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Wednesday, August 16, 2006

Lack of Due Diligence or "Act of God"?

Pipelinesmall_image_seen_from_below_1 The Alaskan Prudhoe Bay oil field -- the biggest oil field in the U.S. -- was shutdown because of a leak and severe corrosion in the pipeline. Repairs to the pipeline that carries oil from Prudhoe Bay (which includes replacement of 16 miles of the 800-mile Trans-Alaska pipeline) will take months.  The shutdown cuts Alaska’s oil production in half. With lowered oil production, Alaska has also seen a decrease in its revenues, because it relies on income from the pipeline and does not have sales or income tax. The state has called a hiring freeze. And, of course, the shutdown has apparently already driven up the price of oil and gas.

Exxon Mobil and ConocoPhillips each have a roughly 36% interest in the oil field; minority owner BP has 26% share and operating and maintenance responsibilities. Today's New York Times has an AP article reporting that Exxon Mobil and ConocoPhillips are apparently attempting to invoke a force majeure clause to be excused from any responsibilities to oversee BP’s maintenance of the oil field.  The companies apparently argue that they were surprised to hear the pipeline was corroded and the state of the pipes was beyond their control.

Engineering Professor Michael J. Economides of the University of Houston is skeptical. He seems to take the view that BP’s practices should have been questioned by its partners given BP’s record of previous troubles (other explosions, leaks and spills). He is quoted:

Yes, they had no choice but to invoke force majeure, but they depend on BP's due diligence, which in my estimation has been questionable. . . . I don't like the statement that BP was surprised by the corrosion[.] A company that size should have first-rate engineers and managers. We don't like surprises in my business, and good due diligence precludes all of these things.

However, J. Lanier Yeates, an oil and gas attorney in Houston, told the AP that energy companies typically account for problems like corrosion in their contracts with clients, suppliers and royalty owners (here, the State of Alaska). He stated that the force majeure clauses in these contracts are designed to cast a wide net and often use a very general set of criteria. He commented:

I expect the provisions in the contracts that apply here are broad enough to include these kinds of problems from the wear and tear and corrosions and deterioration of the pipes. . . . I would be greatly surprised if there weren't contractual provisions that relate to damages to the pipeline.

Professor Patrick Martin of LSU Law  added:

There are often questions raised as to whether one could have taken steps to avoid circumstances they claim to be force majeure. . . . But my guess is, you won't see it out of this. . . . I don't think ConocoPhillips or Exxon Mobil could be tagged with breach of contract if the oil is not available to them.

Even assuming a broadly cast force majeure clause, should ConocoPhillips and Exxon Mobil be excused from liability because the corrosion was beyond their control or, rather, is this a serious failure of diligence for which they should be liable?

[Meredith R. Miller]

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