Two consultants to the state Legislature have warned that Gov. Bill Walker’s quest for an expanded state-led natural gas pipeline could undermine the larger industry-led gas project in which the state is also a partner.

“The state and its commitment has become a major risk factor for the Alaska LNG Project,” Nikos Tsafos, of the consulting firm Enalytica, told the Senate Resources Committee April 16. “A process where the state is appearing to pursue two projects at the same time could undermine both.”

Tsafos and his partner Janak Mayer appeared before the committee.

Walker has announced plans to increase the shipping capacity of a small state-led gas pipeline from 500 million cubic feet per day, a volume intended for Alaska communities, to a capacity between 1.6 billion and 2.6 billion cubic feet per day, which would be intended for export markets.

The larger volume and likely link with a yet-to-be-identified partner to build a large liquefied natural gas plant has raised concerns in the Legislature that the governor’s pipeline would be in competition with the privately-led Alaska LNG Project.

ExxonMobil is managing the project with BP, ConocoPhillips, TransCanada Corp. and the state as partners.

Walker has said that he doesn’t intend the state project to be competitive but rather a backup plan in case the industry-led project does not go forward.

The governor’s comments as he announced the new plan earlier this spring created the impression that he intended a competing project. He then described the plan as being developed in tandem with the Alaska LNG Project so that when both are ready for a decision the state could decide which one to go with.

More recently Walker has clarified his position, in a speech to an Anchorage business group and in a press briefing, that his project is not competition, and that once the scale-up engineering is done he will “put it on the shelf,” until it is clear the Alaska LNG Project is moving forward.

However, some damage may have already been done because the impression in the market that the governor may move the state in a different direction has raised questions about how firmly aligned the industry group and the state really are on the project.

Tsafos and Mayer, in their presentation to the Legislature, said the governor’s concern that any one company in the consortium could block progress is legitimate but that there are simpler solutions than the state developing its own large gas and LNG export project as an alternative.

They suggested a buy-out provision in the final contract among the partners where, if any partner fails to agree on forward movement, another partner or several partners could buy out the reluctant party.

This is common in large, complex project organizations, Mayer said, and in fact precisely this happened in the case of Point Thomson gas development where Chevron, one of four major owners of the gas leases, failed to agree on a development plan.

ExxonMobil stepped in to buy Chevron’s interest, which allowed Point Thomson development to proceed.

However, there is now some damage being done to the credibility of the Alaska LNG Project by the governor’s “Plan B,” Tsafos told the senate committee.

“The introduction of a new idea (the Plan B) along with the governor’s announced 45-day review (by the state) of the Alaska LNG Project agreements has raised questions about the alignment within the project,” he said.

As independent consultants, Tsafos and Mayer wanted to have a “frank conversation” with legislators about the implications, they said.

Maintaining a proper alignment of interests among the industry partners, and the state, is seen as crucial by potential LNG buyers who will be asked to sign the large long-term purchase agreements for the liquefied gas necessary for the project to be financed. There are many competing LNG projects after the same buyers and signs of a lack of commitment by the state will weaken the negotiating position for the Alaska project sponsors.

Tsafos and Mayer ticked through a list of five “must-haves” for an Alaska gas project, either led by industry or the state:

— Is the gas supply reliable?

— Are the sponsors credible?

— Is there “stakeholder” buy-in and mechanisms to resolve differences?

— Is the “ecosystem” favorable, meaning the presence of infrastructure and people to build the project?

— Is the project commercially viable?

Tsafos said the Alaska LNG Project scored a “green light” on all factors except commercial viability, which is yet unknown.

“The gas supply is well-known and proven, and Point Thomson is a new, additional resource although they are technical issues,” with the high-pressure reservoir, Tsafos said.

On credibility of the sponsors, the three major producers involved are some of the largest and most experienced players in world LNG markets, he said.

“It is very unusual to have this much capability committed to one project. After a long history of failed projects (with Alaska North Slope gas) we now have all three major producers committed, spending money and devoting considerable management time,” to the project, Tsafos said.

