If recent events in the oil and gas sector, especially as it relates to the fallout and contraction from COVID-19, illustrate anything, it is the need for companies to create resilient businesses and business models.
“That means having a business plan that anticipates and can adapt to changing conditions due to evolving environment, societal, and governmental pressures.”
That’s Joseph R. Davis, independent direct at BKV Corp, an investment E&P firm.
“You can’t separate ESG from sustainability,” he said, “for ESG is how business addresses sustainability.”
“ESG” is a set of standards that savvy investors use to screen potential oil and gas companies through a prism of environmental, social and corporate governance protocols. Specifically, environmentally: how a company performs in harmony with natural surroundings; socially: how it manages relationships with employees, suppliers, customers and the communities where it operates; and in its governance: how it handles leadership, executive pay, audits, internal controls and shareholder rights.
To put it simply, Davis said, “ESG is a way of managing business risk.”
And the most outwardly visible part of ESG is measuring or auditing various activities that contribute to those risks.
“If you can’t measure it, you can’t manage it,” he said, citing examples of how companies track methane emissions, spills, land and water use, as well as how they monitor the safety of both their employees and the community while drilling.
The whole notion of a unified, symbiotic approach to such operations is fairly new, however – and not just in the oil and gas sector.
It’s all of corporate America,” Davis said, adding that only in the last four or five years have companies been embracing the seriousness of the ESG.
“It’s still in its infancy.”
The transition of ESG being a working model for corporate America is, he said, a function of business cycles.
“When I started out with ARCO in the early ‘80s, at that point, the goal for the company was – the corporate mantra – increase shareholder equity. And that was a fairly new idea then. But then companies grew through cycles and identified new goals,” he explained.
Davis, who began his career as a geologist with U.S. Geological Survey, said the focus now is on all stakeholders, of which shareholders are certainly a part. It is an evolution that’s at a critical point now in the oil and gas industry, because, he said, “It is a matter of survival.”
E, S and G
In breaking down the components of ESG, Davis said the environmental part is the most visible, as it “has to be dealt with on a daily or weekly basis.” As for the governance aspect, it entails not only how the company is structured, but how it monitors consumers’behavior towards the use of its products, and how it manages business risks.
But what of the “S” part of it – the societal?
“The Social part unites us all, as every company, large or small, has to have social licensing. If we’re not respected by the community, nobody is going to lease to us. We’re not going to get permits. This is the critical piece,” he said.
If the bigger operators are better positioned at the moment – and they are – it is the nature of the business, specifically their business models.
“I think there are at least three reasons for that,” Davis said.
“First, the magnitude of the risk if something goes wrong on an offshore platform or at a refinery is exponentially greater than the risk exposure in drilling a single well in West Texas. Second, most of the majors have been around for years and they frequently measure their planning cycles in decades, while many smaller companies in the U.S. were created to enhance the value of a small set of assets (wells and leases) and then sell those assets within a few years,” he explained.
Lastly, he said, large companies have boards that have a fiduciary responsibility to the shareholders to make sure that management is aware of these risks and has plans and systems in place that can mitigate the risks, whereas smaller companies tend to have simpler governance structures. In such scenarios, management tends to be more concerned with short-term performance and addressing immediate problems – “mission critical” things, he calls them – rather than devoting resources to long-term issues.
“If you’re the CEO of a company and you’re only worried about your bonus, ESG is not going to be a priority,” said Davis.
The gap, though, is closing, in part because it is in everyone’s interest for it to close.
“I think the thing that unites all of us is that we all require social license for our businesses to operate,” he said, adding, “even if you are a small company, you still need landowners to lease their land to you, you need their neighbors to give you access, you need permits from the state and the township, you need to be able to hire employees who want to work for you, and you probably need to raise capital from investors who have other options. All those things go into what I’m calling our ‘social license to operate,’” Davis explained.
ESG, if done right, can be a boon for the industry.
“There are new opportunities being created every day as we try to mitigate risks and plan for an energy transition,” he said. “For example, there are new companies springing up that fly drones along pipelines and gathering systems looking for methane leaks.”
The need for geoscientists to work on carbon capture – a profitable business in its own right – will certainly expand, as well as the need for geologists to explore for resources like lithium and rare Earth minerals.
The groundwork is already being established, Davis said, pointing to the Oil and Gas Climate Initiative that is made up of BP, Chevron, CNPC, ENI, Equinor, ExxonMobil, Occidental, Petrobras, Repsol, Aramco, Shell and Total.
“They account for about 30 percent of global oil and gas production and collectively invest about $7 billion a year in low carbon energy solutions,” he said.
Further, OGCI has dedicated a fund with more than $1 billion to collaborate with innovators, investors and governments to fund and implement global solutions.
Davis, who is on the AAPG Advisory Council, believes AAPG can help push the message though meetings, committees, conferences, and by providing educational information about these issues for the public and other members.
“We can help make ideas and technology developed by large companies to mitigate some of these risks more accessible to smaller companies,” said Davis.
The goal throughout the industry is clear, he added: “All need to be educated and learn and evolve.”