NOTÍCIAS

Is portfolio diversification the future for the O&G sector?

Inspire
August de 2020

Companies face abundant opportunities for repositioning, despite dilemmas

Notícias

What is behind the portfolio diversification taking place at several oil and gas (O&G) companies? How are different companies responding and what are the main dilemmas faced by them?

Current uncertainties regarding the future demand for O&G due to climate restrictions and the transition to a low carbon economy are among the main drivers for diversification [1], as well as the greater pressure from investors.

Regarding this last aspect, the number of climate-related shareholder resolutions for O&G companies increased by 63% in the 2015-2019 period, compared to the previous four years [2]. With those measures, investors demand transparency on climate risks, assessment of portfolio resilience to the 2°C scenario and targets aligned with the Paris Agreement. Still, it is possible to notice a change in the risk perception towards the O&G sector, observed through an increase in the cost of capital and in the hurdle rates required for project approvals[3].

In this context, O&G companies seek to adapt and respond to increasing pressure in different ways. The adopted strategy varies according to some determining factors, such as (i) geographic region of operation, headquarters location and type of interaction with local governments; (ii) degree of exposure to investors and consumers; (iii) perception of transition or market risks and (iv) type of expertise currently in place. In this sense, most companies seek to reduce their emissions and promote efficiency in operations, while ample portfolio diversification for new forms of energy is concentrated in European players. There are also companies that seek to integrate new renewables into existing operations, aiming for a reduction in emissions coupled with reductions in costs, as in the case of North American IOCs, which are among the largest corporate buyers of renewable energy. Finally, there are those companies that choose to keep their focus on O&G, leveraging on cost competitiveness and low carbon intensity.

The strategic decision, in the end, should consider the expected increase in global energy demand, notably in Asian countries, a key factor to support economic growth and the expected social development. However, it should be taken into account that the profile of this energy demand is constantly evolving, with a current trend towards less carbon intensive sources.

So, should O&G companies position themselves as energy companies, with a wide range of sources on their portfolio, leveraging on businesses with the highest expected CAGR (renewables)? Or should they prioritize the existing window of opportunity int O&G, focusing on their business with consolidated expertise and accepting decreasing growth rates?

Such a non-trivial choice still faces the challenge of defining the appropriate timing for diversification. If they migrate to new energies “too soon”, O&G companies will have to deal with the need to develop new skills and competencies, in addition to the relevant challenge of maintaining levels of shareholder return [4]. If they are slow to respond, on the other hand, they may suffer to attract and retain talent, in addition to being subject to risks of rising capital costs and increasing pressure from ESG investors.

In a both challenging and inspiring moment for changes in the energy sector, it is necessary to reflect on the future of the O&G in the midst of the transition to a low carbon economy.

[1] IEA. The Oil and Gas Industry in Energy Transitions”, 2020
[2] CMS Law, Capital Economics. “Oil & Gas Energy Transition – Evolution or Revolution – the role of O&G companies”, 2020
[3] Oxford Institute for Energy Studies. “Energy Transition, Uncertainty, and the Implications of Change in the Risk Preferences of Fossil Fuels Investors”, 2019
[4] Wood Mackenzie. “How serious are oil and gas companies about the energy transition?”, 2019

Photo: Nicholas Doherty – unsplash

Contact

Address

Rua General Garzon, nº22 / 302 – Jardim Botânico 22470-010 – Rio de Janeiro, Brasil

Phone

+55 21 3495-1574