Fossil Fuels & The Winds of Change – What to do About ESG

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August 12, 2021

In the past 24 months, CEOs have had to manage through their fair share of change and adversity, from a lingering pandemic, a record-breaking winter season, political division, and a change in the White House to name a few.  These are certainly unprecedented times as the ‘rules of engagement’ concerning the pandemic seem to change daily affecting every segment of our society.  One of the new realities, although not as novel as the Coronavirus, is ESG (Environment, Social, and Governance). It too is having an unprecedented impact on businesses.

The ESG movement provides a framework that calls for investors to evaluate and analyze a company’s overall impact on their communities, the environment, and the world, well beyond a companies’ financial returns.  It seemingly evolved from a distant, ‘irrelevant concept’ in the U.S. to a stark reality in a matter of 3 years; however, it was first mentioned in 2006 in the United Nations Principles of Responsible Investment (PRI)[1]. Today, ESG has transformed the criteria by which corporate citizenship is to be judged, and those business leaders who fail to take it seriously will quickly realize it is no longer optional but required to remain viable and competitive.

ESG is not a government mandate but a socially responsible investment discipline, adopted by international institutional investors, that migrated into the U. S. Capital Markets and ultimately impacted private equity partners with exposure to shale oil production.  With the U.S. just recently declaring ‘energy independence’, the tides of change abruptly reversed.  The oil and gas markets were anemic well before the onset of the COVID pandemic, but between March and April 2020 the global demand for hydrocarbons came to an abrupt halt. Natural gas and crude markets were now oversupplied, and prices were falling.

With the country in quarantine and no demand for refined petroleum products, companies over-leveraged with debt would not be able to operate their way out of the red.  PPP loans bought some time, but fundamentals remained weak.  As a result, there was a massive consolidation throughout the industry and many companies have gone out of business.  Those companies able to manage through the uncertainty of the pandemic were met with new ESG challenges as they gradually returned to a semblance of operational normalcy.  With a new administration in Washington, the political headwinds against oil and gas companies were apparent and the focus on energy transitioning to renewables was now priority one.  The capital markets for oil and gas E&P projects have tightened significantly and ESG capital has become the new standard.

How does a company in the oil industry, that mines, transports, refines, and/or sells hydrocarbons, get in the good graces of the ESG judges, i.e., consumers, NGOs, government officials, civic leaders, etc.?

Oil companies must worry about their image now more than ever. Hydrocarbons are not going away anytime soon.  The ‘electrification of everything[2]’, is ushering in the electric vehicles (EV) as decarbonization efforts have scheduled the demise of the internal combustion engine. The transition to renewables for power generation won’t be happening overnight. Until battery storage becomes economically viable to bridge the gap, natural Gas will remain the transitional fuel that supports the intermittent nature of solar and wind.  Not everyone fully understands how dependent we are on petroleum products, but we are, and oil companies will be around for many years to come.  So how do oil & gas energy companies manage themselves to become the best socially responsible corporate citizens they can be?

Thankfully, there are many ‘Energy Companies’ taking the initiative to reinvent themselves.  They are getting innovative in environmentally conscious ways and progressing toward “eco-friendly” operations. Others are bolting on renewable fuels companies or decarbonization projects as new business ventures. It doesn’t mean they are doing away with fossil fuels, but it provides a balance in the carbon footprint while improving their brand’s image.  Although, the ‘Environmental’ category of ESG is where the oil-related companies are most scrutinized, each category in ESG (Environmental, Social, and Governance) carry’s its own challenges that will also have to be addressed.

So where does a company start?  Companies cannot manage what they do not measure.  They must take an in-depth assessment of every aspect of their operations, their culture, their governance, and their impact on society. The bottom line is that in order to address ESG compliance, energy companies must take a proactive measured approach, evaluate current practices, and manage all areas as effectively as they do their core strategic processes.

There are technologies available today for commercial and industrial businesses that can unlock hidden value in areas that may NOT have been previously scrutinized, like energy consumption for instance. The energy value chain is larger than most other savings opportunities and will result in improved efficiencies, mitigate risks, and reduce operating costs that make up the value proposition.

If companies change the way they think about the ‘new normal’ they will quickly realize answering the ESG call is the only way their company will remain competitive in today’s market.

Embracing the management of ESG principles will:

  • Improve the company’s value
  • Mitigate risks
  • Improve access to capital
  • Reduce the cost of capital
  • Improve credibility
  • Improve your brand reputation
  • Strengthen relationships with customers, employees, and partners
  • Reduce operating costs
  • Reduce carbon footprint

Although there are many inconsistencies in reporting standards and how sustainability scores are determined, ESG is evolving every day.  Standards will soon be established if not by the legislature, then by the SEC in the months to come.  Although this is not a mandate from the ‘government’ today, it is a mandate from the international markets that could cost you if you don’t have a plan in place to monitor, manage and show progress.  The effort must be intentional, and reporting needs to be transparent and performance-based; a splash page on the company website will no longer suffice.

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[1] Forbes – ‘Demystifying ESG: Its History & Current Status’, June 2020

[2] WSJ – ‘The Electrification of Everything:  What you Need to Know, May 2021

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