Part 2, Paris Climate Week report: the carbon gap between investors and companies

At last week’s Paris Climate Week, companies gathered first at the Business & Climate Summit (May 20/21): Link to RI article. And then the investors gathered on May 22 at Climate Finance Day. There was some overlap in delegates, but less in perspective, particularly on the carbon bubble/stranded assets issue that is headlining the annual general meetings of the big fossil fuel companies this year.
Anthony Hobley, Chief Executive Officer of the Carbon Tracker Initiative, the financial NGO that crunched the numbers and coined the stranded assets term, said the carbon bubble was an area where finance had to face up to divergence from business: “It represents value at risk – not today – but that of a disorderly energy transition, and the ‘oh god’ moment when we realize what is at stake – a financial crisis moment – which is what will create stranded assets.”
However, Hobley said oil companies continued moving up the curve into high risk/economic trade-off projects, despite their business ‘model’ itself being at risk from alternative technology: “We have already got to the point where clean tech is cheaper than brown tech, and that’s without favourable carbon pricing and subsidies. Oil company capital expenditure is going up and the average capital cost per barrel of oil has doubled in an incredibly short period of time.”
He said Carbon Tracker was working on a benchmark looking at what the business transition for an oil company looks like over time, and would also report on the governance structure of oil and gas companies, citing their risk matrices and the relevant contacts within the fossil fuel firms. He said investor engagement with companies had to focus here on the ‘business model’, noting that “it’s been a bit fluffy to date.”Talking about the mispricing of carbon and the issue of stranded assets, Martin Skancke, Chairman of the PRI, also cited the principal/agent disparity between shareholders and companies, where company management interest may not be the same as that of shareholders: “Corporate money is now going into projects that have may have zero net present value.
“We have seen massive re-pricing of coal companies, but we don’t know ex-ante whether other fossil fuel assets are mispriced. Shareholders are allowing companies to not correctly price the risk of these projects.” But he said dividend capital policy had been around as a tool for shareholders for several hundred years to bridge that alignment gap: “Shareholders have the right to decide on new equity, capital structures and dividend policies, and this has been understood for a long time. It can’t be delegated to the companies themselves. It’s not a new tool; it’s an old tool for a new problem, which is the building up of carbon risk in portfolios.” Skancke said the divestment movement had alerted public minds to the carbon finance issue, but that he was concerned it could push fossil fuel companies into the hands of investors who don’t care much: “For that reason, we need to have a nuanced approach. If you’re looking at what investors can do collectively you need much more emphasis on dividend policy and capital structure. Government policy also has to play its part. Investors have a responsibility for the listed companies they invest in. But a large part of the fossil industry is state-owned enterprises, so they are direct owners of some of the largest producers in the world.”
Priya Mathur, Board Member at CalPERS, the US pension fund giant, said the fund was part of the Carbon Asset Risk Initiative, an international group of 75
institutional investors representing more than $3 trillion in assets, pushing for better climate risk analysis and business planning in the annually disclosed results of its relevant investee companies. She said the initiative aims to prevent shareholder capital from being wasted on high-carbon, high-cost fossil fuel reserves that cannot be burned if the world is to avoid dangerous climate change. This proxy season, she said the investors had been filing resolutions on climate change and proxy access (the ability to nominate directors), and made “a lot of traction” on the latter.
Mats Andersson, CEO at AP4, the Swedish government buffer pension fund, said this board power for investors was vital: “We should be influencing directors on this theme. US companies have been hijacked by management, but we as shareowners have to put climate on their agenda.” Another necessary step, he said, was a right price on carbon: “If governments do this you will see a totally different change amongst pension funds. If there is one silver bullet it’s the price on carbon.”
Carbon Tracker’s Hobley pointed out that fossil fuel subsidies should also now be of paramount concern to shareholders on the back of the recent IMF report demonstrating their volume: Link
“Investors should be concerned now because of public policy and regulatory reviews given the current economic situation: how would those companies fare if thesewere removed? We are doing some work on that now. The other thing to remember is that the current carbon price only applies to Scope 1 C02 emissions, not total product emissions. We applaud the French government for passing an energy transition law that looks at total carbon footprint including Scope 3 emissions.”
Philippe Zaouati, CEO at Mirova, the sustainability fund manager, noted that the new French regulations would also oblige investors to report on how much they are investing for a positive green transition: “We need to decarbonise the economy, which will require a shift in asset allocation to renewables, energy efficiency and innovative service companies in climate adaptation. Therefore, investors need to change a lot of things in the way they manage their portfolios.”
The PRI’s Skancke said he had perceived a recent change in fossil fuel companies’ language on the stranded assets issue: “The way they are talking about this now is different I feel…we’ll see how far this goes. Shareholders need to scrutinise the stress test reports being called for by the Aiming for A coalition and others, and use these to discuss capital support and dividend levels.”
He qualified this by warning of the remaining ‘big risk’ that fossil fuel companies will continue to use revenue to finance new investments that will increase fossil fuel supply in the future: “The price of renewables has come down, but they still have to compete with the marginal cost of fossil fuels being subsidised by current operations. The tragedy could be that investments continue to be made on that basis.”