Sustainability and the energy sector during the economic turmoil

There has rarely been a more significant time for the global oil, gas and energy sector. Todd Cort of Two Tomorrows explains the tough choices energy majors are facing.

The Role of the Oil, Gas and Energy Sector

As we enter 2009, there has rarely been a more significant time for the global oil, gas and energy sector. The global credit slowdown, skittish markets, fluctuating oil prices and a significant global recession that has now hit all segments of society are creating an economic climate that will challenge the commitment of companies to sustainable practices. The commitment, resolve and momentum of sustainable practices that has built over the last ten years will be tested as companies face tough choices of short term profiteering vs. long-term profitability.

Nowhere is this truer than in the oil, gas and energy sector. There is perhaps no entity, outside of the international development agencies, that has had a more direct impact on global sustainability over the past 50 years. The role of the sector has been two-fold: developing and delivering the energy needed to sustain economic and social well-being, and the role of direct investment in countries, regions and communities where energy is developed. When conducted in a responsible manner, these roles have created enormous benefits. When conducted with a short-term and limited perspective, the result has been a widening socio-economic gap, unsustainable economic models, government structures that promote human rights abuses, environmental degradation, breakdown of social and cultural ties, violence and conflict.

Looking forward, the role of oil, gas and energy companies in sustainability will need to include several pressing, global concerns. First among these is sustaining the global energy economy as affordability and access to energy will be a key factor in any economic recovery. Energy demand is predicted to continue to rise in the near term - ExxonMobil’s Energy Outlook predicts energy demand will more than double by 2030 - and large oil companies have made it clear that to meet this demand, there will be reliance on traditional petroleum sources in addition to development of new sources (e.g. oil sands) and new accessibility methods (e.g. LNG). In terms of sustainability, the role of oil companies will be to develop, deliver and distribute energy in a responsible, fair and equitable manner. This entails transparent interactions and transactions with governments, complete commitment to codes of ethical conduct, and actions to promote human, labour and environmental rights. It will also require strategic approaches to socio-economic development and environmental protection that are stakeholder-driven and address fundamental causes of conflict such as resource scarcity and gaps in socio-economic well-being.

In addition, the sector will play a fundamental role in reconciling the ability to deliver energy with the necessity to stabilize greenhouse gas emissions. Currently, major oil, gas and energy companies are universally discussing climate change and the actions that they are undertaking to address greenhouse gas emissions. However, there is a worrying gap between the actions proposed by companies in the sector, and the solution paths that are being discussed internationally in documents such as the Stern Review on Economics of Climate Change (2006) and the Socolow and Pacala article on a ‘wedge approach’ to stabilizing global emissions (Science, 2004). To date, there is no indication that the actions undertaken by energy companies will be sufficient to enable a solution to climate change that will prevent catastrophic impacts.

Two examples are alternate energy and customer demand. Both of these were identified by Socolow and Pacala as key ‘wedges’ to reduce global emissions. Most multi-national energy companies have invested in the development of alternate energy sources and related infrastructure. Chevron has an extensive discussion on geothermal energy development and hydrogen infrastructure development for mobility in its 2007 Corporate Responsibility Report. Shell produces a regular Innovation Report. BP has invested heavily in solar technologies. However, these discussions do not match the performance and investment to the societal need. Ideally, these activities and investments would be set against targets that are developed with reference to a solution path for climate change. Without this rational approach to alternate energy development, these investments and activities are uncoordinated and potentially ‘too little, too late’.

Similarly, most large, publicly traded energy companies are discussing their efforts to reduce customer energy demand. Chevron discusses ‘Human Energy’, BP discusses actions to raise customer awareness and ExxonMobil and Shell discuss consumer products that reduce energy demand by raising efficiencies. However, there is no clear vision amongst these various discussions and mechanisms as to ‘how much will be enough’. The result is action without direction and continuing scepticism from stakeholders.

