How BP’s oil spill costs could double

LONDON - Last month, BP increased by $8 billion the financial provisions it was taking for the Gulf of Mexico oil spill; the company’s shares rose. Better-than- expected underlying profits and upbeat comments from new Chief Executive Bob Dudley were taken by the market as a sign the company had turned the corner and would soon return to pumping out steadily rising dividends.

Key to this sanguine outlook is confidence that the new estimate of the total cost of the spill — $40 billion — will be sufficient. “We think that $40 billion adequately provisions for the liabilities that are outstanding so far,” said Mark Lacey, Fund Manager at Investec Global Energy Fund. Paul Mumford, fund manager at Cavendish Asset Management, went further, saying the provision is likely to be overly conservative: “You might well find that you get provision write-backs,” he said, hinting the bill could be lower.

That optimistic view may turn out to be true. BP executives have said this is their “best estimate” of costs, adding they could turn out lower. But history shows there is ample scope for nasty surprises from BP. The London-based oil giant last year it was the biggest non-state controlled oil and gas producer in the world has so far consistently underestimated the scope and potential cost of the Gulf spill. It also has a track record of low-balling disasters, including the fatal Texas City refinery blast in 2005. Not only has the company underestimated the cost of repairing equipment and ecosystems in the past, it has also made overly optimistic assumptions about legal challenges.

That may be happening again.CEO Dudley, an American who took over from Briton Tony Hayward in October, has said a $20 billion fund BP created to compensate victims of the spill should cover all damages claims. The lawyers who are suing BP don’t think so.

“The total value of the claims already registered could exceed the amount of money that has been dedicated to pay the fund,” said Texas-based trial lawyer Brent Coon, who represents victims of the explosion and subsequent spill and who was prominent in litigation against BP after Texas City.

“Then you have the claims that have not been filed yet, and claims from those indirectly impacted, and shareholder derivative claims ... You have very large potential claims that could, in total, be exponentially greater than the amount set aside.”

Zygmunt Plater, Professor of Law at Boston College Law School, agrees. “In the short term, it’s in everyone’s interests within the company to low-ball — but the portents are there for a realistic inflation of $20-$50 billon,” he said.

An analysis by Reuters of the potential fines, damages, costs related directly to the leak, compensation and the damage to BP’s business suggests the final spill bill could, over the long term, end up much higher than BP’s latest provision perhaps even more than twice as much.

Much hinges on whether U.S. courts find the company was “grossly negligent” in the run-up to the disaster, but there are other risks. BP declined to comment for this article, beyond stating that it stands by its statements on the likely costs and that its estimates are based on the assumption that it was not grossly negligent.

BP’s inability to gauge the true scope of the spill in the early days in April is well documented. After the Deepwater Horizon rig sunk, following an explosion which killed 11 workers, the company initially hoped to staunch the flow of oil from the well by activating shut-off valves with subsea robots. In case this didn’t work, it started drilling a relief well to permanently plug the well from below.

A week after the blast, the company said the well would take three months to complete and cost $100 million but that would be the most expensive part of the whole response operation.

Combining this with the daily expenditure that BP reported at the time suggested a total bill of $200 million. BP hinted then that even this calculation was pessimistic.

As estimates of the spill flow increased it eventually became the worst in U.S. history so did the cost. From an initial 1,000 barrels per day to 5,000 bpd, it finally reached 62,000 bpd.

In June, BP told analysts the cost of containing and cleaning up the spill would be $3-6 billion. By mid-September, the response effort alone, excluding damages claims, had cost BP $8 billion.

- Reuters