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What does a green oil & gas group look like?

We look at how Shell and BP’s green initiatives match up – and what that means for investors.

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

Last week we wrote about why oil & gas firms have turned their attention to green alternatives over the course of 2020. This week we’re asking, what does a ‘green’ oil & gas company actually look like?

For the purposes of this article, we’re focusing on the two large UK players – Shell and BP. Even looking at just these two companies shows some stark contrasts. There isn’t just one path to a ‘green future’ for oil & gas.

This article isn’t personal advice. If you're not sure if an investment is right for you, please seek advice. The value of all investments and any income they produce will fall as well as rise, so you could get back less than you invest.

How central is green energy to the strategy?

As an oil & gas company, there are essentially two approaches to managing the move to a low carbon economy.

The first is to focus on producing the lowest carbon fossil fuels possible. That means a focus on gas over oil, investments in carbon offsets, and avoiding particularly high-carbon resources, like oil sands. Companies taking this approach will remain oil & gas companies first and foremost, looking to serve demand for fossil fuels that’s expected to last for decades.

The second approach is to take cash generated from existing oil & gas assets – either by running down reserves or selling off existing oil fields – and reinvesting the proceeds in renewable alternatives. These companies will eventually transition to low carbon energy producers – although the process could take decades.

Lots of companies take a little bit from both approaches, increasing exposure to oil & gas projects in some areas while investing in renewable alternatives elsewhere. Investors need to take a close look at individual companies to get a handle on which approaches companies are taking.

Take Shell and BP for instance. Both have published Energy Transition Strategies, including ambitions to reach net zero carbon emissions by 2050. However, you get a clear sense of the short-term focus from reading recent results.

The table below sets out how many times certain key ‘energy transition’ terms were used in recent quarterly trading statements.

Term Appearances in BP’s Q1 2021 Results Appearances in Shell’s Q1 2021 Results
Renewable 22 0
Carbon 50 0
Electric 2 0

Source: BP and Shell First Quarter 2021 Results

Of course it’s easy to talk the talk on energy transition and renewable energy. The real question is what these companies are actually doing on the ground.

Shell’s transition strategy

As well as the commitment to net zero carbon emissions by 2050, Shell published a lengthy energy transition strategy earlier this year. The policy focuses on six “levers”.

  • Pursuing operational efficiency in assets (reducing carbon emissions from oil & gas production)
  • Shifting to natural gas
  • Growing a low-carbon power business
  • Providing low-carbon fuels such as biofuels and hydrogen
  • Developing carbon capture and storage
  • Using natural carbon sinks

The plan calls for limited investment in future oil production – with oil production expected to decline by around 1-2% a year to 2030, from a high in 2019.

Joint ventures in offshore wind generation, investments in electric vehicle charging points, and increased production of alternative biofuels and lubricants will all see spending on new technologies rise in the coming years. In 2020 these “growth” industries were responsible for 16% of capital expenditure. Beyond 2025 that’s expected to be 35-40%.

However, natural gas will still be important, as will petrochemical products. Shell argues that natural gas can help decarbonisation efforts when used to replace higher carbon producing fuels like coal and shipping fuel. Together with carbon capture and storage efforts, and investment in natural carbon sinks, that shows a clear interest in maintaining a presence in lower carbon fossil fuels going forwards.

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BP’s transition strategy

BP will also have an ongoing presence in oil & gas markets for many years to come. However, its plan calls for a much faster and more radical shift in investment, and doesn’t place as much emphasis on gas to manage the transition.

By 2030 the group expects production of all hydrocarbons, so gas as well as oil, to have fallen by 40% – reflecting the selling off of lots of oil & gas assets. Those disposals will support an eight-fold increase in low-carbon investment by 2025.

In the first quarter of 2021, BP reported capital expenditure in gas & low carbon energy of $1.9bn. That’s significantly higher than the $1.3bn invested in oil production & operations. Of that, $1.1bn was in low-carbon energy projects. The group also completed $4.8bn of disposals – with the vast majority from traditional crude assets and petrochemicals businesses. The group expects disposals to total $25bn between the second half of 2020 and 2025.

However, this more radical transition brings risks. Investments in renewable energy assets – think the rights to build wind farms on the ocean floor – aren’t cheap. Some recent deals have led to suggestions that BP is overpaying for its transition. Pouring money into assets that then struggle to make long- term returns is a sure-fire way to lose money.

Having said that, BP’s recent profitability doesn’t compare well with renewable rivals. Over the 10 years up to (but not including) 2020, BP’s return on equity averaged 6.4%. Recent average returns for a selection of renewable energy investment trusts was 8.2%.

Selling its lower returning oil & gas assets and investing in higher returning renewable assets would turn every £100 of profit into £128.13 of profit. At least that’s the theory.

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What does that mean as an investor?

Between them, BP and Shell nicely highlight the conundrum facing oil & gas investors. As we explored last week, oil & gas demand is in decline. Exploring alternative energy sources is inevitable if companies want to survive and deliver respectable long-term returns to shareholders.

However, the successful strategy for an oil & gas giant isn’t yet clear.

Investors face a tricky choice of deciding whether to back early movers – who are pouring money into projects where returns are potentially attractive, but uncertain – or support more cautious operators focusing on maximising the value of existing resources, while exploring new waters at a slower pace.

As always, it’s important to hold a mix of investments so that your portfolio is diversified.

Investing in individual companies isn't right for everyone. If you decide to invest, you should make sure you understand the companies you're investing in and their specific risks. If you’re unsure you should seek advice.

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Past performance is not a guide to the future. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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    Important notes

    This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

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