The major integrated oil companies: Shell,(NYSE:RDS.A, RDS.B); ExxonMobil, (NYSE:XOM); BP, (NYSE:BP); Chevron, (NYSE:CVX), and a few others, so named for their vertical stewardship of the hydrocarbon molecule from initial extraction to final refining, have come under increasingly accurate fire from climate change advocates. In the past organizations like Greenpeace and a host of other conservation organizations, have used direct measures to interdict oil company operations. Measures that were flashy, as they drew a lot of attention from the global press, but over the long haul did little to achieve their goals of stopping oil and gas exploration.
The companies themselves have had considerable success in pushing back these operations through the courts. As an example a Scottish court has fined Greenpeace £80K for its boarding of a Transocean rig, enroute to a BP North Sea location, in 2019. A boarding the court held to be in direct violation of an earlier edict prohibiting this type of activity.
“She said its breaches of the injunction were so serious she would be justified in jailing John Sauven, Greenpeace UK’s executive director, for up to two years or imposing a suspended sentence. He orchestrated the action from the start, knowing he was breaching a court order.”
Now these activist organizations are increasingly turning to courts around the world, and with particular focus on U.S. courts, to further their aims. Filings in U.S. courts avail the claimants of the extensive body of American environmental law, and consumer protection legislation. A recent article in Reuters noted that this strategy held out new concerns for the big oils as activists became increasingly shrewd in their approach.
“Cases now are being fought on arguments such as consumer protections and human rights. This shift has been especially pronounced in the United States, where more than a dozen cases filed by states, cities and other parties are challenging the fossil fuel industry for its role in causing climate change and not informing the public of its harms.”
State and Local governments are also jumping into the fray as costs mount to comply with air and water quality federal mandates. Using tactics that had proved so successful twenty years ago with cigarette manufacturers, the State of Minnesota and the District of Columbia filed suit against ExxonMobil last month. Among the allegations are that the company had misled the public on the adverse environmental impact of its products, and accusing it specifically of engaging in deceptive practices and false advertising. Reuters in an interview with Kate Konapka, Deputy Attorney General for Washington, D.C., noted-
“As awareness of climate change grew in the general public to the extent that their disinformation campaigns were no longer acceptable, there was a pivot to greenwashing,”
It remains to be seen how this approach will play out for the companies affected as it is early innings and the companies have had some success in pushing back. ExxonMobil in December of last year prevailed in a 4-year court battle with the State of New York, where it had been alleged that the company had failed to disclose what it knew about the effect its products were having on climate change.
The big funds are decarbonizing their portfolios
Pressure on the big oil companies also comes from the investment community, as major funds have begun limiting carbon based investing, or engaging in outright divestiture in legacy oil companies. As an example Norway’s $1 trillion dollar national wealth fund, rocked the energy world in 2019 by declaring it would no longer invest in companies primarily in the hydrocarbon energy business. They were followed in early 2020 by Blackrock’s similar decision to decarbonize its lending portfolio. In his annual letter to corporate executives, Larry Fink, CEO of Blackrock, put forth a sustainability rallying cry- “Climate change has become a defining factor in companies’ long-term prospects. Awareness is rapidly changing, and I believe we are on the edge of a fundamental reshaping of finance.”
A capital intensive business from the outset, hydrocarbon energy development has always depended on outside capital fund expansion. Those days could be coming to an end if this practice becomes widespread.
