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Oil and gas development: Does Norway do a better job than Alaska?

Larry Persily
Aaron Jansen illustration

Like Alaska, Norway is a petroleum province that brings in billions of dollars in annual revenues from oil and gas development. But important differences exist in how Alaska and Norway collect, save and spend their wealth, and issue oil and gas leases.

About one-third of Alaska's oil and gas revenues come from its royalty slice of production by private companies on state lands and waters. Norway doesn't take a royalty share of its oil and gas production. Instead, Norway makes all of its money by taxing the producers' profit - plus taking a substantial equity share in many projects, plus earning stock dividends from a government-controlled oil and gas company.

In another difference from Alaska, Norway doesn't award its oil and gas leases to the highest bidder. Rather, it awards leases to what the government determines is the best bidder, based on the company's experience, expertise and work plan to develop the field.

And unlike Alaska, which saves only a portion of its oil and gas revenues in its nearly $40 billion Permanent Fund and does nothing with the fund's investment profits but pay dividends to individual Alaskans, Norway deposits 100 percent of its oil and gas revenues into its sovereign wealth fund - worth about $540 billion as of late last month. It then withdraws an average of 4 percent a year to help pay for public services.

Almost three dozen Alaskans - legislators, state and municipal officials and private-sector representatives - learned the differences between Alaska's and Norway's fiscal regimes during a week-long Norway tour and meetings with government and oil industry officials Aug. 28 - Sept. 3. The Anchorage-based Institute of the North organized the sessions.

Norway, a nation of just under 5 million people, once used a royalty system to take a share of oil and gas wealth but phased it out because the government decided a profits-based tax would work better than a gross-based royalty at aligning the state's interests and the companies' interests, said a tax official with the Ministry of Finance.

Oil and gas tax system

Norway's income tax on oil and gas profits has two components: A 28 percent tax on profits (the same income tax charged on all businesses in Norway), and a special 50 percent tax on profits from offshore oil and gas production, for a total tax of 78 percent. (All of Norway's oil and gas production comes from offshore federal leases.) For example, the owners of gasoline stations and the two refineries in Norway pay just the 28 percent tax rate, even if they are owned by an offshore oil and gas producer - the profits are counted separately.

"It's stable, and still they earn money," said an official with the Ministry of Petroleum and Energy, explaining that companies continue bidding on Norwegian oil and gas leases, despite the substantial tax bite. The profits tax is assessed on earnings in Norway, unlike Alaska which assesses its corporate income tax on a proportional share of producers' worldwide earnings.

Also unlike Alaska, which has a state tax on oil and gas exploration, production and transportation property, Norway leaves property taxes entirely to the municipality, where it is optional - there is no federal property tax.

Norway's oil production is declining, just like Alaska's, but the decline is more recent and production reached a much higher peak than in the 49th state.

Norwegian offshore production peaked at about 3 million barrels a day a decade ago, and has been in decline since, down to a projected 1.7 million barrels a day in 2011. Production started a little earlier than on Alaska's North Slope; the first oil flowed out from a North Sea platform in 1971, and by the end of the 1980s was up to 1 million barrels a day before really booming in the 1990s.

Alaska North Slope oil production peaked at 2 million barrels a day in 1988 and is down to about 600,000 barrels these days.

Along with all that oil, Norway is rich in natural gas, too - production is expected to average 10.5 billion cubic feet per day this year.

Since producers sell so much of Norway's oil flow to affiliated companies, the government has devised a method to determine (for tax calculations) what the sales price would have been had the oil been sold between independent parties. The Petroleum Price Council meets with producers and conducts its own assessment of the market before setting the taxable price each quarter. It's different for natural gas; the government accepts the producers' actual sales price.

The government is keenly aware that oil and gas investment is good, and building up the oil and gas service industry makes it even better. In addition to doing much of the work on domestic projects, where the "local content" is high for goods and services, Norwegian oil and gas service companies have spread across the world - including to Houston - in search of work.

Tax incentives offered

The nation is not without its tax breaks. In a move determined essential to develop the costly Snohvit natural gas field offshore in the farthest north of far north Norway, the government decided not to assess the combined 78 percent tax rate on profits from the liquefied natural gas shipped overseas. Instead, the profit is taxed at just 28 percent. The government essentially allows the producers to allocate the profit to the LNG plant, which is shore-based and therefore exempt from the additional 50 percent tax on profits from offshore production.

In addition to promoting the development, the government opted for the lower tax rate as an incentive to create jobs onshore in a region that needed an economic boost.

