Author: Mathias Lund Larsen
The sustainability challenge
Several studies estimate that the top 20 largest and highest-impacting fossil fuel companies in the world produce more than 30% of the oil and gas consumed globally[1], accounting for one-third of the total GHG emissions of the modern era[2]. Another study conducted by CDP has revealed that since 2017 the 24 most influential oil and gas companies worldwide have invested a total amount of US$22 billion, accounting for only 1,3% of their total capital expenditure (CAPEX)[3]. Considering their huge environmental impact, it is fundamental that these companies align to the Paris Agreements targets, but carbon neutrality might represent a utopia for oil and gas giants. In fact, carbon neutrality means that all the emissions that are produced will be totally removed. However, even if fossil fuel companies can eliminate scope 1 and 2 emissions, a comprehensive strategy also requires companies to deal with scope 3 emissions along the consumers’ supply chain.
While recent studies have shown that most of the largest fossil fuel companies are not Paris aligned, since 2017, something has changed. Different stakeholder groups started campaigning for fossil fuels divestment, and rating agencies like BlackRock[4] have also started to exercise some pressure on fossil fuel giants. As a result, though the overall picture is still far from the 1.5°C scenario, some positive examples have emerged. However, even if formulating low-carbon commitments is not enough to be Paris-aligned, the environmental awakening of some major oil and gas companies might trigger a bandwagoning effect on their competitors. In this sense, the external exposure to strict environmental policies and the internal usage of green financial instruments seem to bring positive effects on the overall environmental performance, as shown in Fig. 3. The figure shows the sustainability progresses of twenty among the largest oil and gas companies in the world, comparing their climate commitments with external exposure and internal usage of green finance. As we can see, the companies that have been exposed to green financial policies and have internally applied those regulations have also committed to higher environmental targets, suggesting that national laws and green finance have a direct impact on a company’s performance.
The geography of external sustainability pressure
A closer look at the geography of the figure reveals that successful companies are located according to a precise pattern, and while most of the successful cases are European companies, other countries have barely registered signs of a change. Thanks to a strong environmental policy framework, European industries have taken the lead in the race towards sustainability. The French Engie[5], the Danish Ørsted[6] , and the Spanish Iberdrola[7] seem to have successfully embraced a Paris-aligned path towards decarbonization, committing to reach carbon neutrality before 2050. The three companies have all started an energy diversification process, investing in renewable energy plants and divesting from fossil fuels. Local policies have indeed facilitated their green transition. The European laws on environmental disclosure, mandatory pollution liability policies, the carbon price imposed by the European carbon market ETS and the increasing number of national subsidies for renewable energy have all contributed to the green switch of these fossil fuel companies. At the same time, stakeholder group involvement and NGOs’ pressure on oil and gas giants have radically changed the public opinion’s perspective on climate change and environmental awareness. For this reason, apart from those three successful cases, other European fossil fuel companies have set targets to reduce their carbon intensity. Among others, the Italian Eni, the Dutch Shell, together with the British BP and Anglo American have all been impacted by the European environmental standards, taking a moderately successful approach to reduce their carbon intensity[8].
Unfortunately, the European political and financial framework supporting the 1.5°C scenario set by the Paris Agreement is still an exception rather than normality. Other jurisdictions around the world do not apply the same set of policies and financial incentives to support carbon divestment, and the lack of adequate green financial systems, environmental regulations, and climate change awareness in general is reflected on the sustainability performance of oil and gas giants around the world. Most companies in the US, Brazil, India, Russia, and the Middle East have not yet set any strategy to reduce their carbon intensity and diminish their GHG emissions. Carbon pricing systems like the European ETS are not yet commonly applied, and where present, the price on carbon is usually too low to substantially discourage fossil fuel businesses. While some companies voluntarily disclose environmental information and calculate environmental-linked risks in their business reviews, none of this awareness is translated into active efforts to diversify operations. As a consequence, some companies have committed to using new technologies to reduce carbon intensity, but most of them conduct exploration activities a perpetuate their business as usual.
Climate commitments and real performance
From our analysis, three main trends emerged. First, companies that successfully adopted Paris-aligned strategies take advantage of national subsidies and green financial tools to divest from fossil fuels and invest in renewable energy. Second, some other companies are counting on new technologies like carbon capture and storage (CCS) and other offsetting mechanisms like planting trees to maintain their operations as usual while reducing GHG emissions. Lastly, most of the oil and gas giants have not expressed their intentions to align with the 1.5°C scenario, nor have they committed to reduce emissions. However, while European companies might seem on the right track, an independent analysis carried out by the Transition Pathway Initiative on European fossil fuel companies revealed the fragility of climate commitments among European fossil fuel operators.
