Bloomberg.com: Shell Sought to `Manage' a Shortfall in Reserves and Failed, Audit Finds
April 19 (Bloomberg) -- Royal Dutch/Shell Group executives two years ago knew the company's reserves were overstated by 2.3 billion barrels and sought to ```manage' the problem'' and ``play for time,'' a strategy that failed, an internal audit found.
Executives including Walter van de Vijver, the former head of oil and gas production, hoped that more wells, rising natural gas demand or new drilling licenses would later justify the reserves and resolve the matter, according to the report, which called that approach ``unrealistic.''
``The market can only be `fooled' if credibility of the company is high,'' Van de Vijver wrote in a September 2002 note to the Committee of Managing Directors, the senior executives in charge of Shell operations, the report said. ``Unfortunately, we are struggling on all key criteria'' in delivering results to investors, he wrote.
Europe's second-largest oil company today cut oil and gas reserves for the third time this year and replaced Chief Financial Officer Judith Boynton, following the ouster last month of Chairman Philip Watts and Van de Vijver. Boynton, in her role as head of finance and disclosure, ``took virtually no action'' early on to investigate the extent of the overbookings, the report prepared by law firm Davis Polk Wardwell said.
``It's catastrophic for confidence,'' said Jerome Forneris, who helps manage about $5 billion at Banque Martin Maurel in Marseille, France, and holds Shell shares. ``It's a problem of trust in management.''
The credit ratings of Shell were cut from AAA at Standard & Poor's, leaving only two companies in Europe with such an assessment, foodmaker Nestle SA and drug company Novartis AG.
Van de Vijver, Watts and Boynton couldn't be reached for comment. Joseph Goldstein, Watts's lead counsel at Washington's Crowell & Moring LLP, didn't return calls and an e-mail. Samuel Winer, who represents Boynton at Foley & Lardner in Washington, also didn't return calls seeking comment.
Inadequate
``Unfortunately, the Davis Polk report does not describe the extraordinary efforts Mr. Van de Vijver undertook,'' John Dowd, who heads the criminal litigation department at Akin, Gump, Strauss, Hauer & Feld in Washington and represents Van de Vijver, said in an e-mailed statement.
The report concluded that ``Shell guidelines were not adequately designed to yield compliant reporting of proved reserves.''
Documents cited in the summary of a Shell audit committee report show Shell was aware reserves were overstated beginning Feb. 11, 2002.
Shell is under investigation by the U.S. Securities and Exchange Commission and the U.S. Justice Department for the adjustment of its reserves, a key figure for investors judging oil company success replacing the oil and gas it pumps.
Van de Vijver Memo
Shell Transport & Trading Co. shares in London, representing 40 percent of Shell, fell 0.8 percent to 389.75 pence, less than BP or Total SA shares. The stock is down 2.1 percent since the first reserve cut on Jan. 9. BP Plc has gained 12 percent.
Van de Vijver last week said he was frustrated in efforts to disclose the matter, saying he informed other senior managers that reserves were overstated.
Van de Vijver first raised the issue on Feb. 11, 2002, in a memo to Shell's management committee titled ``Exposures, Securities and Exchange Commission Alignment,'' the report said.
`No Longer' Certain
``It is no longer `reasonably certain' that the proved reserves will be produced within license,'' he wrote about fields in Australia, Oman, Brunei, and Nigeria. ``Work has begun to address this important issue.''
SEC rules require ``reasonable certainty'' that reserves will be produced before they can be included in annual filings. The U.S. Congress passed the Sarbanes-Oxley corporate governance law act in July 2002, responding to a series of accounting scandals at Enron Corp., WorldCom Inc. and other companies. The law includes a maximum prison sentence of up to 25 years for securities fraud.
Watts, formerly the head of exploration and production, continued to spur employees to find ways to report the company had completely replaced all reserves it pumped in 2002. Leave ``no stone unturned'' to achieve 100 percent reserve replacement, Watts told Van de Vijver in an e-mail May 28, 2002, and cited in the report.
`A Real Problem'
Six months later, on Oct. 22, 2002, Van de Vijver wrote Watts to tell him he was ``tired'' about arguing the reserve figures. ``If I was interpreting the disclosure requirements literally, we would have a real problem,'' he wrote.
The audit report details events that led to the reserve inflation and identifies measures Shell can take to ensure that its reporting is in compliance. ``Shell simply cannot allow this to happen again,'' Aad Jacobs, head of the audit committee, said in a statement.
In November 2003, Van de Vijver wrote to Watts, ``I am becoming sick and tired about lying about the extent of our reserves issues and the downward revisions that need to be done because of far too aggressive/optimistic bookings.''
Van de Vijver, 48, last week said he led the charge to address the reserve overstatements and he was asked to quit ``without credible explanation.''
The review, which was coded-named ``Project Rockford,'' was based on over 130 interviews with more than 90 witnesses. The report said there were two instances where the ``integrity of documents might have been compromised,'' including one attributed to Van de Vijver.
`Dynamite'
``This is absolute dynamite, not at all what I expected and needs to be destroyed,'' Van de Vijver wrote on Dec. 3, 2003, about a ``script'' for telling investors about overstated reserves, the report said.
Van de Vijver's attorney said the e-mail was taken out of context and nothing was destroyed. ``Rather, the level of detailed information was improved,'' Dowd said in his statement.
The other possible loss to documents came when the exploration and production unit moved offices in The Hague, the report said.
Van de Vijver also wanted to make clear that he was not responsible for the reserve overstatements, most of which happened before he took over as head of exploration and production from Watts.
Headed for `Disaster'
``We are headed towards a watershed reputational disaster on Rockford,'' he wrote an unidentified colleague in an undated e- mail, the report said. ``I will not accept cover-up stories that it was OK then but not OK with better understanding of SEC rules now and that it took us 2 1/2 years to come up with the right answer.''
The boards of directors of Shell Transport & Trading Co. in London and Royal Dutch Petroleum Co. in The Hague, didn't know the extent of the problem, management said at a news conference today.
``Discussions of reserves came up before us,'' Ronald Oxburgh, the interim chairman of Shell's U.K. parent company, said at the news conference in London. ``What did not come up to the board was any question of non-compliance.''
Shell said it wasn't disclosing the entire 463-page report because U.S. regulators asked that it not be released until they concluded their own investigation.
``The summary gives you a balanced and fair impression of what happened,'' Jacobs said.
Part-Time Auditor
The report notes that a single former Shell employee was responsible for challenging reserve reports on a part-time basis. Exxon Mobil Corp., the world's largest oil company, said it employs eight full-time engineers for reserve reporting with an average of 25 years of experience.
The Shell employee, who isn't identified in the report, had ``virtually no instruction,'' no power and wouldn't stand up to challenges by officials reporting reserves, the summary said.
The summary of the findings closes with a final e-mail from Van de Vijver to senior exploration and production staff even as they prepared to shock investors with news that a fifth of reserves were overstated.
``One final word on 2003,'' Van de Vijver wrote in late November 2003. ``It would be an enormous blow to the group's credibility with the market if we do not deliver on (reported reserve replacement) this year.''
To contact the reporter on this story:
Tom Cahill in the Paris newsroom tcahill@bloomberg.net.
To contact the editor on this story:
Tim Coulter at tcoulter@bloomberg.net
Last Updated: April 19, 2004 16:24 EDT
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