Last Nov. 7 something went wrong at a deep-sea oil well operated by Chevron (CVX) 230 miles northeast of Rio de Janeiro. As a massive drill bit punctured reservoir N560, roughly 3,500 feet beneath the ocean floor, monitors revealed pressure much higher than technicians expected. The next day a routine flyover of the field, called Frade, in the Campos Basin, revealed oil on the water’s surface.
Chevron dispatched remote-controlled submarines, which found oil seeping through fissures on the sea floor directly above N560. The blowout preventer, a three-story-tall valve assembly, automatically cut off oil flow at the wellhead. This would not become another BP (BP) disaster, in which the blowout preventer notoriously failed. Still, George Buck, president of Chevron’s Brazil subsidiary, ordered the Frade well shut down. Chevron sent 18 vessels in rotation to contain the oil on the surface, and it readied pyramid-shaped steel caps to cover the seepage points. Workers completed the job in just four days. Buck saw the situation as under control. And technically, it was.
A petroleum engineer in his mid-forties, Buck has an MBA and has worked for Chevron for 23 years. He is 6-foot-5, slender, soft-spoken, and earnest to the point of social awkwardness. He arrived in Brazil in 2009, having worked from Alaska to Texas to Indonesia. He lives with his family in Rio’s fashionable Ipanema beach district. He is not a man about town. After three years in Brazil, he speaks little Portuguese, relying heavily on translators. Nevertheless, on the Frade spill, Buck thought he had made himself quite clear. “Chevron takes full responsibility for this incident,” he said at a press conference in Rio on Nov. 21. At a congressional hearing in Brasília two days later, he added, “Sincere apologies to the Brazilian people and the Brazilian government.”
Brazilian politicians and journalists were not placated. “We’re going to show this gang that they can’t come down here and create whatever environmental mess they want,” Carlos Minc, a co-founder of Brazil’s Green Party and environmental secretary of Rio state, told the newspaper O Globo. “I want to see the CEO of Chevron swim in that oil.” Local Greenpeace activists doused the door of Chevron’s Rio office with black ink. “Chevron: your mess, our loss,” read one protester’s placard. “There is no doubt that an offense occurred,” declared Fabio Scliar, chief of the Brazilian federal police department’s environmental division. “What interests me now is determining the responsibilities.”
In December, Eduardo Santos de Oliveira, a Brazilian federal prosecutor, answered the police investigator’s question when he sued Chevron for the equivalent of $11 billion for alleged environmental damage. Twelve weeks later a Brazilian navy plane spotted a second oil sheen above a different section of Frade, and on Mar. 21, Oliveira filed criminal charges against Buck and 16 other employees of Chevron and its main drilling contractor. The contractor, Transocean (RIG), had operated the Deepwater Horizon rig that exploded in the Gulf of Mexico in April 2010, killing 11 men and spewing 4.9 million barrels of oil. The Frade spill, by contrast, was capped at 2,400 barrels, according to Chevron. There were no injuries at Frade, no contaminated fisheries, no dead turtles, and no oil on shore (the slick moved out to sea and broke up swiftly). Even so, a judge acting at Oliveira’s request ordered the Chevron and Transocean defendants not to leave Brazil and had their passports confiscated. The accused, mostly veteran expatriates, include six Americans, as well as citizens of France, Australia, Canada, and the U.K.
“Chevron and Transocean have caused a contamination bomb with a prolonged effect,” Oliveira said, as he filed charges against the 17. An outspoken career prosecutor who under Brazilian law enjoys tenure in his influential civil service position, he alleged “crimes against the environment”—namely, that the defendants knew they were drilling in a high-pressure reservoir, recklessly proceeded anyway, and caused severe ecological harm. Oliveira has said that if convicted, the defendants could face prison terms as long as 20 or 30 years.
Kurt Glaubitz, a Chevron spokesman based at company headquarters in San Ramon, Calif., calls the charges “outrageous and without merit.” Chevron, he adds, “will vigorously defend the company and its employees.” Transocean likewise says that neither it nor its workers did anything wrong.
Yet Oliveira wasn’t done. In early April he sued again, escalating his total damages claim to $22 billion. A company that tried to respond responsibly to a regrettable but noncatastrophic accident was blindsided, says Rafael Jaen Williamson, who handles public affairs for Chevron in Latin America. “There was among our guys a puzzlement.”
For all its global reach and technological sophistication, the second-largest U.S. energy company (ranked behind only ExxonMobil (XOM) in market capitalization) didn’t have an effective plan for a sudden and multifront assault that included populist protest, political posturing, and criminal prosecution—for, in Chevron’s view, cleaning up after itself. Part of the blame rests with Chevron’s top executives in Brazil. The company represented itself in a critical foreign market with a surprisingly provincial American face. Buck, by all accounts a talented and exacting internal corporate leader, is not the statesman Chevron needed to explain the Frade accident to Brazil’s media.
