greater tiLit) 135% of the filed capitaS cost, then * * * the proport. ion of the cost of service paid by 17 PAGENO="0200" 194 United Stat'n shippers will he a fraction (not t'xcecd lug I) of the percentage of the cost of service calculated in (i) above, where the nugiterator of the fraction is 135% of the filed capital cost and the denominator of the fraction is actual capital cost less the adjustments from (a) and (b) above. ~`~: Notwithstanding the adjustments outlined above, in. `~no case will the percentage of the actual cost of *~ service borne by United States shippers be less than the greater of 66 2/3% or the proportion of the contracted volumes o. Alaskan gas at the :Alaska-Yukon border to the same volume of Alaskan gas plus the contracted volume of Northern :.Canadian gas. - :: 4 (iii) The "filed capital cost" to be applied to determine cost overruns for the purpose of cost allocation in (1) and (ii) above will be: - "- :;-~~.-y~; ~ :"Filed Capital Cost" ~ ~ ~-i -~, -,~ ~ ~ :.~~)f;: *~Estimates for the Pipeline in Canada r -~-- ~ ~ (millions of Canadian * ~ ~ ~ j~-~ ~ dollars) The Pipeline in Canada (Zones 1-9) 1/ 48 - 1260 lb prcssutc pipcline - 3 873 ~or4B" - 1680 lb. pressure pipe]ine-J~ ~~.---- .4,418 or 54" - 1120 Lb. pres~urc pipeline - --.. *~4,234 ~ -~ ;C ~:t; ~;:-ei~j ~ - ,"Filed Capital Cost" Estimates for the ~ Pipeline in Canada (millions of Canadian - `.... :.. *., ~ dollars) *-~ - - Zone 11 of the Dernpster I,irie 2/ ~ i ~ * i-: 30" - Section o Oempster line ~ from Whitehocsc to Dawson - 549 or 36" -.-~Section of Denipster line .. ~- *.. ~, from Whitehorse to Dawson *.. .~ 585 or 42" -. Section of Deinpster line from Whitehorse to Dawson -~ .~: 705 Details for Zones l-.9are shown in the following table: n~tj ~c fiTed capital costs include and are based upon (a) a 1260 psi, 48-inch lint' from the Alaska-Yukon border to the point of possible intcrconn~ction near Whitehorsu; (b) a 1260 psi, 48-inch; or 1680 psi, 48-inch; or 1120 psi, 54-inch line from the point of }xssible interconnection near Whitehorse to Caroline Junction; (c) a 42-inch line from Carol inc Junction to the Canada-United States bord~-r near +lonchy, Saskatchewan; and (ci) a 36-inch line from Caroline Junction to the Canada-United St ates tiot-der near Kingstjate, * Driti:;h Colomhia. Tht':~e costs are encalaicd for a date of commencement of operst ion:; of January 1 , 1983. 2/ Tht e~ ,si. are Osc~ I it ~-d Cot a dab: of co;l:Inencen* - n t of oper.it win:; itt J.'inuijry , I ¶ttI~i 18 PAGENO="0201" 195 Fl led Capi 48 4R 54 1260 psi 160() psi 1120 ps~ $ miilion . .$ mi]I inn $ million Zone `~-. (Canadian) ~~(Canwiian) :... (Canadian~ 707 . .. .: . 707 . 707 2 *. I .-;;~.: 721 - - 8~4 .805 3 . `738 ,.. . ~ :.;, - 803 4 :~ ;~.38O ~ 4R8 . .1 456 5 677 . . I~t 859 ..~, ::.` :8) 3 . 6 . 236 * 236 7 ... ~ .126 . . ~.l26 ``: ~.....126 . 8 83 83 9* r 205 10., 205 Total `,: ` . 38~3 . ` :` 4,4!R ~ Zones ~ ~ .~ ......,..:~:........ . - 1 :.../. . `~ - `.:~ . -..- : * The last compression st.~tio ir~ ~ 9 inc]udes Z~ICi] it.ies to pro~ide compression up to 1440 .* . 19 PAGENO="0202" 196 It is recognized that: the above are-estimates of capital costs. They do not include working capital, propcrty taxes or the provision for road maintenance in the Yukon Territory (not to exceed $30 million Canadian). If at the time construction is authorized, both Governments have agreed to a starting date for the operation of the Pipeline different from January 1, 1983, then the capita) cost estimates shall be adjusted for the difference in time using the GNP price deflator from January 1, )983. Similarly at the time construction is authorized for the Dempster Line, if the starting date for the operation agreed to by the Canadian Government is different from January 1, 1985, then the capital cost estimate shall be adjusted for the difference in timing using the GUi? price deflator from January 1, 1985. The diamct~r of the pipeline in Zone 11, for purposes of cost allocation, may be 30", 36" or 42", so long as the same diameter pipe is used from the Delta *to Dawson (Zone 10). * ,.- . The actual capital cast, for purposes of this Annex, shall be the booked cost as of the date "leave to open" is granted plus amounts still outstandin'g to be accrued on a basis to be approved by the National Energy Boatd. Actual capital costs shall exclude working capital, property taxes, and direct charges for road maintenance-of up to $30 million Canadian in the Yukon as specifically provided herein. - -~:.: For purposes of this Annex, actual capital coets ~i]l exclude tho effect of increases in cost ot~ de1~ys caused by actions attributable to the U.S. shippers; related U.S. pipeline companics, Alaskan producers, the Prudhoe Bay deliverability or gas conditioning plant construction and the Unitad States or State Governments. If the appropriate regulatory bodies of the -two countries are unable to agree upon the amour.~ of such costs to be excluded, the determination shall be made in accordance with the procedures set forth in Article IX of the Transit Pipeline Treaty. :.-~ - - The filed capital costs of facilities in Zones 7 and 8 - will he inc1ud~d in calculations pursuant to this Annex oniy to th'~ extvnt that such facilities are constzucted to meet the re4uir"ments of U.S. shippers. -S - - -. 20 PAGENO="0203" 197 ~ ~~~I~NNLXV ~ ..; - Statement by the Covern~nent of the 1roviiiceofA~rL~ The Government of the Province of Alberta agrees in principle to the provisions contained in the Canada-Uri~ted States pipeline Treaty of January 28, 1977, and furthermore, Alberta is prepared to cooperate with the Federal Government to ensure that the provisions of the Canada-United States Treaty, wit) respect to non-interference of throughput and non-discriminatory' treatment with respect to taxes, tees, or other monetary charges on either the Pipeline Or throughput, are adhered to. Specific details of this undertaking will be the sub3cct of e ~ Federal-Provincial Agreement to be negotiated when the .. Canada-United States protocol or understanding has been finalized. ~ ~ ~ ~.. - Statement by the Government of the Province of Sa5}-atche~ari * The Government o Saskatchewan is willing - to cooperate .~ith the Government of Canada to facilitate construction of the Mean Pipeline through southwestern Saskatchewan and, to that end, the Government of Saskatchewan expresses its concurrence with the principles elaborated in the Transit Pipeline Ajreenient * signed between Canada and the United States on January 2fl, 1977. * In so doing, it intends riot to take any discriminatory action * towards such pipelines in respect: of throughput, reportir.g ` requirements, and environmental protection, pipeline safety,'~ taxes, fees or monetary charges that it would not take ajainst any similar pipeline passing through its jurisdiction. Further details relating to Canada-Saskatchewan relations regarding the Alcan Pipeline will be the subject of Federal-Provincial agreenents to be negotiated after a Canada-United State~ understanding has been finalized * ~c--~. :~z~-~ -- -.. - -:.~ L~----: ;7-?.~ ~ -: Statement by the Government of the Province of British-Colombia The Government of the Province of British Columbia * agrees in principle to the provisions contained in the Canada-United States Pipeline Treaty of January 28, 1977, and furthermore British Columbia is prepared to co-operate with the Federal Government to ensure that the provisions of the * -- Canada-United States Treaty, with respect to non-interference of throughput and non-discriminatory treatment with respect to taxes, fees or other monetary charges on either the Pipeline or throughput, are adhered to. Specific details of this undertaking will be the subject of a Federal-Provincial Agrcemcut to be negotiated at as early a date as possible. Such agreement should guarantee that British Columbia's position expressed in its telex of August 31 is protected. 21 PAGENO="0204" 198 AD REFERENDUM TEXT ~F AN AGREEMENT BETWEEN THE GOVERNMENT OF THE UNITED STATES OF AMERICA AND THE GOVERNMENT OF CANADA CONCERNING TRANSIT PIPELINES The Government of the United States of America and the Government of Canada; - Believing thatpipelines can be an efficient, economical and safe means of transporting hydrocarbons from producing areas to consumers, in both the United States and Canada Noting the ziumber of hydrocarbon pipelines which now connect the United States and Canada and the important service which they render in transporting hydrocarbons to consumers in both countries; Convinced that measures to ensure the uninterrupted transmission by pipeline through the territory of one Party of hydrocarbons not originating in the territory of that Party, for delivery to the territory of the other Party, are the proper subject of an agreement between the two Governments; - It ~. Have agreed as follows t ARTICLE I - L I I For the purpose of this Agreement (a) "Transit Pipeline" means a pipeline or any part ~1. I~*~O('. thereof, including pipe, valves and other appurtenances ~:b~i * - attached to pipe, compressor or pumping units, metering stations, regulator stations, delivery stations, loading and unloading facilities storage facilities tanks fabricated assemblies, reservoirs, racks, and all :1; real and personal property and works connected therewith, used for the transmission of hydrocarbons in transit "Transit Pipeline" shall not include any portiOn * of a pipeline sy3tem not used for the transmission of hydrocarbons in transit. * * * (b) "Hydrocarbons" means any chemical compounds composed --- primarily of carbon and hydrogen which are recovered from a natural reser.roir in a solid semi-solici liquid or gaseous state including crude oil natural gas natural gas liqLlds and bitumen and their derivative products resulting from their production processing or refining In addition "hydrocarbons -* *..*-. ~ PAGENO="0205" 199 includes coal and feedstocks derived from crude oil, natural gas, natural gas liquids or coal used for the production of petro-chemicals. = .. ~ : Cc) "Hydrocarbons in transit" means hydrocarbons trans-: ~ mitted in a "Transit Pipeline" located within the territory of one Party, which hydrocarbons do not originate in the territory of that Party, for delivery to, or for storage before delivery to, the territory of the other Party. : :..~- .~ ARTICLE II 1. ~No public authority in the territory of either Party shall institute any measures, other than those provided for in Article V, which are intended to, or which would have the effect of, impeding, diverting, redirecting or interfering with in any way the trans- mission of hydrocarbons in transit. .. 2. The provisions of paragraph 1 of this Article apply (a) In the case of Transit Pipelines carrying exclusively hydrocarbons in transit, to such volumes as may be transmitted to the Party of destination in the Tra~it Pipeline; . .,.. .** .~ .. (b) In the case of Transit Pipelines in operation at the time of entry into force of this Agreement not carrying exclusively hydrocarbons in transit, to the average daily volume of hydrocarbons in transit transmitted to the Party of des~ination during ... the 12 month period immediately prior to the imposition of any measures described in paragraph 1 Cc) In the case of Transit Pipelines which come into operation subsequent to the entry into force of this Agreement not carrying exclusively hydrocarbons in transit, to such volumes of hydrocarbons in transit as may be authorized by the appropriate regulatory bodies; or (d) To such other volumes of hydrocarbons in transit as may be agreed upon subsequently by the Parties. *.= 3. Each Part~ undertakes to facilitate the ~.. expeditious issuance of such permits, licenses, or other authorizations as may be required from time to time for the import into, or export from, its territory through a Transit Pipeline of hydrocarbons in transit. 23 ~= ...- PAGENO="0206" 200 ARTICLE III ~ ~ ~-~- ~ V; I. No public authority in the territory of either Party shall impose any fee, duty, tax or other monetary charge, either directly or indirectly, on or for the use of any Transit Pipeline unless such fee, duty, tax .~ or other monetary charge would also be applicable to -~ or for the use of similar pipelines located within the - jurisdiction of that public authoritv~ : - ~--. - 2. No public authority in the territory of either Party shall impose upon hydrocarbons in transit any ., import, export or transit fee, duty, tax or other monetary charge. This paragraph shall not preclude the inclusion of hydrocarbon throughput as a factor - in the calculation of taxes referred to in paragraph 1. 5-' __5_ - ARTICLE IV - - - - 1. Notwithstanding the provisions of Article II and paragraph 2 of Article III, a Transit Pipeline and the transmission of hydrocarbons through a Transit - Pipeline shall be subject to regulations by the appro- priate governmental authorities having jurisdiction over such Transit Pipeline in the same manner as for any other pipelines or the transmission of hydrocarbons by pipeline subject to the authority of such governmental authorities with respect to such matters as the following: a. Pipeline safety and technical pipeline V V construction and operation standards; VS%~5~~~ b. environmental protection; - . c. V rates, tolls, tariffs and financial reg- - V ulatioms relating to pipelines; ~- -~ V - -- d. reporting requirements, statistical and -~ V~ V financial information concerning pipeline V operations and information concerning valuation of pipeline properties V 2. 5 All regulations, requirements, terms arid conditions imposed, under paragraph 1 shall be just - and reasonable, and shall always, under substantially similar circumstances with respect to all hydrocarbons transmitted in similar pipelines, other than intra- -~ provincial and intra-state pipelines, be applied equally to all persons and in the same manner. V VSVS~S5- **~VV5~55S~5VVV$ ~V V~ 24 ~ ~ PAGENO="0207" 201 ARTICLE V : :~... ~. ~ ;,. *~., .~ ,..`:. 1. :. In th~ event of an actual or threa~ened natural disaster, an operating emergency, or other demonstrable need temporarily to reduce or stop for safety or technical reasons the normal operation of a Transit Pipeline, the flow of hydrocarbons through such Transit Pipeline may be temporarily reduced or stopped in the interest of sound pipeline management and operational' efficiency by or with the approval of the appropriate regulatory authorities of the Party in whose territory such disaster, ` emergency or other demonstrable need occurs. `~ 2. Whenever a temporary reduction of the flow.~ of hydrocarbons through a Transit Pipeline occurs as provided in paragraph 1: ~. *. - ~ - (a) `In the case of a Transit Pipeline carrying * S. ;.~. `:exclusively hydrocarbons in transit, the Party for whose territory such hydrocarbons are intended shall be entitled to receive - * *. the total amount of the reduced flow of hydrocarbons, (b) In the case of' a Transit Pipeline not -~ carrying exclusively hydrocarbons in transit, each Party shall be entitled to receive downstream of the point of interruption a proportion of the reduced * flow of hydrocarbons equal to the pro- portion of its net inputs to the total - .: inputs to the Transit Pipeline made upstream `of the point of interruption. If the two - Parties are able collectively to make inputs to the Transit Pipeline upstream -. . of the point of interruption, for delivery downstream of the point of interruption, .of a volume of hydrocarbons which exceeds the tempOrarily reduced capacity of such * Transit Pipeline, each Party shall be ;- . * entitled to transmit through such Transit Pipeline a proportion of the total reduced capacity equal to its authorized share of `the flow of hydrocarbons through such Transit Pipeline prior to the reduction. * If. no PAGENO="0208" 202 - share has been authorized, specified or agreed upon pursuant to Article II, paragraph 2, the share of the Parties in the reduced flow of hydrocarbons shall be in proportion ~I~to the share of each Party's net inputs to the total flow of hydrocarbons through suc1~ Transit Pipeline during the 30 day period immediately preceding the reduction. ~ 3. The Party in whose territory the disaster, emergency or other demonstrable need occurs resulting in a temporary reduction or stoppage of the flow of hydrocarbons shall not unnecessarily delay or cause delay in the expeditious restoration of norma]. pipeline operations ARTICLE VI ~ -~`i~ ~- *:~- -~ Nothing in this Agreement shall be considered as waiving the right of either Party to withhold consent, -or to grant consent subject to such terms and conditions as it may establish consistent with the principles of uninterrupted transmission and of non-discrimination reflected in this Agreement, for the construction and operation on its territory of any Transit Pipeline construction of which commences subsequent to the - - entry into force of this Agreement, or to determine the route within its territory of such a Transit - Pipeline. ~ - ~-- /-. ~ ARTICLE VII -. :~- J. The Parties may, by mutual agreement, conclude a protocol or protocols to this Agreement concerning the application of this Agreement to a ::. specific pipeline or pipelines. .~- - ARTICLE VIII - - --The Parties may,b~ mutual agreement, ~ amend this Agreement at an1 tine - -.ARTICLEIX .:.__\.~-_~_ ~ -~ 1. ~--- Any dispute between the Parties regarding the interpretation, application or operation of this Agreement shall, so far as possible, be settled by negotiation between then. - - - .- 26 _:` PAGENO="0209" 203 2. Any such dispute which is not settled by negotiation shall be submitted to arbitration at the request of either Party. Unless the Parties agree on a different procedure within a period of sixty.days from the date of. receipt by either Party from the other of a notice through diplomatic channels reqtiesting arbitration of the dispute, the arbitration shall take place in accordance with the following provisions. Each Party shall : nominate an arbitrator within a further period of sixty days. The two arbitrators nominated by the Parties shaliwithin a further period of sixty days appOint a third arbitrator. ~If either Party fails to nominate an arbitrator within the period specified, or if the third arbitrator is not appointed within the period specified, either Party may request the President of the International Court of Justice (or, if the President is a national of either Party, the member of the Court ranking next in order of precedence who is not a national of either Party) to appoint such arbitrator.~ The third arbitrator- shall not be a national bf either Party, shall act as Chairman and shall determine where the arbitration shall be held. *. - - -* 3. -~ The arbitrators appointed under the pre~ ceding paragraph shall decide any dispute, including appropriate remedies, by majority. Their decision shall be binding on the Parties. -* .. *-~-. 4. The costs of any arbitration shall be shared equally between the Parties. ARTICLE X *~. *-. .~: ~;;~ ; . ~ ~ 1. . : This Agreement is subject to ratification. Instruments of Ratification shall be exchanged at Ottawa -. ., . . - - 2. This Agreement shall enter into force on the first day of the month following the month in which Instruments of Ratification are exchanged. 3. This Agreement shall remain in force for an initial period of thirty-~five years. It may be terminated at the end of the initial thirty-~five year period by either Party giving written notice --27--~ 57-087 0 - 80 - 14 PAGENO="0210" 204 to the other Party, not less than ten years prior to the end of such initial period, of its intention to terminate this Agreement. If neither Party has given such notice of termination, this Agreement will thereafter continue in force automatically until ten years after either Party has given written hotice to theother Party of its intention to terminate .:~the Agreement. j.~ ~ ~ ~ ~ ~, ~ ~ ~ WITNESS WHEREOF the~undersigned rep- ~resentatives, duly authorized by their respective Governments, have signed this Agreement. :~!:~ .*~DONE in duplicate at Washington, D.Ci.n the English and French languages, both versions being equally authentic, this twenty-eiqhth~ day of -~ j tJanuary 1977. jJri~.1 ~ ~ ~i j~4Y. ~ ~j:;:;.~~ ~:Julius L. Katz ~ For the Government of the United States of America ~J H Warren - -~-- For the Government of Canada ** ** * * I - ~ ~ -~`--~ :---- ------ .- 28 PAGENO="0211" 205 UNITED STATES GENERAL ACCOUNTING OFFICE WASHINGTON, D.C. STATEMENT OF ,J. DEXTER PEACH, DIRECTOR ENERGY AND MINERALS DIVISION BEFORE THE HOUSE SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS COMMITTEE ON INTERIOR AND INSULAR AFFAIRS Mr. Chairman: We appreciate your invitation to discuss costs for the Alaska Highway Gas Pipeline Project. But first, some background information on the Project itself may be helpful. As you know, the ~laskan Natural Gas Transportation Act of 1976 was passed' to expedite Federal actions, making possible a pipeline sy~tem to deliver North Slope Alaskan natural gas to U.S. markets. The President, in September 1977, recommended the Alaska Highway Gas Pipeline Project-- a 4,800-mile overland pipeline system--over two alternative proposals with a start-up date anticipated by January 1983. The President's decision was heavily influenced by the Project sponsors' assurance that the pipeline could he privately financed. Federal financial assistance was "explicitly rejected" by the President. The Congress approved this decision in November 1977 and--as part of its consideration of the President's National Energy Plan--later passed favorable gas pricing legislation PAGENO="0212" 206 through the Natural Gas Policy Act of 1978. This Act, which allows the costof Alaskan gas to be averaged with cheaper gas supplies, was viewed as a key factor in assuring the Project's viability. The Project is currently scheduled to come on line about 2 years later than anticipated in 1977--late 1984 instead of early 1983. In our opinion, further delays are possible as complex issues--such as the securing of right- of-way agreements and deciding how to treat gas conditioning costs--still need to be worked out. Such delays of course affect costs. I think it might be appropriate in this regard to remember what happened with the costs of the Trans-Alaska Oil Pipeline Project. In our June 1978 report, "Lessons Learned From Constructing the Trans-Alaska Oil Pipeline" (EMD-78-52, dated June 15, 1978), we noted how cost estimates rose as system design and engineer- ing became better defined. The lesson to be learned is that realistic cost estimates are usually available only after detailed engineering design. For example, in 1968, using a feasibility study as the basis, the oil line's estimated cost was about $1 billion. *By May 1974, at the start of preconstruction, the cost was about $4 billion. As of April 1977, shortly after permanent pipeline construction started, the cost was over $6 billion. After 6 months of operation, the estimated cost was about $8 billion. 2 PAGENO="0213" 207 Similarly, the gas line's estimated cost seems to be increasing as more is known. In March 1977, the sponsors estimated that the line would cost about $b.6 billion in 1975 dollars--which means that is how much it woula have cost if started and completed in 1975. That same estimate in escalated dollars--i.e., basing the estimate on costs anticipated in the year construction was actually to take place and thus the expenditure incurred--amounted to ~9.6billion. In September 1977, the President used a $10 to $13 billion estimated cost figure. Currently, the sponsors are talking about a SlS billion cost for the Project, although no official revised cost estimate has been made public--nor is one expected before next Spring. In preparing for this hearing, you requested our Office to provide a `ballpark estimate' of the Project's cost adjusted to 1979 dollars, applying appropriate indices to the sponsors' original cost estimates and assuming no change in the Project's scope or other factors. We have done this and now have found that ttie ~6.6 billion esti- mate in 1975 dollars is equivalent to about ~l0.2 billion in 1979 dollars as of January 1, 1979. That is the date of the latest indices. The cost as of October 1979 would be higher, particularly in view of the recent inflationary spiral. It should also be noted that the $10.2 billion estimate in 1979 dollars already exceeds the sponsors' 3 PAGENO="0214" 208 parch 1977 $9.6 billion estimate in escalated dollars for a project anticipated, at that time, to be completed by January 1983. Let me explain the methodology we used in arriving at the $10.2 billion figure. We adjusted the sponsors' earlier figures by applying an index of construction costs to each of the four main segments of the pipeline. In addition, because the Alaskan sponsors notified the Federal Energy Regulatory Commission that their costs will already be at least 30 percent higher than originally estimated, for other than inflationary reasons, we increased the cost of the Alaskan segment by 30 percent before adjusting it. The results came out as follows: 1979 dollars 1975 dollars Alaska $ 4.4 billion $ 2.4 billion Canada 3.6 billion 2.6 billion Western Leg .7 billion .5 billion Eastern Leg 1.5 billion 1.1 billion $10.2 billion $ 6.6 billion You may wonder about the seemingly large disparity between our $10.2 billion figure and the sponsors' $15 billion figure. Remember, ours is based on 1979 dollars-- not escalated dollars--and is comparable to the $6.6 billion in 1975 dollars. 4 PAGENO="0215" 209 While no official revised cost estimate is available, such an estimate is very important in lining up financial backing and also since it will be used as the starting point in determining the approved rate of return on investment for the sponsors. As you may know, the Federal Energy Regulatory Commission, on September 6, approved an incentive rate of return based on how well the Project meets its estimated cost. The Commission's order makes clear that the sponsors may elect to revise their cost estimate for the Alaskan segment as a basis for determining their rate of return. We under- stand that the sponsors do plan to use a revised estimate on the basis that design conditions have changed significantly since 1977. Thus it is difficult to speculate on what the revised cost estimate will be. The slippage in bringing the Project on line, the already announced cost growth, and the potential for higher costs as engineering estimates are completed highlight the difficulty of putting together a complete financial package for this Project and thus the possibility of renewed dis- cussions about Federal financial assistance. Therefore, I want to briefly discuss our report, "Issues Relating to the Proposed Alaska Highway Gas Pipeline Project," that we are issuing to the Congress and request that the full report be made part of the record. 5 PAGENO="0216" 210 As I stated earlier, when the President and the Congress approved construction of the Alaska Highway Gas Pipeline Project in 1977, they specified that the Project should be privately financed and Federal financing assistance was "explicitly rejected." However, in January of this year, in response to a question from the Joint Economic Committee, the Secretary of Energy discussed the possibility of $2 to $3 billion in Federal loan guarantees for the Alaskan segment of the Project. Loan guarantees to support energy and other costly projects have become popular because their supporters argue that the program is costless in the absence of a default. If the borrower repays the loan, the budgetary impact would be limited to administrative expenses. In case of default, however, the liability to the Government becomes substantial. There are other potential avenues for financial backing-- short of Federal financial involvement--that are still under consideration. These include participation by various bene- ficiaries of the Project such as the State of Alaska, the gas producers, and purchasers of the gas. In any event, this Project offers a potentially significant future domestic gas supply. Thus, if Federal financing assistance is requested, Project proponents undoubtedly will urge the Congress to quickly provide the needed assistance. 6 PAGENO="0217" 211 Currently it is premature to consider Federal finan- cial involvement since (a) it is not known that help will be needed and (b) some important issues have not been resolved. In addition, without specific legislation, the Department of Energy lacks authority to make loan guarantees to the Project. Although Federal financial assistance has not been requested, we believe that getting prepared for a prompt, informed decision--should such assistance be requested--is essential. If the sponsors should demonstrate the need for Federal financial assistance after all regulatory procedures are com- pleted, the Congress should evaluate alternatives to Project gas before it considers granting financial aid to the Project. Possible alternatives to be evaluated include --conservation steps, --unconventional domestic resources, --intensified drilling in the lower 48-States, --liquefied natural gas, and --Mexican and Canadian gas. However, if the Congress decides to grant financial aid it should (1) evaluate all feasible alternatives to Federal financial involvement (not just loan guarantees) and (2) ensure that the public interest is served and that the 7 PAGENO="0218" 212 Government has an appropriate control over and return on its investment. In our view, the Secretary of Energy is the appropriate person to provide information and analyses to the Congress should a decision be needed on Federal financial assistance for the Alaskan gas pipeline. In that liqht, we make two recommendations to the Secretary of Energy in our report. First, the Secretary of Energy should, within 60 days, provide the Congress an analysis showing how this Project now fits in with the overall national energy plan and strategy to satisfy the Nation's future energy needs. In addition, if the sponsors officially state that the Project cannot be privately financed or Federal financing assistance is requested, the Secretary of Energy should provide the Congress, within 90 days of that occurrence, his recommendation on the matter of Federal financial involvement. The Secretary, in support of his recommendation, should provide a detailed analysis of the Project and alternatives which could secure or conserve a similar or greater amount of gas or equivalent amount of energy. The analysis should --demonstrate why his recommendation is the best course of action, and --compare the benefits that each source could provide if it received the same amount and 8 PAGENO="0219" 213 type of Federal financial assistance or an amount approximating that requested for the pipeline. Using this information, Congress would be in a better position to make an informed decision on how best to invest Government funds to meet national energy needs. In closing, I emphasize that our comments should not be construed as taking a GAO position either for or against the Project or on what the congressional decision should be on the issue of Federal financial involvement if it occurs. Our prime concern is that the Government should be in a position to make an informed decision on what tO. do if Federal assistance is proposed. This concludes my statement, Mr. Chairman. I will be happy to answer any questions. 9 PAGENO="0220" 214 ~`( *0~ THE LIBRARY OF CONGRESS Congressional Research Service * ~ WASHINGTON. D.C. 20540 October 17, 1979 TO : Subcommittee on Oversight and Special Investigations, Committee on Interior and Insular Affairs Attention: J. Gwaltney FROM : Alvin Kaufman, Senior Specialist in Mineral and Regulatory Economics. SUBJECT : Perspectives on Major Issues Impacting the Alaska Gas Pipeline As you requested, I am enclosing the Alaska study prepared by myself, J. Riva, and G. Pagliano, with assistance from S. Bodilly. In the event, the Committee intends to publish the report we will be happy to supply a formal transmission letter from Mr. Gude. PAGENO="0221" 215 ~ ~ot THE LIBRARY OF CONGRESS Congressional Research Service * * Sc WASHINGTON, D.C. 20540 MAJOR ALASKA GAS PIPELINE ISSUES--A PERSPECTIVE By Alvin Kaufman Senior Specialist in Mineral and Regulatory Economics Senior Specialists Office Gary J. Pagliano Environment and Natural Resources Policy Division Joseph P. Riva, Jr. Science Policy Division Susan J. Bodilly Senior Specialists Office October 17, 1979 PAGENO="0222" 216 TABLE OF CONTENTS Page SUMMARY i INTRODUCTION 1 PART 1: REGULATORY ISSUES 3 Conditioning Costs 4 Rate of Return 9 The Cost Performance Ratio 12 The Rate of Return 12 PART 2: DELIVERABILITY OF CANADIAN GAS 16 Western Canadian Petroleum Province 16 Geology 16 Exploration Activity 18 Reserves, Resource Estimates, and Production Capability 19 Mackenzie Delta-Beaufort Sea Petroleum Province 22 Geology 22 Exploration Activity 22 Reserves, Resource Estimates, and Production Capability 24 Arctic Islands Petroleum Province 26 Geology 26 Exploration Activity 27 Reserves, Resource Estimates, and Production Capability 29 PART 3: PREBUILDING AND DESIGN ISSUES 32 Prebuild Issues 32 Uncertainties 33 Alberta Gas 35 Design Questions 37 The Alaska Segment 37 The Canadian Segment 38 Canadian Procurement Policy 39 PAGENO="0223" 217 SUMMARY The Alaska Natural Gas Pipeline, if completed, will be the costliest public or private project in history. Due to the scale of the project, the physical environment in which it is to be built, legal and environmental constraints ~nd the uncertain extent of gas reserves in the area, the project has been stalled as some of the issues involved in completion are resolved. This report provides in- formation on the present status of the pipeline in three areas: regu- latory issues; the current known resources and production capability of the region and prebuilding and design issues. The report analyzes the decisions and latest information in these three areas and pro- vides an outlook on the issues or problems still needing resolution. Part 1 of the report details and analyzes recent regulatory de- cisions made by the Federal Energy Regulatory Commission (FERC) re- garding conditioning costs and rate of return to investors. FERC has issued orders that the conditioning costs of the gas will be absorbed by the producers of gas as opposed to the pipeline companies. The cost of strict standards on CO content in the gas will, however, be 2 absorbed by the shippers. This decision was made to assure the guard- ing of the public interest, to avoid incremental pricing and to improve financability of the line. In determining the rate of return for the sponsors of the pipeline the large risks factors were taken into account. An Incentive Rate of Return was decided on by FERC. The determinants of this type of rate are discussed as are some of the implications. Issues such as an all-events tariff, billing, interim rates and service interruption are not discussed. PAGENO="0224" 218 Part 2 is a general discussion on the potential of deliver- ability of Canadian gas to the pipeline. The availability of Canadian gas to the pipeline would assure constant and prolonged product flow through the line. Three areas are discussed: Western Canada, the Mackenzie Delta and the Arctic Islands. Exploration activity, reserves and production capability for each area are given. Possible geographic, exploration, drilling and delivery problems are considered to determine the potential for export to the U.S. The analysis shows that although reserves and exploration in Western Canada are adequate for a pipeline, the rate of production has been low. This nay hamper exports to the U.S. especially considering Canadian energy export policies and reserve estimate nethodology. The Mackenzie Delta-Beaufort Sea region has reserves to support a pipeline, however, the climatic conditions may cause production to be very expensive and an immense effort given the 10 year timeframe of the pipeline. The same seems probable for the Arctic Islands. Part 3 discussed the proposed design of the pipeline and the proposed prebuilding plan. Under the prebuilding plan, Canadian sec- tions of the pipeline would be built first to demonstrate feasiblity. The proposed scheme would allow greater certainty as to the completion of the project, thus encouraging the needed financial investments. Flaws of this scheme are pointed out especially the uncertainty of the deliverance of Alberta gas and the high risk of the Alaskan sec- tion. The design of the pipeline is discussed with details as to the Canadian/U.S. negotiations, alternative design proposals and concerns over safety. CR5-li PAGENO="0225" 219 PERSPECTIVES ON MAJOR ISSUES IMPACTING THE ALASKA GAS PIPELINE Introduction The Alaska gas pipeline is unique in the attention lavished on the project by the Congress. This has ranged from the establishment of a procedural framework to expedite the final decision on the line (Alaska Natural Gas Transportation Act of 1976) through establishment of pricing requirements (Natural Gas Policy Act of 1978). As a con- sequence of the transportation act, the President sent to the Congress in September of 1977 his findings regarding the building of the line. This decision was approved and adopted by the Congress in November of that year (House Joint Resolution 621). The decision identifies the facilities that are to comprise the transportation system, and set forth the general framework within which the Federal Energy Regulatory Commission (FERC) was to operate in re- solving the various problems and issues effecting the line. The subsequent passage of the Natural Gas Policy Act added to this framework by establishing a statutory price for Prudhoe Bay gas and setting forth other requirements. Within this framework, many of the issues surrounding the building of the line are now either *in the process of resolution or have been resolved. The major issues break down into technical and regulatory problems. The technical issues deal with questions regarding the design of the line (size and pressure requirements), and the question of precon- struction and consequent use of the line for transportation of Cana- dian gas until the Alaska portions are completed. The regulatory 57-087 0 - 80 - 15 PAGENO="0226" 220 issues devolve into what we can call tariff questions and pipeline questions. The major tariff issue is the question of who will pay to condition the gas for transportation. The major pipeline ques- tion revolves around the rate of return. Inasmuch as these are issues over which the Congress must exer- cise oversight, CRS has been asked to prepare an analysis of the major problem areas. cRS-2 PAGENO="0227" 221 Part 1: Regulatory Issues* Aside from the two major regulatory issues dealing with con- ditioning costs and the rate of return, there are several procedural issues such as questions on the billing commencement date, interim rates, service interruption procedures, billing procedures, account- ing treatment and so forth. Although substantial sums of money are involved, these are generally minor issues, and we will not discuss these here. Further, many of these have now been resolved by a recent order of the commission. 1/ In addition, in the course of the pipeline case there has been considerable discussion of the need for an all-events tariff. The all-events tariff permits the pass through of costs to the customer without the need of an evidentiary hearing. 2/ It thus bypasses normal regulatory procedures. Rates are automatically adjusted on a regular basis, such as monthly or quarterly, in line with changes in costs. Although there are arguments pro and con in regard to the use of such a tariff, it does not appear to be an issue in the Alaska pipeline case in that all parties agree that some form of an all-events tariff is required. As a consequence, we will restrict. our discussion to the conditioning cost and rate of return issues. *prepared by Alvin Kaufman, Senior Specialist in Mineral and Regulatory Economics. 1/ Federal Energy Regulatory Commission. Order No. 31, Docket No. RN78-l2. June 8, 1979. pp. 147-233. 2/ For a more complete discussion of this issue see: Kaufman, Alvin and Russell J. Profozich. The New Mexico Cost of Service Index: An Effort in Regulatory Innovation. National Regulatory Research In- stitute. In Press. CRS-3 PAGENO="0228" 222 Conditioning Costs The cost of conditioning the gas for transportation involves those costs related to chilling the gas, freeing it of excessive water, liquid hydrocarbons, sulfur, hydrogen sulfide, carbon dioxide, oxygen and various impurities, as well as compressing it to the proper pressure for pipeline transmission. Nest natural gas in the lower 48 states is generally processed in order to re- cover the liquid hydrocarbons. The gas is then conditioned to meet quality standards. In the case of Prudhoe Bay gas, however, additional conditioning is required in order to prevent degra- dation of the permafrost, enhance the transportability of the gas under adverse climatic conditions, meet the quality standards for natural gas generally, and enhance the transportation economics. This latter item involves reduction of the CO content below the 2 normal 3% by volume used in the lower 48 states to approximately 1%. This reduction not only prevents corrosion in the line but improves transportation efficiency by permitting the movement of a greater volume of natural gas than would otherwise be possible. The allocation of the cost of this conditioning is controver-~ sial because it raises questions as to the marketability of the gas. Conditioning costs are estimated in a 37 to 60 cent per million Btu range. Under the terms of the Natural Gas Policy Act (NGPA), that portion of the conditioning costs not included in the Prudhoe Bay statutory well head price of $1.45 per million Btu plus inflation, must be priced incrementally. The $1.45 plus inflation will be priced to the consumer on a rolled-in basis. CRS-4 PAGENO="0229" 223 In rolled in pricing, the cost of the Alaska pipeline gas is averaged with all other sources of gas. The consumer pays the sane rate for all gas delivered to him on an average basis. On the other hand, under incremental pricing each consumer pays a price based on the cost of the specific gas source. In other words, if the Alaska price is rolled-in, a higher gas price is paid by all consumers on the system, but this price is lower than the actual cost of the supplemental gas. As a result, all consumers provide a subsidy to those using the supplemental source. Con- versely, incremental pricing requires the end user of supple- mental gas to pay the full delivery price of that gas, while the user of non-supplemental gas continues to pay a lower price. The result is a two titr pricing system, with administrative complications in deciding who pays what as well as potential marketability problems for the Alaskan gas. During the proceedings on this question the Federal Energy Regu- latory Commission (FERC) staff and several interveners maintained that conditioning costs should only be permitted as an add on to the lawful price if production and conditioning costs exceed that price. Exxon, on the other hand, maintained that conditioning is necessitated by the special transportation requirements and thus is a function of transportation. Exxon noted, along with a series of legal arguments, that it had entered into a gas sale contract with Pacific Gas and Electric Company (PGE) for the sale of 225 million cubic feet of natural gas per day over a 20 year period. PAGENO="0230" 224 PGE had agreed to pay for the conditioning facilities. Exxon stated its belief that the Commission should accept that con- tract as a precedent. In its discussion Exxon carefully avoided presenting definitive production cost data. It took the position that value of service pricing is now required by the NGPA rather than cost-based rates. The primary issue then becomes the question of marketability. The FERC staff took the position that shifting conditioning costs to the consumer would make it difficult to sell Alaskan gas be- cause of the incremental pricing provision of the NGPA. A study by Foster Associates, filed as part of the Exxon brief, indicated that conditioning costs charged on an incremental basis will increase the average retail price of gas by only 5 cents per million Btu and cause a decline in demand on the order of 30 to 40 billion cubic feet per year, or less than 0.2% of demand. Foster concluded that Prudhoe Bay gas, with conditioning costs charged on an incremental basis, is price competitive in all but two regions of the 48 states, particularly New England and the Coastal Appalachian states. Natural gas would not be price-competi- tive in those areas with or without Alaskan gas. 3/ 3/ Reply comments of Exxon Corp. FERC Docket RN 79-19. March 28, 1979; and Appendix A to the Reply Comments by Foster Associates, Inc. The Marketability of Prudhoe Bay Gas in the Lower 48 States. CRS-6 PAGENO="0231" 225 FERC has now issued a decision in the case. 4/ In its opinion, FERC reasoned that the gas producers are responsible for the cost of conditioning gas based on the fact that the producers will enjoy benefits from the sale of the Prudhoe Bay gas. These costs should be apportioned to best insure that the line will be built, and to provide a positive net national economic benefit. The President's Decision, endorsed by a joint congressional resolution, bars the producers, for anti-trust reasons, from owning portions of the line. The Commission believes that the producers should carry the costs of conditioning in order to place a burden on them that is com- mensurate with the benefits which they will receive from the construction of the line. Therefore, they should carry the conditioning costs to encourage efficiency in lieu of investment in the line. This would also relieve the project sponsors and gas shippers of a financial burden since the financial resources of the gas transmission industry, in FERC's opinion, should go directly towards the support of the line and not to the conditioning facility. This then provides a method for the producers to help in making the line feasible without taking on ownership. The Commission noted that it was too early to determine the precise costs of conditioning or the impact on marketability of the gas. Marketability is not a serious concern in the Commission's view. As a consequence, its order is not premised on marketability. 4/ FERC. Regulations And Statement Of Policy, Treatment Of Cer- tain Production Related Costs For Natural Gas To Be Sold And Transported To The Alaskan Natural Gas Transportation System. Order No. 45, Docket No. RN 79-19. Issued August 24, 1979. CRS-7 PAGENO="0232" 226 In discussing quality standards, the Commission noted that those in vogue in the lower 48 states are indicative of prevail- ing industry practices because they were established over tine. Prudhoe Bay contracts, on the other hand, are new. Therefore, if the first contracts are used as a precedent, these would establish the industry practice and would dictate the Coranission's policies, and thus circumscribe its discretion. FERC did not feel that it 5/ could permit precedent to be established in such a manner. The Lower 48 state standards, however, cannot apply to Alaska. Special standards are needed in order to assure transportability. This is particularly true of the CO requirement. The Alaska line re- 2 quirements specify a content of not more than 1% by volume, not only to prevent corrosion but to improve transportation efficiency. This compares with 3% in the Lower 48 states. The stricter standard established in Alaska is primarily for transportation efficiency and thus is not the usual practice. It is, therefore, the opinion of the commission that the cost differential between reaching 3% versus 1% should be borne by the shippers rather than by the producers. In its earlier notice of proposed rule making and statement of policy, which preceded the final decision, the Commission noted that placing the responsibility for conditioning costs on the producers would assure adequate volumes of gas in order to maximize the use of the conditioning plant. 5/ FERC. Treatment Of Certain Production Related Costs For Natural Gas To Be Sold And Transported To The Alaskan Natural Gas Transportation System. Docket RN 79-19. Feb. 2, 1979. CRS-8 PAGENO="0233" 227 The Consaission further noted that the $1.45 per million BTIJ price, mandated in the NFPA was more than adequate to cover all costs incurred by the producers. It asserted its policy would result in cost allocations consistent with the public interest, improved financiability and markability, the avoidance of incremental pricing, and compliance with the intent of Congress. Rate of Return Issue The major issue is the allocation of risk among the various pro- ject participants. That is, how much risk will the pipeline sponsors, consumers, gas shippers, distributors, and investors be asked to bear. These risks included uncertainty regarding marketability and future prices, marginal economics, possible unforseem production problems and a possible reduction in world energy prices, particularly oil. All of these uncertainties are compounded by the size of the pro- ject and the long time over which repayment will occur. The appor- tionment of risks is essential because of what appears to be reluctance on the part of financial institutions to fund the project 6/ and because of its marginal economics and substantial size. To a considerable extent, the rate of return issue highlights the uncertainties inherent in the project. Tinder normal regulatory 6/ Pipedream? Alaskan Gas Pipeline Seems in Deep Trouble For Lack of Financing. Wall Street Journal, May 23, 1979: 1, 24. CRS-9 PAGENO="0234" 228 procedures the allowed rate of return on equity would reflect not only the cost of money but the risks being born by the equity hold- ers. These risks would include the potential for the loss of equity, and the potential for having to use other assets of the company to make good on the debt incurred by the pipeline. Such risks are impacted by changes in costs and gas availability, service interruptions, market- ting difficulties and unforeseen increases in construction costs. The risk of cost and thruput changes, however, tends to be minimized by the availability of the all-events tariff. Under an all-events tariff, changes in operating costs and those induced by reduced gas flow would be automatically passed-on to the consumer. This pass-on, however, could compound marketability risks by raising the price to a level beyond that which consumers are willing to pay. The legally mandated rolled-in pricing tends to minimize that risk by spreading the high costs among all gas consumers, rather then just those using Alaskan gas. Despite this protection, however, the equity holder is exposed to a marketability risk resulting from the intro- duction of new technology. Over the 20 year life of the pipeline it is possible that new inventions will enter the market to re- duce the demand for gas. Further, there is the risk of a ser- vice interruption with the consequent reduced revenue. The Alaskan pipeline will be a single pipe and as a result there is a somewhat higher probability of interruption than in the usual looped line. A looped line consists of two segments joined at various points, thus permitting one segment to operate CR5-b PAGENO="0235" 229 if the other goes out. The single pipe design is compounded by problems peculiar to the area such as permafrost settlement, and maintenance and operating problems resulting from the weather. Many of the problems that increase the probability of service inter- ruptions may have an impact on construction costs beyond what has been estimated. In an effort to minimize the impact of such factors and to assure tight cost control during the construction phase, the rate of return is being used as an incentive. The President's Decision provided for a variable rate of return oh equity as such an incen- 7/ tive. This rate of return concept was to reward the applicant for completing the pipeline under budgeted cost and penalized them for incurring cost overruns. The variable rate of return concept was put 8/ into practice in a recent FERC order. The mechanism selected by the Commission is called the incentive rate of return (IROR). FERC maintains this system will equitably. distribute the burden of cost overruns between consumers and investors. Consumers continue to carry the depreciation expense associated with with prudently incurred investment including cost overruns, but they bear only a portion of the return on investment. Where construction 7/ U.S. Senate. Committee on Energy and Natural Resources. Deci- sion of the President, Decision and Report to Congress on the Alaska Natural Gas Transportation System. 95th Congress, 1st session. Wash- ington, D.C., U.S. Govt. Print. Off., 1977. Publication 95-56. p. 37. * 8/ FERC.. Determination Of Incentive Rate Of Return, Tariff and Related Issues, Order Setting Values For Incentive Rate of Return, Establishing Inflation Adjustment And Change in Scope Procedures, And Determining Applicable Tariff Provisions. Order No. 31, Docket No. RN 78-12. Issued June 8, 1979. CRS-1l PAGENO="0236" 230 costs are less than anticipated, these savings are divided between lower prices for the consumer and higher returnsto investors. The IROR is dependent on a complicated formula which is beyond the scope of this paper. As a consequence, only the major elements wil be outlined here. The IROR is included as part of the center rate of return. Its size is determined by the cost performance ratio. The Cost Performance Ratio--This is the relationship between actual and projected costs. A ratio greater than one indicates actual costs exceed the estimate; a ratio less than one indicates actual costs are less than estimated. The estimated costs are those filed with FERC prior to the issuance of the final certificate of public convenience and necessity. Actual costs are the direct costs of construction. Both sets will be exclusive of inflation. In addition, projected costs may be adjusted for changes in scope. These are defined as major events beyond the control of the equity investors and which they could not reasonably anticipate. Examples of events that might change the project scope are war, natural disaster, changes compelled by new laws or regulations, and delays. caused by the government. The cost performance ratio is used to determine the size of the IROR. The Rate of Return--The development of the IROR starts with the center rate of return (ROR). This is the return that is needed to compensate investors for the financial and business risks of the project. The ROR is developed from an operation phase rate plus a premium for project risks and a premium for IROR risks. The operation CRS-12 PAGENO="0237" 231 phase rate is the basic rate needed to compensate investors for the risks incurred after construction is complete and the line is in operation. The project risk premium compensates for the risk of noncompletion and other construction period risks since these are to be borne by investors and project beneficiaries, and not by consumers. The IROR risk permium is to compensate for uncertainty regarding the ultimate rate of return to be earned by the project sponsors. The ROR is the return allowed when the cost performance ratio is one. As the ratio increases the IROR portion of the ROR will be reduced, and vice versa. The IROR for each cost performance ratio is computed as the weighted average of the ROR and the marginal rate. The latter is the rate of return allowed on incremental investment above or below the base estimate. The Commission felt, however, that the establishment of an unusually high or low allowed rate of return over the 25 year life of the pipeline would create complications for future regu- lation of the line, and could impact the future financing of ex- pansions or additions. As a result, it decided to make a one time adjustment to the rate base once the pipeline starts operation, rather than set a lifetime rate of return. The operation phase rate will then be allowed on the adjusted rate base. The adjusted rate base will be computed using a standard discounted cash flow analysis. This will be designed so that the present worth of the return on equity and the return of equity over the operating life of the line cRS-13 PAGENO="0238" 232 is equivalent to the present worth of the return from applying the incentive rate of return to the unadjusted rate base. The Consaission order indicates the IROR would be 23.44% on the Alaska Segment and 17.62% on the Northern Border Segment, if costs are 20% below the budget. If costs are 30% above the budget then the rate of return would be 17.5% on the Alaska Segment and 13.92% on the Northern Border Segment. If costs are double those anti- cipated, the rate of return would drop to 14.17% on the Alaska Segment and 11.85% on the Northern Border. The result of these com- putations would mean that if the actual cost of the Alaska Segment was 20% less than anticipated, the rate base would be adjusted upward by 48.88%; if costs were 30% higher than anticipated the rate base would be adjusted upward by 18.13%, and if costs were doubled it would be adjusted upward by 0.9% for the Alaska Segment. The Northern Border Segment would be adjusted somewhat less (25.15% for a 20% underestimate, 5.02% for a 30% overrun, and a decline of 6.25% in the rate base for a doubling of cost). The project sponsors have insisted that they not be exposed to the risk of earning less than 13% on equity through the operation of the IROR. The rates of return established by the Commission do not reach 13% until costs overrun the original March 1977 estimates in the Decision by 140% for the Alaska and 60% for the Northern Border segments. It is at these levels of overrun that the President's decision suggests that the economics of the entire project should be reviewed. CRS-l4 PAGENO="0239" 233 It is the Commission's opinion that the IROR concept affords an ample opportunity to earn generous rates of return if the sponsors perform, and permits consumers to obtain the natural gas they need at an acceptable price. CRS-15 PAGENO="0240" 234 Part 2: Deliverability of Canadian Gas* Canadian gas, which potentially could be included in a pipeline from Alaska, would come fron Western Canada and, in the longer term, may also come from the Mackenzie Delta - Beaufort Sea region and/or the Arctic Islands area. Western Canadian Petroleum Province This region includes the sedimentary rock portions of the Prairie and the Northwest and Yukon Territories lying between the Precambrian Shield and the Rocky Mountains. Geology~ - This is the best known area in Canada in terms of subsurface geology and is in a mature stage of hydrocarbon exploration. 9/ The oil and gas region of Alberta is located in the southwestern part of the Western Canadian Sedimentary Basin and southern Saskatchewan and Manitoba are on the northern side of the Williston Basin. Both basins have simple structural geology and low regional dips. Most of the oil and gas in both basins occurs in stratigraphic traps. The Williston Basin in Saskatchewan and Manitoba is a simple, relatively shallow basin that has exhibited a low hydrocarbon potential. The best prospects appear to have been tested and the *Prepared by Joseph P. Riva, Jr., Science Policy Research Division. 9/ Department of Energy, Mines and Resources of Canada. Oil and Natural Gas Resources of Canada, 1976. Minister of Supply Services, Canada, 1976. Report EP77-l. p. 25. CRS-16 PAGENO="0241" 235 remaining potential appears to be small. 10/ The rocks in the basin range from Ordovician to Cretaceous (500 million to 65 million years old). In Alberta there is reasonable expectation for additional hydrocarbon discoveries in stratigraphic traps that are less obvious and perhaps smaller than those found to date, and in deeper parts of the basin that have yet to be thoroughly tested. Ill The hydrocarbon accumulations of Alberta may be considered in two groups, those occuring in the geologically complex foothills zone of the Rocky Mountains and those found in the gently dipping rocks beneath the Interior Plains. A number of large gas accumulations, some associated with oil, have been found in the foothills belt which separates the Rocky Mountains from the Alberta Plains. The fields are essentially complex fault structures which have been overthrust from the west. Most of the gas accumulations occur in Mississippian (345 million year old) dolonitic linestones, but there are also some Triassic(225 million year old) and Devonian (395 million year old) producers. 12/ The Alberta Plains, lying northweast of the foothills zone, consists of an area of about 190,000 square miles of mainly Mesozoic and Paleozoic strata (570 to 65 million years old). There are two principle types of hydrocarbon 10/ Ibid. 11/ Ibid. 12/ Tiratsoo, E. N. Oilfields of the World. Houston, Gulf Publishing Company, 1976. p. 281. CRS-l7 57-087 0 - 80 - 16 PAGENO="0242" 236 accumulations, Paleozoic reef limestone oilfields and Mesozoic sandstone gas accumulations. 13/ The deeper part of the Western Canada Sedimentary Basin lies in northeastern British Columbia. Because the region was deeply buried under sediments in the past and has a relatively high geothermal gradient in some places, the discoveries have mostly been of gas. Most of the drilling has been on surface indications or on features such as reef structures which are found by geophysical methods. Future exploration will most likely be for relatively deep stratigraphic traps. Exploration Activity--The Western Canada Sedimentary Basin is in a mature stage of hydrocarbon exploration. Almost 100,000 wells have been drilled in the region since the discovery of the Leduc oil field in 1947 and these wells have resulted in the discovery of over 3,000 fields, most of which occur within Alberta. The last major discovery in Alberta had *been in 1965 until the 1976 discovery of oil at West Pembina and gas at Elmworth-Wapiti. The Elmworth gas play cuts across a deep, gas prone area straddling the Alberta-British Columbia border. Between them, the two new discoveries have dominated Alberta drilling the past year. 14/ The Elmworth gas discoveries have been made mainly in the Lower Cretaceous rocks. Nearly 100 wells have been drilled, ranging from 6,000 to 12,000 feet in depth. Proved and probable reserves 13/ Ibid., p. 283. 14/ Crow, Patrick. Two big plays spur Canadian drilling flurry. The Oil and Gas Journal, February 26, 1979: 93. CRS-18 PAGENO="0243" 237 in the Elmworth area have been estimated at 6 trillion cubic feet. Economic considerations in the We~stern Canada region differ greatly from those in any of the frontier areas. The infrastruc- ture is already in place and the logistical problems are minimal. Thus, even the smallest pools are expected to be economic. Most of the larger structures have probably already been tested and exploration in the future will probably be devoted to searching for the remaining smaller structural pools and the downdip, tight sandstone gas accumulations of the deeper parts of the basin, such as Elmworth. Reserves, Resource Estimates and Production Capability--Proved gas reserves for %~estern Canada were estimated by the National Energy Board at 65.8 trillion cubic feet at the end of 1978. 15/ Projections of reserve additions for the area to the year 2000 vary considerably, from 32 to 103 trillion cubic feet. 16/ The fundamental thesis upon which the higher figures are based is that as reservoir quality deterio- rates larger and larger amounts of natural gas are trapped in the lower porosity sands. In areas such as Elmworth, the the gas is thought to be trapped by a gas-water interface where high water saturation of the low permeability rock reduces gas permeability to near zero, resulting in 15/ The National Energy Board. Canadian Natural Gas Supply and Requirements. Minister of Supply and Services, Canada, 1979. p. 8. 16/ Ibid., p. 9. CRS-19 PAGENO="0244" 238 water block. 17/ If conditions similar to those at Elmworth exist over the entire Deep Basin, the region may contain ultimate po- tential recoverable gas resources estimated at as much as 150 to 440 trillion cubic feet. 18/ The problem is slow rates of recovery, as it would take 40 years to recover the first 13 trillion cubic feet. 19/ The wells are very expensive as they are deep and massive hydraulic fracturing is necessary to stimulate gas production. There is a stated concern by the National Energy Board of Canada that the view that the Deep Basin contains a gas potential of as much as 400 trillion cubic feet may be misleading to those who may wrongly assume that Canada has an additional resource of such magnitude to serve its short and medium term requirements. 20/ The ultimate gas potential for Western Canada is estimated by the National Energy Board to range between 126 trillion cubic feet (the low case) and 156 trillion cubic feet (the high case) with 146 trillion cubic feet the expected case. 21/ Alberta's Energy Resources Conservation Board has recently projected its ultimate natural gas resources at 130 to 140 trillion cubic feet 17/ Masters, John A. Deep basin gas trap, western Canada. The American Association of Petroleum Geologists Bulletin, February 1979: 181. 18/ Ibid. 19/ Canadian Natural Gas Supply and Requirements, p. 18. 20/ Ibid., p. 19. 21/ Ibid., p. 10. CRS-20 PAGENO="0245" 239 and raised established reserves to 86.3 trillion cubic feet. 22/ Industry has indicated that the ultimate gas resource of the Deep Basin ranges from 140 trillion feet at current prices to 264 trillion cubic feet at $3.50 per thousand cubic feet. 23/ Problems of markets and transport are apparent in the Canadian gas industry. The number of producing gas wells in- creased from 7,954 at the end of 1976 to 12,944 at the end of 1977. Production, however, increased from 3.07 trillion cubic feet per year to only 3.18 trillion cubic feet per year. 241 In general for Canada, the National Energy Board pro- jects a gas supply availability of 3.5 trillion cubic feet in 1979, a 3.8 trillion cubic feet peak in 1981, and a decline to 1.9 trillion cubic feet in 2000. Gas export policy is based on these production projections along with reserve and reserve addition estimates. In estimating future gas pro- duction, and thus exports allowed, the Board has been con- servative in using reserve additions only in conventional areas, primarily Western Canada, and in assuming production rates of about half those of the United States. 22/ Alberta hikes gas reserves estimates. Oil and Gas Journal, September 10, 1979: 103. 23/ Canada deep basin gas seen at 140-264 trillion. Oil and Gas Journal, February 26, 1979: 58. 24/ Naciej, Hans. Canada: The emphasis is on exploration. World Oil, August 15, 1978: 62. CRS-21 PAGENO="0246" 240 Mackenzie Delta - Beaufort Sea Petroleum Province This province includes the onshore part of the Mackenzie Delta and the offshore Beaufort Sea, extending to the edge of the con- tinental shelf. Geology--The region is underlain by deltaic sandstones and shales of Mesozoic and Tertiary age (7 to 225 million years old). These sediments thicken rapidly northward to more than 40,000 feet under the Beaufort Sea, only a few miles from shore. These deltaic sedi- ments overlie faulted older Paleozoic rocks, which rise to the surface and are exposed in the southern part of the region in Aklavik Arch. The Tertiary rocks contain the most important sandstone reservoirs, but there is also petroleum potential in porous sandstones of Mesozoic ages. Possible traps for hydro- carbons include folds, block faults, and updip permeability barriers. Exploration Activity--Significant exploration activity in the pro- vince began in the 1960's with the first hydrocarbon discovery at Atkinson in 1969. Since that time a number of significant discoveries have been made. About 15 possible oil and gas fields have been found onshore. At least three of the gas fields are reported to be of commercial size. The greatest potential, however, appears to be in the offshore areas of the Beaufort Sea, the area of thickest sediments. The rate of exploration in this most difficult drilling environment is controlled by the availability of specialized drill ships and icebreakers. Drilling since 1975 has provided evidence that the Beaufort Sea portion of the region has significant hydrocarbon potential. The drilling, plus over 40,000 CRS-22 PAGENO="0247" 241 miles of seismic survey lines, has indicated that there are 45 or more geologic structures which may contain petroleum. The structures appear to be reasonably large. Thus far there have been five gas and two oil discoveries. The K-50 Nektoralik well tested oil and gas at rates as high as 1,150 barrels of oil per day and 10 milllion cubic feet of gas per day. The Nektoralik structure covers an area of about 42 square miles. The C-50 Ukalerk well tested gas at 16.9 million cubic feet per day and 1,150 barrels of oil per day. The Ukalerk- Tingmiark structure is about 150 square miles in areal extent. 25/ A recent discovery, the M-13 Kopanoar, flowed oil at a rate of 6,000 barrels per day for a three hour test.. The zone tested was 40 feet thick, but the oil productive interval exceeds 200 feet, at a depth of 11,500 feet. 26/ The Kopanoar struc- ture covers an area of about 55 square miles. The well may be capable of producing as much as 12,000 barrels of oil per day from the tested interval. 27/ Another well is being drilled off- shore at Nerlerk, but all drilling will stop in late October for the winter and will not begin again until June or July. The discoveries to date, as well as the geology indicate that a significant hydrocarbon resource may exist 25/ McCaslin, John C. High-flowing discovery enhances Arctic. Oil and Gas Journal, September 17, 1979: 141. 26/ Ibid. 27/ Open waters of Beaufort host major oil strike. The Oil and Gas Journal, September 17, 1979: 42. CRS-23 PAGENO="0248" 242 in the province but because of the deltaic nature of the Tertiary deposits, a large number of moderate size pools are expected. 281 Also, this type of geological environment suggests that the fields may be broken into many pools by the abundant normal faults and that reservoirs may be stacked above each other so that multiple productive zones may be anticipated in any one structure. 29/ These characteristics will complicate recovery, reserve calculations, and economics. However, almost as important as sizable reserves is sufficient reservoir permeability and thickness for high hydrocarbon deliverability. Production wells and equipment are very expensive in this environment, and only re- latively few new holes are possible in each short drilling season. Thus, each well must be highly productive to be economic. Reserves, Resource Estimates, and Production Capability--The National Energy Board of Canada investigated the gas potential of the Mackenzie Delta-Beaufort Sea area at the end of 1978. The Board's find- ings regarding established marketable gas in the region was an estimated 5.3 trillion cubic feet. 30/ A later industry estimate of the proved reserves is 7.5 trillion cubic feet of gas and one half billion barrels of oil. 31/ It is believed that the gas re- 28/ Oil and Natural Gas Resources of Canada, 1976, p. 31. 29/ Ibid. 30/ Canadian Natural Gas Supply and Requirements, op. cit., p. 1. 31/ McCaslin, John C. High-flowing discovery enhances Arctic. CRS-24 PAGENO="0249" 243 serves in the region are adequate to meet the threshold require- ments for a gas pipeline which could carry 260 billion cubic feet of gas per year in the late 1980's. 32/ Any estimate of the rate of additions to reserves in the region must be regarded as speculative. The drilling season is short and depends upon the weather. Progress is also affected by economic, regulatory, and political decisions as well as by success in exploration. The Canadian Energy Board accepted a range of estimates which might be attainable by the year 2000, given the requisite levels of exploration and de- velopment. 33/ The range was between 17 and 23 trillion cubic feet. 34/ Industry estimates of gas potential are much higher than this, but no time frame for recovery factors are given. Dome Petroleum, a company active in the region, estimates a potential of 250 to 320 trillion cubic feet of gas. 35/ Com- parable estimates have been made by the Geological Survey of Canada. These projections, called ultimate potential, range from: 39 trillion cubic feet (90 percent probability); to 60 trillion cubic feet (50 percent probability) to 99 trillion cubic 32/ Crow, Patrick. Canadian frontier potential still high; but production distant. The Oil and Gas Journal, February 26, 1979: p. 89. 33/ Canadian Natural Gas Supply and Requirement, p. 36. 34/ Ibid., p. 33. 35/ Crow, Patrick, p. 88. CRS-25 PAGENO="0250" 244 feet (10 percent probability). 36/ These estimates are considerably lower than those of Dome. A reserve of even 5.3 trillion cubic feet of gas would be suf- ficient to support a 260 billion cubic feet per year gas pipeline. However, at the tested production rates, over 50 production wells would be required to deliver that amount of gas. To accomplish this level of development within the next ten years, given the short drilling season and the serious technical difficulties of offshore production in an area where polar pack ice which is subject to shearings and the formation of pressure ridges scours the sea bottom in waters up to 150 feet deep, will be very expensive and require an immense effort. Arctic Islands Petroleum Province The Canadian Arctic Archipelago includes all of the islands north of the Canadian mainland and west of Greenland. Geology--The Sverdrup Basin is generally regarded as the Arctic Islands region having the best potential for hydrocarbon production. This region is located in the northern part of the Queen Elizabeth Islands. The major axis of the Sverdrup Basin trends in a southwesterly direction from western Ellesmere Island to northern Melville Island. The basin has an area of about 121,000 square miles of which 65,000 is covered by water. It is a very large sedimentary basin which first formed in early Carboniferous time (about 345 million years ago), and contains more than 30,000 feet of mostly sandstone and shale sediments in its 36/ Canadian Natural Gas Supply and Requirements, p. 34. CRS-26 PAGENO="0251" 245 center. The most important hydrocarbon discovery trend has been an area of large, low relief domal features along the southern margin of the basin, but other possible hydrocarbon traps include faulted structures, updip permeability barriers, and salt related structures. The Arctic fold belts region occurs in the form of a band along the southern margin of the northern Arctic Islands and borders the north side of Viscount Melville Sound. The region is underlain by a wedge of carbonate rocks which thickens into a deeper basin to the north. It contains rapidly changing sedimentary facies, with shales (potentially rich source rocks) interbedded with carbonate rocks (potential reservoir rocks) in an area called the hingeline of the basin. This hingeline is the location of the best hydro- carbon potential of the region. 