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Net-zero pledges prompt high-carbon asset sales to private firms under less scrutiny: study

24 May 2022 Max Tingyao Lin

Recent research shows decarbonization commitments are driving upstream oil and natural gas assets from listed companies to private hands, triggering a rethink over how investors can best push businesses to achieve actual emissions reductions.

According to a study published by nonprofit Environmental Defense Fund (EDF) earlier this month, 155 production fields and facilities were sold by companies with net-zero commitments to those without between 2017 and 2021.

Of the sellers, 146 have shares that are publicly traded on one or more stock exchange. But just 66 of the buyers are listed.

In contrast, companies without net-zero targets sold 71 upstream assets to net-zero-aligned firms in the five-year period. Some 43 of the sellers and 66 of the buyers are listed.

"Fossil fuel assets are, in aggregate, moving from relative industry leaders on climate to relative industry laggards and from public to private markets," the study said. "While these trends do not guarantee that GHG emissions are rising due to [merger-and-acquisition (M&A)] activity, they show that, at minimum, the climate risk management, disclosure and governance of oil and gas facilities is weakening, making emissions more likely to stall out, or increase."

While a growing number of countries, including the US, are planning to require listed companies to report their climate risks, the EDF analysis reveals sales from public to private companies accounted for the largest share of deals in 2017-2021—roughly, 25%-30% of total transactions each year. The figures were drawn from Refinitiv data and included companies with or without net-zero pledges.

The top four sellers were Shell, Repsol, Chevron, and ExxonMobil, all of which have net-zero targets by 2050. The largest buyer was Indonesia's national oil company, Pertamina, which vowed to support the country's net-zero target by 2060 but didn't set its own emissions target.

The second largest buyer on an aggregate basis is a group of firms whose identity was not revealed, according to the study, showing the opaqueness of the M&A scene.

"Public companies are subject to stricter disclosure regulations than private companies, enabling private operators to avoid scrutiny from investors, regulators, and the general public," EDF said. "Though a number of private companies and private equity firms are taking steps to lead on emissions reporting, in the aggregate, asset transfer from public to private markets is likely to make the oil and gas industry's climate impact even more opaque."

Shareholder activism renewal?

The development comes as an increasing number of energy firms are committing to cutting emissions either from their operations or across their value chain, or both, often prompted by demand from activist shareholders.

Andrew Baxter, director of energy transition at EDF, said the transfer of assets from companies with more environmental commitments and disclosure requirements to those with less could lead to a "transferred emissions problem." This refers to a scenario where listed companies' emissions appear to fall but sector-wide emissions remain the same, he added.

"Offloading emitting assets to private entities can be a problematic strategy from a climate perspective," Baxter told Net-Zero Business Daily by S&P Global Commodity Insights.

Sharing a similar view, Lucie Pinson, executive director at nonprofit Reclaim Finance, said shareholder activism in an overly-simplistic form could lead to the decarbonization of one company's portfolio while resulting in a higher carbon footprint of another.

This issue tends to arise when "investors only focus on simplistic criteria such as phase-out dates, and neglect qualitative criteria such as shutting down assets instead of selling them," Pinson added.

But Follow This—the activist shareholder group that has asked some Western oil majors to raise decarbonization commitments—said filing climate resolutions against listed companies has its merits.

"If these publicly traded companies really start to accelerate the energy transition and invest heavily in renewable solutions, the economy will be incentivized to shift from a fossil fuel-based economy to a renewable energy-based economy," the nonprofit told Net-Zero Business Daily in an email.

"This will lead to stronger incentives for the unlisted companies to follow, otherwise the purchased reserves will become stranded assets," it added.

A refined approach

While opinions can differ on what type of shareholder activism is needed, most agree that major financial institutions will likely determine whether actual decarbonization can be achieved.

Peter Gardett, a research director at S&P Global, said their roles are crucial as banks are deal facilitators that have a say on how buyers and sellers should manage their carbon intensity and asset managers—as major shareholders—can drive energy firms' investment and divestment strategies.

"If universal owners such as BlackRock, State Street Global Advisors, Vanguard or Amundi enforced the same strict expectations [on climate action] to all companies, they would eliminate buck passing tactics among listed companies and, given their sheer size, this would have [spilled] over to unlisted markets," Pinson said.

The EDF study shows Goldman Sachs, JP Morgan, and Citi—all of whom have net-zero commitments—were the three largest M&A advisors for oil and gas upstream deals by value in 2017-2021. It suggested banks like the three US financial giants can incorporate climate safeguards in future deals.

"Shareholders should ask companies and banks to apply safeguards around these asset transfers at the point of transaction, so it is certain that disclosure requirements, targets, goals, and implementation strategies travel with the asset to the new operator," Baxter said. "Investors should be vigilant that the successes of their engagement with companies doesn't leak out when the company's assets are sold."

Jonathan Middleton, senior research officer at ShareAction, another activist shareholder group, observed that many M&A deals wouldn't have existed if financial institutions reinforced their decarbonization pledges in the first place.

"Financiers ought to severely limit or avoid financing new high-carbon assets, whilst increasing funding for alternatives," Middleton said.

Financiers' view

Some at the Glasgow Financial Alliance for Net Zero (GFANZ), a network of 450 financial institutions with more than $130 trillion in assets under management and advice, suggest it is more important for companies to phase out rather than sell high-emission assets.

In practice, this means financiers should continue to fund such assets in a transitional period before low-carbon energy supplies increase, they admitted.

"Financial institutions must go to where the emissions are and back companies—including in heavy-emitting sectors like steel, cement, and transportation—that have credible plans to transform their businesses for a net zero world," GFANZ Co-Chair Mark Carney said in an event earlier this month.

"They will also finance traditional energy projects consistent with the climate transition, including helping to phase out stranded assets transparently and responsibly through clear frameworks," he added. "This means that, while carbon leverage [emissions per dollar invested] will decline across the system, in some cases, carbon leverage may increase for a defined period."

The investor group, which is committed to a net-zero target by 2050, plans to publish initial guidelines on how the early retirement of high-carbon assets can be funded in a way that can result in actual decarbonization.

Mary Schapiro, head of the GFANZ secretariat, said the work aims to establish the guardrails and accountability mechanisms for "financing predicated on the early retirement of high-emitting assets that may be needed today … but need to be taken out of service as the transition progresses."

Posted 24 May 2022 by Max Tingyao Lin, Principal Journalist, Climate and Sustainability



This article was published by S&P Global Commodity Insights and not by S&P Global Ratings, which is a separately managed division of S&P Global.

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