The cost to BP of the Gulf oil spill

The civil suit against BP brought by the US government on Wednesday had been inevitable since we first found out that thousands of barrels of oil were spilling into the Gulf of Mexico. The timing of Wednesday’s announcement, mandated by the judge at the New Orleans court where the trial will be held, was the only surprise. It perhaps did not send the best message about the business-friendly nature of the administration, on a day when President Obama was courting many of America’s top CEOs.

The share price reaction was modest, reflecting the fact that while the headlines are terrible for sentiment, investors always knew this day would come. The news looks bad for BP, but shareholders can still hope for better, as the Lex column points out.

Nevertheless, the Department of Justice’s action is a salutary reminder that, eight months after the fatal accident on the Deepwater Horizon, and three months after the ill-fated Macondo well was sealed for good, BP is still not even close to finding out exactly how much the disaster will cost.

For years to come, the uncertainty over the impact of the spill will hang over the company’s investors and management. (It will be, among other things, a good reason for Exxon or anyone else not to make a bid for BP.)

Several billion dollars of that uncertainty could hang on a highly technical question: exactly how much oil flowed into the Gulf.

Estimates of the rate at which oil was flowing from the Macondo well have been controversial right from the start of the spill.

As the excellent paper prepared by staff for the US presidential commission on the spill makes clear, the US government’s first estimate of the size of the leak – 5,000 barrels per day – which was the official line for a month, was woefully short of the mark. Professor Ian Macdonald, an oceanographer at Florida State University, got much closer to the truth much more quickly.

Mistakes in the initial estimates are understandable, because there is no sure-fire way to estimate the rate at which oil is flowing out of a pipe. Professor Macdonald’s calculations were based on satellite pictures showing the size of the growing slick; other scientists watched the video from robot submarines on the sea bed showing the oil pouring from the broken pipes. Both did better than the US government estimate, but both came up with figures that were later believed to be too low.

As time went on, more precise estimates were available, from the various methods used by BP to catch some of the escaping oil, and from pressure sensors connected to the blow-out preventer, the broken stack of valves on the sea bed through which the oil was pouring.

The latest official estimate from the US government is that the Macondo well started flowing at 62,000 barrels of oil per day, and slowed to about 53,000 barrels per day, as a result of the natural decline common to all oil fields, over the 87 days that it was leaking. That gives a total volume of 4.9m barrels escaping from the well, of which about 850,000 barrels were captured by BP using its various devices such as the riser insertion tube and the containment cap.

US government officials generally settle on the figure of 4.9m or 5m barrels as the size of the spill. If BP is found to have been grossly negligent in the decisions taken by its employees that led to the accident, that could give a total fine, at $4,300 per barrel under the maximum penalties from the Clean water Act 1972, of $21bn.

BP, however, challenges that calculation on a number of counts. For a start, it says, the relevant figure for the size of the spill should be what went into the water, not what was released by the well, giving 4.1m barrels and a maximum fine of $17.6bn.

But BP goes further, also arguing that the 4.9m figure is much too high, and that the true figure is likely to be only about 50-60 per cent of that.

Some of its reasoning is set out in a paper submitted to the presidential spill commission, and posted on the commission’s website. In that paper, BP argues that the flow rate on July 14, the date before the well was sealed off by the containment cap, was lower than the US government estimated, and the flow on April 22, two days after the accident, was lower than the flow on July 14.

The reasons BP gives are technical and complex, involving different interpretations of pressure and temperature data during the spill. But one of its central arguments is clear: far from declining over time, as the US government’s scientists have argued, the flow from Macondo is likely to have increased, as the rushing oil cleared a path for itself through the detris and broken pipes in and around the blow-out preventer. BP actually goes back to some of the earlier estimates from the government’s advisers to support its case. (In May the government’s Flow Rate Technical Group estimated that 12,000-19,000 barrels per day were escaping.)

If BP can also prove its case that the mistakes made on the rig and at its Houston HQ for oil exploration do not amount to gross negligence, then the Clean Water Act fine would be $1,100 per barrel, not $4,300. The total bill could be not $21bn, but just $3bn.

Limiting to the penalties to that level will not be easy, however. The US government suit also calls for “a judicially assessed civil penalty in an amount to be determined at trial” under the Clean Water Act, as well as the specified penalties. Under the separate Oil Pollution Act of 1990, it also says “without any limitation… defendants are liable for removal costs and damages in this action and in any such subsequent action or actions.”

How large could those costs, damages and penalties be? We will not know for a long time. As Tony West of the Department of Justice put it:

It’s going to take years to fully quantify what the damages are

It is hard to see this administration wanting to let BP off the hook with a mere $3bn fine. (Although a future Republican president might perhaps take a different view. Joe Barton, the Republican congressman from Texas, famously apologised to BP for President Obama’s “shakedown” of the company, although he was quickly forced to retract his apology.)

However the trial in New Orleans turns out, it is likely that one side in the case will want to challenge it. The litigation over the 1989 Exxon Valdez spill went on for 20 years, and it would be no surprise to see BP’s legal battles last longer. Even on BP’s numbers, the Macondo spill was ten times the size.

Whatever progress BP may be making with improving its safety systems, restructuring its corporate organisation and reshaping its asset portfolio, it is still impossible to imagine it escaping the shadow of the spill.

Energy Source is no longer updated but it remains open as an archive.

Insight into the financial, economic and policy aspects of energy and the environment.

Read our farewell note

About the blog

Archive

« Nov Jan »December 2010
M T W T F S S
 12345
6789101112
13141516171819
20212223242526
2728293031