Investor Bulletin: Shell losing ground on climate

Under new management in 2023, Shell took backward steps on its climate strategy. The company’s Net Carbon Intensity (NCI) targets already lack credibility, as they fail to guarantee the reductions in absolute emissions required to meet the goals of the Paris Agreement. Now it looks likely that without a significant shift in strategy, Shell will fail to reach its 2030 NCI target.

Shell is due to update its Energy Transition Strategy ahead of its 2024 Annual General Meeting, where shareholders will have an opportunity to vote on the new transition plan. Before this is finalised, it is important investors advocate for the improvements they expect from the company.

This Bulletin examines Shell’s climate strategy and the viability of the 2030 NCI target. It also proposes a range of tangible actions the company can take to develop a credible, Paris-aligned strategy.

Key points

• Shell is unlikely to meet its NCI 2030 target of a 20% reduction in carbon emissions intensity.
• Shell’s NCI targets do not ensure reductions in absolute emissions because they allow Shell to maintain or increase fossil fuel supply, which it intends to do, even as it lowers its scope 3 intensity. Such an increase exposes the company to falling commodity prices as demand drops through the energy transition, creating a risk of stranded value.
• At the 2023 Capital Markets Day, Shell said it had achieved a reduction in hydrocarbon production (of 1% per year to 2030) and would be roughly holding current production levels flat to 2030. However, these reductions have mainly been achieved through divestments.
• Shell says it has achieved a NCI reduction of 3.8% over FY 2016-2022. However, when we modelled changes to oil and gas production, accounting for divestments - as per the GHG Protocol’s Corporate Accounting and Reporting Standard (GHG Protocol) - we estimate Shell’s NCI has increased by 5% over this period.
• We forecast that Shell’s 2030 oil and gas production will be 12% lower than its reported production in 2016. However, when accounting for divestments, as per the GHG Protocol, production actually increases by 26% relative to the updated 2016 baseline.
• Shell’s new CEO says the company is aiming for “discipline” in capital expenditure, however this is predominantly impacting the company’s renewables and energy solutions business, with Q3 2023 capex for this segment down 39% from Q3 2022. At the same time, Shell is decreasing its hurdle rates for fossil fuel projects, contradicting claims of capital expenditure discipline. This lowering of hurdle rates is a bet against an orderly energy transition, which requires very limited investment into fossil fuels and a rapid increase in investment in clean energy, particularly in emerging markets.
• Shell’s climate strategy is predicated on working with customers to support their decarbonisation. Divesting its retail electricity assets across Europe works against this by reducing its customer base, whilst also removing opportunities to increase returns through vertical integration.

Key stewardship considerations for investors

Investors should be focused on ensuring Shell has a strategy that promotes real world greenhouse gas emissions reductions and is consistent with the goals of the Paris Agreement. Shell’s current strategy does not achieve this, with its real world emissions increases driven by an increase in fossil fuel supply, including growing LNG production and sales by 20-30% by 2030.

This raises major concerns for investors who understand the magnitude of the climate-related risks Shell is exposed to under low carbon scenarios and who are looking to reduce emissions within their own portfolios. Of particular concern for investors is that:

• Shell is not living up to its claims that it complies with the industry standard GHG Protocol. By ignoring a key element of this standard, Shell is able to claim its NCI has reduced, when a proper accounting appears to show it has increased
• Shell is making claims of capital discipline, but has lowered its fossil fuel investment hurdles, which is a gamble, given the International Energy Agency sees all fossil fuels entering decline by 2030.

Building blocks for a better strategy

1. Apply a disciplined approach to fossil fuel capex by:
   a. adopting commodity price^[1] assumptions compatible with limiting warming to 1.5°C
   b. raising fossil fuel hurdle rates to better align with peers and reflect the real risks associated with these investments.
   
   The IEA recommends that each oil and gas investment decision should be justified as follows:

“Producers looking to undertake new resource developments need to explain how their plans are viable within a global pathway to net zero emissions by 2050 and be transparent about how they plan to avoid pushing this goal out of reach”.^[2]

2. Halting greenfield exploration. The IEA has stated that “no new long lead time oil and gas projects are needed” under the Net Zero Emissions scenario^[3]. Even under the Announced Pledges Scenario (APS), there is “no need for further oil and gas exploration”.^[4] Since greenfield exploration will not lead to production until the late 2020s at the earliest, it is unlikely these projects will be viable under low carbon scenarios.

   Shell’s exploration expenses were $1.7bn in 2022, a 20% increase from 2021^[5] - a material expense for investors. This expenditure is unlikely to be in the interests of shareholders due to the limited scope for long-term returns associated with these projects.

3. Setting absolute scope 3 targets consistent with the goals of the Paris Agreement. Targets should be set on a three-year rolling basis to ensure that the company has a clear strategy for real-world emissions reductions in the short- and medium-term.
   Shell should include more information on how it is working with consumers to reduce their scope 3 emissions. Sector-level decarbonisation pathways would demonstrate how Shell is playing an active role in its customers’ transitions.

4. Report on emission targets in accordance with the GHG Protocol by recalculating the NCI baseline to account for divestments. Targets should be based on reducing real world greenhouse gas emissions, and not include any avoided emissions or emissions offsets in the target setting methodology. To incentivise the increase in investments in low carbon technologies, the company should set capex or generation targets for each relevant technology.

5. Shell should boost its reporting to provide a global account of its material lobbying on climate and energy policy, both by the company directly and through third parties. This would enable better assessment of how supportive Shell’s lobbying is of the Paris goals and its own decarbonisation strategy.
   
   Shell’s disclosure and review of its lobbying focuses heavily on western, developed markets. It has not reviewed industry associations or similar organisations headquartered in emerging markets. Its reporting on direct lobbying in these markets is also very limited, and Shell does not make clear what industry associations and direct lobbying activities are excluded from the scope of its review.
   
   This does not reflect the global nature of Shell’s operations, and makes it difficult for investors to assess how well-aligned Shell’s lobbying is with its decarbonisation strategy. Visibility into lobbying in emerging markets is critical because:

• Shell has a large presence in these markets, and much of the growth in future energy demand will come from them
• Lobbying that entrenches fossil fuel demand or that limits the development of more mature, Paris-aligned policies could undermine Shell’s ability to meet its targets and increase system-wide risks for investors.
  
  Additionally, if Shell were to align with the Global Standard on Responsible Climate Lobbying, this would enable better governance and assessment of how its lobbying activity aligns with the Paris Goals.

Questions for future investor engagement

• Does Shell plan to put forward a strategy which ensures reductions in absolute emissions which are consistent with the goals of the Paris Agreement?
• How is Shell working with customers to support their decarbonisation? Does Shell have a good view of the energy transition’s impact on its products and would the company disclose more granular details around these impacts?
• If Shell follows the GHG Protocol, why does it not rebase its emissions related to its divestments?
• How does Shell justify the quantum of its exploration capex? Would the company commit to aligning all of its capital expenditure to a 1.5 degree scenario, including halting all greenfield exploration capex?
• What are the barriers for Shell to invest more in renewables in emerging markets?
• As a global company, is there an opportunity for Shell to provide a fuller global insight into its climate lobbying activities and include more insight into emerging markets? How is Shell ensuring its lobbying in emerging markets supports the Paris goals and a Just Transition?

Download Investor Bulletin: Shell losing ground on climate | 19/12/23

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