Investors exposed to trillion-dollar losses from stranded assets and heightened insolvency risks if oil firms continue to ignore climate change.
Major oil firms have been told to ‘wake up’ to the realities of global warming and halt investment in new production if they want to stay in business.
A new report from UK-based think tank Carbon Tracker – Adapt to Survive – warned investors that companies have failed to grasp the “seismic implications” of the International Energy Agency’s (IEA) roadmap, which asserts that no investment in new oil and gas production should be undertaken if the world aims to limit global warming to 1.5 degrees Celsius.
Research by University College London published in Nature today said almost 60% of oil and gas reserves and 90% of coal would need to must remain in the ground to keep global warming below 1.5 degrees.
Carbon Tracker said the IAE scenario means firms would have to implement production cuts of 50% or more by the 2030s as existing projects run down with no replacements. This would impact half of the world’s 40 largest listed oil and gas firms such as Eni with a 49% fall, Chevron with 52%, Shell with 44%, BP and Exxon Mobil with 33% each and TotalEnergies with 30%. ConocoPhillips is the most exposed with a drop of 69%. Most large shale oil companies would experience a production decline of over 80%.
Such a rapid slump in production could deliver a serious shock to company valuations, as new project options are rendered effectively worthless and future cashflows are reduced. Lower equity valuations would in turn increase the cost of capital and insolvency risk.
“It is crucial for companies to have a strong transition plan, winding down oil and gas activities in an orderly manner and either diversifying into low-carbon businesses or returning capital to shareholders,” said Axel Dalman, Associate Analyst at Carbon Tracker.
However, the report said that oil and gas firms are failing to plan for the production drop and “still betting against the success of global efforts to tackle climate change”.
It said that only a handful of companies, including Shell, Eni, and BP, had explicitly acknowledged that their oil production will fall over the coming years.
Delaying the inevitable
The report identified US$18 billion of investment approved in 2020 in major projects that are not even consistent with limiting warming to 1.65 degrees Celsius. Even companies with net zero commitments like Eni, Shell, BP, TotalEnergies and Equinor plan to explore for new oil and gas.
Carbon Tracker added that “tantalisingly high” oil prices – currently around US$70/barrel as the global economy recovers from Covid-19 and OPEC keeps a tight grip on supply – could tempt companies to approve new projects in the hope of cashing in on a new commodities “supercycle”.
The report adds pressure on the oil and gas industry to accelerate its unsteady transition to net zero. According to the Oil and Gas Benchmark published by the World Benchmarking Alliance in July, in 2019, just 30 of the 100 assessed listed and state-owned oil and gas companies disclosed the percentage of capex allocated to the development of low-carbon and mitigation technologies. On average, these companies invested 7.12% into carbon capture, utilisation and storage (CCUS) and carbon dioxide removal (CDR) technologies.
Carbon Tracker warned investors that if companies continue with business-as-usual investments and strategies predicated on stable or increasing future demand, they risk wasting more than US$1 trillion on projects which will not be competitive in a low-carbon world.
“They risk being left with stranded assets that are uneconomic,” the report added. “National climate policies and rapid growth of clean technologies will reduce demand, drive down prices and lead to significantly lower revenues.”
Mike Coffin, Carbon Tracker Head of Oil, Gas and Mining, said: “If the world is to avert climate catastrophe, demand for fossil fuels must fall sharply. Companies and investors must prepare for a world of lower long-term fossil fuel prices and a smaller oil and gas industry and recognise now the risk of stranded assets that this creates.”
Dalman encouraged investors to only hold companies in their portfolios with robust plans to reduce production of oil and gas and approve no new projects.
“Investors seeking to align with other temperature outcomes must ensure that companies demonstrate how any projects they approve are compatible with a low-demand world, not just short-term prices,” Dalman said.