BP shaping up as Lehman Brothers in the oil patch

By Rob Cox
June 2, 2010

BP’s deepwater debacle is shaping up as Lehman Brothers in the oil patch. The toxic ingredients that led to that Wall Street firm’s implosion are abundantly present in the British energy giant’s Gulf of Mexico fiasco: flawed risk management, systemic hazard and regulatory incompetence.

And as in the financial industry, the policy response will almost certainly lead to energy’s biggies getting even bigger.

At first blush, the tricky business of drilling oil a mile below the ocean would seem light years from the pin-striped work of investment banking. But fundamentally, the failures of BP’s management to prepare for, and then handle the current crisis, evoke striking parallels with those of the bust securities firm.

Nowhere is this more evident than in the realm of managing their respective risks. BP’s failure to prevent — and so far stop — the leak on the Deepwater Horizon suggests the company did not adequately prepare for the possibility of a spill — a risk that Chief Executive Tony Hayward put at “one in a million.”

Lehman — and many other banks — made similar mistakes forecasting risk. Few of their financial models took account of the possibility for “25-standard deviation moves,” to use the words of Goldman Sachs Chief Financial Officer David Viniar. The blowout of BP’s well, like a 20 percent dip in the housing market, was just such an event.

Similarly, while Lehman’s fallout created a shock to the financial system, the hundreds of thousands of barrels of oil leaking from BP’s broken well are oozing noxiously throughout the ecosystem of the Gulf, causing untold environmental and economic damage. And the U.S. government has had to intervene to try and contain the oil’s spread, just as it did to prevent the impact of Lehman’s collapse on the financial system.

Finally, like the Securities and Exchange Commission that failed to ensure Lehman did not take on excessive risk, the regulator overseeing BP in the Gulf, the Minerals Management Service, flopped. The president has broken up the MMS, fired its director and attributed its failings to its “scandalously close relationship” with oil companies.

Again, the industries are dramatically different. But there is at least one instructive lesson to draw from Lehman. After its bankruptcy sparked a financial panic in September 2008, regulators permitted the strongest banks to eat the weakest. That allowed big institutions like Bank of America, Wells Fargo and JPMorgan to get even bigger.

That will almost certainly be the result for the deepwater drilling business. BP is on the hook for up to $27 billion in clean-up costs and legal claims, according to Credit Suisse. That’s a liability no investor will be comfortable taking, even for a company the size of BP, much less Anadarko Petroleum or other, smaller independent drillers.

Equally, when the government hands out permits to drill, it will only want to deal with counterparties with pockets deep enough to take on such potential liabilities. Add it all up, and the biggest players in the oil industry will just have to get bigger.


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I agree that there are failures across the board, risk management to failure to regulate. If there is a little or a lot of jail time for not only the mid-management but for the very top executives at BP, then the agency risk will lower to an acceptable level.

Back to the punch-line of the article, this is a case where bigger is better owing to tremendous capital necessary for such deep water operation. Personally, I think we should make millions upon millions of photo-voltaic panel for every building in the US and mandate pull-in hybrid electric cars. Bam!, in an instant (say 10 years), there’s millions of barrels of oil per day unneeded. No more, or limited, off-shore drilling and importing foreign crude from people who: do not hate us for our freedom; but hate us for our interference in their societies to insure our inexpensive oil supply.

It is truly simple, make these corporation behave responsibly, or the decision makers go to jail and/or lose all their money, just like you and I in our lives.

BP should pay every penny of the clean-up and the economic damage they have caused. As a taxpayer, I demand it!

Posted by jpSmooth | Report as abusive

A few more “million to one” predictions that were wrong include: Winning the Korean War, winning the Viet Nam War, winning the Iraq War, becoming a Socialist country, and that Obama was competent.

Posted by neilc23 | Report as abusive

We repeatedly hear — especially from BP — about the challenges of drilling more than a mile deep. In fact, BP’s COO recently noted that, while the various techniques available had been tried out on land, they had never been attempted at such depths.

So in a nutshell, BP admit that in spite of the industry’s much-vaunted (and advertised) brilliant technology, there were no real contingencies for dealing with a deep-water blowout. That is to say, they simply hoped that such a thing would not occur. And I suppose the MMS neither understood nor cared.

IF future licences are granted for offshore drilling — especially as the depths are getting ever greater — they should be strictly contingent upon reasonably and independently tested disaster recovery methods. If such methods cannot reasonably be assured, no drilling should be permitted.

It should also be noted that we could allow drilling any- and everywhere with no appreciable improvement in our so-called “energy independence”.

Posted by Balagan | Report as abusive

ohhhh… A Black Swan… Mr Taleb, you have a lot of work to do…
“BP’s failure to prevent — and so far stop — the leak on the Deepwater Horizon suggests the company did not adequately prepare for the possibility of a spill — a risk that Chief Executive Tony Hayward put at “one in a million.”

Posted by Fytros | Report as abusive

That comparison is a pretty hard stretch… but I see the point being made.

Posted by 7jcjg | Report as abusive


“there were no real contingencies for dealing with a deep-water blowout”

I think it’s more about no real expertise in dealing with a deep-water blowout. This is expertise that is now being gained after the event.

It was the same in the early days of oil drilling on land. The technology, tools and plans that formed the underpinning elements of the contingency plans later developed were learned through experience. There would be no such thing as a BOP had blowouts not happened on land before.

Regarding the article… I agree there are similar risk management failures between Lehman and BP. However an important difference – and why BP will not go bust – is that Lehman were caught in something of a spiral of debt. The more concerned their counter-parties became about their solvency the more capital they had to post which further undermined their solvency; so the counter-parties demanded more and so on.

BP is not in this situation. Even if the costs and fines incurred by the disaster are at the very highest end of estimates ($60 billion say) BP could cut its dividend and possibly sell some assets and not find themselves in a self-reinforcing spiral of debt.

(Disclosure: BP Shareholder)

Posted by rnolds81 | Report as abusive