GoM accident: assigning blame and liability

In recent days, Citigroup Global Markets has provided some of the more lucid explanations with respect to the financial and legal implications of the April 20 Deepwater Horizon accident in the Gulf of Mexico on the various companies that provided drilling services to the rig. The firm’s research and analysis division – including Robin Shoemaker, Edward Muztafago, Scott McDonald, and Garrett Gough – have issued several reports with their thoughts on oil spill liabilities and the financial impact the accident and spill are having on the oil service and equipment industry.

Citigroup says the recent selloff in the shares of Transocean, Cameron, and Halliburton – totaling about $5 billion in lost equity market value – was excessive. Many investors were apparently not aware that BP (the operator), like most other oil companies, outsources nearly all aspects of drilling oil and gas wells to service companies who are shielded from certain liabilities by their customers. If service companies were to agree to assume the liability for a loss of well control and for environmental damages from a blowout, they would have to charge substantially more for the drilling services they provide. The oil companies also indemnify the service companies against lawsuits that may be filed against them in connection with a well blowout and a subsequent oil spill.

This is why BP will end up paying the lion’s share of the bill in connection with the massive cleanup. Anadarko with a 25% stake in the well and Mitsui with a 10% investment will also shoulder part of the burden.

Assigning blame for the blowout, whenever that is determined, will not change the fact that contracts between BP and the drilling and service providers clearly assign liability for the oil spill response and payment of damages to BP.

At the May 3-6 Offshore Technology Conference in Houston, which drew more than 72,000 attendees this year, there was a great deal of unease over the long-term impact of the oil spill on offshore drilling in general and deepwater drilling in particular. New safety regulations and greater oversight of offshore drilling is a near certainty in the wake of the blowout. Undoubtedly the procedures for detecting and controlling blowouts will be reviewed and strengthened. However, it is doubtful that the United States or any other government will choose to suspend or curtail deepwater drilling. The critical need for hydrocarbons to keep the economies running is too important to risk throwing the country or the globe back into a recession.

Citigroup says the stock market is “awash in misinformation” regarding the liability for the blowout and the subsequent spill. All the drilling and service companies have worked hard to build strong reputations for safety over decades, and they now see their safety records tarnished in ways that could impact future business.

Despite the loss in market capitalization, which is immense, Citigroup believes the service companies that played a role in the Deepwater Horizon incident will recover some of the losses they have sustained since the blowout occurred. The firm maintains its Buy-High Risk rating on Transocean (RIG) and Halliburton (HAL) and its Hold-High Risk rating on Cameron (CAM). Target prices for Transocean, Halliburton, and Cameron are $100, $43, and $45, respectively.

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