37/ The region is highly complex with large elongated folds, reef buildups, and updip permeability barriers as potential traps for oil and gas. Exploration Activity--Significant exploration activity began in the Sverdrup Basin in 1969. Since that time over 130 holes have been drilled and a number of discoveries have been made. Major gas fields have been found on northern~Melville Island (the Drake Point and Hecla fields) and five smaller gas fields were located in the area of King Christian and Ellef Ringnes Islands. Drilling emphasis has shifted from onshore to offshore as apparently no large undrilled struc- 37/ Oil and Natural Gas Resources of Canada, 1976, p. 35. CRS-27 PAGENO="0252" 246 tures remain on land. The sea is ice-covered most of the year, however, and the technology has been developed to drill fron reinforced ice platforms with land rigs. A major recent offshore gas discovery was the Panarctic AIEG Whitefish H-63. The 6,400 foot well encountered a gas producing zone between 6,231 and 6,378 feet. The zone tested at 8.1 million cubic feet of gas per day, but is thought to be capable of producing substantially higher volumes. It and a second productive zone, were not fully tested because of the deteriorating condition of the ice platform from which the well was drilled. 38/ The Whitefish H-63 is thought to be a large field with up to 5 trillion cubic feet of gas reserves. 39/ The Drake Point field is estimated to contain reserves of 5.2 trillion cubic feet and the Hecla field to have reserves of 3.5 trillion cubic feet. Although the hydrocarbons in the Sverdrup Basin are expected to be dominantly gas, there is the possibility of finding significant oil deposits as well, but it is thought that the oil would most likely occur in the older rocks in the margins of the basin. Most future gas discoveries will probably be made offshore. 40/ Only afew wells have been drilled in the Arctic Fold Belts. There has been one noncommercial discovery of oil at Brent Horn on 38/ Panarctic hails gas strike in Arctic Islands. The Oil and Gas Journal, May 28, 1979: 58. 39/ Ibid. 40/ Oil and Natural Gas Resources of Canada, 1976, p. 33. CRS-28 PAGENO="0253" 247 Cameron Island. Brent Horn wells have been gauged at rates of up to 3,500 barrels per day, but production is from cavernous rock and sufficient reserves for commercial production have not as yet been proved. However, the region has not been well ex- plored, and has the geological potential for a significant hydro- carbon resource. The Brent Horn oil discovery is important as it is a first clear indication that hydrocarbons have been generated and have migrated and accumulated in the region. Reserves, Resource Estimates, and Production Capability--The National Energy Board of Canada estimated that the established marketable gas reserves in the Arctic Islands totaled 9.2 trillion cubic feet at the end of 1978. Industry estimates were somewhat higher at 11.8 trillion cubic feet. 41/ With the addition of an estimated 5 trillion cubic feet from the Whitefish H-63 field, latest total proved reserves according to industry would be about 16.8 trillion cubic feet. Threshold proved reserve volumes for a 42 inch gas pipeline to southern markets are considered to be between 20 to 30 trillion cubic feet. 42/ Thus, estimated proved reserves are approaching the volumes needed to support such a pipeline. The gas wells drilled thus far have tested as good producers. Flows have ranged from 20 to 75 million cubic feet per day. Therefore, fewer wells may be ne- cessary to realize the same gas production volumes in the Arctic 41/ Crow, Patrick, p. 90. 42/ Panarctic hails gas strike in Arctic Islands, p. 58. CBS-29 PAGENO="0254" 248 Islands as in the Beaufort Sea. Also, the drilling is not entirely dependent upon the seasons, although the rigs must be moved from the ice platforms during the summer. The Energy Board accepted a range of estimates regarding the rate of projected additions to gas reserves in the Arctic Islands. These additions, which might be attainable by the year 2000, given the requisite levels of exploration and development, range from 16 to 42 trillion cubic feet. 43/ The ultimate gas potential has been estimated by industry to be 100 to 125 trillion cubic feet. 44/ The Geological Survey of Canada, however, estimates ultimate gas production potential for the Arctic Islands ranging from 24 trillion cubic feet (90 percent probability), to 51 trillion cubic feet (50 percent probability), to 106 trillion cubic feet (10 percent probability). 45/ While the proved natural gas reserves in the Arctic Islands exceed those of the Mackenzie Delta region they are still below the threshold volume considered necessary for a pipeline. However, especially in view of the recent discovery at Whitefish H-63, prospects appear reasonably good for future discoveries that will increase proved gas reserves to volumes acceptable for pipeline construction (between 20 and 30 trillion cubic feet). However, the rate at which these 43/ Canadian Natural Gas Supply and Requirements, p. 33. 44/ Crow, Patrick, p. 89. 45/ Canadian Natural Gas Supply and Requirements, p. 34. CRS-30 PAGENO="0255" 249 additions might be made is affected by economics, regulatory decisions, and political conditions as well as by success in drilling. CRS-31 PAGENO="0256" 250 Part 3: Prebuilding and Design Issues* Prébuild Issues Prebuilding a portion of the Alaska gas pipeline was originally conceived to help prove the Alcan proposal could be financed totally by the private sector. Alcan's sponsors maintained that prebuilding most of the eastern leg of the Alaska gas pipeline, hooking it up to surplus Alberta gas supplies, and selling the gas in the U.S., would generate needed revenues to help finance the rest of the pro-. ject. The prebuild plan called for the Northern Border Pipeline Company, presently composed of Northern Natural Gas and Panhandle Eastern Pipeline, to construct an 809 nile pipeline from the international border to Ventura, Iowa (see map) for operation in 1981. Northern Natural would receive 200 million cubic feet per day (Mcf/d), Panhandle Eastern 150 Mcf/d, and United Gas Pipe Line Company 450 Ncf/d. The balance of 240 Mcf/d is designated for the West Coast via the western leg (see map). Prebuilding the pipeline, however, has run into delays. First, the entire project has been delayed due to uncertainties surrounding the project. Second, the prebuild concept had assumed approximately 1.04 billion cubic feet per day (bcf/d) of Canadian gas would be avail- able for export to the U.S. over the next 12 years. The Canadians simply cannot guarantee this magnitude of supply over that period of time. *Prepared by Gary J. Pagliano, Environment and Natural Resources Division. CRS-32 PAGENO="0257" _____ Cod ~ ~ ,~±-Cod.~' ______ - ,) i i ~ ~ * I ~ Oemp~u LW. esao..st AMska ~`. I (#-.) ~ ,`.~ .~ ~`~L ) \ tuadW.sle P~O..C.mpsa~ Alaska ~ - - 131W.ss.4*LWS 2.0 ,~. ,~ ,_ 17.0 ~ (irnepWi. -~1..._ ~ . -~ ~ IiLIapq ALASKA ~~___.---- - < 18.0 ~ -UI W.se, 4I"LiN 3Ø~,, ~ `o ..- I (12 ~ D~so~Q~LZ~ - -- --~ ,, - .-- ____ %~~7/~\ ~ ~cr 50: Wtdtehorse ~ * - - (Mu) LW. FNLMOSPI9SUQSI ~. ---....,-.. t~4 ~ - 6.0 3O5MM..51~LWe (A1u)LW. ~ / ~jj--~ - ~ ..-- 70 (181 ML PThO) `~° s ~ - - -~ -- (1210pM) /\N,~'J ~ ~--- -- FuMs P10 LImes *---A:. N,. /`~ 6 CANA~A `~ - 8.0 23$ MaIms, 42 Lies (0W.0 U.) LW. ~`-.. ~ ---- (23001 Pn.Ou*) 101 W.ss.31LIM 13.0 `N. $7 -~` (IZOOpI) (UMLPP1OSO) -- i PS~ -- -t-'-----*~\~ `~ ~.. 9.0 llOMIss,42'Use I ~ ~W. 14 -~ \ (10001. Pmba~) ~ ILQ -~4~-'\ 0 ~ ~ 12on.~ I. (10O5~.Pvs~eI) 15.0 15 ~ 100 0e~t1OIIdes (011 psI) _.._ * S .` `` ` -- PlpMesC..paay `~e~& euo 16 ~~r~Leg %.~ -- 110 ~ 180 ig.' , ~ - (1140pM) (111pM) _,,.- , ... Mailbeest [i~ihero Border] ". 18.0 ` -~:. -... Legend: ~ 201! [~at ANGTS Total 24' LespW / ~-J~_\ ... - ,,. ~ Line - Dempster Line *ee*eue * Lateral off the Western Leg ...... 1.0 System-wide project management. `. . . ,_ ~EI Paso Natural Gas Company existing bne to ha u%ed. Figure `I. ANGTS AND RELATED PIPELINES PROPOSED LOCATION CODES FOR MANAGEMENT INFORMATION SYSTEM PAGENO="0258" 252 Uncertainties--The uncertainties surrounding the Alaska gas project are due to financing, rate of return and construction uncertainties. First, in terms of financing, the pipeline will cost at least $15 billion, making it the costliest private or public project in history, and thus difficult to finance. Compounding that problem is the relatively small size of the sponsoring pipeline companies, with a corresponding lack of the proper credit rating for such a large scale project. The Alaskan natural gas producers (Arco, Exxon and Sohio) have a higher credit rating, but by law are prohibited from owning any equity interest in the line. To increase the credit rating of the sponsoring pipeline companies, the producers are being encouraged to participate in the project's debt financing. Similarly, the State of Alaska is being encouraged to participate in both the project equity and debt financing. The producers and the State of Alaska are encouraged to share some of the financial risk because of the large benefits each will derive from the project. So far, the producers and the State of Alaska have not made any commitments. S Second, the project's unique rate of return system poses additional risk for investors. A variable rate of return structure has been established to reward or punish the sponsors for meeting or ex- ceeding cost targets (see part 1 for a fuller discussion of this issue). Finally, potential construction problems exist particularly for the Alaska segment of the pipeline. The frigid climate, permafrost, and the mountainous terrain make it difficult to project how long it will take to build the pipeline and how much it will cost. The frost heave problem CRS-33 PAGENO="0259" 253 is an example of the unique Arctic hazards. Freezing action in nonpermafrost and discontinuous permafrost regions can cause vertical soil movements of several feet. To determine more accurately what might happen under various conditions, Northwest Alaska Pipeline Company, project sponsor for the Alaska segment, has established a frost heave test facility in Fairbanks. 46/ It should be emphasized that like a chain, a pipeline project is as strong as its weakest, most risky segment. The Alaska segment represents that most risky segment, thus casting doubt over the whole project. The doubt makes it difficult to induce large institutional investors such as insurance companies and pension funds to put up the billions of dollars needed to finance the pipeline. If any segment of the pipeline were not completed, especially the Alaskan segment, lenders would not get their money unless there was third party completion guarantee. The prebuild proposal helps to counter some of the project un- certainties. It gets the project started and focuses on a techni- cally easy-to-construct pipeline segment. The entire Alaskan project is going to be financed on a "project financed" basis instead of "balance sheet" financed basis because of the insufficient asset size of the pipeline sponsors. In project financing, the project is rated only on its own economic merits, thus the sooner cash begins flowing the 46/ Hale, Dean. Frost heave tests underway for Alaska Gas Pipeline. Pipeline and Gas Journal. September 1979: 24. CRS-34 PAGENO="0260" 254 better. Prebuild, by sending Canadian gas for sale in the U.S. before the Alaska segment is completed, gets cash flowing as soon as possible. The reduced construction hazards on the prebuild section indicates a lower probability of cost overruns and a more predictable rate of re- turn. Alberta Gas--The quantity of Alberta gas exportable to the U.S. in the future is now under consideration by the Canadian National Energy Board (NEB). In February 1979, the NEB announced that a total of two trillion cubic feet of new natural gas (tcf) would be available for export during the next eight years. This announcement makes the pre- build proposal doubtful. It would require 50 percent more gas over the same period of time. Rightly or wrongly, and the sponsors have not clarified this point, it has been assumed that the prebuild volume of 1.04 bcf/d was the minimum necessary for the prebuild pipeline to neutralize some of the uncertainties associated with the entire project. There is, however, a possiblity that Alberta export volumes, the main source of Canadian gas exports, could increase. The NEB authorized ceiling of 2 tcf was based on the 1978 Alberta Energy Resources Con- servation Board (AERCB) estimate that Alberta's ultimate recoverable gas resources were 100 tcf. Recently, the AERCB has revised its ultimate gas resource estimate to 130-140 tcf. The revised AERCB estimates increase the province's surplus available for export by 3-5 tcf. 47/ 47/ Oil and Gas Journal. Alberta hikes gas reserve estimates. September 10, 1979: 103. CRS-35 PAGENO="0261" 255 The new figures are likely to influence the NE~ which is considering export applications totaling about 9 tcf. Even if the NEB increases the gas export ceiling, the probability is that the new volumes will not satisfy the prebuild pipelines 12 year requiremnet. Canada's top priority at this time, is to satisfy its own energy demands from Canadian sources. If Canada's oil imports were reduced or terminated, it is most likely a shift to natural gas would result, thus reducing the exportable gas surplus. Further, the Canadians feel construction of the entire Alaska gas pipeline would provide a major economic boost to their country. Some estimate that in the early 1980's it would contribute one percent to Canada's Gross National Product (GNP). In addition, once the Alaska gas pipeline is operating, it gives Canada access, via the Dempster Highway Lateral Pipeline (see map), to recently discovered new gas supplies in the Beaufort Sea and the Arctic Islands, as well as to the Mackenzie Delta gas. A long-term, guaranteed supply of Alberta gas, along with the uncertainties in constructing the Alaska segment, raises the possibility that only the prebuild pipeline would be constructed. Canada would like to avoid that scenario. As a result, the prebuild proposal will most likely be held captive until the fate of the entire Alaska gas pipeline is finally decided. CRS-36 PAGENO="0262" 256 Design Questions The main design questions relate to the appropriate diameter and pressure for two segments of the Alaska gas pipeline: the Alaska and Canadian segments. FERC recently decided that the proper pipeline pressure for the Alaska pipeline segment would be 1260 pounds per square inch above atmospheric pressure (psig). The Canadian National Energy Board (NEB) in February 1978 decided that most of the Canadian pipeline segment would be 56 inches in diameter. The Canadian decision was controversial because there are no American companies that can manufacture such large diameter pipe. With only Canada and 1 or 2 other countries in the world having such manufacturing capacity, the NEB decision was viewed by some as a "policy" to reduce American business opportunities. The Alaska Segment--The 1977 Presidential report to the Congress stipulated the Alaskan pipeline segment would be 48" in diameter and operate at a maximum pressure of 1260 psig. 48/ To finalize the pipe- line's specifications, FERC proceeded with a certification process in 48/ Executive Office of the President. Energy Policy and Planning. Decision and Report to Congress on the Alaska Natural Gas Transportation System. September, 1977. CRS-37 PAGENO="0263" 257 which comments from Alaskan Northwest, the pipeline sponsor, and the State of Alaska were considered. Alaskan Northwest concurred with the President's decision. The State, however, expressed concern that the 1260 psig pressure might preclude two important options--development of a petrochemical industry and restriction of siting of the gas conditioning facilitites. In the case of petrochemicals, this industry would be based on Prudhoe Bay's natural gas liquids. A higher pressure would tend to increase the possiblity of using the pipeline to transport petro- chemicals, since there is some relationship between pipeline pressure and the ability of the gas stream to carry the gas liquids. Insofar as siting is concerned, if the gas conditioning facilities were located in Fairbanks, the Alaska pipeline segment connecting Prudhoe Bay and Fairbanks would require a higher operating pressures than 1260 psig. After some deliberation, FERC ruled to finalize the original specification of a 48" diameter pipe and 1260 psig operating pressure. 49/ The Canadian Segment 50/-An important question from the onset in the the U.S.-Canadian negotiations concerning the Alaska gas project was the diameter and operating pressure of the Canadian pipeline segment. The 49/ Order Approving Alaska Segment Design Specification and Initial System Capacity. FERC. Docket Nos. CP 78-123, et. al., August 6, 1979. 50/ The following discussion is based on the statement of Don S. Smith, Vice Chairman-FERC, before hearings entitled "U.S. Industry Participation In Construction Of Alaskan Natural Gas Pipeline. Hearings were before the Subcommittee on Energy and Power, House Commmittee on Interstate and Foreign Commerce. April 24, 1978. Serial No. 95-139. CRS-38 PAGENO="0264" 258 The NEB originally selected a 48" diameter pipenine operating at standard pressure of 1260 psig. The U.S. negotiating team suggested a higher operating pressure in order to increase the pipeline efficiency. The Canadians, however, expressed severe reservations about high pressure technology on safety and reliability grounds. To address the pipeline size issue, the U.S.-Canadian agreement 51/ on the project called for the NEB to consider 54', 1120 psig pipe; 48', 1260 psig pipe; 48", 1680 psig pipe, or any other size pipe for the system's safe, reliable and economic operation. On February 13, 1978, the U.S. filed a technical report with the NEB pointing out the economic advantages of a higher pressure 48" pipeline over the larger diameter alternative. During subsequent U.S.-Canadian technical meetings, the U.S. sug- gested that if a larger pipeline were chosen, it should be a 56" system instead of the 54" system mentioned in the prior negotiations. The rationale for this change was that 56" was the standard world size for pipe in excess of a 48" diameter, and that size system offered operating advantages over the 54" system. On February 21, 1978 the NEB selected the 56" system. Canadian Procurement Policy-The NEB decision focused attention on a long standing Canadian procurement policy, known as "Candian 51/ "Agreement Between the United States of American and Canada on Principles Applicable to a Northern Gas Pipeline", Section 10, August, 1977. CRS-39 PAGENO="0265" 259 Content. Canadian business participation is an issue in both countries because some Canadians feel that their government did not go far enough to guarantee higher levels of Canadian Content on the Alaskan project, while U.S. firms feel that the Canadians have been assured too many business opportunitites on the project. To address the "Canadian Content" issue, Sections 7 and 8 were added to the "Agreement on Principles." 52/ Section 7 provides a standard of "generally competitive terms" which outlines factors to determine whether or not competition was unfairly restrained on the project, and sets out remedies such as renegotiation of con- tracts or reopening of bids. Section 8 provides a consultation mechanism to resolve differences. Providing added assurance to U.S. firms is the Alaska Natural Gas Transporation Act of 1977, which established the U.S. Office of the Federal Inspector to oversee the regulatory and other aspects of constructing the Alaska gas pipeline. In addition, FERC has indicated the Office of the Federal Inspector will contain a special competition section. The new group will attempt to resolve complaints about the lack of competition in supplying goods and services to the project's Canadian segment. 52/ "Agreement Between...." op. cit. CRS-4O PAGENO="0266" 260 Issues Relating To The Proposed Alaska Highway Gas Pipeline Project This Project currently is scheduled for com- pletion in 1984-about 2 years later than anticipated in 1977-as an entirely private en- terprise. Two key remaining issues concern the requirements that will be included in the right-of-way agreements and how the gas- conditioning costs will be treated. At this time the sponsors are working to privately finance the Project. Notwithstanding this, the question of Federal financing assist- ance for the Project's Alaskan segment has been publicly discussed by U.S. officials. This report emphasizes GAO's prime concern that, if Federal financial assistance is pro- posed, the Government be in a position to make an informed decision. PAGENO="0267" 261 ISSUES RELATING TO THE PROPOSED ALASKA HIGHWAY GAS PIPELINE PROJECT DIGEST When the President and the Congress approved construction of the Alaska Highway Gas Pipe- line Project--a system to transport natural gas from northern Alaska to midwestern and western U.S. markets--in 1977, they speci- fied that the Project should be privately financed; Federal financing assistance was "explicitly rejected" and the administration's official position has not changed. (See pp. 8 and 9.) However, on January 23, 1979, in response to a question from the Joint Economic Committee, the Secretary of Energy discussed the possi- bility of $2 billion to $3 billion in Federal loan guarantees for the Alaskan segment of the Project. (See pp. 19 to 21.) If Federal financing assistance is requested, Project proponents undoubtedly will urge the Congress to quickly provide the needed assis- tance. At the same time, alternatives may exist which could secure or conserve a similar or greater amount of gas. Among the potential alternatives are --conservation steps, --intensified drilling in the lower 48-States, --liquefied natural gas, --Mexican and Canadian gas, and --unconventional domestic resources. (See pp. 25 to 32.) Chapter 3 briefly discusses data and concepts relevant to the questions that need to be answered before a decision is made. (See pp. 22 and 23.) The data are not GAO predic- tions; rather, they represent one of several possibilities. EMD-80-9 1 PAGENO="0268" 262 GAO has no conclusions on what the congres- sional decision should be but believes that its recommended analyses should help objective decisionmaking. THE PROJECT IS DELAYED The Project's original time frame to deliver Alaskan gas to the lower 48-State markets is delayed from early 1983 to at least late 1984. The sponsors' schedules to deliver Canadian gas by the winter of 1979-80 are delayed to November 1980 for service to the West and November 1981 for t3eliveries to the Midwest. (See p. 5.) FURTHER DELAYS ARE POSSIBLE Two key issues concern the requirements that will be included in the right-of-way agree- ments and how the gas-conditioning costs will be treated. (See pp. 11 to 13.) Since the pipeline will be built on public lands, the State and Federal Governments will grant right-of-way agreements which give permission to use these lands. To protect the public interest in these lands, the agreements will include environmental and technical requirements that must be followed when building and operating the system. Based on the Government's experience with the oil pipeline, disagreements may lead to lengthy proceedings. Before this Project can transport any Prudhoe Bay gas, the gas must be conditioned to remove impurities, compressed, and chilled. Since the conditioning plant may cost about $2 billion, the treatment of the conditioning costs can affect the gas price and marketabil- ity--a key to the Project's viability and, thUs, its ability to be privately financed. MATTERS FOR CONGRESS The Congress should not consider Federal financial involvement until all regulatory procedures are completed and the sponsors show conclusively that the Project~ cannot 11 PAGENO="0269" 263 be financed privately. Should financial aid for the Project be requested, the Congress should evaluate alternative sources of natural gas as well. If the Congress decides to grant financial aid, it should evaluate all feasible alternatives for Federal financial involvement (not just loan guarantees). RECOMMENDATION TO THE SECRETARY OF ENERGY Decisions on the Project cannot be isolated from the Nation's total energy situation. This is especially true in light of develop- ments since the first decision on this Project, the uncertainties noted in this report, and the President's July 16, 1979, Import Reduction Program. The Department of Energy should analyze and propose how the Project fits in to the overall energy picture and show how the cost of Project gas relates to the cost of alternative sources. GAO recommends that: --The Secretary of Energy, within 60 days from the date of this report, provide the Congress an analysis showing how this Project now fits in with the overall national energy plan and strategy to satisfy the Nations' future energy needs. Items included in this analysis should include, for the Project and each feasible alternative, detailed informa- tion on the (a) amount of gas that would be supplied, (b) time frame for delivering the gas, (c) costs, and (d) impact of U.S. re- liance on foreign energy and international implications. -In addition, if the sponsors officially state that the Project cannot be privately financed or Federal financing assistance is requested, the Secretary of Energy should provide the Congress, within 90 days of that occurrence, his recommendation on the matter of Federal financial involvement. The Secretary, in support of his recommen- dation, should provide a detailed analysis of the Project and alternatives which could 3.11 PAGENO="0270" 264 secure or conserve a similar or greater amount of gas or equivalent amount of energy. The analysis should --demonstrate why his recommendation is the best course of action and --compare the benefits that each source could provide if it received the same amount and type of Federal financial assistance or an amount approximating that requested for the pipeline. Using this information, the Congress could then make an informed decision on how best to invest Government funds to meet national energy needs. GOVERNMENT AND COMPANY COMMENTS GAO received lengthy comments on the draft of this report. ~See app. II through IX.) Appen- dix X contains GAO's detailed responses to these comments. Government The Department of State believes that GAO is premature in discussing Federal financial assistance. In GAO's view, being alert to possible events is good public policy. Thus, GAO continues to recommend that a framework be established for Government analyses if Federal assistance is requested. (See app. IV.) The Federal Energy Regulatory Commission and the Department of Energy (see app. II and III) object to the approach GAO uses in chapter 3 in discussing natural gas supply and demand. GAO uses the difference between estimated demand and supply from conventional domestic supplies. They suggest that the price of imported oil is a more analytically correct approach. The Department of Energy d id not comment on the substance of GAO's recommendations--only the timing. GAO uses its approach to emphasize the need for indepth analyses of our energy situation iv PAGENO="0271" 265 in a future increasingly .deficient in conven- tional energy sources. This concept is found in the President's Decision and Report to the Congress on the Alaska Natural Gas Transpor- tation System and in the National Energy Plan (April 1977). GAO does not accept that using the price of imported oil is more analytically correct. Although important, price is not the sole consideration in national energy policies. The Department of the Interior focuses on economic issues that it thinks should be a part of this report. Such issues could be a part of the analyses that GAO recommends. Federal Inspector for the Alaska Watural Gas Transportation System The Federal Inspector was reluctant to pro- vide detailed comments. However, he had reservations about some of GAO's analyses and recommendations. Company The Northwest Alaskan Pipeline Company, the Northern Natural Gas Company, and the Pacific Gas and Electric Company questioned some of the report's data but provided no alterna- tive information. v PAGENO="0272" 266 C 0 n t e n t S DIGEST j CHAPTER THE ALASKA HIGHWAY GAS PIPELINE PROJECT 1 Its route 1 Project sponsors 3 The Project is delayed 5 Review scope 7 2 IMPORTANT ISSUES REMAIN TO BE RESOLVED 8 Government actions to bring the Project on-line 8 A Federal Inspector is finally on the job 10 Two key issues remain 11 Sponsor-perceived risks of abandonment 13 The Secretary of Energy raises another issue--the possibility of loan guarantees 19 3 ALTERNATIVES AND OPTIONS SHOULD BE EVALUATED BEFORE CONSIDERING FEDERAL FINANCIAL INVOLVEMENT 22 Alternatives to Project gas may be possible 24 The long-term outlook for domestic natural gas production is poor 24 Conservation's potential is largely untapped 25 Project gas may minimally affect energy imports 32 Project gas may minimally affect the balance of payments 34 4 CONCLUSIONS AND RECOMMENDATIONS 36 Conclusions 36 Matters for congressional consideration 38 Recommendation to the Secretary of Energy 39 PAGENO="0273" 267 CHAPTER 5 AGENCY AND COMPANY COMMENTS AND OUR EVALUATION 42 Department of State 42 Federal Energy Regulatory Commission 42 Department of Energy 43 Department of the Interior 44 The Federal Inspector for the Alaskan Natural Gas Transportation System 44 Northwest Alaskan Pipeline Company 44 Northern Natural Gas Company 45 Pacific Gas and Electric Company 45 APPENDIX I Federal Energy Regulatory Commission Rulemaking to Develop a Variable-Rate- of-Return Mechanism 46 II Letter dated July 13, 1979, from the Federal Energy Regulatory Commission 57 III Letter dated July 12, 1979, from the Department of Energy 67 IV Letter dated August 3, 1979, from the Department of State 73 V Letter dated July 30, 1979, from the Federal Inspector for the Alaska Natural Gas Transportation System 80 VI Letter dated September 4, 1979, from the Department of the Interior 81 VII Letter dated July 10, 1979, from the Northwest Alaskan Pipeline Company 84 VIII Letter dated July 12, 1979, from the Northern Natural Gas Company 85 57-087 0 - 80 - 18 PAGENO="0274" 268 APPENDIX IX Letter dated July 12, 1979, from the Pacific Gas and Electric Company 87 X Agency comments and GAO's detailed responses 89 Federal Energy Regulatory Commission 89 Department of Energy 105 Department of State 119 Federal Inspector for the Alaska Natural Gas Transportation System 129 Department of the Interior 130 Northwest Alaskan Pipeline Company 136 Northern Natural Gas Company 138 Pacific Gas and Electric Company 140 ABBREVIATIONS ANGTA Alaska Natural Gas Transportation ~ct ANGTS Alaska Natural Gas Transportation System BCFD billion cubic feet per day Btu British thermal unit DOE Department of Energy EIA Energy Information Administration EPB Executive Policy Board FEA / Federal Energy Administration FERC Federal Energy Regulatory Commission FPC Federal Power Commission GAO General Accounting Office IROR Incentive Rate of Returm LNG liquefied natural gas MCF thousand cubic feet MMCFD million cubic feet per day NEB National Energy Board PG and E Pacific Gas and Electric Company PGT Pacific Gas Transmission Company TAPS Trans Alaska Pipeline System TCF trillion cubic feet PAGENO="0275" 269 CHAPTER 1 THE ALASKA HIGHWAY GAS PIPELINE PROJECT The Alaska Highway Gas Pipeline Project, a 4,800-mile overland pipeline system, is to transport natural gas from northern Alaska through Canada to U.S. markets. The Project's facilities are designed to handle an average daily volume of 2.4 billion cubic feet of natural gas, but it could be enlarged to accommodate additional capacity. Although the original date to start delivering gas from Prudhoe Bay to lower 48-State U.S. markets was January 1, 1983, the Project's targeted on-line date is late 1984. Similarly, proposals to deliver Canadian gas to the Midwest and West in the winter of 1979-80 have been delayed. The sponsors' proposed in-service date for deliveries to the West is November 1980; deliveries to the Midwest are a year later--November 1981. ITS ROUTE The route (see map on p. 2) starts at Prudhoe Bay and parallels the Alyeska oil pipeline to Delta Junction, Alaska. At Delta Junction, the route follows existing rights-of-way eastward to the Alaskan/Canadian border. Once through the Yukon Territory, the route goes southeast through British Columbia to the James River Station in Alberta, where it divides into an Eastern and Western Leg. The Eastern Leg will deliver Alaskan gas to U.S. Midwestern and Eastern markets. It will cross the U.S./Canadian border near Monchy, Saskatchewan, proceed through Montana, North Dakota, South Dakota, Minnesota, and Iowa, and bring the gas just south of Chicago to Dwight, Illinois. The Western Leg will deliver Alaskan gas to the Northwest and California markets. It will cross the U.S./Canadiari border near Kingsgate, British Columbia, proceed through Idaho, Washington, and Oregon, and end at Antioch, California. The Project's sponsors proposed delivering Canadian gas to the U.S. markets about 2 years sooner than Alaskan gas by first completing the Eastern and Western Legs and later completing the remaining Project segments. They pro- posed that Canadian gas deliveries could reach as much as 1 billion cubic feet per day by the winter of 1979-80. The United States and Canadian Governments agreed that delivering Canadian gas to the U.S. markets in advance of on-line Alaskan gas was beneficial. The U.S. markets 1 PAGENO="0276" 270 THE ALASKA HIGHWAY GAS PIPELINE PROJECT 2 PAGENO="0277" 271 could be assured of short- and long-term Canadian gas availability while encouraging Canadian exploration for new reserves and stinulating expansion of its gas industry. PROJECT SPONSORS In March 1978, the Northwest Alaskan Pipeline Company and five other companies formed a partnership (the Alaskan Northwest Natural Gas Transportation Conpany) to plan, design, secure financing for, construct, own, and operate the Project's Alaskan segment ama place the line in service on January 1, 1983. Northwest Alaskan is the operating partner. The table below lists the partners, parent companies, and proposed shipper companies involved in the Alaskan North- west Natural Gas Transportation Company as of February 2, 1978. Company proposing to Partner company Parent company ship gas through line Northwest Alaskan Northwest Energy Northwest Pipe- Pipeline Company Company line Corporation Northern Arctic Northern Natural Northern Natural Gas Company Gas Company Gas Company Pam Alaskan Gas Panhandle Eastern Panhandle Eastern Company Pipeline Company Pipeline Company United Alaska United Gas Pipe United Gas Pipe Fuels Corporation Line Company Lime Company Calaska Energy Pacific Gas. and Natural Gas Company Electric Company Corporation of California Pacific Interstate Pacific Inter- Pacific Inter- Transmission state Transmis- state Transmission (Arctic) sion Company Company For the Western Leg, the Pacific Gas Transmission Com- pany will build the pipeline from the Canadian border through Oregon where the Pacific Gas and Electric Company will finish construction into California. The Northern Boroer Pipeline Company, a partnership, will construct the Project's Eastern Leg. Northern Border's members are --the Northern Plains Natural Gas Company, the operator, a subsidiary of Northern Natural Gas Company; 3 PAGENO="0278" 272 --the Northwest Border Pipeline Company, a subsidiary of Northwest Energy Company; --the Pan Border Gas Company, a subsidiary of Panhandle Eastern Pipeline Company; and --the United Mid-Continent Pipeline Company, a subsidi- ary of the United Gas Pipe Line Company. Foothills Pipe Lines, Ltd., will build the Project's Canadian portion. The Government is unable to attract additional sponsors for the Alaskan segment The Alaskan Northwest Natural Gas Transporation Company's membership remains unchanged even though the Government took an action favorable to attracting new members to the partner- ship. The company's partnership agreement provides an incen- tive for members to join early by continually reducing the profits of those joining after the partnership's formation-- March 1978. Although the Federal Energy Regulatory Commission modified the agreement to grant a 30-day penalty-free period starting June 30, 1978, and limited the reduction in profits in an action tending to attract new members, no additional members joined during the penalty-free period or subsequently, as of September 12, 1979. In its comments on a draft of this report, the Federal Energy Regulatory Commission states that its action was not an active role in attracting parties to join the partnership. Rather, the intention was to provide "equitable and fair treatment of all potential partners." (See app. II.) Since April 1978, two members have joined the Northern Border Pipeline Company 1/ and four have dropped out. North- west Border and United MTd-Continent joined the partnership. Affiliates of the Columbia Gas Transmission Corporation and the Michigan Wisconsin Pipe Line Co., and subsidiaries of Natural Gas Pipeline Company of america and Texas Eastern Transmission Corporation dropped out. Some members dropped out because (1) they could not find consumer commitments for Alaskan gas reserves or (2) the Federal Energy Regulatory Commission would not allow them to recover pre-construction costs by imposing a special charge on their wholesale customers. 1/The company was reconstituted in Aug. 1978. PAGENO="0279" 273 THE PROJECT IS DELAYED The overall Project and Canadian gas deliveries are delayed. The January 1, 1983, date 1/ for delivering Prudhoe Bay gas to the U.S. markets is delayed to late 1984. The Western Leg's in-service date has been revised to November 1980; the.Eastern Leg's in-service date is slated for November 1981. The Western Leg proposal On November 6, 1978, the Western Leg sponsors proposed to build only about 20 percent of the Western Leg outlined in the President's "Decision and Report to Congress on the Alaska Natural Gas Transportation System" 2/ and deliver Canadian gas--starting in late 1980--to southern, rather than central, California through a different pipeline route (see nap on p. 6). Under this "pre-delivery arrangement," the companies plan to ship Canadian gas in advance of Alaskan gas by using existing facilities a much as possible. However, additional facilities will be required later on to transport Alaskan gas. The Eastern Leg proposal On January 26, 1979, the Northern Border Pipeline Company proposed building about 70 percent of the Eastern Leg for pre-delivering Canadian gas with a completion contingency once the Alaskan segment is completed. The line will initially extend from Port of Morgan, Montana, (near Monchy, Saskatchewan) to Ventura, Iowa, and is scheduled for completion in November 1981. The proposal defers completing the line to Dwight, Illinois, and building the additional facilities needed to transport Alaskan gas. Whether the new targeted in-service dates are achievable will depend on how the issues discussed in chapter 2 are resolved. ~Initjal flow Oct. 1, 1981; full flow Jam. 1, 1983. 2/Executive Office of the President, Energy Policy and Planning, Sept. 1977. 5 PAGENO="0280" ® ROUTE OUTLINED IN THE PRESIDENTS DECISION (PJ PREDELIVERY ROUTE 274 WESTERN LEG PROPOSAL SOURCE: ® DECISION AND REPORTTO CONGRESS ON THE ALASKA NATURAL OAS TRANSPORTATION SYSTEM; (2) FEDERAL ENERGY REGULATORYCOMMISIONS DOCKETNO. CP7E~12S SUEMITTED EY PACIFIC GAS TRANSMISSION COMPANY IPRESIDENTS DECISION AND PREDELIVERY) PACIFIC GAS TRANSMISSION CO. NORTHWEST PIPELINE CORP. - - --. EL PASO NATURAL GAS CO. DECISIONS PIPELINE ROUTE 6 PAGENO="0281" 275 REVIEW SCOPE We performed our examination of this Project primarily in Washington, D.C. During this assignment, we met with officials of the Federal Energy Regulatory Commission's Alaskan Gas Pipeline Office, the Executive Policy Board, and the Northwest Alaskan Pipeline Company. The report has been updated through September 12, 1979. 7 PAGENO="0282" 276 CHAPTER 2 IMPORTANT ISSUES REMAIN TO BE RESOLVED Although the Government has provided incentives believed needed to expeditiously develop `the Project, a Federal Inspector was not sworn in until July 13, 1979, and two important issues renain to be resolved which could lead to lengthy administrative and/or judicial review. In addition, the Alaskan sponsors have perceived unusually high risks of Project abandonment and posed questions about the Project's viability. GOVERNMENT ACTIONS TO BRING THE PROJECT ON-LINE The Government gave the sponsors an incentive to actively pursue development through the following sequence of events: --The ALaska Natural Gas Transportation Act of 1976. --The Administration's National Energy Plan of 1977. --The 1977 U.S./Canadian agreement applicable to northern natural gas pipelines. --The President's Decision of 1977. --Congressional support in passing favorable gas pric- ing legislation in the Natural Gas Policy Act of 1978 which includes rolled-in pricing for the Alaskan gas, that is, allows the cost of Alaskan gas to be averaged with cheaper gas supplies, as part of its consideration of the President's National Energy Plan. The Alaskan Natural Gas Transportation Act of 1976 (Public Law 94-586, Oct. 1976) established the decisionmaking process and deadlines for selecting a transportation system to deliver North Slope Alaskan natural gas to U.S. markets. The act expedited presidential and congressional participation to approve such a system and eliminated the potential delays inherent in the normal regulatory approach by establishing time frames and limiting the scope and timing of judicial review. The act stipulated that the President decide whether or not a transportation system delivering Alaska natural gas should be approved and, if so, designate the proposed system to the Congress. 8 PAGENO="0283" 277 In light of the then-existing energy situation, the act recognized the need for North Slope natural gas reserves. Congressional findings stated in section 2 of the act included (1) a natural gas supply shortage exists in the contiguous States, (2) large natural gas reserves in the State of Alaska could help alleviate this supply shortage, and (3).expediti- ously constructing a "viable natural gas transportation system" to deliver Alaska natural gas to the lower 48-States was in the national interest. The Administration's National Energy Plan of April 1977 stressed increasing our domestic gas supplies. Expecting decreased natural gas production, the Plan stated that the gap between demand and production in the lower 48-States would have to be filled from new sources, such as Alaskan gas. It also promoted a natural gas pricing structure to discourage consumption and, at the sane tine, encourage production. The Plan proposed to classify the gas as "aid gas under a new contract" subject to a wellhead price ceiling of $1.45 per thousand cubic feet (inflation adjusted) and provided for the end user of the gas to pay the full (incremental) delivered price for Alaskan gas. A September 1977 U.S./Canadian agreement provides further mechanisms to hasten Project completion. Under the agreement, each Government is to take measures to facilitate constructing the pipeline system to transport natural gas from Alaska and Northern Canada. This agreement calls for private financing of the Project. The agreement's timetable views Alaskan construction beginning January 1, 1980, main Yukon pipe laying starting January 1, 1981, and other con- struction in Canada to provide timely completion by January 1, 1983. Furthermore, the President in his Decision, which he transmitted to the Congress on September 22, 1977, committed the sponsors to timely Project development. In the Decision, the President endorsed and recommended this Project over two alternative proposals and defined the route. Based on sponsor assurances and an administration financial analysis, he found that the Project could be privately financed. The President (1) opposed "novel regulatory schemes" to shift Project risks to consumers and (2) "explicitly rejected" Federal financing assistance. The Federal Energy Regulatory Commission notes that the Decision includes the following condition dealing with financing: The successful applicant shall provide for 9 PAGENO="0284" 278 private financing of the Project, and shall make the final arrangenent for all debt and equity financing prior to the initiation of construction. It notes that congressional approval of the Decision gave the terns and conditions the force of law and., since the Congress approved this condition, it can only be changed by a further act of the Congress. Finally, congressional intent for pricing Alaska natural gas provided the sponsors an incentive to actively pursue Project development. In March 1978, House and Senate conferees considering the National Energy Act agreed that Prudhoe Bay gas would be considered "old" gas at a $1.45 ceiling price per thousand cubic feet as of April 1977 with adjustments for inflation. By June 1978, the conferees agreed on rolled-in pricing for the gas. An August 1978 Senate report 1/ justified rolled-in pricing on the grounds that private financing otherwise would not be available. Also, according to this report, rolled-in pricing was to be the only Federal subsidy of any type--direct or indirect--to be provided. With the signing of the Natural Gas Policy Act (Public Law 95-621) in November 1978, which was based, in part, on the proposed National Energy Act, the Project received a $1.45-per thousand cubic foot wellhead price (inflation adjusted) and rolled-in pricing for the gas. The adjusted price for this gas is $1.75 as of October 1979. A FEDERAL INSPECTOR IS FINALLY ON THE JOB Although the Government has provided various incen- tives and has taken various actions requested by the sponsors in an effort to expeditiously develop the Project, a Federal Inspector required by the Alaska Natural Gas Transportation Act was not sworn in until July 13, 1979, about 20 months after the Congress approved the Decision in November 1977. The Federal Inspector now is in a position to (1) create the Government/sponsor relationship intended to resolve concerns based on the Alaskan oil pipeline's construction and (2) develop and staff the Office of the Federal Inspector to provide a focal point for Federal involvement. 1/Senate Report 95-1126 of Aug. 18, 1978, section 208, p. 103. 10 PAGENO="0285" 279 As proposed when the President approved this Project, the Federal Inspector was to be the overall Project coor- dinator for the Government and principal point of contact on matters relating to Federal oversight. This proposal resulted from experiences during the Alaskan oil pipeline's construction where Federal agencies separately prescribed and enforced terms and conditions with minimal coordination. The Executive Policy Board will advise the Federal Inspector on policy issues. According to Executive Order 12142 (June 21, 1979), the Executive Policy Board shall consist of the Secretaries of the Departments of Agriculture, Energy, Labor, Transportation, and the Interior; the Admin- istrator of the Environmental Protection Agency; the Chief of Engineers of the United States Army; and the Chairman of the Federal Energy Regulatory Commission. TWO KEY ISSUES REMAIN - In our opinion, two key remaining issues which are currently being considered by the Federal Ener9y Regulatory Commission and the Department of the Interior could lead to (1) lengthy administrative proceedings and/or (2) judicial review. These issues concern how the gas-conditioning costs will be treated and the requirements that will be included in the right-of-way agreements. The Federal Energy Regulatory Commission rulemaking 1/ on the variable-rate-ot-return mechanism presented in appendix I demonstrates the time and efforts required to resolve differences. The chronology of negotiations over the last year illustrates the difficulty in reaching mutually satisfactory resolutions to one of the many questions that must be answered before the Project is built. Gas-conditioning costs Before this Project can transport any Prudhoe Bay gas, the gas must be made to pipeline quality. The gas must be conditioned to remove impurities, compressed, and chilled. The treatment of the conditioning costs can affect the gas' price and marketability--a key to the Project's viability and, thus, its ability to be privately financed-- i/RM 78-12. 11 PAGENO="0286" 280 since the conditioning plant may cost about $2 billion. Conditioning costs would further increase the cost of Project gas. If the cost is added to the other already high costs, the gas will be harder to market. Alternatively, if the producers absorb some or all of the conditioning cost, the price to the user would be lower. However, the gas pro- ducers' margin between their costs and the maximum price allowed for the gas would be less, reducing their* net return. In Order No. 45 1/ (August 24, 1979), the Federal Energy Regulatory Commission concluded that natural gas producers in Alaska should be responsible for "conditioning" the gas for transport through the proposed Alaskan pipeline system. 2/ The three major producer interests in Prudhoe Bay reserves of natural gas are Exxon, Atlantic Richfield, and Standard Oil of Ohio. The order concluded that the producers should be allowed to receive from purchasers the ceiling price specified by the Natural Gas Policy Act with the potential for one additional allowance. The Commission would allow applications for any extra costs incurred by the producers for removal of carbon dioxide to levels below three percent of total volume trans- ported, should the Commission require it. In addition, the Commission will allow producers and pipelines to ask it for special relief if the order results in inequity or an unfair burden. According to the Commission, the precise costs of pre- paring the gas for shipment, including carbon dioxide removal, are not yet known. However, the Commission will permit pro- ducers an allowance for carbon dioxide removal below 3 percent because, according to the Commission, a lesser amount of carbon dioxide will result in greater transportation efficiency, which will benefit the pipeline sponsors and customers rather than the producers. 3/ 1/RM (rulemaking) 79-19. 2/On July 16, 1979, the President called for the producers to provide debt guarantees against cost overruns to make private financing of the gas pipeline possible. i/The amount of natural gas liquids carried in the gas stream depends upon the carbon dioxide content of the gas as well as the pressure. Although the Commission established the pipeline pressure on Aug. 6, 1979, the carbon dioxide standard is to be resolved at a later date. 12 PAGENO="0287" 281 The order does not decide what the amount of the allow- ance should be or what conditioning costs will be. These depend on the facts of the particular cases still to come be~fore the Commission under the normal application procedures. The order is scheduled to become final in October 1979. However, petitions for rehearing may be filed. 1/ Stipulations to right- of-way agreements Since the pipeline will be built on public lands, the State and Federal Governments will grant right-of-way agree- ments which give permission to use these lands. To protect the public interest in these lands, the agreements will include environmental and technical requirements in the form of. stipulations that must be followed when building and oper- ating the system. A notice that the Government's proposed stipulations were available to the public was published for initial public comment on May 4, 1979. In our opinion, based on the Government's experiences with the oil pipeline, the Government may be less willing to negotiate concessions 2/ in this area. As a result, disagreements between the sponsors and the Government may lead to lengthy proceed- ings if the sponsors choose to negotiate. SPONSOR-PERCEIVED RISKS OF ABANDONMENT The Project's sponsors have estimated a one-in-three chance the Project will be abandoned in 1979. This estimate is almost three times higher than the 1978 estimate. The sponsors reported 3/ in March 1979 to the Federal Energy Regulatory. Commission that, as a pipeline, the Proj- ect has an unusually high risk of abandonment for 1/On Aug. 31, 1979, the Commission scheduled a public hearing for Sept. 27, 1979. 2/The Department of the Interior does not look at the stipulations as a basis for making "concessions." 3/"Determining the Project Risk Premium for the Alaska Segment of the Alaska Natural Gas Transportation System, prepared by Northwest Alaskan Pipeline Company" (Mar. 7, 1979). 13 PAGENO="0288" 282 --technical, --regulatory-political, and --economic reasons. The risk, they held, results from the Project's large size, high cost, and location. The sponsors thus pose questions about the Project's viability. It should be noted that the sponsors prepared this report to justify a high risk~premium for their investment. As a result, we present the information in this section of the report without accepting or rejecting what they said. Technical risks Technical problems the sponsors cited include (1) major design changes, (2) the need for coordinated develop- ment, and (3). gas availability uncertainty. Major design change risks arise partly because the sponsors have not resolved important design aspects for Arctic conditions. As a result, the sponsors said final Project designs could make the Project unexpectedly difficult, costly, or, at worst, infeasible. The sponsors stated that if they adhere to their current schedule, they must proceed with preconstruction planning before they finish testing system designs. This may result in extensive design changes after construction begins. Insufficient data and investigations can result in "drawingboard" solutions which later prove unsatisfactory-- after construction begins. As the sponsors report, "The probability of geotechnical problems occurr- ing during construction is high * * ~. For example, unforeseen soil conditions might require a major realignment of the route in selected areas. "Similarly, major. difficulties with equipment logistics or pipeline installations could lead to extended Project delays and major cost in- creases * * * the risks associated with execu- tion of * * * plans will be high due to the harsh Artic environment and limited construction windows." 14 PAGENO="0289" 283 It appears to us that this Project may not be benefitting fully from experience gained in building the trans-Alaska oil pipeline. In a previous report 1/ we found that as much "site-specific" data as is economically practicable should be obtained before construction starts to minimize design-change costs. For this purpose also, technical and geological un- certainties should be thoroughly investigated. In its comments on this report, the Department of Energy noted that "a large portion of the cost overruns on the Alaska Oil Pipeline, the Trans Alaska Pipeline System (TAPS), were attributable to the fact that the sponsors did not fully complete the development and testing of system design before construction began. As a result, geological and technical problems were encountered causing major changes to result in the construction phasing with consequent highly escalated costs." In addition, it pointed out that there is a tremendous reservoir of technicaland management material resulting from building and operating the TAPS pipeline: managerial shortcomings and problems in vertical and horizontal inte- gration are documented for the record and could provide a valuable experience base for the Alaskan sponsors. 2/ Coordinating all Project segments and related activi- ties in order to deliver Alaskan gas to lower 48-State markets at the earliest possible time is another potential problem reported by the sponsors. According to them, Project costs could rise significantly if all Project segments are not completed on schedule and close to budgeted costs. In addition, the gas-conditioning plant must be in place before the gas can flow. Finally, owing to the short Prudhoe Bay reservoir production history and disappointing Alaskan drilling results--no new known reserves as of March 7, 1979--the 1/"Lessons Learned From Constructing the Trans-Alaska Oil Pipeline" (EMD-78-52, June 15, 1978). VOn July 9, 1979, the Alaskan sponsors noted that they may be able to acquire Alyeska subsoil and other data for $55 million but cannot make the expenditure unless the Federal Energy Regulatory Commission modifies Order No. 31. (See app. I.) 15 57-087 0 - 80 - 19 PAGENO="0290" 284 sponsors stated that they are still not certain that 2 billion cubic feet a day of Alaskan gas will be available to the Project. This, they said, adds to the risk that the Project night eventually be abandoned. Regulatory-political risks Project sponsors believe that the Project is peculiarly vulnerable to adverse regulatory and political actions largely because it is a high-cost project passing through several political jurisdictions in two countries. Unaccept- ably high costs and Project interference could cone, they suggested, fran (1) terms and conditions attached to permits, (2) political demands, and (3) delays in Government decisions. With respect to permit terms and conditions, the `Project Sponsors are exposed to an unusually large risk of unacceptable certificate conditions because the cost of the delivered gas will be high. Even if the conditions are not stringent, there are multiple jurisdictions making demands of the Project, and the scope and location of the Project will make compliance with these demands very expensive." Political demands unrelated to Project permits are, in the sponsors' view, another threat to the Project stemming from multi-governmental jurisdictions. Particularly since the Project will pass through several jurisdictions having no consumer interest in the Project, some jurisdictions, the sponsors believe, may be tempted to make costly politi- cal demands on behalf of their citizens. For example, the jurisdictions might support native claims or special pro- posals to aid impacted connunities. In support of the above, the Department of Energy notes that at the TAPS post-mortem sessions following the opening of the system, dozens of interest groups attended the ses- sion "for the obvious purpose of planning the develop- ment of intensified demands on behalf of their constituents in construction of the natural gas pipeline." Finally, the sponsors reported that the Project is so dependent on Government decisions that delays could force 16 PAGENO="0291" 285 its abandonment. In addition, according to the sponsors, delay risks are greater for the Project, for unlike ~ other pipelines, Government decisions may be delayed as a result of shifting national pri- orities ~ ~, inadequate cooperation at various levels (state v. Federal, agency v. agency, U.S. v. Canada), or the complexity of underlying issues Economic risks The Project sponsors fear that the expected costs of the technical and regulatory-political risks may induce prospective gas purchasers ama Project investors to with- hold their support frau the Project. The sponsors state that the `marketability risks that equity investors must assume are without precedent because of the high dost of delivering the gas to lower-48 marJ~ets and the expectation, supported by the TAPS exper- ience, that there will be future real increases in this cost--increases that could reduce or eliminate the price advantage of natural gas over substitute fuels, notwithstanding rolled- in pricing.' Post 1979 risks If the Project survives 1979 and required permits are eventually granted, the sponsors estimated that, during con- struction, abandonment risks will continue to be higher than normal for pipelines. Their probability of abandonment esti- mates diminished from 1 in B in the beginning to 1 in 100 in the final construction year. The sponsors attributed the higher-than-usual risks to such potential events as catastro- phic occurrences, economically insolvable design and con- struction problems, restrictive stipulation interpretations, Government and citizen legal challenges, Canadian political conflict, running out of money, and supply contract can- cellations. Investors' 1979 attitude The sponsors also reported in their March 1979 document "a high assessment of abandonment by potential investors, 17 PAGENO="0292" 286 jeopardizing the Project financing plan.' Their own aban- doninent probability estinates rose fran about 1 in 8 in 1978 to about 1 in 3 (35 percent) in 1979. 1/ They ascribe the rise to (1) revised regulatory environment perceptions, (2) growing public awareness of obstacles, (3) optinistic reports concerning alternative natural gas sources, and (4) gas processing plant uncertainties. Regulatory attitude The sponsors perceived a change in regulatory attitude contrasting with the active Government support which led to Project approval when gas shortages were forecast. They said this perception led the sponsors in 1978 to curtail equity support during the first half of 1979. They cited the following as evidence: The Federal Inspector had not been appointed, 2/ the reorganization plan had not been irnple- mented, ~J and Government agencies had not been responsive to their requests for decisions or action. Public doubts The sponsors reported that "growing public awareness of the obstacles facing the project is causing the feasi- bility of [the Project] to be seriously questioned." Examples they listed include a report to the Alaska State Legislature 4/ that the Project was "floundering" because of "marginal econonics" and "abundant uncertainties 1/On June 8, 1979, the Federal Energy Regulatory Commission in Order No. 31 (p. 74) rejected these probabilities as. being unreasonably high and contradictory to assurances given to the President and the Congress at the time of the President's Decision, that the Project could be privately financed under the conditions imposed by the Decision. 2/The Federal Inspector was sworn in July 13, 1979. 3/By Executive Order 12142 of June 21, 1979, Reorganization Plan No. 1 of 1979, creating the Office of Federal Inspector for the Alaska Natural Gas Transportation System, became effective July 1, 1979. 4/The Alaska Highway Gas Pipeline: A Look at the Current Impasse, a Report to the Alaska State Legislature, Arlon R. Tussing and Connie C. Barlow, Jan. 12, 1979. 18 PAGENO="0293" 287 and risks." Another cited report 1/ for an Alaskan advisory board stated that "Regulatory delays, high transportation costs, and a general negative perception of the business cli- nate in Alaska have resulted in an inpasse over the natter of gas production and sale." The sponsors concluded that "the spectre of TAPS delays, cost overruns, and regulatory, engineering and administrative prob- lens never can be removed completely fron the investment community's assessments of the Project risks." Alternate sources Publicity concerning possible alternate natural gas supplies have further undermined public confidence in the Project's future. The sponsors specifically mentioned op- timistic reports about the potentially vast Canadian and Mexican natural gas supplies, the domestic surplus that unexpectedly developed in 1978, and optimism about poten- tially substantial lower 48-State reserves. Supplemental segments Uncertainties over constructing the gas processing plant and supplemental pipelines constitute the fourth reason why the sponsors concluded that abandonment risks rose in 1979. THE SECRETARY OF ENERGY RAISES ANOTHER ISSUE--THE POSSIBILITY OF LOAN GUARANTEES Although the sponsors have not finalized a private financing package or officially stated that they cannot do so, the Secretary of Energy, in response to a question from the Joint Economic Committee, recently raised the possibility of $2 billion to $3 billion in Federal loan guarantees for ~A Current Perspective on Use of Natural Gas Liquids for Petrochemical Production in Alaska, prepared for the Royalty 011 and Gas Development Advisory Board of the State of Alaska by Bonner and Moore Associates, Inc., Jan. 10, 1979. 19 PAGENO="0294" 288 the Alaskan segment of this Project. In doing this, the Secretary and the Committee may have given potential investors including the Project's beneficiaries--the State of Alaska, gas transmission companies, and the gas purchasers--a reason to anticipate that the Government will bear some of the Project's financial burden without cost to them. It should be recognized, however, that without the enactment of specific legislation, the Depart- ment of Energy lacks authority to make loan guarantees to the Project. The dialogue 1/ follows: Question: Is there any action that the Federal Government can consider any option that we have, any sort of guarantee or any sort of appropriation, even, that night make it (the Project) feasible? Secretary of Energy: Of course, the Congress, in approving the President's recommendation insisted, wrote in, that it should be privately financeable. That is a decision that is, of course, rever- sible by the Congress. But the expectation has been for private financing. I don't think that it is necessary to provide an appropriation, but certainly the Congress will not wish to reject out of hand the possibility of loan guarantees for the pipeline. çuestion: How large would that kind of guarantee have to be, roughly; what is the ballpark? Secretary of Energy: I think that if it is guaranteed for the first period of pipeline operations, that is the difficult period. It should be a percentage guarantee of the cost of the pipeline. ~Transcript of Proceedings, Hearing held before Joint Economic Committee, Annual Hearings on the Economy, Washington, D.C., Tuesday, Jan. 23, 1979, pp. 28-30. 20 PAGENO="0295" 289 Question: I am thinking of the potential liability to the Federal Government. How big would it be? Would it be a $2 billion, $3 billion, $4 billion guarantee? Would it be in that area? Bigger than that? Smaller? Secretary of Energy: I think that one must look at the pipeline as several pipelines. There would be no need, for example, for [ani American guarantee of a Canadian portion of that pipeline. The southern portion of the pipeline below the Canadian border that goes into Dwight, Illinois, would not be needed to (be) guaranteed because that is easily financeable. So, one is dealing only with the component from the North Slope down to the Alaska- Canadian border. That is the sun you mentioned of $2 or $3 billion, which indeed might be in the right ballpark. Although the Secretary of Energy spoke of loan guarantees, other op~tiOns, such as direct equity or debt investment should not be precluded out of hand. Loan guarantees have become popular because their supporters argue that the program is costless in the absence of a default. If the borrower repays the loan, the budgetary impact would be limited to administra- tive expenses. In case of default, however, the liability to the Government becomes substantial. Since loan guarantees could lead to further Federal financial involvement to ensure Project completion and operation if events force the sponsors to abandon the Project, better alternatives may exist to give the Government appropriate control over and a return on its investment, including possibly a management voice. In addition, the suggestion for Federal financial involvement raises the question as to whether better alterna- tives will exist for investing Federal funds for additional gas production in the latter 1980s. The next chapter dis- cusses this. 21 PAGENO="0296" 290 CHAPTER 3 ALTERNATIVES AND OPTIONS SHOULD BE EVALUATED BEFORE CONSIDERING FEDERAL FINANCIAL INVOLVEMENT The Project offers a potentially significant donestic gas supply. Therefore, if its sponsors request Federal financing assistance because they cannot finance the Project alone, Project proponents will undoubtedly urge the Congress to quickly provide the needed assistance. Reiterating his August 1977 condition that the Project is to be privately financed, the President on July 16, 1979, stated that participation from the Project's natural gas producers "~ * * in the form of debt guarantees against cost overruns is required to make private financing possible.1' We do not assume that the oil companies involved will not as the President urged "~ * * do their share to make pro- gress on this pipeline possible." However, if they do not or other obstacles to private financing arise, we believe that the Congress needs to consider all its options before it responds to a request for Federal financial involvement in the Project. If the sponsors seek Federal financial involvement, the Congress should consider the following questions. 1 * Will alternative gas sources be available in the late l980s to supply similar quantities of gas at similar or lower prices? 2. Will a satisfactory gas demand/supply balance in the late l980s be achievable through (a) Government sponsored or directed restraints * on demand and (b) tapping potential alternative gas sources? 3. Will Project gas in the l980s reduce (a) our reliance on foreign energy and (b) our dollar outflows? 4. I~ alternative forms of Federal financial involvement exist which may be superior to loan guarantees in giving the Government control over and a return on the public investment? This chapter briefly discusses data and concepts relevant to these questions. While the data in this chapter 22 PAGENO="0297" 291 are not our predictions, they do provide a point of depar- ture. For example, we present the tables on pages 26 and 27 not as probabilities but as one of several possibilities. Further, the data depend upon certain assumptions which time may or may not prove correct. One fundamental assumption in the chapter is that the Government will pursue programs and policies to restrain oil and gas consumption. In addition, the chapter assumes that the Government will not unduly restrict proposals by private enterprises to augment U.S. gas supplies. Also, it assumes the Government will not begin any new programs for substantial financial assistance for developing unconventional sources of gas, an assumption that will need to be revised if the Congress adopts the President's July 16, 1979, import reduction pro- gram proposals. The President's program is oriented toward reducing oil imports. However, data and information pre- sented in the program--such as potential production from unconventional natural gas sources amounting to 1 to 2 trillion cubic feet of gas per year in 1990--suggest that data in this chapter (including 1 trillion cubic feet of natural gas from unconventional sources in 1990) are not outside the realm of possibility. This chapter presents an incremental approach to gas supply and demand in the l980s to emphasize the need for in-~ depth analyses of our energy situation in a future increas- ingly deficient in conventional energy sources. We believe it is not desirable to use, as absolute guidelines, such con- cepts as the country can use all the energy it can get or can use any energy source which will cost less than imported oil. Nonetheless, we believe that non-cost-related objectives, such as potential economic growth and the need to "back out" (that is, substitute for) foreign energy that would otherwise be imported, are proper considerations in making national energy decisions. In its analyses, this chapter discusses potential impacts that may not prove to be substantial. This again is done in order to favor indepth analyses rather than over- simplified assumptions. Finally, this chapter does not assume that the suggested analyses will be unfavorable to Federal financial involvement in the Project if it is needed. 23 PAGENO="0298" 292 ALTERNATIVES TO PROJECT GAS MAY BE POSSIBLE The original Federal analyses in 1977 which supported the presidential and congressional actions to favor the Project were based, in part, on the rationale that Alaskan gas was needed immediately to help fill the 1980s gap between domestic natural gas production and demand. However, the energy situation has been altered since then in that it's possible that other sources night be tapped to supply or conserve similar quantities of gas at more reasonable prices. 