Arctic Directory Sept 2023: Environment, Society, Governance: From noble concept to political hammer
for Petroleum News
It is no surprise to businesses in Alaska's resource development space that project financing is harder than ever to secure. Banks and lending institutions have become resistant to resource development investments in "the Arctic" generally, but also to oil and gas investments in Alaska specifically over the course of the past two years.
Seemingly overnight, the petroleum industry in this country went from preferred investment to pariah.
In part, this was driven by the sluggish recovery of post-pandemic market economies that kept oil and gas demand at lower-than-expected levels for longer. But that alone didn't explain the reluctance of once-reliable financing partners to come back to the table as the world and oil companies emerged from COVID-19.
No, there was clearly a political "thumb on the scale" and we have come to know it today as "ESG." Three simple letters that now control the commanding heights of the energy and resource development sectors in the U.S. and abroad.
What is ESG?But what is ESG? These three letters stand for Environment, Society and Governance, and the concept of using these metrics to evaluate environmental and social risks in investments had a noble beginning. Adopted in 2003, the first Equator Principles represented a code of conduct and a risk management tool that banks and lending institutions could use to determine the level of environmental and social risk that energy and infrastructure projects might pose in a given region.
The principles were a voluntary code of conduct and reporting under which companies would evaluate the environmental impacts of a particular project. Did the project use the least amount of land and water feasible and did it have all the required environmental permits? Societally, what were the implications for communities and social programs in the project area? Was there enough housing available for workers and their families or would more need to be built? Would schools and social programs be able to support the influx of workers to an area? And was the company conducting their affairs as a good corporate citizen by being transparent with the public about its plans and timelines, and had it worked to mitigate the potential impacts of the development in concert with the local communities? All of this analysis was focused on ensuring that development projects could and would support sustainable communities, thereby reducing risks of financial loss to the lender. All of this information was reported back to the financial sector on a regular basis, usually during a company's quarterly reporting.
Very noble beginnings, indeed! Linking project funding to ensuring that large development projects like refineries, power plants, ports, and even large manufacturing facilities are all designed and constructed to promote sustainable communities and limit environmental impacts is something we can all agree is good. Companies in Alaska have for decades looked at these same factors as a part of project development. Alaska's unique geographic location, vast Alaska Native land holdings, local municipal controls, subsistence and traditional cultures, limited infrastructure and rigorous state regulatory regime have all required that community support and environmental impacts are addressed, and mitigations made a part of every development.
What's different today?So, what is different about ESG principles today? How did ESG go from being a corporate code of conduct focused on ensuring sustainable development projects to being a screening tool used to stop conventional energy and fossil fuel development projects all together?
In a word, politics. Many will remember Alaska's U.S. Sen. Dan Sullivan back in 2019, calling then President Trump's attention to the fact that certain banks and lending institutions were suddenly refusing to do business with companies in Alaska, citing a policy that prohibited investment in "the Arctic."
Sullivan called it "discrimination" against Alaska and Alaskans, and this was likely the first time any of us became aware that there was a move afoot to begin to drive capital away from certain types of projects and specific locations. But that was just the tip of a much larger iceberg.
The Equator Principles had, since 2003, been expanded and the number of financial institutions signing on and accepting the principles as a de facto standard for where investment dollars would be spent had grown from just 10 in 2003 to over 100 by October of 2021.
Today, the Equator Principles are in their fourth iteration and according to the United Nations Environment Program have been "- used to initiate the design of a Sustainable Financial System to advance policy options to improve the financial system's effectiveness in mobilizing capital towards a green and inclusive economy." (UNEP Inquiry Working Paper 16/05, February 2016).
This is a far cry from the original purpose and intent of the Equator Principles, which aimed to reduce risk in investments for the financial sector, build sustainability in communities and reduce risks to the company undertaking the development.
SUBHEAD: Returns dropping
Whether as a tool for advancing the climate agenda, championing social justice or driving energy transition, ESG initiatives in the U.S. have become the basis upon which some very specific ESG investment funds have been built. And not all ESG funds are the same or have the same strategy.
As of December 2022, 32 of the 100 largest ESG funds in the world were domiciled in the U.S. while 60 were domiciled in the EU. These 100 largest ESG funds collectively have a total of just about $441 billion in assets under management. And while not all ESG funds are aimed at preventing fossil fuel or conventional energy developments, most have criteria that make it impossible for these types of projects and the companies that champion them to meet the criteria to be considered for investment through the fund.
ESG investing is promoted as a strategy that drives money to companies that meet stringent environmental, social and governance standards so that investors can rest assured that their dollars are going to support responsible corporate behavior without sacrificing investment performance and returns. But this has not borne out for many of the large investment firms like BlackRock, Vanguard and Parnassus to name just a few. All of these firms have large ESG funds that have posted returns significantly below their respective market indices.
Bloomberg recently reported that the 10 largest ESG funds by assets, which include both BlackRock and Vanguard ESG funds, have all reported double-digit losses this year. Given that many large ESG funds also charge higher management fees, many investors have begun to take a closer look at how and where their dollars are being invested and why the returns have been so poor.
This has caused even large institutional investors like pension funds to take a hard look at what types of policies and agendas are being driven through ESG funds, and question whether or not they desire to have their funds invested in that way.
Could threaten utility projects Theintent of ESG investing began as a noble mission - drive sustainability in communities and companies and reduce risk to financial institutions that make money available for large energy and infrastructure projects around the world. Where ESG investing has landed in 2022 is far from that original intent.
ESG investing presently is being used by some to drive political agendas and special interests, often without investor knowledge and without the level of transparency that ESG principles themselves dictate.
For places like Alaska that have a deep-rooted mandate to develop our energy and natural resources to support our people, our social services and to provide for our state's future, this type of ESG investing threatens to choke off the financial support necessary to undertake development in this state. I
It threatens our ability to keep our lights on and our homes warm if our utilities depend upon natural gas or diesel. And Alaska doesn't have the readily available, at-scale power supply options that states in the Lower 48 enjoy.
Yet when we look around the world for places that truly internalize the intent and practice of ESG and the Equator Principles, Alaska is at the top of the list.
Alaska has a lot to teach the world about resource development and that education needs to start right now and right here in the U.S. It isn't going to be easy and the political deck is stacked against us, but as the famous movie line goes, "follow the money!"
With ESG funds failing to bring home the promised returns and investors demanding better at a time when high inflation, energy supply and energy security are in the headlines almost daily, Alaska and Alaskans must seize the opportunity to tell our story and change our trajectory. The tenacious people of this state have done it before, and we can do it again.