NorthAm Advisory Board Takeaways #2: ESG & The Energy Transition

Last week the Energy Council hosted its second North American advisory board to shape the agenda for the upcoming North America Energy Capital Assembly on 14^th October, and the New York Energy Capital Assembly in December.

A range of senior executives from across the energy value chain, including the O&G, finance, investment and sustainability sectors were invited to share their views on what they believe to be the most pressing ESG concerns relating to the energy transition. Participants included management executives from the following industry stakeholders: Apache Corporation, Baker Hughes, Blackstone, Chesapeake, CPPIB, Denham Capital, EIV Capital, Enverus, Equinor, EV Private Equity, Federated Hermes, Lean in Energy, Moody’s Investors Service, Orion Energy Partners, Pickering Energy Partners, Siguler Guff & Company and Sustainalytics.

The conversation was free-flowing, honest and at times polarized, but by the end there was often a strong consensus about the state of the North American energy sector. This advisory board tackled three main points; O&G companies of the future, Innovation in the O&G sector, and the growing role of the “Social” aspect of ESG.

O&G Companies of the Future & Thriving in a Low-Carbon Era

The energy transition in the United States has encountered a challenging moment, one that doesn’t quite have a true direction nor accurately acknowledges the challenge ahead. While the need for the energy transition is paramount, it must be stated that there remains a space for oil and gas in the US for the next 20 – 30 years. This reality need not be in conflict with our collective objective of reaching net-zero and inhibiting the 1.5⁰C rise in atmospheric temperature.

On one hand we can aggressively push towards EV targets, offshore wind capacity installations and facilitate the rise of the large renewable company. However, for a reduction in oil and gas consumption it is necessary that the end-user access changes first.

“If we stop making O&G we don’t necessarily force an energy transition; we just force an energy crisis.”

To begin, O&G companies must take ownership of what is in their direct control. There are ample opportunities arising to invest in carbon capture technologies or environmental protection off-set programs, but investments must be selective and credible – most importantly reflecting an ownership of one’s emissions impact.

The level of innovation happening within the oil and gas sector has been understated by most, with 8 out of 10 of the most active clean technology investors being the oil majors. If ‘green’ patents are a proxy for innovation, the sector is leading the advances in green technology. Big Oil need not hedge their bets either, they have the capital to incite action through M&A – and that is precisely what is happening. Major oil companies have responded to the energy transition by not only shifting to a more diverse portfolio, but by acquiring clean technologies companies with proven decarbonisation methods and carbon offset potential.

One panelist pointed to the ‘Energy & Climate Intelligence Unit’, a think tank that tracks and collates signatories to 2050 net-zero commitments: “Of the 400+ companies tracked with roughly $12 trillion AUM, only 35% include all GHG emissions in scope and fewer than 50% are publishing interim targets.” The point herein is that the O&G industry lacks transparency over the actions and timeframes that will achieve the 2050 net-zero goal.

So while oil majors may be embracing innovation brilliantly, this lack of transparency in reporting clear ESG metrics has left many investors unimpressed and demanding more. This creates an additional conflict between Western ESG benchmarks and the international commitments of the IOCs. Where IOCs and the North American Majors can excel is by accepting a third-party verification of lower carbon and methane emissions, having more responsible drilling practices and seeking out effective carbon offsets – this will help to set them apart from their international competitors from an ESG perspective and therefore improve their ability to access an ever decreasing pool of capital available to the industry.

The point surrounding the verification of ESG metrics is an important one as much of the regulation in this area still has to be legislated, and without clear and transparent frameworks to monitor and audit ESG metrics, the entire ESG movement is undermined by inconsistency. Without such benchmarks in place, asset owners and financial actors are taking the lead, and we are starting to see more and more Western-based institutional funds taking proactive measures to reduce their ownership and exposure to Upstream and Midstream assets, in favour of taking on a greater share of sustainable energy and clean tech investments as they begin to acknowledge the growing financial implications of climate-related risk exposure and the inevitable consequences that failing to act now will have on the value of current investments.

