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Appeals court revives lawsuit over 2006 BP oil spill

Dermot Cole

FAIRBANKS -- John Browne, then the CEO of BP, told stock analysts a month after a 2006 oil spill at Prudhoe Bay that “world-class” precautions in Alaska couldn’t prevent it.

“This leak resulted from a small hole caused by corrosion of the pipeline,” Browne said on the April 25, 2006 conference call. “This happened in spite of the fact that we have both world-class corrosion monitoring and leak detection systems, both being applied within regulations set by the Alaskan authorities.”

Eight years after 200,000 gallons spurted out of a quarter-inch hole in corroded pipe, a leak that went undetected for five days, the “world-class” comment by Browne and other statements by BP officials remain at the center of a court fight about securities fraud.

A three-judge panel of the 9th U.S. Circuit Court of Appeals reinstated parts of a class-action lawsuit Thursday in a 42-page decision that was largely critical of BP Exploration Alaska Inc.

A federal court in Washington had tossed out much of the case in 2012, saying that mismanagement was not the same as fraud. But the appeals court said the lawsuit should proceed. The “class” of plaintiffs includes certain investors who acquired an interest in BP between June 30, 2005, and Aug. 4, 2006.

“In the end, we conclude that after six years of preliminary litigation, the allegations should now be tested on the merits,” wrote Senior District Judge Raymond Dearie of the Eastern District of New York for the panel.

Six months after the first spill, a second spill occurred on another feeder line, which prompted a partial shutdown of the Prudhoe Bay oil field. Several legal actions took place, both civil and criminal. In 2011, BP paid a $25 million fine and agreed to invest $60 million in a corrosion monitoring system. It replaced 16 miles of oil transit lines. 

The one bright spot for BP in the Thursday ruling was the finding by the appeals court that Browne’s “corporate puffery” did not rise to the level of  a “mental state embracing intent to deceive, manipulate or defraud.”

That is the definition the court uses for “scienter,” a word that is important in this case, as it deals with the argument about whether BP knowingly and recklessly spread false information that harmed those who invested in the company between 2005 and 2006.

“Browne’s use of the term ‘world class’ to describe BPXA’s corrosion monitoring during an April 2006 earnings call is classic corporate puffery,” lawyers for BP argued, “too vague for any reasonable investor to have relied on it.” They compared the remark to Bridgestone’s boast that it made the world’s best tires or a claim by Ford that it led the world in automotive safety.

The appeals court said it agreed with the lower court that the statements by Browne “appear to be false based on the results of later investigations revealing that the pipelines were under-inspected, under-maintained and subject to severe risk of corrosion-related failure.”

About two weeks after Browne spoke, the BP board received a memo saying the corrosion that led to the leak may not have been an isolated case. The memo was correct.

There was no evidence that Browne knew what he was saying was false or that he understood the scope of the problems at Prudhoe Bay, the court said.

The plaintiffs claimed that the company committed securities fraud by making a series of false and reckless statements and by not revealing the true state of affairs at the oil field.

Siding with the plaintiffs in part, the appeals court took issue with comments made by BP Vice President Maureen Johnson and remarks in the 2005 BP annual report.

Johnson, whose title was “Greater Prudhoe Bay Performance Unit leader,” told reporters after the spill that the most recent data showed that corrosion was taking place at a low rate that was manageable. She also said that other pipes at Prudhoe Bay were not likely to face the same problems.

A September 2005 report contradicted Johnson’s comments about low and manageable corrosion rates, however. The court said it is not plausible that Johnson misunderstood the corrosion threat.

“With respect to timing, the fact that Johnson, given her position, made the statement about corrosion data supports the inference that she made it with scienter. In the wake of a crisis that has the potential to repeat itself, Johnson had every reason to review the results of BP-Alaska’s corrosion monitoring to understand what happened,” the court said.

“In common parlance, if anyone knew of the flawed monitoring program and the likelihood of failures in the pipeline system, Dr. Johnson did.”

The plaintiffs charged that the section of 34-inch pipe that broke in March 2006 had been inspected the previous September and found “to have the highest corrosion ever -- by a factor of 10. Defendants, however, took no preventative action.” They said it was a classic case in which “statements to investors materially differed from reality and defendants knew that or were willfully blind.”

Another element cited by the plaintiffs in the appeal was the 2005 annual report, issued on June 30, 2006.

“Management believes that the group’s activities are in compliance with applicable environmental laws and regulations,” the report said.

The court said that based on the guilty plea by BP in 2007 to a Clean Water Act violation stemming from the spill, as well as the civil settlement with the state and its failure to comply with federal pipeline safety rules, the company could not say it was in compliance with environmental laws and regulations.

“While we agree that BP’s actions exemplify corporate mismanagement, the pleadings also charge that BP is a company that has publicly shirked responsibility for its role in causing the Prudhoe Bay spills at every step of the way,” the court said. “And while there may not be enough in the complaint to establish scienter with respect to CEO John Browne’s statement on April 25, 2006, it gives us pause that only weeks after a devastating oil spill, BP’s CEO was willing to make a public statement that the spill occurred ‘in spite of the fact that (BP has) world-class corrosion monitoring and leak detection systems, both being applied within regulations set by the Alaskan authorities.’”

The court said that mismanagement is a plausible explanation to some extent about why misinformation reached the corporate suite.

“But in this case, facts alleged in the complaint support the conclusion that BP had been aware of corrosive conditions for over a decade and yet chose not to address them.”

The inference that BP was at least “deliberately reckless as to the false or misleading nature of their public statements” is as least as compelling as any other inference, Dearie wrote.

Contact Dermot Cole at dermot(at) Follow him on Twitter @dermotmcole.