Like many companies in other sectors, oil and gas companies are increasingly confronted with the need to address Environmental, Social and Governance (“ESG”) imperatives in their businesses. Traditionally viewed as ‘license to operate’ issues—effectively ensuring that companies continued to have ‘social permission’ to operate—these considerations have assumed an ever-greater importance as companies face both an accelerating energy transition and increased shareholder activism and government regulation. But, whilst many companies are keen to demonstrate their ESG credentials, they are hampered in doing so effectively by an absence of globalised standardised ESG metrics.
The OGA’s ESG Task Force
In response to these competing tensions operating on oil and gas companies, the UK’s Oil and Gas Authority (“OGA”) convened a Task Force to set out a number of disclosure and investor reporting requirements for operators and licensees. Whilst those recommendations will not create any regulatory or mandatory reporting obligations for UK oil and gas companies, the UK Government will closely examine them and may use them as guidelines for any potential future legislation in this area.
The Task Force’s initial focus was on the ‘E’ of ESG. In its report on March 8, 2021, it made a number of recommendations for reporting requirements for companies, including:
- Requiring operators and licensees to disclose climate related data in their financial reports, and/or websites;
- Calling on the industry to be mindful of the gap between investor expectations and what is currently reported, encouraging greater disclosure & transparency;
- Stipulating that disclosure should be both quantitative and qualitative with signalled improvements over time; and
- Encouraging senior leadership teams to model the required behaviors internally.
The Task Force also put forward quantitative and qualitative metrics to facilitate and standardise ESG reporting.
Recommendations for quantitative metrics comprise:
- Key health and safety statistics and metrics;
- Gas handling – venting and flaring and solutions;
- Air and water pollution risks; and
- Waste management and disposal.
Recommendations for qualitative metrics comprise:
- Board oversight of governance and climate change risks and opportunities;
- Actions plans to support a low emission economy;
- Descriptions of targets / methods used to drive investment in emissions reduction activities (compliance with regulatory standards); and
- Stated environmental and Health, Safety and Environment policies adopted by senior management.
The Task Force also suggested that companies may wish to set their emissions targets against the reduction targets “required to meet the goals of the Paris Agreement”.
As COP26 approaches, the energy sector will increasingly come under the microscope and the importance of the sector getting its ESG reporting right will grow commensurately. It is possible that the UK Government may decide to impose early mandatory disclosure requirements on the energy sector, just as it has done with the pensions sector. With this potential outcome clearly in mind, the OGA notes that it “expects voluntary buy-in [of its recommendations], mindful of mandatory TCFD compliance by 2025”.
The North Sea Transition Deal
Effective governmental efforts to “green” the energy sector can be seen in the North Sea Transition Deal (the “Deal”) between the UK government and the offshore oil and gas industry. The Deal, signed in March 2021, seeks to decarbonise North Sea oil and gas production by encouraging private investment into new and emerging technologies, including hydrogen production, offshore wind and carbon capture usage and storage (“CCUS”). Notably, the Deal incorporates the government’s new emissions reduction targets to facilitate the UK’s net zero ambitions, and commits to delivering “investment of up to £14-16 billion by 2030 in new energy technologies, with the government delivering a business model to enable CCUS and hydrogen at scale”.
The Deal may impact the way in which the OGA awards oil and gas licences and it seems likely that the government’s 2050 net zero targets and CCUS policy will be key factors in determining whether the OGA awards operational licences to oil and gas companies in the future.
Regulatory and Policy Trends in the U.S. Oil and Gas Sector
The U.S. energy sector is not a stranger to ESG requirements either. Regulatory authorities have already begun incorporating climate change reviews into their assessments of oil and gas infrastructure projects. The Biden Administration’s American Jobs Plan released on 31 March may well accelerate that process.
On March 2, 2021, the U.S. House of Representatives’ Committee on Energy and Commerce proposed the Climate Leadership and Environmental Action for our Nation’s Future Act (the “CLEAN” Act). If enacted, the CLEAN Act would significantly amend the Securities Exchange Act of 1934 and mandate SEC-specific disclosure rules for direct and indirect greenhouse gas emissions, including any fossil fuel-related assets.
Threat of Litigation and Regulatory Enforcement
Against this backdrop of increased interest in ESG reporting, there is a possibility that regulatory action and litigation against major oil and gas companies for alleged or actual contributions to greenhouse gas emissions may increase. Some activist groups have already brought complaints against major oil and gas companies before the U.S. Federal Trade Commission, alleging that they are “greenwashing” by exaggerating their investments in clean energy. In response, the SEC Chair, has called on asset managers investing in energy companies to provide greater transparency around their ESG criteria.
Given the absence of a globally-recognised and agreed set of ESG metrics—a worldwide taxonomy—the difficulty in providing that transparency is apparent. Agreeing such a standard would be a welcome part of the COP26 outcomes.
With ESG-related regulatory developments and investor concerns in the US and the UK on the rise, energy companies should consider reviewing their ESG disclosures to mitigate the threat of litigation or ESG regulatory action. In particular, companies should keep a close eye on how ESG developments may impact their business operations, as ‘activist’ investors seek decarbonised businesses and verifiably sustainable returns on their investments.
Corporate and M&A due diligence activities (both inside the energy sector and beyond) should also focus on ESG-related regulatory and litigious claims that an offeror company may take on.
Covington’s teams of ESG experts would be delighted to work with clients to help them understand the increasing obligations and expectations placed, and likely to be placed, on them.