Petrobras Scandal Hurts Rousseff

November 12, 2014

SAO PAULO, BRAZIL — In winning her second four-year term in one of the closest and nastiest elections ever fought in Brazil, President Dilma Rousseff spent much of her campaign trying to avoid the fallout from a corruption scandal that has beset state-controlled oil company Petrobras – and she could well spend her new administration dealing with a worsening of the scandal. United States as well as Brazilian investigators have now been brought in, raising the spectre of further disclosures and, since Petrobras’ ADRs are traded on the NYSE, the wrath of US law enforcement and regulatory agencies.

The controversy erupted after Paulo Roberto Costa, the former head of Petrobras’ refining and supply unit, was arrested in March as part of an investigation into money laundering. Costa took a plea bargain, turned state’s witness and told a Congressional investigation how the scheme worked. In additional testimony leaked to a leading news magazine, Veja, he implicated senior political figures. His accusations were backed up by his business partner Alberto Youssef, a foreign exchange dealer who has also confessed.

The scheme reportedly involved skimming three percent off the top of all contracts, with some of the money financing political campaigns. More than 30 politicians were said to have received cash, including several government allies – among them Senate leader Renan Calheiros, president of the Chamber of Deputies Henrique Eduardo Alves, and former Rio de Janeiro governor Sérgio Cabral. Mining and Energy Minister Edison Lobão was another accused of receiving the money, as was Eduardo Campos, the presidential candidate killed in a plane accident in August.

Although most Brazilians have long presumed such deals take place, there has been little hard evidence to prove this and few people have been convicted. Brazil, the world’s seventh biggest economy, loses an estimated 1.4 percent-2.3 percent of its annual GDP to corruption every year, according to the Sao Paulo Federation of Industries. It sits 72nd out of 117 countries on Transparency International’s Corruption Perceptions Index.

Worryingly for Petrobras, which is renowned for its deep-water expertise but not for its financial efficiency, some of the cash reportedly came from transactions that were already making headlines for the wrong reasons. The most eye-catching was Petrobras’ purchase of the Pasadena oil refinery in Texas. The company paid $1.24 billion for the refinery in 2008, just two years after Belgian company Astra bought it for $42.5 million. And the budget of the Abreu e Lima refinery in northeastern Brazil, a project that Paulo Roberto Costa oversaw, is now 10 times its original cost – making it the most expensive refinery in the world per barrel of oil – and still behind schedule.

In the hours after her victory, President Rousseff said she would “leave no stone overturned” in investigating the Petrobras affair and that she would “bring those responsible to justice, no matter what it takes”. Then a few days later, it was announced that the delay in reporting Petroleo Brasileiro Petrobras SA (ADR)’s third-quarter results was caused by PricewaterhouseCoopers’ refusal to sign off on them. And that the US and Brazilian law firms Gibson, Dunn & Crutcher and Trench, Rossi & Watanabe Advogados had been hired to probe deeper in order to meet the audit and regulatory requirements of both countries.

President Rousseff has a reputation for being tough on malfeasance but she is likely to find herself on the back foot as more revelations emerge. Veja ran a cover story saying she and her predecessor Luiz Inacio Lula da Silva knew about the 3 percent slush fund, which she has vigorously denied. With the government owning 48 percent of the total shares of Petrobras and 64 percent of its voting shares, the president names the CEO and some of the board directors. Ms Rousseff herself, a former energy minister, served as chairperson between 2003 and 2010.

Political analysts do not believe the accusations will be serious enough to bring down her government, but they will at the very least constitute a serious distraction and complicate relations with the 28 parties in Congress, many of which she must court in order to pass legislation.