1/ Conservation steps and domestic production from (1) intensified drilling in frontier areas and (2) unconven- tional sources might be less costly. In addition, nearby foreign energy sources (Mexico and Canada) and liquefied natural gas might offer gas supplies at less cost than that fran the Project. Further, the Project's gas may only minimally reduce our reliance on foreign oil or improve our dollar outflow for energy. Under the most favorable assumptions based on admittedly preliminary data, the Project's gas in 1985 could reduce energy imports equal to 425,000 barrels of oil a day but at about 20 percent more than the cost for imported oil (S23.50 per barrel in 1979 dollars). Similarly, the Nation's dollar outflow for energy (in 1979 dollars) could improve by up to $10 million a day ($3.7 billion annually). However, for this improvement the American consumer would initially pay American gas suppliers (in 1979 dollars) $12 million a day ($4.4 billion annually) for energy that might be available elsewhere for $10 million. Finally, if the gas stimulates new demand rather than substituting for existing uses, the Project's gas may not back out energy imports (that is, substitute for energy which would otherwise be imported). THE LONG-TERM OUTLOOK FOR DOMESTIC NATURAL GAS PRODUCTION IS POOR The general trend in total domestic natural gas output is for a steady decline through the end of the century, with 1/The extent to which Alaskan gas night be more expensive - than some or all supply increments economically usable in the l980s is an open question not discussed in this chapter. 24 PAGENO="0299" 293 a temporary slowing from the l980s to the mid-1990s. In the 1985-90 period, under a certain set of assumptions, demand for gas could exceed domestic natural gas production from 1 to 3 trillion cubic feet a year, even if Government infla- tion and gas-use policies restrain total demand. (See, tables 1 and 2 on page 26.) 1/ While this Project could supply 800 billion cubic feet of gas a year to help close the 1985-90 gap, conservation and non-traditional domestic sources could possibly produce significantly larger amounts than have heretofore been anticipated. In addition, foreign sources could supply at least 2 trillion cubic feet yearly, assuming favorable Government policies (see table 3 on page 27). Some of these alternate sourc~'might be available at less cost than Project gas. CONSERVATION'S POTENTIAL IS LARGELY UNTAPPED Although potential savings from energy conservation are much larger, 2/ a moderately successful program for commer- cial and residential conservation could reduce demand by 500 billion to 1 trillion cubic feet of gas a year by the late l980s--a 5- to 10-percent decline in expected consumption. For example, a continuing program to keep thermostats in public buildings at `a lower level, consistent with the President's original short-term contingency program sub- mitted to the Congress March 1, 1979, 3/ could save an estimated 400 billion cubic feet of gas annually. Additional 1/Some other possible scenarios are given by the ~merican Gas Association in "The Future for Gas Energy in the United States," dated June 1979. For example, it forecasts an "economic" or "not restrained" demand reaching 25.2 to 27.7 trillion cubic feet of gas per year by 1990 and a sup- ply of over 28 trillion cubic feet per year of gas from all sources "under an energy policy which encourages develop- ment of supplemental supplies" (p. 22). On page 13, it projects natural gas production from "conventional lower- 48" sources amounting to 16 to 18 trillion cubic feet in 1985 and 15 to 17 trillion cubic feet in 1990. 2/See GAO report entitled "The Federal Government Should Es- tablish and Meet Energy Conservation Goals" (EMD-78-38, June 30, 1978). 3/44 FR 12906-12917, dated Mar. 8, 1979. 25 PAGENO="0300" 294 Table 1 Domestic Natural Gas Supply (estimated in trillions of cubic feet) 1977 1985 1990 Lower 48-States 19.3 a/16.4 a/l5.l Frontier (outer continental Shelf and S. Alaska) 0.1 a/0.4 a/l.2 Alaska Highway Gas Pipeline - 0.8 0.8 Total with the Project 19.4 a/l7.6 a/17.l Total without the Project 19.4 a/l6.8 a/l6.3 a/Assumes limited success from (1) intensified drilling fol- lowing gas price deregulation and (2) new Outer Continen- tal Shelf lease sales. Table 2 U.S. Gas Demand (estimated in trillions of cubic feet) 1985 1990 Estimate No. 1 (1978) (note a) 18.7 17.6 Estimate No. 2 (1979) (note b) 19.0 19.0 a/Assumes a 3.1-percent real Gross National Product growth during the l980s. Also, assumes phasing out ot gas for industrial and electrical-utility boilers will be essen- tially complete by 1990. b/Assumes a significant reduction in boiler gas use. NOTE: In these tables, we are not predicting the future. Rather, we present one possibility which would reflect, on the conservative side, current assessments of both (1) energy difficulties facing the Nation and (2) potentials for future improvement. 26 PAGENO="0301" 295 Table 3 Potential Offsets To Demand/Supply Shortfalls (in trillions, of cubic feet) 1985 l99O Domestic sources: Conservation (note a) 0.5 to 1.0 1.0 Intensified drilling (note b) 0.5 0.5 Unconventional sources (note c) 0.2 to 0.5 1.0 Foreign sources: Canada (note d) 1.0 1.0 Mexicc (note e) 0.5 to 1.0 1.5 Liquefied natural gas (note f) 1.0 to 1.7 2.0 a/Includes only programs to get `more for less" by reducing waste and improving efficiency in the use of energy with- out causing economic decline, personal discomfort, or undue restrictions on freedom of choice. For example, the Federal Power Commission estimated in 1977 that a cost-effective $532 investment per household would create 200,000 to 220,000 jobs in the next 10 years and reduce residential gas use 1.13 trillion cubic feet a year. (Marguis R. Seidel, "The Costs of Cold Weather and the Conservation of Residential Heating Gas,' Federal Power Commission, Feb. 28, 1977.) b/Assumes a higher rate of success than table 1. c/Assumes no special Government incentives and that the Gov- ernment will not be unduly restrictive in issuing permits and licenses. d/Assumes that existing contracts will remain firm. a/Assumes a U.S.-Mexican agreement. f/Assumes that the Government will change its present re- strictive policies in granting licenses. NOTE: In this table, the alternatives are significant--not the magnitudes. The data presented herein were derived from published sources, briefly from the oil and gas industry. In selecting data for preparing these tables we are not predicting the future. Rather, we present one possibility which would reflect on the conservative side current assessments of both (1) energy difficulties facing the nation and (2) potentials for future improvement. 27 PAGENO="0302" 296 reductions could ~xtLe from such steps as improved home and building insulati6n, reduced commercial lighting, better thermostat control in private homes, and shorter retail store hours. For maxim~t savings through conservation, perhaps our cheapest "sour~e" of energy, the Government must develop a clear and consIstent conservation program. Although crises, shortages, and price rises tend to reduce consumption, a suc- cessful program will depend, to a large extent, on consumers developing attitudes and habits which foster efficient energy use. Without such attitudes and habits, consumption tends to increase as consumers adjust to supply and price situations. The Government's policy on fuel-switching illustrates the need for a clear and consistent program to conserve scarce domestic resources. When the Department of Energy forecasted in 1978 a trillion-cubic-foot natural gas Rsurplus~ or "bubble," the Secretary of Energy abruptly adjusted the Government's program on fuel-switching. He advocated using the trillion cubic feet for such uses as boiler fuel in dual-fired facilities, that is, existing plants with the capability to use both oil and natural gas. In so doing, the Secretary treated an apparently temporary regional market imbalance as a real national surplus and, in addition, countered a well-defined gas conservation effort. The Secretary took the action (1) as "a major element of the response plan to the Iranian crisis" and (2) because "absence of markets for gas will lead to a reduced exploration and development, lower domestic gas supply, and higher energy impacts in the future." This "bubble" cannot properly be treated as a surplus to the Nation at a time when domestic production has been exceeding new finds, resulting in steadily declining domestic reserves. Instead, the trillion cubic feet represents the difference between (1) the ability of certain regional areas to produce gas under existing field rules and (2) their ability to market their gas at this time. The Secretary chose to have this gas used as soon as possible for immedi- ate short-term goals. By seizing a short-term opportunity, the Secretary --obscured longer term goals for domestic gas policy, --added to public confusion over whether a Government energy policy exists, - - - 28 PAGENO="0303" 297 --may have discouraged investigation of neans to en- courage (1) gas exploration and devel6pnent other than by stimulating denand and (2) storage for the future, and --may have adversely affected a desirable natural gas conservation trend. For example, in 1978, the American Gas Association announced an advertising campaign to sell more natural gas. This could turn a so-called temporary "surplus" into permanent demand, intensifying future problems. Intensified drilling may pay off Intensified industry drilling programs in lower 48-State frontier areas following recent price rises night add at least an additional 500 billion cubic feet of gas annually to anticipated supplies by the late l980s, even if drilling is only moderately successful. Production may begin from unconventional sources Annual gas production from unconventional sources might reach at least 200 billion cubic feet by 1985 and 1 trillion cubic feet by 1990. Sources could include gas from (1) De- vonian shale; (2) synthesis, using coal and other fuels such as peat; (3) marginal resources such as tight sands, coal bed methane and, possibly,. geopressurized water zones saturated with natural gas; and (4) agricultural crops, agricultural residues, food and wood-processing waste, and other biomass resources. Modest amounts from these various unconventional sources could add up to the estimated total and production could conceivably be higher. For example, the Office of Technology Assessment estimates that about 1 trillion cubic feet of gas could become available from Devonian shale in 1990, ~/ and the Department of Energy estimates that 1/"Status Report on the Gas Potential from Devonian Shales of the Appalachian Basin," Office of Technology Assessment, Nov. 1977. 29 PAGENO="0304" 298 * unconventional sources could provide 1.3 to 6.2 trillion cubIc feet in 1990. 1/ Another study 2/ prepared for the Depart- ment of Energy estimates that 1.5 trillion cubic feet of gas would be available from tight sands in 1990.. Finally, production from new technologies alone without "appropriate incentives" could yield 100 billion cubic feet of gas in 1985 and 500 billion in 1990, according to the gas industry. In addition, unconventional sources could supply fuels which could, in part, substitute for gas. 3/ While none of `these may develop as major supply sources, in total they could become significant. Foreign gas sources are increa~4pg If the United States has to look to foreign sources in the l980s (world-wide known gas reserves have been increas- ing), overland. Canadian and Mexican natural gas and overseas liquefied natural gas could help meet the domestic supply shortage. Canada Canada could continue to export gas to the United States at its current rate of 1 trillion cubic feet a year. Although this supply was somewhat uncertain in the past, recent large discoveries in Alberta and the Canadian Arctic have led Canadian producers to push for additional sales to the United States. This might result in (1) continued sup- plies and (2) greater assurance of uninterrupted delivery. However, future Canadian exports will depend on several factors, including Canadian Government policies, future gas discoveries and deployments, and construction of pipelines. ~/"Commercialization Strategy Report for Recovery of Natural Gas from Unconventional Sources," Draft Department of Energy report. ~/"Enhanced Recovery of Oil and Gas," Lewin and Associates, Inc., Feb. 1978. ~JSee for example, "Conversion of Urban Waste to Energy: Developing and Introducing Alternate Fuels From Municipal Solid Waste" (EMD-78-38, Feb. 28, 1979). 30 PAGENO="0305" 299 For example, if, under existing policies, Canada will not consider its Mackenzie Delta gas in determining exports unless the Project is built to transport both Alaska and Mackenzie Delta gas south, Canadian exports to the United States nay be affected. Mexico Mexico could supply 0.5 to 1.0 trillion cubic feet of gas a year by the mid- to late-l980s. 1/ Large discoveries of both oil and natural gas give Mexico the potential to become a major energy source for the United States. However, the United States and Mexican Governments must agree on an export program and sale terms * For example, the Mexican national oil company agreed to supply several ~merican companies 800 billion cubic feet of gas annually for. 6 years at a price tied to d,istillate fuel oil price in New York Harbor (about $3 per thousand cubic feet at that time) but with no firm delivery guarantees. These termswere not ac- ceptable to the U. S. Government and have not been approved. Since Mexican gas exports will depend, in part, on oil ex- ports, Mexican gas supply estimates are uncertain until a U.S.-Mexican and other agreements are concluded. 2/ Other forei9n countries If the Government were to grant all pending plant con- struction proposals as of June 1978, the United States could import up to about 2 trillion cubic feet of liquefied natural gas a year by 1985. 3/ With growing world gas supplies, for- eign countries might be able to supply at least 2 trillion 1/See for example, "Mexico's Oil and Gas Policy: An Analysis," prepared for the Committee on Foreign Relations, United States Senate and the Joint Economic Committee, Congress of the United States by the Congressional Research Service, Library of Congress, Dec. 1978. 2/In late Sept. 1979, Mexico agreed to export 300 million cubic feet of natural gas daily at $3.625 per million Btu (as of Jan. 1, 1980). This price equates to about $21 per barrel for crude oil. 2J"Status of LNG Supplemental Gas Projects," American Gas Association Gas Supply Review, June 1978. 31 57-087 0 - 80 - 20 PAGENO="0306" 300 cubic feet annually during the 1980s at prices competitive with Alaskan gas. For example, in early 1979, Algeria and Indonesia sold liquefied natural gas to American com- panies at a price equivalent to $12 to $18 a barrel of oil. At these prices, liquefied natural gas would cost less than the expected 1985 cost of Project gas (about $35 per barrel of oil equivalent in 1979 dollars). PROJECT GAS MAY MINIMALLY AFFECT ENERGY IMPORTS Project gas theoretically could reduce energy imports by about 5 percent in 1985. However, any reduction may be less than theoretical estimates because (1) substitution opportunities are limited, (2) users may not adopt voluntary import reduction measures, and (3) Government policies may encourage increased consumption instead of import reduction. Gas may not_sub~titute directly for imported energy Project gas may not substitute for imported energy on a one-to-one basis since some users may not be able to make substitutions. For example, Alaskan gas can substitute for imported fuel only if it goes to consumers which are directly or indirectly dependent on foreign fuels. Also, gas can substitute for oil as a space heater or boiler fuel only if the user already uses oil and can economically shift to gas. Users may not adopt needed substitution measures As long as substitution measures continue to be volun- tary, energy users may not take steps to reduce reliance on foreign energy sources. For example, a person burning oil in a boiler may not be willing to replace it with Project gas unless it is a good eôonomic tradeoff. Furthermore, changing price relationships may cause some users to shift from gas to oil or from non-imported fuels to gas or oil. For example, if gas will no longer be underpriced compared to oil, users may no longer accept gas supply interruptibility and storage difficulty and may shift to oil. Also, in theory at least, relative costs, availability, and environmental considerations could in- duce some users to substitute gas for coal, our most abundant domestic fuel source. 32 PAGENO="0307" 301 Finally, Project gas nay induce people to start new enterprises, thereby creating new demands for energy instead of reducing imports. For example, by making it possible to extend gas lines into farm and ranch areas, Project gas nay enable people to start new suburban resi- dential developments or build new factories or electrical generating plants. Theoretically, enough new demand could be created to burn the Project's entire gas supply. Government actions may stimulate gas demand Government policies to (1) assure Project success and (2) encourage development of domestic gas supplies may in- crease total gas demand. Increases in demand may offset opportunities for reduced reliance on foreign energy sources. The Government's commitment to the Project creates a political and regulatory interest in it. This interest may result in a desire to assure profitable markets for Project gas so that the Project is viable and its capacity is fully used. Thus, if new customers should be needed to support the market for Project gas, the Government may feel ob- ligated to help create them. For example, the Government might relax environmental standards standing in the way of an activity that would use Project gas. Similarly, if Project revenues prove insufficient to provide adequate returns to investors or owners of the gas deposits, regu- lators may change the rules to allow revenues to increase. A Department of Energy position that favors demand increases is the program to prevent "the shutting-in of domestic (gas) capacity or diminishing the domestic incen- tives for drilling" for gas. For this purpose, for example, the Secretary of Energy has recommended that the trillion cubic-foot gas surplus--which the Department of Energy fore- cast in 1978--be burned off by substituting gas for oil in dual-fired facilities whenever possible. This position favors increasing existing demand so that it will continue to press on supplies, the implications of which warrant careful analysis. Opening lower 48-State markets to Alaskan gas will relieve pressure on lower 48- State supplies and discourage, at least in theory, drilling or gas there. To prevent this, the Secretary may have to recommend policies or support actions that will further 33 PAGENO="0308" 302 increase gas consumption enough to absorb Alaskan gas. Such actions could stimulate total demand and further limit the gas' ability to substitute for foreign energy. PROJECT GAS MAY MINIMALLY AFFECT THE BALANCE OF PAYMENTS One objective of reducing energy imports is to improve the Nation's balance of payments. Energy imports, primarily oil, in the absence of the President's import reduction pro- gram might amount to 9 million barrels a day by the latter 1980s. If oil would then cost about $23.50 a barrel in 1979 dollars, Americans would pay foreigners up to $77 billion a year for this energy. This large dollar outflow could have serious adverse impacts on the dollar's international value and on America's cost of living and economic well-being. By buying Project gas, based on admittedly preliminary data, the American public would pay in 1985 about $4.4 bil- lion in 1979 dollars for energy that may be obtainable from foreign sources for $3.7 billion. However, whatever the Project gas cost will be, under conventional methods of utility regulation, the transportation portion of the cost would decrease annually as the Project investment is deprec- iated. Paying any extra amount may not buy the American public any significant improvement im its imbalance of international payments since (1) Project gas may minimally affect imports, (2) the purchase of Project gas would lead to some dollar outflow, and (3) part of the dollars paid to foreigners will flow back to the United States for goods and services. As Project gas may not significantly reduce energy imports, it may not appreciably reduce the dollar outflow. To the extent that Project gas fails to stem the outflow, America's balance of payments will not improve. Even if it could reduce imports on a one-to-one basis, Project gas could not decrease dollar outflows by $3.7 bil- lion. This is because the Project would generate its own dollar outflows--mainly payments to Canadian companies transporting Alaskan gas through Canada. The preliminary estimated transportation payments to Canadian companies in the first delivery year would total about $1.4 billiOn, or 38 percent of what would be paid for a comparable amount of foreign energy. These payments are scheduled to decrease .34 PAGENO="0309" 303 over the life of the Project. However, even under assump- tions of no need for additional capital outlays for repairs and maintenance, estimated transportation payments would still amount to about $400 million in the Project's twen- tieth year. In addition, interest and dividend payments to foreign investors in, and owners of, (1) Alaskan gas 1/ and (2) American pipeline companies will cause the outflow of an unestimated amount of dollars. In addition, products and services purchased abroad will also lead to dollar out- flows. Project construction and operations will thus lead to dollar outflows which will offset, at least in part, any savings from import reductions, limiting the potential im- provement in the balance of payments. Part of the dollars spent for foreign energy will return to the United States *to pay for goods and services purchased by countries supplying the energy. A larger proportion may promptly return to the United States if the energy payments are made to developing countries rather than to industrial countries. For example, Mexico, which has in recent years been securing about two-thirds of its imports from the United States, needs a great variety of goods and services for its development. If the United States buys gas from Mexico, one logical place for Mexico to spend this money for industrial equipment and supplies is the United States. This would reduce some of the adverse impact that the energy imports have on America's balance of payments. 1/For example, the British Petroleum Company Limited is the majority shareholder in Standard Oil of Ohio. 35 PAGENO="0310" 304 CHAPTER 4 cONCLUSIONS AND RECOMMENDATIONS CONCLUSIONS After extensive studies and detailed proceedings, the President recommended and the Congress approve.d construction of the Project. This recommendation and approval specified that the Project could and would be privately financed. Federal financing assistance was "explicitly rejected." When the possibility of $2 to $3 billion of loan guarantees to make the Project "feasible" was publicly dis- cussed, we decided to concentrate our review on (1) the ad- ministration's current position with respect to Federal financial involvement and (2) if such involvement is pro- posed, whether further analyses are needed before an informed decision could be made on a proposal.. In this report, we conclude that: 1. The administration's official position on Federal financial involvement has not changed. 2. It is premature at this time to consider Federal financial involvement since (a) it is not known that help will be needed and (b) some important issues have not been resolved. 3. Pressure may build for the Congress to make decisions quickly if such involvement is requested because the Project offers a poten- tially significant domestic gas supply. 4. Further indepth analyses are needed before a decision on involvement can be made owing to (a) events occurring since 1977 and (b) uncer- tainties as to the future. In this report, we have not attempted to determine whether it is in the national interest to build the * Project or, if it is built, when construction should start. If the Project is privately financed and constructed with- out Federal financial involvement, these, of course, will not be public issues. Also, if Federal financial involve- ment is proposed, the Congress will need to consider what 36 PAGENO="0311" 305 effect its various options would have on the construction of the Project and the role of northern Alaska gas in the national energy picture. We have reached no conclusions on what the congres- sional decision should be on the question of Federal financial involvement. We believe that the analyses we recommend should help objective decisionmaking. The Project's targeted on-line or in-service date has been delayed and the potential exists for further delay. The date for delivering Prudhoe Bay gas to lower 48-State narkets has been changed fron January 1, 1983, to late 1984. Sinilarly, proposals to deliver Canadian gas have been delayed fron the winter of 1979-80 to (1) Novenber 1980 for deliveries to the West and (2) November 1981 for deliveries to the Midwest. Further delays are possible while remaining problems and issues are resolved. For example, two key remaining issues (allocating gas-conditioning costs and establishing environmental and technical stipulations) could lead to (1) lengthy administrative proceedings and (2) judicial review. Until these issues are resolved, we question whether a valid decision on private financing or Federal financial involvement can be made. As a result, we believe these matters should be completed before the Government considers any financial involvement. A number of other uncertainties also exist. For example, although the sponsors have not officially stated that the Project cannot be privately financed, they have reported an unusually high risk of Project abandonment. The risk, they held, results from the Project's large size, high cost, and location. The Federal Energy Regulatory Commission does not agree with the sponsor's risk assessment. The Alaskan sponsors estimate a 35-percent chance of abandonment in 1979--up from about 12 percent in 1978. The sponsors attribute the 1979 estimate to --revised regulatory environment perceptions, --growing public awareness of obstacles, --optimistic reports concerning alternative natural gas sources, and --gas processing plant uncertainties. ~37 PAGENO="0312" 306 In addition, there nay be more cost-effective alter- natives which could secure or conserve a similar or greater amount of gas or the equivalent anount of energy in the 1980s. Among the potential alternatives are --conservation steps, --intensified lower 48-State drilling, --liquefied natural gas, and --unconventional donestic resources. Also, while the Project offers a potentially significant future domestic gas supply, it is not now clear compared to alternatives (1) what the price of its gas will be, (2) to what extent it would reduce energy imports, and (3) what its international implications would be. For example, figures now indicate that in 1985, the American consumer would pay Project gas suppliers $4.4 billion (in 1979 dollars) annually. for energy that might be available elsewhere for less. In addition, the Secretary of Energy recently discussed the possibility of $2 to $3 billion in Federal loan guaran- tees for the Alaskan segment of this Project. This may have given potential investors a reason to anticipate that the Government will bear some of the Project's financial burden. In any event, Federal loan guarantees, at this time, are inconsistent with (1) the President's 1977 Decision which (a) found that the Project could be privately financed and (b) "explicitly rejected" Federal financing assistance; (2) the U.S./Canadian agreement applicable to northern natural gas pipelines which calls for privatefinancing; and (3) the Senate report which stated that rolled-in pricing was to be the only Federal subsidy of any type, direct or indirect, to be provided. Thus, without specific legislation, the Department of Energy lacks authority to make loan guarantees to the Project. MATTERS FOR CONGRESSIONAL CONSIDERATION At this time, Federal financial assistanâe has not been requested. However, in view of the above, we believe that if assistance is requested for the Project, the Congress should not consider Federal financial involvement until (1) all regulatory procedures are completed and (2) the sponsors show conclusively that the Project cannot be financed privately. 38 PAGENO="0313" 307 However, if the sponsors demonstrate the need for Federal financial assistance, the Congress should evaluate alternatives to Project gas, including the Secretary of Energy's report called for in our recommendation below, before it considers granting financial aid to the Project. Finally, if the Congress decides to grant financial aid, it should (1) evaluate all feasible alternatives to Federal financial involvement (not just loan guarantees) and (2) ensure that the public interest is served and that the Government has an appropriate control over and return on its investment. RECOMMENDATION TO THE SECRETARY OF ENERGY Although this report concerns only the 800 billion cubic feet of gas the Project could supply annually, deci- sions on the Project cannot be isolated from the Nation's total energy situation. *This is especially so in light of --the energy developments since the first decision on this Project, --the uncertainties noted in this report, and --the President's July 16, 1979, Import Reduction Program, in which he urged the heads of the gas- producing companies to proceed with the financial assistance.needed to build the Project. In our opinion, the President is correct in stressing the need to explore a variety of alternate sources for supplying the Nation's future energy needs. However, at the same time, we would emphasize the importance of indepth benefit! cost analyses for determining the best action courses, both in-kind and amount. We believe it is incumbent upon the Department of Energy to (1) analyze and propose how the Project fits in to the overall energy picture, (2) show how the cost of Project gas relates to the cost of alternative sources, and (3) evaluate the type of Federal financial involvement that could be used and the tradeoffs to be made. Using this information, the Congress could then make an informed decision on how best to invest Government funds to meet national energy needs. 39 PAGENO="0314" 308 Therefore, we recommend that: ---The Secretary of Energy, within 60 days from the date of this report, should provide the Congress an analysis showing how this Project now fits in with the overall national energy plan and strategy to satisfy the Nation's future energy needs. 1/ The analyses we recommend should provide a valuable input for congressional consideration of the Presi- ident's Import Reduction Program that he announced on July 16, 1979. Items included in this analysis should include for the Project and each feasible alternative detailed information on (1) the amount of gas that would be supplied, (2) the timeframe for delivering the gas, (3) the costs, and (4) (a) the impact on our reliance on foreign energy and (b) the international implications. --In addition, if the sponsors officially state that the Project cannot be privately financed or if Federal financial assistance is requested for the Project, the Secretary of Energy should provide the Congress, within 90 days of that time, his recommenda- tion on the matter of Federal financing involvement. In support of his recommendation, the Secretary should provide ~ detailed analysis of the Project and cost-- effective alternatives which might secure or conserve a similar or greater amount of gas or equivalent amount of energy. The Secretary's report should demonstrate why his recommendation is the best course 1/The Department of Energy Organization Act (Public Law 95-91, Aug. 4, 1977) requires the Secretary of Energy to (1) provide an energy supply/demand projection as a part of the annual report and (2) develop a National Energy Policy Plan which would, in part, estimate energy supplies and evaluate trends in energy prices. While this analysis we recommend could be a part of the required Organization Act report or plan, the situation dictates a separate sub- mission which focuses on the Alaskan gas issue. 40 PAGENO="0315" 309 of action. In addition to all items listed for the Secretary's first report, this analysis should evaluate --the amount and kind of Federal financial involvement and --the benefit to the public that the involve- nent would buy. In addition, the analysis should compare the benefits that the alternative sources could provide if they received (a) the same amount and type of Federal financial assistance as the Project would receive or (b) an amount approximating that requested for the pipeline. 41 PAGENO="0316" 310 CHAPTER 5 AGENCY AND COMPANY COMMENTS AND OUR EVALUATION In this chapter we attenpt to highlight the major con- cerns that reviewers of the draft of this report noted. Ap- pendices II through IX contain conplete copies of the comments; our detailed responses to them are in appendix X. DEPARTMENT OF STATE The Department of State points out that it has no reason to expe~t that the Project will not be privately financed. It notes that the President proposed and the Congress approved the Project on the basis of private financing. In addition, a U.S./Canadian agreement requires private financing. (See app. IV.) According to the Department, it is highly premature to assume (1) that private financing will not Je available and (2) that the Congress needs to consider all of its options before dealing with a request for Federal financial assistance. The Department's comment is misleading. The report states that the Congress needs to consider all its options only if a proposal is made for Federal financial involvement. We believe that being alert to possible events is not premature. Events have led to public discussion of a pos- sible need for Federal financial involvement in the Project. We do not believe that it would be good public policy to be totally unprepared for this possibility. If the sponsors request Federal assistance, Project proponents will undoubtedly urge the Congress to quickly provide the needed assistance. Thus, we have recommended a framework for Government action before any request has been made. FEDERAL ENERGY REGULATORY COMMISSION The Commission's main comments relate to our use of the economic concept of a gap between domestic supplies of nat- ural gas and total domestic demand for gas. Instead, they suggest that a more analytically correct approach is to think of all supplemental gas supplies as substitutes for oil, and all should be utilized that are less expensive than imported oil. (See app. II.) 42 PAGENO="0317" 311 The report uses a gap or incremental approach to emphasize the need for indepth analyses of our energy sit- uation in a future increasingly deficient in conventional energy sources. The concept of this gap can be found in the President's Decision on this Project and the National Energy Plan of April 1977. We do not agree with the Commission that all supple- mental gas supplies should be treated alike except for cost. Each source, together with its socioeconomic, political, and national security impacts, is different. Therefore, decisions on each source must be made within the framework of a comprehensive national energy plan. Such a plan must rest on a variety of considerations and must deal with (1) supply and demand and (2) the short-and long-term welfare of our country. Some considerations are --national security, --economic growth, --inflation control, --mutually supportive international relations, --environmental quality, --national productivity, and --gas and other industry stability. Thus, cost is an important consideration in energy policies but should not necessarily be controlling. DEPARTMENT OF ENERGY The Department disagrees with two statements we make concerning actions the Secretary of Energy took. They state that he did not (1) raise the possibility of loan guarantees or (2) abrubtly reverse the Government's policy on fuel switching. (See app. III.) Since we cannot agree with the Department on the use of the phrase "raise the possibility," we have included the col- loquy in which the Secretary~ discussed the possibility (see pp. 19 to 21).. In this way, the reader can judge for himself. We mention the change in the fuel-switching pplicy to point out the (1) relevance of indepth analyses and (2) the 43 PAGENO="0318" 312 possibility of side effects from actions taken to reach a specific goal--such as oil import reduction. The report recognizes that the Secretary's action was taken as a trade- off between short- and long-term objectives. From a con- cerned public's viewpoint, however, the change was abrupt and may have undesirable impacts. THE DEPARTMENT OF THE INTERIOR Most of the Department's general comments focus on economic issues that it thinks should be in this report. This report stands on its own. However, such issues could be included in the analyses we recommend. (See app. VI.) In its specific comments, the Department notes that it does not look at the proceedings for the right-of-way agree- ment as an opportunity for delay or as a basis for making concessions. In our opinion, the Department, because of its environ- mental and other concerns, may be reluctant tQ make conces- sions in the stipulations. We suggest the possibility of lengthy proceedings only if the sponsors choose to negotiate. The Department was exceptionally late in providing its comments. THE FEDERAL INSPECTOR FOR TEE ALASKA NATURAL GAS TRANSPORTATION SYSTEM The Federal Inspector was reluctant to provide detailed comments. However, he stated that he had reservations about some of GAO's analyses and recommendations. He commented that the Project's economic and financial viability are still being evaluated by the free market. In his view, the marketplace should be given an opportunity to work its free will. We agree that the marketplace should be given the opportunity to work its will before Federal assistance is considered and are pleased that the Federal Inspector is on the job. NORTHWEST ALASKAN PIPELINE COMPANY The Northwest Alaskan Pipeline Company expressed concerns over the report's "nisstatenents and inaccuracie&' and articles concerning the draft in the Canadian press. 44 PAGENO="0319" 313 We specifically requested that the company provide any supporting data to correct the alleged, but unspecified, misstatements and inaccuracies. The company provided none. NORTHERN NATURAL GAS COMPANY The Northern Natural Gas Company states that substan-' tially all the problems described relate to the Alaskan segment and believes that there should be additional dis- cussion of the proposal to "pre-deliver" Canadian gas. The report shows that the question of Federal financial involvement has been raised only for the Alaska segment. The analyses we recommend will require the comprehensiveness the company suggests. PACIFIC GAS AND ELECTRIC COMPANY The Pacific Gas and Electric Company commented (1) that the Project stands the danger of being "studied to death," a~nd (2) that speculating on what should be done if the Project were unable to obtain private financing runs'the risk of becoming a "self-fulfilling prophecy." We see no danger that our recommendations will cause the *Project to be studied to death. All present activities can continue without regard to the Department of Energy analysis that we suggest. We did not initiate any actions to question the sponsor's ability to secure private financing. Such questions were raised elsewhere. In addition, we did not institute any suggestion that the Government shoul,d or should not get financially involved in the Project. Our prime concern is that the Government should be in a position to make an informed decision if Federal financial assistance is proposed. We believe that getting prepared for a prompt, informed decision on a public question is fully in the national interest. 45 PAGENO="0320" 314 APPENDIX I APPENDIX I FEDERAL ENERGY REGULATORY COMMISSION'S RULEMAKING TO DEVELOP A VARIABLE-RATE-OF-RETURN MECHANISM The variable-rate-of-return mechanism for the Alaska Highway Gas Pipeline Project is being established through the regular rulemaking procedures used by the Federal Energy Regulatory Commission. In such rulemakings, the Commission first makes a specific proposal in a public notice. Then the Commission permits all interested parties to provide written comments on (1) the proposal and (2) the proposals submitted by the other interested parties. Sometimes the Commission also provides for oral arguments or other proceedings before issuing a final order. THE COMMISSION'S PROPOSAL On May 8, 1978, the Federal Energy Regulatory Commis- sion proposed a variable-rate-of-return-on-equity based on how well the Project meets budgeted costs. The Commis- sion proposed that a cost-performance ratio, he ratio of actual to projected costs, be used as a measure. If the performance ratio was 1.0, actual and projected costs would be equal. Similarly a 1.3 ratio would mean that actual costs exceed projected costs by 30 percent, and so on. Actual costs, however, would be adjusted for inflation and certain changes in scope. THE SPONSOR'S RESPONSE In their May 31, 1978, response, the Project sponsors contended that the initial proposal, if accepted as pro- posed, would preclude further sponsor investment, penalize equity capital contributed during a time of cost overruns, and make the entire financing plan infeasible by reducing the rate-of-return on Project equity. The sponsors noted that proceeding with financing would be virtually impos- sible unless (1) the equity rate-of-return were considerably above normal to compensate investors for their extraordinary risks; (2) the return were as certain as possible at the outset to attract investment; (3) and the rate were within a narrowly prescribed range, that is, not below the minimum level reasonable for this Project. In June 1978, the sponsors added that the variable- rate-of-return should 46 PAGENO="0321" 315 APPENDIX I APPENDIX I --not apply to those portions in the contiguous 48 States, as such construction is conventional pipe- lining which involves conventional financing and no unusual cost overrun risks; --not apply to all equity but be limited to varying the allowance permitted for funds used during construction; --have limits established that are reasonable for Project investors as a practical consideration for securing necessary funds; --not be used to reward or penalize cost changes outside the sponsors' control such as inflation, dictated scope changes or force majeure reasons; and --recognize the effect the Government has on ulti- mate Project costs since governmental snpervisiOn "holds the potential for significantly higher costs." Finally, the sponsors did not want the variable-rate- of-return tied to cost estimation. Since (1) the cost estimate forms the basis for the capital pool needed before construction begins and (2) the sponsors anticipate that lenders will insist on a commitment pool larger than the estimate to cover possible overruns, assembling the capi- tal pool becomes increasingly more difficult as the cost estimate increases. Further, if the Commission holds that Project sponsors will be penalized by Government-caused cost escalations, the sponsors must consider this contingency when preparing their cost estimate. In summary, the sponsors stated: "Our efforts to pull from the comments the fore- going principles does not constitute the Partner- ship's `wish list' for this rulemaking, with the partners willing and able to move forward if some--as opposed to all--are accepted by the Com- mission. As a simple statement of fact, we neces- sarily advise the Commission that inclusion of all of these principles are essential to a variable rate of return mechanism. They are essential, that is, if the project is to be built with private sector financing." 47 57-087 0 - 80 - 21 PAGENO="0322" 316 APPENDIX I APPENDIX I THE COMMISSION'S SEPTEMBER REVISIONS On September 15, 1978, the Commission revised its earlier proposal and --removed the Western Leg from having a variable- rate-of-return; --noted that, when established, the values may differ for the Eastern Leg and the Alaskan segment; --defined the cost-performance ratio as the ratio of actual construction costs, including am allowance for funds used during construction (adjusted for inflation), divided by estimated construction costs (adjusted for scope changes); and --determined that it will separately define what will be allowed as a scope change and the procedure to make any adjustment. The Commission also provided an illustrative schedule to show how such a schedule could be structured, using a 17-percent rate of return at the 1.3 cost-performance ratio the President's Decision assumed likely to occur. Rate-of-Return at Specific ~fqr~ançe_~a~ios Rate-of-return Performance on equity ratio (percent) 0.8 22.6 1.0 19.7 1.2 17.8 1.3 17.0 1.4 16.5 1.6 15.3 1.8 14.5 2.0 13.9 2.2 13.3 2.4 12.9 Translating the Commission's example performance ratio into dollar amounts makes the range of costs covered more meaningful. For example, if we inflate the 1975 Alaskan cost figure (assuming 5-percent annual inflation) to base the 48 PAGENO="0323" 317 APPENDIX I APPENDIX I perfornance ratio on 1979 dollars, a $2.4-billion 1975 dollar amount becones $2.9 billion in 1979 dollars. Using 1979 dollars as the basis, the rate-of-return-on-equity for the Alaskan segnent would be: --1~.7 percent, at a $2.9-billion adjusted cost level; --17 percent, at $3.8 billion; --15 percent, at $4.8 billion; or --12.9 percent, at $7.0 billion. If actual and estimated costs after adjustment were equal (1.0 cost-performance ratio), the Commission would allow a 19.7-percent rate-of-return-on-equity. At a 1.67 ratio, the rate-of-return would equal the 15-percent rate that was used in cost-of-service calculations in the President's Decision. The 1.67 ratio was fouad reasonable in the Federal Power Commission's Recommendation to the President on this Project. Further, an adjusted cost over- run of 140 percent would reduce the return to 12.9 percent, slightly below the 12.94-percent average equity rate the Commission allowed in 1976 and 1977 on natural gas pipeline cases. THE SPONSORS' OCTOBER RESPONSES The Alaskan segment's sponsors state that the project will need Federal financial support and assistance if the Co~iss~on finalizes its revised mechanism InOctober 1978, the Alaskan segment's sponsors said that they could not continue to advance substantial amounts of capital for the Project if the Commission implemented the existing variable-rate-of-return proposal. The Project requires large front-end expenditures for preplanning, engineering, design, and cost estimation. However, the sponsors will not advance the necessary funds until they are reasonably certain that (1) their funds will earn a "just and reasonable return" and (2) invested funds and the interest costs being accumulated on them will be recovered. Without thisassurance, the sponsors state that Project work and the in-service date will be delayed again. If Government-caused delays or other delays beyond the sponsors' control reduce the rate-of-return-on-equity, the 49 PAGENO="0324" 318 APPENDIX I APPENDIX I sponsors say they will abandon their plan for private f i- nancing and limit their equity contributions. The sponsors state that private financing is out of the question if the Commission ties cost-performance to the March 1977 cost esti- mate, their original cost estimate. They state that under the very best circumstances they could not achieve less than a 60-percent overrun in constant dollars. They base this level of overrun on the combination of (1) the 31- percent cost overrun expected in the President's Decision, (2) including interest payments in the measurement, and (3) governmental delay. Eastern Leg sponsors allege that the Commission's proposal jeopardizes delivering Canadian gas to the Midwest before the whole project is built In comments filed in early October 1978, the Eastern Leg sponsors also noted that imposing a variable-rate-of- return mechanism on their segment would delay construction and result in lost gas supplies and increased costs. They stated that since the rate-of-return on the Eastern Leg may be different than the Alaskan segment's rate, there could be no financing plan until the Commission finalizes the rate schedule to be applied to the Eastern Leg. Further, the sponsors believe that the Commission's decisions, when made, will be "so controversial, time-consuming, and therefore delaying as to seriously reduce or eliminate any chance of early building." In the sponsor's estima- tion, usirig the variable rate on the Eastern Leg would mean a "crippling and most likely fatal delay" in bringing Canadian gas to the United States. Finally, they state that (1) the Commission's proposals have "thwarted" their filing an application for authorization to build and operate most of its segment and (2) continued delays in resolving the rate- of-return issue may further delay a filing. The sponsors do not want the Commission to rely on the March 1977 cost estimate because they have not had a chance to update it. Further, changes have occurred since 1975, when the sponsors made their estimate. The sponsors state that new requirements involving new envi- ronmemtal laws, siting laws, scope changes, and different inflation rates combine to "mandate a reconsideration of 1975 assumptions." 50 PAGENO="0325" 319 APPENDIX I APPENDIX I THE COMMISSION'S DECEMBER REVISIONS On December 1, 1978, the Commission reacted to the sponsors' concerns and modified the variable rate-of-return proposal. Specifically, they noted that (1) the March 1977 cost estimate would not be used as the basis for setting the variable rate-of-return and (2) the Commission intends to absolve the Project sponsors of responsibility for delays which are clearly the Government's fault. The Commission did not agree that applying a variable-rate-of-return mechanismto'the Eastern Leg would cause delay. After making some technical changes to the cost-perform- ance ratio, the Commission noted that the cost estimate the sponsors submit prior to final certification will be used as the basis for determining the variable rate-of-return--not the March 1977 cost estimate. However, the Commission will compare this final estimate to the March 1977 estimate to see if the new estimate "materially or unreasonably" exceeds the earlier figure. Further, if overruns are less likely using the final estimate, the relationship between the cost-performance ratio and the rate-of-return allowed may be adjusted to reflect this difference. The Commission does not intend to penalize the Project sponsors for delays beyond their control, particularly Government-caused delays. Delays prior to certification will not increase the cost-performance ratio or reduce the sponsors' rate-of-return. Penalties for delay would occur only for delays after the Commission grants a final certif i- cate. The Commission intends to start determining the delays and cost increases beyond the Project sponsors' control and, thus, "absolve the project sponsors of responsibility for delays which are clearly the fault of the government." The Commission does not believe that the variable- rate-of-return mechanism would substantially delay the Project as the Eastern Leg sponsors allege. Before the Commission sets a rate-of-return in a conventional pipeline certification proceeding, an applicant submits a proposed financing plan, cost estimates, proposed tariff, and other information affecting risks borne by investors. The only difference under the variable-rate-of-return mechanism, * the Commission states, is that the Commission will set a range of rates-of-return rather than a single rate. 51 PAGENO="0326" 320 APPENDIX I APPENDIX I coMMIssION's MODIFICATION BETTER--BUT NOT ENOUGH On December 19, 1978, the Alaskan segment's sponsors stated that the Commissionts December 1 modification to the variable-rate-of-return proposal was a constructive improvement--but not enough to create sponsor and lender confidence. They insist that all issues and uncertainties surrounding this proposal need prompt and appropriate resolution. If the Commission meets their requirements, the spon- sors state that they "will have in place one of the many building blocks that must successively be put in place if private financing is to be achieved.' However, they state that it would be misleading to suggest that the variable- rate-of-return mechanism is the sole determinant as to whether the Project will be, or can be, privately financed. They state: "The obvious truth--which we all must accept--is that private financing hinges upon prompt, suppor- tive, consistent action by all elements of the United States and Canadian governments--day-by-day and issue-by-issue." To assist Government officials in pinpointing specific actions required, on January 17, 1979, the Northwest Alaskan Pipeline Company supplied the Executive Policy Board with four listings of critical Government actions (and their required timeframes) necessary to complete the Project in the 1984-85 heating season. According to the company, the critical path "~ * * is marked by a series of key government ac- tions that must be taken in a timely manner. These actions are crucial for two reasons. First, many subsequent planning actions with substantial lead times (e.g., design, cost estimation) hinge on government decisions. Second, a favorable regula- tory climate, substantiated by a record of timely and responsive government decisions, particularly on the key issues now pending, is a sine ~ non for private sector financing. * *. * * * "The schedule is tight, largely due to the many * * * steps that must be taken in sequence to" 52 PAGENO="0327" 321 APPENDIX I APPENDIX I "obtain financing and to complete the. filing with FERC in mid 1980 for a final certification of public convenience and necessity. We believe the schedule is achievable if there is the requisite determination and dedication of resources by all concerned. For our part, we pledge ourselves to make a maximum effort. From the Government, we seek a commitment to overcome obstacles and actively look for ways to help us get the job done. Government actions on a project of this magnitude, in order to be timely and responsive, sometimes must be taken under conditions promis~- ing less than complete certainty. We believe there should be acceptance of some degree of risk by the government, in acting promptly, in recognition of both the total risk assumed by the sponsors and of the urgency of this project from a national interest viewpoint." THE COMMISSION'S FINAL REVISION? On April 6, 1979, the Commission proposed to finalize its variable.-rate.-of-return proposal on June 1, 1979. The Commission raised its rates for the Alaskan segment and proposed rates for the Eastern Leg. The Commission expects the Alaskan segment to be built at a 1.3 performance ratio (a 30-percent overrun);the Eastern Leg, at a 1.1 performance ratio. At these levels, the rate-of-return-on-equity would be 17.5 percent and 15.25 percent, respectively. (See pp. 48 and 49 for the Commission's earlier proposal.) The entire schedule follows. 53 PAGENO="0328" 322 APPENDIX I APPENDIX I Rate-of-Return at Specific Performance Ratios Performance Rate-of-return on equity ratio Alaska Eastern le~ (percent) 0.8 23.44 17.97 1.0 20.35 15.98 1.1 19.23 15.25 1.2 18.29 14.65 1.3 17.50 14.13 1.4 16.82 13.70 1.6 15.72 12.98 1.8 14.86 12.43 2.0 14.18 11.99 2.2 13.61 11.63 2.4 13.15 11.32 cOMMIsSIoN ORDER NO. 31 On June 8, 1979, the Commission issued Order No. 31 to set the final rate-of-return-on-equity for the Alaska segment and the Eastern Leg. These rates were generally the same for the Alaska portion but were lowered for the Eastern Leg. However, the Commission noted that the allowed rate-of- return for the Project is competitive with other investments in the gas industry and the economy in general. In addition, according to the Commission, if investors perceive a high probability of such large overruns that the realized rate-of- return will be low, then it would seem to follow that the projected costs and estimates of cost overruns have grown to such an extent since the President's Decision that con- structing this Project still may not be in the public interest. The Commission recognized that the issues related to this order were serious and complex. For that reason, the Commission stayed the effective date of the order for 60 days to afford interested parties the opportunity to apply for rehearing. 54 PAGENO="0329" 323 APPENDIX I APPENDIX I The sponsors file a motion for reheariflg On July 9, 1979, 1/ the Alaskan sponsors requested that the Commission reconsider the order. In their motion for rehearing, they stated: "On June 21, 1979, the Board of Partners, the. governing body of the Alaskan Northwest Natural Gas Transportation Company, discussed and analyzed Commission Order No. 31 (June 8, 1979). The Board, by unanimous vote, concluded that (1) rehearing must be sought; (2) if Order No. 31 is not modified on rehearing, further equity support for the project after August 6, 1979 (the effective date of Order No. 31) will be limited to those funds necessary to discharge already-incurred obligations; and (3) until such time as the President, the Congress, or the courts correct the errors of Order No~. 31 (if the Commission fails to do so), substantive work on the project will be held in abeyance." The sponsors stated that expenditures prudent from the standpoint of the Project would not be made until the "Commission has resolved by appropriate final order, the Part- nership's motion for rehearing * * **" Examples of expendi- tures that would not be made include (1) $55 million for Alyeska subsoil and other data and (2) $150 million for Alyeska work camps. THE COMMISSION STAYS THE EFFECTIVE DATE OF ORDER NO. 31 On August 6, 1979, the Commission found it appropriate and in the public interest to grant rehearing for the pur- pose of further consideration. As a result the effective date is stayed and a new effective date shall be prescribed at such time as the Commission issues its order on rehearing. 1/Also on July 9, 1979, Northern Border Pipeline Company and Michigan Wisconsin Pipe Line Company filed separate appli- cations for rehearing. On July 24, 1979, the Commission's staff filed for rehearing. 55 PAGENO="0330" 324 APPENDIX I APPENDIX I THE COMMISSION ISSUES ITS FINAL DECISION On September 6, 1979, the Federal Energy Regulatory Commission issued its final order approving variable-rates- of-return for the Alaska and Eastern Leg segments of the Alaska Natural Gas Transportation System. The order basically reaffirms the June 8 order, with a few clarifications and modifications. The Commission stated that applications for rehearing presented no new facts or legal principles which warrant changes in the policies or principles in its June 8 order. According to this order, the Alaskan sponsors stated that "~ * * it now appears very clear that a r-eason- able cost estimate for the Alaskan segment of the project will exceed the March 1977 cost estimate by more than 30 percent." According to the Commission, it interprets this statement to mean that a "major change" in the Alaskan segment has occurred since the President's Decision. The order makes clear that the Project sponsors may elect to revise their cost estimate for the Alaskan segment as a basis for the variable-rate-of-return mechanism, rather than using the formula approach based on March 1977 costs contained in the President's Decision. The Commission stated that the base line for the mechanism will not be any less than the final cost estimate submitted by the sponsors. How- ever, the order makes clear that the Commission will care- fully review the final estimate and make adjustments, if necessary, before approval is granted. The Commission stated its intention that the mechanism be applied to both phases of the Northern Border (Eastern lower U.S. leg) project if the Commission approves pre- building of some facilities to transport Canadian gas. If that happens~ the two phases would be considered as separate projects and the mechanism applied to each separately. 56 PAGENO="0331" 325 APPENDIX II APPENDIX II FEDERAL ENERGY REGULATORY CoMM SS~ON WASHINGTON, DC. 20426 Mr. J. Dexter Peach Director Energy and Minerals Division JUL 131979 U.S. General Accounting Office Washington, D.C. 20548 Dear Mr. Peach: We have read your draft report titled "The Alaska Gas Highway Pipeline Project: Status and Issues" (Code 008700) and offer the following comments from the Federal Energy Regulatory Commission (FERC). Our comments are intended to serve asa technical review of the analysis in the draft report. We do not offer herein any views concerning alterna- tive energy supplies or plans. We expect that other agencies within the Department of Energy will provide you with comments on these issues and present the views of the Secretary of Energy on this report. Our comments will refer specifically to the main body of the report but are also applicable to the digest presented at the beginning of the report. Chapter 1: The Alaska Highway Gas Pipeline Project Our only comments on this chapter deal with the subsection titled "The Government is Unable to Attract Additional Sponsors for the Alaskan Segment." This section gives a misleading impression of the role of this agency in the regulation of the Alaska gas project. This section states that "[un June 1978, the Government tried to attract additional sponsors for the Alaska segment." The report is referring to an order issued by this Commission on June 30, 1978, concerning the partnership agreement submitted by the project sponsors for our approval as required by the President's Decision. In the partnership agreement, there is a schedule that reduces the share of profits going to each member depending upon the date that the member joins the.partnership. Although Northwest Alaska gave public notice of the opportunity of 57 PAGENO="0332" 326 APPENDIX II APPENDIX II joining the partnership shortly before the date the profit discount was to go into effect, the Commission felt that the President's requirement of open ownership participation without discrimination would best be realized if the date for the initial discount in profit share was postponed for 30 days from the date of the Commission's order to allow additional members to join the partnership without penalty. The Commission's intention in this order was to provide equitable and fair treatment of all potential partners and not, as the draft report suggests, "to attract additional sponsors." This section of the report erroneously implies that this Commission took an active role in attracting parties to join the partnership. This was not the intent of the Commission order. Chapter 2: Important Issues and Problems Remain to be Resolved. This chapter states that the Federal Inspector for the project is not yet on the job and that two important issues remain to be resolved which could lead to lengthy administra- tive or judicial review. In fact, the Federal Inspector was nominated by the President several weeks ago. In the Section titled "Government Actions to Bring the Project on Line", the report gives a history of past executive and legislative actions affecting the project. We note two important ommissions concerning government participation in financing. The draft report refers to those sections of the President's Decision opposing noviel regulatory schemes to shift project risks to consumers and rejecting federal financing assistance. The Alaska Natural Gas Transportation Act (ANGTA) calls for the President to submit terms and conditions for inclusion in the Congressional authorization for the project. Congressional approval of the President's Decision gave these terms and conditions proposed by the President the force of law. The fourth term and condition dealing with finance states that "the successful applicant shall provide for private financing of the project and shall make the final arrangements for debt and equity financing prior to the initiation of construction." Since Congress approved this condition, it can only be changed by a futher act of Congress. This fact is not made clear in the report. 58 PAGENO="0333" 327 APPENDIX II APPENDIX II Also the U.S./Canadian Agreement on Principles for the project calls for private financing both in the United States and Canada. The draft report should indicate that government participation in the financing would probably require an amendment or change to this agreement between the United States and Canada as well as an act of Congress. The report discusses two key issues that remain unresolved. The first concerns treatment of gas conditioning and processing costs. The Natural Gas Policy Act gives the Commission discretion to increase the maximum lawful price for gas to compensate for conditioning and processing costs at Prudhoe Bay. On February 2, 1979, the Commission issued a notice of proposed rulemaking and statement of policy respecting the treatment of these production related costs for natural gas sold and transported through the System. Initial comments and reply comments from all interested parties have been received, and the Commission expects to issue an order concerning production related costs in the near future. The Commission's decision will be subject to judicial review but only under the expedited procedures required by ANGTA. We doubt that the resolution of this issue will be as lengthy as the draft report implies. The draft report places a great deal of emphasis on the risk of abandonment given by the project sponsors. Though no source is given for these probabilities in the draft report, GAO Staff has indicated that they are taken from a paper prepared by the Northwest Alaskan Pipeline Company on March 7, 1979 titled "Determining the Project Risk Premium for the Alaska Segment of the Natural Gas Transportation System." This report was submitted to the Alaska Gas Project Office of this Commission which in turn distributed the report to all interested parties in the rulemaking dealing with the Incentive Rate of Return Mechanism. Though we invited the sponsors to provide supporting evidence or justification for these probabilities, the project sponsors in their written comments during the rulemaking provided no justification or support. As a result in Order No. 31, the Commission rejected these probabilities as being unreasonably high. 59 PAGENO="0334" 328 APPENDIX II - APPENDIX II Chapter 3: Alternatives and Options should be Evaluated Before Considering Federal Financial Involvement. Chapter 3 attempts to analyze the need for Alaska gas and whether it is in the public interest to build the Alaskan Natural Gas Transportation System. This is an issue that was studied at great length in hearings before this Commission and in the various reports submitted by govern- ment agencies and other parties to the President and the Congress pursuant to ANGTA. The record before this Commission on the Alaska gas project consists of some forty-five thousand pages of trans- cript and about 1,000 individual exhibits. Also ANGTA called upon this Commission and other Government agencies to submit reports to the Congress and the President concerning the need or benefit of building the project. In addition to other subjects, the Act required the Commission to report to the President on "the projected natural gas supply and demand for each region of the United States and on the projected supply of alternative fuels available by region to off-set shortages of natural gas." This Commission submitted its Recommendation to the President on May 1, 1977. ANGTA called upon other federal agencies to submit reports to the President on a variety of subjects including regional natural gas requirements and the relationship of the proposed trans- portation system to other aspects of national energy policy. In response to this mandate, the Federal Energy Administration, the Department of Commerce, the Department of Interior, and the Department of Labor submitted a report to the President on June 30, 1977 titled National Economic Impact of Alaskan Natural Gas Transportation Systems." The Federal Energy Administration, the Department of Commerce, the Department of Interior, (United States Geological Survey), the Department of Transportation, the Department of Treasury, and the Energy Research and Development Administration submitted the "Report of the Working Group of Supply, Demand, and Energy Policy Impacts of Alaska Gas" on July 1, 1977. Based on these reports and on additional analysis, the President's Decision concluded that the project was necessary and desirable and should be built as soon as possible. This decision was approved by Congress by joint resolution on November 8, 1977 (Public Law 95-158). 