While major oil and gas companies have recently released Paris-aligned scenarios, companies like BP, Eni, and Shell are heavily relying on CCS technology to reduce their carbon intensity. In April, Shell committed to reduce its operational emissions by 65% by 2050 and to further reduce its emissions by selling its products only to companies that are also committed to net-zero emissions[9]. The target set by Shell is the most ambitious among oil and gas companies in Europe and one of the few including scope 3 emissions, but experts at the TPI have declared that there is not yet enough evidence to prove that carbon capture and storage technology will be enough to reach net-zero emissions by 2050. On the other side, successful cases like Ørsted and Iberdrola have implemented comprehensive strategies to substitute oil and gas extraction with solar and wind plants, operating huge divestment campaigns and expanding their business through the use of green financial tools like green bonds, green loan facilities, and green funds. The comparison of these two models reveals that in order to act a successful performance, the commitments made to align to the 1.5°C scenario must be supported by fossil divestment and investments in renewable energy.
Figure 4 shows the sustainability progresses of the same companies of figure 3, this time comparing their climate performance, instead of commitments, with external exposure and internal usage of green finance. The result confirms the TPI analysis, showing that most of the companies that have made big commitments are still lagging behind in terms of actual performance. Showing this trend, figure 5 puts the two graphs together for a direct comparison.
External exposure to green finance policies and initiatives
From the above cases and comparisons, it becomes clear that certain external and internal initiatives have been particularly influential or influential in fossil companies’ low carbon transition. The below provides a summary of what the chapter has found to be key tendencies of how each factor has played out.
· Green subsidies and removal of fossil fuel subsidies
Subsidies have played a key role in shaping the incentives for the case companies in this chapter. Whereas Ørsted received strong subsidies in Denmark to carry out a low-carbon transition, the reverse has been the case for ExxonMobil resulting in poor performance with the latter. Across the EU, the picture has been mixed though subsides per kw/h have been higher for renewables. Overall, there is no question that subsidies are one of the most direct and influential external green finance policies.
· Divestment campaigns
Divestment campaigns from civil society organizations and NGOs have gathered increasing momentum over the last years, focusing specifically on coal but also often on all fossil fuels. This reduces share prices and increases the cost of capital for fossil fuel companies, as we have seen in the case of Shell above. However, with most assets globally being managed under passive funds, too much capital remains readily available for fossil fuel companies. While divestment campaigns are influential in shaping discourse and rhetoric, their financial impact on most fossil fuel companies has been minimal.
· Carbon markets
While carbon markets are in principle as directly influential as subsidies, the price of emissions have been too low in the EU, US state level, and elsewhere. As the EU is signaling a significant increase in prices in the coming years, European energy companies have responded in anticipation, such as Engie and Shell, showing the potentially strong impact of carbon markets in support fossil fuel companies’ low carbon transition.
· Asset manager and rating agency pressure
Pressure in the form of excluding fossil fuel companies in asset managers’ indices as well as giving increasingly lower ratings to fossil fuel companies by rating agencies can have a direct financial impact on fossil fuel companies, as shown in the case of Eni and Shell above. To give an example of an early effort in this regard, the FTSE Group, Natural Resources Defense Council (NRDC) and BlackRock, have launched an equity global index series that excludes companies linked to the production of fossil fuel.[10]
· Mandatory pollution liability insurance
While pollution liability insurance has the potential to be impactful, its scale and costs to fossil fuel companies have been limited in general and in the cases above. In the literature and public statements from fossil fuel companies, this type of insurance has not been mentioned as a key incentive factor to change strategy. BP being held liable for the Deepwater Horizon spill indicates that large-scale spills result in compensation costs, though today, much of the pollution occurred though the supply chain does not.[11]
· Mandatory reporting
With more governments requiring both investors and companies to disclose their environmental and climate performance, this information adds pressure on fossil fuel companies to decarbonize. Though such policies are rare outside the EU, the EU Directive 2014/95/EU has been particularly influential on Engie, Ørsted, Eni, and Shell, as this has been implemented and often made even stronger when implemented into national law. Given the impact in the EU, such reporting requirements have the potential to put pressure on fossil fuel companies if implemented and standardized internationally.
Internal usage of green finance tools
· Shareholder activism
Shareholder activism has put increasing pressure on many fossil companies over the last years, such as through the Climate Action 100+ initiative. While such efforts have been successful in the case of Shell and BP to increase climate ambitions, they have failed to get resolutions passed in many other cases, such as ExxonMobil. While shareholder activism has concentrated its efforts on the least willing companies, few of the companies at the forefront of a low-carbon transition have attributed shareholder activism as a key driver.
