Q&A: Linking Environmental, Social and Governance to Strong Performance

Mark Green
Posted October 6, 2020

ESG – environmental, social and governance – covers the way that businesses achieve strong performance on a range of sustainability issues. Below, Dr. Aaron Padilla, API manager of climate and ESG policy, explains the natural gas and oil industry’s focus on ESG as integral to the way its members conduct themselves in developing energy, as well as the way stewardship on these issues is helping define the modern industry’s identity in 2020 and beyond.        

A little background: Dr. Padilla leads API’s work to determine and represent the natural gas and oil industry’s own initiatives and its public policy positions on ESG and climate issues. In the past 13 years, he has worked in 30 countries across six continents. Prior to joining API, he worked for Chevron as a senior advisor for global issues and public policy. Dr. Padilla is a Marshall Scholar and Truman Scholar, and he completed his M.Phil. and Ph.D. at the University of Cambridge and B.A. at Stanford University.

Q: How does ESG apply to the natural gas and oil industry?

A: ESG is often interchangeable with the term “sustainability” and encompasses several environmental, social and safety issues. There’s climate change and energy, there’s environment – which covers air and water and waste and other elements of environmental performance – and then there’s safety, health and security, which obviously are a key focus of our industry. … And then there’s social performance more broadly, and that encompasses community relations and responsibility, that companies have to respect human rights. All of those issues fit under ESG. The governance part is the way companies have systematic processes and procedures and ways of managing the risks and opportunities associated with these environmental, social and safety issues.

Q: Industry actually has worked on these issues for some time, hasn’t it?

A: Yes, that’s exactly right. ESG is just a newer term that has gained currency, and even sustainability is relatively newer. But they’re umbrellas for a set of issues that, individually or in some combination, our industry has been managing for many decades.

Q: What does effective ESG management mean for industry members?   

A: What I think has become increasingly evident to companies in the natural gas and oil industry, as well as across all industry sectors, is the relationship between the effective management of these issues and the operational performance of the firm. It has become increasingly apparent that a company’s understanding and management of the risks and opportunities associated with ESG issues matters for a firm’s performance.

Q: How much have expectations from investors led to individual companies’ focus on ESG issues?

A: The management of issues that affect performance is important to a company’s financial sector stakeholders – whether it’s their investors who hold their stock, or banks who provide lending, or others who rate the performance of companies. There’s always been a partnership between these financial sector stakeholders and companies on a range of issues.

Our companies have always been responsive to the expectations of the financial sector. I just view this all as an evolving development of an increased partnership and evermore sophisticated expectations around the management of ESG issues and how they’re linked to companies’ performance.

Q: How are our member companies managing and reporting on climate-related risks and opportunities?

A: The way companies are reporting on climate risks and opportunities is increasingly oriented around their discussion of the governance that they have in place to manage these issues, the way their overall business strategy is mindful of and takes into account climate risks and opportunities … and then how they measure and report their performance over time according to performance commitments or what performance standards they’re setting for themselves, and how they’re working to meet those.

What I find fascinating … is the way companies are speaking to the financial community and to stakeholders and the public at large about how they are orienting themselves as a business, and how that is a positioning that takes into account their management of climate risks and opportunities. That can be a discussion of the ways they’re managing the potential for more government policies to reduce greenhouse gas emissions. It can be about how they’re allocating capital and entering into markets to provide energy that we need today and energy we need tomorrow – all mindful of lowering greenhouse gas emissions associated with energy. And it can be about how companies are going to be in a position to adjust to the potential for climate change itself to affect their businesses.

Q: Name three important ways API members are being proactive on global climate solutions:

A: The first way is by taking action to reduce greenhouse gas emissions associated with our sector and our business. We have great examples of that across our individual member companies. As a trade association we often convene companies for coordinated action.

The best example we have that API leads is The Environmental Partnership, and the way it brings together companies to share with each other as peers the different ways that they’re working to reduce methane emissions associated with their upstream exploration and development and in their midstream transportation of hydrocarbons. We are engaged in many discussions with our member companies now about additional ways in the months and years ahead that we can take more action to reduce GHG emissions. …

A second way we are proactive is by engaging constructively on government policies to reduce the risks of climate change. The scale of the challenge of climate change and the ambition that we need to have as a society is going to require government policy. API’s Climate Policy Principles stakes out a commitment to engage constructively on government climate policymaking. We spell out principles by which we think that policymakers can achieve really meaningful reduce greenhouse gas emissions.

