The Department of the Interior is expected to complete its safety review and investigation into the Deepwater Horizon explosion and its aftermath this week, and the recommendations that come out of its report will be key in determining when the current U.S. ban on offshore drilling will be lifted. Oil companies and the oilfield service firms that assist them await the report, due to be released Friday, with concern: A prolonged ban on drilling on the one hand, and the near certainty of expensive new industry standards and safety measures on the other, could take a serious toll on their bottom lines.
The temporary ban on offshore drilling, which went into affect April 20, could easily be prolonged for months or even years, as the U.S. and other nations determine whether to resume full scale deep-water drilling. An extended ban would lead to short-term declines in revenue for the companies involved, which would undoubtedly affect their share prices. Depending on their current resources and positioning within their industry, new regulations might also affect their ability to increase revenue and market share long-term.
"The political reaction, which is already pretty severe could get worse," warns Paul Mecray, managing director at Tower Bridge Advisors. "That could lead Congress to impose ever more stringent regulations on offshore drilling which could raise the cost of offshore drilling to a point where it might become less attractive."
BP Has Resources to Survive Oil Spill Liabilities
BP (BP), which has a 65% interest in the leaking Macondo deep-water well, and Anadarko Petroleum (APC), which has a 25% interest, are already looking at an estimated $3 billion bill for environmental cleanup, and that number will grow for as long as the well remains uncapped. Additionally, Standard & Poor's analysts estimate that potential non-environmental liabilities could pose longer-term risks to many of the companies involved.
"These liabilities include any potential litigation from business or property damage, escalating insurance premiums, and the likelihood of increased costs due to greater environmental and safety standards," S&P credit analysts Paul Harvey and Lawrence Wilkinson wrote last week. The U.S. Senate has already introduced legislation to raise the maximum cap on non-environmental costs for oil spills from $75 million to $10 billion.
In addition to its costs from non-environmental liabilities, BP will incur costs associated with the loss of reputation. Underwater video now shows that the company's claim that only 5,000 barrels of oil a day were leaking into the Gulf of Mexico were severe underestimations: The actual size of the leak is now estimated to be closer to 40,000 to 100,000 barrels a day. Still, since BP is not overburdened by debt and will continue to make money by selling crude oil at current prices, S&P believes the company won't be seriously hurt by the environmental clean-up costs in the short run. But those liabilities may cause long-term challenges for the other businesses involved.
Transocean Can Handle a Short Moratorium; Cameron Has Deeper Worries
For the industries that service the oil producers, the length of any moratorium on drilling will be the key issue affecting their revenues. Analysts from Morningstar estimate that a three-month moratorium would have little impact on drillers and oil service firms; a six to nine month slowdown would lead to a 15% decrease in day-rates for drilling rigs; and a ban of up to two years could result in a 25% decline in day-rates for drilling wells offshore. Recently, drillers have been charging as much as $500 million a day to drill a deep-water oil well.
Transocean (RIG), the owner and operator of the Deepwater Horizon rig that exploded and sank, had insurance that covered much of cost of its lost equipment. The company also has liability insurance to deal with legal claims. With $1.6 billion in its cash coffers and some of the most sophisticated drilling equipment in the business, S&P says the company can deal with a short delay in offshore drilling without its revenues being adversely affected.
Cameron International (CAM), which provided the blowout protection equipment, is already being sued by several parties. Since the blowout preventer on the well failed, if Cameron is found liable for all or part of the spill, its revenues and future outlook could be severely impacted.
"The negative spillover effects from the [blowout preventer] failure could relate to other product lines in the pressure control and subsea areas and to its relationships with Transocean and BP, which are major customers. We believe there is a risk that the negative spillover effects over the next few years could result in lower sales orders that would have the potential to directly affect Cameron's cash flows, its business and financial risk profiles, and possibly our view of its credit quality and corporate credit rating," said S&P.
Halliburton (HAL), which provided the cementing and other well services for the Macondo well, could handle a short-term slowdown in offshore drilling and can afford to make payments for some potential liability for the spill. S&P calculates that $2 billion in liabilities could be funded by the company's cash-flow generation and the $3.2 billion of cash and marketable securities it holds.
Extended Drilling Ban? Don't Bet On It
The short-term affect this disaster will have on the companies involved is undeniable. Since the market close on April 20, the day of the accident, BP shares have fallen from $60.48 to $42.81. Shares of Anadarko have dropped from $73.94 to $53.90. Transocean shares are down from $92.03 to $56.98. Shares of Cameron International have dropped from $46.04 to $35.17 and Halliburton stock has fallen from $33.31 to $26.13.
But in the long term, Mecray believes that an extended moratorium on offshore drilling is unlikely because of the importance these wells hold for the U.S. oil industry.
"Four of the seven million barrels a day produced in this country come from offshore -- and those wells are in constant decline, which means if you don't keep drilling, America's production will fall rapidly," Mecray said. He expects the moratorium on granting leases to drill will be lifted as soon as two months after new safety regulations on drilling are put in place.
Small Cap Investing
Learn now to invest in small companies the right way.View Course »