A Petrobras Scandal Hampers Brazil

6 MINS READFeb 21, 2015 | 14:02 GMT
Military police watch as workers from a company sub-contracted by Brazil's government-run oil company Petroleo Brasileiro gather at a protest at the company's headquarters on Feb. 4.
Military police watch as workers from a company sub-contracted by Brazil's government-run oil company Petroleo Brasileiro gather at a protest at the company's headquarters on Feb. 4.
(Mario Tama/Getty Images)

A corruption scandal surrounding Brazilian energy giant Petroleo Brasileiro SA has had repercussions throughout Brazil amid an economic slowdown. The full economic impact will depend on how damaging it is to contracts between Petrobras and other implicated firms and on how much the company will write down its assets. The scandal will also complicate, if not derail, the contentious reforms Brazilian President Dilma Rousseff planned to enact during her second term, and it will add to existing social and political pressures on the government. 

Petrobras is enormously significant to the Brazilian economy. It controls more than 90 percent of Brazil's oil production and the largest amount of natural gas, and it owns more than 90 percent the country's refineries. The company, nearly 60 percent of which is owned by the Brazilian government, is also a major international energy player, an expert in deepwater technology, and the main driver behind other areas of industry in Brazil such as machinery, shipbuilding and construction. Petrobras is the largest multinational corporation in South America, and it generates approximately $140 billion in revenue per year. However, it is also the world's most indebted oil company, holding about $130 billion in outstanding debt obligations.

The Scandal's Effects

While Petrobras is seen as the "national champion" of Brazil, the company has become a center of controversy related to a corruption scandal that erupted in 2014. A federal police investigation, called Operation Car Wash, revealed that Petrobras' suppliers and subcontractors had bribed executives in return for inflated contracts. According to the Brazilian Federal Police, the group under investigation received more than $3.9 billion in what was described as "atypical" financial transactions. In March 2014, Paulo Roberto Costa, the former head of Petrobras' refining and supply unit, named dozens of politicians who allegedly took bribes from the Brazilian company. In November 2014, the corruption probe led to the arrest of dozens of executives from the company and its suppliers.

As a result, Petrobras halted payments on many projects and prohibited new contracts with some of the country's biggest engineering, construction and oil services firms, including Odebrecht, Camargo Correa and Galvao. The scandal also led to the resignation of the company's CEO, Maria das Gracas Foster, on Feb. 5 and the subsequent appointment of a new head, former Bank of Brazil chief Aldemir Bendine, who is seen as a loyal Rousseff ally. Most of the board of directors of the company will be replaced by the end of February.

Following a probe of Petrobras' finances, external auditors have refused to certify the company's 2014 third-quarter financial results, and the release of Petrobras' audited financial results have been delayed since November. If the company fails to release audit results by June, owners of its $54.5 billion in bonds could demand immediate repayment. Therefore, Bendine's immediate challenge is to calculate how much Petrobras must devalue its assets so that it can release an audited balance sheet. The company announced Feb. 12 that it plans to publish audited results for 2014 by the end of May, and Bendine has said that potential write-downs caused by the corruption scandal would be quite significant but "much lower" than estimates of nearly $31 billion made in notes accompanying Petrobras' unaudited third-quarter results.

Economic Implications

The scandal comes amid an economic slowdown in Brazil largely caused by lower commodity prices, which make up a substantial portion of the country's production and exports. So far, the controversy has not had a major impact on Brazil's energy production. Indeed, according to the Ministry of Energy and Mining, Brazil's total oil and liquefied natural gas production reached 2.34 million barrels per day in 2014, growing 11 percent from 2013. However, the Petrobras scandal will likely have a more negative impact in 2015 as the full extent of the issue continues to unfold and as low oil prices cut into production revenue and reduce investments.

Brazil GDP Growth by Year

The major question will be how much the legal proceedings against Petrobras and other companies implicated in the scandal (which account for as much as 10-20 percent of Brazil's GDP) will affect their operations. If all contracts and business related to the scandal were shut down, Brazil's economic growth for this year could easily drop below -2 percent. However, if some of the contracts can be preserved or adjusted, the impact could be less severe. The length of the legal work and court cases is also important, though it would not necessarily halt the functions of the companies and people involved while it is being carried out.

One relevant case study is that of Delta, a Brazilian construction firm embroiled in a similar corruption scandal in 2012. In Delta's case, the leaders involved in the scandal were sacked and the contracts involved were moved to other companies. In addition, some of the people working for the company were able to switch jobs and work for the new holders of the contracts. However, Petrobras is a much larger company than Delta, and this scandal will consequently be handled more seriously.

Political Implications

In terms of political impact, the Petrobras scandal did not prevent Rousseff from winning the presidential election in October 2014, though her margin of victory was one of the smallest in Brazilian history, giving her a weak mandate in her second term. Further revelations about the scandal since the election have contributed to a significant decline in Rousseff's approval rating, plunging by nearly half since her re-election to 23 percent — the lowest approval rating for a Brazilian president since 1999. Brazil's attorney general said that a Federal Supreme Court investigation will soon be launched against politicians involved in the controversy, and any further negative developments could force a Cabinet change or even an attempt to launch impeachment proceedings against Rousseff.

Rousseff already faced political challenges related to her appointment of a new economic team, which has emphasized austerity measures as a means to offset the country's budget deficit and restore Brazil's economic growth. These socially and politically sensitive measures include tax and interest rate hikes, social and unemployment benefit reductions, and fuel and power tariff increases, which are likely to provoke opposition from Brazil's many social activism groups and labor unions this year. Furthermore, the energy sector is one of the largest employers in Brazil. Thousands of jobs have been eliminated, particularly in the tertiary companies that service Petrobras, and more cuts could follow, increasing pressure from labor and social groups. Greater tension within the government is also likely and could include legislative investigations launched by the lower house or the Senate.

The full impact of the challenges created by the Petrobras scandal will become more evident in the coming months. It is likely the main hurdle the Brazilian government will face this year.

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