BP’s Oil-Spill Settlement Could Cost Over $15 Billion As The Court Upholds The Original Agreement

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BP Plc. (NYSE:BP) recently lost an appeal to cancel the terms of the settlement agreement it reached with the Plaintiffs’ Steering Committee (PSC) on March 3, 2012 to compensate individuals and businesses for the economic losses caused by the 2010 Deepwater Horizon incident. In a bid to restrict its swelling expenses, November last year, the company urged the fifth circuit appeals court to cancel the agreement, which is costing it a lot more than initially estimated, unless the terms could be modified to require stricter causation proofs along with the claims. [1]

The U.K-based oil giant initially estimated the cost of settling a substantial majority of legitimate individual and business claims arising from the incident at $7.8 billion. However, actual costs associated with the settlement agreement have been much higher. At the end of the third quarter last year, BP readjusted its cost estimate for the agreement to $9.2 billion, which did not include any provision for future claims. Based on the payments made so far and the rate at which the claims are being filed currently, we estimate the settlement agreement to cost the company more than $15 billion.

We currently have $50 price estimate for BP, which is almost in line with its current market price.

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What’s Driving Our Estimate?

As of Jan 13, 2014, the claim administrator received as many as 250,025 claims of which 51,697 were denied at a rate of almost 21%. Average claim amount awarded to date stood at almost $70,000 per claim. However, the rate of filing claims has declined from ~25,000 per month in January last year to below 10,000. Now, the settlement agreement mandates that the deadline for filing claims is April 22, 2014, or 6 months after the effective date, whichever is later. The effective date is defined as the date at which the last appellate opportunity expires. In other words, the deadline for filing claims under the agreement is at least six months away from now. Therefore, the total number claims filed could easily top 280,000 even if they are filed at an average rate of just 5,000 per month. [2]

If we go by the assumption that the average claim amount and the rate of denial will remain roughly constant, the settlement agreement could easily cost BP more than $15 billion, which is almost $6 billion more than the company’s revised estimate of $9.2 billion.

This implies an increase in the cumulative charge of more than $7 billion, over the company’s $42.2 billion provision for all the expenses associated with the oil spill incident. It should be noted that this excludes the amount of additional charges that BP might have to bear as an outcome of the ongoing civil trial and any further claims based on the Oil Pollution Act (OPA) by the parties that did not participate in the settlement. Estimating these charges is extremely speculative, and therefore we are sticking with the guidance provided by the company on these matters.

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Notes:
  1. Court Upholds BP Oil-Spill Settlement, wsj.com []
  2. Public Statistics for the Deepwater Horizon Economic and Property Damages Settlement, deepwaterhorizoneconomicsettlement.com []
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