Alaska gets tough on Big Oil

(Fortune Magazine) -- First the good news: Alaska's North Slope may hold 235 trillion cubic feet of untapped natural gas. Now the bad news: There's no pipeline to carry it 3,600 miles across the tundra to U.S. and Canadian consumers. And while today's natural-gas prices could support the $25 billion pricetag, a staredown between Alaska's governor and Big Oil may scuttle the plan to build one.

Alaska's new governor, Sarah Palin, 43, was elected last November on a simple platform: Get a natural-gas pipeline built on Alaska's terms. The previous governor had negotiated a deal with the North Slope producers - Exxon (Charts, Fortune 500), BP (Charts), and ConocoPhillips (Charts, Fortune 500) - to build a pipe from Prudhoe Bay to the Lower 48. In exchange the state would reduce their taxes by 5%.

Governor Palin nixed tax breaks for pipebuilders.

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Governor Palin doesn't think Big Oil needs such inducements. With a pipeline delivering 4.5 billion cubic feet a day to market, the producers stand to gross up to $1 billion a year each at current prices.

"Being reasonable commercial operations," she says, "I expect the Big Three will act responsibly." Which is why she has asked them to submit bids in a competitive process open to any company that might want to build a pipeline. She thinks the threat of having to pay someone else fees to ship their gas might get one of the three to bid.

The plan could backfire, costing the people of Alaska future revenue. Why? North Slope producers may skip the open-bidding process in hope of getting back the terms of the state's original deal. "As far as we know, they're not going to apply," says Ron Brintnell, director of gas development at Enbridge, a Calgary-based pipeline builder.

A spokesperson for Exxon Mobil, the only producer that would comment for this story, said, "We are evaluating our options." Bids are due at the end of November.

While there are several pipeline builders that could bid, including Enbridge (Charts), TransCanada (Charts) (North America's biggest), and MidAmerica (which is owned by Berkshire Hathaway (Charts)), these companies are unwilling to build the most expensive private pipeline ever without assurances that the oil companies will agree to use their pipe - assurances Exxon, BP, and ConocoPhillips haven't offered anyone.

"It's high-stakes poker," says Ken Minesinger, a lawyer at D.C.-based Greenberg Traurig, the firm representing Alaska. "The Big Three know how to play this game."

If indeed there are no bids, Governor Palin has options, including suing the producers or having the state finance the pipeline. But those remedies would add to what will already be at least a seven-year build time for the pipe and possibly even drive costs beyond the point at which it would make economic sense to extract the gas.

Can the rest of us afford that delay? Natural-gas prices tripled from the late '90s to nearly $6 per thousand cubic feet today, reaching as high as $12 when Katrina disrupted production in the Gulf of Mexico. Alaska's gas could nearly double U.S. reserves and add about 10% to annual production.

"It would have a dramatic effect on price and volatility," says Mark Hand of SNL Energy, an independent analysis firm. "The Lower 48 market really needs that pipeline." But before that happens, someone needs to blink first.