(CVX) Chevron’s Brazil Dream Sours

U.S. energy behemoth Chevron Corp. (CVX) has been temporarily suspended from ‘all drilling activities’ in Brazil by the country’s oil regulator – Agencia Nacional do Petroleo or ANP – following an oil leak 74 miles off the coast of Rio de Janeiro. The agency’s diktat will remain in effect until it identifies the causes of the spill and considers it safe to resume drilling. Chevron has already been slapped with a fine of R$50 million ($28 million) by Brazil’s environmental regulator.

The ruling has come after the super-major accepted full responsibility for the spill that began at its deepwater Frade field on November 7, about 230 miles from the beaches of Rio de Janeiro. Chevron’s multibillion-dollar Frade project in partnership with Brazil’s state-run energy giant Petrobras S.A. (PBR) and a Japanese consortium, was Brazil’s eighth most productive field in September with a daily output of 75,000 barrels of oil.

Chevron’s most recent estimates put the size of the leak at approximately 2,400 barrels, or 100,800 gallons, up from earlier estimates of 400 to 650 barrels. The company has acknowledged that it had miscalculatied the pressure and rock strength in the exploratory well.

While the leak is relatively small compared to last year’s deepwater Horizon rig disaster in the Gulf of Mexico – that killed 11 workers and spewed more than 200 million gallons of crude – and as claimed by Chevron, has already been contained to a great extent, it has rocked the company’s credibility in Brazil.

With Brazilian officials accusing Chevron of being negligent and slow in reacting to the incident apart from falsifying information provided in response to the spill, the third-largest oil producer in the country behind Petrobras and Royal Dutch Shell plc (RDSA) could have to cough up an additional R$100 million in fines.

Though the area offshore Brazil is not a major part of Chevron’s upstream portfolio and accounts for just 2-3% of its global assets as against 17% for Australia and 21% for the U.S. Gulf of Mexico, in recent times the company has invested heavily in the development of deepwater fields in the South American nation.

Brazil has huge pre-salt reservoirs (oil deposits located in the sea bed under thick layers of salt) that lie below the Espírito Santo, Campos and Santos basins in deep and ultra-deep water. These reserves, estimated to hold upwards of 50 billion barrels, are widely thought to be the most important oil find in recent years.

As such, the ban on Chevron to further drill and explore for oil in Brazil will surely hurt the company’s hopes for a significant toehold in the strategically important country’s offshore riches.

In particular, as access to new energy resources becomes more difficult, Chevron, like most of its peers, will face headwinds to replace its reserve base.  Given its large base, achieving growth in oil and natural gas production has been a challenge for the company over the last many years. With the established oil producing regions of Europe and North America well beyond their prime, the search for growth has pushed Chevron into riskier regions like Brazil.

San Ramon, California-based Chevron is one of the largest publicly traded oil and gas firms in the world, based on proved reserves. It is engaged in oil and gas exploration and production, refining and marketing of petroleum products, manufacturing of chemicals and other energy-related businesses.

Chevron is currently a Zacks #3 Rank (Hold) stock, implying that it is expected to perform in line with the broader U.S. equity market over the next one to three months. We are also maintaining our long-term Neutral recommendation on the stock.

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