60 PAGENO="0335" 329 APPENDIX II APPENDIX II The President's Decision calls for the project sponsors to submit to this Commission a new cost estimate prior to the granting of the final certificate of public convenience and necessity. If this cost estimate "materially and unreasonably exceeds" the cost estimates submitted by the project sponsors to this Commission and the President in March of 1977, the Commission is not required to issue a final certificate of public convenience and necessity. Until these updated cost estimates are made available to this Commission and the public, or unless the cost of alternative energy supplies has declined since 1977, we doubt that any new report on this project is likely to result in conclusions substantially different from those contained in the President's Decision and approved by the Congress. The analysis in Chapter 3 of the draft report centers on the concept that cheaper alternatives to Alaska gas may be available to U.S. consumers. This analysis contains a number of weaknesses or deficiencies that should be corrected in the final report. The draft report projects the future demand and supply for natural gas, and thus estimates a gap or shortfall in gas supply through 1990. The draft report then attempts to determine the cheapest sources of natural gas to fill this gap or shortfall. The report speculates that certain other alternative sources of natural gas may be cheaper than Alaska gas and thus may be preferred over Alaska gas. This approach rests on the questionable assumption that there is a fixed demand for natural gas through the year 1990 that is independent of the price of natural gas or the price of alternatives such as imported oil. For the foreseeable future, imported oil is likely to be the most important determinent of energy prices and is likely to be the source of energy that will increase or decrease in response to changing domestic energy conditions. Consequently, a more defensible approach to analyzing the need for Alaskan gas or any other supplementary source of natural gas is to compare the cost of the supplemental source with the future cost of imported oil. If, for example, Alaska gas over its lifetime is likely to be cheaper than 61 PAGENO="0336" 330 APPENDIX II - * APPENDIX II imported oil, it is likely to be in the public interest to develop the project; and there should be little doubt or concern that gas demand will not be large enough to absorb this additional supply. If this nation should be blessed with an abundant supply of natural gas cheaper than the cost of imported oil, insufficient demand for gas is unlikely since natural gas can already substitute for oil in many industrial and utility applications. If other sources of natural gas such as Mexican gas or imported LNG are cheaper than Alaska gas, access to these sources does not reduce the need for Alaska gas that it is less expensive than imported oil. The draft report depicts Alaska gas and other sources of supplemental supplies as alternatives to be substituted for each other. A more analytically correct approach is to think of all of these sources of supplemental gas supplies as substitutes for imported oil and all should be utilized that are less expensive than imported oil. A major weakness of this draft is that the analysis of alternative supplemental gas supply sources as well as the analysis of the Alaska gas project do not give any references to the sources of cost and supply estimates. The draft report itself provides no supporting evidence or calculations showing how costs and supply estimates were arrived at. This makes it impossible for any interested reader to determine the validity of the cost and supply estimates given in this report. In the brief undocumented comparisons of the cost of Alaska gas with other supplemental gas supplies, the draft report seems to use the first year cost of Alaska gas. This is very misleading since the cost of transporting Alaska gas will decline over time. Under conventional methods of utility regulation, depreciation reduces the rate base of the project, thus reducing capital charges that are included in transportation rates. After ten years the transportation charge (in real terms or constant dollars) will be less than half of the first year charge and after twenty years will be less than one fourth the first year charge. Sources of imported gas such as LNG or Mexican gas likely to be tied to the cost of oil and will increase over time. 62 PAGENO="0337" 331 APPENDIX II APPENDIX II Canadian gas exports to the United States is presented in the draft report as an alternative to the Alaska gas project. The report briefly mentions that additional discoveries in Alberta and the Canadian Arctic may allow Canadian authorities to permit continued or even increased exports of gas to the United States. In February of this year, the National Energy Board (NEB) of Canada published a thorough study of natural gas supply and demand in Canada and made a number of significant findings concerning the possibility of exports to the United States. The report concluded that there is an exportable surplus and that Canada will be able to fulfill its current contracts to export gas to the United States. These existing contracts expire at various times over the next few years. Thus based upon existing export licenses, Canadian exports to the U.S. would decline from the current level of approximately 1.1 trillion cubic feet (TCF) per year to 0.3 TCF by 1990 and would cease entirely after 1995. However, the NEB concluded that the current surplus would allow export commitments to the United States to be increased by a modest 2 TCF or by an amount equal to two years of exports at the current level. In addition to these specific findings concerning the size of the current surplus of gas in Canada, the NEB Report decribes a new policy with respect to the determination of the size of any gas surplus in Canada and thus the allowed exports to the United States. In particular, the report has determined that a future deliverability test is a key factor in determining the size of any exportable surplus. In order to determine that a specific reserve of gas is deliverable, there must be some method of transporting the gas to market. The substantial reserves of natural gas in the Mackenzie Delta of Canada will not be counted in the determination of the exportable surplus until Canada is ãssüred that a trans- portation system will be available to move those supplies to market. The Alaska Natural Gas Transportation System is a joint project between the United States and Canada to transport gas both from Alaska and the Mackenzie Delta. Thus the construction of the Alaska gas project would probably result in a finding by the Canadian Government that the Mackenzie 63 57-087 0 - 80 - 22 PAGENO="0338" 332 APPENDIX II APPENDIX II Delta gas could be included in the calculation of exportable surplus. As a result exports of gas from Canada to the United States could be increased from what it would have been if the Alaska gas project had not been constructed. This draft report fails to recognize the important connection or linkage between the construction of the Alaska gas project and the potential for future exports of gas from Canada. The last two sections of chapter 3 deal with the impact of the Alaska gas project on energy imports and on the balance of payments. These two sections attempt to show that Alaska gas would not reduce energy imports and would not improve the U.S. balance of payments. Again these are subjects that were explored at considerable length in reports to the President in 1977 by various government agencies. This draft report contains little in the way of hard analysis that would support these conclusions. The arguments given are strained and tenuous at best. We recommend that these two sections be substantially strengthened or else dropped from the final report. Chapter 4: Conclusions and Recommendations. We have no comments to offer on this chapter. Appendix 1: Government Sponsor Negotiations to Develop a Variable Rate of Return Mechanism. This appendix is a review of the Commissions development of an incentive rate of return mechanism as required by the President's Decision. We have two comments on this appendix. First the Commission in Order No. 31 issued subsequent to the preparation of the draft report resolves most of the outstanding issues concerning the incentive rate of return mechanism. With this order, the Commission feels that is has carried out the requirement in the Decision to develop a variable rate of return mechanism for this project. Such an incentive mechanism has not been attempted previously by this Commission or, to our knowledge, any other regultory agency in the United States. Consequently, the Commission had to develop an entirely new and complicated regulatory mechanism. Our second comment concerns the way this appendix characterizes the procedures used by this Commission to develop the incentive rate of return mechanism. The title and format of the text describes this Commission's procedures 64 PAGENO="0339" 333 APPENDIX II APPENDIX II as a series of negotiations or exchanges between the Commission and the project sponsors. This appendix makes it appear that the Commission and the project sponsors negotiated the details of this mechanism. This characterization is very misleading. The rulemaking procedure used by this Commission to develop the incentive rate of return mechanism is well established and widely accepted. In a rulemaking, the Commis- sion first makes a specific proposal in a public notice. A comment period is specified in the notice giving all interested parties the opportunity to provide written comments on the proposal. Later, all parties are allowed to offer reply comments and thus respond to the initial comments submitted to the Commission by other parties. After review of the initial and reply comments, the Commission may determine that further proceedings such as an oral argument are needed before issuing a final order. In the case of the incentive rate of return mechanism, the Commission instituted two rulemakings. The first rulemaking began on May 8, 1978 and ended with Commission Order No. 17 and developed the basic framework for the incentive rate of return mechanism. On April 6, 1979, the Commission instituted a second rulemaking to develop specific values for the parameters in the incentive rate of return mechanism. Again after an initial set of comments and a set of reply comments, the Commission issued Order No. 31 on June 8, 1979, specifing values for the parameters in the incentive rate of return mechanism. In these two rulemakings over twenty intdrested parties filed comments with the Commission including the project sponsors, the staff of the Commission, various other natural gas pipelines, and the States of Alaska, California, and New York. To characterize this procedure as negotiations between the Commis- sion and the project sponsors is quite misleading and ignores the important role played by other interested parties in the rulemakings. 65 PAGENO="0340" 334 APPENDIX II APPENDIX II In conclusion, the draft report contains a number of technical errors, and its analysis of specific issues concerning the Alaska gas project could be significantly strenthened. We hope that this report will be substantially improved before it is issued in final form. Thank you for the opportunity to comment on the draft report. Sincerely, Charles B. Curtis Chairman 66 PAGENO="0341" - 335 APPENDIX III APPENDIX III Department of Energy Washington, D.C. 20545 July 12, 1979 Mr. J. Dexter Peach, Director Energy and Minerals Division U.S. General Accounting Office Washington, D.C. 20548 Dear Mr. Peach: We appreciate the opportunity to review and cotinnent on the GAO draft report entitled "The Alaska Highway Gas Pipeline Project Status And Issues." Our views with respect to the text of the report and recom- mendations contained therein are discussed below. Chapter 2 The report, in addressing private financing, does not explicitly dis- tinguish between debt and equity financing in examining the question of the need for government involvement. It does examine the equity financing issue in relation to the variable rate of return. However, there is no mention of the fact that debt holders require a certainty of return on investment. The report indicates a high probability of abandonment and the lack of certainty that 2 billion cubic feet a day will be available to the project, unless resolved, or guaranteed through tariffs. Both of these factors will prevent debt financing without a government guar- antee. The report appears vaguely opposed to Government guarantee without stating a clear reason. The report seems to require two considerations of Government involve- ment (1) return on investment and (2) a voice in management. Guaran- ties are a contingent liability. It is unclear, if this mechanism is used, whether the report is suggesting a return to risk bearing other than the typical user fee charged to a guaranty. Guaranties are not direct liabilities so there would be no return on investment. It is also not clear why direct investment seems to be a requirement to obtain a voice in management. Management controls can be built-in 67 PAGENO="0342" 336 APPENDIX ±11 APPENDIX III through provisions in the guaranty instrument in the same way that any lender builds controls into loan documentation. The report points out that the pipeline sponsors are proceeding with preconstruction planning before they finish testing system design. This mode of construction results in the risk of major design changes because the sponsors have not resolved important design aspects for Arctic conditions before construction. We note that a large portion of the cost over-runs on the Alaska Oil Pipeline, the Trans Alaska Pipeline System (TAPS), were attributable to the fact that the sponsors did not fully complete the development and testing of system design before construction began. As a result, geological and technical problems were encountered causing major changes to result in the construction phasing with consequent highly escalated costs. The report indicates that the Alaska Highway Gas Pipeline project is not benefiting from the TAPS construction experience, both in terms of the geological data available and the project management and adminis- trative requirements of such a major undertaking. From our knowledge, there is a tremendous reservoir of technical and management material resulting from the Alaska company's experience in building and opera- ting the TAPS pipeline. The managerial shortcomings and problems in vertical and horizontal integration were documented for the record. The report further indicates that, because the pipeline system will pass through a number of political jurisdictions, these jurisdictions may make costly economic and political demands on behalf of their constituents from the sponsor and the U.S. Government. We note that at the TAPS post-mortem sessions, held in Anchorage, Alaska, following the opening of the TAPS system, dozens of interest-groups from these jurisdictions attended the session for the obvious purpose of planning the development of intensified demands on behalf of their constituents in the construction of the natural gas pipeline. Chapter 3 In regard to the loan guarantee program, the Secretary of Energy did not "raise the possibility" of loan guarantees for the Alaska gas pipeline project. In testimony before the Joint Economic Committee in January 1979, Senator Pro~miire asked Secretary Schlesinger what level of loan guarantees might be appropriate to the project. Secretary Schlesinger responded to the effect that the principal area of risk was in the Alaska segments of the project and that $2 to $3 billion would appear to be an adequate level of guarantee. 68 PAGENO="0343" 337 APPENDIX III The policy of the Administration continues to be as stated in the President's Report to Congress on Alaska Natural Gas Transportation Systems, September, 1977. A private financing is to be preferred to any form of Federal financial assistance. The evaluative cost comparisons made throughout Chapter 3 appear to use as a basis of comparison the first or second year delivered cost of gas for the Alaska project. Use of such a figure is misleading, particularly with respect to comparisons with imported energy projects. Under traditional rate making procedures, the Alaska project tariff in the early years is very high but will decline in real terms over time as the rate base of the project is depreciated. When the rate base is fully depreci- ated, the only charges in the tariff would be operating and inainten- ance expenses. On the other hand, imported oil or gas have only the prospect of continued real increases in price. To be accurate, there- fore, any cost comparison must recognize the life-cycle annuity cost to the respective projects. The Department of Energy agrees with the comments being filed in their response to GAO by the Department of Energy's Federal Energy Regulatory Cottunission (FERC) with respect to the "gap" theory of natural gas supply and demand. Projects that can supply domestic energy to the United States at a life cycle cost less than imported oil or imported natural gas are presumptively in the national interest even though other less expensive domestic supplies might also be available. As is further noted hereafter, the Alaska gas is superior in economic and national security terms to any other imported energy project whose prices would be.tied to the cost of imported oil. The Secretary of Energy has not "abruptly reversed" the Government's policy on fuel switching as stated in the report. The long-term policy to substitute this Nation's abundant coal resources for oil and natural gas in large stationary power plants is unchanged. In the short term, however, it is in the national interest to substitute available natural gas supplies for imported oil. To that end, temporary li±nited public interest exemptions have been is8ued to permit exist4~ power plants to switch from oil to natural gas. These temporary exemptions are fullyl in accord with the provisions of the Fuel Use Act ("Coal Conversion") enacted by the Congress in 1978. Increased natural gas use constitutes a major element of the response plan to the Iranian crisis. Further, there is no benefit to be gained by maintaining a surplus of gas in the producing states. Absence of III 69 PAGENO="0344" 338 APPENDIX III APPENDIX II... markets for gas will lead to a reduced exploration and development, lower domestic gas supply, and higher energy imports in the future. The Department of Energy's Energy Information Administration (EIA) survey referred to by the report was based on EIA Form 52. The analysis report issued by EIA in January 1979 indicated fuel switching of only 375 billion cubic feet or 0.375 trillion cubic f~et over the entire period 1973-1978 instead of the "3.75 trillion cubic feet a year" referred to in the report. The EIA Form 52 survey relates only to permanent switching from gas to other fuels, and did not measure tem- porary alternative fuel use during the period of gas shortage. The statement that "Wood and coal replaced 60 percent" of the 3.75 trillion cubic feet of natural gas supply reduction between 1973 and 1975 is in error. The data from Federal Power Commission (FPC) Form 69 and Federal Energy Administration (FEA) Form G-lOl for 1976 and 1977 reflect 3.3 trillion cubic feet of natural gas curtailments of firm' and interruptible users. Only 16 percent of those curtailments were reported to be replaced by coal. Wood was not separately identi- fied, but it must be miniscule. Oil constituted 67 percent of the reported substitution. In reviewing the potential alternatives, the report fails to mention synthetic fuels, imported liquified natural gas, and possible offshore production of natural gas. There is no evidence that would support the statement that "Mexico could supply 0.5 to 1.5 trillion cubic feet of gas a `year through the 1980's," if the statement is intended to indicate the potential level of Mexican gas exports to the United States today. It is possible that gas exports by Mexico could reach 0.5 trillion cubic feet to 1.0 trillion cubic feet sometime during the 1980's but any projection is quite speculative. There is currently no agreement from gas sales in effect between the United States and Mexico. Further,' Mexican production plans for oil or gas have not been established beyond 1982. The statement that the "Mexican national oil company agreed to supply - (natural gas) for $2.60 per thousand cubic feet" is not accurate. The Memorandum of Intentions between the Mexican national oil company and the United States pipelines specified that the price should be determined by reference to the distillate fuel oil price in New York Harbor. Today, that formula would provide for prices of $4.00 per ~nbtu or more. Mexican oil production and gas supply are not significantly dependetit upon a "United States - Mexican oil agreement." A high percentage of 70 PAGENO="0345" 339 APPENDIX III APPENDIX III Mexico's oil exports come to the United States today, but the United States is not the only current or potential market for Mexican oil. In theory liquified natural gas (LNG) projects could provide a gas at a cost that would rise over time in real terms to a lesser degree than the price of imported oil. Such projects involve substantial capital investment that is depreciated causing the rate base to decline in a manner similar to the Alaska gas project. Liquified natural gas cannot with any degree of confidence be characterized as a less expen- sive alternative to Alaska natural gas.. The Alaska natural gas need not be delivered to a consumer that other- wise would be directly dependent upon imported fuels. for it to achieve a displacement of imported fuels. Any reduction of oil consumption in the United States will lead to a reduction of imported oil since that is the marginal supply. Natural gas use constitutes a major factor in the response plan to the Iranian crisis. Further, there is no benefit to be gained by maintain- ing a surplus of gas in the producing states. Absence pf markets for gas can lead only to a depression of exploration and development, lower domestic gas supply, and higher energy imports in the future. Consumers will use natural gas if it is reliable and less expensive than alternative fuels. There is little reason to doubt that the long- run cost of imported oil will be higher than the cost of Alaska gas. Any marketability risk of possibly higher costs of the Alaska gas in the initial years of the project life can be overcome through rolled-in pricing provided by the Congress in the Natural Gas Policy Act, as well as by levelizing the tariff structure, if need be. Maximization of the development of domestic energy resources is in the highest national interest.of the United States. The Alaska gas project could deliver nearly 1.0 trillion cubic feet of natural gas equivalent to 425,000 barrels of oil per day to the lower-48 states by 1985. Thi project will have no significant impact on drilling for gas in the lower-48 states. Rolled-in pricing will prevent any significant adverse impact in the early years and, indeed, in the later years of the project life it could have the effect of encouraging development of other gas resources by providing a form of subsidy for such resources. The report accurately notes that the Alaska project would involve some dollar outflows for the Canadian tariff. Such outflovs will be snail compared with the dollar outflow associated with imported oil or 71 PAGENO="0346" 340 APPENDIX III APPENDIX III natural gas. Like the United States tariff, the Canadian tariff charges and dollar outflows will decline over tine while the cost of imported energy will only continue to increase. Natural gas purchases from Mexico could have a somewhat lesser adverse economic effect on the United States than purchases of imported oil from most other countries since Mexico is likely to purchase more quickly a higher percentage of United States goods and services than many other oil or gas exporting countries; but any import of energy creates a drain on the resources of the United States whether or not the dollar is quickly "recycled." It is clear that the Alaska gas project will be far superior to any imported energy project in these terms. In terms of real resource costs and benefits, the Alaska project will return many billions of dollars more to the United States over its life than any imported energy project, Reference could be made to the recent study contracted by DOE's Federal Energy Regulatory Con=is- sion on Alaska gas, A Review of Alaska Natural Gas Transportation Issues, May, 1979. The subject draft report recoends that the Secretary of Energy provide Congress with a report within 60 days of the issuance of the final report. The 60 day time frame requirement is much too short an interval. It is requested that this time frame be extended. We appreciate your consideration of the co~mients in the preparation of the final report and will be pleased to provide any additional informa- tion you may desire. Côisnents of an editorial nature have been provided to members of your staff. Sincerely, *`2,t,,~ionald C. ,,~stiehr / Director Office of GAO Liaison 72 PAGENO="0347" 341 APPENDIX IV APPENDIX IV ~ DEPARTMENT OF STATE Wa~hi~gto~. D.C. 20520 Aug~1st 3, 1979 Mr. J. Kenneth Fasick Director International Division U.S. General Accounting Office Washington, D.C. Dear Mr. Fasick: I am pleased to forward the attached comments on the draft report: "The Alaskan Gas Pipeline Project Status and Issues". The comments were prepared by the Deputy Assistant Secretary for International Resources and Food Policy. We appreciate having had the opportunity to review and comment on the draft report. If I may be of. further assistance, I trust you will let me know. Sincerely, Rog B. Feldman Deputy Assistant Secretary for Budget and Finance Enclosure: As stated 73 PAGENO="0348" 342 APPENDIX IV APPENDIX IV State Department Comments on Draft GAO Report, "The Aiiska Highway Gas Pipeline Project Status and Issues".. ~9~t Comments provided for Chapters 1, 2, and 3 apply to the issues summarized in the Digest. Chapter 1 Page 1-5: The membership of the Northwest Alaskan ~onsor~partnership is likely to change. American Natural has announced its intention to negotiate an arrangement with the partnership. Others may follow in conjunction with the President's July 16 directive to DOE. The draft should be updated to reflect these changing circumstances. ~ 1-6: The draft does not provide a description of the reasons behind the fact that the project has been delayed, including the 18 months it took Congress to pass the Natural Gas Act of 1978 providing a wellhead price for Alaskan gas. Nor does it acknowledge the deliberative nature of the regulatory determination process, and the time required to take into account associated comments and rebuttals by the Project Sponsors and other interested parties. There is justifiable reasons to proceed deliberately. A project so enormous must be undertaken with full consideration for the risks and benefits, particularly in view of the TAPS experience. This time the effort will be to avoid making similar mistakes. This may require more time in the preconstruction stages of the project. Chapter 2 Page 2-5: The Federal Inspector has been appointed by the President and confirmed by the Senate. This section of the report is thus overtaken by events and should be deleted. Page 2-6: While the issues of gas conditioning costs ~id right-of-way stipulations are important considerations for the Project's viability, there is no evidence to conclude that they represent serious obstacles. 74 PAGENO="0349" 343 APPENDIX IV APPENDIX IV Certainly many "worst-case scenarios" can be developed to cast a pessimistic light on the Project. This brief, two page section of the report is far too shallow to deal with both of these important issues adequately and fairly. Page 2-8: The report places undue emphasis on Project Spon~ó~s estimates of the risk of project abandonment. Various project-related interests are being brokered in 1979 as regulatory determinations are finalized, and permitting and approvals procedures go forward. In this atmosphere concern for the viability of the project is bound to be aroused. As the necessary regulatory decisions are concluded, and other related activities, such as establishing the Federal Inspector's operation, and concluding additional gas supplier contracts are accomplished. talk of abondonment will recede. Page 2-9: Every major construction or manufacturing projectcarries a variety of risks. Technical and geological uncertainties will, of course, be thoroughly investigated. Project segments must, of course, be fully coordinated with related activities in order to complete the project on a timely basis and close to budgeted costs. There is no basis for the implication that obstacles are insurmountable. Page 2-10: The Project was developed and approved by Congresion the basis of 26 trillion cubic feet-plus~ proven gas reserves under the North Slope. Its 25 year life cycle costs are based on those proven reserves. The draft report's questions concerning Prudhoe Bay production history and gas availability would appear beyond the scope of the Project as presented, i.e., the pipeline is designed to carry approximately 2.4 BcF/day for 25 years, or an amount well within the capacity of proven reserves to support. Page 2-11: The draft report notes that the Project might be vulnerable to adverse regulatory and political actions because it passes through several political jurisdictions in two countries. Adequate protections have been provided to the P~ject by two international agreements negotiated with Canada--the Transit Pipelines Treaty and the Agreement on Principles Applicable to a Northern Natural Gas Pipeline: In addition to non- ~iscriminatory treatment i~anada of the pipeline and 75 PAGENO="0350" 344 APPENDIX IV APPENDIX IV its throughput, these agreements provide a broad range of general and specific assurances, as well as an & incentive formula covering the U.S. role in constructing the Dempster line to access MacKenzie Delta gas, in which u.s. sponsorship of the Dempster link declines in proportion to any delays caused on the Canadian side. 2-12: See above comments concerning abandonment risk. Page 2-12: The comments concerning investor attitudes, like much of the analysis surrounding the issue of private financing, is based on premature assessments. It is clear that several important issues must be decided before the Project can be properly presented for consideration by the financial market. Those issues are being examined now and regulatory determinations will be finalized soon. Until then the draft report's assessments are premature. Page 2-13: The comments on regulatory attitude are dated. The Federal Inspector is in place, the reorganiza- tion plan is being implemented, and both the President and involved government agencies are committed to expeditious treatment of the Project. Page 2-13: Public awareness of the difficult decisions that are being made as the Project goes forward is not, of itself, detrimental. At the same time, the public is increasingly aware of the dangerous dependence of the United States on imported oil, and the renewed vigor with which domestic resources, like Alaskan gas, must be developed. ~ge 2-15: The assertion that the Administration raised the possibility" of $2-3 billion in Federal loan guarantees is incorrect. We understand that the Secretary of Energy, responding to a hypothetical suggestion during Senate hearings in January, indicated that a range of $2-3 billion in guarantees would be adequate--in the hypothetical circumstance suggested. The Alaskan Gas Pipeline Project was proposed by the President and approved by Congress on the basis of private financing. The US/Canadian Agreement on Principles requires private financing. We have no reason to expect that this Project will proceed other than on those terms. Problems have had to be dealt with, and consequently delays have been encountered, 76 PAGENO="0351" 345 APPENDIX IV - APPENDIX IV Page 2-15: The draft report makes the statement that ~... a Similar investment in coal gasification or other unconventional sources might yield a greater return for each incremental dollar invested". This assertion is highly speculative in our view and in any case requires substantially more detailed explanation and analysis if the concept of unconventional alternatives is to be retained in the study. Chapter 3 Page 3-1: This chapter suffers most seriously from the problem of being premature. It is highly premature. to assume: a) that private financing will not be available and, b) that Congress therefore needs to consider all its options before dealing with a request for Federal financial assistance. The questions presented in the draft report for Congressional consideration have already been taken into account in the proceedings leading the Presidential Decision, and in testimony before the Federal Energy Regu1a~ry Commission. In addition the Project sponsors must submit a new cost estimate to the FERC prior to granting of the final certificate of public convenience and necessity thus presenting another opportunity to weigh the balance of costs and benefits from the project. P~ge 3-2; The fact that other supplies of gas may be available besides project gas does not in any way change the desireability of access to the 26 TCF of proven gas reserves under the Alaskan North Slope. The fact is that we can anticipate increasing real prices for imported oil with consequent impact on energy prices generally. Alaskan gas is likely to be substantially cheaper, over the life cycle of the project, than imported oil. Access to additional Canadian gas, or Nexican gas, or additional LNG would be helpful in and of themselves, but do not reduce the need for Alaskan gas that is less expensive than imported oil. Table 3 includes highly speculative figures for possible imports of foreign gas in the 1980's. The draft repOrt contains no supporting evidence for these supply estimates nor for the cost analyses contained in this section. The cost comparisons appear to use the first year delivered cost of Alaskan gas as a basis of comparison. This is inappropriate because the depreciation formula for Project costs results in a declining real cost over time. Any accurate analysis must therefore base comparison of alternate projects on their life cycle annuity cost. 77 PAGENO="0352" 346 APPENDIX IV APPENDIX IV .Paye 3-7: The analysis confuses conservation and fuel sw~.tcuii~g. The key long-term element of the Government' s policy on fuel switching is to substitute coal for oil and natural gas. Short term adjustments to that policy, including limited exemptions for industrial and utility use of natural gas, are appropriate. The analysis seems to overlook the fact that surplus gas supplies over- hanging the market are not likely to encourage expanded exploration and development of additional reserves, indeed they may discourage it. Page 3-9: The section on unconventional sources is undocumented, superficial and excessively speculative. 3-10: Anticipated Canadian supplies are not ade- quately documented. Page 3-10: The statement that "Mexico could supply O~S to 1.5 TCF of gas a year through the l980s" is not substantiated. This would be 1.4 to 4.1 BCFD. Such numbers are highly speculative, especially since Mexican oil and gas production plans do not extend beyond the current Mexican presidential term ending in 1982. The reference to Pemex' offer of $2.60 per MCF is inaccurate. The 1977 Memorandum of Intentions between Pemex and six U.S. pipeline companies called for reference price based on the price of distillate fuel oil in New York Harbor -- about $4.50 per MCF at current prices. Mexican gas exports to the U.S. are not dependent on conclusion of a U.S./Mexican oil agreement. 3-Il: The conclusion that LNG imports in 1985 woulc~ be priced at the equiva1ei~t of $12 to $18 per barrel of oil ($2-$3 per MCF) is well off the mark. It over- looks the fact that these imports contain escalator linkages to the price of imported oil, and the possibility of their being renegotiated. Pages 3-11 and 3-12: Since imported oil is the marginal iüpply element in~he U.S. energy system, Alaskan gas will serve to backout imported oil, directly or indirectly, and/or to support U.S. economic growth. Statements in this section reflect a "no-growth" philosophy. Page 3-14: This section on balance of payments costs for energy Ti inaccurate and out of date. Energy imports are not expected to be 12 million barrels a day in the late 78 PAGENO="0353" 347 APPENDIX IV APPENDIX IV 1980's. Oil already costs more than the $18 per barrel figure used as its cost in 1979 dollars for the mid- 1980's. The balance of payments costs (payments to Canada) for transporting Alaskan gas is small compared to the negative effect on the U.S. economy of importing an equivalent amount of oil. These Canadian tariffs also are scheduled to decline over time. Chapter 4: No comments. 79 57-087 0 - 80 - 23 PAGENO="0354" 348 APPENDIX V APPENDIX V FEDERAL INSPECTOR FOR THE ALASKA NATURAL GAS TRANSPORTATION SYSTEM Washington, D.C. 20503 July 30, 1979 Mr. 3. Dexter Peach Director Energy and Minerals Division U. S. General Accounting Office Washington, D. C. 20548 Dear Mr. Peach: A copy of your draft report, "The Alaska Gas Highway Pipeline Project; Status and Issues" (Code 998700) was routed to my office as part of the distribution made to Agencies belonging to the Executive Policy Board (EPB) of the Alaska Natural Gas Transporation System (ANGTS). It is my understanding that comments, as requested, have been prepared by the various Agencies of EPB. Based on the information currently available to me, I have serious reservations about some of your analyses and recommendations. I am reluctant at this time, however, to provide detailed comments for a number of reasons. First, many of the issues discussed in the report are related to decisions or negotiations of the Federal Energy Regulatory Commission, Department of the Interior and private companies which took place prior to my appointment as Federal Inspector and prior to the establishment of the Office of Federal Inspector. I was not privy to the rationale behind these discussions. Second, other issues raised by the draft report, especially the matter of economic and financial viability are still being debated or evaluated by forces of the free market. I think the marketplace should be given an opportunity to work its will. As you can understand, the issues and qnestions raised in the report relative to the pre-construction, construction and initial operation of the ANGTS are of vital concern to me and my office. Please feel free to call on me if you have any questions or I can be of assistance. Sincerely, frohn T. Rhett I Federal Inspector 80 PAGENO="0355" 349 APPENDIX VI APPENDIX VI United States Department of the Interior OFFICE OF THE SECRETARY In Reply WASHINGTON, D.C. 20240 Refer To: ALO1 .0401 4 1979 Mr. Dexter Peach Director, Energy and Minerals Division United States General Accounting Office Washington, D.C. 20548 Dear Mr. Peach: We have reviewed your proposed Draft Report on the Alaska Highway Pipeline Project Status and Issues (Code 008700). Our comments fall into teo cate- gories: those which deal with this Department's specific responsibilities and those which are general in nature. Specific Comments -On page 2-7, it is suggested that proceedings for the Right-of-Way Agreements represent an opportunity for delay. It is unlikely that a delay will be caused by our schedule for issuing the Stipulations. We are scheduled to complete them before October of this year and this fits the companies' schedules. The Agreement and Grant of Right- of-Way documents are being prepared and will be ready for signature when the conditions of Section 28 of the Mineral Leasing Act are met. -The Department does not look at the stipulations as a basis for mak- ing `concessions". There has been extensive discussion with the companies about the envi ronmental and other concerns of the Department vis-a-vls the economics of the project. -We differ with the conclusion implied on pages 2-8 and 2-9. We believe that the technology exists to build the pipeline in an environmentally acceptable, economical manner. However, we do have a number of major technical concerns in Alaska that must be resolved by the company before the pipeline can actually be constructed. General Comments - The following is a list of omissions or changes that we suggest be considered before the final report is submitted to Congress. The economics of the project have been extensively studied for several years and found to be generally acceptable. Recent increases in OPEC oil prices reinforce the justification. It Is not apparent what pur- pose would be served by having the Secretary of Energy undertake another overview. 81 PAGENO="0356" 350 APPENDIX VI APPENDIX VI -The planned facility will have a capacity of 1.163 trillion cubic feet per year with additional capacity possible by looping. -There is a strong possibility of additional gas being discovered In the north slope area that could be transported by this line. -The report does not explore what is to be done with the gas in the event that there are no transportation facilities out of the region. Currently, under State Regulation, the gas Is being reinjected at Prudhoe Bay. This is costly and consumes a portion of the gas in the process. There are limitations on the useful and non-wasteful continuation of reinjection which should be discussed. -There is a misleading characterization on page 3-5. If it were obvious that LUG were an economic source of energy, the case against Inporting would have dissolved. If markets for the gas at incre- mental cost were apparent, LUG inports would have been authorized. Without sore market constraint (such as full-cost or incremental pricing) LUG remains a suspect, unattractive source of fuel. With the appropriate market constraints, it may ultimately become an economical source. -The economics on page 3-7 are confusing. We doubt that it could be demonstrated that energy users are indifferent to prices. What is It that is going to alter consumers preferences or habits? It sounds as If the authors are advocating forced conservation. This tends to be corroborated by first paragraph, page 3-12. -The logic on page 3-12 is questionable. Supply does not create demand. Further, If the cost of the Alaskan gas (properly priced) were l~v enough to warrant increased economic activity, this would seem a desirable, rather than an undesirable, outcome. -The discussion concerning the lack of inpact on inportation of OPEC oil is not entirely correct. It is not necessary for someone who burns foreign oil to directly substitute Alaskan gas for displacement of foreign oil to occur. The total energy inported with or without the Alaskan gas is the real basis for conparison. -The Investment tax credit has a substantial inpact on the real rate of return on equity capital. We think that this inpact should be considered and included in the appendix on the IROR, in order to accurately evaluate the financial prospects for this project. -Your concerns about marketing may be overstated as most of the proven Prudhoe gas has already been marketed (with certain restrictions). Also, It Is unlikely that the conpanies involved will start construc- tion before they have distribution contracts and comitments. 82 PAGENO="0357" 351 APPENDIX VI APPENDIX VI -In evaluating this ~roject, consideration should be given to its value as an energy insurance policy' in the event of interruption of overseas sources. -Consideration of this marginal increase in supply as a constraint on the price of OPEC oil and/or LNG would be interesting. -Of very special importance for the Congress to consider are the pre- built projects in the lower 48. These projects will provide Canadian gas at an early date and their import should be considered in an over- all evaluation of this entire project. I hope the above comments will be beneficial to you in the preparation of the final report. If you have any questions or want elaboration, please contact Mr. William M. Toskey, 343-6932, the Department's Authorized Officer for this project. L Larry E. Meierotto Assistant Secretary Policy, Budget and Administration 83 PAGENO="0358" 352 APPENDIX VII APPENDIX VII NORTHWEST ALASKAN PIPELINE COMPANY Jo~ G.McM~Lu*~ July 10, 1979 Mr. Elmer B. Staats Comptroller General 441 G Street, N.W. United States General Accounting Office Washington, D.C. 20548 Dear Mr. Staats:~ Mr. J. Dexter Peach's letter of June 19, 1979 to Mr. Arthur 3. Miller of Northwest Alaskan Pipeline Company transmitted for comment a purportedly confidential draft of a proposed Report entitled, "The Alaska Highway Gas Pipeline Project Status and Issues." The report contains so many misstatements and inaccuracies that the time and resources which would be required to comment on each cannot be justified in light of its premature release to the Canadian press. The full extent of the damage and delay caused by the unethical and premature release of the draft to the press cannot be fully assessed at this time. We are enclosing for your information copies of articles from several newspapers to illustrate how an ill-conceived and misleading report can be further misinterpreted by the press. The impact of such articles with their inflammatory rhetoric, espe- cially on the financial community, are particularly damaging to this vital energy project. We believe the distortions, inaccuracies, and incompleteness of the already published and released report will be readily discernible to the careful reader, and that this will be our best defense against such irresponsibility. By copies of this letter, we are informing members of Congress and the Administration of our comments and opinions on this matter. Ve truly yours, ohm G. McNillian GAO note: The supplementary newspaper articles referred to in these letters have not been reproduced. 84 PAGENO="0359" 353 APPENDIX VIII APPENDIX VIII ~ I Northern ~ ~%J Natural Telephone 402.348.4000 ~ W Gas Company July 12, 1979 JCP:106:79 Mr. J. Dexter Peach Energy and Minerals Division United States General Accounting Office Washington, D.C. 20548 Dear Mr. Peach: In response to your request for comments on the General Accounting Office's draft report, "The Alaska Highway Gas Pipeline Project Status and Issues", my reply as Project Manager for the Northern Border Pipeline Company contains observations pertinent to the Eastern Leg of the Alaska Natural Gas Transportation System also known as the Northern Border Segment. On January 26, 1979, Northern Border fIled an application with the Federal Energy Regulatory Commission for permission to prebuild 809 miles of the Eastern Leg to transport 800 MMCFD of Canadian Gas to U.S. consumers beginning two to three years in advance of when Alaska gas will be available. This service proposed by Northern Border would begin in November, 1981, and continue for a period of 12 years, providing substantial volumes of gas to the Midwestern and Eastern U.S. markets. This proposed prebuilding or Phase I construction of the Northern Border System is predicated on the receipt of acceptable certificates and permits from both the United States' Federal Energy Regulatory Commission and the Canadian National Energy Board. When Alaskan gas becomes available Northern Border will file addi- tional applications requesting permission to expand its system by adding 308 miles of pipeline and more compressor stations to accommodate the combined volumes of Alaskan and Canadian gas volumes. This expansion of the Northern Border system will be timed to coordinate its completion with completion of the other segments of the total system. Our basic comment on your draft is that sub8tantially all of the problems described are peculiar to the Alaskan segment (or perhaps in some part the Canadian segment), and have little bearing on Northern Border's prospecta for financing and construction in light of the "pre-build" prop~gg~ to 85 PAGENO="0360" 354 APPENDIX VIII APPENDIX VIII transport Canadian gas. Had the FERC not chosen to impose the IROR mecha- nism on Northern Border, the financing and "pre-build" construction would have proceeded routinely upon issuance of satisfactory export-import li- censes by the two governments, and a satisfactory Certificate by the FERC. The only unusual obstacle Northern Border now faces is satisfactory re- solution of the IROR mechanism. It still faces the usual obstacles of satisfactory "pre-build" authorizations from the two governments involved. Whether those obstacles will be overcome, and when, is pe- culiarly within the control of the two governments. However, given such action on a timely basis and acceptable terms, we have no concern over our ability to finance Northern Border privately and construct the "pre-build" segment on the projected time schedule (assuming the expected cooperation of the Federal Inspector during final design and construction). Neither would we have any concern, once the "pre-build" is completed, over our ability to finance privately and to construct timely the expansion re- quired to accommodate Alaskan gas when it begins to flow. We believe our presentation before the FERC should make it clear that only satisfactory regulatory approvals for the "pre-build" (including IROR in that context) are needed to bring Northern Border into being as a privately financed pipeline. This represents over 1100 miles of the 4800 mile total system, and an investment (for both Canadian and Alaskan gas) of. approximately $2 billion. Moreover, as our presentation to FERC documents, successful completion of the Northern Border "pre-build" will benefit the financing and construc- tion of the Alaskan and full Canadian segments enormously. Further assis- tance will accrue from "pre-building" the Canadian southern segments and the Western Leg. The unit cost of transportation of Alaskan gas will de- cline significantly, and obviously financing requirements will be greatly reduced within the sane time period. We suggest addition of a comprehensive explanation of the effects of "pre-building" on completion of the entire Alaskan system, and re-exami- nation of some concerns expressed in light of that expectation, and the recent OPEC price increases. Above all, it should be made clear that Northern Border can be and will be privately financed barring adverse regulatory actions in the U.S. or Canada. Yours truly, Conrad Pyle Project Manager JCP/nj 86 PAGENO="0361" 355 APPENDIX IX APPENDIX IX P.A C' t F I C GA.S .A.N ID ~ E CT R1 C C 0 M P.A.NY 77 BEALE STREET * SAN FRANCISCO, CALIFORNIA 94106 IOI4N A. SPROUL July 12, 1979 Mr. J. Dexter Peach, Director United States General Accounting Office Energy and Minerals Division Washington, D.C. 20548 Dear Mr. Peach: This will reply to your June 19, 1979 letter which invited comment on the General Accounting Office draft report entitled `The Alaska Highway Gas Pipeline Project Status and Issues." This response is made on behalf of Pacific Gas and Electric Company (PGandE) and Pacific Gas Transmission Company (PGT). As you are no doubt aware, PGandE, through its subsidiary Calaska Energy Company, is participating in the partnership that will build the Alaska portion of the Alaska Natural Gas Transportation System (ANGTS), and PGT and PGandE have been designated by the President to build the western delivery leg of the ANGTS. Thus, both companies take a keen interest in the subject matter of the draft report, and appreciate this opportunity to provide comments thereon. In reviewing the draft we have, as you asked, taken care to prevent the report's premature release or unauthorized use, knowing that the publication of the preliminary draft, before it has been. checked for inaccuracies and misleading statements could do unjustifiable harm to public and investor confidence in the Alaska Project. We were, therefore, dismayed to learn that, despite your caution, the draft, without the benefit of corrections, was the subject of some premature stories in the press. This is particularly unfortunate, for the draft in its present form is misleading to the public and to the Congress, and will do nothing to advance general understanding of the projçct, its promise, or its problems. The Project has been approved and found in the national interest by the President and the Congress. The draft report gives scant attention to this fact and seems instead to proceed on the assumption that the national need for this new domestic energy supply should be restudied. The Project is in danger of being, studied--and restudied--to death. The draft report contains a great deal of superficial and completely unsubstantiated speculation about the possible availability of alternate energy supplies. This speculation covers ground which has been covered many times before. AU of the mentioned alternatives are not truly alternatives to the Alaska Project but are instead other possible sources of energy that will in all likelihood be needed in addition to the Alaska Project, if they can be brought to fruition. Alternatives to the Project were considered and a decision has been made at the 87 PAGENO="0362" 356 APPENDIX IX APPENDIX IX highest levels of our Government and the Government of Canada to move forward with the Project. The time for studies of alternatives is past. If any study is necessary at this time, there should be an analysis of ways to clear government roadblocks and delays which are the single greatest threat to the Project's timely and economic completion. In our opinion the GAO's draft study should be revised to give close attention to this problem. The report could perhaps help to' achieve the expressed will of the Congress that this Project be built if the report were to examine closely the delays and uncertainties caused by the gov~ernmental regulatory process, and to recommend ways of rectifying the situation. The report spends a great deal of time speculating what should be done if the Project were unable to obtain private financing. This sort of speculation unnecessarily runs the risk of becoming a self-fulfilling prophecy. Investor and lender confidence are being eroded day by day by regulatory delays which raise the question of the U.S. Government's commitment to the Project. The draft report will cause further erosion of confidence. The partnership has stated its belief that the Project can be privately financed, but we will not know until we are allowed by government decisions to go forward. We do know that until that occurs, speculation about possible failure, especially T~om a responsible agency of the Federal Government, is to say the least, unnecessary and very much contrary to the national interest. We sincerely hope that these comments, although general In nature, will aid your ~Office in its review and modification of the draft report. We stand ready to provide further information and assistance. Very truly yours, OHN A. SPROUL DEG:nw 88 PAGENO="0363" 357 APPENDIX X APPENDIX X AGENCY COMMENTS AND GAO'S DETAILED RESPONSES FEDERAL ENERGY REGULATORY COMMISSION Ag~ncy comment "We have read your draft report * * * and offer the following comments from the Federal Energy Regulatory Commission (FERC). * * Chapter 1 "Our only comments on this chapter deal with the subsection titled `The Government is Unable to Attract Additional Sponsors for the Alaskan Seg- ment.' This section gives a misleading impres- sion of the role of this agency in the regula- tion of the Alaska gas project. This section states that ` [un June 1978, the Government tried to attract additional sponsors for the Alaska segment.' The report is referring to an order issued by this Commission on June 30, 1978, concerning the partnership agreement sub- mitted by the project sponsors for our approval as required by the President's Decision. "In the partnership agreement, there is a sched- ule that reduces the share of profits going to each member depending upon the date that the member joins, the partnership. Although North- west Alaska gave public notice of the opportunity of joining the partnership shortly before the date the profit discount was to go into effect, the .Commission felt that the President's require- ment of open ownership participation without discrimination would best be realized if the date for the initial discount in profit share was post- poned for 30 days from the date of the Commission's order to allow additional members to join the part- nership without penalty. The Commission's inten- tion in this order was to provide equitable and fair treatment of all potential partners and not, as the draft report suggests, `to attract addi- tional sponsors.' This section of the report erroneously implies that this Commission took an active role in attracting parties to join the partnership. This was not the intent of the Com- mission order." 89 PAGENO="0364" 358 APPENDIX X APPENDIX X GAO reponse No. 1 The report now reflects these Càmmission views. Agency comment Chapter 2 This chapter states that the Federal Inspector for the project is not yet on the job and that two im- portant issues remain to be resolved which could lead to lengthy administrative or judicial review. In fact, the Federal Inspector was nominated by the President several weeks ago. GAO response No. 2 The report now notes that the Federal Inspector is on the job. He was sworn in July 13, 1979, about 20 months after Congress approved the Decision in November 1977. ~~çy comment `In the Section titled `Government Actions to Bring the Project on Line', the report gives a history of past executive and legislative actions affecting the project. We note two importantommissions concern- ing government participation in financing. `The draft report refers to those sections of the President's Decision opposing novel regulatory schemes to shift project risks to consumers and rejecting federal financing assistance. The Alaska Natural Gas Transportation Act (ANGTA) calls for the President to submit terms and conditions for inclusion in the Congressional authorization for the project. Congressional approval of the Presi- dent's Decision gave these terms and conditions proposed by the President the force of law. The fourth term and condition dealing with finance states that `the successful applicant shall pro- vide for private financing of the project and shall make the final arrangements for debt and equity financing prior to the initiation of con- st~uction.' Since Congress approved this condi- tion, it can only be changed by a further act of Congress. This fact is not made clear in the report." 90 PAGENO="0365" 359 APPENDIX X APPENDIX X "Also the U.S./Canadian Agreement on Principles for the project calls for private financing both in the United States and Canada. The draft re- port should indicate that government participa- tion in the financing would probably require an amendment or change to this agreement between the United States and Canada as well as an act of Congress." GAO response No. 3 The report now recognizes (1) that the agreement calls for private financing, (2) the fourth tern and condition on financing, and (3) FERC's statement on the need for congres- sional approval. (See pp. 8 and 9.) Agency comment "The report discusses two key issues that remain unresolved. The first concerns treatment- of gas conditioning and processing costs. The Natural Gas Policy Act gives the Commission discretion to increase the maximum lawful price for gas to com- pensate for conditioning and processing costs at Prudhoe Bay. On February 2, 1979, the Commission issued a notice of proposed rulemaking and state- ment of policy respecting the treatment of these production related costs for natural gas sold and transported through the System. Initial comments and reply comments from all interested parties have been received, and the Commission expects to issue an order concerning production related costs in the near future. The Commission's decision will be subject to judicial review but only under the expedited procedures required by ANGTA. We doubt that the resolution of this issue will be as lengthy as the draft report implies." GAO response No. 4 We have no difference in fact. The act~ual time required will be determined as events unfold. Agency comment "The draft report places a great deal of emphasis on the risk of abandonment given by the project sponsors. Though no source is given for these probabilities in the draft report, GAO Staff has" 91 PAGENO="0366" 360 APPENDIX X APPENDIX X indicated that they are taken fron a paper pre- pared by the Northwest Alaskan Pipeline Company on March 7, 1979, titled ~Determining the Project Risk Preniun for the Alaska Segment of the Natural Gas Transportation System. This report was sub- mitted to the Alaska Gas Project Office of this Commission which in turn distributed the report to all interested parties in the rulemaking dealing with the Incentive Rate of Return Mechanism. Though we invited the sponsors to provide support- ing evidence or justification for these probabili- ties, the project sponsors in their written comments during the rulemaking provided no justification or support. As a result in Order No. 31, the Commis- sion rejected these probabilities as being unrea- sonably high. GAO .response No. 5 The report recognizes these facts; this section of the report is clearly attributed to the sponsors, and we neither accept nor reject what they said. Agency comment Chapter 3 Chapter 3 attempts to analyze the need for Alaska gas and whether it is in the public interest to build the Alaskan Natural Gas Transportation System. This is an issue that was studied at great length in hearings before this Commission and in the various reports submitted by government agencies and other parties to the President and the Congress pursuant to ANGTA. GAO response No. 6 This comment nisstates the purpose and nature of the analysis in Chapter 3. Chapter 3 presents its raison detre as follows: The Project offers a potentially significant domestic gas supply. Therefore, if its sponsors request Federal financing assistance because they cannot finance the project alone project proponents will undoubtedly urge the Congress 92 PAGENO="0367" 361 APPENDIX X APPENDIX X "to quickly provide the needed assistance * * We believe that the Congress needs to con- sider all its options before it responds * "If the sponsors seek Federal financial involve- ment, the Congress should consider the follow- ing questions.' The report then poses four questions relating to (1) alternative gas sources to supply similar quantities of gas at similar or lower prices, (2) the possibility of achieving a satisfactory gas demand/supply balance through restraints on demand or supplies from alternative sources, (3) the ef- fect of project gas on reliance on foreign energy and dollar outflows, and (4) alternative forms of Federal financial in- volvement. The report then states that "this chapter dis- cusses briefly, data and concepts relevant to these questions." The chapter thus deals with the question of Federal financial involvement and not the "need for Alaska Gas" or "whether it is in the public interest to build the Alaskan Natural Gas Transportation System." We do not assume that it is certain that the Project sponsors will need or seek Federal financial aid or that, if aid is requested, the suggested analyses will be unfavorable to Federal financial involvement in the Project. Agency comment "The record before this Commission on the Alaska gas project consists of some forty-five thousand pages of transcript and about 1,000 individual exhibits. Also ANGTA called upon this Commission and other Government agencies to submit reports to the Congress and the President concerning the need or benefit of building the project. In addi- tion to other subjects, the Act required the Com- mission to report to the President on `the proj- ected natural gas supply and demand for each region of the United States and on the projected supply of alternative fuels available by region to off- set shortages of natural gas. * This Commission submitted its Recommendation to the President on May 1, 1977. ANGTA called upon other federal agencies to submit reports to the President on a variety of subjects including regional natural gas requirements and the relationship of the pro- posed transportation system to other aspects of" 93 PAGENO="0368" 362 APPENDIX X * APPENDIX X national energy policy. In response to this mandate, the Federal Energy Administration, the Department of Commerce, the Department of Interior, and the Department of Labor submitted a report to the President on June 30, 1977, titled `National Economic Impact of Alaskan Natural Gas Transportation Systems.' The Federal Energy Administration, the Department of Commerce, the Department of Interior, (United States Geological Survey), the Department of Transportation, the Department of Treasury, and the Energy Research and Development Administration submitted the `Report of the Working Group of Supply, Demand, and Energy Policy Impacts of Alaska Gas' on July 1, 1977.' GAO response No. 7 We are familiar with the studies and proceedings which preceded the President's Decision and its approval by the Congress. The report in no way denigrates them. However, no matter the intensity and quality of this previous work, too much has occurred since 1977 for us to assume that all prior findings and conclusions are neces- sarily still valid. At least where new initiatives are contemplated or mew proposals made, we believe they should be reviewed in the light of the best information currently available. Agency comment "Based on these reports and on additional analysis, the President's Decision concluded that the proj- ect was necessary and desirable and should be built as soon as possible. This decision was approved by Congress by joint resolution on November 8, 1977, (Public Law 95-158).' GAO response No. 8 The specific language used by the President in his Decision readily supports a conclusion that he found the project `desirable' (pp. 87 ff). The issue, however, is what you do under changed circumstances. 94 PAGENO="0369" 363 APPENDIX X APPENDIX X Agency comment The President's Decision calls for the project sponsors to subnit to this Commission a new cost estinate prior to the granting of the final cer- tificate of public convenience and necessity. If this cost estimate `materially and unreasonably exceeds' the cost estimates submitted by the project sponsors to this Commission and the President in March of 1977, the Commission is not required to issue.a final certificate of public convenience and necessity. Until these updated cost estimates are made available to this Commission and the pub- lic, or unless the cost of alternative energy sup- plies has declined since 1977, we doubt that any new report on this project is likely to result in conclusions substantially different from those contained in the President's Decision and approved by the Congress.' GAO response No. 9 One conclusion in the President's Decision is that the Project could and should be built by private enterprise with- out any Federal financial involvement. In his Decision, the President "specifically rejected" Federal financing assis- tance. Therefore, a substantially different conclusion could be made if Federal financing aid is to be granted. However, we do not believe that the Commission should prejudge that any new report on the Project is "likely" to result in the sane or different conclusions. Consistent with this, our report recommends indepth analyses before action is taken on any proposal for Federal financial involvement in the Project, notwithstanding the President's 1977 Decision. Agency comment "The analysis in Chapter 3 of the draft report centers on the concept that cheaper alternatives to Alaska gas may be available to U.S. consumers. This analysis contains a number of weaknesses or deficiencies that should be corrected in the final report. "The draft report projects the future demand and supply for natural gas, and thus estimates a gap or shor.tf all in gas supply through 1990." 95 57-087 0 - 80 - 24 PAGENO="0370" ~64 APPENDIX X APPENDIX X GAO response No. 10 The comment about projecting future demand and supply and estimating a gap or shortfall is misleading in that it suggests that the report makes a specific prediction. The report clearly states that "data in this chapter are not pre- dictions' and that the chapter tables are presented "not as probabilities but as one of several possibilities." Further, the report states that `the data depend on certain fundamen- tal assumptions which tine may or may not prove correct." We believe that the uncertainties of the future make specific predictions (whether optimistic or pessimistic) hazardous. These same uncertainties make continuing indepth analyses essential, which is a position this report takes. The report uses a `gap or "incremental" approach as the report states, "to emphasize the need for indepth analyses of our energy situation in a future increasingly deficient in conventional energy sources." As we discuss elsewhere in our responses to comments on this report, we have been taken to task for this approach. We believe the approach is appropriate for this analysis. Suffice it to say at this point that the concept of "gap" between domestic supplies of natural gas and total domestic demand for gas can be found in the President's Decision (pp. 87 ff), The National Energy Plan of April 1977 (pp. 16 ff), the American Gas Association's The Future for Gas Energy in the United States of June 1979, and elsewhere. Agency comment "The draft report then attempts to determine the cheapest sources of natural gas to fill this gap or shortfall. The report speculates that cer- tain other alternative sources of natural gas may be cheaper than Alaska gas and thus may be preferred over Alaska gas." GAO response No. 11 This comment does not accurately reflect what is in the report. The report does not attempt to "determine" the cheapest sources `to fill this gap or shortfall." The report's statements on relative costs refer to current estimates of the cost of Alaska gas compared to "similar quantities of gas' from other sources. The report says that it is possible that some of these might supply, or conservation migh,t "provide" such quantities at more reasonable prices. 96 PAGENO="0371" 365 APPENDIX X APPENDIX X The FERC comment also misleads when it states that the report says that because an alternate source is cheaper, it "thus nay be preferred over Alaska gas," suggesting that we consider price alone as controlling. The report takes a different position. For example, it recognizes that the disadvantage of paying any extra money for Alaska gas might be offset at least in part by benefits in terms of reducing (1) imports of foreign energy and (2) dollar outflows. As the report states, we believe that non-cost related objectives, such as (1) economic growth and (2) need to "back out" (that is, substitute for) foreign energy that would otherwise be imported are proper considerations in making national energy decisions. Agency comment "This approach rests on the questionable assumption that there is a fixed demand for natural gas through the year 1990 that is independent of the price of natural gas or the price of alternatives such as imported oil." GAO response No. 12 The report clearly shows that we have not made this assumption. For example, the data in chapter 3 tables are presented "not as probabilities but as one of several pos- sibilities." Also, "the data depend on certain fundamental assumptions which time may or may not prove correct." The report mentions some of these assumptions. In addition, it points out that the American Gas Association has produced higher estimates of both demand and supply based on different assumptions. We do not assume that there is a "fixed demand for natural gas" during any period. At the same time, we do believe that the demand for gas is not unlimited. In fact, we believe that under certain sets of circumstances, supply could exceed demand even in periods of shortage. Economic conditions, governmental regulations, technological limita- tions, and other factors could contribute to this result. For example, the current domestic gas "bubble" may be a temporary manifestation of this phenomenon. ~p~qy~comment "For the foreseeable future, imported oil is likely to be the most important determinent of energy" 97 PAGENO="0372" 366 APPENDIX X APPENDIX X "prices and is likely to be the source of energy that will increase or decrease in response to changing domestic energy conditions. Consequently, a more defensible approach to analyzing the need for Alaskan gas or any other supplementary source of natural gas is to compare the cost of the sup- plemental source with the future cost of imported oil. If, for example, Alaska gas over its life- time is likely to be cheaper than imported oil, it it likely to be in the public interest to develop the project; and there should be little doubt or concern that gas demand will not be large enough to absorb this additional supply. If this nation should be blessed with an abundant supply of na- tural gas cheaper than the cost of imported oil, insufficient demand for gas is unlikely since natural gas can already substitute for oil in many industrial and utility applications. If other sources of natural gas such as Mexican gas or imported LNG are cheaper than Alaska gas, ac- cess to these sources does not reduce the need for Alaska gas in that it is less expensive than imported oil." "The draft report depicts Alaska gas and other sources of supplemental supplies as alternatives to be substituted for each other. A more analy- tically correct approach is to think of all of these sources of supplemental gas supplies as substitutes for imported oil and all should be utilized that are less expensive than imported oil." GAO response No. 13 We have already discussed our belief that assumptions must be constantly tested against developments to ensure their continuing validity. We do not agree that treating all supplemental gas supplies as substitutes for imported oil is a more analyti- cal approach. Nor do we agree that all supplemental sources should necessarily be utilized just because they are less expensive than imported oil. Conversely, we do not believe that a supplemental source should not be utilized just be- cause it is more expensive than imported oil. The Commission's suggested approach cannot be more analytically correct since it treats all supplemental sources 98 PAGENO="0373" 367 APPENDIX X APPENDIX X as being alike except for cost. This is not true. Each source, together with its socioeconomic, political, and na- tional security impacts, is different. Therefore, decisions on each supplemental source must be made within the framework of a comprehensive National energy plan. Such a plan must rest on a variety of considerations and must deal with both supply and demand and with the long- and short-term welfare of our country. Some of these considerations are --national security, --economic growth, --inflation control, --mutually supportive international relations, --environmental quality, --national productivity, and --gas and other industry stability. Thus, cost is am important consideration in energy policies but should not necessarily be controlling. Agency comment "A major weakness of this draft is that the analysis of alternative supplemental gas supply sources as well as the analysis of the Alaska gas project do not give any references to the sources of cost and supply estimates. The draft report itself provides no supporting evi- dence or calculations showing how costs and supply estimates were arrived at. This makes it impossible for any interested reader to determine the validity of the cost and supply estimates given in this report." GAO response No. 4 If the report were am attempt to predict conditions in 1985 and 1990--which it is not--this comment would be appro- priate. The report clearly indicates that "the alternatives are significant--not the magnitudes." We have, however, noted our sources where appropriate. 99 PAGENO="0374" 368 APPENDIX X APPENDIX X We believe that it is incumbent upon the Department of Energy to keep the Congress supplied with the up-to-date, reliable energy data it needs. The data in this report in- dicate that further analysis is justified before making a decision on Federal financial involvement. The data are not sufficient for making that decision. In this regard, we recommend that the Department cf Energy provide such data to Congress on this Project and viable alternatives if Federal financial assistance is requested. Agency comment "In the brief undocumented comparisons of the cost of Alaska gas with other supplemental gas supplies, the draft report seems to use the first year cost of Alaska gas. This is very misleading since the cost of transporting Alaska gas will decline over time. Under conventional methods of utility regu- lation, depreciation reduces the rate base of the project, thus reducing capital charges that are included in transportation rates. After ten years the transportation charge (in real terms or con- stant dollars) will be less than half of the first year charge and after twenty years will be less than one fourth the first year charge. Sources of imported gas such as LNG or Mexican gas likely to be tied to the cost of oil and will increase over time." GAO response No. 15 The report makes only such comparisons as are relevant to the question discussed in the report--whether further analyses are needed if Federal financial involvement is pro- posed. Therefore, there has been no need in the report for comprehensive cost comparisons. The report recognizes that accurate comprehensive information is needed for decisions. Furthermore, it is incumbent on the Department of Energy to compile and supply the energy data and analyses the Congress and the executive branch need. Further, it is not clear at this time what the cost of Alaskan gas in the future will be in relation to imported oil or gas. A number of factors will influence the relation- ships, including 100 PAGENO="0375" 369 APPENDIX X APPENDIX X -"-possible legislation to amend existing natural gas policies, including those specifically applicable to the Project; -`-future international energy agreements and arrange- ments; --actual construction and operating costs of the Proj'- ect; and `--availability and costs of alternative sources. Because of such uncertainties as to the future, we recommend indepth analyses before a decision is made on Fed- eral financial involvement in the Project. ~gency comment "Canadian gas exports to the United States is pre- sented in the draft report as an alternative to the Alaska gas project. The report briefly men- tions that additional discoveries in Alberta and the Canadian Arctic may allow Canadian authorities to permit continued or even increased exports of gas to the United States. In February of this year, the National Energy Board (NEB) of Canada published a thorough study of natural gas supply and demand in Canada and made a number of signifi- cant findings concerning the possibility of ex- ports to the United States. "The report concluded that there is an exportable surplus and that Canada will be able to fulfill its current contracts to export gas to the United States. These existing contracts expire at various times over the next few years. Thus based upon existing export licenses, Canadian exports to the U.S. would decline from the current level of approx- imately 1.1 trillion cubic feet (TCF) per year to 0.3 TCF by 1990 and would cease entirely after 1995. However, the NEB concluded that the current surplus would allow export commitments to the United States to be increased by a modest 2 TCF or by an amount equal to two years of exports at the current level." 