Thirdly, we are very active in research and analysis on climate policy. We are dedicating a lot of brainpower at API and within our member companies to identify lessons learned from the past and public policy design considerations for the future in order to meet the dual challenge of affordable, reliable energy while continuing to reduce greenhouse gas emissions. … It shows we’re dedicating time and resources and becoming evermore sophisticated about the way that we understand these issues and how the natural gas and oil industry needs to be a constructive actor as society works to address the climate challenge.

Q: What is the current state of play on CCUS technology, and what needs to be done to bring it to scale?

A: CCUS – carbon capture utilization and storage – is such a critical part of the climate solution – from the Intergovernmental Panel on Climate Change, the IPCC, to the International Energy Agency, through to Democrats and Republicans alike in the U.S., all call for CCUS as part of the global solution. That’s because the scale of the climate challenge is so big that there is a need for multiple pathways and a variety of solutions.

If we’re going to reduce greenhouse gas emissions down to the level that climate scientists [say that we need] to get them down to, then we’re going to need CCUS. It is a technology that will allow for us to capture and either use or safely store the CO₂ or the greenhouse gases that are associated with use of those technologies and fuels essential to meeting our energy needs.

Our member companies are very active in this space. CCUS is still a fairly nascent technology. It has not yet achieved wide-scale deployment. It’s still in a largely pre-commercial phase. Companies are active in exploring ways in which they can invest in CCUS, deploy facilities that achieve CCUS and mature markets for the utilization of carbon that will allow for that “U” part of the CCUS to become more of a reality.

A U.S. Department of Energy advisory committee recently recommended increasingly substantial government policy support for CCUS in order to increase the deployment of CCUS at scale, an increase of 16 times today’s level in the next 25 years – these recommendations came from a study group of the National Petroleum Council comprised of NGOs and public interest groups, academics, and government agencies as well, of course, of oil and gas industry representatives.

One of the key ways the U.S. government can stimulate the wider deployment, at scale, of CCUS is through the 45Q tax credit. It’s an existing tax credit that allows for companies that put into place a CCUS facility to take advantage of the tax policy incentive. We advocate that the 45Q tax credit be expanded so that more facilities are eligible for it, so that there’s a longer time frame by which companies can take use it and so that the value of it is higher and would allow for more facilities to be constructed.

Q: Where does industry stand on other initiatives to reduce greenhouse gas emissions from operations?

A:  There’s widespread recognition [by] the natural gas and oil industry that we need to do our part to reduce greenhouse gas emissions associated with our operations. There are many opportunities and activities that individual companies highlight in their own reporting on this. We are looking at it from a couple of different perspectives that I think are important.

One is through The Environmental Partnership and its focus on reducing the methane emissions associated with exploration, production and pipelines. That is critical because it even furthers enhances the benefits of natural gas as a lower carbon fuel source for electric power generation and also as an energy source across the board. By reducing methane emissions associated with the production and transportation of hydrocarbons, we build on the benefits of natural gas as compared to higher carbon-intensity sources of energy and as a complement to renewable energy.

Our industry is making significant investments to reduce greenhouse gas emissions. Some of those investments are in technologies that they deploy in their oil and gas business. Other investments are in projects related to CCUS or even direct-air capture, which is a promising early stage technology, to take CO₂ directly out of the air. They make equity venture investments in companies that are pioneering these new technologies. The Oil and Gas Climate Initiative is a prominent example of a climate technologies venture investment collaborative within our industry.

Q: Are API’s Climate Policy Principles compatible with the kinds of government actions needed for progress?

A: There’s a lot of climate policymaking that is possible, according to API’s Climate Policy Principles, that will be ambitious and that will be aggressive, along the lines of what we all recognize will be needed to reduce the risks of climate change.

We support market-based policies to drive innovation. We want policies that will give strong signals to stimulate the marketplace, including our companies and others across all sectors, to find the best ways to reduce greenhouse gas emissions. … We also talk about how in our principles we want to continue to advance the understanding of global climate change so that policymaking can be adjusted accordingly. We are expressing our industry’s support for the work that’s done by the IPCC and how its research and findings drive the conversation about government policies on climate that we need.

We also talk in our principles about how we’re supportive of reductions in greenhouse gas emissions across all sectors. By that we mean oil and natural gas – but not only oil and natural gas. There are other significant sectors of our economy that produce greenhouse gas emissions. That includes manufacturing, agriculture and a range of other sectors. We all need to play our part.

We as individuals all have some responsibility here, and API’s principles signal that we’re in favor of climate policymaking that addresses the whole range of greenhouse gas emissions. That’s going to be important for us to achieve policymaking at the scale that we need. It’s also going to be important to make it most compatible with the sort of economic growth that we want to continue to achieve.  

Q: Could you talk more on how market-based policies are best to drive innovation?

