What are the advantages and disadvantages on this Case 5-1 ?

Accounting for BP PLC's Deepwater Horizon Oil Spill On April 20, 2010, an explosion at BP PLC's Macondo well in the Gulf of Mexico caused the largest oil spill and one of the worst environmental disasters in U.S. history. Because the incident occurred at the Deepwater Hotizon drilling rig. this incident is often referred to as the Deepwater Horizon spill. Approximately 4.9 inillion barrels of oil were released. threatening the marine enviroument of the Gulf of Mexico as well as the environment and communities of the Gulf Coast region of the United States. In addition, 11 workers died and 17 were injured in the explosion. While BP. bore primary legal responsibility for the spill. Transocean Corporation (the drilling rig operator) and Halliburton Company (the construction contractor) were also held partially responsible. The spill's financial costs to BP were enormons but also highly tuncertain in the years that followed. Initially, the company incurred large costs to respond to the explosion and contain the spill. As time passed, the disaster set in motion a complex set of investigations and court cases that resulted in numetous fines and damage awards. In addition. BP nade expensive commitments to support various enviroumental initiatives in the Gulf Cost region. BP-formerly named British Petrolcum and headquartered in London-reports under IFRS and accounted for many of the spill's costs using IAS 37, Provisions, Contingent Liabilities, and Contingent Assets. As noted earlier in this chapter, LAS 37 requires accrual of contingent liabilities when they are probable and can be reliably estimated. From the 2010 fiscal year onward, the company disclosed among its significant judgments and estimates those required to account for the spill under IAS 37. Through 2014, KPMG, BP's auditor, included warnings of the uncertainties presented by these contingent liabilities in its auditor's reports. The following passage taken from KPMG's audit opinion in the 2014 annual report expresses these concerns: In forming our opinion on the group financial statements we have considered the adequacy of the disclosure in Note 2 to the financial statements concerning the provisions, future expenditures which cannot be reliably estimated and other contingent liabilities related to the claims, penalties and litigation arising from the Gulf of Mexico oll spill. The total amoum that will mittimately be paid by BP in relation to all obligations arising from this significant evem is subject to significant uncertainty and the ultimate exposure and cost to BP is dependent on many factors, including but not limuted to, the deterintmations of the Courts and Regulatory authiorities in the US. Signiffcamt uncertainty evists in relation to the amoumt of clatms that will become payable by BP and the amount of fines that will be levied on BP (theluding ann ultimate determination of BP s culpabilit) The following table reports the costs recognized by BP through 2014 across four categories. The first-spill responsesummarizes the amounts spent directly responding to the explosion and spill. The other three categories are costs initially recorded as contingent liabilities-environmental, litigation and claims, and Clean Water Act penalties. As of December 31, 2014, expenses recognized in the four categories had totaled $47.8 billion. The following are summaties of the main spill related contingent liabilities disclosed fin BP's 2014 annual report: The following are summaries of the inain spill-related contingent liabilities disclosed in BP's 2014 anmual report: Envirommental - As of December 31, 2014, provisions in the Environmental category included the following significant items: - A commitment to fund the Gulf of Mexico Research Initiative (GoMRI). This was originally a $500 million dollar commitment, of which \$279 million had yet to be paid out as of December 31, 2014. The GoMRI is a 10 year environmental research program to study the impact of the spill's long range environmental impacts. Grants were made to a variety of research institutes, including those affiliated with Loulisiana State University, the University of South Florida. Mississippi State University, and the National Institutes of Health. - A framework agreement between BP, the federal government, and five Gulf Coast states to fund restoration projects lin the Guilf. Coast region. As of December 31. 2014, $798 million remained of commitments to fund "assessment costs and early. testoration projects," However, BP's disclosure for this commitment notes that cost of later restoration projects has not been accrued, or even estimated: Until the size, location and duration of the impact is assessed, it is not posstble to estimate rellabh either the amounts or number of the remaining natural resolice damages claims other than the assessmem and carty restoration casts noted abore, therefore no additional amounts have been provided for these itemis. Litigation and claims - The litigation and claims provision includes estimates of payments to i) individuals and businesses for property damage, lost profits and the impairment of earning capacity, and ii) state and local governments for removal costs, property damages, lost tax revenue and increased public services. Through 2014 , this cost category was by far the largest, containing $26.8 billion of recognized costs. This amount was more than half of total recognized costs and approximately 80% of costs recorded in the three contingent liability categories. Despite the large accruals already made for this category. BP noted that no reliable cstinate could be made for future costs and warned that the liability could go much higher. Chief among the lingering uncertainties was the simple fact that many claims had not yet been received, and for those that had been received, many still had not been fully evaluated. The company summarized this uncertainty with the following observation: There is ven finle data to build up a track record of elaims determinations imder the pollicies and protocols that are now being applied. We therefore cannot estimate fiture trends of the mumber and propontion of claums that will be determined to be eligible. uncertalinties are resolied and a reliable estimate can be made of the llability. As of December 31, 2014, BP had acerued a balance sheet liability for this category of $9.9 billion. However. the company noted: The fotal cost as hiken to be ingnificanthy higher than the amount recoguzed to date of 900 bullion because the current estimate does not refect busmess econome for clalies not vet recened, or receried but not vet provessed, or processed but not wet pald) Clean Water Act Penalties - Soon after the spill, BP recorded a contingent liability of $3,510 million for estimated future penalties under Section 311 of the Clean Water Act. It made no subsequent adjustments to this accrual throughouf the lengthy court trial that later enstred. A key issue in the trial was whether BP's actions in connection with its operation of the Decpwater Horizon well amounted to gross negligence and willfill misconduct. In September 2014. the U.S. District Court for the District of Eastern Louisiana ruled that BP had acted with gross negligence and willful misconduct. As of the end of 2014, BP was appealing this finding in higher courts. If its appeal were to be unstecessfiul, the Clean Water Act penalty could rise to as high as $13.7 billion. The table above indicates that BP did not make any adjustinent to its balance sheet accrual of $3.510 million in response to the district count's ruling. It did not raise the accrual because it claimed that the ultimate amotiit of the pemalty for gross negligence and willful misconduct could not be reliably measured. Given this new uncertainty, one inight reasonably ask the techinical accounting question. "Why maintain any accrual at all, given that it is, subject to so much uncertainty?" BP answered this question, citing a specific provision of IAS 37