101 PAGENO="0376" 370 APPENDIX X APPENDIX X GAO response No.16 The report discusses the possibility only of continuance of the "current' rate of 1 trillion cubic feet a year. It does not discuss increased exports. We are aware of recent National Energy Board delibera- tions and actions. For the purposes of this report in look- ing at possible future sources of natural gas, we did not feel it realistic to adopt a `worst case" position, that is, that exports would decrease to zero as existing licenses expired. Nor did we believe that we should not look beyond the latest action since the National Energy Board will con- tinue meeting from time-to-time to act on export applications. The numbers we use appear within the realm of possibility. Agency comment In addition to these specific findings concerning the size of the current surplus of gas in Canada, the NEB Report describes a new policy with respect to the determination of the size of any gas surplus in Canada and thus the allowed exports to the United States. In particular, the report has de- termined that a future deliverability test is a key factor in determining the size of any export- able surplus. In order to determine that a spe- cific reserve of gas is deliverable, there must be some method of transporting the gas to market. The substantial reserves of natural gas in the Mackenzie Delta of Canada will not be counted in the determination of the exportable surplus until Canada is assured that a transportation system will be available to move those supplies to market. "The Alaska Natural Gas Transportation System is a joint project between the United States and Canada to transport gas both from Alaska and the Mackenzie Delta. Thus the construction of the Alaska gas project would probably result in a finding by the Canadian Government that the Mackenzie Delta gas could be included in the calculation of exportable surplus. As a result exports of gas from Canada to the United States could be increased from what it would have been if the Alaska gas project had not been constructed. This draft report fails to recognize the important connection or linkage between the construction of the Alaska gas project and the potential for future exports of gas from Canada." 102 PAGENO="0377" 371 APPENDIX X APPENDIX X GAO response No.17 The report contains a statement relating to the linkage between Mackenzie Delta gas and the Project. However, be- cause of the number of factors involved in export decisions, the report does not speculate on what would "probably" happen if the Project is or is not built. Future Canadian exports will depend on such matters as Canadian Government policies, new Canadian discoveries, con- struction of pipelines, and internal gas demand. Thus, we believe that it is not now certain whether the Project will or will not be essential for continuing the current rate of Canadian exports. Agency comment "The last two sections of chapter 3 deal with the impact of the Alaska gas project on energy imports and on the balance gas would not reduce energy imports and would not improve the U.S. balance of payments. Again these are subjects that were ex- plored at considerable length in reports to the President in 1977 by various government agencies. This draft report contains little in the way of hard analysis that would support these conclusions. The arguments given are strained and tenuou at best. We recommend that these two sections be substantially strengthened or else dropped from the final report." GAO response No. 18 This comment misstates the purpose of the analysis in the last two sections of chapter 3. The analysis does not attempt to show that "Alaska gas would not reduce energy imports and would not improve balance of payments." The discussion indicates why we cannot assume that delivery of Alaska gas to the lower 48-States would automatically reduce imports by a comparable volume of foreign energy or reduce the outflow of dollars equal to the cost of that foreign energy.* Although the report finds that under certain conditions, Alaska gas might represent a small percentage of the import problem, that is not the significant thrust of these sec- tions. The discussion relates to the rationale on a need to rely on indepth analysis rather than general assumptions. 103 PAGENO="0378" 372 APPENDIX X APPENDIX X Agency comment Appendix I `The appendix is a review of the Commission's de- velopment of an incentive rate of return mechanism as required by the President's Decision. We have two comments on this appendix. First the Commis- sion in Order No. 31 issued subsequent to the preparation of the draft report resolves most of the outstanding issues concerning the incentive rate of return mechanism. With this order, the Commission feels that it has carried out the requirement in the Decision to develop a variable rate of return mechanism for this project. Such an incentive mechanism has not been attempted previously by this Commission or, to our know- ledge, any other regulatory agency in the United States. Consequently, the Commission had to develop an entirely new and complicated regula- tory mechanism. Our second comment concerns the way this appendix characterizes the procedures used by this Commis- sion to develop the incentive rate of return mechanism. The title and format of the text des- cribes this Commissions procedures as a series of negotiations or exchanges between the Commission and the project sponsors. This appendix makes it appear that the Commission and the project spon- sors negotiated the details of this mechanism. This characterization is very misleading. The rulemaking procedure used by this Commission to develop the incentive rate of return mechanism is well established and widely accepted. In a rulemaking, the Commission first makes a specific proposal in a public notice. A comment period is specified in the notice giving all interested par- ties the opportunity to provide written comments on the proposal. Later, all parties are allowed to offer reply comments and thus respond to the initial comments submitted to the Commission by other parties. After review of the initial and reply comments,, the Commission may determine that further proceedings such as an oral argument are needed before issuing a final order. In the case of the incentive rate of return mechanism, the 104 PAGENO="0379" 373 APPENDIX X APPENDIX X "Commission instituted two rulemakings. The first rulemaking began on May 8, 1978 and ended with Commission Order No. 17 and developed the basic framework for the incentive rate of return mechanism. On April 6, 1979, the Commission in- stituted a second rulemaking to develop specific values for the parameters in the incentive rate of return mechanism. Again after an initial set of comments and a set of reply comments, the Con- mission issued Order No. 31 on June 8, 1979, specifing values for the parameters in the incen- tive rate of return mechanism. "In these two rulemakings over twenty interested parties filed comments with the Commission includ- ing the project sponsors, the staff of the Commis- sion, various other natural gas pipelines, and the States of Alaska, California, and New York. To characterize this procedure as negotiations between the Commission and the project sponsors is quite misleading and ignores the important role played by other interested parties in the rulemakings." GAO response No.19 The report now reflects that the variable-rate-of-return *mechanism is being established through the Commission's reg- ular rulemaking procedures and involves a variety of inter- ested parties. It also shows that (1) the Commission, on June 8, 1979, issued Order No. 31 to set the final rate-of- return on equity; (2) the Alaskan and Eastern Leg sponsors, on July 9, 1979, filed motions for rehearing; and (3) on September 6, 1979, the Commission finalized the variable- rate-of-return mechanism. DEPARTMENT OF ENERGY ~gency comment S Chapter 2 "The report, in addressing private financing, does not explicitly distinguish between debt and equity financing in examining the question of the need for government involvement. It does examine the equity financing issue in relation to the variable rate of return. However, there is no mention of the fact that debt holders require a certainty of return on investment." 105 PAGENO="0380" 374 APPENDIX X APPENDIX X GAO response No.1 The Department is correct in stating that we do not distinguish between debt and equity financing. However, in discussing the Secretary of Energy's limitation of Federal involvenent to just loan guarantees, we note that there are various options and that none should be arbitrarily pre- cluded. An indepth analysis such as the one we recommend if Federal financial assistance is requested should be made. We would expect that the Secretary would explore all avenues for Federal financial involvement before making his recon- mendation on the best course of action. Agency comment The report indicates a high probability of aban- donment and the lack of certainty that 2 billion cubic feet a day will be available to the project, unless resolved, or guaranteed through tariffs. Both of these factors will prevent debt financing without a government guarantee. The report ap- pears vaguely opposed to Government guarantee without stating a clear reason. GAO response No. 2 The report clearly shows that the estimates relating to "a high probability of abandonment were made by the Alaskan sponsors, not by us. Also, the report makes no statements to justify the phrases `unless resolved, or guaranteed through tariffs," the meaning of which is not clear to us. Finally, the Department's interpretation that the report is "vaguely opposed to government guarantees" is in error. We take no position on that question. Agency comment "The report seems to require two considerations of Government involvement (1) return on invest- ment and (2) a voice in management~ Guaranties are a cont~ingent liability. It is unclear, if this mechanism is used, whether the report is suggesting a return to risk bearing other than the typical user fee charged to a guaranty. Guaranties are not direct liabilities so there would be no return on investment." 106 PAGENO="0381" 375 APPENDIX X APPENDIX X "It is also not clear why direct investment seems to be a requirement to obtain~a voice in management. Management controls can be built-in through provisions in the guaranty instrument in the same way that any lender builds controls into loan documentation.~ GAO response No. ~3 The report states that there ~ be better alternatives to give the Government appropriate control over and return on its investment. However, it takes no position as to the best alternative. Further, it recommends that the Congress should evaluate all feasible alternatives before it makes any decision on Federal financial involvement. Although loan guarantees nay not be direct liabilities, they do involve a f.inancial risk. In the private sector, insurers are compensated for assuming such risks. We believe that the Government should be compensated for the risks it takes. The report does not assume that direct investment is needed to obtain a voice in management. Agency comment "The report points out that the pipeline sponsors are proceeding with preconstruction planning before they finish testing system design. This mode of construction results in the risk of major design changes because the sponsors have not resolved important design aspects for Arctic conditions before construction. We note that a large por- tion of the cost over-runs on the Alaska Oil Pipeline, the Trans Alaska Pipeline System (TAPS), were attributable to the fact that the sponsors did not fully complete the development and test- ing of system design before construction began. As a result, geological and technical problems were encountered causing major changes to result in the construction phasing with consequent highly escalated costs. "The report indicates that the Alaska Highway Gas Pipeline project is not benefiting from the TAPS construction experience, both in terms of the geological data available and the project" 107 PAGENO="0382" 376 APPENDIX X APPENDIX X "management and administrative requirements of such a major undertaking. From our knowledge, there is a tremendous reservoir of technical and management material resulting from the Alaska company's experience in building and operating the TAPS pipeline. The managerial shortcomings and problems in vertical and hori- zontal integration were documented for the record. "The report further indicates that, because the pipeline system will pass through a number of political jurisdictions, these jurisdictions may make costly economic and political demands on behalf of their constituents from the sponsor and the U.S. Government. We note that at the TAPS post-mortem sessions, held in Anchorage, Alaska, following the opening of the TAPS system, dozens of interest-groups from these jurisdictions attended the session for the obvious purpose of planning the development of intensified demands on behalf of their constituents in the construc- tion of the natural gas pipeline." GAQ response No.4 These comments have been incorporated into the report. (See p. 15.) ~ency cornm~nt "In regard to the loan guarantee program, the Secretary of Energy did not `raise the possibil- ity' of loan guarantees for the Alaska gas pipe- line project. In testimony before the Joint Economic Committee in January 1979, Senator Proxnire asked Secretary Schlesinger what level of loan guarantees might be appropriate to the project. Secretary Schlesinger responded to the effect that the principal area of risk was in the Alaska segments of the project and that $2 to $3 billion would appear to be an adequate level of guarantee." GAO response No.5 Since we cannot agree with the Department of Energy on the use of the phrase "raise the possibility," we have 108 PAGENO="0383" 377 APPEt~DIX X APPENDIX X included the discussion from the official transcript of proceedings. In this way, the reader can be the judge. (See PP. 19 to 21.) Agency comment "The policy of the Administration continues to be as stated in the President's Report to Congress on Alaska Natural Gas Transportation Systems, Septem- ber, 1977. A private financing is to be preferred to any form of Federal financial assistance." GAQ response No. 6 We note that the Department states that the Administra- tion's position is as stated in the President's Decision and then states that a private financing is to be "preferred to any form of Federal financial assistance." The Department seems to misstate the Decision. The President's Decision includes the following statements: (1) The successful applicant shall provide for private financing of the project (p. 36). (2) It is understood that the construction of the Pipe- line will be privately financed (p. 50). (3) As indicated by the terms and conditions in Section 5 of the Decision, the * * * project is required to be privately financed (p. 100). (4) Federal financing assistance is also found to be neither necessary or desirable, and any such approach is explicitly rejected (p. 127). Agency comment "The evaluative cost comparisons made throughout Chapter 3 appear to use as a basis of comparison the first or second year delivered cost of gas for the Alaska project. "Use of such a figure is misleading, particularly with respect to comparisons with imported energy projects. Under traditional rate making proce- dures, the Alaska project tariff in the early years is very high but will decline in real terms over" 109 PAGENO="0384" 378 APPENDIX X APPENDIX X "time as the rate base of the project is depreciated. When the rate base is full depreciated, the only charges in the tariff would be operating and main- tenance expenses. On the other hand, inported oil or gas have only the prospect of continued real increases in price. - To be accurate, therefore, any cost comparison nust recognize the life-cycle annuity cost to the respective projects." GAO response No. 7 In the few places in Chapter 3 where these "evaluative cost comparisons" are nade, the report specifically shows that they are made in 1979 dollars for the year 1985. The report also shows that, under conventional methods of utility regulation, the transportation cost for Alaskan gas is ex- pected to diminish. *The report also shows that the financial data used are "admittedly preliminary." The report makes only such comparisons as are relevant to the question discussed in the report--whether further analyses are needed if Federal financial involvement is pro- posed. Therefore, there has been no need in the report for comprehensive cost comparisons. The report recognizes that accurate comprehensive information is needed.f or decisions. Furthermore, it is incumbent on the Department of Energy to compile and supply the energy data and analyses the Congress and the Executive Branch need. It is not clear at this time (1) whether Alaskan gas will or will not be supplied to the lower 48-State markets without any "real increases" in price or (2) what the cost of Alaskan gas in the future will be in relation to imported oil or gas. A number of factors will influence the relation- ships, including --possible legislation to amend existing natural gas policies, including those specifically applicable to the Project; --future international energy agreements and arrange- ments; --actual construction and operating costs of the Project, and --availability and costs of alternative sources. 110 PAGENO="0385" 379 APPENDIX X APPENDIX X Because of such uncertainties as to the future, we recommend indepth analyses before a decision is made on Federal financial involvement in the Project. Agency comment The Department of Energy agrees with the comments being filed in their response to GAO by the De- partment of Ener9y's Federal Energy Regulatory Com- mission (FERC) with respect to the "gap" theory of natural gas supply and demand. Projects that can supply domestic energy to the United States at a life cycle cost less than imported oil or imported natural gas are presumptively in the national interest even though other less expensive domestic supplies might also be available. As is further noted hereafter, the Alaska gas is superior in economic and national security terms to any other imported energy project whose prices wou]~.d be tied to the cost of imported oil." GAO response No. 8 As stated in our response to the letter from the Federal Energy Regulatory Commission, we do not agree with its com- ments with respect to the "gap" theory. Also, we believe that the Department of Energy should be in a position to denostrate convincingly to the Congress what action would be in the national interest. In essence, that is what the report recommends. Agency comment "The Secretary of Energy has. not `abruptly re- versed' the Government's policy on fuel switch- ing as stated in the report. The long-term policy to substitute this Nation's abundant coal resources for oil and natural gas in large sta- tionary power plants in unchanged. In the short term, however, it is in the national interest to substitute available natural gas supplies for imported oil. To that end, temporary limited pub- lic interest exemptions have been issued to permit existing power plants- to switch from oil to natural gas. These temporary exemptions are fully in accord with the provisions of the Fuel Use Act (`Coal Conversion') enacted by the Congress in 1978." 111 57-087 0 - 80 - 25 PAGENO="0386" 380 APPENDIX X APPENDIX X GAO response No. 9 The report recognizes that this action was taken as a trade-off between short- and long-tern objectives. However, we feel that from the point of view of the concerned public, the change was abrupt and nay have had undesirable impacts. We have not tried to evaluate whether, on balance, the results were good or bad. We mention the incident to point out the (1) relevance of indepth analyses and (2) the possi- bility of side effects from actions take to reach a specific goal, such as oil import reduction. Agency comment "Increased natural gas use constitutes a major element of the response plan to the Iranian crisis. Further, there is no benefit to be gained by main- taining a surplus of gas in the producing states. Absence of markets for gas will lead to a reduced exploration and development, lower domestic gas supply, and higher energy imports in the future.' GAO response No. 10 The report raises a question whether it could be possible to encourage domestic gas exploration and develop- ment without preventing a surplus of gas.' We believe that the Department of Energy should investigate whether there are ways to maintain gas reserves in a manner that will not discourage needed exploration and development-- rather than assume that none exists. Agency comment The Department of Energy's Energy Information Administration (EIA) survey referred to by the report was based on EIA Form 52. The analysis report issued by EIA in January 1979 indicated fuel switching of only 375 billion cubic feet or 0.375 trillion cubic feet over the entire period 1973-1978 instead of the `3.75 trillion cubic feet a year' referred to in the report. The EIA Form 52 survey relates only to perma- nent switching from gas to other fuels, and did not measure temporary alternative fuel use during the period of gas shortage. 112 PAGENO="0387" 381 APPENDIX X APPENDIX X The statement that Wood and coal replaced 60 percent' of the 3.75 trillion cubic feet of natural gas supply reduction between 1973 and 1975 is in error. The data from Federal Power Commission (FPC) Form 69 and Federal Energy Administration (FEA) Form G-l0l for 1976 and 1977 reflect 3.3 trillion cubic feet of natural gas curtailments of firm and inter- ruptible users. Only 16 percent of those cur- tailments were reported to be replaced by coal. Wood was not separately identified, but it must be miniscule. Oil constituted 67 percent of the reported substitution. In reviewing the potential alternatives, the report fails to mention synthetic fuels, imported liquified natural gas, and possible offshore production of natural gas. GAO response No. 11 The agency is correct. We discovered our error after we provided the draft for comment. We have deleted all refer- ences to this study. Agency comment There is no evidence that would support the state- ment that `Mexico could supply 0.5 to 1.5 trillion cubic feet of gas a year through the 1980's,' if the statement is intended to indicate the poten- tial level of Mexican gas exports to the United States today. It is possible that gas exports by Mexico could reach 0.5 trillion cubic feet to 1.0 trillion cubic feet sometime during the 1980's but any projection is quite speculative. There is currently no agreement from gas sales in effect between the United States and Mexico. Further, Mexican production plans for oil or gas have not been e~tab1ished beyond 1982." GAO response No. 12 This comment is misleading. At our meeting with Depart- ment of Energy and Federal Energy Regulatory Commission rep- resentatives, we pointed out our intention to (1) revise the data to `0.5 to 1.0 trillion cubic feet" to be consistent with Table 3of the draft report and (2) make clear that the statement covered the mid- to late-l980s. Also, as the 113 PAGENO="0388" 382 APPENDIX X APPENDIX X report shows, we stated that (1) the figures we use are possibilities and not predictions and (2) there is currently no gas sales agreement between the U.S. and Mexico. (See footnote 2 on p. 31.) Agency comment "The statenent that the `Mexican national oil com- pany agreed to supply (natural gas) for $2.60 per thousand cubic feet' is not accurate. The Memóran- dun of Intentions between the Mexican national oil company and the United States pipelines specified that the price should be determined by reference to the distillate fuel oil price in New York Harbor. Today, that formula would provide for prices of $4.00 per nmbtu or more." GAO response No. 13 The price of $2.60 represents the approximate price of the gas at the time the agreement was made. We have revised the report to show also the pricing formula that would have applied in the agreement. Agency comment "Mexican oil production and gas supply are not significantly dependent upon a `United States - Mexican oil agreement.' A high percentage of Mexico's oil exports cone to the United States today, but the United States is not the only current or potential market for Mexican oil.~ GAO response No. 14 The report refers to the gas supply that might be avail- able to the United States. Because much Mexican gas is associated with oil, the report points~ out a relationship between oil production and gas availability. We revised the text to make clear that Mexican gas availability to the United States will depend on oil export agreements with other countries as well as with the United States. Agency comment "In theory liquefied natural gas (LNG) projects could provide a gas at a cost that would rise over tine in real terms to a lesser degree than the" 114 PAGENO="0389" 383 APPENDIX X APPENDIX X "price of imported oil. Such projects involve sub- stantial capital investnent that is depreciated causing the rate base to decline in a manner sini- lar to the Alaska gas project. Liquefied natural gas cannot with any degree of confidence be charac- terized as a less expensive alternative to Alaska natural gas." GAO response No. 15 In discussing the potential of liquefied natural gas, the report points out the growing world natural gas reserves and some prices paid in early 1979 by American pipelines. It does not attempt a thoroughgoing analysis of the competi- tive, investment, and other factors which will influence in 1985, and thereafter, the relative cost of liquefied natural gas compared to (1) imported oil and (2) Alaska gas. We believe that establishing the facts with the required degree of confidence is the Department of Energy's duty. ~g~ncycornment "The Alaska natural gas need not be delivered to a consumer that otherwise would be directly dependent upon imported fuels for it to achieve a displace- ment of imported fuels. Any reduction of oil con- sumption in the United States will lead to a reduc- tion of imported oil since that is the marginal supply." GAO response No. 16 Our statement has not been limited to consumers who were "directly" dependent on imported fuels. The agency makes a valid point which may be an exception to the rule. However, if oil released by one consumer or group of con- sumers flows to another consumer or group not then using oil, it is theoretically possible that existing import rates will not be reduced. For its purposes, the report deals with many questions on a theoretical basis. We believe that it is incumbent on the Department of Energy to develop and demonstrate what the facts are in practice. Agency comment "Natural gas use constitutes a major factor in the response plan to the Iranian crisis. Further," 115 PAGENO="0390" 384 APPENDIX X . APPENDIX X "there is no benefit to be gained by maintaining a surplus of gas in the producing states. Absence of markets for gas can lead only to a depression of exploration and development, lower domestic gas supply, and higher energy imports in the future." GAO response No. 17 See GAO response No. 10 on page 112. Agency comment "Consumers will use natural gas if it is reliable and less expensive than alternative fuels. There is little reason to doubt that the long-run cost of imported oil will be higher than the cost of Alaska gas. Any marketability risk of possibly higher costs of the Alaska gas in the initial years of the project life can be overcome through rolled- in pricing provided by the Congress in t1~e Natural Gas Policy Act, as well as by levelizing the tariff structure, if need be." GAO response No. 18 This and the remaining Department of Energy comments which follow relate to matters discussed in the report on theoretical grounds. As we have said, we believe that the responsibility for establishing and demonstrating the facts in practice rests with the Department of Energy. When the Department notes that consumers will use natural gas if it is reliable and less expensive than alter- native fuels, it fails to mention that use-opportunities and reliability nay depend on governmental programs and regula- tions, as well as other factors. Although the Department may now have little reason to doubt that the long-run cost of imported oil will be higher than the cost of Alaskan gas, there are many uncertainties as to what the actual costs of Alaskan gas will be and future energy supplies and costs. As we state on page 141, because of uncertainties as to the future, we recommend indepth analyses before a decision is made on Federal financial in- volvement in the Project. The Project's sponsors asserted a "marketability risk," among other risks, in a report to the Federal Energy Regula- tory Commission to justify a high risk premium for their 116 PAGENO="0391" 385 APPENDIX X APPENDIX X investment. That report notes on page 26 that the Commis- sion in Order Number 31 rejected the sponsors' overall risk assessments as unreasonably high. Also, although the report does not attempt to evaluate the sponsors' risk statements, it mentions that rolled-in pricing and regulatory arrange- ments can adjust for possibly higher costs of Alaska gas. Agency comment "Maximization of the development of domestic energy resources is in the highest national interest of the United States. The Alaska gas project could deliver nearly 1.0 trillion cubic feet of natural gas equivalent to 425,000 barrels of oil per day to the lower-48 states by 1985. The project will have no significant impact on drilling for gas in the lower-48 states. Rolled-in pricing will pre- vent any significant adverse impact in the early years and, indeed, in the later years of the proj- ect life it could have the effect of encouraging development of other gas resources by providing a form of subsidy for such resources." GAO response No.19 Although undue reliance on foreign energy is contrary to the national interest, "maximization" of domestic energy resource development may or may not be. As we indicate in our response to the Federal Energy Regulatory CommissiOfl's comments, other national goals may affect the timing and extent of domestic development. (See pp. 138 and 139.) For example, budgetary or international relationships, at times, might favor energy imports under certain conditions. Agency comment "The report acctirately notes that the Alaska proj- ect would involve some dollar outflows for the Canadian tariff. Such outflows will be small com- pared with the dollar outflow associated with im- ported oil or natural gas. Like the United States tariff, the Canadian tariff charges and dollar out- flows will decline.over time while the cost of im- ported energy will only continue to increase. "Natural gas purchases from Mexico could have a somewhat lesser adverse economic effect on the 117 PAGENO="0392" 386 APPENDIX X APPENDIX X United States than purchases of imported oil from most other countries since Mexico is likely to pur- chase more quickly a higher percentage of United States goods and services than many other oil or gas exporting countries; but any import of energy creates a drain on the resources of the United States whether or not the dollar is quickly `re- cycled.' It is clear that the Alaska gas project will be far superior to any imported energy proj- ect in these terms, In terms of real resource costs and benefits, the Alaska project will return many billions of dollars more to the United States over its life than any imported energy project. Reference could be made to the recent study con- tracted by DOE's Federal Energy Regulatory Com- mission on Alaska gas, A Review of Alaska Natural Gas Transportation Issues, May, 1979." -GAO response. No. 20 We do not disagree that undue reliance on foreign energy may be harmful to the national interest. However, the validity of the statement that "any import of energy creates a drain on the resources of the United States whether or not the dollar is quickly `recycled'" needs analysis. There may be advantages to the United States in importing some energy as there are benefits from interna- tional trade in other commodities. We, therefore, recommend indepth comparative analyses before a decision is made on Federal financial involvement in the Project. Agency comment "The subject draft report recommends that the Secretary of Energy provide Congress with a re- port within 60 days of the issuance of the final report. The, 60 day time frame requirement is much too short an interval. It is requested that this time frame be extended." GAO response No. 21 Our recommendations reflect our sense of urgency in the matter. 118 PAGENO="0393" 387 APPENDIX X APPENDIX X DEPARTMENT QF STATE Agency comment Chapter 1 `Page 4: The membership of the Northwest Alaskan sponsor partnership is likely to change. American Natural has announced its intention to negotiate an arrangement with the partnership. Others may follow in conjunction with the President's July 16 directive to DOE. The draft should be updated to reflect these changing circumstances." GAO response No. 1 The report describes the current status of the Project and does not speculate on companies joining or leaving the partnership. Agency comment "Page 5: The draft does not provide a description of the reasons behind the fact that the project has been delayed, including the 18 months it took Congress to pass the Natural Gas Act of 1978 pro- viding a wellhead price for Alaskan gas. Nor does it acknowledge the deliberative nature of the regulatory determination process, and the time required to take into account associated comments and rebuttals by the Project Sponsors and other interested parties. There is justifiable reasons to proceed deliberately. A project so enormous must be undertaken with full consideration for the risks and benefits, particularly in view of the TAPS experience. This time the effort will be to avoid making similar mistakes. This may require more time in the preconstruction stages of the project." GAO response No. 2 Since this part merely reports the current status of the Project's time "schedule," it should not be interpreted as criticism. In other portions the report describes major (See GAO note on page 143.) 119 PAGENO="0394" 388 APPENDIX X APPENDIX X events which have taken place. In addition, it describes the proceedings involved in establishing the variable rate- of-return mechanism which "illustrates the difficulty in reaching mutually satisfactory resolutions to * * * questions that nust be answered before the Project is built." Agency comment çh~p~er_2 "Page 10: The Federal Inspector has been appointed by the President and confirmed by the Senate. This section of the report is thus overtaken by events and should be deleted." GAO response No.3 The report appropriately notes that the Federal Inspector was sworn in on July 13, 1979, about 20 months after the Congress approved the Decision in November 1977. (See p. 14.) Agency comment "Page 11: While the issues of gas conditioning costs and right-of-way stipulations are important considerations for the Project's viability, there is no evidence to conclude that they represent serious obstacles. "Certainly many `worst-case scenarios' can be developed to cast a pessimistic light on the Project. This brief, two page section of the report is far too shallow to deal with both of these important issues adequately and fairly." GAO response No. 4 In giving the current status of the Project, the report states and briefly describes two important issues remaining to be resolved. The report notes that these issues could lead to lengthly administrative and/or judicial review. Also, appendix I demonstrates the time required to resolve important issues. How this equates to "worst-case scenarios" is not clear, since we are merely presenting a factual sum- mary of the current status. 120 PAGENO="0395" 389 APPENDIX X APPENDIX X Agency comment "Page 13: The report places undue emphasis on Project Sponsor's estimates of the risk of project abandonment. Various project-related interests are being brokered in 1979 as regulatory determinations are finalized, and permitting and approvals procedures go forward. In this atmosphere concern for the viability of the project is bound to be aroused. As the necessary regulatory decisions are concluded, and other related activi- ties, such as establishing the Federal Inspector's operation, and concluding additional gas supplier contracts. are accomplished, talk of abondonment will recede." GAO response No. 5 The report now shows that the Federal Energy Regulatory Commission, in Order Number 31, rejected the sponsors' risk evaluating as being unreasonably high. (See p. 26.) Agency comment. "Page 14: Every major construction or manufactur- ing project carries a variety of risks. Technical and geological uncertainties will, of course, be thoroughly investigated." GAO response No. 6 This assurance does not fully satisfy our recommenda- tion, which urges that these uncertainties be thoroughly Investigated before construction starts. In addition, page 2 of the Department of Energy letter commenting on this report supports the need to complete the.development and testing of system design before construction. (See app. III). Agency comment "Project segments must, of course, be fully coordi- nated with related activities in order to complete the project on a timely basis and close to budgeted costs. There is no basis for the implication that obstacles are insurmountable." 121 PAGENO="0396" 390 APPENDIX X APPENDIX X GAO response_No. 7 In the report, we present the sponsors' statements. We do not suggest that the alleged obstacles are insurmountable. Agency comment `Page 15: The Project was developed and approved by Congress on the basis of 26 trillion cubic feet- plus proven gas reserves under the North Slope. Its 25 year life cycle costs are based on those proven reserves. The draft report's questions concerning Prudhoe Bay production history and gas availability would appear beyond the scope of the Project as presented, i.e., the pipeline is designed to carry approximately 2.4 BCF/day for 25 years, or an amount well within the capacity of proven reserves to support. "Page 16: The draft report notes that the Project might be vulnerable to adverse regulatory and political actions because it passes through several political jurisdictions in two countries. Adequate protections have been provided to the Project by two international agreements negotiated with Canada--the Transit Pipelines Treaty and the ~greement on Principles ApplicabletoaNorthern Natural Gas Pipeline: In addition to nondiscrimi- natory treatment in Canada of the pipeline and its throughput, these agreements provide a broad range of general and specific assurances, as well as an incentive formula covering the U.S. role in con- structing the Dempster line to access MacKenzie Delta gas, in which U.S. sponsorship of the Dempster link declines in proportion to any delays caused on the Canadian side. "Page 17: The comments concerning investor at- titudes, like much of the analysis surrounding the issue of private financing, is based on pre- mature assessments. It is clear that several im- portant issues must be decided before the Project can be properly presented for consideration by the financial market. Those issues are being examined now and regulatory determinations will be finalized soon. Until then the draft report's assessments are premature. 122 PAGENO="0397" 391 APPENDIX X APPENDIX X "Page 18: The comments on regulatory attitude are dated. The Federal Inspector is in place, the reorganization plan is being implemented7 and both the President and involved government agen- cies are committed to expeditious treatment of the Project. "Page 18: Public awareness of the difficult decisions that are being made as the Project goes forward is not, of itself, detrimental. At the sane time, the public is increasingly aware of the dangerous dependence of the United States on imported oil, and the renewed vigor with which domestic resources, like Alaskan gas, must be developed." GAO response No. 8 The report clearly shows that the Alaskan. sponsors made all the above claims in their document "The Project Risk Premium for the Alaska Segment of the Alaska Natural Gas Transportation System." (See p. 13.) Further, we have noted that the Federal Energy Regulatory Commission rejected the sponsors' abandonment evaluations. Since these state- ments were made in connection with regulatory proceeding we have avoided any judgment as to their merits. Agency comment "~e 19: The assertion that the Administration `raised the possibility' of $2-3 billion in Federal loan guarantees is incorrect. We understand that the Secretary of Energy, responding to a hypothe- tical suggestion during Senate hearings in Janu- ary, indicated that a range of $2-3 billion in guarantees would be adequate--in the hypotheti- cal circumstance suggested." GAO response No.9 The report shows that the Secretary of Energy responded to a question from the Joint Economic Committee. Also, it gives that portion of the official transcript which covers the colloquy over the "possibility" of loan guarantees. (See pp. 19 to 21.) 123 PAGENO="0398" 392 APPENDIX X APPENDIX X Agency comment "The Alaskan Gas Pipeline Project was proposed by the President and approved by Congress on the basis of private financing. The US/Canadian Agreement on Principles requires private financing. We have no reason to expect that this Project will proceed other than on those terms. Problems have had to be dealt with, and consequently delays have been encountered. GAO response No. 10 This assessment nay be correct. However, since the question of possible Federal financial involvement has been publicly raised in official quarters and elsewhere, we believe, that it is incumbent on the Department of Energy to prepare itself for that contingency. Some Department of State comments which follow are discussed in greater detail by the Federal Energy Regulatory Commission and the Department of Energy. Therefore, we refer to our responses to those agencies, rather than respond to State's briefer remarks. In addition, we comment speci- fically on certain State Department remarks. Agency comment Chapter 3 Page 22: This chapter suffers most seriously fran the problem of being premature. It is highly premature to assume: a) that private financing will not be available and, b) that Congress there- fore needs to consider all its options before dealing with a request for Federal financial assistance. GAO response No. 11 This comment is misleading. The report states clearly that the Congress needs to consider all its options only if a proposal is made for Federal financial involvement. We believe that being alert to possible events is not being premature. As the report indicates, events have led to public discussion of possible need for Federal financial 124 PAGENO="0399" 393 APPENDIX X APPENDIX X involvement in the Project. For this and other reasons, we believe it would be poor public policy to be totally unprepared for this possibility; instead, we have estab- lished a framework for Government action. As we state in this report, if the sponsors request Federal financing assistance, Project proponents will undoubtedly urge the Congress to quickly provide the needed assistance. Agency comment "Table 3 includes highly speculative figures for possible imports of foreign gas in the 1980's. The draft report contains no supporting evidence for these supply estimates nor for the cost analyses contained in this section. GAO response No. 12 See our response to the Federal Energy Regulatory Commission on this point (response 14, pp. 99 hnd 100). ~ency comment `The cost comparisons appear to use the first year delivered cost of Alaskan gas as a basis of comparison. This is inappropriate because the depreciation formula for Project costs results in a declining real cost over time. Any accurate analysis must therefore base comparison of alternate projects on their life cycle annuity cost. GAO response No. 13 See our response to the Federal Energy Regulatory Commission on this point (response 15, pp. 100 and 101). Agency comment "The questions presented in the draft report for Congressional consideration have already been taken into account in the proceedings leading the Presidential Decision, and in testimony before the Federal Energy Regulatory Commission. In addition the Project sponsors must submit a new cost esti- mate to the FERC prior to granting of the final certificate of public convenience and necessity thus presenting another opportunity to weigh the balance of costs and benefits from the project.' 125 PAGENO="0400" 394 APPENDIX X APPENDIX X GAO response No. 14 See our responses to the Federal Energy Regulatory Commission on these comments (response 7, p. 94; response 9, p. 95). Agency comment `Page 24: The fact that other supplIes of gas may be available besides project gas does not in any way change the desirability of access to the 26 TCF of proven gas reserves under the Alaskan North Slope. The fact is that we can anticipate increasing real prices for imported oil with con- sequent impact on energy prices generally. Alaskan gas is likely to be substantially cheaper, over the life cycle of the project, than imported oil. Access to additional Canadian gas, or Mexican gas, or additional LNG would be helpful in and-of them- selves, but do not reduce the need for Alaskan gas that is less expensive than imported oil." GAO response No. 15 See our responses to the Federal Energy Regulatory Commission on these comments (response 10, p. 96; response 13, pp. 98 and 99). Agency comment `Page 28: The analysis confuses conservation and fuel switching. The key long-term element of the Government's policy on fuel switching is to sub- stitute coal for oil and natural gas. Short term adjustments to that policy, including limited exemptions for industrial and utility use of natural gas, are appropriate.' GAO response No. 16 The analysis treats "fuel switching' as a "conservation' measure. We see no confusion there. See also our response to the Department of Energy on this comment (response 9, p. 112). 126 PAGENO="0401" 395 APPENDIX X APPENDIX X Ag~cy Comment `The analysis seems to overlook the fact that surplus gas supplies overhanging the market are not likely to encourage expanded exploration and development of additional reserves, indeed they may discourage it." GAO response No. 17 See our response to the Department of Energy on this comment (response 10, p. 112). Agency comment "Page 29: The section on unconventional sources is undocumented, superficial and excessively speculative. "Page 30: Anticipated Canadian supplies are not adequately documented." GAO response No. 18 See our response to the Federal Energy Regulatory Com- mission on these comments (response 12, p. 97; responses 14 through 17, pp. 99 to 103). Agency comment "Page 31: The statement that Mexico could supply 0.5 to 1.5 TCF of gas a year through the l980s is not substantiated. This would be 1.4 to 4.1 BCFD. Such numbers are highly speculative, especially since Mexican oil and gas production plans do not exend beyond the current Mexican presidential term ending in 1982. The reference to Pemex' offer of $2.60 per MCF is inaccurate. The 1977 Memorandum of Intentions between Pemex and six U.S. pipeline companies called for reference price based on the price of distillate fuel oil in New York Fiarbor-- about $4.50 per MCF at current prices. Mexican gas exports to the U.S. are not dependent on con- clusion of a U.S./Mexican oil agreement." 127 57-087 0 - 80 - 26 PAGENO="0402" 396 APPENDIX X APPENDIX X GAO response No. 19 See our responses to the Department of Energy on these comments (responses 12 to 14, pp. 113 and 114). Agency comment Page 32: The conclusion that LNG imports in 1985 would be priced at the equivalent of $12 to $18 per barrel of oil ($2-$3 per MCF) is well off the mark. It overlooks the fact that these imports contain escalator linkages to the price of imported oil, and the possibility of their being renegotiated. GAO response No. 20 The report has not said that liquefied natural gas imports in 1985 would be priced at the equivalent of $12 to $18 per barrel of oil. It states that at a price equivalent to $12 to $18 a barrel of oil, liquefied natural gas would cost less than the 1985 cost of Project gas. See also our response to the Department of Energy on this point (response 15, p. 115). Agency comment `Pages 32 and 33: Since imported oil is the marginal supply element in the U.S. energy system, Alaskan gas will serve to backout imported oil, directly or indirectly, and/or to support U.S. economic growth. Statements in this section re- flect a `no-growth' philosophy." GAO response No. 21 It is gratuitous to charge that the "statements in this section reflect a `no-growth' philosophy." They merely re- port that, to the extent that Alaskan gas stimulates new growth, it will not "back out" foreign energy then being imported. Nothing in the report suggests that new growth is undesirable. See also our responses to the Department of Energy (response 16, p. 115) and the Federal Energy Regulatory Com- mission (response 18, p. 103). 128 PAGENO="0403" 397 APPENDIX X APPENDIX X Agency comment `Page 34: This section on balance of payments costs for energy is inaccurate and out of date. Energy imports are not expected to be 12 million barrels a day in the late 1980's. Oil already costs more than the $18 per barrel figure used as its cost in 1979 dollars for the mid-l980's. The balance of payments costs (payments to Canada) for transporting Alaskan gas is small compared to the negative effect on the U.S. economy of importing an equivalent amount of oil. These Canadian tariffs also are scheduled to decline over time." GAO response No. 22 This comment supports the report's conclusion that con- tinuing indepth energy analyses are essential. The data used in the report reflect the understandings current at the time it was prepared and provided for comment. In fact, the oil cost of $18 a barrel was made at a time when the OPEC price was less than $15. The report has been updated consistent with more recent events. FEDERAL INSPECTOR FOR THE ALASKA NATURAL GAS TRANSPORTATION SYSTEM Inspector's comment "Based on the information currently available to me, I have serious reservations about some of your analyses and recommendations. I am reluc- tant at this time, however, to provide detailed comments for a number of reasons. First, many of the issues discussed in the report are re- lated to decisions or negotiations of the Federal Energy Regulatory Commission, Department of the Interior and private companies which took place prior to my appointment as Federal Inspector and prior to the establishment of the Office of Fed- eral Inspector. I was not privy to the rationale behind these discussions. Second, other issues raised by the draft report, especially the matter of economic and financial viability are still being debated or evaluated by forces of the free market. I think the marketplace should be given an opportunity to work its will. 129 PAGENO="0404" 398 APPENDIX X APPENDIX X GAO response No. 2 The report does not suggest that the stipulations would be `a basis for `making' concessions." It suggests that the the Government's overall Project coordinator and primary point of contact relating to Federal oversight. As the re- port also shows, we agree that the marketplace should be given the opportunity to work its will before Federal finan- cial involvement is considered. DEPARTMENT OF THE INTERIOR Agency comment "On page 13, it is suggested that proceedings for the Right-of-Way Agreements represent an opportu- nity for delay. It is unlikely that a delay will be caused by our schedule for issuing the Stipula- tions. We are scheduled to complete then before October of this year and this fits the companies' schedules. The Agreement and Grant of Right-of- Way documents are being prepared and will be ready for signature when the conditions of Sec- tibn 28 of the Mineral Leasing Act are met." GAO response No. 1 The report suggests the possibility of lengthy proceed- ings only if the sponsors choose to negotiate. Agency comment "The Department does not look at the stipulations as a basis for making `concessions.' There has been extensive discussion with the companies about the environmental and other concerns of the Depart- ment vis-a-vis the economics of the projects." GAO response No. 2 The report does not suggest that the stipulations would be "a basis for `making' concessions." It suggests that the Department of the Interior, because of its environmental and other concerns, may be relunctant to make concessions in the stipulations. 130 PAGENO="0405" 399 APPENDIX X APPENDIX X Agency comment `We differ with the conclusion implied on pages 14 and 15. We believe that the technology exists to build the pipeline in an environmentally acceptable, economical manner. However, we do have a number of major technical concerns in Alaska that must be re- solved by the company before the pipeline can ac- tually be constructed." GAO response No. 3 As indicated in our responses to comments from the Federal Energy Regulatory Commission and others, the Alaskan sponsors--not GAO--made the risk-of abandonment evaluations in chapter 2. The report does not attempt to determine whether the technology exists to build the pipeline in an environmentally acceptable, economical manner. It states that technical and geological uncertainties should be thoroughly investigated; such investigations may be necessary to resolve the Department's unspecified major technical con- cerns in Alaska. Agency comment "The economics of the project have been extensively studied for several years and found to be generally acceptable. Recent increases in OPEC oil prices reinforce the justification. It is not apparent what purpose would be served by having the Secre- tary of Energy undertake another overview." GAO response No. 4 We recommend further study only if Federal financial involvement is requested. Agency comment "The planned facility will have a capacity of 1.163 trillion cubic feet per year with additional capa- city possible by looping. "There is a strong possibility of additional gas being discovered in the north slope area that could be transported by this line." 131 PAGENO="0406" 400 APPENDIX X APPENDIX X GAO response No. 5 The report deals only with the natural gas proposed to be transported from Prudhoe Bay. It will be appropriate to consider additional supplies and total capacity of the Proj- ect in the detailed analyses we have suggested. We are aware of U.S. Geological Survey and other esti- mates of potential natural gas resources in northern Alaska. The report does note that, so far, there have been no new discoveries outside of Prudhoe Bay. The analyses we suggest should take into consideration possibilities of additional supplies. Agency comment "The report does not explore what is to be done with the gas in the event that there are no transportation facilities out of the region. Cur- rently, under State Regulation, the gas is being reinjected at Prudhoe Bay. This is costly and consumes a portion of the gas in the process. There are limitations on the useful and non- wasteful continuation of reinjection which should be discussed.' GAO response No. 6 We do not assume that the gas will not be transported out of the region. That is beyond the report's scope. The issue is that indepth analyses are needed before a decision is made on Federal financial involvement. Agency comment "There is a misleading characterization on page 27. If it were obvious that LNG were an economic source of energy, the case against importing would have dissolved. If markets for the gas at incremental cost were apparent, LNG imports would have been au- thorized. Without some market constraint (such as full-cost or incremental pricing) LNG remains a suspect, unattractive source of fuel. With the appropriate market constraints, it may ultimately become an economical source." 132 PAGENO="0407" 401 APPENDIX X APPENDIX X GAO response No. 7 We cannot identify any `misleading characterization." Apparently, the Departnent of the Interior refers here to the footnote relating to Government policies in granting li- censes. The report indicates that quantities of LNG over and above what is now being imported might be brought to the United States if, among other developments, the Govern- ment granted licenses to applicants more freely than it does now. As indicated in the report, it deals with possi- bilities, not predictions. The fact is that LNG is now being imported and additional import applications have been filed. Agency comment "The logic on page 32 is questionable. Supply does not create demand. Further, if the cost of the Alaskan gas (properly priced) were low enough to warrant increased economic activity, this would seem a desirable, rather than an undesirable, outcome." GAO response No. 8 The logic is consistent with views that latent natural gas demand could absorb substantially larger amounts of gas annually than is now consumed. Although we do not believe that this latent demand is unlimited, it seems probable that new gas supplies could stimulate additional demand. Further, the report does not state that increased economic activity is undesirable. It merely states that if new activity absorbs the Alaskan gas, the Alaskan gas probably would not reduce imports. Agency comment "The economics on page 28 are confusing. We doubt that it could be demonstrated that energy users are indifferent to prices. What is it that is going to alter consumers preferences or habits? It sounds as if the authors are advocat- ing forced conservation. This tends to be corro- borated by first paragraph, page 32." 133 PAGENO="0408" 402 APPENDIX X APPENDIX X GAO response No. 9 The Department of the Interior is unquestionably con- fused. Nothing in the report suggests that energy users are indifferent to prices. However, it is possible for con- sumers to adjust to energy price rises by responses other than reducing energy consumptions. For example, they may forego recreational expenditures rather than diminish their consumption. Also, consumers may, in some cases, need to be told how to conserve energy. The report does not necessarily advocate forced conser- vation. The report recommends that the Government develop a clear and consistent conservation program directed to helping consumers develop conservation attitudes and habits. Agency comment "The discussion concerning the lack of im?act on importation of OPEC oil is not entirely correct. It is not necessary for someone who burns foreign oil to directly substitute Alaskan gas for dis- placement of foreign oil to occur. The total energy imported with or without the Alaskan gas is the real basis for comparison.' GAO response No. 10 The report recognizes both direct and indirect substitu- tion. Further, it suggests that detailed analysis is needed before it can be determined what total energy imports would be with or without the Alaskan gas. Agency comment "The investment tax credit has a substantial impact on the real rate of return on equity capital. We think that this impact should be considered and in- cluded in the appendix on the IROR, in order to accurately evaluate the financial prospects for this project." GAO response No. 11 Appendix I illustrates the difficulty in reaching mutually satisfactory resolutions. It does not discuss the investment tax credit because this credit is not considered 134 PAGENO="0409" 403 APPENDIX X APPENDIX X as a part of the Federal Energy Regulatory Commission's rulemaking. Agency comment "Your concerns about marketing nay be overstated as most of the proven Prudhoe gas has already been marketed (with certain restrictions). Also, it is unlikely that the conpanies involved will start construction before they have distribution contracts and commitments." GAO response No. 12 The Alaskan sponsors--not GAO--stated that marketability was a factor in their evaluation of abandonment risks. Ag~ncy comment "In evaluating this project, consideration should be given to its value as an energy `insurance policy' in the event of interruption of overseas' sources." GAO response No. 13 We recognize that "national security" is an important element in establishing national energy policies and should be considered in the indepth analyses we recommend.. Agency comment "Consideration of this marginal increase in supply as a constraint on the price of OPEC oil and/or LNG would be interesting." GAO response No. 14 It would be proper to evaluate this in the indepth analyses we recommend. Agency comment "Of very special importance for the Congress to consider are the prebuilt projects in the lower 48 states. These projects will provide Canadian gas at an early date and their import should be 135 PAGENO="0410" 404 APPENDIX X APPENDIX X considered in an overall evaluation of this entire project." GAO response No. 15 We agree. NORTHWEST ALASKAN PIPELINE COMPANY Company comment "Mr. J. Dexter Peach's letter of June 19, 1979 * * * transmitted for comment a purportedly confidential draft of a proposed report ~ * *. `J/ GAO response No. 1 Our policy is to provide parties having responsibi- lities concerning the subjects discussed in the draft an opportunity to comment on the draft. Consistent with this practice, we sent copies of the draft of this report to the companies and Federal agencies involved. Each copy had highlighted in red on the cover that the draft was restricted to official use and included the following language also in red: "Recipients of this draft must not show or release its contents for purposes other than official re- view and comment under any circumstances. At all tines it must be safeguarded to prevent publication or other improper disclosure of the information con- tained therein. In addition, each copy contained a transmittal letter refer- ring to the use limitations highlighted on the cover. Company comment aThe report contains so many misstatements and inaccuracies that the time and resources which would be required to comment on each cannot be justified in light of its premature release to the Canadian press. 1/Mr. Peach is the Director of the Energy and Minerals Division, GAO. 136 PAGENO="0411" 405 APPENDIX X APPENDIX X GAO response No. 2 At our meeting with the company representative after receiving this letter, we specifically requested that the company provide any supporting data that would correct the alleged, but not specified, `misstatements and inaccuracies." The company provided none. Company comment "The full extent of the damage and delay caused by the unethical and premature release of the draft to the press cannot be fully assessed at this time. We are enclosing for your informa- tion copies of articles from several newspapers to illustr~ate how am ill-conceived and mislead- ing report cam be further misinterpreted by the press. The impact of such articles with their inflammatory rhetoric, especially on the finan- cial community, are particularly damaging to this vital energy project. "We believe the distortions, inaccuracies, and incompleteness of the already published and released report will be readily discernible to the careful reader, and that this will be our best defense against such irresponsibility. By copies of this letter, we are informing mem- bers of Congress and the Administration of our comments and opinions on this matter.' GAO response No. 3 On August 8, 1979, the company's Washington, D.C. press office informed us that it had obtained no articles concerning this report other than those provided with this letter. By comparing the draft copy we sent to them with those articles, the company could easily determine that the articles, in fact, did not disclose all the contents of the draft. Substantial portions of one article related to opinions expressed to newspaper representatives by people outside our organization. Further, the articles correctly report that they were referring to a draft report which was not final. 137 PAGENO="0412" 406 APPENDIX X APPENDIX X NORTHERN NATURAL GAS COMPANY Company comment "On January 26, 1979, Northern Border filed an application with the Federal Energy Regulatory Commission for permission to prebuild 809 miles of the Eastern Leg to transport 800 MNCFD of Canadian Gas to U.S. consumers beginning two to three years in advance to when Alaska gas will be available. This service proposed by Northern Border would begin in November, 1981, and con- tinue for a period of 12 years, providing substan- tial ~olumes of gas to the Midwestern and Eastern U.S. markets. This proposed prebuilding or Phase I construction of the Northern Border System is pred- icated on the receipt of acceptable certificates and permits from both the United States' Federal Energy Regulatory Commission and the Canadian National Energy Board. "When Alaskan gas becomes available Northern Border will file additional applications requesting per- mission to expand its system by adding 308 miles of pipeline and more compressor stations to accommodate the combined volumes of Alaskan and Canadian gas volumes. This expansion of the Northern Border system will be timed to coordinate its completion with completion of the other segments of the total system. "Our basic comment on your draft is that substan- tially all of the problems described are peculiar to the Alaskan segment (or perhaps in some part the Canadian segment), and have little bearing on Northern Border's prospects for financing and construction. in light of the `pre-build' propç~~ to transport Canadian gas. Had .th~e FERC not chosen to impose the IROR mechanism on Northern Border, the financing and `pre-build' construction would have proceeded routinely upon issuance of satisfactory export-import licenses by the two governments, and a satisfactory Certificate by the FERC." 138 PAGENO="0413" 407 APPENDIX X APPENDIX X "The only unusual obstacle Northern Border now faces is satisfactory resolution of the IROR mechanism. It still faces the `usual' obstacles of satisfactory `pre-build' authorizations from the two governments involved. Whether those obstacles will be overcome, and when, is pecu- liarly within the control of the two governments. However, given such action on a timely basis and acceptable terms, we have no concern over our ability to finance Northern Border privately and construct the `pre-build' segment on the projected tine schedule (assuming the expected cooperation of the Federal Inspector during final design and construction). Neither would we have any concern, once the `pre-build' is completed, over our ability to finance privately and to construct timely the expansion required to accommodate Alaskan gas when it begins to flow. "We believe our presentation before the FERC should make it clear that only satisfactory regulatory approvals for the `pre-build' (including IROR in that context) are needed to bring Northern Border into being as a privately financed pipeline. This represents over 1100 miles of the 4800 nile total system, and an investment (for both Canadian and Alaskan gas) of approximately $2 billion. "Moreover, as our presentation to FERC documents, successful completion of the Northern Border `pre- build' will benefit the financing and construction of the Alaskan and full Canadian segments enor- mously. Further assistance will accrue iron `pre- buidling' the Canadian southern segments and the Western Leg. The unit costs of transportation of Alaskan gas will decline significantly, and ob- viously financing requirements will be greatly reduced within the same time period. `We suggest addition of a comprehensiv'e explanation of the effects of `pre-building' on completion of the entire Alaskan system, and' re-examination of some concerns expressed in light of that expecta- tion, and the recent OPEC price increases. Above all, it should be made clear that Northern Border can be and will be privately financed barring adverse regulatory actions in the U.S. or Canada." 139 PAGENO="0414" 408 APPENDIX X APPENDIX X GAO response The report identifies and discusses the Eastern Leg as a separate segment of the system. Also, it shows that the question of Federal financial involvement has been raised only in comments with the Alaska segment. Although we have limited our discussions in this report, the Department of Energy analyses which we recommend will require the compre- hensiveness suggested by the Northern Natural Gas Company. PACIFIC GAS AND ELECTRIC COMPANY Company comment "In reviewing the draft we have, as you asked, taken care to prevent the report's premature release or unauthorized use, knowing that the publication of the preliminary draft, before it has been checked for inaccuracies and misleading statements could do unjustifiable harm to public and imvestor confidence in the Alaska Project. We were, therefore, dismayed to learn that, despite your caution, the draft, without the benefit of corrections, was the subject of some premature stories in the press. This is parti- cularly unfortunate, for the draft in its present form is misleading to the public and to the Con- gress, and will do nothing to advance general understanding of the project, its promise, or its problems." GAO response No. 1 We note that the company does not identify specifically in w~at way the report was "misleading~' or recommend specific rev is ions. Company comment `The Project has been approved and found in the national interest by the President and the Con- gress. `fhé draft report gives scant attention to this fact and seems instead to proceed on the assumption that the national need for this new domestic energy supply should be restudied. The Project is in danger of being studied--and restudied--to death." 