Snohvit was discovered in 1984 and took 23 years to bring online - 26 years if you measure from the first lease. Its remote location and other factors made it a very difficult, and costly, field to develop. There is no offshore platform; the gas is produced through underwater modules on the seabed and then piped about 90 miles to shore as an oil, gas and water stream. The onshore facilities separate the three-phase stream, liquefy the gas, send the carbon dioxide back out to the undersea production modules for re-injection underground, and liquefy the gas and load it aboard tankers for delivery worldwide.

Though built to send much of its output to the U.S. East Coast, Snohvit's owners have had to improvise as shale gas has overwhelmed the U.S. market. Some of the LNG goes to Europe, and a Snohvit tanker load was sent to Japan last month. The $5 billion development has the capacity to liquefy almost 750 million cubic feet of gas per day.

Norway allows producers relatively quick recovery of their capital costs with a six-year depreciation schedule for tax purposes (quicker than the U.S. federal government and Alaska allow in corporate income taxes, but slower than Alaska allows as a deduction against its production tax). In addition, companies also can write off from the 50 percent offshore production tax an extra 30 percent of their investment spread over four years - essentially a tax credit for uplift investment. Alaska producers can earn tax credits of 20 percent to 40 percent for similar capital expenditures.

The high tax rate, plus the additional investment credit, means that for every dollar a producer invests in Norway, it saves 93 cents on its taxes - pretty similar to the total tax break allowed by the U.S. and Alaska tax codes.

Statoil's role in Norway

In addition to depositing all of its oil and gas-related tax revenues into its savings account, the Norwegian government owns 67 percent of the shares of Statoil, a publicly traded oil and gas company based at Stavanger, just north of Oslo at the center of the nation's petroleum industry. All of the government's Statoil dividends go into the savings account.

Statoil bids on leases and operates 80 percent of the oil and gas production in Norway, partnering with some of the world's largest petroleum companies. It operates in 33 other countries - including Angola, Brazil, the U.S. Gulf of Mexico and some U.S. shale gas plays - though the vast majority of its production comes from Norwegian waters.

Statoil's market capitalization was $77 billion as of last week, putting it a bit behind ConocoPhillips' $93 billion. Statoil is the second largest natural gas exporter to Europe (Russia is No. 1). Its daily production in the first quarter of this year averaged almost 5 billion cubic feet of natural gas and 1.1 billion barrels of oil. The government created Statoil in 1972, a year after the first offshore production well went into business.  

Don't look for heavy sales of Statoil's natural gas in Norway; almost no natural gas is burned in the country. The nation relies almost entirely on hydroelectric power for its lights and heat. The national energy policy essentially is to sell its oil and gas at the best price it can to foreign buyers, while letting its hydro power projects run the country and saving its oil and gas wealth for the future. So much so that many of Norway's offshore oil and gas production platforms run on hydro power brought to the platform via undersea cables, rather than burning even a molecule of natural gas.

Like Alaska, Statoil is big on enhanced oil recovery at aging fields.

State investment in leases

The biggest deposits to the nation's savings account come not from the profits-based tax or the dividends on Statoil shares. Rather, the cash comes from a state-owned company called Petoro, which the Finance Ministry refers to as State Direct Financial Interest, or SDFI.

Unlike Statoil, Petoro does not operate oil fields. It merely takes an equity stake in whatever leases the government wants. No ifs, ands or buts from the companies that win the leases. Petoro is a partner, and pays its full share of all development costs, operations and maintenance. Generally, Petoro is taking a 20 percent stake in leases these days, though the slice has been as hefty as 60 percent in the past.

The share of Petoro's stake is part of the bid notice on leases, with the government tending to take a bigger share on the best prospects and not so much on other fields.

As with all start-ups, Petoro operated in the red - deep red - in its early years. The company showed a net loss of several billion dollars while it was gearing up in the mid-1980s, paying its share of development costs before any oil and gas started to flow. By 1996-1997, the money really started pouring in, holding around $20 billion a year or so over the past decade after oil field operating costs are deducted.

The government deposits all of Petoro's net revenues into the savings account and then decides, as part of each year's federal budget, how much to invest in new projects that year. Petoro doesn't get to keep a dime of its profits.

Despite Norway's stake in Statoil and its direct take through Petoro, the government really tries to keep politics out of it. Very few officials at the ministries of Finance and Petroleum and Energy lose their jobs in election turnover. "Government has been very reluctant to intervene in micro-decisions made at the business level," said a 2008 paper from Norway's Institute for Research in Economics and Business Administration. "Business principles shall govern decisions in the industry."