The Oil & Gas industry needs a standardized ESG framework, but as one panelist stated, “who creates it? What does it look like? Will it bring capital back to the space?”. Cross-industry collaboration is essential and the industry would benefit from a convergence of trans-Atlantic ideals in developing a much needed pathway to a low carbon economy for the sector.

Innovation in the O&G Game

The emerging role of O&G Majors in the development of green and clean technologies will be one to keep an eye on as they explore strategies both to expand their market share in the growing renewables market, and to invest in low carbon solutions that will allow them to improve their “E” score and continue to extract value from their E&P projects for years to come.

Such investments will help achieve the net-zero objective, but they are also representative of an industry with the capacity to adapt with the changing circumstances. Few sectors have the institutional experience and knowledge to reform their processes with such speed and efficacy. Adapting to new barriers is a challenge many in the O&G sector welcome.

And while many think of energy innovation along narrow visions of scaling electric vehicles or developing the newest carbon capture technology or the next fuel cell, innovation goes far beyond the well-marketed products of certain companies. Much of the innovation occurs in the transformation of existing energy infrastructure into something that is suited to the energy system of the future; for example, grids that can handle renewable fluctuations, storage to hold surplus electricity and pipelines that can be repurposed from transporting gas to carrying hydrogen.

Investments are generally made toward concepts or ideas that can maximize or create efficiencies in existing processes. By widening the scope of efficiencies a company can accelerate their decarbonisation efforts while enjoying new cash flows created by these same efficiencies.

Alongside the technological innovation there must be an innovation of policy, of the financial markets and their products, and of the approach by investors. Policy innovation will facilitate how countries and investors can engage with and benefit from more open energy markets; the notion of a carbon tax or carbon credits has many detractors due to the costs being passed onto consumers. A carbon price appears more attractive to large emitters as it provides a tangible product than can be traded or sold. Finally, investors need to extract value in new ways to enjoy the lower return on investment from renewables, but also to secure more stable lifespan for O&G investments.

Internally, innovation must also focus on ESG measures and being transparent about what is being achieved, and what can be achieved. Despite the 17% free cash flow in O&G investments, few generalist investors are enticed by the opaque relationship between O&G and ESG.

Many of the panelists expect investments to manifest in the form of M&A, especially as the Majors look to integrate established ideas and commercial-scale technologies into their processes. Generally, the M&A route has more immediate and better returns than the venture capital route.

The “S” in ESG – Being a Socially Responsible Energy Producer

The dominant focus on “Environmental” elements of the ESG gambit has led to companies feeling a growing pressure on the “Social” aspect (with “Governance” following in hot pursuit). The social category relates to how a company serves the communities in which it operates, and how its policies work to generate a diverse and inclusive environment that can actively challenge institutional bias or tackle the concerns of alternative stakeholders (such as communities directly impacted by operations).

In the US, there has been a push in some corners to report the diversity and inclusion (D&I) statistics, while a strong pushback in others. The reality is that the US energy industry is more male-dominated than other sectors and while this does not always mean intentional prejudice has occurred, it reflects an inability to be self-aware of certain deficiencies.

How a corporate culture is built and impacts its employees is dependent on what happens in the boardroom. Company culture trickles down from the boardroom, “If culture is a proxy for diversity, the O&G industry has traditionally been at the bottom of the barrel when it comes to diversity of thought”. Although an indictment, it reflects the capacity and space to engage a more diverse labour force.

One panelist felt that some of the smaller players are tainting the industry as a whole through their reluctance to change, as for all the dialogue around emissions reductions, there are still O&G players pushing back against change and slowing progress. However, the O&G sector has experienced a very rapid shift in mentality, and those producers who remain reluctant to change will have to fall in-line as the market shifts, if they are to address investor concerns and align themselves with investor expectations.

North America Assembly is taking place in Houston, Texas between 13 – 14 October 2021. Find out more >>