140 PAGENO="0415" 409 APPENDIX X APPENDIX X GAO response No. 2 In the repOrt, we show that the Project was approved and found in the national interest by the President and the Congress. We reconmend further study only in connection* with a possibility that a proposal may be made to waive one condition of that approval. That condition requires that the Project be privately financed without any Federal f i- nancing assistance. We see no danger that our recommendations will cause the Project to be `studied to death" or even delayed. All present activities can continue without regard to the De- partment of Energy analyses that we suggest. Company comment "The draft report contains a great deal of super- ficial and completely unsubstantiated speculation about the possible availability of alternate energy supplies. This speculation covers ground which has been covered many times before. All of the men- tioned alternatives are not truly alternatives to the Alaska Project but are instead other possible sources of energy that will in all likelihood be needed in addition to the Alaska Project, if they can be bought to fruition. Alternatives to the Project were considered and a decision has been made at the highest level of our Government and the Government of Canada to move forward with the Project. The time for studies of alternatives is past." GAO response No. 3 These points are discussed in some detail in our re- sponses to the Federal Energy Regulatory Agency and Depart- ment of Energy. Further, in discussing alternate energy supplies, the report is not seeking to identify alternatives to the Alaska Project. Instead, it seeks to identify options that the Congress may have if Federal financial involvement is proposed. The report does indicate that the United States will have to look to a variety of energy sources for its future gas supplies. It does not suggest that the `Proj- ect will not be one of them. 141 PAGENO="0416" 410 APPENDIX X - APPENDIX X Company comment "If any study is necessary at this time, there should be an analysis of ways to clear government roadblocks and delays which are the single great- est threat to the Project's timely and economic completion. In our opinion the GAO's draft study should be revised to give close attention to this problem. The report could perhaps help to achieve the expressed will of the Congress that this Proj- ect be built if the report were to examine closely the delays and uncertainties caused by the govern- mental regulatory process, and to recommend ways of rectifying the situation. GAO response No. 4 Governmental efficiency, in general, and the processes with respect to the Project, in particular, have been receiv- ir~g our continued attention. We note that both depend on the attitude and efforts of the interested parties as well as of the Government. For example, appendix I describes the procedures for determining the variable rate-of-return for the Project. In addition, as pointed out by the Northwest Alaskan Pipeline Company in its statement to the Federal Energy Regulatory Commission on determining the Project risk premium for the Alaska segment of the Project, the general public and other third parties can affect rates of progress in public matters. Company comment "The report spends a great deal of time speculating what should be done if the Project were unable to obtain private financing. This sort of speculation unnecessarily rums the risk of becoming a self- fulfilling prophecy. Investor and lender confidence are being eroded day by day by regulatory delays which raise the question of the U.S. Government's commitment to the Project. The draft report will cause further erosion Of confidence. The partner- ship has stated its belief that the Project can be privately financed, but we will not know until we are allowed by government decisions to go forward. We do know that until that occurs, speculation 142 PAGENO="0417" 411 APPENDIX X APPENDIX X about possible failure, especially fran a respon- sible agency of the Federal Government, is to say the least, unnecessary and very much contrary to the national interest. GAO response No. 5 We did not initiate any actions to question the spon- sors' ability to secure private financing. Such questions were raised elsewhere, including the Northwest Alaskan Pipeline Company's statenent on determining Project risk premiums. In addition, we did not institute any suggestion that the Government should or should not get financially involved *in the Project. Although once that possibility was raised, there was a risk that it would become "a self-fulfilling prophecy," our prime concern is that the Government should be in a position to make an informed decision if Federal financial involvement is proposed. We believe that getting prepared for a prompt, informed decision on a public question is fully in the national interest. note: Page numbers referring to draft report were changed to correspond with those in this final report. (008700) 143 57-087 0 - 80 - 27 PAGENO="0418" 412 BEFORE THE UNITED STATES HOUSE OF REPRESENTATIVES COMMITTEE ON INTERIOR AND INSULAR AFFAIRS SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS Prepared Statement of Robert L. Pierce President and Chief Executive Officer of Foothills Pipe Lines (Yukon) Ltd. October 15, 1979 My name is Robert L. Pierce, and I am President, Chief Executive Officer, and a member of the Board of Directors of Foothills Pipe Lines (Yukon) Ltd. Foothills is the parent organization for five subsidiary companies which have been designated by the National Energy Board and the Canadian Par- liament to construct and operate the Canadian segment of the Alaska natural gas transportation system (tIANGTSIt). I am also Executive Vice President and a member of the Board of Directors of the Alberta Gas Trunk Line Company Limited (1AGTL'), a Canadian company which presently owns and operates a major gas transmission system in the Province of Alberta. AGTL owns fifty percent of the outstanding shares of stock in Foothills. The remaining fifty percent is owned by another Canadian Company, Westcoast Transmission Company Limited ("Westcoast'), which operates a major gas transmission system in the Province of British Columbia. During the time available to me today, I would like to provide the subcommittee with a brief summary of the progress which has been made in Canada since the Fall of 1977, when the ANGTS was selected by the President and ratified by the Congress. PAGENO="0419" 413 In that context, I will comment upon (1) significant Canadian legislative developnents, (2) the progress of technical work which is being carried out by the Canadian sponsors, (3) the status of pertinent NEB proceedings, and (4) the outlook for pri- vately financing the Canadian segnent of the system. I will also discuss our proposal to "prebuild" a substantial portion of the system in order to export an additional 1.04 billion cubic feet of Alberta natural gas per day to the United States. Prior to addressing these matters, however, let me briefly cover some of the technical aspects of the system we are proposing to construct. The Canadian segment of the system will extend from a point on the Alaska/Yukon Territory border, southeasterly along the Alaska Highway, to a bifurcation point in southern Alberta near the town of Caroline. From that point, a "western leg" will be constructed in a southwesterly direction to a point on the international boundary near Kingagate, B.C., where there will be an interconnection with the system of Pacific Gas Transmission Company. Similarly, an "eastern leg" will be constructed in a southeasterly direction to a point on the international boundary near Monchy, Saskatchewan, where there will be an interconnection with tht~ system of Northern Border Pipeline Company. Under our current plans, the portion of the system between the Alaskan border and Whitehorse will be constructed of high pressure, 48" diameter pipe, which is the same size that is being used in Alaska. From Whitehorse to Caroline, however, we presently intend to use 56" pipe in order to provide sufficient capacity -2- PAGENO="0420" 414 * for the Canadian gas which is expected to come on stream when the Dempster Lateral is completed, connecting the system with reserves in the MacKenzie Delta and Beaufort Sea areas. The segment from Caroline to Kingsgate, B.C. would be constructed of 36" pipe, and the segment from Caroline to Monchy, Saskatchewan would be constructed of 42" pipe. The Canadian portion of the ANGTS will have an initial capa- city to transport approximately 2.0 to 2.4 billion cubic feet per day of Alaskan gas and 1.2 billion cubic feet per day of Canadian gas. With the addition of looping and compression, however, the system could ultimately transport as much as 3.2 billion cubic feet of Alaskan gas per day. Our February 1979 capital cost estimate for the Canadian por- tion of the system was $5.768 billion for a late 1984 start-up, as compared with the original NEB target of $4.325 billion for a January 1983 start-up. This increase has been caused primarily by regulatory and legislative delays in the United States. Foothills is doing everything possible to minimize its expenses without jeopardizing the current construction schedule. Unfortunately, however, the principal cause of cost increases is delay. Continuing delay makes any project more costly, particu- larly now, given the current inflation rate in North America and the spiraling cost of capital. * -3- PAGENO="0421" 415 Notwithstanding the delays which have been incurred thus far, we are hopeful that a significant portion of the Canadian and U.S. segments can be `prebuilt" within the next two years to permit an export to the United States of approximately .1.04 billion cubic feet per day of additional Alberta gas. If this proposal is approved in a timely fashion by the appropriate Canadian and lunerican regulatory bodies, we believe it would accomplish the following: 1. It would reduce the capital costs of a significant portion of the system; in short, prebuilding now, rather than later, is. a hedge against inflation; 2. It would spread out the total construction period, thereby giving the project sponsors a great deal of flexibility in determining how and when to approach the capital markets. 3. It would serve to reduce the ultimate total cost of service for Alaskan gas; 4. It would improve the earnings and the cash flow of the project sponsors, thereby strengthening their financial position as they continue their work to complete the total system; and 5. It would domonstrate that the large diameter, high-pressure pipeline can be installed and safely operated without major cost overruns or schedule delays. Let me .turn now to the progress which has been made in Canada during the past two years on both the entire project and the prebuild phase. On April 5, 1978, approximately five months after Congressional ratification of the Presidential Decision, the Canadian Parliament passed the Northern Pipeline Act, which gave full force and effect to the agreement which had been reached PAGENO="0422" 416 by our two countries. Among other things, that act granted certificates of public convenience and necessity authorizing five Foothills subsidiaries to construct and operate the Canadian portions of the system; it established procedures and standards for the filing and review of Foothills' tariffs; and it limited judicial review of decisions issued by the National Energy Board in connection with the pipeline. The Northern Pipeline Act also established the Northern Pipe- line Agency, and vested it with both the responsibility and the authority to oversee the construction of the pipeline in Canada. Pursuant to that authority, the agency has already issued final terms and conditions on technical requirements for the system, and its final terms and conditions on socio-economic and environmental matters are expected to be issued in the near future. The National Energy Board has also worked assiduously to expedite the Canadian regulatory process. Among other things; --It has issued a proposed approach to the incentive rate of return mechanism which was envisioned by the Agreement in Prin- cipal between our two countries; --It has issued orders on the proposed mainline and prebuild tariffs of Foothills, as well as the method for regulation of the cost of service contracts; and -5- PAGENO="0423" 417 --It has completed hearings on the applica- tion of Pan-Alberta to export in excess one billion cubic feet of gas per day to the United States through the `prebuilt" portions of the system. The Board has also established an expedited schedule for all remaining matters affecting the ANGTS, including proof of finan- cing and the finalization of its approach to the incentive rate of return. At the company level, Foothills has made a substantial amount of progress in the technical work which must be completed prior to the commencement of construction. Detailed location work is essen- tially complete for the entire system; design work is in an advanced stage for the entire system, and almost complete for the prebuild portions; geotechnical and geothermal studies are con- tinuing in the Yukon at a high level; frost heave studies are con- tinuing at our facilities in Calgary; and additional pipe burst tests are scheduled for next month. On the bot~tom lime, we are doing the job we set out to do five years ago; if there is delay in this project, you can rest assured that it will not be caused by anything within the reasonable control of our company. Based upon our continuing studies and the progress which has been made in Canada, Foothills and its two owners, AGTL and West- coast, remain optimistic about the Alaska natural gas transporta- tion system. We all are convinced today--as we were four years PAGENO="0424" 418 ago--that the project is in the best economic interests of both the United States and Canada. We are also convinced that the pro- ject should be privately financed without any form of direct govern- mental participation. Notwithstanding our optimism, I would be remiss if I failed to emphasize that our companies are seriously concerned about the costly and time-consuming delays which have been caused by legis- lative and regulatory proceedings in the United States. We are con~erned not only with those delays which have already ensued, but with those which--if the past is an indicator--may oc~ur in the future. As private companies, we have the financial strength to con- tinue reasonable expenditures on the project, to make asubstantial investment in the project's equity, and to attract the debt finan- cing which is required for its completion, provided that we have satisfactory contractual arrangements with shippers of substance which are perceived as such by the investment community. We cannot, however, be placed in the untenable position of flowing millions upon millions into this project, year after year, without assurance that the project will commence construction on a timely basis and be completed, and that, upon completion, we will be allowed a fair and reasonable return on our investment. Based upon our experience thus far, the sponsors now beleive that at `least two things should occur soon if we are to continue funding the project at the present rate. First, we must be assured -7- PAGENO="0425" 419 that the money which we invest will be recouped in the event the project is not completed because of problems occuring in the United States. Secondly, we must be satisfied that, once the system is completed, we will be allowed to earn a fair and reasonable return on our investment. In closing, let me assure you that the Canadian companies remain fully committed to the private financing and early com- pletion of the Alaska natural gas transportation system. We estimate that Foothills' sponsors, AGTL and Westcoast, will, have spent 125 million dollars on this project as of December 31, 1979; and we intend to continue `our financial support, but we can do so only for so long as it is reasonable. * I thank you for the opportunity of appearing here today. If there are questions from members of the subcommittee, I will be happy to answer them. Robert L. Pierce -8- PAGENO="0426" 420 COMMITFEE ON INTERIOR AND INSULAR AFFAIRS U.S. HOUSE OF REPRESENTATIVES cE~rLCO~ss. W SHINGTON 0 C 20515 U.E October 23 1979 Mr. Robert Pierce President and Chief Executive Officer Foothills Pipelines (Yukon) Ltd. 1600 Bow Valley Square ~2 205 Fifth Avenue, S.W. Calgary, Alberta T2P2W4 Dear Mr. Pierce: As I indicated at the beginning of the hearings on the Alaska Natural Gas Transportation System, I sin providing you with some written questions. Your responses will be included in the record. The Subcommittee would appreciate answers to the following questions: 1. Will portions of the Canadian line have to be above ground because of frost heave problems? 2. Will construction of the line be delayed until the technical and engineering problems associated with frost heave are resolved? 3. What is the status of the proposed Dempster Highway lateral? 4. What further approvals are necessary to construct the Dempster lateral? As you will recall, Congressman Clausen requested a specific list of U.S. regulatory and legislative actions which delayed progress on the pipeline system as well as a comparable list of Canadian legislative and/or regulatory requirements. He also requested that you provide the Subcommittee with a list of the Committees of Parliament which have an interest in, or jurisdiction over the pipeline. PAGENO="0427" 421 October 23, 1979 Page two It is requested that your response to these questions be sent to the Subcommittee as soon as possible in order to make the complete hearing record available to the public in a timely manner. Thank you for appearing before the Subcommittee. Your testimony was most helpful and informative. Sincerely, HAROLD RUNNELS Chairman Oversight and Investigations Subcommittee j gh PAGENO="0428" 422 FOOTHILLS PIPE LINES (YUKON) LTD. ROBERT L PIERCE 1600 BOW VALLEY SQUARE II PRESIDENT AND CHIEF EXECUTIVE OFFICER 205- FIFTH AVE. S.W. BOX 9083 CALGARY, ALBERTA T2P 2W4 PHONE (403) 237-1577 December 3, 1979 Mr. Harold Runnels, Chairman Oversight and Investigations Subcommittee Committee on Interior and Insular Affairs U.S. House of Representatives Washington, DC 20515 Dear Chairman Runnels: Our apologies for the delay in replying to your letter of October 23, 1979, but unfortunately it was not received until November 28, 1979. It must have come to me by pony express. I am pleased to respond to your questions. 1. Question: Will portions of the Canadian line have to be above ground because of frost heave problems? Answer: We do not anticipate that portions of the Canadian line will be. installed above ground in the man- ner of Alyeska. There are several alternative mitigative measures available such as variations of backfill replacement, insulation, heat tracing and embankment instal- lation, none of which involve this type of installation. The exten- sive research that is presently going forward at Fairbanks, Alaska; Calgary, Alberta; and Beaver Creek, Yukon is designed to enable the choice of the most cost effective mitigative measures for the various conditions that will be encountered. PAGENO="0429" 423 Mr. Harold Runnels December 3, 1979 Page Two 2. Question: Will construction of the line be delayed until the technical and engineering problems associated with frost heave are resolved? Answer: We do not anticipate that construc- tion of the line will be delayed. Research into the phenomena of frost heave is much more advanced than certain published statements would seem to indicate. We expect to complete the necessary research and select appropriate mitigative measures (fully acceptable to the various regulatory agencies) well before physical construction is scheduled to take place in the area of west Yukon, where frost heave may be a potential problem. 3. Question: What is the status of the proposed Dempster Highway lateral? Answer: Foothills Pipe Lines (Yukon) Ltd. has filed with the National Energy Board an application for permis- sion to construct the proposed Dempster lateral. This applica- tion was filed before July 1, 1979 in accordance with an agreement between Foothills and the Canadian government. 4. Question: What further approvals are necessary to construct the Dempster lateral? Answer: The next step would be for the Department of~ Indian and Northern Affairs, who have jurisdiction in the area, to refer the Company's environmental impact statement to an environmental assessment review panel set up within the Department of Environment. This has not yet been done. The applications would also be scheduled by the National Energy Board for public hearing. There has been no indication to the Company of what the timing for such a hearing may be. PAGENO="0430" 424 Mr. Harold Runnels December 3, 1979 Page Three The Company's application sug- gested that the Dempster lateral be scheduled for construction in the two-year period following construction of the Alaska High- way Gas Pipeline Project. I believe that the information requested by Congressman Clausen, concerning the U.S. regulatory and legislative actions, has already been forwarded to the Subcommittee. I also believe that you have been informed concerning the two standing commit- tees of Parliament which have jurisdiction over northern pipe- line development. I trust the above information will be adequate for your purposes. It was a pleasure to appear before your Subcommittee. Please let us know if we can be of further assistance. Yours sincerely, Robert L. Pierce RLP:vad PAGENO="0431" 425 ALASKAN NATURAL GAS TRANSPORTATION SYSTEM STATUS AND OUTLOOK PREPARED STATEMENT OF * JOHN C. McNILLIAN OCTOBER 15, 1979 BEFORE THE U. S. HOUSE OF REPRESENTATIVES SUBCOMMITTEE ON OVERSIGHT AND SPECIAL INVESTIGATIONS OF THE COMMITTEE ON INTERIOR AND INSULAR AFFAIRS PAGENO="0432" Northwest Alaskan ~ELNE C~PANY ALASKA_HIGHWAY PIPELINE PROJECT EASTERN LEG PREBUILT CANADA-FOOTHILLS PIPE LINES: 395 MILES OF 42" US-NORTHERN BORDER PIPELINE CO.: 809 MILES OF 42" PAGENO="0433" 427 SUBCOMMITTEE ON OVERSIGHT AND SPECIAL INVESTIGATIONS OF THE COMMITTEE ON INTERIOR AND INSULAR AFFAIRS U.S. HOUSE OF REPRESENTATIVES PREPARED STATEMENT OF JOHN G. McMILLIAN OCTOBER 15, 1979 My name is John G. McMillian, and I am Chairman and Chief Executive Officer of Northwest Energy Company of Salt Lake City, Utah. I hold similar positions in Northwest Pipeline Corporation and Northwest Alaskan Pipeline Company. Both Northwest Pipeline and Northwest Alaskan Pipeline Company are wholly-owned subsidiaries of Northwest Energy Company. I am also Chairman of the Board of Partners of the Alaskan Northwest Natural Gas Transportation Company. This Partnership has assumed the rights of Alcan Pipeline Company, designated by the President of the United States and ratified by Congress to construct and operate the Alaskan segment of the Alaska Natural Gas Transportation System (ANGTS). The Partnership consists of six of the major U.S. natural gas companies, including affiliates of Panhandle Eastern Pipe Line Company, Northern Natural Gas Company, United Gas Pipe Line Company, Pacific Lighting Corporation, Pacific Gas and Electric Company, and Northwest Energy Company. 57-087 0 - 80 - 28 PAGENO="0434" 428 Under the Partnership Agreement, Northwest Alaskan is the operator of the Alaskan segment of the ANGTS. As oper- ator, Northwest Alaskan has responsibility for managing the design, construction and operation of the Alaskan segment of the ANGTS on behalf of the Partnership. In addition, Northwest Alaskan is responsible for the filing of necessary government authorizations, permits and certificates on behalf of the Partnership. Introduction I understand that the Committee seeks information on the current status of the ANGTS and the outlook for its future. I welcome the opportunity to discuss these matters with the Subcommittee and to respond to any questions which the Committee might have. In 1976, Congress directed in the Alaska Natural Gas Transportation Act of 1976 (ANGTA) that the President decide upon the best route for transporting Alaskan natural gas to the lower 48 states, and select the person to construct and operate the system. Congress further directed, in Section 9 of ANGTA, that all federal authorizations, permits, certificates and approvals necessary or related to ANGTS were to be expedited and given priority consideration. In September 1977, the President reached his decision. Pursuant to ANGTA, this decision was reviewed by Congress, which supported it in all respects. 2 PAGENO="0435" 429 The ANGTS is an integrated series of natural gas segments that will jointly operate to bring natural gas from the Prudhoe Bay region of Alaska's North Slope southward through Canada to markets within the lower 48 states.. The total system, authorized by the Canadian and U.S. governments consists of 4,800 miles of pipeline ranging in size from 36 to 56 inches plus other related facilities. The initial capacity of ANGTS will be sufficient to facilitate the transportation of up to 2.4 billion cubic feet per day of Alaskan gas and 1.2 billion cubic feet per day of Canadian MacKenzie-Delta gas for Canadian markets. The ultimate capacity for Alaskan gas is 3.2 billion cubic feet per day. The ANGTS is a monumental undertaking, both in terms of the physical work involved, and in terms of the financial resources, manpower, and material which it will employ. It is an undertaking which cannot succeed without broad support from private industry, from all levels of government, and indeed from the public itself. Accordingly, to develop and maintain the consensus of support which the project must have requires that those of us dedicated to successful, timely, and economic completion of the project engage in full and frank analysis of where we stand and where we must go, in public discussions such as these. We cannot--and we do not propose that we should--build the Alaska Natural Gas Trans- portation System in isolation from the processes of govern- ment. We have maintained, and will maintain, open lines of communication with the Congress, with the Federal Inspector, 3 PAGENO="0436" 430 the affected agencies of the federal and state governments, and the public at large. In pursuit of this policy of openness which I regard as essential, I would like to report to you today at some length on the Alaska Natural Gas Transportation System. At the outset, and as a predicate for everything else which I will submit, let me first underscore my unshakable conviction that the Alaska Natural Gas Transportation System is a project essential to this nation's future. The Alaska system must be built, and it will be built. It is only through ANGTS that the U.S. economy can gain access to a major domestic energy supply source, at a regulated price, through proven technology. A recent study done by ICF, Incorporated, for FERC showed that the net national economic benefit for the project ranged from $10.4 billion to $23.5 billion. I do not regard the Alaskan project as competitive with any other major energy project; certainly, I do not believe that the country can, or should, consider that it must make a choice of one--and reject others--of the apparent options of Alaskan gas, Canadian gas, Mexican gas and synthetic gas. It may well be that the nation requires all of these energy sources. Whatever the merits of other projects, not all of which are familiar to me, I suggest that the merits of the Alaskan project cannot be questioned. 4 PAGENO="0437" 431 I so conclude because, leaving aside such major considerations as those of the employment opportunities which the Alaskan project will open for the American work force, and particularly for minority businesses; the tax revenues which the project will generate for the federal government and for the states through which the pipeline operates; and the enormous revenues which will be generated for Prudhoe Bay gas producers when a market for their natural gas is provided (which revenues, hopefully, will be devoted to additional exploration and development of domestic oil and gas, resources) the Alaskan Natural Gas Transportation System, is a !`must." In a very real sense, while the benefits enumerated (which will inure to thousands of firms and individuals) are most significant in the context of providing stimulus to the U.S. economy, still these tremendous benefits pale in comparison to what the ANGTS means to the United States from the standpoint of energy policy and energy security. This Subcommittee needs no advice from me concerning the implications of U.S. dependence on imported oil. This Subcommittee needs no testimony from me to emphasize the balance of payments and national security consequences of our continued dependence on OPEC for the energy necessary to drive the U.S. economy. 5 PAGENO="0438" 432 The Alaskan gas project represents this country's best single hope for combating increased reliance on OPEC. Through access to the domestic energy supplies available in the far north, we have a means of providing a vital fuel and feedstock for the U.S. which is not subject to OPEC pricing, nor to OPEC withholding. In short, I am here to say again what I have stressed repeatedly for the past three years--that the Alaska Natural Gas Transportation System is, and must be, the energy project of highest priority to the United States as a whole. You have heard, as most certainly I have heard, that there are some who question whether the Alaskan system can be privately financed. I would speak to this question during the course of my remarks but as a preliminary matter, consider the significance of the fact that only one real question remains about this mammoth project at this time. It is significant that no one questions the technology to build the system. It is significant that no one questions the compatibility of the system with protection of environmental values. It is significant that no one questions the need for Alaskan gas in the lower 48 states. It is significant that no one questions the ability of the U.S. and Canadian governments to work together to resolve several remaining regulatory matters and to monitor construction all in furtherance of the project. It is significant that no one questions the ability of U.S. and Canadian pipeline companies to work together to construct and operate the system. 6 PAGENO="0439" 433 What I am suggesting to you is that the events which have transpired since Congress enacted the Alaska Natural Gas Transportation Act of 1976 have operated to underscore the wisdom of Congress in the passage of the legislation, the wisdom of the President's Decision and Report implementing ANGTA, and the wisdom of the Administration's and the Congress's commitment to timely, cost-effective completion and operation of the system. The situation today, then, is one where I believe it accurate to say that a broad, near universal, consensus has developed in complete support of the concept of an overland pipeline transportation system which will link the vast energy reserves in the far north with markets in the lower 48 states. What remains to be done is the implementation of the decision which has been jointly reached by the President, the Congress, and private enterprise that the Alaska Natural Gas Transportation System be built as quickly as possible. While we have encountered some problems and obstacles in our efforts to implement the decision to build ANGTS, we have observed a significant acceleration in governmental decisions during the last several months and believe we are now on a track that will permit implementation of definitive financing and commencement of construction. * * Permit me to highlight just a few of the positive developments which have occurred since the Congress ratified and approved the President's Decision in favor or a joint U.S ./Canadian overland pipeline transportation system: 7 PAGENO="0440" 434 ** The Congress enacted, and the President signed, the Natural Gas Policy Act of 1978; this was an essential building block for the Alaskan project because it settled the question of an appropriate price for Prudhoe Bay natural gas, deter- mined that Alaskan gas would be sold on a "rblled-in" rather than on an incremental basis, and determined that previously contracted-for volumes of Canadian gas which are moved through prebuilt portions of ANGTS would also be sold on a rolled-in basis. ** The President has submitted and the Con- gress has approved a reorganization plan establishing the Office of the Federal Inspector to coordinate federal govern- ment activities on the project and oversee our planning and construction activities. This was also an essential building block in putting the project together because of the enormous potential for delays engendered through our having to deal with multiple agencies and departments of government without clear lines of responsi- bility and authority for pursuit of timely, cost-effective completion of the project. The Federal Inspector took office in July, and it has been our observation that he has moved quickly to establish his office and his authority to carry out the government's obligations. While we may not always be in agreement, we believe that the Federal Inspector will be fair and is intent, just as we are, on completing the project efficiently and quickly. ** Two strong and vital partnerships have been forged to bring the Alaskan section and Eastern Leg into reality. An existing company has joined to expand its system for the Western Leg. Effective January 31, 1978, the Alaskan Northwest Natural Gas Transportation Company, a partnership com- posed of affiliates of six major U.S. pipeline companies, was formed to plan, * design, construct and operate the Alaskan segment of ANGTS. Effective on March 9, 1978, the Northern Border partnership was reconstituted with affiliates of four major U.S. pipeline companies as general 8 PAGENO="0441" 435 partners, with this partnership to under- take the responsibilities for planning, design, operation and construction of the Eastern Leg of ANGTS. Pacific Gas and Electric Company and its affiliate, Pacific Gas Transmission Company will plan, design, construct and operate the Western Leg of ANGTS. ** Specific plans have been put together, and necessary governmental filings have been made, to implement the joint U.S.! Canadian proposal that large volumes of natural gas temporarily surplus to Canadian needs be exported to the, United States through prebuilt southern portions of ANGTS as a means of facilitating the final completion and operation of the overall system; the Canadian government, together with the President, have made clear their support of prebuilding, and I believe we can rely upon the statements of the Canadian position that substantial additional exports of Canadian gas pre- sently surplus to Canadian needs may be exported if these exports will function in aid of the overall project. We are well into the process of securing neces- sary governmental approvals and authori- zations in both the United States and Canada. ** What we believe to be a truly significant amount of preliminary planning, design, and field work has been completed for all segments of the system; this work has been supported wholly by the at-risk investments of the participating U.S. partners of funds now totaling over $100 million. Our Canadian partners have invested a similar amount toward planning for the Canadian portion of the system. ** Extensive work with involved federal agencies and departments has already taken place, and many governmental actions which are essential to progress on the project have been received. For example, FERC has issued its final order establishing rates of return and the mechanism for the incentive rate of return required by the President's Decision to assist in con- 9 PAGENO="0442" 436 trolling cost overruns. This same order approved, with certain modifications, the cost of service tariff, the document defining the terms and conditions for payment for transportation service, and which is the primary financing document when operations have commenced to assure repayment to debt and equity investors. The Commission also recently issued its order which assigns the cost responsi- bility for certain gathering and gas conditioning costs to prepare the gas for transportation in the pipeline. Finally, in August the Commission issued a final `order approving the pipeline size, design pressure and capacity of the Alaskan segment. All of these orders were essen- tial to finalizing the financing plan and investment cost estimate. Earlier this summer, the Department of the Interior gave its provisional approval for the general routing of the Alaskan segment. The general context of the provisional approval centers on DOl's expression that the proposed alignment is a valid basis for future planning and design. ** The three major producers who control over 80% of the gas supply in the Prudhoe Bay field have now committed their reserves to eleven of the major natural gas compa- nies in our industry. Even with this progress, there are still many obstacles which must be overcome before ANGTS is a reality. My concern for these obstacles that lie ahead does not stem from any lack of confidence in what we propose to do. This, we believe, is in all respects precisely what the President and the Congress have instructed us to do, namely, to plan, design, construct and operate the ANGTS in a timely, cost-effective, efficient manner. Rather, my concern stems from the difficult experiences of the past two years in obtaining from the government the requisite decisions on a timely basis. Fortunately, the recent turnaround of these difficulties, as evidenced by the decisions rendered in the 10 PAGENO="0443" 437 last few weeks and the vigor with which the Federal Inspector has commenced his work, are signals that our frustrating delay is now over, and I look forward with confidence to accelerated progress and accomplishments. Against the backdrop of those introductory comments, I would like to report on various aspects of the project which I believe will be of interest to the Subcommittee. By general subject matters, the areas that I will address are the following: (1) Who is providing equity support for the project, who may do so, and what has been the extent and nature of project expendi- tures to date? (2) What work have the project sponsors accomplished since the date of the Congressional ratification of the President's Decision and ~port? (3) What is the status of the effort to import additional Canadian natural gas by prebuilding southern portions of the ANGTS? (4) What activities have taken place between the project sponsors and various govern- ment agencies and departments, and what problems have been encountered? (5) Is Alaskan gas marketable? (6) What is the present schedule of the project? (7) How much will the project cost? (8) Can the project be privately financed? I will address each of these matters in turn. 11 PAGENO="0444" 438 1. Equity Support for the Project As already mentioned, two partnerships have been formed: the Alaskan Northwest group to undertake the Alaskan segment of the total system, and the Northern Border group to build the Eastern Leg of the total system in the lower 48. An existing company and its affiliate will expand existing facilities for the Western Leg in the lower 48. We have recognized from the beginning the need to have the participation and support of several of the major natural gas companies in our industry. The six companies who are now partners in the Alaskan segment delivered a total of 3.2 trillion cubic feet of gas to customers ranging from California to New York. This volume represents 16% of total natural gas used in the United States. In addition to these companies, five other major companies in the industry have acquired a commitment for Alaskan gas. I recently sent a letter to to these companies encouraging them to consider entry into the partnership. Attached as Exhibit A is a copy of that letter. It is significant to note that the existing partners are willing to make a substantial sacrifice in order to attract new partners. The present partnership agreement, as approved by FERC, provides for profit discounts to be applied to late arriving participants with the discount on profits increasing as time passed and successive levels of risk are put behind us. This provision was included to guard against the possibility that a relatively small number of partners would be required to step forward at the inception of the project 12 PAGENO="0445" 439 and take all of the risks incident to early participation, only to be met with a demand at a later date, after the project risks had been successfully surmounted, that more parties be admitted on the same terms and conditions as the original participants. Nevertheless, the existing partners have agreed, subject to FERC approval, to modify this provision in order to admit new partners at this time, when the financing plan is being developed. We are hopeful that this demonstration of encouragement will result in several additions to the partnership. The Northern Border partnership posed other problems. The Subcommittee will recall that the Northern Border group, as constituted at the time of the Presidential Decision, included some U.S. pipeline companies that were not prepared to move forward with the project as it was envisioned by the President and Congress. Both Northwest and United, however, shared the views of Northern and Panhandle, two of the original Northern Border partners, as to the conceptual approach to the prebuilding of the Northern Border system and later completion of the total Northern Border system. Accordingly, negotiations resulted in a reconstitution of the Northern Border partnership, with active participants who were prepared to move forward immediately. The remaining members of the old Northern Border partnership agreed to assume an inactive status, but retained certain rights to reenter the partnership upon the occurrence of stipulated events. 13 PAGENO="0446" 440 More importantly, however, TransCanada Pipe Lines Limited, the third major Canadian pipeline company to become involved in the Canadian portion of the project has now reguested membership in the Northern Border partnership. Detailed negotiation of the terms and conditions of its entry into the partnership are nearly completed. This entry will provide added strength to the project and particularly the prebuild phase. Both the Alaskan Northwest and Northern Border partnerships in recognition of the desirability of broadening the base of sponsor-company participation are dedicated to the principle that membership should be available on a non- discriminatory basis, subject only to the need to protect the legitimate rights and interests of those companies which have come forward at the outset and placed substantial funds at risk over the past year. Turning to the nature and extent of partnership expenditures, I attach, as Exhibit B, a copy of the financial statement of Alaskan Northwest through June 1979. To give the Subcommittee some indication of where, and for what purposes, partnership funds have been expended, I attach also, as Exhibit C, copies of filings with FERC which show expenditures by category of expense. 14 PAGENO="0447" 441 2. Project Activities Our technical progress and accomplishments are structured into six (6) major areas: (1) Project Management, (2) Research and Testing Programs, (3) Engineering Development and Analysis, (4) Field Engineering Studies, (5) Construction Planning, and (6) Technical Data Acquisition. From mid-1977 through early 1978, we evaluated the top U.S. project management-construction firms that had appro- priate credentials, proper experience of key personnel par- ticularly in far north construction, and proven records in recent megadollar engineering and construction ventures. From these indepth evaluations, Fluor Engineers and Constructors (Fluor) was selected as project management contractor (PMC) in April 1978. In addition to Fluor, we have employed several other firms that will work under Fluor's overall direction. We believe we have captured the best available talent and experience in Arctic construction to apply to our project. Exhibit D attached is a descriptive summary of these firms. 15 PAGENO="0448" 442 Our current project management objectives are to develop a definitive engineering design and detailed project cost estimate to be filed in mid-1980 for the final FERC certifi- cate and to execute the technical programs required tô.place the Alaskan pipeline segment in service during the 1984-85 heating season. We have several long-term, major research and testing programs underway, as joint ventures with our Canadian counterparts: ** Full scale frost heave tests have been in progress for four years at a test facility in Calgary, and tests are con- tinuing to measure heave rates and ice formations. Construction of the more com- prehensive, inultimillion dollar Fairbanks frost heave facility was recently com- pleted to measure heave and test our special pipeline designs for various frost heaving soils along the pipeline route. ** An additional program of in-situ frost heave tests for 1979 and 1980 has started by installing four test sites along the pipeline route to measure the frost sus- ceptibility of large grain soils. The in-situ testing program will be expanded in 1980 to include other freeze plate tests and freeze back tests. These tests will supplement the laboratory soil heave tests to provide design data with actual ground conditions. ** Full-scale pipe burst tests on line pipe has been completed with the British Gas Institute. A new test site especially designed for Alaskan Highway pipeline site conditions is nearing completion near Rainbow Lake in Northern Alberta. The purpose of these tests is to determine the optimum design for ductile fracture control. 16 PAGENO="0449" 443 ** A series of "model tests" on small diarn- eter pipe is 50% complete at Battelle Laboratories to research the effects of frozen earth backfill on ductile fracture propagation. ** Weld electrode testing will begin later this year in a joint venture between US and Alberta Gas Trunkline Limited. These will be tests of promising new electrode materials. The tests also include an evaluation of full-scale pipe welds sub- jected to high-stress field bending. ** We are participating in a welding quality research program being conducted by the National Bureau of Standards, under the auspices of the Department of Transporta- tion. We are currently manufacturing samples of rolled plates and finished line pipe, to Alaskan project specifica- tions, for the Bureau's testing next year. Our engineering developmental and analytical work is applied to a broad range of important aspects of the project. Each piece of work is a major accomplishment in the overall progress of our project and deserves separate and special attention. ** Specifications have been developed for the 48-inch main line pipe, and quotations have been solicited from world-wide sources. Specifications for major valves, fittings, and compressor components have been prepared. ** Station control hardware and software concepts have been established to guide equipment selection and development of control logic. ** Current computer programs are being refined to accommodate a wide range of operating conditions for performing elas- tic and inelastic stress analyses of the buried pipeline, especially in permafrost areas. 17 57-087 0 - 80 - 29 PAGENO="0450" 444 ** About 1,000 hydraulic simulation studies have been performed to evaluate the major variables of system design and analysis-- initial throughput and capacity buildup, alternative pipeline diameters and opera- ting pressures, gas temperature control, variations in gas composition, potential turbine/compressor equipment, and effects of seasonal patterns of ambient and sub- surface temperatures. The results of these studies have been used for the following analyses and evaluations: - Optimum economic design of the pipe- line system, - Optimum number and location of com- pressor stations, - Compression and refrigeration horse- power requirements, - System reliability and load factor analysis, - Alternative refrigeration processes, and - Waste heat recovery with combined cycle compression for auxiliary power and refrigeration. ** Gas conditioning studies, analysis of natural gas liquids recovery, and economic evaluations of various CO levels have been conducted to determin~ the optimum pipeline gas composition. ** A mathematical model of thermal transient flow has been developed specifically for the characteristics of our pipeline system, and computer programming of this model is under development by a leading consultant in this field. ** A special transient heat transfer flow is under development to complement the the thermal transient flow program. ** An empirical system of frost heave predic- tion is a long-range objective, intended for pipeline monitoring and remedial action during the operating life of the pipeline. The first stage of this empir- ical prediction is currently under devel- opment for application during the design 18 PAGENO="0451" 445 phase, and will be based on the heave- ranking of soil types found along the pipeline route. Field engineering studies performed to date include the following: ** Detailed alignment sheets and small scale topographic maps have been developed from recently completed orthophotographY of the entire Alaskan pipeline corridor. ** The entire route has been color photo- graphed as an aid to construction and restoration planning. ** Terrain unit maps have been developed from geotechnical reconnaissance and interpretation. ** Over 150 soil samples were collected and are being analyzed from the geotechnical drilling program south of Delta Junction this Spring. These samples supplement the 200-plus samples that were taken during the initial exploration program. Addi- tional soil samples are being collected in the northern part of the system with this Fall's drilling program. ** Approximately 200 miles of the route have been surveyed for permafrost delineation by resistivity methods. ** Subsurface temperature measurements have been taken monthly for about two years at sixty locations along the route south of Delta Junction. ** Hydrological studies have been made on the entire route, and data continue to be taken from surveys and aerial and on-site measurements. ** Material site locations have been identi- fied and investigated south of Delta Junction and sites north of Delta Junction to Prudhoe Bay are currently being evaluated as part of the Fall field programs. 19 PAGENO="0452" 446 ** All major river and floodplain crossings have been investigated and reported on by engineering and environmental consultants. ** Soils classification studies are underway for improved identification of the poten- tial frost heave areas along the route. ** Special studies and reports have been made on ditch stability and potential seismic fault areas. The significant early accomplishments in construction planning are as follows: ** An explosive testing program was conducted in Alaskan soils to establish feasible and safe blasting and excavation criteria, especially for areas of close proximity to the Alyeska oil pipeline. ** Negotiations have been completed for our acquisition of the TAPS pipeline and sta- tion construction camps. Bed space in the pump station camps is being utilized this year for the geotechnical drilling program. ** Work plans have been developed for project logistics programs, including a transpor- tation system plan. 20 PAGENO="0453" 447 ** Quality assurance and quality control plans and procedures have been drafted and are under detailed development. ** An equipment and spare parts support plan for execution contractors has been prepared. ** Descriptions of mobilization activities have been drafted and reviewed with fed- er~l and state agencies and affected firms in the private sector. We have made thorough searches and evaluations of all major available sources of technical and environmental data, studies, and reports relevant to the project. Specifically, we have quantitatively examined four sources of information: ** A major consulting firm with considerable TAPS project experience has indexed the publicly available information on arctic engineering and environmental studies and reports. ** The El Paso Alaska project data has been reviewed and indexed. ** Approximately 200 useful Arctic Gas stu- dies and reports have been acquired and are catalogued in our technical library. These documents represent a multirnillion dollar assemblage of research and develop- 21 PAGENO="0454" 448 inent work on large-diameter, high-pressure, chilled-gas pipeline technology for arctic regions. ** The total technical information package offered by the TAPS owners was inten- sively reviewed over a six-week period last year by a team of our engineers and TAPS-experienced engineering and environ- mental consultants. We have acquired the~ use of this data which has now largely been received, and detailed analysis is underway to maximize our use of this information accumulated during construc- tion of the oil pipeline. 3. Status of Canadian Imports Related to Prebuilding In 1978, we requested and received conditional approval from FERC to import 1.04 billion cubic feet per day of Cana- dian gas that is currently in excess of Canadian needs. This proposal would provide vitally needed gas supplies in advance of the availability of Alaskan gas and would make possible early construction of southern portions of the ANGTS. This prebuilding phase of the project has several advantages for the overall project, and we are pleased that it continues to receive the complete support of the United States and Canadian governments. The major advantages are: ** To provide additional gas supply as early as late 1980, four years in advance of delivery of Alaskan gas, * ** To spread out demand for materials and labor by constructing about 30% of the * pipeline system in advance, and 22 PAGENO="0455" 449 ** To reduce the cost of Alaskan gas when connected, by avoiding inflationary impact for the facilities built in advance, spreading costs over greater gas volumes and depreciating the prebuilt facilities for four years. - The app~Lication necessary to receive all final approvals from FERC have been filed and hearings are in progress. Some of the Canadian gas would be delivered through a prebuilt portion of the Western Leg of the ANGTS, and we expect approv- als for this could be received by year-end. The portion to be delivered through the prebuilt portion of the Eastern Leg is expected to be finally approved by April 1980. The Canadian export approval is expected to be received by year-end. The Canadians are concerned that before the gas is exported from Canada they be assured that the overall project is proceeding to be completed. Therefore, we welcome opportunities, such as this, to demonstrate the continuing interest of Congress that the system selected by the President and ratified by Congress in 1977 is needed and that all appro- priate actions should be taken to expedite its completion. 4. Governmental Activities and Related Problems In describing the government activities, I will concen- trate upon the activities with which we have been involved 23 PAGENO="0456" 450 at the Department of the Interior and the Federal Energy Regulatory Commission during the past two years. Quite obviously, as I am sure the Subcommittee is aware, there are many more federal agencies and departments with which the project sponsors must deal in order to secure all necessary permits, certificates, rights-of-way, and other authorizations. We also will continue to work with the environmental community to assure that environmental concerns are given responsible consideration in the design and construction of the system. Certainly, I do not intend to slight the other government offices with which we have dealt and continue to deal when I limit my comments to Interior and FERC, but rather it is the constraints of time which force me to do so. If, of course, the Committee has specific questions with respect to any other agencies, I will endeavor to respond. A. Department of the Interior We have worked with Interior in two areas principally. First, stipulations have been drafted to be attached to the right-of-way on federal lands to be granted for the pipeline, which stipulations spell out in great detail the terms and conditions governing pipeline design and construction. Secondly, the question of proximity has been addressed, that is, at what distance from the oil pipeline is the gas pipe- line to be constructed from the Prudhoe Bay field to the 24 PAGENO="0457" - 451 point south of Fairbanks, Alaska, where the gas pipeline will divert from the oil pipeline to follow the Alaska Highway. I will report on each of these problem areas in sequence. - (1) Right-of-Way Stipulations Our involvement with government officials concerning stipulations commenced in January 1978. The Department of the Interior chaired an interagency working group, with representatives of the State of Alaska included. The starting point for the government's deliberation was the extensive body of stipulations that were attached to the right-of-way grant for the Trans Alaska (oil) Pipeline (TAPS). About 200 separate requirements are included in the TAPS stipulations, which are categorized as (1) general, (2) environmental, or (3) technical. The stipulations are important because they become binding legal obligations upon acceptance of a right-of-way across federal lands. Over the past 20 months, we devoted many thousands of man-hours to meetings and discussions with government officials to arrive at stipulations sufficiently definitive to permit preparation of a relialle cost estimate. We simply cannot accept open-ended or ill-defined requirements that could later be subjectively interpreted by government officials to require major additional expenditures. While we stilldo not have an agreed upon body of stipulations, major progress has been made. We still have several significant concerns which have not yet been resolved. While we are hopeful of a 25 PAGENO="0458" 452 favorable outcome, we must reserve our final judgment on this matter for the time being. (2) The Proximity Issue In July 1977, Northwest submitted its formal appli- *cation to Interior for a right-of-way grant across federal lands in Alaska. The proposed pipeline route generally fol- lowed the TAPS pipeline (at a separation distance of 60-80 feet) from Prudhoe Bay to Delta Junction. On page 7 of the President's Decision, it was noted that Alyeska Pipeline Service Company, representing the TAPS owners, contended that a 100-200 foot separation is needed where trench blasting would be used and that "additional studies will determine the minimum distance. . . ." Northwest completed trench blasting field tests in the fall of 1977, witnessed by government and Alyeska repre- sentatives. In January 1978, Northwest reported the test results and engaged in dialogue with government officials. In August 1978, a government interagency committee endorsed Northwest's trench blasting criteria and concluded that con- trolled blasting can be conducted safely at 6080 feet of separation of TAPS. * * On December 18, 1978, after completing field recon- naissance, Northwest formally requested Interior to issue a "provisional" approval for its intended pipeline route. In late March, a process was set into motion by Interior to respond to this request, and a relatively high level of activity was initiated by Interior. An Interior letter of 26 PAGENO="0459" 453 June 13, 1979, provided Northwest a response that was gen- erally very supportive as previously indicated, but there are important questions which remain to be worked out. For example, Interior has proposed a realignment of the pipeline in several. sections, totaling 173 miles out of 540 miles from Prudhoe Bay to Delta Junction, Alaska. In addition, certain technical questions were raised which we are in the process of answering. Our schedule requires substantial resolution of these matters by the end of this year, to the extent necessary for subsequent issuance of a right-of-way grant. The Alaskan parthership recently approved a supple- mental budget of over $4 million in the remainder of 1979 in order to address proposed route changes and other matters raised in Interior's June 13 letter. B. Federal Energy Regulatory Commission As I am sure the Subcommittee appreciates, the rules under which the FERC must operate preclude direct communi- cations between the project sponsors and individual FERC Commissioners on matters which are under adjudication by the Commission. The Commission has, however, established an Alaska Gas Project Office and has provided in a number of instances by specific order that the Director of the Alaska Project Office work directly with the project sponsors on technical issues in advance of the time that any such issue moves into an adjudicatory posture. The Commission is, I believe, genuinely supportive of the project. Within the past two months, the Commission has issued a number of very significant orders relating to the 27 PAGENO="0460" 454 project. These orders were needed before we could begin to resolve some of the fundamental issues affecting design, financing, and construction. We have not always been in agreement with the Commission on the pace of its proceedings dealing with the project, nor with the details of every order it has issued. But a number of our major concerns have been recently alleviated by the Commission resolving--on a generally acceptable basis--such important matters as the rate of return for equity investors, an incentive rate of return mechanism which the Commission believes will help control project costs, the tariffs for the project, the design and capacity specifications for the Alaskan segnent, and the allocation of production-related costs between sellers and buyers of Prudhoe Bay gas. These have all been difficult and troublesome matters for the Commission, where it was necessary for the Commission to perform a delicate balancing of interests between the project sponsors, gas consumers, gas producers, the pipeline purchasers who will be shippers over the Alaskan system, the State of Alaska, and other interested parties. The Com- mission has not given us all that we sought, but we under- stand the necessity for compromise and we are proceeding at this time based on what the Commission has done thus far. * I must note, however, that not one of these crucial orders, which were issued in August and September of 1979, is yet final. Some are subject to rehearing by the Commission, and each is subject to judicial review under the terms of the Alaska Natural Gas Transportation Act of 1976. Certain other 28 PAGENO="0461" 455 parties are seeking changes in or revocation of some of these orders, and they all, of course, remain uncertain until they become final. We look forward to continued support from the Commission in our endeavors. While we do not expect the Commission to always agree with us, or even to respond as quickly as we would desire, we anticipate that the Commission will act reasonably, responsibly, and promptly on matters vital to our progress. There are several such matters still awaiting action at the FERC which we hope will soon receive the Commission's attention. First, there is the "tracking mechanism, that must be established by the Commission, which would permit natural gas pipeline companies shipping gas through the ANGTS to recover from their customers charges for the gas and for transportation on all segments of the system. The Commission addressed this issue in its September 6, 1979, order, and indicated its acceptance of the concept that there must be an uninterrupted flow of revenue from the consumer to the the project investors once the ANGTS is completed and commis- sioned for operations. It is necessary to project financing that this concept be formalized in approved tariffs of the shipping companies, and we trust that the Commission will resolve this matter appropriately at an early date. Second, is the need for the Commission to establish a means whereby the Commission will audit and approve project expenditures on regular intervals, beginning now and contin- uing over the construction life of the project. We believe 29 PAGENO="0462" 456 that this process of regular and periodic review and approval is directed by the President's Decision, and we filed, some months ago, necessary applications with the Commission to institute such proceedings. It is extremely important that the Commission respond to our request in the near future, particularly in view of the accelerating expenditures which both partnerships have undertaken. There are other significant matters which await Commis- sion action which are of a more technical nature, such as the determination of an appropriate format for the partnerships to report costs, the technical and environmental stipulations which will be embodied in the FERC Certificate of Public Convenience and Necessity issued to the partnerships, the Equal Employment Opportunity and Minority Business Enterprise policies and procedures to be employed on the project, and procurement policies and procedures. These are matters which, we recognize, take time if they are to be handled properly. As I indicated, we look forward to working con- structively with the Commission in the ongoing work which must be performed. 5. Is Alaskan Gas Marketable? Northwest commissioned Jensen & Associates, an internationally recognized consulting firm of Boston, Massachusetts, to undertake a study of the marketability of Alaskan gas, given the unique provisions of the Natural Gas Policy Act of 1978 (NGPA), relating to price treatment and marketing of Alaskan gas on a rolled-in, rather than incremental basis. 30 PAGENO="0463" 457 Attached, as Exhibit E, is a copy of the Jensen & Asso- ciates report which has recently been completed. As the -~ Subcommittee reviews this study, certain significant conclu- sions will .ernerge. (1) Alaskan gas represents a proven and dependable source of supply; in constrast, the supply of oil available to the U.S. economy will be restricted by U.S. policies, placing an absolute limit on the amount of foreign oil which will be imported. (2) Alaskan gas has a regulated base field price, established by NGPA; in contrast, even if there are energy supplies available to compete in the marketplace with Alaskan gas, these energy supplies will be regulated only by such world oil prices as may be set by the OPEC cartel. (3) The rapidly escalating cost of OPEC oil, now averaging over $20 per barrel, assures the marketability of Alaskan gas. (4) There is anticipated to be a more than sufficient demand for natural gas to absorb all volumes transportable through the ANGTS over the life of the project. (5) Even against the most conservative assump- tions, which were employed in the Jensen study, Alaskan gas is clearly marketable and will, in fact, be saleable in the U.S. energy markets throughout the life of the project. The conclusions of the Jensen study are fully supported by a recent FERC sponsored study. In May 1979, the Commission released "A Review of Alaska Natural Gas Transportation System Issues," a detailed study prepared by ICF Incorporated under contract with the FERC. A copy of the ICF study is appended as Exhibit F. I must, at this point, note what must already be obvious to the Subcommittee in connection with its consideration of 31 PAGENO="0464" 458 the marketability of Alaskan gas. Marketability will he, in large part, a function of transportation costs; transportation. costs are, in turn, largely a function of the capital costs of the system. As in so many areas, the government Can, by the nature and timing of its decisions, help control the marketability of Alaskan gas. 6. What Is the Present Schedule for the Project? The original project plan, as embodied in the Agreement on Principles with Canada, was for the system to be completed to enable initial operation by January 1, 1983. Due to a combination of the lengthy debate in Congress in passing the Natural Gas Policy Act of 1978 and delay in receipt of agency decisions, we revised the schedule in 1978 to a system com- pletion date of November 1, 1984. Our ability to meet that schedule was contingent upon receiving several decisions from FERC and DOl in the period from February to May of 1979. Those decisions were not received until several months later which has affected the level of field programs that we could fund during the past summer season. As a result, we have been reviewing our schedule in detail to determine whether it could still be met. We have determined that we could meet the. November 1984 in-service date based upon several critical assumptions. We recently transmitted this schedule to the Federal Inspector, and Exhibit G attached is a copy of that transmittal. 32 PAGENO="0465" 459 7. Project Costs I have reserved for the end of my statement two issues--projects costs and financeability. I have done so because it is necessary to cover other subject areas first in order to provide a reasonable degree of understanding of the difficulties which the project sponsors continue to face in these two areas. Let me deal first with project costs for the Alaskan segment. In March of 1977, Northwest's predecessor, Alcan Pipeline Company, filed with the FPC an estimate of the capital costs of building the Alaskan segment of the ANGTS. This estimate reflected the then reasonable expectation that the Alaskan segment could be built for $3 billion in escalated dollars exclusive of any allowance for funds used during construction. The March 1977 cost estimate was based upon facts then known and was predicated on the assumption that the pipeline would be built conventionally, in close proximity to the crude oil pipeline, and utilizing the oil pipeline's workpad. At the time of the March 1977 estimate, there were work camps, a communications network, and a substantial infrastructure which had been used in constructing the oil pipeline, and it was our assumption that it would be possible for the gas pipeline construction workforce to move in to the recently vacated TAPS camps and obtain the advantage of the then-existing infrastructure. This March 1977 estimate was valid when made, under the circumstances which then existed. 57-087 0 - 80 - 30 PAGENO="0466" 460 The passage of nearly three years has, unfortunately, invalidated certain of the assumptions which underlay the March 1977 cost estimate including nearly a two-year delay in the in-service date. We know that an estimate prepared today will be substantially higher, given changing facts and circumstances, and given our present awareness of the extra- -ordinary degree of federal oversight and federal involvement which will exist in our planning, design and construction activities. We have been working on a continuing basis to refine and update our cost estimate for the Alaskan segment of ANGTS. Our latest estimation work indicates that the Alaskan segment will cost in the range of $5 billion in escalated dollars exclusive of any allowance for funds used during construction. I believe this cost estimate to be realistic, given the areas of uncertainty that still exist. We will be able to prepare a reliable cost estimate for this pipeline system under Arctic construction conditions once we finally know the approved alignment and construction mode to be approved by the government. For these reasons, this recent estimate of the costs of the Alaskan segment must be considered with the caveat that we believe the project can be built for the dollars shown, if the government will move promptly to render the necessary decisions and issue the necessary authorizations, permits, certificates and rights-of-way, and if the government does not impose unreasonable requirements upon us. 34 PAGENO="0467" 461 While the magnitude of the ANGTS is emphasized by the magnitude of the capital costs which we presently envision, I would urge the Subcommittee to the realization that even though the capital costs are high, the cost of service which we anticipale through the total system remains quite reason- able. For example, on the assumption that capital costs will be as reflected in our newest estimate, the transportation cost of service, when combined with the price which must be paid in the field, still yields a delivered cost of Alaskan gas to the U.S. gas consumer within the range of $5 per MMBtu initially and declining in constant 1978 dollars due to depreciating fixed costs to about $3.50 per MNBtu in 1990. In contrast, the OPEC oil price will be increasing in real dollars and is expected to be limited in supply, under import restrictions. As clearly shown by the Jensen & Associates study referred to above, Alaskan gas can, and will be, saleable in the lower 48 states. 8. Can the ANGTS Be Privately Financed? If the Subcommittee puts the question to me, "Can the ANGTS be privately financed?", my answer is an unequivocal "Yes." If the Subcommittee poses the question, "Will the AN~TS be privately financed?", my answer is an equivocal "It should be." I am not playing games with words. I have no question at all concerning the ability of private capital markets to fund the Alaska Natural Gas Transportation System, if they are willing to do so. Whether they will be willing depends on their perception of the risks involved in con- struction and even more importantly, the risks in obtaining 35 PAGENO="0468" 462 required government approvals and regulatory support in an expeditious and appropriate manner. The construction risk concern can be dealt with. While there is a tendency to think of the ANGTS as a total hornoge- neous whole, this impression is demonstrably not valid. The Western Leg is readily built as an expansion of an existing operating company, Pacific Gas and Electric Company and its affiliate, Pacific Gas Transmission Company. The Eastern Leg involves only routine conventional construction by Northern Border with no unusual risks. A substantial portion of the Canadian system is adjacent to existing systems and is also typical standard construction that the Canadians perform within budget every year. Of the remaining Canadian system in the Yukon territory, the terrain and geotechnical condi- tions are largely uncomplicated. The only complex section presenting significant construction challenges is in Alaska, which requires about 40% of the expenditures for the total ANGTS. Although this section is more difficult, it does not present the unknown obstacles faced by the Alaskan oil line. We have the benefit of the Alyeska experience, a developed right-of-way to follow, existing technology to utilize, and relatively proven construction techniques to employ. * * Even though we can demonstrate that there are no con- struction risks except in Alaska and that those, under our circumstances, are acceptable, the Alaskan section will pre- sent an obstacle to private financing, so long as the follow- ing two factors continue to exist: (1) there remains an 36 PAGENO="0469" 463 uncertainty in financial circles that the support of the U.S. gov~rnment for the project cannot be translated into responsible and timely government decisions because of procedural and organizational barriers; and (2) the principal project bene.ficiaries, the State of Alaska, the Prudhoe Bay gas producers, and the major gas transmission companies, will not provide their required significant financial support. The resolution of these two factors is essential to successful private financing. While we have been disappointed in the time taken for specific government action during the past two years, we are again encouraged with the recent FERC decisions that have been made and with the establishment of the Office of the Federal Inspector. These key decisions and the positive impetus of the Federal Inspector should begin to eliminate the concern in the financial community about government inac- tion and delay. The dedication to the timely completion of the system that has been demonstrated by the highest levels of our government, including the Congress, the President, the Vice President, the Federal Inspector, the Secretary of the Department of Energy, and the Secretary of the Interior, is, of course, vital to our success. We trust that this dedica- tion will continue and will become reflected in necessary governmental actions. The President, in his Decision, recognized that without strong support from the project beneficiaries--the Prudhoe Bay gas producers, the State of Alaska and the gas transmis- sion companies--private financing probably cannot be realized. 