Industry Trend

Investors Turn ESG Focus to Biodiversity Risk

Copyright © 2021 Energy Intelligence Group

• Biodiversity loss has yet to garner the same attention as climate change, but it is emerging as a significant issue for the energy sector. 

• Some of the world’s biggest energy companies are now taking steps to assess their exposure to biodiversity loss and mitigate the risks when planning new projects. 

• Investor concerns about biodiversity could have a meaningful impact on market transactions and credit ratings.

The Issue 

Financial institutions are starting to widen their environmental, social and governance (ESG) gaze to include the huge risks linked to biodiversity loss. Energy companies are highly exposed to the physical and reputational risks linked to nature loss from their operating in protected areas. Stricter policies and legislation to protect biodiversity, alongside shifts in consumer habits for less harmful products, increase the prospect of transition risk for the sector. The growing number of finance-related biodiversity initiatives will help investors, businesses and other stakeholders develop standards to measure and report on the risks and impacts. Not being equipped to quantify and mitigate biodiversity risks could undermine companies’ transition goals over time.

High Risk 

The energy sector is one of 12 debt-bearing sectors, including all the extractive industries, now considered by Moody’s to have heightened exposure to so-called “natural capital” risk. In a recent update, the ratings agency has moved four sectors into the high-risk category from moderate. These high-risk sectors include integrated oil and gas, exploration and production and oil-field services. High-risk sectors all have the potential to damage natural ecosystems and incur significant legal costs, Moody’s said, citing as a prime example the Macondo spill in the US Gulf of Mexico.

Indeed, data compiled by the agency’s ESG unit shows the energy industry to be one of three sectors most affected by biodiversity-related controversies and, thus, exposed to potential credit risk. Moody’s recorded 178 individual cases within the energy, mining and metals, and food sectors, representing around 53% of total biodiversity allegations between December 2016 and April 2021. The energy controversies covered land rights of indigenous people, damage to local biodiversity and, in most cases, the harmful impact of oil spills and oil and gas leaks on local environments. The findings underline the need to incorporate biodiversity considerations when planning energy projects.

Best Practices 

Spain’s Repsol is noted as a strong performer in the sector and is no longer involved in any ESG-related controversies having adopted best practices on biodiversity protection. The Spanish major took significant action after being fined in 2015 over the death of migratory birds near its operated Canaport LNG plant in Canada. However, its larger major peers — TotalEnergies, Royal Dutch Shell, BP, Chevron, Exxon Mobil and Eni — collectively accounted for half of all ESG-related controversies in the energy sector, Moody’s told Energy Intelligence. Shell and Exxon are most affected by such allegations in terms of severity, frequency and how they respond to, and communicate on, controversies. Like Repsol, Total and Eni have implemented "advanced" measures to protect biodiversity, Moody’s said.

Capital Markets Conundrum 

Capital markets are now starting to incorporate natural capital factors into their investment strategies but it is not yet clear how investors will view the oil and gas sector from a biodiversity perspective. Planet Tracker, which focuses on aligning capital markets with planetary limits, recently drew attention to the stock market listing of an 8% stake in Brazilian biofuels giant Raizen for 7 billion reals ($1.4 billion). It questioned whether investors would focus on the energy transition story, and the use of biofuels, or recognize the massive land-use change and resultant risks for food security and natural capital. The 50-50 Raizen joint venture between Shell and Brazil’s Cosan debuted on the Brazilian stock exchange in early August.

“The company was priced at the bottom of its price range at 7.40 reals, although we recognize that there are always a number of factors investors consider when determining the appropriate price level. It presently trades at around BRL 7.00,” John Willis, head of research at the nonprofit think tank, told Energy Intelligence. “We are at an early stage at best and expect management teams to analyze further market transactions to provide signposts to the capital market’s view, whether this be equity and debt investors, banks and credit rating agencies, etc. However, Planet Tracker encourages the sector to do this immediately.”

Another recent example involves BHP’s sale of its oil and gas assets to Woodside Energy to focus on "forward-facing commodities" such as potash fertilizer demand. Will a move by BHP away from fossil fuels and a diversification into agricultural economics be rewarded by the markets? S&P Global has since stated that the sale of its oil and gas assets could threaten BHP’s credit rating as it will make the group more reliant on iron ore.

Clean Energy Conflicts 

European energy majors are seeking accelerated growth in renewables and new low-carbon solutions. But Norway’s Equinor is mindful that the energy transition must go hand-in-hand with practices that protect and enhance biodiversity, as it pushes into new business areas and geographies.

One element involves the massive use of raw materials needed for rapid renewables growth and rare minerals for batteries. “It is a topic that we are spending increasing amounts of time on because there are always trade-offs, and this is one of the dilemmas we're facing in renewables,” Equinor’s head of renewables, Pal Eitrheim, said during a strategy presentation.

Being better at recycling and reusing materials is an emerging debate. “It's closely linked to the biodiversity agenda that is coming now because in many places we are in a different type of habitat than we have been in our legacy business,” Eitrheim said. “It's really important that we get this right, otherwise we could undermine the legitimacy of what we're trying to do over time.”

Guidance published by the UN Environment Program Finance Initiative on financing a sustainable “blue” economy looks at five key offshore sectors including renewable energy — with offshore wind being the most mature subsector. However, from a planning standpoint it flags important differences between floating and fixed offshore wind, noting the risk of seabed disturbance and potential entanglement of wildlife in floating installation mooring lines and anchorage. And it warns financial institutions looking for opportunities in crowded wind development hotspots, such as the North Sea, of the need for careful spatial planning to avoid conflict between stakeholder groups, such as fisheries.

Global Targets 

The recent launch of the Task Force on Nature-related Financial Disclosures (TNFD) will create a framework for companies, banks, insurers and asset managers to assess their nature-related risks and opportunities. It builds on the existing Task Force on Climate-related Financial Disclosures, which encourages businesses to embed climate risk into decision-making and strategies.

The TNFD aims to deliver a framework by 2023. October’s UN Convention on Biological Diversity (CBD) meeting in China, postponed by a year, could provide a further opportunity to set a Paris Agreement-style regulatory framework to protect biodiversity. “However, major hurdles to overcome include the US remaining outside the CBD and the fact that the pandemic has pushed economic priorities above natural capital protections for many nations,” risk analytics firm Verisk Maplecroft noted.

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