There was more to the crisis, though, than bungled public relations. Chevron got caught up in Brazilian political crosscurrents having little in particular to do with the U.S. company but revealing much about the delicate state of Brazil’s burgeoning oil industry. “They were the wrong company in the wrong place at the wrong time,” says Denis Palluat de Besset, managing director of the Brazilian unit of the French oil company Total (TOT). During a coffee break at an industry conference at an oceanside Rio resort, Besset says he sympathizes with his U.S. rivals. “In Brazil,” he adds, “this could happen to any of us at this moment.”
Frade (pronounced FRA-dje) refers to a fish found off the Brazilian coast. The project became Chevron’s when it bought Texaco in 2001. Chevron operates the $3.6 billion venture and owns 51.7 percent of it. Petrobrás (PBR), the Brazilian state oil company, owns 30 percent; a Japanese consortium, the remaining 18.3 percent. Frade produced its first oil in 2009; until its recent troubles, it generated 79,000 barrels a day from 11 wells.
The mysteriously elevated pressure encountered in reservoir N560 in November occurred in an “appraisal” well, which is one still being explored and not yet producing. How Chevron made this mistake—misjudging the conditions in an undersea oil pool—has not yet been determined. The company says it’s studying the incident, as are Brazilian regulators. Regardless of whether these investigations find negligence, the Frade episode demonstrates once again that deep-water drilling is a risky enterprise. Ph.D.s aren’t omniscient; their computer models aren’t flawless.
The unanticipated pressure led to a surge of petroleum that cracked the well bore, allowing oil to escape upward toward the ocean floor in tiny rivulets. For the initial four days after discovering the accident, Chevron had almost nothing to say in public in Brazil. Executives at the company’s collegiate San Ramon campus instructed Buck to focus on the leaking oil and remain mum until he and his colleagues had a sense of what had happened.
The Brazilian media took immediate and disapproving note of Chevron’s lack of disclosure. When Buck finally emerged to make a series of public appearances, he delivered lengthy engineering and geology lectures in English to reporters who don’t speak his language. At times, he was visibly flustered when journalists shouted questions in Portuguese. He admitted to colleagues he was out of his depth. “I’m just a driller,” he said privately after one heated encounter.
“We didn’t necessarily put our best foot forward in some of the communication,” Chevron Chairman and Chief Executive Officer John Watson conceded during a conference call with U.S. securities analysts on Jan. 27. Nor did the company seem to appreciate that it has a tainted reputation among environmental activists throughout Latin America because of an unrelated case in Ecuador. In February 2011 an Ecuadorian judge imposed an $18.2 billion contamination judgment on Chevron concerning past activities of Texaco in the Amazon rainforest. Chevron has lost an initial appeal in Ecuador and is continuing to fight the enormous verdict, alleging it was the product of fraud. According to one Brazilian oil industry lawyer, the Ecuadorian case has been “inspirational” to activists elsewhere in the region who dream of winning their own multibillion-dollar victory against a multinational.
Buck, for one, still seems baffled. Chevron’s lawyers won’t let him sit for a formal interview, but he amiably agrees to a handshake and brief chat in his spotless corner office. He’s trying to go about his usual business in Rio, but it’s clearly no fun living under a cloud of official condemnation. “When you figure out what happened here,” he says, “please let me know.”
Chevron’s antagonists in Brazil gained real momentum in March, after the second seepage created the impression that the company’s Frade operations were out of control. Yet, the incident in March may turn out to be nothing at all. According to Chevron, the event generated a surface sheen of only a single barrel, and occurred three kilometers away from the November spill, above a separate reservoir that had not been drilled. The November and March incidents, the company says, seem to have been unrelated. The much smaller amount of rogue oil discovered in March was more degraded, suggesting it had been in the water longer. It also lacked any trace of drilling mud, a heavy industrial fluid used in appraisal and production. The March mini-sheen, in other words, may have been entirely natural; searching for natural seepage is part of the oil-prospecting business.
Photograph by Rafael Andrade/Folhapress
All the same, Chevron voluntarily shut down the entire Frade field—the largest such moratorium in the company’s history—to allow geologists to determine why they failed to anticipate the high pressure in reservoir N560. Chevron says on its website that it “has coordinated with Brazilian authorities at all stages and will continue to work with them until the incidents are fully resolved.” The company has exchanged voluminous information with Brazilian environmental and oil-industry regulators, and those agencies have announced likely fines on the order of tens of millions of dollars (a prospect that surprises no one involved). So far, though, it appears unlikely that penalties of this scale will satisfy Chevron critics such as Minc and Oliveira, no matter how hard the company tries to resolve the overblown scandal.