37 PAGENO="0470" 464 Here again we have experienced inaction and delay, particularly with respect to the producers and the State. When the Alaskan partnership was formed by interested gas transmission companies to build the Alaskan segment of the project, several interstate pipelines decided to withhold their financial participation until some of the project uncertainties have been resolved. The recent FERC decisions, together with the conclusion of gas sales commitments by the three major producers, should cause these companies to join the partnership and participate in the Project. It is expected that their joinder, together with other gas trans- mission companies who have indicated an interest to partici- pate, will provide all the support that is needed from this group of beneficiaries. There has also been some positive action by the gas producers in the past few weeks. The President, in his July energy speech to the nation, identified our project as a way to replace nearly 700,000 barrels of imported oil per day and instructed the Secretary of Energy to call in the producers and get them involved in the pipeline financing. Several meetings resulted, and we have recently had the opportunity to present a summary of our work to date and future plans to technical representatives of the producers. These are, of course, just preliminary steps, and we have, as yet, no indication of what the producers may be willing to do. Nevertheless, we remain confident that they will make a substantial positive contribution because of the very large 38 PAGENO="0471" 465 benefits they will obtain from the completion of the project and the sale of their North Slope gas. If these producers - are paid the NGPA ceiling price for pipeline quality gas delivered into the ANGTS system, they will realize nearly 50 billion in 1979 dollars. In view of this, it is clearly appropriate, as the President indicated in his Decision, that the Prudhoe Bay gas producers should provide financial support for the project, or some form of protection against cost overruns through a guarantee of some portion of the system's debt. Congress apparently agreed with the President with its ratification of the Decision. Regarding the State of Alaska, we must confess to a sense of frustration. While the State is the principal bene- ficiary of this project and will realize more direct and indirect benefits from its construction and the sale of the Prudhoe Bay gas than anyone else, we have been unable to develop any positive programs with the State which would materially assist in the development of a financial plan to move the project forward. As a consequence, we have been compelled to withdraw certain initiatives that we proposed for the State of Alaska participation and to attempt to develop new arrangements for discussion and possible imple- mentation. While we have been disappointed to date, we do expect that the State will ultimately participate in an appropriate manner because of its obvious self-interest, and we will, therefore, continue to work on other proposals with State leaders which may be more acceptable to them. 39 PAGENO="0472" 466 I recently met with Governor Hammond who assured me that he will work with the State Legislature to develop meaningful S_tate financial participation to assist the project. Another important aspect in achieving private financing is the pithlic service responsibility to build the total pro- ject for the lowest possible cost consistent with high stan- dards of safety and reliability. We have worked many hundreds of hours with our financial advisors and other interested parties, in our efforts to put together a private financing plan to accomplish these goals in accordance with the will of the Administration and Congress. We have had preliminary discussions with major lending institutions, both in the United States and abroad. We have explored in the Far East and in Europe the possibility of Japanese and European financial participation. We have also received information from domestic and foreign suppliers concerning their abilities and requirements to supply major components for the project. It is too early and our discussions too tentative for us to reach any conclusions concerning where the best value can be obtained for the American consumer, in terms of lower capital cost, high quality materials and low debt costs. We realize that there are many considerations and interests that are involved and must be reviewed in developing procurement policies. We will, therefore, develop our procurement policies and procedures in close coordination with the Federal Inspector, FERC, and counterpart regulatory 40 PAGENO="0473" 467 authorities in Canada to insure that our procurement activities are endorsed by responsible U.S.and Canadian officials prior to their implementation. CONCLUSION We strongly believe in the Alaska Natural Gas Transpor- tation System. We believe it is without question our nation's single most important domestic energy project. I have personally devoted a substantial portion of my time and energy to the development of this project for the last few years, and I will continue to work to make it a reality. Those of us involved in the project need your help, just as we need the help of the whole federal structure to complete successfully the largest single enterprise ever undertaken. It can be done. I know that the Subcommittee is vitally interested in the project, its progress and its problems. I thank you for the opportunity of appearing here today and would welcome the opportunity to report to the Subcommittee periodically as we develop the project. This concludes my prepared remarks, and I stand ready to respond to such questions as the Subcommittee might have and to provide such additional information as th~ Subcommittee may require. 41 PAGENO="0474" 468 EXHIBIT A Page 1 of 3 The following parties received the attached letter: Mr. Bernard Clark Chairman and Chief Executive Officer Columbia Gas System Inc. 20 Montchanin Road Wilmington, Delaware 19807 Mr. William M. Elmer Chairman Texas Gas Transmission P. 0. Box 1160 Owensboro, Kentucky 42301 Mr. George F. Kirby Chairman, President and Chief Executive Officer Texas Eastern P. 0. Box 2521 Houston, Texas 77001 Mr. E. T. Robinson Chai rman Transwestern Pipeline Company P. 0. Box 2521 Houston, Texas 77001 Mr. Arthur R. Seder, Jr. Chai rman Michigan-Wisconsin Pipeline Company 1 Woodward Avenue Detroit, Michigan 48226 PAGENO="0475" 469 EXHIBIT A Page 2 of 3 NORTHWEST ALASKAN PIPELINE COMPANY JOHN G.MCMIWAN September 20, 1979 Following resolution by the FERC of incentive rate of return and tariff issues, Alaskan Northwest Natural Gas Transportation Company, the Partnership designated and selected by the President and the Congress as having responsibility for the construction and operation of the Alaskan segment of the Alaskan Natural Gas Transportation System is moving forward with its plans for 1980 and the years fol- lowing. In addition, we have recently received renewed support from the President and through his efforts the producers are seriously considering financial assistance. On behalf of the Partnership, I wish to renew our invitation to dis- cuss your company's joinder of the Partnership. As a company which has successfully negotiated for a position as a prospective purchaser of Prudhoe Bay natural gas, your firm obviously has a deep interest in the timely completion of the transportation system necessary to move that gas to your markets. Accordingly, your participation in the Partnership endeavor is a matter which you will undoubtedly wish to consider at an early date, and I take this oppor- tunity of assuring you that the partnership will welcome your partic- ipation. You have previously been furnished a copy of the Partnership Agreement and you are familiar with the FERC's approval of that Agreement. While the Commission has approved the use of a 2% discount in the allocation of Partnership profits to partners joining after June 30, 1978, the Board of Partners has determined as a matter of policy that the Partnership will seek from the Commission a waiver of the discount provisions for those companies joining the Partnership in the immediate future. It is contemplated that Commission approval would be sought for a waiver of the discount provisions for those partners admitted to the Partnership within the next 30 to 45 days, but that the discount provisions would thereafter be applied without exception. The Board * 3u~IDtA~V Or P4o~rHwrsr ENt~OV COMrANV PAGENO="0476" 4.") EXHIBIT A Page 3 of 3 of Partners has concluded that partners joining the Partnership at this time should be in a position to support the M~GTS project in lits entirety, including the prebuilding phase, and that those part- - ~ners joining the Partnership should, within a reasonable period of time after joining the Partnership, contribute sufficient amounts of capital to the Partnership to equalize the cash expenditures from the effective date of the Partnership of the new partners with those of the old partners. The cash expenditures through September 1979 total $50 million and have been shared equally by six partners. If you are interested in discussing admission to the Partnership within this frainwork, I would be pleased to meet with you at your convenience. As I am sure you appreciate, significant decisions are being made by the Partnership at every meeting, and to the extent that it is important to you to participate in planning the project, I urge your early consideration of the question of admission. If you have any questions at all, please do not hesitate to call me. Very uly yours, Jo G. McMillian Ch irman Board of Partners Alaskan Northwest Natural Gas Transportation Company, A Partnership PAGENO="0477" ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY FINANCIAL REPORT TO BOARD OF PARTNERS JUNE 1979 August 21, 1q79 tli k H w H w PAGENO="0478" ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPAN FINANCIAL REPORT TO BOARD OF PARTNERS JUNE 1979 PAGE I. GRAPHICAL SUMMARY OF EXPENDITURES 1 II. KEY STATISTICS 2 III. COMPARISON OF ACTUAL COST, BUDGET AND FORECAST FOR THE PERIOD JANUARY 1 TO JUNE 3D, 1979 A. SUMMARY 3 B. OPERATOR SERVICES 4 C. PROJECT MANAGEMENT CONTRACTOR S D. PROFESSIONAL FEES 6 E. OUTSIDE ENGINEERING SERVICES 7 F. GOVERNMENT AGENCY FEES 8 IV. FINANCIAL STATEMENTS A. OFFICER'S CERTIFICATE 9 B. BALANCE SHEET 10 C. STATEMENT OF INCOMF 11 D. STATEMENT OF CHANGES IN PARTNERS' EQUITY 12 E. STATEMENT OF CHANGES IN FINANCIAL POSITION 13 PAGENO="0479" 9 9 7 "9 4 ~1 -J 0 0 0 I,) z 0 -J ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY COMPARISON OF ACTUAL COST TO THE BUDGET FOR THE PERIOD JANUARY 1 TO JUNE 30, 1979 GRAPHICAL SUMMARY OF EXPENDITURES GRAPH EXCLUDES BUDGETED CONTINGENCY AMOUNT OF $2.8 MILLION. 5 4 OPERATOB PROJECT PROFESSIONAL OUTSIDE GOVERNMENT CARRYOVER SERVICES MANAGEMENT FEES ENGINEERING AGENCY CONTRACTOR SERVICES FEES Page 1 PAGENO="0480" ALASKAN NORThWEST NATURAL GAS TRANSPORTATICZ'I CC~~1PANY JUNE 1979 KEY STATISTICS (Dollars in Thousands) SIX ~fl~~I}IS CURRENT ENDING INCEPTION MJNTU JUNE 30, 1979 it) BATE EXPENDITURES: CAPITALIZED COSTS $3,610 $16,881 $ 97,428 ALL(flVANCE FOR FUNDS USED lURING CONS1RUCTION ______ TIYFAL $~A~ $1___ BUDGETED CAPITALIZED COSTS $3,744 $23,613 CAPITALIZED COSTS OVER (UNDER) BUDGET (134) (6,732) PARINERSHIP NET INCCI'IE $2,030 $11,343 CASH POSITION: CASH AND TEMPORARY CASH INVESNENTS AT JUNE 30, 1979 $3,257 CAPITAL C(N~RIBUTICt4 RE(~JEST FOR JULY 1UFAL CASH AVAILABLE Page 2 PAGENO="0481" AlASKAN NORThWEST NA11JRAL GAS TRANSPORTATION C(}IPANY -~- CCMPARISON OF AC11JAL COST 11) ThE BUDGET FOR ThE PERIOD JANUARY 1 11) JUNE 30, 1979 JUNE 1979 SIM4ARY (Thousands of Dollars) BUDGET PERIOD ENDING JUNE 30, 1979 JUNE ACTUAL ACI1IAL CT~1ER(UNDER) DESCRIPTION EXPENDI11JRES EXPENDITURES BUDGET BUDGET OPERATOR SERVICES $1,362 $ 5,019 $ 5,179 $ (160) PROJECT MANAGEMENT CCtITRACIDR 621 6,107 6,950 (843) PROFESSIONAL FEES 793 1,815 2,730 (915) OUTSIDE ENGINEERING SERVICES 535 1,198 3,114 (1,916) GOVERNMENT AGENCY FEES 162 984 915 69 CONTINGENCY - (2,812) SUB1UFAL 3,473 15,123~ 21,700 (6,577) CARRYOVER 137 1,758 - (155) ~JBTOTAL 3,610 16,881 23,613 (6,732) ESTIMATED TERMINATION COSTS - - (3,300) TOTAL $3,610 $16,881 $~3 $(lo,032) NOTE: ES1IMAIED TERMINATION COSTS, as defined in the Partnership Agreement, are "contractual commitments which will accrut~ in the event of Project suspension" as of June 30, 1979. Page 3 PAGENO="0482" ALASKAN N(RWWEST NAI1JRAL GAS I1~ANSPORTATIOM C(14'ANY *---~-~ C(WARI~ OF ACI1JAL COST TO WE BUDGET FOR WE PERIOD JANUARY 1 TO JUNE 30, 1979 JUNE 1979 OPERATOR SERVICES (Thousands of Dollars) BUDGET PERIOD ENDING JUNE 30, 1979 JUNE AC1IJAL AC1UAL OVERCUNDER) DE~RIVFION EXPENDITURES EXPENflITURES BUDGET BUDGET SALARIES AND EMPLOYEE EXPENSES $ 892 $3,243 $3,576 $(333) EC~JIPMENT USE 217 841 646 195 OFFICE AND COMPUTER RENTAL 84 457 430 27 OFFICE SEPPLIES AND UTILITIES 44 255 307 (52) E~~JIPMENT F~JR~HASE 37 21 55 (34) INSURANCE 24 30 42 (12) tIIHER EXPENSE ~ 64 172 123 49. 1UFAL $j~ ~ ` Page 4 PAGENO="0483" 477 C) CC p. :: :;~:: :1~ ~ h ~:9i ~1!I :~I!1 * ~I&i Ibi L I ~li ~ PAGENO="0484" ALASKAN NORTII*VEST NATURAL GAS 1RANSPORTATIC~4 CC1'IPANY ~ C(}IPARISON OF ACI1JAL COSI fl) ThE BUDGET FOR TUE PERIOD JANUARY 1 TO JUNE 30, 1979 JUNE 1979 PROFESSIONAL FEES (Thousands of Dollars) BUDGET PERIOD ENDING JUNE 30, 1979 JUNE ACTUAL ACTUAL OVER(UNDER) DE~RIPTION EXPENDI11JRES EXPENDITURES BUDGET BUDGET EXECUTIVE $ 89 S 106 $ 30 $ 76 TREASURY 140 393 885 (492) CONTROLLER 17 92 76 16 PROJECT GROUP 103 121 416 (295) ALT4INISTRATION 24 67 96 (29) LEGAL 288 735 867 (132) REGULATORY, ENVIRONMENTAL 122 234 313. (79) AND CIVIC AFFAIRS PUBLIC RELATI~}IS 10 67 47 20 CARRYOVER - AtR~lINISTRATICt4 $150 $150 $200 $(50) NOTE: Agreements with two Financial Advisors specify additional fees contingent upon the successful financing of the Pro~ject. As of June 30, 1979, these contingent fees totaled approximately $575 thousand. Page 6 PAGENO="0485" AlASKAN NORThWEST NATURAL GAS IRANSPORTATICI4 C(]'IPANY CCMPARIS]~ OF ACTUAL COST TO ThE BUDGET FOR TUE PERIOD JANUARY 1 TO JUNE 30, 1979 JUNE 1979 Otfl~SIDE ENGINEERING SERVICES (Thousands of Dollars) BUDGET PERIOD ENDING JUNE 30, 1979 AC1UAL ACTUAL OVER(UNDER) _______________ EXPENDITURES EXPENDITURES BUDGET BUDGET PIPE BURSF TEST $532 $1,146 $2,674 $(l,s28) FROST HEAVE TEST - 8 355 (347) PRWECF PAPERS - 33 60 (27) COST/SO~EWLE C~X4~JLTANTS - - 25 (25) CAMPEVALUATI~4 1 9 - 9 ALIt~'IMENT STUTJY 2 2 - 2 $535 $~ __ NOTE: PIPE BURST TEST COSTS are being shared with Foothills, who is overseeing construction and operation. The Partnership will be billed for its share of construction costs at a future date. Fran inception through June 30, 1979, $2,179 thousand in costs have been accrued in ACCOUNTS PAYABLE AND ACCRUED LIABILITIES on the Balance Sheet as the Partnership's estimated share of costs. Page 7 PAGENO="0486" AlASKAN NORThWEST NATURAL GAS TEANSPORTATI(~4 CC1~1PANY CCMPARISON OF ACTUAL COST ID ThE BUDGET FOR ThE PERIOD JANUARY 1 1D JUNE 30, 1979 JUNE 1979 GOVERNMENT AGENCY FEES (Thousands of Dollars) BUDGET PERIOD ENDING JUNE 30, 1979 JUNE ACTUAL ACTUAL OVER(UNDER) DESCRIPTION EXPENDITURES EXPENDITURES BUDGET BUDGET FEDERAL GOVERNWNT: BUREAU OF LAND MANAGBIENT $ 49 $172 $254 $(82) FIR-I AND WILDLIFE 35 SUB1UFAL 84 459 508 (49) STATE OF ALASKA: DEPARTMENT OF NATURAL RESCURCES (OFFICE OF PIPELINE COORDINATOR) 46 347 165 182 DEPARTMENT OF ENVIRONMENTAL CONSERVATION 10 44 80 (36) FI~I AND GAME ~JBTOFAL 78 525 407 118 1UFAL $162 $984 $915 $69 Page 8 PAGENO="0487" NORTHWEST ALASKAN PIPELINE COMPANY P.O. BOX 1526 August 21, 1979 TO: Calaska Energy Company Northern Arctic Gas Company Northwest Alaskan Pipeline Company Pacific Interstate Transmission Company (Artic) Pan Alaskan Gas Company United Alaska Fuels Corporation The accompanying balance sheet of Alaskan Northwest Natural Gas Transportation Company as of June 30, 1979, and the related statements of income, changes in partners' equity, and changes in financial position for the month of June, 1979, and for the six months ending June 30, 1979, have been compiled from the books and records of the Company. Page 9 PAGENO="0488" AlASKAN NORThWESF NAIl1 GAS TEANSPCRTATI(~4 CORPANY BALANCE SHEET AS OP JUNE 30, 1979 (Thousands of Dollars) ASSETS NA1IJRAL GAS TRANSHISSION PLANT, UNDER CONSTRUCTICT4 $130,404 CASH AND TIB4PORARY CASH INVESTMENTS 3,257 RECEIVABLE FRCN CANADIAN SPCtJSORS FOR SHARED TESTS AND PROJECTS 3,638 ts~ PARNERS' E(~JITY AND LIABILITIES PARThERS' E(~JI1Y: CCt4TRIBUTI(i4S PAID IN $103,585 RETAINED EARNINGS 25,660 IUFAL PAR1NERS' EQUITY 129,245 CURRENT LIABILITIES: ACCC1JNTS PAYABLE AND ACCRUED LIABILITIES 7,295 PAYABLE TO OPERATOR (NORThWEST ALASKAN PIPELINE CCNPANY) 759 $137, 299 Page 10 PAGENO="0489" ALASKAN NORThWEST NA11JRAL GAS I1~ANSPORTATIW COMPANY STATEMENT OF INCOME (Thousands of Dollars) SIX Mi~1ThS TWELVE ME1~IThS ENDING ENDING JUNE 1979 JUNE 30, 1979 JUNE 30, 1979 ALLOWANCE FOR FUNDS USED DURING CONSTRUCTION: E~JIIY COMPONENT $2,030 $11,343 $20,299 DEBT COMPONENT 3 (154) (437) 2,033 11,189 19,862 INTEREST INCOME (NET OF INTEREST EXPENSE) (3) 154 437 NET INCOME - ALLOWANCE FOR E(~JI1Y FUNDS USED DURING CONSTRUCTION $11,343 $2o, 299 Page 11 PAGENO="0490" 000111 ENDING ~P0E 30, 1979 PANThERS' (XMRIRFTICEOS PAID IN: BEGIM4ING OF 1401111 DURING 11~ 14010% END OF 1400111 RETAINED EARNINGS: IIECDI4ING OP 1400111 NET INIX)~ PER 1400TN END OF 001111 SIX 0(0(1115 ENDING JUNE 30, 1979 PARThERS' aWTRIPUTICE4S PAID IN: DFSINAING OF SIX 1(04Th PERIOD (liNING SIX P01111 PERIOD END OF SIX 100111 PERIOD RETAINED EARNINGS: BEGINNING OF SIX 004Th PERIOD NET INIXPE PER SIX 101111 PERIOD BID 1W SIX 10111% PERIOD PANThERS' IX!JIT1 ALASKAN M36TPIWEST NA1WAL GAS 11LANSP(RTATION CX04'ANY SEATIOIITIE OP OWIERS IN PAICINERS' E1~JITY (IllIara in Thousands) CALASKA NORI3IERN ARCTIC NORTEWESI' ALASKAN PACIFIC INTERSTATE PAN ALASKAN INITED ALASKA PSIERGY CI}IPANY GAS CCBIPANT PIPELINE C(I4PANY 11PANSIISSION CO. (ARCTIC) GAS CC1IPANY FUELS CORP. `IO'TAL PARTNERS' II~JITY $16,027 $16,150 b~ -~ 3,904 3,944 336 339 4.203 $~ $fl~6 $15,132 $11,263 -~ -~ ~ !L~ 2,364 2,390 k~ L~2~ -~ -~ $~ $~ $25,610 -w~ 6,009 544 $24,723 4,276 122Z 26.0094% $16,237 3,968 341 $15,342 2,401 16.7756% $16,225 $6,570 S 96,035 _i~ 1,125 ~ 1L~ L~ ~ 3,964 1,041 23,630 ~! ~ ~ J~! ~E! ~ $~ $~ $~J~ $15,330 $5,675 S 91,465 ~ ~ L~ 2,404 . 478 14,317 - ~ IIL~ J~! ILU! -~ ~ 16.7585% 6.4275% 100.0000% PARTEERS' PERCENTAGS FOR ALI.OCATIIX4 OF JUNE NET INCCBE 16~462% 16.6068% Page 12 PAGENO="0491" ALASKAN NORTOWESF NA11JRAL TRANSPORTATIC~4 CC!'IPANY STATEMENT OF 0-LANCES IN FINANCIAL POSITIC~4 (Thousands of Dollars) SIX M14ThS TWELVE M~1ThS ENDING ENDING JUNE 1979 JUNE 30, 1979 JUNE 30, 1979 SC*JRCE OF FUNDS: PARTNERS' cOW'mIBuTrOWs PAID IN APPLICATIOW OF FUNDS: ADDITIW 11) NATURAL GAS TEAN~1TSSIOW PLANT, UNDER CONSTRUCTI~4 - NET OF ALLOWANCE FOR FUNDS USED WRING CLNSTRUCTIOW $ 3,613 $16,727 $34,876 0-LANGE IN ~)RKING CAPITAL (4,607) ~ $12,120 $32,670 CHANGE IN ~4JRKING CAPITAL REPRESENTED BY: INCREASE (DECREASE) IN CA9-1 AND TEMPORARY CASH INVESTNENTS S 3,336 $(4,383) $(2,321) INCREASE IN RECEIVABLE FRCL4 CANADIAN SPOWSORS FOR SHARED TESTS AND PROJECTS 688 688 3,638 DECREASE (INCREASE) IN AM]JNTS rUE OPERATOR (NORThWEST ALASKAN PIPELINE COWPANY) 301 (92) 235 INCREASE IN Oll-LER LIABILITIES (1,188) (820) (3,758) $ 3,137 5(4,607) $(2~o6) Page 13 PAGENO="0492" 486 EXHIBIT C V UNITED STATES OF AMERICA BEFORE THE FEDERAL ENERGY REGULATORY COMMISSION Alaskan Northwest Natural Gas Transportation Company ) Docket No. CP78-123, ct al. V SUPPLEMENTAL APPLI CATION OF ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY FOR AN ORDER APPROVING PAST EXPENDITURES AND TO ESTABLISH PROCEDURES FOR CONTINUING AUDIT AND APPROVAL OF FUTURE EXPENDITURES AND MAJOR COMMITMENTS Alaskan Northwest Natural Gas Transportation Company (the Partnership), pursuant to the Alaska Natural Gas Transportation Act of 1976 (ANGTA), the Natt~ral Gas Act, and the Commission's Order Vacating Prior Proceedings and Issuing Conditional Certificate of Public Convenience and Necessity issued December 16, 1977, hereby renews its application for an order approving for inclusion in rate base, actual expenditures made prior to August 1, 1978, and further requests a similar order 1fpr expenditures from August 1, 1978 through June 30, 1979 -` for activities necessary to place the Alaskan section of Alaska Natural Gas Transportation System V (ANGTS) in service. The expenditures are reflected in the capital accounts of each Partner, Northwest Alaskan Pipeline Company (Northwest), Northern Arctic Gas Company (Northern), Pan Alaska~i,Gas Company (Pan Alaskan), Calaska Energy Company (Calaska) -`, Pacific Interstate Transmission Company (Arctic), [Pacific), and United Alaska Fuels Corporation (United). The Partnership also renews its request that the Commission establish procedures to review and approve, on a continuing basis at regular quarterly intervals, completed activities and both actual and conditiomally.-cominitted expenditures necessary to place the Alaskan section of the ANGTS in service. In support thereof, the Partnership would show as follows: The pre.-August 1, 1978 expenditures were the subject of a filing dated February 2, 1979. The Commission has taken no formal action with respect to that submittal. The Partnership delayed the filing of its request with respect to expenditures incurred since August 1, 1978 with the expectation that the Commission would act promptly on the previously filed expenditures arid issue an order indicating the procedure to be followed. This supplement application is filed to request resolution of these matters. Calaska is successor to the interests of Natural Gas Corporation of California and the interests of Natural Gas Corporation of California were transferred to Calaska as of November 28, 1978. PAGENO="0493" 487 I. Background In its application of February 2, 1979, a copy of which is attached, the Partnership set forth at some length the reasons for its request that a regular audit and rate base approval mechanism be put into effect and that the expenditures already made up to August 1, 1978 be certified for inclusion in rate base. Further, the Partnership petitioned the Commission to create a procedure whereby certain major commitments could be reviewed in a provisional manner prior to actual expenditure of funds. The Partnership herewith incorporates that presentation into the instant application. The Commission has not published notices of the February 2, 1979 application. On April 18, 1979, the Chairman issued Administrative Order No. 4 directing the Chief Accountant to commence an audit of ANGTS expenditures through July 31, 1978, and such other audits as the Chief Accountant deems necessary. The Chairman cited as a reason for the action the need for the timely inspection and auditing of the Partnership books. Although Administrative Order No. 4 mentions the February 2, 1979 filing, the Order is not directly responsive to all of the requests made therein, nor has the Commission addresssed the concerns of the Partnership in any other order, opinion, regulation, or proceeding. The Partnership has fully cooperated with the audit of the Chief Accountant. On May 17, 1979, the Public Service Commission of New York (NYPSC) filed a motion for clarification of Administrative Order No. 4 that the Chief Accountant was not empowered by the Order to approve on behalf of the Commission the inclusion in rate base of any Partnership expenditure. No notice of the NYPSC motion was issued by the Commission. By letter, dated June 21, 1979, NYPSC reminded the Commission of its motion and requested a response. To date, the Commission has not acted on the NYPSC motion. Also subsequent to the initial application, the Congress approved a modified version of the limited executive 3/ reorganization plan envisioned by the President's Deci~~.~n. -, A Federal Inspector has been appointed and confirmed by the On May 31, 1979, Congress approved Reorganization~~~ No. 1 of 1979 which was prepared by the President and transmitted to Congress on April 2, 1979, pursuant to the provisions of Chapter 9 of Title 5 of the United States Code. Such Plan established an Office of the Federal Inspector for Construction of the Alaska Natural Gas Transportation System. 2 PAGENO="0494" 488 Senate. Pursuant to the authorizing legislation, the Commission's enforcement responsibilities under the Natural Gas Act, ANGTA, and the Decision were transferred to the Federal Inspector. It is unclear precisely what this action means in terms of jurisdiction over the auditing function now being performed by the Commission's Office of the Chief Accountant.~/ II. Original and Supplemental Authorization Requested - A. In its February 2, 1979 filing, the Partnership was seeking review and approval of approximately $64.8 million of preliminary construction expenditures prior to August 1, 1978, including approximately $31.8 million attributable to expenditures of the Gas Arctic Group who are now members of the Partnership, $17.8 million expended by Northwest to prosecute its successful application, and $15.2 million of Partnership costs. From August 1, 1978 through June 30, 1979, the Partnership has spent $32.7 million ($15.8 million for August 1, 1978 through December 31, 1978 and $16.9 million for January 1, 1979 through Jtine 30, 1979). 5/ The details concerning these expenditures are set forth in Exhibits Z-7 and Z-8 appended hereto. These expenditures and the expenditures in the exhibits appended to the original application (Exhibits Z-l, -1, -3) were all reasonable and necessary to proper planning for, and design of, the Alaskan segment of the Alaskan Natural Gas Transportation System, and securing all necessary governmental authorizations, permits, certificates, and rights-of-way. All of such expenditures are properly includable in the capital accounts of the respective partners, as well as in the rate base of the Partnership's pipeline project. B. The Partnership renews its request that the Commission institute a procedure whereby regular audits and rate base decisions will be conducted and made. The Partnership respectfully suggests a quarterly review and approval during the preliminary construction and construction periods of the project. See p. 4, infra. These figures do not include AFUDC, the rate for which remains to be determined in Order No. 31, Docket No. RM78-l2, issued June 8, 1979, applications for rehearing pending. (See mimeo pp. 35-40.) (On August 6, 1979, the Commission indicated that it had not yet concluded its deliberations on the issues raised in the applications for rehearing. Therefore, the Commission stated that it was appropriate and in the public interest to grant rehearing of Order No. 31 for the purpose of further consideration, and also appropriate to stay the effective date of Ordering Paragraph (A).) With AFUDC, the appropriate amounts are $23.2 million and $28.1 million, respectively. 3 PAGENO="0495" 489 C. Lastly, the Partnership again raises for the Commission's consideration the suggestion that upon request of the Partnership, the Commission include within its quarterly review certain major financial commitments of the Partnership that are covered by an executed contract for which payment would become due at some future date. Approval by the Commiscion would be provisional only, subject to later audit and final approval for rate base. The Partnership stands ready to make available its books and records at the convenience of the Commission to permit such reviews and field audits as may be required to issue the order(s) requested herein. III. Justification for the Authorization Requested The legal authority underlying the Commission's ability to grant the requested rate base approval and establish the suggested procedures is detailed at pages 5-9 of the February 2 application and will not be repeated here. We note, however, that the role of the Federal Inspector with respect to the matters at issue has not been defined. Neither the Commission nor the rederal Inspector have addressed this point, and the Partnership urges immediate consideration of this most important matter. As the Commission stated to the Congress in its Comments on the President's Decision: the Federal Inspector .echanism contemplated in the President's Report, by establishing a aethod of judging the prudence of costs incurred on a current basis, should provide investors as well as consumers with greater confidence.. .(Coments at p. 45). The Commission itself, or together with the assistance of the Federal Inspector, clearly has the authority, in fact the obligation, to establish a process whereby preliminary and construction expenditures of the Partnership can be audited and a decision made near to the time of the expenditures as to whether rate base treatment is appropriate. We urge the Comm4.ssion to take the steps necessary to achieve these results. Iv. Argument Preliminary construction and construction phase auditing and precompletion rate base determinations are not common Commission practice. It is clear, however, from the Alyeska experience that such procedures are essential for the Partnership The President's Decision is rife with references to the need to avoid the cost overruns experienced 4' PAGENO="0496" 490 in Alyeska, the lack of effective monitoring, an~ the6~dverse impact on consumers of possibly unnecessary costs. ~ The solution mandated by the Decision is an on-going monitoring, review, and audit process that will ensure the prudence of current decision-making. The benefits of this course of action are substantial. Expedited decision-making will avoid future insurmountable administrative problems for all concerned, uncertainty will be reduced, problem areas can be pinpointed early, cost consciousness will be fostered, and lenders and potential equity contributors will be encouraged by the positive regulatory environment the suggested process would produce. The Partnership stands ready to work with the Commission and the Federal Inspector to develop a detailed methodology for handling these important matters at such time as the Commission corrimences a procedure in response to the instant application'. Two points, however, are of paramount importance at this time. The Commission must reach an accord with the Federal Inspector, and the Comrnisson must initiate action at once. The amount of money being spent to develop the Project is substantial and growing. The President's Decision does not require that these expenditures be at risk for rate base purposes until some future rate case is inaugurated after the commencement of service. Rate base determinations should be made now and continue to be made throughout the preliminary construction and construction phases. The law and good public policy demand no less. V. The names, titles and mailing addresses of the persons to whom all correspondence and communications concerning this application should be addressed are as follows: Darrell B. MacKay Vice President Northwest Alaskan Pipeline Company Suite 901 `1801 K Street, N.W. Washington, D.C. 20036 The Partnership expresses no opinion with respect to the issues now pending in Trans Alaska Pipeline System, Docket No. 0R78-l. It only Iiéki to note the controversy joined in that docket over whether all of the experienced costs should be included `in the rate base. 5 PAGENO="0497" 491 *Ctha Wadlington, Jr. Director, Regulatory Affairs Northwest Alaskan Pipeline Company Suite 901 1801 K Street, N.W. Washington, D.C. 20036 *Rush Moody, Jr., Esquire Akin, Gwnp, Hauer & Feld Suite 400 1333 New Hampshire Avenue, N.W. Washington, D.C. 20036 WHEREFORE, the Partnership respectfully requests that the Commission issue an order pursuant to ANGTA, the Natural Gas Act, and the President's Decision, giving final approval to the expenditures described herein, as well as those expenditures described in the initial application, for ultimate inclusion in the rate base for the Alaskan section of the Alaska Natural Gas Transportation System. The Partnership further requests that the Commission establish procedures for continuing audit and approval of actual and conditionally-conimitted expenditures. Rush Moody, Jr. AKIN, GUMP, RAIlER & FELD Attorney for Alaskan Northwest Natural Gas Transportation Company, A PARTNERSHIP * Designated to receive service in accordance with Section 1.17(c) of the Rules of Practice and Procedure. 6 57-087 0 - 80 - 32 PAGENO="0498" 492 Exhibit Z-7 ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY ACTUAL EXPENDITURES FOR TIlE PERiOD AUGUST 1, THROUGH DECEMBER 31, 1978 1. OFFICE EQUIPMENT $ 67,000 2. TRANSPORTATION EQUIPMENT (5,000) 62,000 3. OPERATOR SERVICES Salaries and Related Benefits 2,097,000 Employee Expenses 393,000 Office Supplies 73,000 Equipment Use 279,000 Recruitment and Relocation 429,000 Rents 410,000 Other 645,000 4,326,000 4. OUTSIDE SERVICES Legal 503,000 Executive 349,000 Finance 348,000 Regulatory, Environmental and Civic Affairs 85,000 Administration 71,000 Public Relations si,ooo Engineering 8,982,000 Other s,ooo 10,394,000 5. GOVERNMENT AGENCIES Federal: Bureau of Land Management 307,000 Fish & Wildlife 156,000 State of Alaska: Office of Pipeline Coordinator 296,000 Environmental Conservation 50,000 Fish & Game 165,000 974,000 Subtotal is ,756,000 6. AFIJDC 7,395,000 Total Actual Expenditures Including AFUDC $ 23,151,000 This total includes AFUDC but the Partnership does not seek, through this application, approval of the AFUDC rate inasmuch as the Commission will determine this issue in Docket No. RN78-12, Order No. 31, issued June 8, 1979 applications for rehearing pending (see ~imeo pp. 35-40). Rehearing for the purpose of reconsideration granted August 6, 1979. PAGENO="0499" I. OFFICE EQUIPMENT 2. TRANSPORTATION EQUIPMENT 3. OPERATOR SERVICES Salaries and Related Benefits Employee Expenses Office Supplies Equipment Use Recruitment and Relocation Rents Other 2,434,000 413 ,000 53,000 841 ,000 395,000 457 ,000 405,000 4. OUTSIDE SERVICES Legal Executive Finance Regulatory, Environmental & Civic Affairs Administration Public Relations Engineering 5. GOVERNMENT AGENCIES Federal: Bureau of Land Management Fish & Wildlife State of Alaska: Office of Pipeline Coordinator Environmental Conservation Fish & Game 735,000 106,000 485,000 234,000 217,000 67,000 9,034,000 10,878,000 172,000 287,000 347 ,000 44,000 134,000 ~ 16,881,000 This total includes AFUDC but the Partnership does not seek, through this application, approval of the AFUDC rate inasmuch as the Commission will determine this issue in Docket No. RM78-12, Order No. 31, issued June 8, 1979 applications for rehearing pending (see mimeo pp. 35-40). Rehearing for the purpose of reconsideration granted August 6, 1979. 493 ALASKAN NORTINEST NATURAL GAS TRANSPORTATION COMPANY ACTUAL EXPENDITURES FOR PERIOD JANUARY 1, ThROUGH JUNE 30, 1979 $ (9,000) 30,000 Exhibit Z-8 $21 ,000 4,998,000 Subtotal 6. AFUDC Total Actual Expenditures Including AYUDC PAGENO="0500" 494 CERTIFICATE OF SERVICE I hereby certify that I have this day served the foregoing d~c.ument upon each person designated on ttie official service list ccmpiled by the Secretary in this proceeding in accordance with the requirements of Section 1.17 of the Rules of Practice and Procec!ure. Dated at Washington, D.C., this 14th day of August, 1979. &~ w~~# uba Wadlington, . ~1 PAGENO="0501" 495 AFFIDAVIT District of Columbia: SS Cuba Wadlington, Jr., being first duly sworn, deposes and says that he is Director, Regulatory Affairs, for Northwest Alaskan Pipeline Company, that he has read the foregoing Application, that the statements contained therein are true and correct to the best of his knowledge, information and belief, and that he is authorized to file same with the Federal Energy Regulatory Conriission. (JJe~c Cuba WadHngton, Jr. SUBSCRIBED AND SWORN TO before me this 14th day of August, 1979. "My Connssio Expires PAGENO="0502" 496 UNITED STATES OF AMERICA BEFORE THE FEDERAL ENERGY REGULATORY COMMISSION Alaskan Northwest Natural - Gas Transportation ) Docket No. CP78-l23, et al. Company APPLICATION OF ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY FOR AN ORDER APPROVING PAST EXPENDITURES AND TO ESTABLISH PROCEDURES FOR CONTINUING AUDIT AND APPROVAL OF FUTURE EXPENDITURES AND MA~3OR COMMITMENTS Alaskan Northwest Natural Gas Transportation Company (the Partnership), pursuant to the Alaska Natural Gas Transporta- tion Act of 1976 (ANGTA), the Natural Gas Act, and the Commission's Order Vacating Prior Proceedings and Issuing Conditional Certificate of Public Convenience and Necessity issued December 16, 1977, hereby applies for an order approving, for inclusion in rate base, expenditures made prior to August 1, 1978 1/ for pre-constructjon activities necessary to place the Alaskan section of the Alaska Natural Gas Transportation System in service. These expenditures are reflected in the capital accounts of each Partner, Northwest Alaskan Pipeline Company (Northwest), Northern Arctic Gas Co. (Northern), Pan Alaskan Gas Company (Pan Alaskan), Calaska Energy Company (Calaska), 2/ Pacific Interstate Transmission Company (Arctic) [Pacific] and United Alaska Fuels Corporation (United). The Partnership also requests that the Commission establish procedures to review and approve, on a continuing basis at regular quarterly intervals, completed activities and both actual and conditionally committed expenditures necessary to place the `Alaskan section of the Alaska Natural Gas Transportation System in service. 1/ Partnership expenditures from August 1, 1978 through December 31, 1978 will be submitted to the Cosmission for review and approval as soon as practicable. 2/ Calaska is successor to the interests of Natural Gas Corporation of California and the interests of Natural Gas Corporation of California were transferred to Calaska as of November 28, 1978. PAGENO="0503" 497 In support thereof, the Partnership would show as follows: I. Background The Commission initiated a new phase of the proceedings aontemplated in ANGTA by its order dated December 16, 1977, issuing a Conditional Certificate of Public Convenience and Necessity as mandated by the Decision and Report to Conq~ss on the Alaska Natural Gas Transportation System issued by the President of the United States on September 22, 1977, and approved by the Congress on November 22, 1977. 3/ Subsequently, on June 30, 1978, the Commission trans- ferred the Conditional Certificate of Public Convenience and Necessity from Alcan Pipeline Company to the Partnership. II. Basis for Authorization Requested Herein A. In the Decision and Report, the President provided that certain "general terms and conditions shall be appro- priately incorporated into any certificate, right-of-way, lease, permit or authorization directed to be made by any Federal Officer or agency" (Section 5, page 26). Among such general terms and conditions is the requirement that the Partnership must "submit to the FPC (FERC) for approval on a timely basis all components of construction work in progress." (Finance Condition, page 37; emphasis added.) The order requested herein is necessary to implement this mandate. B. In the Commission's order issued December 16, 1977, the Commission recognized that it would have either exclusive or coextensive jurisdiction over the President's terms and conditions concerning finance matters, which included the condition described above. Further, the Com- mission adopted the Partnership's suggestion that quarterly progress reports are appropriate. Thus, the Commission has already moved toward implementation of the above-cited requirement of the Decision and Report and has recognized that authorization of the type requested herein is appropriate. 3/ Pub. L. 95-158, 91 Stat. 1268. -2- PAGENO="0504" 498 C. In its Notice of Succession in Interest and Appli- cation for Transfer of Certificate of Public Convenience and Necessity filed April 19, 1978, the Partnership indicated that it "...stands ready to report to the Commission, or its Delegate, on all matters relating to the Alaskan Natural Gas Transportation System, and particularly the status of pre- cDnstruction planning, funds expended to date, budgeted and anticipated costs for the balance of 1978, financial planning, and system engineering and design. Such other information and reports as the Commission, or its Delegate, may desire will, to the extent of the Partnership's abilities, be furnished in such form and manner as the Commission, or its Delegate may direct. The Partnership requests the institu- tion of a mechanism for review and approval of cost expendi- tures and budgets for the Project on a regular and recurring basis." D. The General Partnership Agreement 4/ (the Agree- ment) envisions Commission review and approval of actual expenditures. The relevant provisions are found in Sections 4.1.1, 4.1.2, 4.1.3 and 4.1.4, which provide a procedure for determining the Qualified Expenditures 5/ of each Partner. Northwest's Qualified Expenditures are $19,163,000; those of Northern are $9,587,790; those of Pan Alaskan are $9,655,128; those of Calaska are $9,456,744; and those of Pacific are $9,667,221. 6/ All of these are expressly subject to review and approval by FERC. In summary, there is ample basis in the Decision and Report and in prior Commission orders, as well as the Part- nership Agreement, for the Commission to consider and grant this application. 4/ Reviewed by the Commission and approved in its Order issued June 30, 1978 (Docket No. CP78-123). 5/ Expenditures to acquire information, knowledge, studies, tests, computer programs or governmental authorizations by any Partner or corporate affiliate of a Partner, in the course of activities reasonably related to the selection of a transportation system for the delivery of Alaskan natural gas, if such expenditures were made by such Partner or corporate affiliate prior to January 31, 1978. 6/ The totals shown include an interest component on funds spent. -3- PAGENO="0505" 499 III. Authorization Requested A. The Partnership requests that the Commission review and verify (1) the expenditures made by each Partner incurred prior to the formation date of the Partnership ghich have been determined to be "Qualified Expenditures" and therefore appropriately included in the Partners' capital accounts; and (2) $15,174,000 in expenditures of the Part- nership for the period of February 1, 1978, through July 31, 1978. The Partnership further requests that the Commission, by order, approve acceptance of all such expenditures for inclusion in rate base, subject only to "completion and commissioning of operation of the system," a necessary precondition specified on page 38 of the Decision. Exhibit Z-l attached hereto shows in detail the amounts and purposes for which "Qualified Expenditures" were made by Northwest. Exhibit Z-2 attached hereto shows in detail the amounts and purposes for which "Qualified Expenditures" were made by Northern, Pan Alaskan, Calaska and Pacific. Exhibit Z-3 attached hereto shows in detail the amounts and purposes for which Partnership funds were expended from February 1, 1978 through July 31, 1978. B. The Partnership also requests that the Commission institute procedures to audit arid approve actual expenditures on a continuing quarterly basis throughout the pre-construc- tion and construction periods of the project. C. In addition to the audits and approvals of actual expenditures made, the Partnership also requests the Commis- sion to include within the scope of its reviews, upon specific request of the Partnership, certain major financial commitments that are covered by an executed contract for which payment may be due at some future date subject to certain conditions having been met. 7/ In such cases, the Partnership requests that the Commission by order give provisional approval to the obligation or conditional expen- diture, subject to later audit and approval by the Commission 7/ The project management contract, the project labor agreement, agreements for purchase or use of Alyeska camps and/or data, and the contracts for purchase of line pipe are expected to have sufficient impact on project costs to warrant advance regulatory review. -4- PAGENO="0506" 500 of actual expenditures made. No corrirnitments of this nature are included in the period from February 1 through July 31, 1978. The Partnership stands ready to make available its books and records at the convenience of the Commission to permit such reviews and field audits as may be required to issue the order requested herein. Iv. Justification for the Authorizations Herein Requested A. Qualified Expenditures Prior to the formation of the Partnership, substantial funds were expended by the individual companies, or their affiliates, for reasonable and necessary expenditures related to the ultimate construction and operation of the Alaskan segment of the Alaskan Natural Gas Transportation System. Because the factual circumstances surrounding the expendi- tures made by Northwest differ from the factual background and circumstances relating to the expenditures by Northern, Pan Alaskan, Calaska, and Pacific, each category of pre- Partnership expenditures is treated separately: 1. Pre-Partnership Expenditures of Northwest. Northwest, through its predecessor company, Alcan Pipeline Company, was the original applicant for the route and pipeline proposal ultimately selected by the President and the Congress under the terms and condi- tions of the Alaska Natural Gas Transportation Act. The reasonable and necessary costs to Northwest of presenting to the Federal Power Commission, and later to the President and the Congress, the Alaska Highway Project through the date of formation of the Partner- ship, was $19,163,000, including interest. The details of these expenditures are set forth in Exhibit Z-l and such expenditures were reasonably and prudently made as - necessary to the preparation and presentation of North- west's application for a certificate of public con- venience and necessity, Northwest's presentation to the President and the Congress for selection of the Alaska Highway Project as the desired route, and selec- tion of Northwest as the company to construct the Alaskan segment of the MJGTS. All of such expenditures are appropriate for inclusion in the capital account of Northwest as a Partner, and inclusion in the rate base of the Partnership pipeline project. -5- PAGENO="0507" 501 2. Pre-Partnership Expenditures of Others. Northern, Pan Alaskan, Calaska and Pacific made expendi- tures prior to the formation of the Partnership through their membership and participation in the Gas Arctic! Northwest Project Study Group (Gas Arctic). Gas Arctic was the result of a combination of two groups which had begun studies long before any other study group was formed, and before any of the subsequent applicants for a certificate of public convenience and necessity to transport Alaskan and Canadian gas to lower U.S. 48 markets made any indication that they would file an application. The total paid by participants in the Gas Arctic Study Group through January 31, 1978 was approxi- mately $154.8 million. The costs were shared by as many as 26 participants, and after a number of partici- pants had withdrawn, the group narrowed to 15 members. Each of these 15 members had paid in $8,020,533 (Canadian) through January 31, 1978. Included in the expenditures of the Gas Arctic Group were the following major categories of costs: Engineering & Construction Planning $65.8 million Environmental Studies and Research 18.6 million Finance, Accounting, Legal and Other Advisors 16.7 million General and Administrative 31.2 million Sociological 4.3 million The expenditures for the items listed above include basic research such as that done with respect to an Arctic ditcher, metallugical questions, cost effects, slope stability, the environmental impact on fish, mammals, birds and vegetation, and training programs which might be used in connection with the use of native labor in the project. In addition, substantial amounts were spent developing computer models to be used in engineering and financial analysis, and some of these are currently in use. The knowledge and information developed by the Gas Arctic Study Group will be useful and of significant importance to the Alaska Highway Pipeline Project. The design and construction of the Alaska -6- PAGENO="0508" 502 project will be materially aided by the basic research which was performed into environmental and engineering issues, and the development of computer analysis tech- niques which resulted from Study Group activities and expenditures. Relevant portions of the information, data, and computer programs developed will be, as a consequence of the Partnership's approval of the "Qualified Expenditures" of Northern, Pan Alaskan, Calaska and Pacific, available to the Partnership for its continuing use in development of the project. It must be emphasized that the Arctic Gas Project and the Alaskan Highway Pipeline Project were considered as alternatives by governmental authorities at all levels of the decision-making process in both the United States and Canada prior to the time of the President's Decision and Report in September of 1977. If only a single applicant had proposed an Alaska Natural Gas Transportation System, that applicant would nonetheless have been legally compelled at substantial cost to develop and present information on alternative routes, and such costs would clearly have been includ- able in the rate base of the authorized project. The costs presented here by the Partners who were members of the Study Group were just as necessary to the decision-making process as the costs of the hypotheti- cal single applicant, and should be afforded the same regulatory treatment. In accord with the Partnership Agreement, the pre-formation expenditures of Northern, Pan Alaska, Calaska, and Pacific have been reviewed by the Board of Partners and a determination made with respect to whether such constituted "Qualified Expenditures." An extract from the Board of Partners' minutes relating to this is appended to this application as part of Exhibit Z-2. The nation and U.S. gas conswners have bene- fited from the thorough analysis of transportation alternatives which the Partners' "Qualified Expenditures" made possible. The hearing process before the Federal Power Commission, and the subsequent Presidential selection of a route that is preferable from an environmental and economic standpoint, were materially advanced by the efforts of Northern, Pan Alaska, Calaska and Pacific. Therefore, it is appropriate that those companies who continue to participate in the develop- ment of this project to connect Alaskan nathral gas be allowed to include those costs as part of the rate base of the Alaskan portion of the system. These -7- PAGENO="0509" 503 costs, although significant in relation to the revenues and assets of each sponsoring company, will be less than one percent of the total investment in the Alaskan system. The details of the pre-Partnership expendi- tures by Northern, Pan Alaska, Calaska, and Pacific are set forth in Exhibit Z-2 appended hereto. The pre- Partnership expenditures of the four Partners named above were clearly reasonable and necessary to the Partnership pipeline project, and are properly includ- able in the capital accounts of each such Partner, and in the rate base of the Partnership pipeline project. B. Partnership Expenditures The six Partners who have funded the Partnership's pre- construction activities since the formation date of the Partnership have provided $21,769,000 in funds which were expended prior to August 1, 1978. 8/ The details concerning such Partnership expenditures are set forth in Exhibit Z-3 appended hereto. All of such expenditures were reasonable and necessary to proper planning for, and design of, the Alaskan segment of the Alaska Natural Gas Transportation System, and securing all necessary governmental authoriza- tions, permits, certificates, and rights-of-way. All of such expenditures are properly includable in the capital accounts of the respective partners, and properly includable in the rate base of the Partnership's pipeline projeót. C. "Provisional Approvals" With respect to the request for "provisional approval" of certain contractual obligations and conditional expendi- tures, we believe that the Commission has the authority to take such action, which would be entirely consistent with Sections 9(a) and (b) of ANGTA, and the provisions of the President's Decision calling upon the Partnership to "submit 8/ This total includes AFUDC but the Partnership does not seek, through this application, approval of the AFUDC rate inasmuch as the Commission has stated its intention to determine this issue in Docket No. RM78-12, Order No. 17-A, issued January 17, 1979. Expenditures, with- out AFUDC, through July 31, 1978, total $15,174,000. -8- PAGENO="0510" 504 * to the FPC (FERC) for approval on a timely basis all coin- portents of construction work in progress." The spirit of the latter requirement reasonably can be construed to include certain major potential expenditures covered by an executed contract for future conditional payment. The Partnership does not in any way expect to seek provisional approval for a~,ll future expenditures. Rather, it would make such a request on a selective basis where it appears that such an approval would materially reduce uncertainty, and have a correspondingly salutatory effect on the Partnership's ability to obtain private financing. It is presently con- templated that such major cost items as the project manage- ment contract, the project labor agreement, contracts for line pipe, and contracts for the acquisition and/or use of Alyeska camps and data will be of sufficient magnitude and will have sufficient impact on project costs, to warrant advance regulatory review and approval. V. Argument It is essential that the audit and approval process for determination that the expenditures of Alaska Natural Gas Transportation System reasonably and necessarily made be implemented on a current and continuing basis. The magnitude of ANGTS is such that delayed review and approval of expen- ditures will pose insurmountable administrative problems for the Commission and the sponsors. Periodic, and frequent, review and approval of expenditures will reduce the task to manageable proportions; uncertainty will be reduced; and potential problem areas can be promptly identified and necessary corrections made. The authorizations and pro- cedures suggested here will materially enhance cost conscious- ness on the part of the government, the sponsors and all interested parties. Further, it is important that the Commission create a positive regulatory environment in order to help assure realization of private financing of this major undertaking. Banks and other potential institutional lenders are care- fully observing the regulatory climate surrounding the early stages of project implementation and a prompt, and favor- able, consideration of this application will help reassure not only the sponsors themselves, but also potential lenders, that all that the government can possibly do to reduce uncertainty and support this critically important project is being done. PAGENO="0511" 505 The sponsors of the Alaskan segment of the ANGTS have already exposed themselves to substantial risk by the advancement of pre-construction dollars in pursuit of a project still beset by major uncertainties and delays. Reassurance to .the project sponsors that their faith in the regulatory process has not been misplaced is important at this juncture, particularly in view of the continuing uncer- ~ainties which surround the incentive rate of return pro- *cedures under consideration in Docket No. RM78-l2. One final reason exists for the Commission's prompt and affirmative action on this application: such action will serve as tangible evidence to those pipeline companies not presently members of the Partnership that their previous Gas Arctic expenditures may reasonably be considered as appro- priate for inclusion in the Partnership's rate base if those companies, or any of them, decide on active participation in support of the project as a partner. The Partnership clearly needs a broader base of membershIp and equity support, and favorable early action on this application by the Commission would be a positive inducement to other prospective partners who have also expended substantial suns in the development and presentation of alternative systems for North Slope gas transportation to join the Partnership. VI. The names, titles and mailing addresses of the persons to whom all correspondence and communications concerning this application should be addressed are as follows: Darrell B. MacKay Vice President Northwest Alaskan Pipeline Company 1801 K Street, N.W. Suite 901 Washington, D. C. 20006 Jack D. Bachman, Esquire General Counsel Northwest Alaskan Pipeline Company P. 0. Box 1526 Salt Lake City, Utah 84110 Rush Moody, Jr., Esquire Vinson & Elkins 1101 Connecticut Avenue, N.W. Suite 900 Washington, D. C. 20036 - 10 - PAGENO="0512" 506 WHEREFORE, the Partnership respectfully requests that the Commission issue an order pursuant to ANGTA, the Natural Gas Act, and the President's Decision, giving final approval to the expenditures described herein for ultimate inclusion in the rate base for the Alaskan section of the Alaska Natural Gas Transportation System. The Partnership further requests that the Commission establish procedures for con- tinuing audit and approval of actual and conditionally committed expenditures. Respectfully submitted, ~L~L\L~ Rush Moody, Jr. Vinson & Elkins 1101 Connecticut Avenue, N.W. Suite 900 Washington, D. C. 20036 (202) 862-6500 ATTORNEYS FOR ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY, A PARTNERSHIP - 11 - PAGENO="0513" 507 VERIFICATION THE DISTRICT OF COLUMBIA S I, DARRELL B. MacKAY, being first duly sworn on his o~ath, deposes and says: That he is Vice President of Northwest Alaskan Pipeline Company and is duly authorized to make this affidavit, that he has read the foregoing and is familiar with the contents thereof, and that the facts and allegations contained therein are true and correct to the best of his information, knowledge and belief. ~aw~L~ ~ Darrell B. MacI~ay Subscribed and sworn to before me this .2~ô day of February, 1979. Notary Public My Commission Ex~ires~ l~1 COMM1SS~O~ EXPIRES i~H. 1, 19g4 57-087 0 - 80 - 33 PAGENO="0514" 508 CERTIFICATE OF SERVICE I hereby certify that I have this day served the fore- going document upon each person designated on the official service list compiled by the Secretary in this proceeding in accordance with the requirements of § 1.17 of the Rules ~f Practice and Procedure. Dated at Washington, D.C. this ~ day of February, 1979. Rush Moody, r. PAGENO="0515" 509 Exhibit Z-l ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY NORTHWEST ALASKAN PIPELINE COMPANY QUALIFIED EXPENDITURES 1/ 1. FILING FEE $1,671,000 2. OFFICE EQUIPMENT 144,000 3. TRANSPORTATION EQUIPMENT 30,000 $1 ,846,000 4. COMPANY SERVICES Salaries and Related Benefits 1,347,000 Employee Expenses 697,000 Office supplies 210,000 Equipment Use 1,631,000 Recruitnent and Relocation 28,000 Rents 107,000 Other 247,000 5. OUTSIDE SERVICES Legal 3,415,000 Executive 188,000 Finance 1,524,000 Regulatory, Environ- mental & Civic Affairs 96,000. Administration 99,000 Public Relations 89,000 Engineering 5,996,000 Other 153,000 6. DEPARTMENT OF INTERIOR __________ Sub-Total ____________ 7. AFUDC 2/ __________ Total Qualified Expenditures Including AFUDC $19,163,000 4,267,000 11,560,000 165,000 17,838,000 1,325,000 1/ Expenditures made prior to January 31, 1978. V Includes only an interest component on funds spent. PAGENO="0516" ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY GAS ARCTIQ'NORTHWEST PROJECT STUDY GROUP-NOW ANNGTC PARTNERS QUALIFIED EXPENDITURES 1/ Pan Partners Calaska Pacific Northerñ Alaska Energy Interstate Arctic Gas Co. Co. Trans. Co. Gas Co. 1. . GENERAL & ADMINISTRATION Direct Operations Indirect Operations Total $ 5,275,777 1,126,398 6,402,175 $1,330,009 283,962 1,613,971 $1,292,140 275,877 1,568,017 $1,331,582 284,297 1,615,879 $1,322,046 282,262 j~604,308 2. OU'~SIDE SERVICES Legal Executive Finance Regulatory,Environmental & Civic Affairs Administration Public Relations Engineering 1,626,919 156,299 968,765 5,711,181 501,939 657,171 13,917,264 23,539,538 410,142 39,402 244,223 1,439,774 126,537 165,671 3,508,505 5,934,254 398,464 38,281 237,269 1,398,779 122,935 160,954 3,408,608 5,765,290 410,627 39,449 244,512 1,441,475 126,687 165,867 3,512,652 5,941,269 407,686 39,167 242,761 1,431,153 125,780 164,679 3,487,499 5,898,725 3. TERMINATION AND CLOSE-OUT COST 1,562,191 393,824 382,611 394,290 391,466 4. GOVERNMENT AGENCIES 66,165 16,680 16,205 16,700 16,580 5. OTHER COSTS 208,898 52,663 51,163 52,725 52,347 Sub-Total 31,778,967 8,011,392 7,783,286 8,020,863 7,963,426 6. AFUDC 2/ 6,587,916 1,643,736 1,673,458 1,646,358 l,624,i~4~ 1/ 2/ Total Qualified Expenditures Including AFUDC Expenditures made prior to January Includes only an interest cornoonent $38,366,883 $9,655,128 31, 1978. on funds spent. $9,456,744 $9,667,221 $9,587,790 t'i (t PAGENO="0517" 511 Exhibit Z-2 Extract from the Minutes of a meeting of the Board of Partners, Alaskan Northwest Natural Gas Transportation. Company, a Partnership, held November 28-29, 1978: ~(lO) The Board of Partners next considered the qualified expenditures of the partners other than Northwest Alaskan. By letter dated November 15, 1978, a copy of which is appended, Calaska Energy Company requested that its capital account be credited with the total of $9,456,744 pursuant to Section 4 of the Partnership Agreement; a similar request, by letter dated November 16, 1978, a copy of which is appended to these minutes, was made on behalf of Pacific Interstate Transmission Company, with the requested capital account credit for that partner being $9,667,221. A similar request on behalf of Pan Alaskan Gas Company, by letters dated September 27 and November 27, 1978, copies of which are attached to these minutes, requested capital account credit for that partner of $9,655,128. A similar request on behalf of Northern Arctic Gas Company by letter dated November 27, 1978, a copy of which is appended to these minutes, requested capital account credit for that partner of $9,587,790. . -. wprior .to the meeting of November 28-29, those part- ners requesting capital account credit for qualified expenditures had submitted to all partners substantiation for the amounts claimed, and had further tendered in support of the request for capital accounts credit summary reports prepared by Arthur Andersen & Co. under dates of October 5, 1977 and November 10, 1978. Copies of these reports are appended to these minutes. The Board of Partners discussed fully and completely the nature of the expenditures made, the value to the Partner- ship of such expenditures, and the reasonableness and necessity of the amounts expended. It was noted that the prior expen- ditures by Calaska, Pan Alaskan, Pacific Interstate, and Northern Arctic encompassed basic research into environmental and engineering issues, and the development of computer analysis techniques which will be of material benefit to the Partnership's activities. It was further noted that the expenditures by Partners other than Northwest were made in conjunction with the study of an alternative route for the movement of Alaskan gas to the lower 48 states, and such expenditures, if not made by the Arctic gas participants, would have been required of the Partnership prior to final approval of the Alaskan Highway routing; the expenditures relating to an alternative route were of significant benefit to the governmental decision-making process in both the United States and Canada. 2 PAGENO="0518" 512 Exhibit Z-2 Mr. McMillian made inquiry as to whether the materials developed as a result of the claimed qualified expenditures would be made available to the Partnership, and he was assured that Northwest and the Partnership would have the benefit of such. ~Mr. McMillian reported that Northwest had made a detailed study of the available Canadian Arctic gas design -information, and had concluded that there were a number of items of information and data which would be of extreme value to the Partnership in its ongoing efforts; the results of Northwest's preliminary evaluation of the specific gas design information which should prove to be of value to the Partner- ship is set forth on the appended list denominated ~List of Canadian Arctic Gas Design Information,~ and each item on this listing refers to specific data and/or information which the Partnership will review to insure that no duplication of expenditures for design and research occurs. ~On motion of Mr. .McMillian, seconded by Mr. Smith, the Board of Partners unanimously approved the requests of Calaska, Pacific Interstate, Pan Alaskan and Northern Arctic for inclusion in the respective capital account of eagh such partner the qualified expenditures submitted on behalf of each such partner; in connection with this approval, it was the expressed determination of the Board of partners that the expenditures made by each of such partners was reasonable and necessary to the conduct of the business of the Partnership, that such expenditures were prudently incurred, and that the Partnership received full value, in an amount at least equal to the amounts credited to the capital accounts pursuant to the instant approval. The Board of Partners further determined that the expenditures claimed by each of the four partners named were expenditures to acquire information, knowledge, studies, tests, computer programs or governmental authoriza- tions by one or more of such partners or corporate affiliates of such partners, in the course of activities reasonably re- lated to the selection of a transportation system for the delivery of Alaskan natural gas, and that each such expendi- ture was made by such partner or corporate affiliate prior to the formation date of the Partnership. 3 PAGENO="0519" 513 Exhibit Z-3 ALASKAN NORTHWEST NATURAL GAS TRANSPORTATION COMPANY ACTUAL EXPENDITURES FOR THE PERIOD FEBRUARY 1, THROUGH JULY 31, 1978 1. OFFICE EQUIPMENT $ 470,000 2. TRANSPORTATION EQUIPMENT 27,000 $ 497,000 3. COMPANY SERVICES Salaries and Related Benefits 2,158,000 Employee Expenses 345,000 Office Supplies 129,000 Equipment Use 887,000 Recruitment and Relocation 307,000 Rents 444,000 Other 315,000 4,585,000 4. OUTSIDE SERVICES Legal 1,459,000 Executive 253,000 Finance 996,000 Regulatory, Environmental & Civic Affairs 251,000 Administration 466,000 Public Relations 178,000 Engineering 5,902,000 Other 73,000 9,578,000 5. GOVERNMENT AGENCIES Federal Bureau of Land Management 471,000 State of Alaska: Fish & Game 26,000 Office Pipeline Coordinator 17,000 514 ,000 Sub-Total 15,174,000 6. AFUDC 6,595,000 Total Actual Expenditures Including AFUDC 1.1 $21,769,000 1/ This total includes AFUDC but the Partnership does not seek, through this ~pplication, approval of the AFUDC rate inasmuch as the Commission has stated its intention to determine this issue in Docket No. RM78-12, Order No. 17-A, issued January 17, 1979. PAGENO="0520" 514 ALASKA HIGHWAY PIPELINE PROJECT TECHNICAL CONSULThNTS G~lf Interstate Engineering Company Gulf Interstate Engineering Company (GIEC) specializes in worldwide design and management for all types of pipelines. They have experience including engineering and management of gathering systems, pipelines, compressor and pump stations, terminals, pro- cessing and storage facilities. They have established a project staff at the Project Management Contractor's headquarters in Irvine, California, for the design of Alaskan segment. This staff is composed of 12 highly qualified engineers with a combined total experience of 154-man years, which include 50-man years of Arctic experience. The Arctic experience is provided by four (4) engineers with Alyeska experience, and four (4) Canadian, and one (1) Russian engineer. As the pipeline design contractor, GIEC is responsible for the overall pipeline design which will incorporate technical data and criteria that is produced by other project consultants and sub- contractors. GIEC to date has produced conceptual designs for typical crossings of roads, rivers, fault zones, the Alyeska Pipeline andfor trench configurations and bouyancy control. They have assisted in p~oducing reports regarding Department of Interior suggested re- routes and various technical studies. EXHIBIT D Page 1 of 5 PAGENO="0521" 515 Michael Baker, Jr. ,Inc. Michael Baker, Jr., Inc. (Baker) is one of the larger engineering design firms in the United States, and offers a wide range of ei~ineering and surveying services to industries and the government oi~ projects of varying magnitude. Throughout its 38-year history, Baker has been known for its leadership as a competent and de~endable engineer on civil projects. With an average staff of approximately 1,000 employees representing the many disciplines of engineering, Baker is capable of under- taking and successfully completing large projects in keeping with the most demanding schedules of its clients. For more than 30 years, Baker has provided engineering and surveying services on projects in Alaska. Baker has maintained an office in Fairbanks, Alaska continuously since 1970, and, through that office, has provided in excess of three million technical hours of services as a major Civil Engineering Contractor on the TAPS Project. In September, 1978, Baker was engaged by Northwest Alaskan Pipeline Company and its Project Management Contractor, Fluor Engineers and Constructors, Inc., to provide Pipeline Design Con- sultant Services on the Project. By subsequent amendments, the scope of Baker's services has been expanded to include Civil Design Engineering Services on the project. EXHIBIT D Page 2 of 5 PAGENO="0522" 516 Civil Design Engineering responsibilities include preliminary engineering, design and developmetn of construction plans and s~cifications for: ° Construction Zone Clearing and Grading o Work Pad o Right-of-Way Excavation and Embankments o Erosion Control and Restoration ° Airports ° Access Roads o Temporary Facilities Material (Borrow) Sites O Spoil Disposal Sites Major work completed to date includes: o Design Consultation to PMC O Photo Identification and Field Reconnaissance of Prospective Material Sites ° Preparation of Material Site Exploration Plans, Delta-South O Civil Design Plan for FERC Filing O Civil Design Criteria (Preliminary) o DOl Reroutes - Analysis of Civil Aspects - Quantity Com- parisons EXHIBIT D Page 3 of 5 PAGENO="0523" 517 Northern Technical Services Northern Technical Services (Nortec) is an Alaska based consulting firm offering professional services in engineering, oceanographic, ejrironmental and earth sciences, with specific expert4se in the ai~alysis and solution of problems unique to the arctic and sub- arctic environs. The professional staff and associates currently number approximately 30 people with over 150-man years of arctic and subarctic experience. Nortec has six people presently assigned to the Project. Three are conducting field hydrographic surveys and three are preparing data analysis and input for river crossing design support. Responsibilities on the project include surface water runoff analyses and groundwater analyses in support of the buried, chilled gas pipeline design. To date a two volume document entitled "River and Floodplain Design Considerations and Processes" has been pre- pared. This document details the work planned in support of the river crossing design effort. In addition, weather and runoff records have been updated and the results incorporated into the analysis of nine selected streams between Delta Junction and the Alaskan/Canadian Border. The Basic Stream Analysis report for these nine streams is nearing completion. EXHIBIT D Page 4 of 5 PAGENO="0524" 518 R&M Consultants R&M Consultants (R&M) is an Alaskan based engineering and earth science organization formed to provide consulting services to in- di~try and government. R&M is a multi-discipline organization with sjecial expertise in geotechnical engineering and geology. The firm has the capabilities to provide project geotechnical services from the Anchorage, Fairbanks and Juneau offices in Alaska as well as from Project Management Contractor's office in Irvine, California. As a major geotechnical firm, R&M provides a unique arctic and sub- arctic technical background and experience, much of which has been attained through extended involvement in the trans-Alaska pipeline system. Project responsibilities include performance of consultation on geotechnical matters, including evaluation and interpretation of geotechnical conditions, establishment of geotechnical design criteria and preparation of recommendations concerning specific design and construction problems. These efforts also include identification of pipeline route and compressor station conditions, classification and characterization of soil properties and develop- ment of the project geotechnical information system. R&M has been involved from the early inception of the project, participating in routing studies and formal filing hearings. The routing studies included major drilling programs conducted in 1976 and l~79. Interpretation of route soil conditions along this segment has been presented in the form of terrain unit maps, boring records and laboratory test summary reports. Additional alignment geotechnical assessment and criteria reports have also been prepared in anti- cipation of resolving routing questions and submittal of the FERC filing. EXHIBIT D Page 5 of 5 PAGENO="0525" 519 EXHIBIT E THE MARKET OUTLOOK FOR ALASKAN NATURAL GAS September 1979 A Report to: NORTHWEST ALASKAN PIPELINE COMPANY Prepared by: JENSEN ASSOCIATES, INC. Boston washington Geneva 84 State Street Boston, Massachusetts 02109 Telephone: (617) 227-8115 Telex: 914-0057 C 0 N F I D E N T I A L PAGENO="0526" 520 TABLE OF CONTENTS Chapter EXECUTIVE SUMMARY INTRODUCTION SUMMARY AND CONCLUSIONS THE MARKET FOR HIGH COST NATURAL GAS DURING THE 1980s 4 THE EVOLUTION OF GAS MARKETS 8 THE ROLE OF PRICE 13 THE OUTLOOK FOR OIL AND GAS PRICES 22 Evolution of World Oil Prices 26 II U.S. NATURAL GAS DEMANDS 33 RESIDENTIAL AND COMMERCIAL 33 INDUSTRIAL GAS 39 ELECTRIC POWER SECTOR 52 III GAS SUPPLY FORECAST LOWER 48 STATES 59 SUMMARY FORECAST 59 LOWER 48 STATES PRODUCTION FORECAST 59 CANADIAN GAS IMPORTS 63 MEXICAN GAS IMPORTS 63 LIQUEFIED NATURAL GAS IMPORTS 64 OTHER SUPPLEMENTAL GAS SOURCES 64 ALASKAN GAS FORECAST 65 Jensen Associates, Inc. PAGENO="0527" 521 LIST OF TABLES AND FIGURES Table No. 1 U.S. Natural Gas Potential Supply and Demand 3 I-i Supply and Demand for U.S. Natural Gas 6 11-1 Total U.S. Residential Sector Natural Gas Market Changes, 1972 - 1977 35 11-2 Total U.S. Residential Market Changes Natural Gas, 1972 -1977 36 11-3 U.S. Average Residential Energy Costs 37 11-4 Total U.S. Residential & Commercial Gas Demands & Conservation, 1977 - 1990 40 11-5 Total U.S. Industrial Natural Gas Consumption, 1972 - 1977 43 11-6 Total U.S. Industrial Fuel Switching 1977, Billion Cubic Feet Gas Equivalents, Base Year 1972 46 11-7 Industrial Demands for Natural Gas, 1977 - 1990 50 11-8 Total U.S. Electric Utility Natural Gas Consumption, 1972 - 1977 53 11-9 U.S. Electric Utility Demand for Natural Gas, 1977 - 1990 56 111-1 Lower 48 States Supply Forecast, 1977 - 1990 60 Figure No. I-i East North Central Region, Historical and Forecast Prices in 1979 Dollars; Alternate Fuel: Distillate 16 Jensen Associates, Inc. PAGENO="0528" 522 List of Tables and Figures (Continued) ~gure No. 1-2 East North Central Region, Historical and Forecast Prices in 1979 Dollars; Alternate Fuel: Residual . 