Impacts of Increased Liability Limits on Deepwater Operations

Briefing Paper – 8.26.10

The Oil Pollution Act of 1990 (OPA ’90) established the Oil Spill Liability Trust Fund (OSLTF)
as an “insurance policy” for payment of potential damages from oil releases from
exploration, production or transportation accidents. The OSLTF is funded exclusively by a per
barrel tax on the oil industry – not by taxpayers. The industry has contributed 100% of the $1.6
billion currently in the Fund.

OPA ‟90 requires that responsible parties pay ALL cleanup costs related to a spill from an offshore
platform. Only then can responsible parties use the OSLTF to cover up to $1 billion for consequential
damages if those claims exceed the OPA‟s $75 million liability cap. Further, the liability cap for
consequential damages does not apply in instances of gross negligence, willful misconduct, or
violation of applicable federal regulations. Injured parties may also file claims in state courts, which
are not subject to the liability limits.

In response to the Deepwater Horizon incident, BP has made it clear in writing that it will pay
100% of the environmental cleanup and all legitimate claims for economic damages without
seeking reimbursement from the Fund (see attached letter from Tony Hayward to Secretaries
Salazar and Napolitano). Nevertheless, some in Congress have proposed eliminating liability limits
entirely. This would threaten the viability of offshore operations and could significantly reduce US
domestic oil production, cost jobs and harm U.S. energy security.

Some of the leading insurance companies in the oil and gas market have told Congress that they
would be unable to offer adequate insurance protection for offshore operations under this
proposal (letters attached). Further, because the OPA „90 considers any lending or insuring party
to be a guarantor, insurers are reluctant to provide third party liability coverage for fear of liability
to the federal government. 1

If the financial responsibility requirement is raised significantly, then only two independent oil
companies have the shareholder equity to meet a significantly higher (e.g., $10 billion) financial
assurance test by self insurance.

As the insurance industry has indicated that it cannot provide sufficient coverage to meet
financial assurance requirements at this level, this provision would, in effect, push all small,
medium and even most of the major integrated companies out of the Gulf.

An estimated 170,000 direct and indirect jobs are supported by the oil and natural gas industry in
the Gulf of Mexico. As the companies that could meet the self insurance threshold account for
about 15 percent of the total Gulf production on a barrel of oil equivalent basis, raising the
financial responsibility threshold would place about 145,000 jobs at risk.

If small and even mid-sized U.S. companies are forced out of the offshore exploration market by
liability limit increases, huge national oil companies owned by foreign governments could take
their place. Such companies comprise 15 of the largest 16 global oil and gas companies, and
would likely have the financial strength to meet increased financial responsibility requirements.

1
However, some institutions will provide insurance coverage or surety bonds in amounts much less than $10 billion if the
responsible party provides them with a separate waiver of financial responsibility for damages greater than the amount of the
policy/bond.

1220 L Street, NW | Washington, DC 20005-4070 www.api.org

 Even the largest companies – those with more than $100 billion in shareholder equity that could
self-insure their operations – would see premiums for additional insurance skyrocket, raising
overall costs for offshore operations by as much as 25 percent. The impacts would be
devastating. For example, Wood Mackenzie (Upstream Insight, May 2010) estimates that just a
10% increase in development costs could render seven current discoveries – holding reserves
amounting to 1.8 billion barrel-of-oil-equivalent – sub-economic, reducing production, jobs, and
putting $7.6 billion in future government revenue at risk.

If increased liability limits result in the consolidation of smaller and mid-sized companies into
larger companies, there would still be a loss of production in the Gulf, according to a new report
by Grant Thornton (The Implications of the April20 2010 Oil Spill on Deepwater Exploration and
Production, Grant Thornton LLP, Summer 2010).

Instead of lifting the liability cap altogether, lawmakers should be working toward arriving at a
workable solution that would include a robust oil spill liability program fully capable of covering
the costs of potential future spills, and that does so without shifting any costs to American
taxpayers.

Any necessary changes in the Trust Fund should be determined after there is a clear sense of
the resource needs arising from this incident. At that point, any legislative changes to the Oil Spill
Liability Trust Fund should be thoughtfully considered, with an opportunity for all stakeholders to
be heard.

Any proposed changes to this important insurance fund should protect its availability for future
incidents and ensure it does not undermine the oil and natural gas industry‟s ability to insure
capital investments, or make such investments uneconomic.

2 “The Implications of the April 2010 Oil Spill on Deepwater Exploration and Production,” Grant Thornton, August 2010