As Brazil’s first oil spill controversy following the 2010 Gulf of Mexico disaster, Frade has raised questions about whether the country would back away from deep-sea exploration or distance itself from foreign producers. At a Mar. 13 meeting with securities analysts, Chevron’s Watson said the company wants to be “a player in Brazil for a long time.” He hedged, though, adding, “it remains to be seen.”
In Rio, São Paulo, and Brasília, though, there is no indication that the nation’s leadership or the majority of its citizens are rethinking their commitment to offshore oil or to some involvement of foreign energy companies. Brazil is not Argentina—where last month the government expropriated the Spanish company Repsol’s (REP:SM) stake in the petroleum producer YPF (YPF)—let alone Venezuela under the virulent anti-American rule of Hugo Chávez. Along with Chevron and Total, Royal Dutch Shell (RDS/A), Statoil (STO), and BP are all present in Brazil. With more than 800 employees in the country, 90 percent of them locals, Chevron has the most substantial presence of any of the foreigners. The very scale of Brazil’s hydrocarbon supply, along with a spreading anxiety about the country’s ability to exploit the resource safely and efficiently, helps explain Chevron’s situation.
In 2007, Brazilian geologists made the biggest oil find in the Americas in three decades. Five miles below sea level, and beneath a shifting layer of cretaceous salt deposits, the discoveries have been estimated at 50 billion to 100 billion barrels. These “presalt” oil beds are spread over an area the size of New York State. (Frade is not a presalt field, although it’s close to the 2007 find.) Already a commodity titan—the world’s biggest exporter of beef, coffee, sugar, and orange juice—Brazil suddenly had the potential to become a global leader in energy as well. Then-president Luiz Inácio Lula da Silva declared that the presalt opportunity demonstrated that “God is Brazilian.” His successor, Dilma Rousseff, a former energy minister who was chairman of Petrobrás for seven years during Lula’s administration, has called the reserves her nation’s “passport to the future.”
Norman Gall, executive director of the Fernand Braudel Institute of World Economics, a corporate-funded think tank in São Paulo, worries that oil-fueled euphoria has bred in the Brazilian political class “the illusion of limitless resources on the horizon.” He points to a Lula cabinet statement issued after the 2007 discoveries that described the presalt fields as promising “extremely low exploration risks and great profitability.”
This notion of easy prosperity propelled enactment of nationalistic legislation requiring Petrobrás to be the sole operator of all “strategic” presalt reservoirs and to own at least 30 percent of the projects. In a prescient 2011 paper, Gall warned that these obligations will “strain Petrobrás’s already stretched manpower, financial, and technical capacities.”
Even before it begins to produce much oil from the presalt fields, Petrobrás is struggling to keep pace with its own ambitious plans. Last year it announced a five-year, $225 billion expansion program. Yet 2011 marked the first year in eight that Petrobrás slowed capital expenditures, laying out 5.1 percent less than it did in 2010. Operating under strict local procurement rules, it has had difficulty acquiring sufficient Brazilian-made vessels, pipelines, and drilling gear. Its costs are rising faster than predicted, and its refineries are overextended. In the fourth quarter of 2011 these problems contributed to a 52 percent drop in net income, to $2.9 billion. The stock market has signaled concern: Petrobrás shares traded publicly in New York have declined by a third over the past year, to less than $22 apiece. Rather than grapple with the tremendous operational challenges accompanying accelerated oil development, many Brazilian politicians are distracted by how to divide up the anticipated profits, Gall says. “They’re not focused at all on the operations of the oil industry or whether the industry is trying to do too much too quickly.”
The Brazilian Congress is considering legislation that would reduce future royalties flowing to coastal oil-producing states and redistribute the money among all 26 Brazilian states. Under the proposed law, the states of Rio de Janeiro and Espirito Santo could lose billions of dollars a year. Rio state’s governor has threatened a court challenge if the bill is enacted. Not long after the Brazilian Senate approved the royalty redistribution plan in mid-October, 150,000 people marched in protest through the streets of Rio de Janeiro.
It was amid this turmoil and uncertainty that the accident in the Frade field occurred. In Brazil, Gall argues, “there is a tendency to project out, to push the blame out, as a way not to think about difficult problems, like whether we have thought through carefully all the risks of presalt.” Chevron made itself an easy target.
For an official known for public vehemence, Oliveira comes across in an interview at the Federal Prosecutors’ Office in Rio as open, friendly, and eager to explain himself. He brings with him a pair of public-relations aides and a junior lawyer. In every case, he says, he follows the facts wherever they take him. “My professional career, since 1984, has always been through competitive selection,” he says. “I never got a job through political decisions.” Although based in the city of Campos in the state of Rio, he says he has no interest in the debate about distribution of oil royalties. He also points out that he helped investigate a notorious incident in 2001, when a Petrobrás offshore platform called P-36 exploded as a result of equipment failure, killing 11 workers.