A: The concept behind our principle … is we want policies that stimulate meaningful greenhouse gas emissions reductions at the lowest cost to society. There are some ways that you can, through policy or otherwise, reduce greenhouse gas emissions that might not amount to very much. Or, they might be really expensive, and in the end you’re not getting a lot of bang for your buck. There are other ways that offer much greater potential, many more significant reductions in greenhouse gas emissions at a much lower cost relative to other ways you could do it. What we’re saying is let the marketplace be incentivized to separate those really powerful ways to reduce greenhouse gas emissions from the less powerful ones.

Q: What is API doing to provide leadership on global climate action?

A:  It really is a global challenge – that’s the nature of climate change as an environmental issue because when you have greenhouse gas emissions, from wherever they originate, the effect that they have is spread globally. The nature of the challenge requires a global solution.

We have staked out in API’s Climate Position that we believe there needs to be global action that drives greenhouse gas emissions reductions alongside economic development. We’re active on the state and local and the federal and on the global policy fronts, because there’s climate policymaking taking place on all of those levels. …

API is engaged on all of those levels – by the nature of having multi-national companies as a part of our membership and [with] the U.S. natural gas and oil industry becoming increasingly interconnected with the rest of the world through exports of LNG (liquefied natural gas) from natural gas produced in the U.S., [and] exports of crude oil and refined products that are produced and manufactured here in the U.S. Even the interests of our companies that have a footprint inside the United States is actually truly global because their marketplace is global.

Q: Also coming into play are agreements between API’s Global Industry Services arm and other oil and gas trade associations globally to share standards and best practices, right?

A: That’s correct – ultimately, we want for there to be strong performance standards for the natural gas and oil industry worldwide. We work closely with our other counterpart associations in other parts of the world, especially the International Association of Oil and Gas Producers (IOGP) … and IPIECA, the international association for environmental and social performance for our industry. We work collaboratively with those organizations on a trans-Atlantic basis for policy advocacy and globally in developing guidance and standards and implementing programs for collaboration – all to raise the level of our industry’s performance all around the world.

Q: What’s industry’s best strategy to make progress with some who may question industry’s climate commitments?

A: The oil and natural gas industry is and will be part of the climate solution. There is a compatibility between the actions on climate that we as a society need to take and oil and natural gas and a role for the oil and natural gas industry. This is rooted in what is best illustrated by the International Energy Agency, the IEA, [which] has a Sustainable Development Scenario that is a part of their annual World Energy Outlook.

The Sustainable Development Scenario looks at what the world may need to look like by 2040 if we are on track to meet the goals or the ambitions of the Paris Agreement. It considers the UN Sustainable Development Goals, or SDGs, that are most relevant to energy. It models a scenario where by 2040, we achieve universal access to energy and so we raise people out of energy poverty in emerging markets, especially in sub-Saharan Africa, where we reduce the health effects of air pollution – so we’re providing energy that people need and we do so in a way that reduces the negative effects of pollution, and we tackle climate change – meaning that we’re reducing greenhouse gas emissions down to the levels that the Paris Agreement has the ambition to achieve. …

In this scenario, achieving all of these things, by 2040 oil and natural gas will still be nearly half, around 46%, of the global energy mix. That shows that oil and natural gas are still going to be used by us for energy and that we can get onto the trajectory that the Paris Agreement envisions, with a significant role for oil and natural gas. To me that’s what demonstrates the compatibility between the natural gas and oil industry and global climate solutions.

Q: How can API help individual companies report on ESG in a way that resonates broadly?

A: The main way that we at API work to equip our member companies to fulfill this responsibility is through the guidance that our industry produces on sustainability reporting. We partner with our counterpart associations, IPIECA and IOGP, and have done so since 2005 to produce a guidance for oil and natural gas companies to do sustainability or ESG reporting.

We have updated that guidance four times now, with the latest version coming out in March 2020, and it’s this sustainability reporting guidance that provides companies with a roadmap for how they can present their sustainability reporting to all of the stakeholders. It contains modules that cover the range of sustainability or ESG issues that stakeholders expect in our companies’ reporting. It covers social issues, safety, health and security, environment and climate change in energy, and it prompts for companies to speak to how all of this is governed within the firm. Within each of these modules are indicators … and those indicators are what the companies within our industry really believe are the most relevant ones to report on and will show to stakeholders that they are managing well the range of issues that are included in ESG and sustainability reporting.   

We’re already taking stock and discussing potential future updates to our industry’s own sustainability reporting guidance. That’s how it works! Health and safety – and climate and energy – are of course prominent for our industry, and so is human capital management and diversity, equity, and inclusion. We also see more reporting in our industry that’s oriented to the UN’s SDGs. We’re in motion on ESG, and we look forward to continuing to play a constructive role as an industry.