Energy majors and activist investors

Activist investors have made headlines in recent months with calls to dismantle major energy players – but will this help or hinder their energy transition efforts?

Whether it is Equinor, a newly renamed TotalEnergies or an electricity producer like RWE, the large integrated energy companies have positioned themselves at the center of the energy transition. Their argument is that their diverse background and significant track records can help finance and deliver the massive overhaul of the global energy system needed to reduce emissions and meet net zero goals.

However, against this narrative, some investors have argued that a greater strength lies in building clean energy and transition companies, by simplifying their offerings.

In September, hedge fund Elliott Management acquired a stake in producer and grid operator SSE, prompting reports it was pressuring SSE to turn its renewable energy business into a separate entity.

Although the suggestion was dismissed by the management of the London-listed group, the fund doubled in December, publish a letter alleging that SSE’s renewable energy and grids business would be worth £ 21 per share and could unlock ‘£ 5bn of value’ via separate listing.

“A separation would resolve the long-term funding issues that have historically hampered SSE’s growth,” he argued, and asked the company to explore other strategic initiatives.

Meanwhile, in October, activist investor Third Point filed a similar claim with Shell, having racked up a $ 750 million stake in the publicly traded supermajor, which equates to roughly 0.4% of the company. .

In a letter to investors ahead of the company’s quarterly results, founder and CEO Dan Loeb said the company would benefit from separating its liquefied natural gas (LNG), renewables and marketing businesses into a stand-alone, separate unit. of its refining, upstream and chemicals activities. Business.

He argued that in the effort to finance both fossil fuel activities and the energy transition, Shell could not appeal to all investors, leading to “a set of inconsistent and contradictory strategies attempting to appease multiple interest but not satisfying any ”.

In response, the two companies argued that splitting their respective businesses would increase costs and reduce their ability to support large renewable energy and energy transition projects.

Shell CEO Ben van Beurden fired back, detailing the company’s “incredibly cohesive strategy” and adding that “a very important part of this energy transition is going to be funded through the historic business,” while the chief executive financial Jessica Uhl said that a spin-off the business “looks really interesting from a financial point of view – it’s pure play, it has a cost of capital,” but the suggestion “crumbles” when ‘it’s about implementing real solutions.

SSE CEO Alistair Phillips-Davies took a similar stance in response to Elliott’s approach, saying, “Size is very important… if you are half the size you will only get the size. half of the funding. “

© Provided by Bloomberg
Ben van Beurden, CEO of Royal Dutch Shell Plc, speaks during a session on the second day of the Web Summit in Lisbon, Portugal, Tuesday, November 2, 2021.

Pure advantage?

This is not to say that such fallout could not occur. There are of course precedents for this type of transaction, such as the Uniper / E.ON split observed in the European electricity sector, and the transformation of Danish DONG Energy into Ørsted.

“From an investor’s perspective, conventional financial theory suggests that pure play is better because it allows individual investors to assemble their preferred exposure. Reality is more complicated, ”a spokesperson for the strategic advisory group Gneiss Energy Explain.

“Different parts of these businesses have different cost of capital and cash flow profiles. Part of Shell’s argument is that cash flow from its conventional operations can help finance growth towards cleaner energy.

“The counter-argument is that green activity perpetuates the underlying oil and gas activity – and only time will tell,” they added.

In Shell’s case, financial think tank Carbon Tracker argues that Third Point’s proposal is “Unlikely to improve long-term shareholder value, to lower the cost of capital or to stimulate more investment in decarbonisation.

He adds that even if there were more investments in a new unit of pure play renewable energy, the role of LNG in this new entity would be questionable. “Meanwhile, the rump sector may become less prone to decarbonize. “

In addition, it raises the question of who should deliver the major energy transition projects, if not larger integrated companies such as these.

“If Shell and SSE are not in charge of these projects, it will be left to foreign or private companies that do not have the same skills, balance sheets and responsibilities,” noted Ashley Kelty, senior research analyst for petroleum and oil. gas at the investment bank Panmure Gordon.

“The majors, as publicly traded companies, can be scrutinized and held accountable for their issues – surely a good thing? “

“Foolish and short-sighted”

The Gneiss spokesperson also highlighted the existing benefits of integration from an ESG perspective, as many investors are allowed to hold stakes in oil and gas businesses as part of their commitments to responsible investment because of the green companies attached to it.

“In a disruption scenario, they could be forced to give up the oil and gas part and lose a significant part of their portfolio,” Gneiss explained.

He cites ESG funds, such as Blackrock iShares Core FTSE 100 UCITS ETF, which includes both BP and Shell in its main holdings. “If they were to create their businesses greener, funds like this could only contain the green part,” they added.

The current emphasis on energy demergers can therefore be as much a question of financial trends as a supposed belief in the conduct of the energy transition. “Calls to combine and / or separate, like so many others in financial markets, come in cycles,” said the spokesperson for Gneiss, making comparisons with similar calls to companies integrated in other sectors, such as Johnson & Johnson, GE and Toshiba. .

Carbon Tracker suggests that this recent surge may be emblematic of ‘polarization’ in the asset management industry, highlighting tensions between investors comfortable with the long-term transition and those who may be ‘impatient. With the time and cost to get there – not to mention a few short-term opportunists.

Gneiss also alluded to it, noting the “very specific dynamic” of investments in the energy transition. “The time horizons of hedge funds are suitable for short-term revaluation and may not value the longer-term ability to deliver the multibillion-dollar projects over the next decades that are needed to meet climate goals,” he said. declared his spokesperson.

“There will be success stories among those who go their separate ways, but that is far from certain.”

Mr. Kelty was even more firm: “Anyway, breaking the majors is stupid and short-sighted. This will not create long-term shareholder value and hinder the chances of achieving the net zero goal on time. “

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