Oliveira says he’s not grandstanding by threatening foreign oil workers with prison. Criminal behavior demands stern punishment, he says. “There is no nationalism or xenophobia.” As for his demand for tens of billions of dollars in damages, he points out that “Chevron has every right to dispute this figure, to try to adjust the size.” Previously, he has stressed the scope of ecological damage; in the interview, he focuses on the “incalculable” structural damage he alleges that Chevron caused the Frade field. “Our concern is that the geology of the field has been compromised.” Chevron says this isn’t so and that it intends to resume exploration and production in Frade.
Without prompting, the prosecutor announces what seems like big news: He plans to add another major U.S. company as a defendant in his multibillion-dollar suit. Halliburton (HAL), the oil services company, he claims, failed to use sufficient steel piping and cement in doing what’s known as completion work on the well that leaked. Asked about this allegation, a Chevron spokesman says it’s incorrect. While Halliburton did help finalize construction of other wells at Frade, the well was plugged before Halliburton’s services were needed, according to Chevron. A Halliburton spokeswoman likewise says the company wasn’t involved in the completion work at the well. Queried the next day, Oliveira says he saw Halliburton’s name in a police investigative report on the Frade accident. He is continuing to study the contractor’s exact role. His shoot-from-the-hip style, however, leaves Oliveira’s intentions toward Halliburton unclear.
“Brazilian politics and business are not easy to understand from the outside,” says Luis Octavio da Motta Veiga. A lawyer for oil, mining, and banking interests, Motta Veiga formerly headed the Brazilian equivalent of the U.S. Securities and Exchange Commission. Twenty-two years ago he served briefly as chairman of Petrobrás. While he has no direct involvement in the Frade matter, he contends that Brazilian attitudes toward environmental threats vary according to the alleged violator. “Petrobrás owns 30 percent of Frade [and] has had eight small spills in the past year, and I have heard nothing about it in terms of protest,” the attorney notes. “It is easier to complain about the foreigners rather than Petrobrás,” Brazil’s flagship corporation, a source of national pride, and a funder of numerous cultural causes.
As for Oliveira, Motta Veiga says, the U.S. has no equivalent official. As a tenured civil servant, Oliveira cannot be dismissed as someone motivated by lust for campaign contributions or reelection. This species of prosecutor, however, makes a name by bringing headline-generating cases, often framed in the most extreme terms imaginable, with the widely held expectation that in due course the judicial process will winnow down the allegations and damage claims. “He can ask for the highest damages possible,” says Claudio dell’Orto, president of the Rio State Magistrates Association. “Then, with the evidence, the value gets adjusted.”
In recent weeks the situation got even more complicated. Going after Chevron, it’s become clear, will have collateral consequences. The controversy has been a factor in the delayed bidding process for the presalt oil fields, which will be the first round of offshore licensing in Brazil since 2008. Originally scheduled for late 2011, the globally awaited auction is now expected in 2013 at the earliest.
On Mar. 30, Petrobrás spoke for the first time about the Frade affair. In a Brazilian regulatory filing, the company warned investors that it theoretically could bear some liability for the accident and called Oliveira’s gigantic damage estimates “unreasonable.” On April 7, Chevron announced that while investigating the ocean floor near Frade, it found a small amount of oil leaking from the sea bed of a Petrobrás-controlled field called Ronador (this was the last in the series of minor Petrobrás leaks to which Motta Veira referred). This alert was met by a lack of excitement among Brazilian journalists and public officials.
Two days later, on April 9, while accompanying President Rousseff on an official state visit to Washington, Petrobrás CEO Maria das Graças Foster commented on the Frade spill and Chevron. “We have a very good partnership in Brazil,” she said at an event at the U.S. Chamber of Commerce, “but they are the operators, so they need to give the official answers.”
Finally, on April 11, Chevron received its first welcome news in the matter when a Brazilian federal judge denied a request from the prosecutor Oliveira to suspend the company from operating in the country as part of his multibillion-dollar suit. In a statement, Chevron said it “acted diligently and appropriately, and in accordance with the best practices in the oil industry.” The denial of the injunction suggests the judiciary will examine the legal actions against Chevron and its employees with appropriate skepticism, says David Meiler, a partner with Felsberg & Associates, a Rio law firm that represents drilling contractors but is not involved in the Frade case. “This is actually an opportunity for the judiciary to demonstrate its independence,” Meiler adds.
In early May the judge allowed Buck and four other foreign workers to leave Brazil on the condition that they return to face the still-pending criminal charges. Barring evidence of malfeasance, Meiler predicts that none will go to prison. (All charges against one Chevron employee have already been dropped, the company says.) For the moment, the threat still hangs over them, and the Brazilian legal system grinds slowly. “This is going to take forever, unfortunately,” Meiler says. Oliveira, the prosecutor, explains that in Portuguese, “forever” translates into “five, six, 10 years.”