Oil giant BP was the biggest faller on Britain's blue-chip board on Thursday, as investors fretted that a U.S. government lawsuit may mean the cost of its oil spill will be far higher than predicted.

Legal experts have said that BP's $40 billion estimate for the total cost of the oil spill -- hitherto largely accepted by financial analysts -- could double if the U.S. government managed to convince a court that BP had been grossly negligent.

BP and analysts had dismissed this possibility so far, but the harshly-worded lawsuit filed on Wednesday by the Obama Administration spooked investors who in recent months have been betting on a BP recovery and a return to paying dividends.

Clearly it is a negative development. It creates some fears concerning the ultimate decision on gross negligence or not, said Societe Generale analyst Irene Himona.

There is ongoing legal uncertainty, Himona added.

BP was down 1.4 percent at pence at 1336 GMT, underperforming a 0.2 percent lower STOXX Europe 600 Oil and Gas index.

In recent months, BP's shares had risen over 60 percent since hitting a low below 300 pence, on hopes the worst was behind the company.

The stock was up 10 percent in December alone as analysts and investors speculated that BP's oil spill provision could significantly overstate its liabilities -- a hope that was dented by the lawsuit.

This is a reminder of what people should have already have known and I suppose it makes people a little nervous, said one top 10 investor.

LOWBALLING?

BP has not said what its strategy will be in fighting the myriad of lawsuits against it, except to say its $40 billion estimate reflects its belief that it was not grossly negligent.

The company also disputes the government's 4.9 million barrel estimate of the amount of oil that spilled and said it hoped to receive some credit for recovering some spilled oil.

All this suggests it could expect a fine of under $2 billion. But if the company is found to have been grossly negligent, it could face fines of $21 billion, and this would open the door to bigger awards against BP in civil lawsuits.

Reuters reported earlier in December that BP's costs could double if BP was found grossly negligent.

This could put pressure on BP's plans to reinstate its dividend early in 2011, or force it to increase its planned $25 billion to $30 billion asset disposal program, Manoj Ladwa, senior trader at ETX Capital said.

Analysts currently expect BP to announce a 7 to 10 cents dividend, down from 14 cents previously, for the fourth quarter.

Some London-based analysts and investors downplayed the significance of the U.S. move.

This action from the US government has been completely expected, a top ten investor said.

We don't perceive this as any kind of setback as we don't really think it changes things.

However, even those who remained confident in BP's cost estimates said the U.S. lawsuit -- which runs alongside a criminal investigation into BP -- could yet have significance.

The degree to which the government suing for losses/damages increases BP's liabilities is a little unclear, said analysts at Evolution Securities.

Peter Hitchens, oil analyst at Panmure Gordon said the decision of the Obama administration to sue seemed a little perverse.

UNPREDICTABLE LEGAL PENALTIES

The mainly UK-based analyst community which covers BP has often struggled to estimate U.S. legal costs and penalties.

After a fatal blast at BP's Texas City refinery in 2005 that killed 15 workers, analysts predicted the disaster would cost BP $300 million to $400 million.

By 2008, though, BP had paid over $2 billion in compensation claims related to Texas City, while lost profits and repairs had cost another $1 billion at least.

The government's lawsuit also seeks damages from BP's partners in the well, Anadarko Petroleum Corp and Mitsui & Co Ltd unit MOEX, well driller Transocean Ltd and its insurer QBE Underwriting/Lloyd's Syndicate 1036.

Shares in Swiss-based Transocean, the world's largest offshore rig contractor, dropped 4.0 percent on Thursday. Anadarko's shares in Frankfurt were down 3.2 percent on Thursday.

Analysts said the inclusion of insurer QBE in the lawsuit alongside BP and other oil companies demonstrated that the U.S. government was casting its net as widely as possible as it seeks to cover the cost of cleaning up the spill.

They're just throwing these things at everybody. It's the dartboard approach, said one London-based insurance analyst.

Adding to the negative press on BP's safety record, leaked U.S. diplomatic cables reveal BP suffered a blowout on an Azerbaijan gas platform in September 2008 and was fortunate to evacuate workers safely, Britain's Guardian newspaper reported.

A BP spokesman said the company had a gas leak, not a blowout, and that this was reported at the time.

(Additional reporting by Raji Menon, Myles Neligan and Simon Falush in London and Blaise Robinson in Paris; Editing by Hans Peters)

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