Our oil & gas sector principles: disclosure, commitments and credibility

Our stewardship approach to oil & gas companies starts from the objective of aiming to mitigate systemic risks for our clients. As investors advocating for an energy transition that satisfies energy security, affordability and transition, we consider the challenges and opportunities companies face when setting climate transition strategies aiming to achieve Paris-aligned, net zero emissions by 2050.

We believe our approach can incorporate a variety of suitable strategies from companies. What matters is that action is taken, and in time.

We outline our market-level expectations of companies’ climate transition plans¹ and how we assess climate-related shareholder proposals:² whatever approaches companies take, we expect their actions to be consistent with the Paris objectives to limit the global temperature increase to 1.5˚C. Our expectations inform our engagement and our voting at AGMs.³

Disclosure: what we look for and why

Climate risks are financial risks; the reliable, consistent and verifiable disclosure of climate-related data is the foundation of a credible energy transition strategy. We seek disclosure on two broad areas:

1) Full scope of emissions: 15% of total energy-related greenhouse gas emissions come from oil & gas operations, with another 40% of emissions from the use of oil & gas.⁴ We expect oil & gas companies to provide a complete and verifiable disclosure of their Scope 1 and 2 emissions, on an asset level basis wherever possible, and report on Scope 3 emissions (with a distinction between upstream and downstream operations).

2) Business resilience: The energy transition is expected to shorten the productive lifespan of oil & gas infrastructure and increase the risks of stranded assets and liabilities. To demonstrate financial resilience, we expect companies’ disclosures to include allocation of capital across key business segments (core and low carbon), and the impact of relevant net zero scenarios⁵ on the assumptions, costs, estimates and valuations underlying the company’s financial statements, including asset retirement obligations (AROs).

Commitments, credibility and actions

We believe companies should demonstrate how they are considering climate risks in their strategies. This includes:

• Appropriate governance, with clear board-level responsibility and oversight of climate-related risks and opportunities stemming from the strategic approach
• Executive pay appropriately linked to robust climate-related targets and commitments
• Given their sizeable presence in regions where demand for fossil fuels is expected to remain strong, we expect memberships with different industry associations to be reviewed by boards along with lobbying activities and their alignment to net zero, disclosed in a timely manner as part of a transparent framework

The role of low-carbon solutions and business diversification

For oil & gas companies remaining in the energy business in a net zero energy transition, the alternative to phasing out operations is diversification into clean energy.⁶ With the momentum behind global decarbonisation efforts being fuelled by regulatory changes and pledges made by governments to ‘zero in’ on emissions, risks and opportunities must be managed appropriately.

Amid continuous innovation and evolutions, there is considerable uncertainty about which low carbon solutions will be successful. Different skillsets are required for different technologies and their availability will vary between companies. From an investment stewardship perspective, our view is that the global transition should not be undermined by misallocation of capital; some oil & gas companies may be better able than others to support the transition through substantive yet balanced allocation of capital to low-carbon growth opportunities.

Diversification into new low-carbon solutions, such as biofuels, renewable energy, hydrogen and CCUS,⁷ to name a few, presents an opportunity to mitigate long-term transition risks, but considerably more productive investment is required. The IEA reports that clean energy represented only 2.5% of total capital spending by the oil & gas sector in 2022. Moreover, oil & gas companies account for only 1% of global clean energy investment, of which 60% is from just four companies.⁸ Where this is a company’s declared strategy, we look for an appropriate capital allocation.

In the second part of this blog we’ll continue our explanation of the fundamental principles guiding our voting and engagement in the oil & gas sector, focusing on short-cycle production targets, divestment plans and Scope 3 emissions.

 

1. Say on Climate: empowering shareholders to drive positive change (lgim.com)

2. LGIM Blog: The big vote question this proxy season: shareholder resolutions on climate

3. We disclose some voting intentions before AGMs take place, at: LGIM Blog: LGIM’s voting intentions for 2024

4. Emissions from Oil and Gas Operations in Net Zero Transitions – Analysis - IEA (15% from operations i.e. Scope 1&2 )

5. Including, for example, the IEA Net Zero Emissions by 2050 scenario: Net Zero Roadmap: A Global Pathway to Keep the 1.5 °C Goal in Reach – Analysis - IEA

6. IEA The Oil and Gas Industry in Net Zero Transitions (2023), page 16

7. CCUS = Carbon Capture, Utilisation and Storage

8. The Oil and Gas Industry in Net Zero Transitions, IEA, November 2023.