Where'd I leave my horse?

New worry for drivers: BP shuts oilfield

Damaged pipeline in Alaska affects about 8% of U.S. oil production.

August 7 2006: 8:34 AM EDT

NEW YORK (CNNMoney.com) -- In a blow to drivers already struggling with high gasoline prices, BP was forced to shut off about 8 percent of the nation's oil supply after discovering "unexpectedly severe corrosion" in the Alaskan pipeline.

BP announced early Monday that the pipeline problems had caused it to begin the first shutdown ever in the biggest oilfield in the United States, Alaska's Prudhoe Bay. (Video:BP spokesman comments)

Oil futures, already near record highs hit in July, shot higher on the announcement, and gasoline futures also rose.

U.S. light crude surged $1.13 to $75.89 a barrel in electronic trading early Monday, while Brent crude trading in London rose 99 cents to $77.16. Gasoline futures rose 3.85 cents to $2.27 a gallon.

Oil analyst Peter Beutel, president of Cameron Hanover, said shutting down an oil field is an expensive and risky step that is only taken in extreme circumstances. He said that suggests the 400,000 barrels a day produced in Prudhoe Bay could be shut off for some time to come.

"They wouldn't be shutting down Prudhoe Bay if this wasn't absolutely necessary," said Beutel. "Once you shut it down, you don't know what will happen when you come back. It could cause all types of problems."

Beutel said he expects about a 5 cent a gallon rise in gasoline futures due to the pipeline problems.

The outage will cut global daily oil output by about half a percent, putting more strain on an already tight market. Beutel said he believed the news in Alaska was outweighing even new threats out of Iran to shut production there if that country is hit with United Nations sanctions over its nuclear program.

"This is almost all Alaska," he said about Monday's price hikes. "It doesn't look like something that will have a quick fix or can be ignored by the markets. I think it's going to be measured in weeks, not days, and it could drag on for months."

Beutel said the shutdown is significant for markets because it was the one supply of oil that traders did not believe to be at risk from either geopolitical events, such as fighting in the Middle East, or hurricanes that threaten U.S. production in the Gulf of Mexico.

Still Beutel said he believes the impact will be less severe than caused by hurricanes Katrina and Rita in 2005. And he also expects a quick announcement of the release of oil from the U.S. Strategic Petroleum Reserve to mitigate the lost supply.

"The Bush administration has made clear it will lend barrels from SPR to combat supply disruptions," he said.

The U.S. Energy Department will consider loaning emergency supplies of crude oil to refiners caught short of supply following the shutdown, a department spokesman said Monday.

Fadel Gheit, oil analyst for Oppenheimer & Co., said he also wouldn't be surprised to see the SPR move to distribute oil to cover the shortfall from Alaska.

"It would be more to calm down the nervous market," said Gheit. "There's plenty of oil around the world (without the SPR), but it would be a wise thing to do. It's all perception and in the markets perception is reality."

Gheit said the problems with the pipeline should not be a surprise, that it's been well known that oil companies are not doing enough regular maintenance on their infrastructure.

When the price of oil was low, they were reluctant to spend on that kind of maintenance, he said. But when prices soared in recent years, the cost of shutting down a pipeline or other facilities to do maintenance was too much of an "opportunity cost," which is a measure of lost production.

"This thing has been in operation for more than 30 years. Corrosion has to happen. Something has to give," Gheit said. "This is going to be a warning to other companies."

Shutdown only latest BP woe

BP (Charts) was already part of a criminal probe into a a 200,000-gallon spill discovered in a pipeline rupture in March, the biggest ever recorded on the North Slope.

BP shares slumped nearly 2 percent in London trading Monday. The BP Prudhoe Bay Royalty Trust (Charts), the trust that was set up in 1989 to distribute royalties from oil in the field, saw shares plunge 30 percent in pre-market trading.

BP's statement said the latest problem was discovered when an inspections completed in late July revealed 16 "anomalies" in 12 locations in a pipeline on the eastern side of the oil field. The corrosion had caused a thinning of the pipeline walls, according to the company.

The company said it received the details about the July inspections on Friday, which it said prompted follow up inspections that revealed a leak and small spill estimated at 4 to 5 barrels. The pipeline was shutdown at 6:30 a.m. Sunday local time.

The closure is the latest incident to hit BP's Alaskan operations, a cornerstone of its global upstream portfolio, and deals another blow to its U.S. image following a deadly refinery explosion last year and a trading scandal.

"We regret that it is necessary to take this action and we apologize to the nation and the State of Alaska for the adverse impacts it will cause," newly appointed BP America Chairman and President Bob Malone said in a statement.

Prudhoe Bay is operated by a BP-led group that includes oil majors ConocoPhillips (Charts) and Exxon Mobil Corp., (Charts) which itself was involved in Alaska's biggest oil spill when the 11 million-gallon Exxon Valdez tanker was grounded in 1989.

BP gave no estimate on how long the field would be offline.

"It will depend on the rate at which we can complete the inspection of these lines and satisfy ourselves and state and federal regulators that they pose no risk to the environment," company spokesman Ronnie Chappell said by telephone to Reuters.

So far it has inspected 40 percent of its transit lines and is conducting speed inspections of the remainder, BP said.

BP spokesman Daren Beaudo later said it would take 24 to 36 hours to shut down the eastern half of Prudhoe Bay, but did not give an estimate on closing western wells. The shutdown does not include the Lisburne field, also on the North Slope, as an inspection showed that pipeline integrity was intact.

Past problems

BP pledged last month to spend an extra $1 billion on top of the $6 billion it has earmarked for upgrading safety at its U.S. refineries and to repair and replace Alaskan pipelines.

BP holds just over 25 percent of Prudhoe Bay, which opened up a new era of U.S. oil exploration when it was discovered in 1968. It is expected to pump over 14 billion barrels over its lifetime.

Output from the northern state peaked at over 2 million bpd in the late 1980s, but has more than halved since then.

Chappell said it was premature to estimate what impact the outage would have on BP's annual production target of 4.1-4.2 million barrels of oil equivalent per day (boepd).

At 100,000 bpd, BP's share of Prudhoe Bay accounts for 2.5 percent of that total, although its overall Alaskan crude oil output was a higher 268,000 bpd last year.

The Alaska shutdown brings further U.S. scrutiny to BP, which is being investigated for a March 2005 explosion at its Texas City, Texas, refinery, in which 15 people died and 170 injured. BP accepted full responsibility for the blast.

In June, the U.S. futures market regulator said BP tried to manipulate U.S. propane prices by cornering the market in February 2004. BP denies any market manipulation.

The shutdown Sunday was the result of inspections required in the wake of the spill discovered in March, which forced BP to shut in 100,000 bpd of output for more than a month and triggered an investigation by a federal grand jury. It installed a bypass line in order to resume production.

Investigators from the Department of Transportation's Pipeline and Hazardous Materials Safety Administration are to travel to Alaska to conduct their own examination of the situation, PHMSA spokesman James Wiggins said on Sunday.

The incident comes at a key time for Alaska's oil industry, as the state considers a massive natural gas pipeline and the legislature debates an overhaul of state oil taxes that is intended to pull in more revenue at times of high prices.