The Economic Challenge

There are three significant economic factors impacting on the ability and will of energy companies to follow through on existing sustainability commitments and address the major crises that we face. The first is the price of oil. As the oil price drops, buying habits of consumers change. The pressure on fuel economy and energy saving investments eases. This is particularly true for longer-term energy investments that tend to have higher price tags and longer return horizons. Although lower oil prices do not directly correlate to reduced revenue for oil and gas companies, they do directly impact on the ability to invest in new energy sources – more difficult petroleum sources, low-carbon energy technologies and investments into future technologies.

The second factor, in light of the credit markets, is access to capital. Energy companies have, in general, had a string of very profitable years and are therefore not highly leveraged compared to other sectors. It is unlikely that reduced access to capital will impact on the short-term performance of energy companies. However, energy development companies work on investment return cycles measured in years and decades and these timeframes might increase as petroleum sources become more difficult to exploit.

Therefore, the slow-down of credit and investment monies will impact on the speed with which energy companies can begin development of new energy sources and the ability to maintain pace on the development of alternate technologies. Delays for publicly traded companies will be compounded by the current trend in state-controlled energy companies to nationalise and exploit energy sources, given that state-controlled companies will tend to have greater access to investment funds during tight economic times. As public companies tend to have more developed investment programmes in alternate energy, these delays could have consequences on the ability to deliver long-term, sustainable energy solutions.

In terms of sustainability, reduced access to capital could result in reduced investment in community development, environmental controls and environmental and social impact assessments (ESIAs). There will also be increasing pressure to reduce costs and expedite projects, which, if not strictly controlled, could result in ethical violations and ‘short-cuts’ that impact on social and environmental performance.

The third economic factor is the response of governments to the economic and energy outlook. In the US, with the incoming administration, there is discussion of enormous economic stimulus packages specifically targeted at creating a ‘green economy’. The New York Times (4th December) reported green components of a stimulus plan to be upward of $15 billion per year including “billions of dollars in grants to state and local governments for mass transit and infrastructure projects”. President Obama has appointed Steve Chu as Department of Energy Secretary – a clear sign that alternate energy development and public-private partnerships with energy companies will play a significantly greater role in the US in the very near future.

The response of other governments to the economic crisis is slowly emerging. There is a significant danger that resource-rich countries with less developed technology and research capacity will seek short-term economic stimulus arrangements by easing access to natural resource exploitation in exchange for investment capital. Easing access could mean lowering requirements for ESIAs, reducing or overlooking environmental regulations and excluding long-term economic benefits such as tax revenues and royalty structures that benefit national, regional and local communities.

The Way Forward

Given the potential for benefit and harm from the oil, gas and energy sector, it is critical that companies within the sector thrive during this economic crisis, but maintain commitment and progress to the principles of social and environmental sustainability. To do this, energy companies must continue to recognise and integrate non-financial risks and opportunities into their decision-making. Of particular importance is the development of a strategy to address climate change that aligns with a global solution. Energy companies should be addressing operational emissions, customer energy use and alternate energy development by setting targets. These targets should be determined based on international understanding of ‘what must be achieved’ to stabilise greenhouse gases at acceptable levels.

Energy companies need to play a leading role in the development of the ‘green economy’, particularly in alternate energy development – even when the business case for this investment is not explicit. This may mean lending weight to less traditional measurements of ‘business case’, such as reputational value, secondary impact of climate change on operations and products, and unforeseen revenue from technology innovations.

The way forward involves governments and requires more strategic economic stimulus plans. Economic plans should allow for important market mechanisms to promote green technologies and fuel economy – such as higher oil prices, carbon cap and trade mechanisms (with aggressive and strict reduction targets) and green technology investment funds.

It is clear that energy companies are a key partner in developing solutions to the sustainability challenges of today’s world rather than the source of the problem. Given sufficient commitment and transparency, energy companies can also become change agents to progressively drive the necessary solutions forward rather than observing global trends and reacting with internally-focused initiatives. Despite the economic slowdown energy companies must continue to recognise and integrate non-financial risks and opportunities into their decision making, so embedding their role of developing and delivering the energy needed to sustain global social and economic well-being in a fair, responsible and equitable manner.

First published in Petroleum Review in Feb 2009. Reproduced with kind permission.