Even as its plans to keep 2014 capital spending flat at roughly $24-$25 billion, BP (NYSE:BP) plans to significantly increase its capital investment in Alaska this year. Why is the British oil giant suddenly so bullish on a state whose oil production has been on a steady downward trend for nearly three decades?
The power of incentives
According to Janet Weiss, president of BP Exploration Alaska, BP will ramp up capital spending in Alaska by 25% to $1.2 billion this year, with much of the increase going toward activities designed to boost production, such as drilling, well work, and major projects. The main reason behind the company's change in plans is the state's recent introduction of a much more favorable tax rate.
In May of last year, Alaska Governor Sean Parnell signed a bill that got rid of the previous "progressivity" system adopted by former Governor Sarah Palin, which linked oil companies' taxes to the price of crude oil. Under Parnell's More Alaska Production Act, or SB 21, energy producers in Alaska will now have to pay a flat tax of 35%.
The new tax law is already making a big splash in the energy industry. Only a few days after the bill was signed, ConocoPhillips (NYSE:COP) announced that it would increase its investment in the state by adding another rig in the Kuparuk field. It then said it November that it would add an additional rig early this year and is also planning to drill two exploration wells west of the Alpine field as part of a joint venture with Anadarko.
BP's plan in Alaska
Similarly, BP announced in June that it will boost spending by $1 billion in the Prudhoe Bay field, which it owns along with ConocoPhillips and ExxonMobil (NYSE:XOM), to add two new drilling rigs in 2015 and 2016. The company is moving toward a 15-well Prudhoe Bay program in 2015 and 2016, which, if successful, could allow some 200 wells to be drilled.
Prudhoe Bay was discovered in 1968 and remains one of the largest oil fields in the world. Over the past three decades, BP has used techniques including large-scale gas cycling, water flooding, and miscible gas injection, among others, to maximize oil recovery from the field. The successful application of these oil recovery techniques allowed production from Prudhoe Bay to surpass the 12 billion barrel mark in 2012.
BP is also evaluating an additional $3 billion worth of projects in Prudhoe Bay that could boost its production by as much as 40,000 barrels a day, as well as another project that aims to develop North West Schrader, a viscous oil deposit in the Milne Point Field. Development of North West Schrader would require $1 billion to $2 billion in capital investment and BP plans to conduct various tests in the area over the next few years.
BP operates four pipelines and 13 oil fields in Alaska's North Slope, including Prudhoe Bay, Endicott, Northstar, and Milne Point, and owns major interests in six other producing fields. The state is a significant contributor to the company's production of liquids, accounting for 139,000 barrels per day in 2012 -- more than its total production from Europe.
BP's return to cash flow growth
While BP's new Prudhoe Bay investments won't have a meaningful impact on the company's production until much later this decade, the company has a handful of major high-margin oil projects coming online this year to boost production and cash flows. They include Mars B and Na Kika Phase 3 in the Gulf of Mexico, Kinnoull in the U.K. North Sea, Total-operated (NYSE:TOT) CLOV in offshore Angola, and Husky Energy-operated (TSX: HSE) Sunrise Phase 1 in Canada's oil sands.
In addition to these new projects, the start-up of its upgraded Whiting refinery in Indiana and the reversal of last year's working capital build of $5 billion should help the company boost operating cash flow this year to $30-$31 billion, up from just $21.1 billion last year. This should allow it to easily fund its capital program for the year with plenty left over for dividends.
The bottom line
As evidenced by its increased investment in Alaska, BP is eager to boost production and cash flow in the years ahead. With the company likely to return to material growth in operating cash flow this year, shareholders can expect to be rewarded more handsomely through dividends and share buybacks in the future. Still, investors can expect BP's share price to remain under pressure until the final verdict regarding its role in the 2010 oil spill is announced.