The Emerging Investor Language of “Carbon Asset Risk”

Over the past year, a new brand of advocacy has taken root that aims to affect the behavior of the world’s largest hydrocarbon producers through their own corporate structures.

Mar 26, 2014 at 10:22AM

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Last Thursday, ExxonMobil (NYSE:XOM) agreed to publish its plans to assess the risks climate change pose to its business model, making it the first oil and gas producer to do so. In exchange, a group of shareholders led by Arjuna Capital, a sustainable wealth management fund, and the advocacy organization As You Sow agreed to withdraw a shareholder proposal on the issue. This is the latest in a series of investor-led initiatives aimed at forcing companies with significant hydrocarbon reserves to consider the financial implications of a carbon-constrained future, or "Carbon Asset Risk," on the wellbeing of their shareholders.

"We're gratified that ExxonMobil has agreed to drop their opposition to our proposal and address this very real risk.  Shareholder value is at stake if companies are not prepared for a low-carbon scenario," said Natasha Lamb, Arjuna Capital's director of equity research and shareholder engagement. "That the largest American oil and gas company is the first to come to the table on this issue says a lot about the direction that energy markets are taking," Danielle Fugere, president of As You Sow, told the New York Times. "Investors need transparency and disclosure about these company choices."

Traditional climate change discourse has centered on the big picture—greenhouse gas emissions from the burning of oil, gas, and coal—and activists have focused their efforts on limiting these emissions by advocating for carbon taxes, cap and trade regimes, or opposing pipeline construction. The key, here, is that most activism has attempted to work from outside the industry in order to achieve results. Over the past year, however, a new brand of advocacy has taken root that aims to affect the behavior of the world's largest hydrocarbon producers through their own corporate structures. These campaigns have focused on the concept of "unburnable carbon," reserves that fossil fuel companies book as assets but that may be worthless in a future of carbon-constraining policies.  

It's catching on—Carbon Asset Risk proposals were filed at 10 hydrocarbon firms this past year. Indeed, an Ernst & Young analysis found that environmental and social proposals made up the largest category—almost 40 percent—of shareholder proposals last year.

Based on calculations by the Carbon Tracker Initiative, more than two-thirds of existing fossil fuel reserves are unburnable if we want to remain below the two-degree benchmark. This begs the question: why are companies still spending so much on exploration if they already have more than they can use? This exploration isn't cheap, either. Barclays estimates that oil and gas companies will spend approximately $723 billion on exploration and production in 2014. With companies spending so much to expand their reserve base, it is difficult to see them walking away from their investments.

Carbon Asset Risk proposals are an interesting strategy, and getting America's largest oil and gas company to move on the issue is impressive, but two things need to be remembered. First, they will only work for publically traded companies, which only hold a fraction of the world's hydrocarbon reserves (the vast majority are held by various state-owned enterprises). Second, the countries that are most likely to adopt carbon-constraining policies are not the countries where demand growth is expected.

It is questionable whether these Carbon Asset Risk plans will say much of anything, let alone enunciate the sustainable strategy that environmental groups are hoping for. More likely, these plans will articulate how firms intend to navigate future regulatory realities and still turn a profit. Good news for the shareholders, but unlikely to please the environmental crowd.

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