Deadline Approaches For Grangemouth Dispute

This week is shaping up to be rough for the US coal industry. The EPA is holding hearings on plans to dramatically cut carbon-dioxide emissions released from US power plants and the Obama administration just published a report on the economic consequences of waiting to act on climate change. It’s enough to make one wonder if the US might get serious about climate change. But whether these actions are enough for a group of investors to win the argument over “stranded assets” is another question.

Don’t Put That on My Balance Sheet

A growing number of investors worry that action needed to cap the increase in global temperatures at 2 degrees Celsius will strand assets at oil, gas, coal and utility companies. This is because that 2 degree threshold means keeping two-thirds of proven reserves of fossil fuels in the ground, according to the International Energy Agency (IEA). In other words, it will force fossil fuel companies to take a loss on their balance sheets for untapped assets.

“Investors are wondering if oil and gas companies and coal companies are overvalued because they might not be able to burn some of their reserves in the future,” according to Rob Berridge, director of shareholder engagement at Ceres, a nonprofit organization that tracks shareholder resolutions. These concerns have led some shareholders to divest, while others are pressuring companies to disclose their strategies to deal with the potential for stranded assets.

According to Berridge, there were 11 shareholder resolutions dealing with the threat of stranded assets this year up from 2 the year before, as well as dozens of other resolutions dealing more broadly with business risks associated with climate change (see quick facts on shareholder resolutions).

Not surprisingly, fossil fuel companies don’t seem to agree. Part of the problem is that no one knows quite when assets will strand; regulations change slowly, except when they don’t.

kate stranded table

A Major Change, or Not

If this all sounds familiar, it should. Earlier this year, the concept made headlines when a shareholder resolution at ExxonMobil was pulled because the company agreed to publish a report on its “strategy to address the risk of stranded assets presented by global climate change, including analysis of long- and short-term financial and operational risks to the company.” Spoiler alert: ExxonMobil plans to extract all of their reserves.

The company’s 30-page document responding to concerns over stranded assets read more like an argument why the low carbon scenario laid out by the IEA was unfeasible. It reads: “[Our] Outlook demonstrates that the world will require all the carbon-based energy that ExxonMobil plans to produce during the Outlook period,” while adding that regulation stranding assets – while possible – was unlikely.

Read more about ExxonMobil’s response here.

Even though the oil giant didn’t agree with shareholders, it was the first time a US fossil fuel company responded publically to concerns over stranded assets.

Quick Facts about Shareholder Resolutions:

  • Shareholder resolutions ask a company’s board to look into an issue or change their behavior on a certain topic. Hot topics in the past looked at executive compensation, climate change, corporate governance and sustainability reporting.  
  • Investors only need to hold $2,000 of shares over a one-year period to file a shareholder resolution.
  • Shareholders that file resolutions are often dubbed “activist shareholders” and range from small investors, social & environmental investors to large pension plans.
  • Often shareholder activism is run by those who engage in socially responsible investing (SRI), which takes environmental, social and corporate governance (ESG) criteria into account. According to the US Social Investment Forum, $1 out of every $9 under professional management is invested with this approach.
  • Owners of individual stocks can vote on shareholder resolutions, but most ordinary investors don’t take the time to read through proxy voting materials.
  • Holding stock in a mutual fund means that an individual cannot vote for a shareholder resolution, but the fund can. The only way to influence this is to call your fund manager.
  • Shareholder resolutions are often withdrawn if the investor and company come to an agreement before the company’s annual board meeting.

Coal First, Others to Follow?

ExxonMobil may have been the first company to publish a report on the topic, but coal is likely to strand first. After all, coal’s major competitor in electricity generation, natural gas, has seen prices fall rapidly with the proliferation of advanced well completion technology like fracking. As of April 2012, natural gas and coal produced the same amount of electricity in the US. Beyond that, electricity production from renewables is growing at a fast clip and some are predicting a death spiral for the utilities. Government initiatives are already making the coal business a tough one and further regulations could tip the scales.

Read more on the utility death spiral here.

According to a June report by the law firm Schulte Roth & Zabel, “…coal-based electricity generation in the United States has dipped from half to about only one-third since 2007, and profits from the nation’s coal-fired power plants selling electricity in the open market have plummeted from $20 billion in 2008 to $4 billion in 2011. Consequently, plans for more than 150 new coal-fired power plants have been canceled since the mid-2000s and many existing plants have closed… increased supplies of shale gas have made it increasingly difficult for coal mining companies to compete and even survive in the current energy market.”

Quick Facts on Environmental Resolutions:

  • CERES tracked 111 environmental/climate change shareholder resolutions last year. That number jumped to 148 resolutions for the 2014 season.
  • Of the 2014 resolutions, 11 dealt specifically with carbon asset risk.
  • Resolutions on greenhouse gas goals increased from 4 last year to 21 this year. Of those, 12 were negotiated to a withdrawal (meaning the company agreed to some of the terms).
  • The issue of leaking methane picked up in prominence, with 11 resolutions this year up from 3 the year before.

Tack that onto the EPA’s plans to slash emissions from power plants, which Bloomberg New Energy Finance says could cut coal use in half by 2030, and the outlook for coal looks grim. It begs the question: are we talking about stranded assets or bankrupt companies?

Upcoming Season

With the financial reporting season for 2013 long over, investors are analyzing what unresolved issues could hurt their investments in 2015. Next year, investors are likely to ask fossil fuel extraction companies to avoid investing in new projects with the highest production costs and the highest carbon content (in other words, assets likely to strand first. Examples would include the oil sands and very deep ocean drilling). And Berridge expects utilities will see an increased number of investors asking about stranded assets and business model risks. After all, how many coal plant upgrades are needed if an increasing number of customers can get electricity from renewable sources at equal or lower prices? 

Before that happens, watch to see how the EPA’s proposals unfold. It could put a damper on coal investments.