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November 18, 2013

LNG Tax Facts Confront Clark Government

Before the May 2013 election, Premier Clark failed to mention that her government planned on more than doubling the tax/royalties per unit of production for natural gas. It also failed to draw attention to how it changed existing royalty offsets with a stroke of cabinet's pen. Clark made incredible claims about future LNG revenues and how they would produce a "debt-free BC". Slowly the facts are catching up with the Clark government but we can't count on truth getting in government's way.

The Clark government continues to promise that a LNG revenue framework will soon be finalized following negotiations with the proponents of one or more projects. British Columbians might see the results of those negotiations in the form of legislation when the Legislature next sits. Before the election the government commissioned reports from two consultants on the question of what revenues it might expect from LNG development. I submitted a freedom of information request for the information government provided to its consultants but that is a matter still under appeal to the office of the Commissioner. We are unlikely to ever see a comparison from government of the revenue claims made before the election with those expected following negotiations with LNG developers but it is possible to do some rough calculations to reveal what the government was assuming with its pre-election claims.

The consultants' reports found that on capacity of 82 million tons per year (MTA) by 2018, provincial revenue might range between $79 billion and $162 billion in 2012$ over the 20 year operating period to 2038. When LNG is regasified, 1 million metric tons of LNG equals 48.7 billion cubic feet (BCF) of natural gas. Of course it takes more than 48.7 BCF of natural gas to produce 1 MT of LNG because some is used in the liquification process. For the sake of simplicity multiply 48.7 by 82 to get an idea of how much natural gas would be consumed by the "Base Case" assumed for the government's pre-election revenue claims, and you get 4 trillion cubic feet (TCF). BC currently produces 1.1 TCF of natural gas which means the pre-election claims by the government were based on assuming natural gas production would be five times greater by 2018 than it is now. What that means for greenhouse gas emissions, water consumption and other environmental considerations is a topic best explored elsewhere; this is just a look at what's behind the revenue claims.

The 2013-14 budget documents, both pre-election in February and post-election in July, provided details on natural gas royalties (and on deep well credits which are subtracted from royalties). The government estimated 2013-14 natural gas royalties of $397 million based on 39.1 billion cubic metres of production at an average price of $2.25/gigajoule, rising to $518 million in 2015-17 based on 48.3 billion cubic metres at an average price of $2.89/gigajoule. Using the 2015-17 assumptions on price,royalties and credits, and multiplying by the 5 TCF of natural gas production assumed for 2018, yields an estimate of $1.5 billion per year in 2018. The consultants' reports indicated a minimum of $4 billion per year, suggesting the government was claiming an additional $2.5 billion per year on taxes and royalties on LNG above and beyond revenues attributable to the production of the feedstock for the LNG.

The calculations demonstrated here indicate that before the election the government assumed it could more than double its take from the natural gas industry. Any grade 8 math student could do these calculations, and multinational petrochemical companies are a little more sophisticated than that. You can bet that whatever LNG revenue framework the Clark government eventually introduces as law won't come close to more than doubling its take per unit of production from the industry. Bye-bye "prosperity-fund"!

Of course all of these calculations are subject to change. Prices in both North America and Asia could go up or down. Costs of production could change if industry had to sequester or otherwise reduce greenhouse gas emissions rather than engage in shams to cover damage, be they offsets or claims for substituting for coal. One of the major uncertainties is the opposition of purchasers to paying oil-linked prices on long-term contracts for LNG. A spot or futures market with increased supply could radically change the economics of the industry.

During the election campaign the Liberals tried to suggest that the New Democrats would create additional uncertainties for the LNG industry. One of the NDP's campaign failings is it didn't draw attention to how Clark's government arbitrarily changed net royalties for the natural gas industry. With the stroke of cabinet's pen, with an order-in-council, royalty credits were substantially changed, eliminating the summer incentive and setting a minimum 3% royalty, irrespective of credits due, on deep wells. How can any petrochemical company trust the Clark government? With the stroke of a pen it can change its payback calculations in an instant, as it did in March 2013! Perhaps that will play a role in decisions by the industry on how many LNG trains will actually be built in BC.