Oiling (or soiling) the wheels of justice


Many of you will remember the tragic events in April 2010 of the BP Deepwater Horizon drilling disaster.  The fire on the drilling rig resulted in multiple deaths and untold environmental damage.  The drilling rig was operated by BP who rightly took a lot of the heat for the disaster.  You may not have been aware that the actual drilling platform was not owned by BP but was owned by a separate company, Transocean Ltd.  BP, Transocean and many other companies associated with the disaster are involved in multiple lawsuits resulting from the disaster.  This article is an excellent summary of the events, particularly the lawsuits.  BP was the main player and has paid or will pay at least $40 Billion due to the disaster.

Recently, Transocean settled the bulk of their lawsuits with the US Justice Department for $1.4 Billion.  Interestingly, the very same day Transocean’s stock price (NYSE:RIG) rose dramatically (~ 6.3%):

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A very interesting situation … a huge payout which is seemingly bad news for Transocean but the investors react positively.  What’s going on?  Well it turns out that paying just $1.4 Billion was seen as good news by the shareholders.  As large as that figure is, it was less than they were expecting to pay out.  It’s worth looking at Transocean’s financial statements in a bit more detail to see how the Deepwater Horizon disaster impacted the accounting.  Transocean’s financial statements can be found here, we’re going to look at their 2011 annual report (December 31, 2011) and their 3rd quarter report (nine months ended September 30, 2012).

The first significant impact on Transocean’s financial statements is the goodwill (and other intangibles) impairment charge they took in 2011.  This impairment charge was $5.2 Billion dollars and resulted in a net loss for the year of $4.8 Billion (on revenue of $8.3 Billion).  The goodwill impairment charge was directly related to the Deepwater Horizon disaster and note 5 of the financial statements discusses it in more detail:

Goodwill and other indefinite-lived intangible assets—As a result of our annual impairment test, performed as of October 1, 2011, we determined that the goodwill associated with our contract drilling services reporting unit was impaired due to a decline in projected cash flows and the market valuations for this reporting unit, and we recognized our best estimate of the loss on impairment in the amount of $5.2 billion ($16.15 per diluted share from continuing operations), which had no tax effect.

Essentially, the Deepwater Horizon disaster permanently damaged Transocean’s drilling service reputation and they are doubtful that they will get as much business as they previously expected.  That seems reasonable to me and its a very good example of the cost of repetitional damage.  $5.2 Billion.  Wow.

The second significant impact on Transocean’s financial statements was accruing a liability for the lawsuits they are expecting.  In their September 30, 2012 financial statements the note disclosure related to the disaster is in Note 15 (pages 26-31).  Its an interesting discussion that includes a lot of legalese around multi-party lawsuits and counter lawsuits and potential insurance proceeds.  As at September 30, 2012 they had accrued a total of $1.9 Billion related to lawsuits and potential payouts.  While the $1.4 Billion payment to the Justice Department is not the only lawsuit that Transocean will have to pay, it will be the largest.  The $1.4 Billion settlement removed some of the uncertainty about how fault would be spread between Transocean and BP and will likely be reflected in any further settlements.  So the positive share price bump of +6.3% is really a case where the bad news is just not as bad as it could have been.

Now hopefully those fines and settlements can be put to good use providing partial compensation to the victims and cleaning the environment.

Note: this blog was originally posted on my site hosted by Pearson Education(http://php2.pearsoncanada.ca/highered/inthenews/accounting_in_the_news/)