· Green bonds
With the global green bond market expanding gradually since its launch in 2007, fossil fuel companies have become active, especially over the last five years. As in the case of Ørsted and Engie, this provides both capital for expanding renewable energy investing while sending a strong market signal of increasing green ambitions. As there is little green premium for green bonds, the direct financial incentives are not the main driver. Rather the image effects seem to be the main benefit, while issuing green bonds also empower companies’ treasury departments to be involved in greening long-term strategies.
· Green loans
Green and other types of labeled sustainability-related loans have expanded rapidly since 2016. Being between two private parties in the creditor and debtor, with loan terms not disclosed this gives more leeway to adapt to fossil fuel companies. Both Ørsted and Engie have taken on green loans, while Shell has used sustainability-linked loans. As loan terms are similar to un-labeled loans, companies do not argue that they take them for financial reasons. Rather the literature suggests that image benefits are a key driver while it can also drive internal change in strategic thinking.
· Green funds
Support for green funds is another way for fossil fuel companies to use green finance tools, as seen in the case of BHP Billiton and Eni. While having a limited effect on the emissions from their own business model, it has a strong market signal effect in showing the companies’ ambitions to support sustainable development as a whole. As such, supporting fund mechanisms can be a way to become carbon neutral through offsetting.
· Green mergers and acquisitions
Acquiring existing green companies has been a rapid way for fossil fuel companies to green their business rather than to grow the business line dynamically internally. This is seen, for example, in the case of Eni above. It is worth noting that the trend can also go the other way, as when BP Solar was sold off BP in 2011. In general, to reach the required speed of a low-carbon transition buying both green assets and whole companies is an indispensable green finance tool for fossil fuel companies.
· Voluntary reporting
With both the public and financial institutions putting pressure on fossil fuel companies to disclose their environmental and climate performance, an increasing number of fossil fuel companies have expanded disclosure. As such, all six case companies have disclosed based on the TCFD framework, although ExxonMobil has done with a very limited level of detail and concreteness. Combined with mandatory reporting such as in the EU, more extensive voluntary reporting is becoming a key way of comparing and evaluating the green performance of fossil fuel companies across the globe.
References:
[1] Transition Pathway Initiative (2019). Only 1 in 10 of the world’s largest energy companies have made plans to get to net zero emissions. Retrieved from: https://www.transitionpathwayinitiative.org/tpi/publications/27?type=NewsArticle
[2] The Guardian (2019). Revealed: the 20 firms behind a third of all carbon emissions. Retrieved from: https://www.theguardian.com/environment/2019/oct/09/revealed-20-firms-third-carbon-emissions
[3] CDP (2018) Beyond the Cycle. Retrieved from: https://www.cdp.net/en/investor/sector-research/oil-and-gas-report
[4] Natural Resources Defense Council (2014). NRDC, BlackRock and FTSE Jumpstart Mainstream Climate-Conscious Investing. Retrieved from: http://www.nrdc.org/media/2014/140429.asp
[5] Engie (2019). ENGIE Capital Markets Day 2019 – Ambition to lead the zero carbon transition. Retrieved from: https://www.engie.com/sites/default/files/assets/documents/2019-09/engie-cmd-pr-280219-va-3_0.pdf
[6] Ørsted (2019). Ørsted Sustainability Report: Carbon Neutral to Stop Global Warming at 1.5° C. Retrieved from: https://orsted.com/-/media/annual2019/Sustainability_report_2019_online-readable-version.pdf.
[7] Iberdrola (2019). Sustainability Report
[8] TPI (2020) Carbon Performance of European Integrated Oil and Gas Companies: Briefing Paper. Retrieved from: https://www.transitionpathwayinitiative.org/tpi/publications/58.pdf?type=Publication
[9] Transition Pathway Initiative (2020). Shell and Eni lead European oil majors’ race to net zero emissions. Retrieved from: https://www.transitionpathwayinitiative.org/tpi/publications/59.pdf?type=Publication
[10] Natural Resources Defense Council (2014). NRDC, BlackRock and FTSE Jumpstart Mainstream Climate-Conscious Investing. Retrieved from: http://www.nrdc.org/media/2014/140429.asp
[11] Union of Concerned Scientists (2016). The Hidden Cost of Fossil Fuels. Retrieved from: https://www.ucsusa.org/resources/hidden-costs-fossil-fuels