17 1-3 Pacific Region, Historical and Forecast Prices in 1979 Dollars; Alternate Fuel: Distillate 18 1-4 Pacific Region, Historical and Forecast Prices in 1979 Dollars; Alternate Fuel: Residual 19 1-5 Gas Wellhead Prices Compared with Refiner's Crude Acquisition Cost 23 1-6 Posted Price, Arabian Light Crude Oil, 1950-1978 27 1-7 Real Price in 1973 Dollars of Arabian Light Crude Oil 28 1-8 Forecast Price (1979 Dollars), Arabian Light Crude Oil 31 11-1 Industrial Fuel Switching Away from Natural Gas, 1972-1977 47 111-1 R/P Ratio History, Lower 48 States Natural Gas 62 iv Jensen Associates, Inc. PAGENO="0529" 523 EXECUTIVE SUMMARY INTRODUCTiON Jensen Associates, Inc. has been asked by Northwest Alaskan Pipeline Company (NAPLINE) to analyze the marketability of "rolled-in" Alaskan natural gas and to establish its competitiveness both with other gas sources and with alternate fuels. It is important to recognize that this study was commissioned to review the commercial--as distinct from the policy--aspects of Alaskan gas utilization. As such, major national policy issues in the decision to develop an initially high-cost U.S. gas source, such as security of supply, balance of payments, and national cost/benefit relationships were deemed to be beyond the scope of this assignment. The study was to pay particular attention to the short! medium term, defined as the period of construction and early operation of the pipeline. The period of major interest of this study, therefore, is the decade of the 1980s. SUMMARY AND CONCLUSIONS The market environment for natural gas in the United States has undergone a major structural transformation over the past decade. The industry entered the 1970s with a record of rapid and stable growth only to see its expectations falter in the face of shortages of low-cost con- ventional gas supply. It successively encountered the problem of shortage allocation, a search for gas supplements, a restructuring of the market through user conservation, major legislation which altered its regula- tory climate, and, finally, a deterioration in the fortunes of competi- tive fuels, particularly, fuel oil. While forecasts of the future of gas markets made in 1979 bear little resemblance to projections made ten years earlier, we believe that it is possible to lay out the market pros- pects for high-cost gas supplements with greater confidence today than has been possible for several years. We believe the market prospects for Alaskan gas are excellent at the cost levels anticipated in this report. 1 Jensen Associates, Inc. 57-087 0 - 80 - 34 PAGENO="0530" 524 Several of the recent changes in the natural gas market environment have served to cast doubt on the prospective attractivenes~ of high-cost gas supplements. Demand is much less today than was anticipated even five years ago, since a substantial degree of user conservation has already taken place and more is expected. Natural gas prices have risen rapidly and still greater increases are expected as a result of Natural Gas Policy Act (NGPA) wellhead pricing provisions and the price implications of supple- mentary supply. But gas supply has also failed to live up to earlier expectations so that a shortfall of conventional supply still remains. More importantly, however, the Iranian revolution and the resulting OPEC oil price increases have signalled the end of an implicit policy whereby oil imports are used by default as the U.S. energy supply of last resort. As long as imported oil is constrained from displacing gas markets, we believe that the demand for gas supplements to augment conventional supply will remain strong. Our projections are based on an anticipated excess demand for natural gas-a "gas gap"--over and above likely gas supply. Thus, despite our conservative projections of growth in demand (because of our expectation of continuing conservation), supplements are needed to offset expected continued decline in conventional supplies. Our estimates of potential demand, expected supply, and the resulting "gap" are summarized in Table 1. Even with Alaskan supply we expect a growing gap to 1990. In our view, the combination of accelerating oil prices with the various actions of administrative policy to limit oil imports will virtually insure that U.S. natural gas will retain markets which oil could otherwise serve. Thus, we believe the gas gap projection is realistic in the context of energy policies and economics of the 198Os and it virtually assures that Alaskan gas--rolled-in as permitted under the NGPA-will be marketable. Jensen Associates, Inc. PAGENO="0531" 525 TABLE 1 U.S. NATURAL GAS POTENTIAL SUPPLY AND DEMAND (Trillion Cubic Feet) Total Potential Demand a! Total Foreseeable Supply- Excess Demand (or Gap) -Actual---- 1972 1977 24.5 24.2 24.5 20.6 - 3.&~' 1980 1985 1990 23.6 24.3 24.7 19.0 19.4 19.2 4.6 4.9 5.5 Including Alaska. Includes some demand which switched on the basis of price. Source: Jensen Associates, Inc. 3 PAGENO="0532" 526 I. THE NkHEIET FOR ALASKAN NATURAL GAS DURING THE 1980s From the end of World War II until the beginning of the l97Os, the United States natural gas industry enjoyed a long period of rapid market growth in comparative stability. The l970s have been a period of con- tinuing market uncertainty for natural gas as it became the first of the major energy sources to grapple with shortage allocation and pricing in the face of limited supply. Two major changes in the structure of gas markets, first to shortage and then back to seeming surpluses, have been generally apparent since 1970. In our view, the gas industry entered still a third transition of market outlook with the Iranian revolution and resulting OPEC oil price response in late 1978. This new market environment for natural gas--the fourth discrete pattern in this decade-- is based on a new political and economic urgency for the U.S. to mini- mize oil consumption and to utilize natural gas wherever it is the most reasonable alternative to oil. We see no real end to the emerging pattern of gas demand in excess of foreseeable supply as long as imported oil will be constrained from displacing gas markets. As a result, we believe that a strong market demand has been created for Alaskan gas, as well as for imported Canadian, Mexican, LNG and other supplementary supplies which help contain the growth of oil imports. Our projections are based on the expectation of a "gas gap" or excess demand for natural gas above and beyond foreseeable supply. Market economists will argue that excess demand can only exist in the presence of price regulation since in a free market prices would rise to clear the market and eliminate the potential shortage. We cannot dis- agree with that premise but recognize that some form of residual price controls remain on natural gas despite the "deregulation" nomenclature applied to the Natural Gas Policy Act of 1978. However, it is important to understand that much of the clearing which would take place in the presence of full deregulation, or allocation-such as curtailment and - - prohibition of certain uses--without it, would result in increased U.S. oil demand. In our wiew, this clearing of natural gas markets in favor of oil was actually in the process of taking place in late 1978 with the relative price action of industrial oil and natural gas at that time; 4 Jensen Associates, Inc. PAGENO="0533" 527 it was reinforced by incremental pricing provisions of the NGPA which were, in part, designed to assure that such clearing would occur by the 1985 target date of new gas deregulation. This has now all been changed by the international oil crisis, precipitated by the Iranian revolution and confirmadby OPEC oil price action. If rapidly accelerating oil prices do not insure that U.S. natural gas will retain markets which oil could otherwise serve, the various actions of Administration policy to put a lid on oil imports will certainly do so. We doubt that any FERC administration of incremental pricing will be allowed to shed gas load in favor of oil on the basis of price alone. Thus, we believe that the projection of excess demand or a "gap" is realistic in the context of energy policies and economics of the 1980s. Table I-i summarizes our projections of potential gas demand, gas supply, and gap for 1980, 1985, and 1990, compared to 1972 and 1977 actuals. Compared to 1972 the gas industry shed some load in plants which had switched to alternate fuels by 1977 and this demand is separately identified and forecast. Most of the industrial load not served in 1977 that was served in 1972 has switched to oil. We believe that the market pressures for this load to return to gas, as well as the market pressures for new industrial load to go to gas are strong. Compared to our total potential demand, we have a widening gap with and without Alaskan gas. The 1977 "gap" was in part a voluntary switching to other fuels, such as oil, at a time when industrial gas and oil prices were approaching historic parity levels. The projected "gaps" are in the face of an expectation of rising real prices for oil. The four discrete periods of market structure for natural gas in the U.S. have each provided a different perspective from which to judge the outlook for high-cost gas. Since public perceptions of the nature of the gas market have not always kept up with the rapid changes which have actually occurred, gas policy arguments are frequently advanced which are no longer supported by the present reality of the marketplace. In order to understand why the present gas market outlook is strong, and should remain so, it is important to distinguish the characteristics of this market from the ones which preceded it. 5 Jensen Associates, Inc. PAGENO="0534" 528 TABLE I-i SUPPLY AND DEMAND FOR U.S. NATURAL GAS (Trillion Cubic Feet) -Actual- -Projected------ POTENTIAL GAS DEMAND 1972 1977~' 1980 1985 1990 Markets Served in 1977 Residential~" 5.2 4.9 5.1 5.1 5.3 Commercialk" 2.6 2.7 2.6 2.6 2.8 Industrial (Served in 1977) 8.8 6.7 6.2 6.0 5.7 Electric Power (Served in 1977) 4.1 3.0 2.9 2.8 2.6 Other (Including Field Use & Storage) 3.8 3.3 2.8 2.7 2.5 Subtotal 24.5 20.6 19.6 19.2 18.9 Markets Not Served in 1977 Industrial (Not served in 1977) - 1.0 1.0 0.9 0.9 Industrial (Demand from new plants) - - 0.6 1.8 2.7 Electric Power (Switched from gas) - 2.6 2.4 2.4 2.2 Subtotal - 3.6 4.0 5.1 5.8 Total Potential Demand 24.5 24.2 23.6 24.3 24.7 EXPECTED GAS SUPPLY Total Supply (Excluding Alaska) 24.5 20.6 19.0 18.7 18.1 SHORTFALL `Gap" (Without Alaska) - 3.6~" 4.6 5.6 6.6 "Cap" (With Alaska) - 3.6 4.6 4.9 5.5 1978 data on the sectoral breakiown of gas markets is not yet available. Gas supply in 1978 was 20.5 tcf compared to the 20.6 tcf shown for 1977. Includes all Residential and Commercial load whether served or not in 1977. Includes some demand which switched on the basis of price. Source: Jensen Associates, Inc. 6 PAGENO="0535" 529 We identify the four market environments as follows: 1. Growtb--uy to 1971. The pre-shortage period of rapid market growth at regulated prices, which was effectively ended by widespread pipeline curtailnients in 1971-72. 2. Shortage--1972-1977. The period when the fuels market was adapting to worsening gas supply during a time when runaway international oil prices had made gas an even more attractive industrial fuel than it had been earlier. This period was probably over by mid-1977, although public recognition of the change was slow In coming. 3. Returnin~g Balance--1977-1978. A combination of reduced growth and conservation had nearly eliminated excess gas demand; converging gas and oil price levela had nearly cleared natural gas markets (and contributed to talk of a "gas bubble") by the time of the passage of the Natural Gas Policy Act in the Fall of 1978. Before Iranian oil disruptions, the combination of incremental pricing and wellhead price increases under the NGPA, presented the real possibility of a still further shift of potential gas demand to oil. 4. International Oil Crunch-1979on. The rapid escalation of oil prices as a result of the OPEC response to Iranian shortages has begun to drive oil customers back to gas. The new competitive fuel price relationships--and government pressures to reduce oil imports--have now created a return to and perpetuation of the excess demand conditions which prevailed from 1972 to 1977. We believe that international oil shortages and shortage-inspired oil pricing were likely in the late 1980s in any event; the loss of substantial Iranian production has simply advanced the timing on the crunch. As a result, we do not expect a collapse of oil pricing at some future time followed by a shift of potential gas demand back to oil. In our view, the demand for gas should remain strong from here on (barring a major recession) and provide a market for high-cost gas. 7 Jensen Associates, Inc. PAGENO="0536" 530 THE EVOLUTION OF GAS MARKETS Approximately one-half of the natural gas produced in the United States in 1978 was consumed in industry and power generation. Although a portion of this demand was for premi. ~4ications such as process and feedstock use, much of it was sold in competition witri ~.cai a~d industrial fuel oil in markets which bear little resemblance to the classic natural monopolies for which utility regulation of electricity, telephone, water and municipal gas was designed. There is no funda- mental reason why only gas can satisfy these markets, although much fuel burning equipment designed solely for gas has often proved costly to convert. It is the size of these markets and role of available gas supply and competitive fuel pricing which most distinguishes the evolu- tion of the four gas market periods during the 1970s. The growth period began after World War II with the construction of the interstate pipeline networks. From the time of the Phillips decision on wellhead price regulation in 1954 through the 196Os, gas was subject to price regulation--while coal and oil were not. At first, gas demand was not constrained by supply shortages and grew rapidly at the expense of the other industrial fuels. The concept of "rolled-in" high- cost gas had no meaning during this period, for enough new gas was generally available to prevent shortage in the price-controlled inter- state market and surpluses of gas to the needs of the intrastate market kept intrastate prices near interstate parity. The change in this pattern of gas market development came with the first indications of emerging gas shortage. The pessimistic AGA Natural Gas Reserves Report for 1968 provided the first quantitative evidence of trouble. From 1969, when it was issued, through 1971, when widespread pipeline curtailment began, natural gas demand began to undergo a very marked change in pattern. Traditional forecasts, which made the twin assumptions of freely available gas supply and stable prices xelative to competing fuels, began to provide estimates of gas demand which exceeded the supply that most forecasters could possibly foz~esee. Forecasts then began to anticipate a "gas gap." This was another way of projecting what economists term "excess demand" for gas in the industrial and power genera- tion markets, where supply and demand could not clear naturally because 8 Jensen Associates, Inc. PAGENO="0537" 531 of price regulation. The gap which we anticipate in the eighties--and which created the potential demand for high-cost gas--is structurally quite different from the one which many foresaw ten years ago. The ear- lier gap was based on very optimistic estimates of future gas market share and resulting *demand against an uncertain supply. The present gap repre- sents a need to supplement a reduced expectation of Lower 48 gas supply in meeting a reduced and conservation-limited market. An analysis of one of the earlier gas gap estimates shows the way the changes have occurred. * The 1972 report of the Gas Requirements Committee of the gas indus- try included the last traditional forecast of requirements, ". . . of the market need for gas under conditions of adequate supplies of gas and market conditions which would remain essentially unchanged from those existing at the time of the forecast."-~-' The report, however, shifted to a consumption basis, defined as ". . .usage primarily based on the availability of supply."V The forecast of 1980 requirements in the GRC report was 35.8 tcf (including.field use) while the consumption--or supply-- estimate was 27.1 tcf. This represented a "gap" or unmet demand of 8.7 tcf. The period from 1972 onwards was characterized by growing natural gas pipeline curtailments and increasing industrial shortages. The excess demand for price-regulated natural gas made industrial and power generation demand--like residential and commercial demand--largely inelastic or relatively insensitive to the price of alternate fuels. Forecasts of future natural gas consumption made during this shortage period were essen- tially forecasts of anticipated supply. The implicit assumption was that any supply which would be available in the future would be needed, still leaving excess demand. "Future Gas Consumption of the United States," Volume 5, November 1973, Future Requirements Committee, Page 52. 2/ - Op. cit., page 2. 9 Jensen Associates, Inc. PAGENO="0538" 532 The concept of rolled-in,higher-cost natural gas supply was a product of this era of excess demand. Projects for high-cost supplemental gas, such as imported LNC or oil-based SNG were rolled-in or averaged during the period with lower price-regulated domestic gas, thereby increasing gas costs to all customers. In an environment of excess demand where regulated prices were below market clearing levels, utilities lost no significant portion of their market from rolling in the high-cost gas evenly to all customers. During this period of shortage, however, the market for gas went through a major, and largely unforeseen, structural change with substan- tial user conservation. The 1972 GRC report foresaw an 1980 requirement of 35.8 tcf, a consumption (supply) of only 27.1 tcf, and a resulting gap of 8.7 tcf. Our estimate of 1980 potential demand (similar to require- ments) from a 1979 perspective is only 23.6 tcf--a full 12.2 tcf below GRC's earlier requirements projection. We still see.a gap, however, since our supply projection of only 19.0 tcf falls short of potential 1980 demand by 4.6 tcf. The magnitude of the reduction in demand is illus- trated by the fact that our present estimate of 1980 requirements is even less than GRC's expected 1980 consumption-or supply-level. It is not fair to conclude, however, that had GRC's forecast of 1980 supply been correct, the market would now be awash in gas. The gas industry clearly reduced market share in most of its markets during the period of shortage, largely through foregoing growth in customers, but also through fuel switching. By contrast, oil increased its market share substantially in pivotal industrial markets. This is a development which administration policy--reinforced by international oil pricing trends--seems less likely to permit in the future than it did in the 1972-1977 period. It is now clear that the foregoing of growth in new load by the gas industry together with substantial residential, commercial, and industrial conservation kept fuel switching--either enforced through curtailments or voluntary through price action--to a minimum. Our estimates indicate that total industrial fuel switching away from gas was only 1.03 tcf during the shortage period from 1972 to 1977. Fuel switching in power generation uses was an estimated 1.14 tcf over the same period. However, 10 Jensen Associates, Inc. PAGENO="0539" 533 most of the power generation switching did not add to oil requirements, as industrial switching did, since much of it entailed higher utilization of available coal and nuclear capacity to offset lower utilization of gas- fired capacity. Our switching analyses for both industrial and power generation ~re contained in Chapter II of this report. The end of the natural gas shortage period was marked by an improved balance between gas supply and demand which first became evident as the market recovered quite quickly from the seemingly severe gas shortage of the winter of 1976-1977. As individual pipelines and distributors with improved supply began to try to recapture markets which they had lost, many discovered that much of the market had disappeared through conserva- tion as our market figures demonstrate. From mid 1977 to late 1978, the earlier shortage appeared to give way--in some regions, at least--to spot surpluses, leading to discussion of a perceived "gas bubble." In our view the "gas bubble" is the result of a significant reduction in demand coupled with a short-term increase in gas deliverability without a commensurate improvement in underlying proved reserves. It is not the result of a more optimistic long-term supply outlook, nor does it elimi- nate the need to emphasize continued improvement in basic gas supply. The outlook for gas markets would have been complicated by the passage of the NGPA, which provided for higher wellhead gas pricing and incremental pricing to industrial users at a time when oil prices had been steady to declining in real terms. It was the apparent intent of Congress that incremental pricing of natural gas clear the market of enough excess demand so that the transition to new gas price deregulation would be an orderly one by 1985. Our supply/demand analysis studies suggest that the market was much nearer to clearing levels in 1978 than the drafters of the Act ever envisioned, and that a price-sensitive jndustrial market might well have been unable to support wellhead price levels at NGPA ceiling prices in the period well before 1985 deregula- tion. This conclusion was based on a pre-Iran outlook for international oil prices. It also appeared likely to us, based on earlier oil price forecasts, that by 1982 or 1983 the effect of adding high-cost gas supply to the system would have been similar whether it was incrementally priced or rolled in-as Alaskan gas is entitled to be under the NGPA. 11 Jensen Associates, Inc. PAGENO="0540" 534 At that point, any increase in industrial prices would have ~used loss of industrial markets and forced a higher portion of utility cost of service to be borne by the residnntial, commercial, and exempt industrial custoners. Thus, unless there were to be a rate "tilt" away fron price- sensitive industrial markets, an increase in high cost gas supply would have significantly reduced the markets for gas. In our view, the consequences of the Iranian revolution to inter- national oil markets have permanently altered the market environment for natural gas. The focus of natural gas policy embodied in the NGPA-and arising out of the shortage environment of 1972-1977--was to manage excess demand for natural gas prior to moving toward freer post-1985 markets. These policy goals were to be accomplished by (1) initial regulation of intrastate gas prices; (2) liberalized wellhead prices; (3) a 1985 target for new gas deregulation; and (4) the use of incre- mental pricing to force non-exempt industrial gas to approach market clearing levels. Price competition for industrial gas and the potential for loss of gas markets to oil are a logical part of such a policy direction. With the international oil crisis, the new thrust of overall energy policy has shifted to the management of the net demand for OPEC oil. A significant erosion of natural gas markets in favor of imported oil is inconsistent with the new policy direction. We doubt, therefore, that the administration of incremental pricing will be allowed to shed industrial gas markets in favor of expanded oil use. The shift in policy direction is exemplified by the program--originally promoted by the Department of Energy and subsequently embodied in National Energy Plan II-- to encourage the use of gas to displace oil in dual-fuelled industrial facilities. The heavy emphasis in NE? II on higher cost synfuels is fur- ther evidence that administration policy does not intend to let the availability of international oil at comparatively favorable prices become a barrier to supplemental energy projects. While this intention~_ does not of itself create markets for gas supplements, it does offer an indication of the likely direction of government policy responses to a loss of gas markets to imported oil. 12 Jensen Associates, Inc. PAGENO="0541" 535 In the new market environment for natural gas, escalating oil prices have played the aost direct market role. Between mid-summer 1978 and mid-summer 1979, contract cargo and terminal prices for distillate and residual fuel oil have risen between 45-60 percent in major indus- trial markets in the United States. Spot prices have in many cases more than doubled. Thus, despite the rapid increase in wellhead gas prices under NGPA, gas price increases have failed to keep pace with oil price -increases. While hard statistical information which would measure the extent of the fuel switching from oil to gas is difficult to obtain at this early stage, there are some indications that a significant degree of economic switching is occurring. The most direct evidence is in the residential sector where distribution utilities in the Northeast have been inundated with requests for oil furnace conversions. In this fuel pricing environment where new attachments have been encouraged by govern- ment policy and stimulated by escalating oil prices, we believe the potential excess gas demand conditions of 1972-1977 have been reestablished. In our pricing and market analyses, we have identified a phenomenon-- which we term "cascading"-when regulators, operating under NGPA, are faced with the dilemma of either permitting industrial load shedding or selectively tilting higher gas costs towards residential, commercial, and exempt industrial loads. In certain circumstances, exempt users are better off with the rate increase which results from cascading the cost consequences beyond the non-exempt group, than they would be from absorbing the higher cost of service of reduced industrial sales absent the gas supply. The rapidly escalating oil prices we project in this report still call for some cascading as incrementally priced gas to non-exempt indus- trials reaches alternative fuel ceiling levels; in all cases, however, the exempt load is relatively better off than it would be without the Alaskan gas supply. As a result, we do not see incremental pricing regulations as a barrier to the marketing of Alaskan gas. ThE ROLE OF PRICE As the existing high value premium market for residential, commer- cial, and premium industrial uses declines through the influence of 13 Jensen Associates, Inc. PAGENO="0542" 536 conservation, a greater portion of the potential demand for natural gas will be concentrated in new industrial load8 or existing industrial and power generation loads where price is an important determinant of demand. No examination of the commercial viability of the Alaska gas pipeline would be complete without an explanation of the effects of rolling in Alaskan gas upon these price-sensitive gas consumers. The price sensitivity of this demand has been further accentuated by the passage of the NGPA with its provision for incremental pricing to non-exempt industrial loads. Initially, an incremental surcharge will apply to non-exempt industrial boiler fuel uses under Rule 1 and later it may be extended to a much wider group of industrial users under Rule 2. That portion of the price of a broad group of gas categories which exceeds the threshold level defined in Section 203c is to be passed through to industrial users subject to a limitation (or cap) set by the Federal Energy Regulatory Commission (FERC) at the appropriate alter- nate fuel cost. The alternate fuel cost suggested in Section 204e (I) would be the price of No. 2 fuel oil per million Btu's to be paid in the region by industrial users. The cap may, however, be reduced to the level of No. 6 fuel oil if the Commission determines that significant conversion of industrial users away from natural gas will occur at the higher price. The Commission issued a rulemaking proposal (RN79-21) on May 11, 1979 according to which three alternative ceilings would limit the gas price to non-exempt industrial boiler fuel users. The ceilings would be calculated from weighted averages of No. 2, low-sulfur No. 6, and high-sulfur No. 6 fuel oil. According to this proposal, non-exempt industrial boiler fuel facilities which are "technically able and legally permitted" to burn low or high-sulfur No. 6 fuel oil could, by certifying this fact, qualify for the presumably lower price ceilings based upon their alternate fuel. It is not yet certain that this three-tier proposal will be put into effect by the Commission as a part of either Rule 1 or Rule 2. It is quite clear to us, however, that in the setting of the appropriate cap level, FERC has the power to bring about a substantial reduction in industrial demand by forcing gas prices to the level at which users 14 Jensen Associates, Inc. PAGENO="0543" 537 would switch to alternatives. Our experience suggests that it is extremely difficult to estimate the shape of the industrial demand curve without detailed and intensive field analysis and that the curve varies significantly from region to region. Nonetheless, it is possible using some simplifying assumptions to test the maximum effect which the incre- mental pricing provisions might have upon industrial demand, and the related effects upon the market for Alaskan natural gas, should regula- tory policy actually permit gas to clear in favor of oil. The regulatory innovations introduced by the Natural Gas Policy Act of 1978--including the incremental pricing provisions thereof--are occur- ring in a complex economic environment. On the one hand, the price of natural gas delivered to industrial users gradually rose relative to the prices of fuel oils from 1974 to 1978, so that by the time the Act was passed, the industrial gas price in some regions was already at or near the price of alternate fuels. If a ceiling on industrial gas prices had been set at the then current level of No. 6 fuel oil, the foreseeable increases in average costs of incremental gas supplies would soon have brought industrial gas prices to ceiling levels in most parts of the country. On the other hand, the rapid increases in imported crude oil prices since January 1, 1979, the decision to decontrol domestic crude oil prices by September 1981, and the expectation that world oil markets will be tighter in the early 1980s than had previously been foreseen, all suggest that the industrial alternative fuel costs--and hence the ceilings on incrementally-priced gas to industrial custouers--will continue to rise. To illustrate the marked change in market environment which has taken place, we have shown a history and forecast of delivered prices for both the East North Central and Pacific regions, where we expect a significant portion of the Alaskan gas market interest to be concentrated. Figures 1-1 through 1-4 provide such a history and forecast of pricing in the two regions. One figure in each region shows the price projections on the assumption that distillate fuel is the cap price applicable to all non-exempt industrial facilities (and that the market will support such a price level for non-exempt gas load without significant loss of load). The second figure for each region is based on a residual fuel cap. 15 Jensen Associates, Inc. PAGENO="0544" Source: Jensen Associates, Inc. PAGENO="0545" "1 0 1968 70 72 714 76 78 80 82 814 86 88 1990 Source: Jensen Associates, Inc. PAGENO="0546" to - 03 ~ to N. a' cJ1 1968 70 72 7~4 76 78 80 82 84 86 88 Source: Jensen Associates, Inc. 1990 PAGENO="0547" 1968 70 74 Source: Jensen Associates, Inc `a 0 1990 PAGENO="0548" 542 Underlying all four figures is the assumption that all non-exempt industrial users within a region are subject to the same cap. This is a simplifying assumption to permit an analysis of the maximum and mini- mum impact of incremental pricing. The four figures make the further assumption that when faced with surcharges in excess of cap, FERC and state regulatory commissions will be more interested in preserving the cost-of-service contribution of industrial load than they will be in seeing the industrial market collapse. They will, therefore, permit cascading of surcharges in excess of cap to exempt industrial, residen- tial, and commercial loads. Although the precise shapes of the curves differ from region to region and between alternate fuels, the patternsare similar. For both regions, industrial gas was delivered to users at near parity with residual fuel oil in the stable pre-l970s market period. It was thus priced well below distillate. The first pipeline curtailments began in each region in 1971. Concerns about the gas shortage led companies in a number of sections of the U.S. to plan and build oil-based SNG plants about 1970-71. The East North Central region was an especially impor- tant area for~ these high-cost gas plants. Late 1973 and early 1974 brought the dramatic OPEC instigated rises in international oil prices which are evident in all four figures. The SNG plants which had been planned on the assumption of comparatively low-cost hydrocarbon feed- stock came onstream in 1973 and 1974. Although most SNG projects had anticipated that SNG would be higher-cost gas than conventional supply and would have to be rolled in, few planners anticipated the very high demonstrated actual cost of SNG when the plants began operation. But, as is evident in Figures 1-1 to 1-4, competitive oil prices rose even more dramatically and the roll-in of high-cost gas did not prejudice the competitive posture of industrial gas compared to oil. From 1974 to the end of 1978, however, the situation was quite different. Oil prices did not show major increases, while itidustrial gas prices continued a steady rise. For these regions, like most of the U.S., industrial gas prices rose more rapidly than residential gas prices. In part, this was intentional as public utility commissions, like the California P.U.C., experimented with lifeline and other consumer 20 Jensen Associates, Inc. PAGENO="0549" 543 protection rate designs. Another partial explanation is that utilities and their regulatory commissions found it easier to pass on a dispropor- tionate share of higher gas costs to the industrial load in their cost- of-service rate hearings. The NGPA has institutionalized this practice through the mechanism of incremental pricing. In the forecast portion of Figure I-i, we anti- cipate that the industrial delivered gas price will continue to rise until the cap (in this case, the price of distillate oil) is reached in 1984, assuming that loads are not selectively shed before the distillate price cap is reached. The forecast in Figure 1-2, where residual oil is treated as the alternate fuel, shows a similar pattern, with the indus- trial gas price rising to equivalency with the residual fuel price by 1981. In both cases, traditional relationship of industrial to residen- tial gas prices is reversed before the industrial gas price reaches cap. That is, delivered industrial gas will exceed residential gas in price beginning in 1981, regardless of which alternate fuel is used to deter- mine the industrial cap. Once the cap is reached--at whatever level the cap is set--we would anticipate that public utility commissions will selectively permit a higher portion of the cost of service to be picked up by residential loads in order to protect total gas volumes. The alternative would be to permit industrial prices to exceed cap which would force load shedding. However, the share of any increase in gas cost which thus "cascades" onto residen- tial customers is small in the East North Central region, rising by 1990 to 44~/mcf if distillate is the cap, and to 82~/mcf if residual fuel is the cap. This is insufficient by itself to accelerate the rate of increase of the residential gas price above recent (1974-79) experience. Rolled-in Alaskan gas adds very little to residential gas cost in the East North Central region. The maximum amount added is 19~/mcf in 1985. The amount added to the residential price by Alaskan gas declines after 1985 because the tariff of the pipeline system from the North Slope to the Lower 48 States diminishes as capital costs are amortized. The presence of Alaskan gas has, in fact, a moderating effect upon residential rate increases. By allowing pipelines and distributors to reduce curtailments and provide larger gas volumes to industrial 21 Jensen Associates, Inc. PAGENO="0550" 544 customers, Alaskan gas permits the incremental pricing surcharge account to be spread over the greater volume, thereby reducing the "cascade" (mentioned above) onto residential bills. For example, the incremental pricing cascades of 44Q/mcf and 82Q/mcf in 1990 would have been $1.29/mcf and $l.46/mcf respectively in the absence of Alaskan gas. The pattern of interfuel competition in the Pacific region, parti- cularly California, has historically been somewhat different from the East North Central. The absence of coal as an industrial and power generation fuel has meant that competition between gas and residual fuel has tended to dominate the gas markets in that area. In California (the largest market in the Pacific region), experiments with tariff structures that tilt the cost structure started to lose a significant portion of its market share, because industrial gas and residual fuel prices were already at comparable prices in 1978. The rise of fuel oil prices in late 1978 and early 1979 has changed the picture completely. Once again, the delivered industrial gas price is below alternate fuel prices and incremental pricing surcharges may be billed to non-exempt industrial consumers without immediately reaching the cap level. The effects of rolling-in Alaskan gas upon future fuel price rela- tionships in the Pacific region are similar to those already discussed in the East North Central region. Alaskan gas adds a small amount to the residential gas price in the first few years of Alaskan gas avail- ability, but the amount thereafter diminishes. During those years when the industrial gas price is at cap level (whichever alternate fuel is used to determine the cap), the presence of Alaskan gas serves to reduce the dollar amount which would otherwise cascade onto residential con- sumers' bills. THE OUTLOOK FOR OIL AND GAS PRICES Since the price relationships between oil and gas are so important to this study, the price conclusions of the report have been laid out here in some detail. Figure 1-5 summarizes our projections of selected oil and gas prices. The oil price estimates shown are for the refiner's 22 Jensen Associates, Inc. PAGENO="0551" 545 FIGURE 1-5 GAS WELLHEAD PRICES COMPARED WITH REFINER'S CRUDE ACQUISITION COST (1978 Dollars per Million Btu) 1979 80 81 82 83 8~ *Extrapolated after 1985 deregulation. Source: Jensen Associates, Inc. 85 86 87 88 89 1990 23 PAGENO="0552" 546 acquisition cost of domestic and imported crude oil. The domestic oil price distinction disappears with full oil price deregulation in 1981. Delivered prices of gas in this study have been developed ona cost-of-service basis, utilizing the maximum wellhead prices permitted by the NGPA or as escalated by contract or government policy in the ca~e of supplementals. For new gas prices which are to be decontrolled in 1985, we have made the simplifying assumption that they will continue to rise at the same rate as that permitted prior to deregulation. In a market economy where imported oil is the "swing" fuel, natural gas prices would be established (in the absence of wellhead price regulation) on a netback basis from alternative oil price competition. We think it unlikely that competition at the wellhead will set lower prices than NGPA prices shown here in the period of 1980 to 1985. After 1985, when deregulation is to take place, it is quite likely that new gas prices for categories of gas covered by Section 102 (and also Section 103) of the NGPA will rise more rapidly than the stringent extrapolation of pre- 1985 price trends used here. Figure I-S shows estimates of the composite price of all conventional Lower 48 gas, Alaskan gas, and all other supplemental supplies. Most supplemental gas prices will--it now appears--be escalated directly or indirectly to international oil prices. They, thus, rise rapidly in an escalating oil price environment. Our estimates of Mexican gas prices assume that they will be tied to East Coast distillate prices as initially proposed by Pemex; we also assume that Canadian prices will move to distillate parity when the Mexican gas is initially imported. We have utilized an estimate of Alaskan laid-in prices from NAPLINE after reviewing them for consistency with our other estimates. The marketability of Alaskan natural gas depends, to a great extent, up6n perceptions of the future course of crude oil and petroleum product prices. Pipelines which consider contracting to purchase Alaskan gas will make such a commitment with greater confidence if they believe that their markets will not be threatened by an increased supply of interna- tional oil at weakening competitive prices. These perceptions, In turn, 24 Jensen Associates, Inc. PAGENO="0553" 547 are strongly conditioned by past and present circumstances in inter- national crude oil markets. Until the early l970s, producing governments argued for higher oil prices but singly or collectively were not able to push up oil prices to any significant extent. In 1971, the world market situation began to change, giving the producing countries greater leverage to challenge existing oil pricing mechanisms. The dramatic increases in international oil prices in late 1973 and early 1974 represented the end of an era of cheap international oil. From that time until the recent Iranian revolution, despite the development of some surplus producing capacity in international markets, OPEC has been able to con- trol price levels for the Arabian Light marker crude in slack markets. It has also been able to exert considerable influence over pricing of other crudes without establishing formal allowances for quality and location. In tight markets such as those which resulted from the 1973 oil embargo, or the 1978 loss of Iranian production, OPEC has been far less cohesive, with price "hawks" going for whatever the traffic will bear. The symptoms of price formation in tight markets has been remarkedly similar. Spot market prices for products in Rotterdam and other trading markets soar. Spot crude oil price trading develops at elevated levels as well. OPEC hawks seek to take advantage of spot crude oil prices by diverting contract volumes to the spot market, which if It does not cool the market, leads OPEC to meet to try to hammer out a new coordinated price structure at higher price levels. If that meeting does not reduce the market pressure, the whole cycle starts up again from the new higher base. There were two major OPEC price increase meetings during the 1973 embargo shortages, and there have been three (as of July 1979) since the Iranian crisis. OPEC's ability to resist price declines during periods of slack demand relative to physical producing capacity remains strong. On the other hand, the will of member countries to restrain price increases to OPEC-mandated levels during periods of tight supply is now subject 25 Jensen Associates, Inc. PAGENO="0554" 548 to some doubt. The loss of Iranian crude oil production last winter may have been a temporary phenomenon, but ~Lt has led to substantially higher price levels. A repeated loss of production, in Iran or else- where, could bring about again a situation in which OPEC loses control of the pricing mechanism as prices rise through market forces alone. The patterns of price formation which have been in evidence during the Iranian crisis could then recur. We believe that even if there are no further interruptions of Iranian production this year, the possibility of a repetition of recent events at some time during the l98Os should be a consideration in any energy-related investment decision. We believe that international oil price levels will rise in real terms even if their course may at tines appear erratic. Evolution of World Oil Prices The OPEC price increase from October 1973 to January 1974 (see Figure 1-6) represented a break from the relatively stable oil prices of the l950s and l960s. The enormous price increase--nearly four- fold on an f.o.b. basis--led in the U.S. to energy conservation mea- sures by private energy users and a flurry of governmental policy initiatives. Far less dramatic, however, was the almost steady decline in real crude oil prices from 1974 until early 1979. World- wide inflation, and particularly the rising prices of the goods and services exported by the industrialized countries, rapidly eroded the purchasing power of a barrel of OPEC crude oil, as shown in Figure 1-7. By the end of 1978, the real price of Arabian Light crude oil had fallen to 73 percent of its early 1974 level. The individual OPEC member countries viewed this loss of pur- chasing power with varying degrees of concern. Countries with large pop- ulations and extensive development plans tended to be more concerned than were those with fewer domestic opportunities to invest oil revenues. The 26 Jensen Associates, Inc. PAGENO="0555" 549 FiGURE 1-6 POSTED PRICE ARABIAN LIGHT CRUDE OIL 1950-1978 (Dollars per Barrel f.o.b. Ras Tanura) l~i.OO 12.00 10.00 8.00 6.00 2.00. 0.1 I 1 1950 1955 1960 1965 1970 1975 1978 * At ,the same time that OPEC government participation in the ownership of oil production facilities was rising in 1973 and 1974, attention became focused upon the official selflng price rather than the posted price. Official selling prices are 93 percent of the posted prices shown here for years since 1973. Source: Jensen Associates, Inc. 27 PAGENO="0556" 550 10.00 9.00 8.00 7.00 6.00. 5.00 4.00 3.00 2.50.-. oL. Note: Source: FIGURE 1-7 REAL PRICE IN 1973 DOLLARS OF ARABIAN LIGHT CRUDE OIL (Dollars per Barrel f.o.b. Ras Tanura) I I I -. I - 1 1973. 1974 1975 1976 1977 1978 1979 1980 the "real price" shown here is calculated by dividing the official government sale price of Arabian Light crude oil by the 11W index of export unit values for 14 industrial countries, converted to a 1973 base. Jensen Associates, Inc. - 28 PAGENO="0557" 551 former group of countries tended to be the "hawks" who argued within the councils of OPEC for higher oil prices, while the latter group were more easily persuaded of the economic injuries which higher prices night bring to the oil-importing ftdustrialized world. A major test of policy influence in OPEC between hawks and doves occurred at the 1976 meeting in Doha, Qatar, when member countries disagreed on the appropriate price level and operated for six months with a two-tiered price system. Although the outcome of that test was partially inconclusive, it did not clearly demonstrate what many observers expected, namely, that Saudi Arabia, with its large reserves and spare producing capacity, could unilaterally set lower prices. A number of factors coincided in late 1978 to reverse the trend of declining real prices of imported crude oil. Iranian crude oil produc- tion was interrupted by a general strike and fell, by December, to one- third of the September level. Spot market crude oil prices soared. The Iranian government, whose naturally "hawkish" views on oil pricing had been moderated on previous occasions in exchange for political support and weapons sales by oil importing countries, now was fighting for its survival and could not play a strong role within OPEC. The value of the dollar-the currency used for denominating oil prices--had fallen substan- tially over the previous 18 months, diminishing further the value of oil revenues to OPEC countries and eroding the value of their holdings of assets in the U.S. Moreover, the economies of the industrialized world appeared to be in a stronger condition than they had been since the reces- sion of 1975; arguments that an oil price increase would halt economic recovery no longer had as much influence as they once had. The OPEC decision at Abu Dhabi in December 1978, to raise the price of Arabian Light marker crude by an average of 10 percent during 1979 (14.5 percent per year-end to year-end) was, in our view, most importantly a signal of the end of the erosion of purchasing power. Events since the Abu Dhabi meeting have strengthened this conclusion. Individual OPEC member countries, influenced by high spot market crude oil prices, attached various surcharges to their official sales prices. Even Saudi Arabia began to charge the scheduled fourth-quarter price increases on 29 Jensen. Associates, Inc. PAGENO="0558" 552 current production and attached a surcharge to one of its less visible crudes. A special OPEC meeting in March endorsed the accelerated timing of the marker crude price increase but left the surcharges as a matter of individual country discretion. The July meeting raised the marker price to $18 per barrel, an increase of 42 percer~ ;~r, but left an additional $5.50 which others would charge in surcharges and differen- tials. These events have placed Arabian Light marker crude somewhat out of line (when quality is taken into consideration) with other internationally traded crude streams. In our projections, we have assumed that the of f i- cial price of the marker crude will hold at $18 per barrel for 1979 and have projected future increases from that point. At the moment, that projection appears to be low. The rate of increase in real crude oil prices during the early 1980s may be accelerated by short-term events similar to the interruption of Iranian exports. On the other hand, it is unlikely that the real price will be allowed to fall for even as much as a twelve-month period. Only a significant downturn in economic activity in the oil importing nations could bring about such a decline. It is the view of Jensen Associates that international crude oil prices will rise during 1980 through 1982 at a real rate of about 5 per- cent per year. This assumes a continuation of Iranian production at present levels. Although the capacity and willingness of OPEC countries to increase production levels is limited, we believe that moderation of demand (primarily through conservation measures, but also possibly through a slower rate of economic growth) in the oil importing countries will serve to weaken the pressure for more rapid oil price increases for the next two or three years. Thereafter, as Figure 1-8 indicates, a different set of forces may take over leading to an acceleration of marker crude price increases. . Worldwide demand for OPEC crude oil production will probably not test OPEC physical production capacity (except during short-term situations like the Iranian shutdown) until 1987 or 1988. Nevertheless, we believe that international crude oil markets will begin to reflect the coming 30 Jensen Associates, Inc. PAGENO="0559" 553 FIGURE I-B FORECAST PRICE (1979 DOLLARS) ARABIAN LIGHT CRUDE OIL (Dollars per Barrel f.o.b. RasTanura) 27.00 25.00 23.00 21 .00 19.00 17.00 15.00 13.00 `I I I I 1 I I 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 YEAR END FIGURES Source: Jensen Associates, Inc. 31 PAGENO="0560" 554 tightness sometime earlier, perhaps as early as 1983. Partly, this will occur because of the political decisions of individual OPEC countries against expansion of production facilities, and partly, it will result from growth in economic activity and resultant growth in energy demand in the rest of the world. At :~`t poiflt, Jen.~en Arsociates anticioatts a discontinuity in the long-run trend of oil prices. (See Figure 1-8.) Beginning in about 1983, the rise in real crude oil prices nay be expected to accelerate to perhaps 10 percent per year for the remainder of the decade. In our analytical work, we place a limit to real oil price in- creases starting in 1990. The limit is purely arbitrary, reflecting more an unwillingness on our part to believe that oil prices can continue to increase at compound rates of 10 percent than any specific foreseeable limit to the rises. Crude oil prices paid by refiners in the U.S. are, of course, only partially influenced by international markets. Most domestic crude oil is price-controlled at the wellhead, and thus the weighted average cost of crude oil to refiners is somewhat below the price of imported crude. Imported crude, itself, is a mixture of various crude qualities from a variety of sources. Domestic crude oil price controls will be gradually relaxed from June 1979 through October 1981, when they will be completely removed. As for the imported crude oil mix, this is expected to change over time to include a larger fraction of North Sea and Mexican crudes. This will reduce the average transportation distance, but we believe that the benefits of this locational advantage will be mainly captured by the producers. Thus, the weighted average cost of imported crude is expected to increase at about the same rates as Arabian Light marker crude. From projections of crude oil prices, an estimate of delivered industrial oil prices, such as were used in Figures I-i to 1-4, requires separate judgments about trends in tanker rates, refinery margins for both No. 2 and No. 6 oil, and product transportation and distribution margins. * These factors are reflected in our final figures. 32 Jensen Associates, Inc. PAGENO="0561" 555 II. U. S. NATURAL GAS DEMASDS Since natural gas curtailinents began affecting the patterns of natural gas consumption in the early 1970s, the markets for natural gas have changed substantially. The necessity of coping with a natural gas shortage dominated the first half of this decade to such a degree that concern with the degree of denand for natural gas became secondary. The rapid price increases during this period for all fuels created an increased awareness among consumers of the need to find ways of using energy more efficiently. In addition, the threat of gas curtailments forced many industrial users of gas to install alternate fuel capa- bility and made the industrial market for natural gas increasingly price- sensitive. Since 1974, a body of Federal and state legislation has been passed which restricts the future use of natural gas in selected applica- tions. All of these factors are expected to affect substantially the demands for natural gas in the future. The following analysis considers the implications of these developments in the residential/commercial, industrial and electric power sectors. RESIDENTIAL AND COMMERCIAL The natural gas shortage did not affect the existing residential and commercial markets as severely as it affected the industrial and power generation sectors. Nonetheless, actual residential sales declined between 1972 and 1977. Total residential demand in 1977, when corrected for weather variations, was actually 2.9 percent below sales in 1972. The long-term changes in demand between 1972 and 1977 arose from two counteracting forces-customer growth and conservation. Potential custo- mar growth was inhibited by the advent of pipeline curtailments wh5ch resulted in restrictions being imposed on new customer attachments in most regions of the country. In many cases, the moratoriums applied only to new spaceheating customers. In the more adversely affected areas particularly the East-state and utility company policies precluded ~ 33 Jensen Associates, Inc. 57-087 0 - 80 - 36 PAGENO="0562" 556 new customer attachments. The effect of the partial and full restrictions, however, was often the same. If utility company policy required the customer to absorb either the cost of main extension, service piping, or both, the operating cost advanta.j ~tural gas were frequently eroded sufficiently by the higher installat~. -~ to render gas unattractive for non-spaceheating applications. Although some growth in demand from new customers did occur between 1972 and 1977 (261 bcf or 5 percent), the rate was significantly below the utility industry experience prior to the supply shortage. Conservation, on the other hand, acted to reduc~ the impact of this growth by 411 bcf. The cumulative effects of both customer growth and conservation are shown in Tables 11-1 and 11-2. It is apparent that conservation has played the primary role in reducing residential demands. Since 1972, the U.S. average reduction in per meter normalized consumption has been 7.9 percent (through 1977), while some regions have experienced conservation levels that approach 17 percent. Several factors account for this rise in conservation effort and decline in demand. Certainly, public awareness of the potential for conservation has fostered changes in individual consumption patterns. Secondly, exhortations by public officials to conserve energy has likely prompted some patriotic response in reduced demand. The most significant influence, however, has been the upward movement in gas prices. Between 1972 and 1977, residential gas prices rose 96 percent while the consumer price index increased only 45 percent indicating a real gas price (adjusted for general inflation) increase of more than 35 percent. (See Table 11-3.) The typical consumer response to this rise in prices has been a reduction in demand. Three methods have been employed to reduce gas consumption--comfort changes such as thermostat setback, structural changes such as insulating attics, and fuel switching such as replacing a gas range with an electric range. Comfort changes are simple, immediate responses to higher gas costs but their permanence has not yet been determined. Since consumer behavior is affected more by the total utility bill than by cost per mcf, factors such as a very warm or very cold winter will affect the magnitude of any 34 Jensen Associates, Inc. PAGENO="0563" 557 TABLE Il-i TOTAL U.S. RESIDENTIAL SECTOR NATURAL GAS MARKET CHANGES 1972 - 1977 (Bcf) 1972 Actual 5,173.3 1972-1977 increase due to growth in customers +260.5 1972-1977 decline due to conservation -410.9 1972-1977 adjustment for weather -113.5 1977 Actual 4,909.4 Source: Jensen Associates, Inc.; Gas Requirements Agency. 35 PAGENO="0564" 558 TABLE 11-2 TOTAL U.S. RESIDENTIAL MARKET CHANGES NATURAL GAS 1972 - 1977 (Percent) Source: Jensen Associates, Inc. Between 1972 and Conservation Customer Growth Weather Total 1977 * - 7.9% + 5.0% - 2.2% - 5.1% 1976 - 6.5% + 4.8% + 0.1% - 1.6% 1975 - 3.3% + 3.9% - 4.3% - 3.7% 1974 - 4.2% + 3.2% - 4.5% 5.5% 36 PAGENO="0565" 559 TABLE 11-3 U.S. AVERAGE RESIDENTIAL ENERGY COSTS (Dollars per million Btu) Annual Percent Percent 1972 1977 Change Change Gas $1.19 $2.33 + 96% +14.4% Electricity $6.72 $11.07 + 65% +10.5% (a/kwh) (2.3~) (3.8~) Relative Prices (Ratio of electricity to gas price) 5.65 4.75 (15.9%) (3.4%) Consumer Price Index (1967=100) 125.3 181.5 + 45% + 7.7% Source: AGA Gas Facts; E.E.I. Statistical Year Book; U.S. Bureau of Labor Statistics; Jensen Associates, Inc. 37 PAGENO="0566" 560 demand reduction resulting from comfort changes. Structural changes, however, are quite different in their effect on demand. Insulating attics, installing storm windows and/or using day/night thermostats result in permanent dentand reductions. The pattern of the commercial sector has been quite similar to that of residential. The data for commercial use lacks statistical continuIty because of inconsistencies in customer definitions caused by reclassifica- tion of customers and changes in metering policies. As a result, it vas not possible to make a quantitative assessment of changes in the conner- .cial market comparable to the one undertaken for residential demand. However, in regional field work, Jensen Associates has found commercial conservation levels to be slightly higher than in the residential sector. In part, this stems from the ability of commercial customers to reap larger volume savings with relatively simple efforts. Schools present a good example. By reducing the air change in school buildings to the legal requirements and only replacing the air when the buildings are occupied, school systems have registered savings in spaceheating as much as 40 per- cent. Although the initial level of conservation in the commercial sector is somewhat larger than for residential, the potential for improving the energy efficiency in commercial buildings is more limited than it is for single family homes. For this reason, the conservation level ultimately achieved in the commercial sector is expected to be lower than that fore- cast for residential consumers. As a result, commercial consumption per customer should decline at a slightly slower rate than the residential use per customer. The achieved conservation measured here (7.9 percent residential through 1977, somewhat higher for commercial) represents only a small portion of the potential which exists with present technology. Space- heating usage in existing homes could be reduced an average of 25 percent through the use of existing conservation measures. Additional savings (as much as another 25 percent) are expected to accumulate from well- advanced research in new appliance design and the modification of existing furnaces. This currently unrealized conservation 38 Jensen Associates, Inc. PAGENO="0567" 561 is expected to influence residential and commercial gas demands signifi- cantly in the future as gas prices are expected to rise faster than the general price level. As the ~moratoriums on new customer attachments are removed, the gas market share in new construction is expected to recover from its abnormally low levels of recent years. Electric heat pumps will likely increase their share of the new home market, but principally at the expense of other forms of electric heat. The growth in demand from new customers is projected to more than offset the reductions in consumption resulting from conservation. As a result, total residential/commercial demands (summarized in Table 11-4) are forecast to increase by 0.5 tcf between 1977 and 1990. These estimates are lower than many other projections of residential/ commercial demand. The differences lie primarily in the treatment of conservation. Our forecasts are based on the conviction that average residential/commercial consumption per customer will decline substan- tially in the future as a result of efforts to reduce household energy costs. It is evident from Table 11-3, however, that the changes in con- sumption patterns were initially modest. But recently, the decline in per capita usage has become more pronounced. It would appear that this shift has not yet been reflected in a number of other residential and commercial demand forecasts. INDUSTRIAL GAS In the industrial sector, curtailments have generally been assumed to be the dominant factor in determining consumption levels of natural gas. The Gas Requirements Committee estimated 1977 firm and interruptible industrial curtailments at 1,561 bcf. Curtailment data do not, however, accurately reflect unsatisfied gas demands. Interstate pipeline curtail- ments may be offset by distribution companies through self-help measures such as intrastate production, supplemental gas projects, and direct purchases from producers. In addition, gas demands may decline as a result of conservation or the price-induced substitution of alternate fuels for gas. 39 Jensen Associates, Inc. PAGENO="0568" 562 TABLE 11-4 TOTAL U.S. RESIDENTIAL & COMMERCIAL GAS DEMANDS & CONSERVATION 1977 - 1990 (Billion cubic feet) 1977 1980 1985 1990 U.S. Residential and Commercial Gas Demand 7595 7625 7750 8085 Residential Conservation (1972 Base Year) 8% 15% 24% 31% Source: Jensen Associates, Inc. 40 PAGENO="0569" 563 Actual U.S. industrial gas sales in 1977 were 2,144 bcf lower than in 1972. Given the CRC curtailment estimate, this suggests that something more than curtailments affected demand. Three factors have been isolated as major influences on demand: changes in the level of business activity, conservation, and fuel switching. The U.S. economic performance between 1972 and 1977 was dominated by the prolonged recession which lasted from the first quarter of 1974 until the second quarter of 1975. Pre-recession output levels were not reached again until the first quarter of 1976. This generally sluggish business activity restricted the growth of industrial gas demand to 1,569 bcf for the period. The economic recovery, which began in the second quarter of 1975, was not evenly distributed geographically. Using man hours worked in manufacturing as a regional indicator,-~-~' it is apparent that the eastern half of the country suffered more severely from the recession and recovered more slowly from it. As a result, the East experienced only a modest increase in business activity from 1972 to 1977. During this same period, the economic recovery in the western half of the nation was generally vigorous. These differences in growth were also evident in comparing the inter- state and intrastate markets. Although the distinction is somewhat imprecise, we have used the West South Central~' (WSC) region as a proxy for the intrastate market and the remaining lower 44 states as represen- tative of the interstate market. In the absence of any other market changes (other than business activity) interstate demand for gas in the industrial sector would have grown 677 bcf (+ 13 percent) between 1972 and 1977. In comparison, the West South Central region would have experi- enced an increase of 891 bcf (+ 25 percent). The growth in expected There are several regional economic indicators to choose from. These include value added in manufacturing, personal income in manufacturing, etc. Because of wide variations in inflation rates within the indus- trial sector, man hours worked in manufacturing was selected for the regional analysis as it corresponded most closely with the results developed in the regional field studies performed by Jensen Associates, Inc. V The West South Central region is comprised of the three largest gas producing states--Texas, Louisiana, and Oklahoma--and the state of Arkansas. 41 Jensen Associates, Inc. PAGENO="0570" 564 natural gas demand in the West South Central region was influenced by such fuel-intensive industries as refining and petrochemicals. However, even excluding these industries from the analysis, the expected increase in demand exceeded 21 percent. In actuality, industrial gas consumption declined between 1972 and 1977, not only in the somewhat sluggish interstate market, but also in the West South Central. The major factor in this decline was industrial conservation. There are two general motivations behind industrial con- servation efforts: energy price increases and natural gas curtailnents (actual and threatened). Between 1972 and 1977, average industrial gas prices in the U.S. more than tripled; in the West South Central they increased more than six-fold. In real terms (after removing the effects of inflation), the increases are still substantial, ranging from 124 percent in the interstate market to slightly under 320 percent in the West South Central region. The general response to such large price increases has been a decline in demand. Total U.S. industrial gas conservation amounted to 2,687 bcf in 1977 or a reduction of 30 percent as shown in Table 11-5. These cost- induced conservation practices vary from simple, low-cost changes in operating procedures to major process changes or heat recovery projects that can require large capital expenditures. Given the variety of indus- trial uses of gas, it is impractical to attempt to present an exhaustive discussion of industrial conservation practices. Several examples from the Jensen Associates' industrial field interviewing program are illus- trative. Simple, inexpensive conservation practices are typically developed in response to the high cost of energy. For instance, in the case of heat treatment furnaces, ovens, or kilns with low utilization rates, improved scheduling may result in operating continuously for a few days per week rather than intermittently throughout the week. This allows several days of cool-down each week and a resultant fuel savings. Other savings may be achieved from a change in process, as in the shifting of a metal cleaning operation from a hot detergent bath to an ambient tem- perature acid bath. 42 Jensen Associates, Inc. PAGENO="0571" 565 TABLE 11-5 TOTAL U.S. INDUSTRIAL NATURAL GAS CONSUMPTION 1972 - 1977 (Bcf) Volumes Percent 1972 Actual 8,815 -- 1972-1977 change due to change in business activity +1,569 +18% 1972-1977 decline due to industrial conservation -2,687 -30% 1977 fuel switching -1,026 -12% 1977 Actual 6,671 -24% Source: Jensen Associates, Inc.; Gas Requirements Agency. 43 PAGENO="0572" 566 A significant share of the conservation to date has been the result of these relatively simple modifications. Creative plant engineers will undoubtedly continue to devise inexpensive ways to reduce energy costs but much of the more obvious waste has now been eliminated. Future conservation, however, will increasingly require larger expenditures. The higher capital-cost conservation projects, while perhaps pro- mising substantial energy savings, require careful evaluation along with other potential corporate investments. Because of the competition for limited capital budgets, these projects typically are implemented gradually. Heat recovery systems are among the most frequently considered options for using energy more effectively, as significant amounts of usable energy are discharged from buildings and processes. The installation of waste heat exchange equipment in petroleum refining and petrochemical processing units are but two examples. In the case of in-plant warm air, the modifi- cation of exhaust systems within plants to concentrate air removal from specific areas where fumes are produced reduces the wintertime fuel requirements for heating make-up air. These types of projects represent a smaller portion of the achieved industrial conservation through 1977 but the major portion of future energy savings will likely result from similar efforts. The balance of the reduction in industrial gas consumption was due to fuel switching. As in conservation, the two primary motivations were actual and anticipated curtailments, and higher gas prices. It is not possible to quantify the degree to which each of these influences pre- vailed without extensive field interviews. As an approximation, it seems reasonable to attribute fuel switching in the interstate market to curtailnents. In the West South Central region, higher gas prices were likely the dominant consideration, inducing switches to residual oil by refineries and heavy industry. Regardless of the stimulus, however, the entire volume attributed to fuel switching (1,026 bcf) for the U.S. is substantially lower than the Gas Requirements Committee estimate of industrial curtailments (1,561 bcf) in 1977. In the interstate market, effective curtailments (after accounting for business activity and conservation) were only 642 bcf. This suggests that the unsatisfied 44 Jensen Associates, Inc. PAGENO="0573" 567 demand for gas, even at the current regulated prices, is significantly smaller than is generally assumed. In the interstate market, curtailments required industries to shift to alternate forms of energy or shut down operations. These forced convei~sions to other energies have simplified industrial fuel choice decisions in the short term, particularly for lower priority users. The large segment of the industrial sector which has already invested in alternate fuel capability (including existing interruptible customers as well as conversions forced by curtailment) now only needs to examine operating costs differentials and product quality premium values when choosing fuels. By far, the major alternative to gas is oil, as shown in Table 11-6. Large plants, particularly those which have major boiler loads, tend to use residual oil while smaller plants and those with lower steam-raising needs prefer light fuel oils. Figure lI-i shows the alternate fuels substituted for gas in 1977. Of particular interest is the negative role coal played during this period--actual coal consumption declined outside the major producing states. Despite the nearly universal opinion of industry that oil is a substantially less secure source of energy than coal or electric power, there are compelling reasons why oil is the major substitute for curtailed gas. Competition in the marketplace forces industrial consumers of energy to select an alternate fuel that will impose the smallest cost penalty for the loss of natural gas. The need to minimize costs also requires that conversions be simple enough to keep installation downtimes as brief as possible and that the capability to use gas be retained to take advantage of changing supply and favorable price situations. Where gas and oil capabilities already exist, there has been little intentive to add still another alternative. Where new facilities have been added, energy source decisions appear to be based on short range considerations, indicating that market competition is playing its expected role. The more important influences in selecting an alternate fuel appear to be: relative simplicity of conversion in terms of capital investment and operating downtime; relative as-burned costs of the Btu's 45 Jensen Associates, Inc. PAGENO="0574" 568 TABLE II-~6 TOTAL U.S. INDUSTRIAL FUEL SWITCHING 1977 BILLION CUBIC FEET GAS EQUIVALENTS BASE YEAR 1972 Fuel Volumes Percent Residual Oil +515 +50% Distillate Oil +361 +35% Refinery Gas +103 +10% Other + 36 + 4% Coal +11 +1% Subtotal +1026 +100% Natural Gas -1026 -100% Net Fuel Switching Between Fuels 0 0% Source: Jensen Associates, Inc.; Gas Requirements Agency. 46 PAGENO="0575" I- C < C) - 0 C-) ~ ~ L ~