Total's North Sea leak should chill investors

The costs are rising quickly as the potential for damage grows.

By InvestorPlace Apr 4, 2012 10:23AM

By Aaron Levitt

It's hard to believe that it's been almost two years since BP's (BP) Deepwater Horizon oil spill and almost 25 years since Occidental Petroleum's (OXY) Piper Alpha disaster -- the last major accident in the North Sea, which killed 167 people -- back in 1988. However, with these events still fresh in many people's minds, Total's (TOT) recent issues with its Elgin platform in the North Sea have taken on a new sense of urgency.

Sitting on a powder keg of highly flammable natural gas and gas condensate, the French oil major's rig could be one of the worst oil disasters in the North Sea. A gas cloud, made mostly of methane, has essentially enveloped the rig after attempts to shut a troubled production failed and caused a leak. If this cloud -- which is growing by roughly 200,000 cubic meters a day -- ignites, it could be catastrophic.

Clearly, the potential for human and environmental tragedy is the paramount concern here, much as it was with BP's Gulf of Mexico disaster.

But investors are closely watching as well, given that Total shares have lost more than 7%, or about 5.5 billion euros, in market cap since the leak first became public. Considering BP's costly legal troubles and reputation damage since Deepwater Horizon, Total investors certainly have cause for concern.

A troubled history
Total's Elgin and Franklin fields are about 150 miles east of Aberdeen, Scotland, and together they account for roughly 130,000 barrels of oil equivalent (BOE) a day. The pair of rigs produces a mixture of tight gas and condensate that provides nearly 3% of the U.K.'s total natural gas supply. So, the field is considered a major one, and prices for natural gas in the U.K have already risen 2% in response to the leak.

The problems at Elgin actually began a year ago, when Total discovered issues with its G4 well on the rig. The energy company had ceased production on that well almost a year ago when it was plugged at its reservoir source, roughly four miles below the seabed.

However, a few weeks ago, rig workers began to notice changes in the outer drilling pipes. Total had actually begun the process of pumping in heavy mud to "kill" the well, when on March 25 workers detected "a spray of liquid followed by a gas release" from a well casing.

The exact cause of the leak has still to be confirmed, but analysts predict that a poor cement job from when the well was first drilled could be the culprit. This is similar to what happened on Deepwater Horizon. Total estimates that gas is seeping through the casing pipe from another nonproducing pocket of tight gas around 2.5 miles underground.

Fortunately, Total evacuated all of its 238 employees and powered down the platform at the first sign of problems. The energy company left a flare to burn, in order to release pressure and drain remaining gas throughout the drilling rig's pipes. That flare has recently extinguished itself, limiting some of the danger of catastrophic explosion.

However, that hasn't stopped the British Coast Guard from keeping ships and aircraft a safe distance away from the stricken platform. Likewise, Royal Dutch Shell (RDS.A, RDS.B) has evacuated some personnel from its nearby Shearwater platform.

What's the fix?
The unfortunate part for Total, and its shareholders, is the cost. Right now, Elgin is costing Total around $2.5 million a day in lost production and response costs. However, that's just the start. Options for closing the well and fixing the leak could be extremely expensive and take months.

Total's first option would be to "top kill" the leaking well. A crew would board the platform and dump heavy mud and cement into the well, closing off the leak. This operation would take only weeks to perform, but still remains a dangerous proposal, given the fact the gas continues to leak.

The second option would be to dig two relief wells, underneath the surface of the water. This would help exhaust some gas and allow cement to be pumped in ahead of the leaking pipe. This is similar to what BP had to do to stop the Deepwater Horizon leak. It took BP three months to do that, but analysts project that Elgin's relief wells would take several months longer. Conducting either of these operations aren't cheap propositions.

Then, there's the potential fines from U.K. authorities, as well as potential claims from third parties, like local fisheries and Total's operating partners. The company maintains the majority stake in the field, but Italy's Eni (E), England's BG Group (BRGYY), Exxon Mobil (XOM) and Chevron (CVX) all receive production from the field.

What investors should do
Despite executives at Total claiming that Elgin is nothing like the Deepwater Horizon, it bears a close resemblance. Indeed, natural gas won't spoil the coasts like leaking oil will, but the potential financial losses are still high. The Deepwater Horizon rig was drilling just an exploratory well and hadn't actually started production. But Elgin is a fully developed field with a plethora of subsea infrastructure connecting it with other wells and the BP-operated Forties Pipeline System.

Total estimates that it has spent more than $2.3 billion developing Elgin and its sister fields.

Given the potential losses and damages that could result as this leak continues, investors may want to cut their losses and move on. Plenty of other major integrated oil firms aren't facing such potential legal dramas. Odds are that Total shares will be a buy again at some point, but with the pending legal overhang, skipping them now seems best.

One company investors shouldn't skip, however, is the world's new top producer of oil.

As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.

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Apr 4, 2012 12:49PM
And what of the environmental impact? just because it wont wash up on shore doesn't mean it wont be detrimental! methane in the ozone layer will help to deplete it no? Send someone in to cap it? I wonder what the odds of survival on that mission are?
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