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By GREGORY DL MORRIS, who has covered the chemical and financial industry issues for the past 20 years

It is tempting to consider Sept. 19, 2010, when BP and its contractors finally killed the runaway Macondo well in the Gulf of Mexico, as the end of the first phase of the disaster that started with a blowout on the Deepwater Horizon drilling rig. But by the time the well was plugged permanently, two other events had already heralded the dawn of the new reality for offshore production and risk management.

Then on Sept. 16, the first pretrial hearing took place in the federal lawsuits to address damages and liabilities in the spill.

Under Munich Re's proposal, made at the annual reinsurance Rendez-Vous de Septembre in Monte Carlo, each individual drilling operation will be covered by a policy specifically developed for that risk, increasing liability limits to $10 billion to $20 billion per drilling operation. Munich Re is also prepared to offer coverage capacity in the order of $2 billion.

Currently, there is no separate cover for drilling operations, which are insured under the individual liability policies. As a rule, covers are available subject to a limit of $1 billion to $1.5 billion on the international market.

As high as those numbers may seen, the Macondo spill has demonstrated how astronomical exposures can loom. While the well was still flowing into the Gulf, BP announced a $30 billion Gulf Coast Compensation Fund. The company's potential fines under the Oil Pollution Act and other laws could range from $5.4 billion to as much as $21 billion, if an investigation finds the leak resulted from gross negligence.

All the major parties--BP; Anadarko and Mitsui, the two minority partners; Transocean; services firm Halliburton; and Cameron, maker of the blowout preventer--are involved in a criminal investigation because of the fatalities. They are also subject to the consolidated federal litigation.

A MAJOR REASSESSMENT

That level of exposure has caused all but the largest global oil and gas operators to reassess their willingness to participate in drilling in the Gulf of Mexico.

"The largest single issue in the Gulf today is liability," said Pete Stark, vice president at energy analysts IHS. "The independents have a substantial interest in the Gulf, but they do not have the pockets for liability of $5 billion to $10 billion, even the largest of them."

The liability coverage problem actually goes back several years, said Robert Gray, managing director at investment bankers Simmons & Co. International, when carriers hiked their rates in the wake of several hurricanes.

"Currently, liability is limited to $75 million," Gray said. "There is talk that could be raised to as high as $10 billion. At that level independents will simply not be able to get insurance."

In one example cited by several producing firms, Noble Energy, a major offshore producer, announced in its 2011 capital expenditure budget that it had reallocated $200 million away from its offshore development budget.

Other companies are expected to follow, industry insiders said, and it has even been reported that independents are reviving the idea of forming an industry mutual.

September 27, 2010

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