The big oil companies are taking note
Net Zero 2050 has become a catchphrase in recent times, as big oil companies led by BP have pledged to reduce their net emissions to zero by mid-century. Other major international and national oil companies such as Shell, Total, (NYSE:TOT), Equinor, (EQNR), Eni, (NYSE:E) and others have followed suit with similar pledges. This marks a shift in policy from these organizations from their past stance of not being able to control what became of their products after they were produced and sold. A recent article in Reuters noted this shift-
“Many oil and gas chiefs remain reluctant to commit to reduce emissions from the use of the oil they extract, arguing that they cannot control whether the cars Ford builds or planes Boeing designs run on oil. Commitments like BP’s move beyond that debate over responsibility for so-called Scope 3 emissions, which are indirect emissions in a company’s value chain including from use of products sold, by signaling a fundamental shift in corporate strategy toward new and cleaner energy businesses”
In the case of BP what this means is likely to be a fundamental shift in the products that make up the company’s value chain. A shift that is noteworthy to investors as it signals a fairly abrupt about-face on major investments to achieve the goal of net zero carbon by 2050.
As a sign that they are intent on taking affirmative steps toward this goal major impairments have been announced in recent months by BP and Shell. In the case of BP specific aspects of its up to $17.5 bn impairment charge to be reported on second quarter earnings haven’t been disclosed as yet, but perhaps their announcement last week of the sale of their petrochemicals business is instructive in that area. BP’s CEO, Bernard Looney noted in a press release-
“This is another significant step as we steadily work to reinvent bp. Strategically the overlap with the rest of bp is limited and it would take considerable capital for us to grow these businesses. As we work to build a more focused, more integrated bp, we have other opportunities that are more aligned with our future direction. Today’s agreement is another deliberate step in building a bp that can compete and succeed through the energy transition.”
For its part Shell has been a little more specific with its comparable $22 bn asset write-down for Q2. Approximately $9 bn of that charge will be allocated to the company’s Western Australia LNG business, including their marquee Prelude Floating LNG ship. A bitter pill for a project that only came on line in 2018.
In summary, while fighting these court cases one-by one on their merits companies like Shell and BP seem only to be resigned to, but rather are embracing these decarbonization initiatives. Investors may have cause to worry over the short haul as companies go about the task of “Reinventing” themselves.
This brings us to one of the most troubling aspects of these companies for investors. The prospects of key assets carried on the books for billions being written-down (their market value reduced due to circumstances) is jolting. For example both Shell and BP have said that natural gas, a lower carbon intensive energy play than crude oil, will be a central element in their long-term energy mix. Whether that will prove a success remains to be seen as one of the key final forms natural gas often takes is as Liquefied Natural Gas, or LNG. Overbuilding in this space is causing project delays as companies deal with pandemic reduced demand. The unusual step of LNG exporters or importers cancelling LNG cargoes has been on the rise in 2020. This has led to a number of major LNG project cancellations or deferrals have been announced globally, as producers attempt to rein in oversupply.
Another example of a shift away from a previously orderly Final Investment Decision- FID, approval process for its GoM projects, Shell announced in April it would defer a decision on its massive Whale prospect. Previously anticipated by the EOY 2020, Shell slashed pre-FID spending and deferred the FID to 2021. With billions already sunk in seismic, leasing, and drilling and appraisal costs, a thumbs down on Whale development would be the very definition of a stranded asset. In that case, hundreds of millions of barrels worth as much as $20 bn in today’s market, would be left untapped.
What other forms these stranded assets may take, remains to be seen as the companies involved fine tune their product mix strategies going forward.
The “Investability” of these oil giants is being increasingly called into question as they face battles on so many fronts around the world. Be it in U.S. or European courts, they are going to be confronted with thousands of climate change lawsuits with the advantage moving in the claimants direction. A single adverse decision could run into the billions. In spite of there being a clear need for hydrocarbon forms of energy well into the latter part of this century, increasingly the companies that produce it are being forced to alter their business practices to meet non-market, stakeholder demands.
Whether this will create or destroy value in these companies long term is yet to be determined. In some senses however, the market may have already spoken devaluing shares of Shell and BP by about 50% over the last six months.
Investors considering initiating new positions in these companies might take pause, as a single adverse court ruling could have long term consequences for the stock’s valuation. As we have noted in this article the environmental adversaries of the legacy oil companies have become increasingly cagey in their plans of attack.