Offshore Accounts loves covering corruption. Corruption is the elephant in the room in the offshore energy business, with the whole exploration and production sector seemingly riddled with kickbacks, bribes and conflicts of interest.
Nobody talks about it, companies routinely deny it, and publicists and analysts never, ever mention it, but prosecutors and investigative journalists keep digging up more oil and gas bribery cases.
In recent years we have covered both malfeasance and alleged malfeasance from afar as Keppel in strait-laced Singapore, Bourbon’s shenanigans in West Africa reaching trial (briefly), the curious case of the Congolese subsidiary of a Cyprus company apparently owned by the wife of an Italian boss in ENI, and the jailing of the unfortunate CEO of SBM, Tony Mace, for corruption, whilst his FPSO company was fined hundreds of millions across multiple jurisdictions.
Even the massive 1MDB scandal began with a deal between the crooked Malaysians and a company called PetroSaudi, which inflated the value of offshore acreage in Turkmenistan. Then there was Petrofac in Iraq with that company in Monaco, and the Afren scandal… and Panalpina’s brush with the Department of Justice over its facilitation payments in Nigeria. The list is endless. And it just got longer.
Most of what passes as the industry press in shipping and energy simply reprints corporate PR releases, so many in the industry remain blind to the evidence of prosecutor, judges and investigative journalists around the world.
But when an Interpol red notice for the arrest of a suspect involves the claim that the subsidiary of a leading offshore construction company spent sixteen million US dollars on prostitutes in Colombia, we should all sit up and pay attention.
The misguided acquisition of Chicago Bridge and Iron
The latest case covers what was probably one of the most misguided acquisitions in the history of the oil and gas business: McDermott’s purchase of Chicago Bridge and Iron Company (CB&I) last year.
This was always going to the deal which wrecked McDermott’s balance sheet, as industry analyst Jeremy Punnett warned eight months ago. In 2017, McDermott had weathered the offshore industry downturn very well through prudent management and a focus on its core shallow water pipelay, and engineering, construction and installation businesses.
McDermott built jackets cheaply and efficiently for blue chip clients like Saudi Aramco, and it pumped out profits. The company had US$3.2 billion in assets and almost no debt then. McDermott made an extremely healthy operating profit of US$324 million in 2017, when the rest of the industry was bleeding cash.
But McDermott was afraid that it might be bought by a larger predator like Technip or Subsea7, precisely because it was so successful. So, advised by Goldman Sachs, the company’s management decided to make a bid for CB&I, which specialised in the onshore construction of refineries, LNG plants and petrochemical facilities.
McDermott wanted to get bigger to save itself from being acquired. CB&I had US$6 billion in assets, but a massive US$5.6 billion in debt, and had lost over US$2 billion in the three years to the end of 2017. CB&I was a spectacularly unsuccessful company, which consistently lost money, and, worse, drained cash in its biggest projects, which were behind schedule and over-budget.
By August 2017 CB&I shares had plunged 70 per cent. The company was desperate for funding. McDermott took the bait as CB&I looked so cheap. Subsea7 heroically made a last-minute bid, valuing McDermott at US$2 billion in April 2018, just before McDermott shareholders voted to acquire CB&I. But it was too late, the CB&I deal was confirmed, and Subsea7 walked away on May 2, 2018.
$300 million in fees to Goldman Sachs and others!
The McDermott take-over provided the funding that CB&I so urgently needed, and provided a bonanza to the investment bankers and financiers. A note to shareholders reported that McDermott paid out $300 million in “finance, structuring and other fees.” Three hundred million dollars in fees! Abandon your nautical and engineering studies, and get a job at Goldman.
Pretty soon, though, the massive scale of CB&I’s problems became apparent. Within six months, McDermott was warning that it would need over US$400 of cash to fund CB&I’s horrific project portfolio.
The company turned to its good friends at Goldman Sachs, paying $11 million in fees to Goldman to raise a net of US$289 million, which carries an interest rate of 12 per cent on the nominal issue, a cost of $36 million per year (excluding tax effects, as Punnett stresses).
The deal also gave Goldman the right to warrants worth 3.75 per cent of McDermott’s stock. You could probably borrow money more cheaply on your credit card than McDermott was paying to save itself within six months of the CB&I deal closing, and you wouldn’t have to give away 3.75 per cent of your equity in the process!
And let’s remember that the $289 million raised needed to be borrowed, because in the acquisition McDermott had already paid out $300 million in fees to financiers and advisers. Insane!
The US$2 billion loss for 2018
The 2018 end of year report from McDermott showed the extent of the damage. From McDermott’s own $346 million profit in 2017, the combined new entity with CB&I reported a loss of over US$2 billion, as McDermott wrote off all the goodwill from the transaction, and reported a surge in accounts payable and a drain in working capital on projects in progress.
The McDermott stock price halved over the course of 2018. McDermott also announced that cash hungry CBI projects would consume another US$400 million of cash in 2019.
Horrible litigation liabilities
Worse, the annual report showed a horrific basket of legacy issues at CB&I, hidden away in the small print, which makes you wonder what due diligence McDermott did when it bought the company. There’s stuff to make your toes curl lies on pages 124 to 126 of the report, which you can read here:
This features ongoing asbestos litigation (a problem which bankrupted McDermott’s subsidiary Babcock and Wilcox in the late 1990s). There’s mercury exposure litigation from former CB&I employees. There’s a dispute over the sale of nuclear operations to Westinghouse by CB&I. There’s a law suit from the purchasers of CB&I common stock, “alleging damages on their behalf arising from alleged false and misleading statements made… from October 30, 2013 to June 23, 2015 by CB&I, its former CEO and CFO.”