As for infrastructure and human capability, Alaska is in a far better position than it was 40 years ago when the Trans-Alaska Pipeline System was built, he said. On stakeholder buy-in, “a lot has changed since last year with the state and the companies seeing themselves as partners,” Tsafos said, referring to the passage of Senate Bill 138 authorizing the state to participate as a 25 percent partner in the project.

Tsafos contrasted this with two other scenarios, one a state-led gas project on its own, with no industry project, and the other where the two projects were pursued simultaneously, on parallel tracks, at least in the eyes of potential LNG buyers.

For a state-led gas project on its own, the gas supply issue, most critical to LNG buyers, scored a yellow light.

“Without the three major gas producers involved in the project it is unclear where the majority of the gas is going to come from,” Mayer said.

The state might control up to one quarter of this if the royalty and tax share are taken “in kind,” or in the form of gas, but even this is uncertain because the state can’t receive its royalty or tax share until the companies produce their own gas.

“It’s also very rare for large companies like these to sell their gas at the wellhead,” to an independent pipeline, such as one led by the state, he said.

It’s more typical that they would want to gain more value by participating in other parts of the value chain (the pipeline and LNG project).

On the credibility score, a state-led pipeline nets a “red” light, Mayer said.

“There is (currently) no information on who the (other) sponsors are. The state has considerable financial strength but not a lot of experience. When we look at successful LNG projects around the world, they are led by established players,” or experienced companies, he said.

Mayer also spoke to the idea of involving “the market” in the project financially, or whether LNG customers might take a stake in the project with the state.

“There are cases where LNG customers become partners but they usually do this by taking a small equity share,” typically in the LNG plant, he said. “These companies have no substantial experience in operating or developing,” an integrated project.

World LNG buyers and sellers are a very small group of firms who know each other well.

“This is a niche, a very tight, narrow group. We know of companies that are very capable, for example in the upstream, but they are not LNG players and when they show up with an LNG project these people say ‘who are you?’” Mayer said. “You have to prove your capabilities, or have partners with proven capabilities.”

Mayer said he and Tsafos surveyed energy companies in Japan, Korea and China and found two examples of companies engaged in development, “but these were in the upstream (producing) and not downstream (the LNG),” he said.

In a follow-up clarification on this point, Tsafos said, “Most Asian buyers that Alaska would target tend to take small stakes and are generally not project sponsors. They would likely be interested in small stakes, but none would have the resources, technical track-record or the organizational capacity to become the project developer for this enterprise.”

One exception to this, in Asia, would be Mitsubishi, he said, which technically works as a supplier and buyer, “but is definitely not a utility (customer). But even Mitsubishi generally works with major companies, such as Shell in a number of places,” Tsafos said.

A project driven primarily driven by the state as the majority owner could be done but it would face a huge uphill battle convincing customers or other companies that this is something they should be involved in, Mayer said.

“It has happened but it’s not easy. We’ve seen people go four to five years knocking on doors,” trying to build credibility for a project, he said. “In most cases with LNG the project starts with the resource base, the suppliers, and then involves the market.”

The worst results came in analyzing a problem where an industry-led and state-led projects are proceeding in parallel, Mayer said. In this situation the presence of the state-led project casts doubt on the industry-led project.

“In the most important question, the gas supply, the state-led project goes from a yellow to a red because as long as Alaska LNG is in the mix the producing companies could commit their gas to that project. However, Alaska LNG also goes from green to yellow in gas supply because there is uncertainty as to whether the state will commit its gas,” he said.

The state’s position can be a huge factor in the market.

“The sovereign stands for a lot,” and its support or even appearance of lack of support will reinforce Alaska LNG or undermine it, he said.

Sen. Cathy Giessel, R-Anchorage, chair of the committee, asked if the U.S. Department of Energy would grant an export license to a LNG project without a supply of gas.

Tsafos said the Department of Energy, in the case of Lower 48 export applications, doesn’t involve itself in the gas supply issue because there are a large number of gas producers and a well-developed pipeline grid. In Alaska, however, the agency wants to be assured that the gas has been committed.

“This was the reason why the (Alaska Gasline Port Authority, in which the governor was involved) application was turned down. That was the only export application the DOE has turned down in the last four to five years,” Tsafos said.