For BP, The Question Is How Much Oil Really Spilled in 2010

Oil

BP (NYSE:BP) has acknowledged responsibility for the Gulf of Mexico oil spill that killed 11 men and spewed millions of barrels of crude oil into the ocean, and it has spent more than $25 billion on cleaning up the marshes, fisheries, and beaches along the coast and compensating victims. That spending is just the tip of the company’s spill-bill iceberg. In total, $42.4 billion has been spent or earmarked for spending on cleanup, compensation, fines, and other costs. BP has even sold assets that generated $5 billion of cash flow per year to pay those expenses.

Up until approximately six months ago, BP attempted to cooperate with the mountain of litigation that government agencies, private individuals, and businesses dumped on its docket. But in February, that changed. The company stopped pursuing a settlement for the federal government’s civil charges and the trial began in the New Orleans district court.

The task of the court was to apportion blame between BP and its contractors — rig owner Transocean (NYSE:RIG) and cement provider Halliburton (NYSE:HAL) — and determine whether any or all of those companies acted with gross negligence during the events that precipitated the oil spill in April of 2010. At issue now, in the second phase of the three-part trial that began Monday, is how much oil spilled from the Macondo well, whether BP prepared enough for an accident such as the well explosion, and if the company responded correctly once oil began to spill.

Since the beginning, BP has argued that in a rush to punish the oil producer for the worst offshore oil spill in United States history, the federal government miscalculated the number of barrels of crude that flowed into the Atlantic ocean, estimates that were made by a team of scientists from all over the country. The government will argue during this phase of the trial that 4.2 million barrels of oil were released into the sea over a period 87 days, the equivalent of nearly one-quarter of all the oil that is consumed in the United States in a single day.

For its part, BP’s lawyers will contend that number of spilled barrels was closer to 2.45 million barrels. Both figures include the 810,000 barrels of oil that BP and the U.S. government agree were collected at the wellhead, preventing additional seepage into the ocean. Technical experts for both sides will argue their cases over the next few weeks. “This will be largely a battle of experts,” Blaine G. LeCesne, a law professor at Loyola University New Orleans, told The New York Times.

According to Martin Blunt, a petroleum engineering professor at London’s Imperial College who authored a 209-page report on the spill earlier this year, the reason for the difference in the calculations is that  government experts changed the method used to calculate the flow rate, which caused the higher, and what he believes to be erroneous, total.

Blunt said that the main difference between his estimate of approximately 2.46 million barrels and the 4.2-million barrel estimate of several U.S. experts is that they doubled the “compressibility from the value measured on Macondo rock samples.” Compressibility is a measure that determines how much oil is released for a reservoir as the pressure drops.

He added that if U.S. experts used the same rock compressibility that he did, they would have obtained about the same value for cumulative flow as he did. Blunt also said that the U.S. experts did not have scientific justification for their decision to double the rock compressibility from the measured values. “We will see that this has been a repeated problem in the work of the government experts,” he wrote.

“There is a choice: either accept their calculation of (nearly) 5 million barrels, despite the lack of any scientific explanation of why the measurements are wrong, or perform a calculation consistent with the data and arrive at a lower value,” Blunt concluded. “I have chosen the latter approach.”

In court papers, BP’s lawyers offered up further evidence to support the company’s claims. The government based its spill estimate on data gathered during a single weekend in July, which did not take into account the fact that the flow rate changed over time due to erosion and other factors, according to a filing. In a second filing, BP explained that its engineers and contractors worked closely with the federal government to secure the well.

“BP’s engineers shared an abundant amount of data with government representatives, including holding daily meetings at which they shared material information regarding the source control strategies being developed,” read one document acquired by the Times, which also stated that BP, along with other oil companies, had developed spill response plans that had the approval of federal regulators before the accident.

However, the plaintiffs in the civil trial — which include the federal government, several gulf states, and private individuals harmed by the spill — have claimed in court documents that BP “repeatedly lied to key decision makers about the flow rate of the well.” They added, “but for BP’s fraud, the well could have been capped weeks earlier.” The Department of Justice has also argued that BP’s low barrel estimate depended on calculations “that contradict those used by BP in making drilling decisions and during the response.” Both Halliburton and Transocean agree that BP lied about the flow rate and delayed capping the blown out well.

The exact number of barrels that spilled into the ocean from the blown out well is of particular importance because BP’s Clean Water Act fine will be calculated per barrel. That fact alone makes this stage of the trial the most crucial for the company’s finances and for the company’s shareholders.

Under the Clean Water Act, a charge of gross negligence comes with penalties amounting $4,300 for each barrel of oil that seeped into the ocean, which that would bring the total fine close to $17.6 billion. But if BP is found to be “no more than negligent,” a $1,100-per-barrel fine will be used to calculate the company’s penalties. Then fines would amount to $4.5 billion, or $2.7 billion if the court determines only 2.45 million barrels spilled. The first phase of BP’s trial focused on the question of gross negligence, but Judge Carl J. Barbier has not yet made his ruling in the bench trial.

Any amount over the absolute minimum fine would be a burden for BP, given its annualized earnings, based on last quarter, are running at about $17 billion. In preparing for civil fines, the company only set aside $3.5 billion. The maximum penalty is almost five times that figure. It would drain the remaining funds that have been set aside. “They would have to sell assets to keep the company afloat,” Fadel Gheit, a senior oil analyst at Oppenheimer & Company, told the Times, describing how the $17-billion fine would affect BP. “It would wipe out all of their cash.” However, legal experts say the likely fine will fall somewhere between the two extremes.

When the oil producer pleaded guilty last year to manslaughter, the obstruction of Congress, and 12 criminal charge that were brought by the federal government after the oil spill, it was ordered to pay a $4.5 billion fine.

That guilty plea also resulted in a suspension from bidding on federal government drilling contracts, which will be maintained until BP can negotiate an administrative agreement with the Environmental Protection Agency. Four current and former employees also face criminal charges.

Plus, despite its best efforts to renegotiate a settlement, the company is continuing to compensate individual and business who were harmed by the disaster. By the end of June the cost of compensation had hit $9.6 billion, and since then, restitution costs have continued to climb and will continue to climb because there is no cap. The company has claimed that court-appointed fund administrator Patrick Juneau has compensated “fictitious and inflated losses” and misinterpreted the settlement, which has pushed its claims bill above its March 2012 estimate by almost $2 billion.

BP’s business has suffered since the disaster: BP’s shares have lost about a third of their value, and the company divested less-profitable assets in the North Sea and Angola, which were worth about $39 billion and generated $5 billion in cash flow, or approximately one-fifth of its earning power, before 2010. Before the oil spill, BP was the second largest oil company by assets — now it is fifth.

Transocean already has pleaded guilty for its role in the spill, paying $1.4 billion in civil and criminal fines under the Clean Water Act, while Halliburton has pleaded guilty to destroying key computer test results and paid $200,000 in fines.

Follow Meghan on Twitter @MFoley_WSCS

Don’t Miss: Can the Fed’s New Magic Tool Bring Market Stability?