Deepwater Horizon Spill Size Estimates Keep Growing, As Do Costs

John is one of the ten most followed writers at Seeking Alpha and a Senior Contributor at TheStreet.com and Real Money.

Last week I tried to bracket the cost exposure for BP as a result of the Deepwater Horizon well head blowout and explosion.  That attempt proposed a very wide bracket, from $9 billion to $100+ billion.  This week the numbers are being suggested to be between $15 billion and $40 billion.  These estimates are subject to change depending on how much more oil is spewed into the Gulf of Mexico in the coming months.

The latest numbers above come from June 7 article in The New York Times by Andrew Ross Sorkin.  He bases his report on analysis by Credit Suisse (CS) which has estimated clean-up costs at $23 billion and liability costs at $14 billion or more.

The uncertainty about the eventual cost is determined by the lack of any credible estimate of the size of the leak.  In the past 24 hours the recovery process has been increased to almost 15,000 barrels a day (June 8 report).  The same day the underwater video of the oil spilling into the mile deep Gulf still looked a lot like it had in previous days and weeks.  It is now evident that the 12,000 to 19,000 barrels a day that were the official estimates recently were grossly too small.

Sunday and Monday statements by BP indicated a volume was being discharged at the rate of at least 33,000 barrels a day.  If that is an accurate estimate, then a little less than half of the effluent oil is being captured.

The question has been raised about possibility of bankruptcy for BP as a result of this incident.  Ezra Klein pointed out in The Washington Post that Chapter 11 reorganization for BP has a precedent with such action by Texaco in 1987 when faced with a $1 billion judgment against it in favor of Pennzoil.

There is now official recognition of the existence of vast submerged clouds of deep sea oil droplets ("plumes").  The existence of these were denied just ten days ago by BP CEO Tony Hayward.  An article by Justin Gillis, Campbell Robertson and John Broder in The New York Times points out that there has not been an official connection of these dispersed oil clouds to the Deepwater Horizon well head.  But no one has suggested any other source, either. 

It now seems likely that 50 million gallons or more of oil has been released into the Gulf of Mexico to this point.  This is the amount that would result from  the rate of 25,000 barrels per day for 48 days.  There are 42 gallons per barrel.  The earliest that a relief well can be completed is about 60 days in the future.  In 60 days time, another 50 million gallons or more could be released.  The possibility that current estimates still may be too low is quite real.

The cost per gallon for the Exxon Valdez spill was approximately $270 per gallon (approx. $3 billion remedial and liability expense for an 11 million gallon spill).  There are reasons why this event could have a higher cost:

1. Inflation.
2. The higher population density affected.
3. The greater value of the commercial interests involved (fishing and tourism).

Let’s use the $270 per gallon number as a starting point.  That would put the current cost at about $14 billion and the 100 million gallon figure at $28 billion.  Applying an inflation adjustment (approximately 80% since 1989), the range of cost for the oil released to date would be $25.  For a doubling of oil released before capping, the cost would be $50 billion.

My estimates do not make any adjustment for factors 2. and 3. above, which could drive the costs higher.