Then there was litigation from McDermott stock holders against, “McDermott; David Dickson, president and chief executive officer; and Stuart Spence, chief financial officer.” The plaintiff has, “alleged that the defendants made material misrepresentations and omissions about the integration of the CB&I business, certain CB&I projects and their fair values, and [McDermott’s] business, prospects and operations”. Strange that.
Based on the two billion loss for 2018 and the emergency loan from Goldman at usurious rates of interest, you can see why the shareholders might be aggrieved at David Dickson. With litigation risk like that, you could write a whole season of courtroom drama and law office politics from the risks McDermott took on with this dreadfully ill-conceived acquisition. But there’s worse to come.
Finally, the $2 billion Colombian scandal
Then, finally there is an extensive disclosure on CB&I’s Colombian problem, which is written in gloriously terse and neutral legalese. It’s worth re-printing in full:
“We are in arbitration (governed by the arbitration rules of the International Chamber of Commerce) entitled Refineria de Cartagena S.A. v. Chicago Bridge & Iron Company N.V., et al which was commenced on March 8, 2016 in connection with a large, cost reimbursable refinery construction project in Colombia completed by CB&I in 2015.
“Refineria de Cartagena, the customer on the project, is alleging that we are responsible for certain cost overruns, delays and consequential damages on the project. The customer is claiming total damages in excess of US$4.5 billion. We have asserted a counterclaim against the customer for approximately US$250 million.
“The parties are currently preparing witness statements, expert reports and other filings that are scheduled to be submitted to the tribunal in February 2019, though the parties are currently seeking an extension to that date. While the arbitration hearings were scheduled to being in April 2019, it is now expected that the hearings will not take place until the first or second quarter of 2020.
“The venue for the arbitration hearings is New York, New York. We do not believe a risk of material loss is probable related to this matter, and accordingly, our reserves for this matter were not significant as of December 31, 2018. While it is possible that a loss may be incurred, we are unable to estimate the range of potential loss, if any.”
So far, so good…. A $4.5 billion claim which might not succeed. No big deal, right? Who hasn’t been sued for $4.5 billion by an angry customer and taken to arbitration? Then, in early July, a Colombian judge requested the arrest and extradition of Masoud Deidehban, described as a former program director of CB&I. The Colombian prosecutor called the case the, “biggest corruption scandal in history.” Presumably in the history of Colombia?
The judge asked Interpol to issue a red notice against Mr Deidehban, and he also ordered the jailing of former CB&I CEO Philip K. Asherman, according to Colombian media. The Prosecutor General’s Office claims the two executives allegedly joined executives of Colombia’s state-run oil company in a torrid rampage of corruption that led to at least $2 billion in losses at Ecopetrol’s oil refinery upgrade in the Caribbean city of Cartagena, the subject of the $4.5 billion arbitration.
A key figure has emerged to blow the whistle on CB&I: Danish lawyer Nicolas Isacksson, the former director of Ecopetrol’s legal team. Mr Isacksson apparently made copies of email exchanges between him and his colleagues and CB&I, and this recovered data is an important part of the prosecution case.
Amongst predictable claims for overpriced subcontracts, inflated billing, and work not completed properly, the Colombian prosecution claims that, as part of the refinery’s upgrade, the Ecopetrol and CB&I team, “spent $16 million on prostitutes, which was written off as a business expense among other exotic excesses.” Enough said.
Conclusion: Not looking good for McDermott
I am not a specialist in these matters, but I would observe:
- Sixteen million dollars is an awful lot of money to spend on hookers. Suddenly The Wolf of Wall Street looks tame compared to what was allegedly happening in Cartagena with CB&I.
- It sounds like this dry piece of arbitration has the potential to make an excellent film. Perhaps Leonardo Di Caprio can play David Dickson?
- Whatever litigation damage McDermott faces in arbitration, the reputational damage from this case is far higher. See above, exotic excesses and all.
- The reputational and personal danger for individuals involved at CB&I from a criminal case by Colombian prosecutors is much greater than the cost of an arbitration claim, and will absorb even more of the management and board time of McDermott.
- The United States Department of Justice might well be looking into potential violations of the Foreign Corrupt Practices Act, which outlaws the bribery of foreign officials by American companies and individuals. It seems likely that the senior management of the Colombian state oil company Ecopetrol would possibly be considered foreign officials. By acquiring CB&I McDermott is responsible for any legacy issues relating to CB&I’s compliance, or lack thereof.
- The individuals at CB&I have not had their chance to defend themselves in court yet, and no convictions have yet occurred. However, the Colombian prosecutors have tweeted widely on the cases they are preparing, and these have been covered in the Colombian media. We can probably expect further lurid details to follow.
- Who did the due diligence on CB&I exactly?
In short, the acquisition of CB&I by McDermott must rank as one of the biggest financial disasters in the history of the offshore industry. McDermott shareholder and employees face a significant period of uncertainty, a long list of liabilities, and the core business may be at risk from the massive debts racked up by CB&I, and its insatiable need for cash. Meanwhile, the sex workers of Cartagena, McDermott’s richly remunerated financiers and advisers, and the sellers of CB&I itself seem to be the only beneficiaries so far in this sorry saga.
History of McDermott is here: http://www.fundinguniverse.com/company-histories/mcdermott-international-inc-history/
An excellent analysis of McDermott’s borrowing costs and financing fees for the CB&I deal by Jeremy Punnett is available here: https://fromthesouthsea.com/
This anonymous commentator is our insider in the world of offshore oil and gas operations. With decades in the business and a raft of contacts, this is the go-to column for the behind-the-scenes wheelings and dealings of the volatile offshore market.