Petoro is also a partner in the 5,000 miles of undersea pipelines that move Norway's natural gas to several European receiving terminals. Though other producers own a share of the pipes, the companies have been selling off their stakes in the regulated business to pension funds and other investors looking for stable (and moderate) returns.

National savings account

And while all of the cash flow from Petoro, the Statoil dividends and oil and gas profits taxes go into Norway's Government Pension Fund Global - an estimated $57 billion in deposits in 2011, based on current exchange rates - the government gets most of what it needs to pay for universal health care, free education through college, a generous pension system and other programs from heavy taxes on residents and businesses.

The personal income tax rate tops out at 50 percent; there is a 25 percent value-added tax on goods and services; and Norway's gasoline tax is among the highest in the world (the retail price comes to almost $10 per gallon at the pump). The value-added tax is somewhat lower on groceries and culture, and eliminated on newspapers.

Norway did not end or reduce any of its taxes when the oil and gas dollars started to flow.

Government officials said citizens don't complain much about high taxes because they receive so much in return and because life generally is pretty good in Norway. The future, however, is unknown. "It will be hard to meet expectations of past successes," one official said, wondering how residents would react if the good times ever slow down.

Though the savings account is called the Government Pension Fund, none of the earnings go toward pensions - government or otherwise - at this time. Norwegians generally understand, however, that the fund will be used to help pay for public pensions and other programs when the economy declines as oil and gas production plays out.

Until then, the government targets a 4 percent annual withdrawal of the fund's market value to help supplement the federal budget, much like the percent-of-market-value approach advocated unsuccessfully so far for the Alaska Permanent Fund. That 4 percent transfer from Norway's savings account- approximately $21 billion U.S. dollars this year, at current exchange rates - accounts for about 10 percent of the nation's budget.

The government takes what's needed each year since establishing the 4 percent target a decade ago, sometimes a little more and sometimes less.

The fund's asset allocation is 60 percent in global equities, 35 percent to 40 percent in bonds, and up to 5 percent in real estate - not too different from the Alaska Permanent Fund. And like Alaska, Norway does not invest its savings account in local business ventures. All of its money is invested abroad; better for risk diversification, the managers said.

The Ministry of Finance explained to the visiting Alaskans that the savings account is not used as a "second budget for 'less-qualified' projects."

The Norwegian Central Bank manages the fund, which was created in 1990.

Norway was fortunate - though they didn't plan it this way - in that its peak years of oil production came during the years of high prices this past decade. That did a lot to boost the value of the savings account.

Oil and gas lease bidding

The bid process in Norway is much different than in Alaska or elsewhere in the United States (Canada, too). Bidders do not pay a bonus, nor do they offer any upfront cash. The government sets out clear criteria in its bid notice, including the share it may retain for Petoro, and then sits back and judges the bidders to determine which companies can do the best job.

Before going out to bid, the government pays for seismic work - not too detailed - to give it and bidders a better idea of what may be out there.

Bid criteria include experience and expertise in the geology necessary to explore and produce a particular prospect, management skills, financial capability, and a development plan judged most likely to produce results. The process keeps speculators out of the game, which is good, government officials said. Norway wants results, not investors looking to turn leases at a profit.

And here's something you don't see much in Alaska, or anywhere in the United States for that matter: Losing bidders cannot protest or challenge the government decision. Norwegian officials said they explain to losing bidders why they didn't get the lease, so that they can try harder next time to win.

If a winning bidder fails to act within the timeframe specified in its development plan, extensions are possible but not likely. Failure to work on time means the lease goes back to the government. That's somewhat less painful than it is in Alaska or in a federal lease sale where winning bidders pay millions, tens of millions or even a billion dollars or two to win a large swath of leases. If they lose their leases due to inaction, they lose their costly bonus payments.

Social responsibility

It's not all about filling the oil-wealth savings account and keeping the money in Norway. The government operates the Oil for Development Program, distributing about $40 million a year worldwide to help emerging countries do a better job of developing their oil and gas resources. Program advocates talk of "capacity building" and "transfer of knowledge," along with environmental and financial management training - in some cases, helping to write the nation's oil and gas laws.

The overriding goal is poverty reduction by using oil and gas dollars wisely. About half of the aid goes to African nations.

The rules governing investing by Norway's savings account reflect similar social responsibility.  No investments in companies that produce weapons that may "violate fundamental humanitarian principles" or produce tobacco (though tobacco is legal in Norway). There are other exclusions dealing with child labor, human rights, corruption and severe environmental damage.

Larry Persily is federal coordinator for Alaska Natural Gas Transportation Projects in Washington, D.C. His views are his own.