“THERE MAYBE not bigger ESG opportunity than in “Big Oil”, and more precisely at Royal Dutch Shell. Viewing Shell as an environmental, social and governance investment is the hyper green explanation offered by Dan Loeb for his action against one of the biggest companies in the fossil fuel industry. Third Point, an activist hedge fund led by Mr. Loeb, revealed on October 27 that it had taken a stake (estimated at $ 750 million) in the Anglo-Dutch oil company. Its goal, Mr. Loeb said, is to unleash trapped shareholder value by forcing the disbandment of the energy supermajor.
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The accelerated race to decarbonize the global economy has put the world’s oil companies at a standstill. They are denounced as immoral carbon-eaters for peddling oil. On October 28, executives of several major oil companies were to be toasted by the US Congress, with some politicians vowing to repeat the treatment inflicted on Big Tobacco. In May, Shell was ordered by a Dutch court to reduce its greenhouse gas emissions (GHGs) 45% below 2019 levels by the end of this decade, a decision it is now challenging in a higher court.
In response to the legal challenge and increasing financial pressure from ESG investors, Shell management has stepped up its cautious adoption of greenery. The company says spending on renewable energy and low-carbon technologies will be a quarter of its budget by 2025. It is investing money in hydrogen, carbon capture and sequestration, and other non-oil efforts. It is also slowly reducing its oil footprint, selling some $ 4.7 billion in refineries and hydrocarbon assets in the first half of 2021. Environmentalists remain dissatisfied.
On the other hand, the company is also criticized by hard-hearted investors who care little about ESG fashions but demand better financial returns. Although Mr. Loeb dons a green cape, he is more visibly in this camp. His explanation of his decision on Shell begins by observing that “it has been a difficult 20 years for shareholders”, with annualized returns of just 3% and declining returns on capital. On October 28, Shell announced quarterly results that sought to appeal to everyone. He said adjusted profits had quadrupled from a year ago and cash flow was at an all-time high, and set a new target of halving its emissions by 2030 compared to 2016 levels.
Third Point believes that Shell’s long-term underperformance is due to “too many competing players pushing it in too many different directions.” The resulting inconsistent strategies can only be corrected, he insists, by dividing Shell into “several autonomous companies”. IHS Markit, a research firm, identifies a “strategic divergence” between the oil majors in three camps in response to the carbon challenge. The unrepentant, like the Americans ExxonMobil and Chevron, have remained loyal to the old oil and gas companies. The super-greens, like Eni and PA, have radically reoriented their portfolio towards low carbon energy.
The problem, argues Christyan Malek of JPMorgan, a bank, lies with the third camp like Shell, which has tried to do both. “The apparent lack of investor conviction in the hybrid model has forced a rethink,” he says, explaining why a challenge like Third Point’s was inevitable. According to his analysis, Shell’s huge natural gas business is undervalued because it is tarred with the same dirty tar as its oil division, and should be spun. “Shell’s ‘breaking capacity’ is quite high when you consider renewables and gas,” he insists.
So, is Shell really going to go their separate ways? It’s quite unlikely. Mr. Loeb’s investment may seem large until you consider Shell’s valuation of around $ 190 billion, making it a mere 0.4% stake. Shell boss Ben van Beurden is well established, at the height of his power and backed by a board of directors whose chairman, Andrew Mackenzie, fought hard against a similar militant challenge when he led BHP, an Australian mining company. As appealing as a split may be in theory, Malek believes there isn’t enough financial pressure to force a breakup.
Even so, the Shell boss would be wise to heed some of Mr. Loeb’s unsolicited advice. Unless it dismantles its empire, it could give its renewables and gas divisions a lot more autonomy and capital, for example. If he chooses to stick with the current hybrid muddle instead, he might find that it doesn’t satisfy either the Greens or the foodies.■
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This article appeared in the Business section of the print edition under the headline “Splitting time?