First ESG Ranking of Russian oil and gas companies
RAEX-Europe's first ESG Ranking of Russian oil and gas companies showed that the leaders in environmental and social responsibility, as well as in corporate governance, are the large companies involved in international projects. Foreign investors and partners have so far been the key driver for ESG policymaking in the Russian oil and gas sector.
See RAEX-Europe full ranking of the top 100 Russian corporate ESG scores here.
ESG for oil and gas - why it became important
The acronym ESG (Environmental, Social and Governance) has finally ceased to be "terra incognita" for large businesses in Russia in 2020. Back in the summer 2020, when the oil market was just recovering from the spring crash, the head of the European Commission indicated: “the EU recovery will be 'green'”. With this statement, the debate on the importance of the environmental policy for oil and gas companies, for which the EU is the main market for their products, was settled. European consumers will gradually abandon hydrocarbons. It is likely to be followed by China, which has adopted its climate-neutral plan, and the US, which will return to the global climate agenda after Donald Trump's step-down. For Russian oil and gas companies this means a gradual reduction of demand for their products. Out of those who stay in this market, companies that reduce CO2 emissions, pollutants, and companies that generally care about the environment will have an advantage.
In addition to the governments of importing countries, financial investors that hold securities of Russian oil and gas companies also create incentives for the transition to “green” production. The recent example is the New York State Common Retirement Fund, the third-largest US pension fund with estimated assets of $226bn, which announced in December 2020 that it is planning to impose environmental requirements on oil and gas companies. If the requirements are not met within the next four years, the fund will liquidate their securities. As of March 31 (end of fiscal 2020) its portfolio included depositary receipts of Novatek, Rosneft, Surgutneftegaz and Tatneft. The fund will assess companies in terms of "their future ability to deliver investment returns in light of the global consensus on climate change; those that do not meet minimum standards may be excluded from the portfolio".
Also, in December 2020, 30 of the world's largest asset managers with 9 trillion dollars in assets launched the Net Zero Asset Managers Initiative. As part of this agreement, they have pledged to make their portfolios completely greenhouse gas (GHG) neutral by 2050, which also means a partial "exit" from the oil and gas sector.
All these developments are a continuation of the global trend towards responsible and green investments. The Government Pension Fund of Norway, for example, has announced its withdrawal from the investments in traditional energy; The European Investment Bank (EIB) has stopped all investments in the oil, gas and coal sectors and has also planned to withdraw from current investment projects in these sectors; finally, the world's largest asset manager, BlackRock, has decided to stop investing in traditional energy companies and projects.
ESG Ranking – history of creation
Observing these trends in the financial markets, especially in the EU, the independent European rating agency RAEX-Europe back in 2018 compiled the first ESG ranking of the largest Russian companies, including the oil and gas sector. In 2020, there was a significant increase in the number of Russian companies that started to publish their non-financial reporting according to GRI (Global Reporting Initiative) standards and disclose their environmental and social indicators data in a standardised and comparable manner. This allowed us to expand the number of indicators to over 200 (see Box 1) and to start calculating industry average values of key ESG indicators.
Many companies criticised our first ranking for being multi-sectoral and simultaneously including such companies as Lukoil and Rosatom with fundamentally different technological processes and hence different figures of water and energy consumption. We solved this problem by introducing floating risk coefficients for all parts of the assessment. For example, for such sections as "water use" or "waste production", the risk coefficient for the oil and gas sector is 3 times higher than for the telecommunications sector or banks.
The environmental disasters of 2019-2020, including the accident at the NorNickel site, showed that even companies with impeccable reporting, certified according to international standards, can “hide the reality”. In order to respond promptly to such events for each section of our methodology, we introduced an option of a penalty for controversial situations and accidents (“controversies”).
Finally, the ranking procedure itself has changed. First, companies are given the opportunity to comment on the preliminary assessment results and to provide additional sources of information. Secondly, starting from 2020 the ranking was linked to the database of reports and is updated on a monthly basis.
The Oil & Gas Ranking presented in this article is an analysis of the 13 largest companies of this sector in Russia by sales volume for 2019 (see Box 2), taking into account policies, procedures and controversies at the end of 2020. Next year the Ranking will include more companies from Russia's oil and gas sector, as well as companies from CIS countries. Moreover, the data for 2020 will be taken into account.
Champions and outsiders
The Leader of 2020 Ranking is Lukoil (with a significant margin in terms of scores), which also ranked #1 in the environmental factor, quality of corporate governance and the second in social risks (see Table 1). The company's leading positions were secured by detailed policies and reporting on almost all ESG components. Sustainability issues are integrated into the company’s strategy and all the areas of corporate governance. For instance, the company's board of directors (BoD) has three committees, each of whose functions touch on different aspects of sustainable development, and a member of the board responsible for climate was assigned in 2020. Such initiatives were introduced mainly because the company's securities are traded on the international markets and there are many foreign entities among the company's investors and partners.
The company Sakhalin Energy (second position in the ranking), the operator of the Sakhalin-2 project, also implements its policies and procedures in response to requests from its foreign shareholders – Royal Dutch Shell, Mitsui and Mitsubishi groups. The company has a particular focus on the management of natural resources, including biodiversity, since the project is located in an ecologically sensitive area of the Sakhalin Peninsula shelf. Sakhalin Energy is also a leader in the quality of engagement with local communities.
Gazprom, which ranked #3, is a leader in the supply chain factor. The company is also one of the leaders in the climate agenda. Yet the state-owned conglomerate ranked #6 in terms of the quality of its corporate governance.
In general, the first Ranking demonstrates a relatively even distribution of the largest oil and gas companies by rating classes (see Chart 1). Three companies each fall into the A and BBB classes, two companies fall into the BB class, and five companies are in the B and lower classes (medium and low scores). Preliminary data shows that as the sample expands to include smaller companies, the group with low classes will expand.
In terms of sector averages, corporate governance is the sector's strength, with a sample average score of 63 out of 100, while the social and environmental sections scored only 42 and 38 respectively. In environmental matters, however, the key weakness is the climate agenda (27 out of 100), including climate change adaptation and renewable energy development. Four companies in the sample have no policies or reporting at all in this area.
In terms of the analysis of specific indicators, we note a lack of reporting on water bodies’ pollution, oil spills during transportation, and poor reporting on the impact on biodiversity. All companies traditionally have fairly complete reporting and positive trends in air pollutant emissions (see Chart 2), while the average percentage of associated gas utilisation declined slightly in 2019 (see Chart 3). The long-term trend in specific Scope 1 GHG emissions for reporting companies is positive, but emissions by individual companies rose sharply in some years (see Chart 4). In terms of social indicators, there is a noticeable increase in employee turnover in 2018-2019 after several years of decline and a steady decline in the number of injuries per 1,000 employees, while the share of women in the companies' workforce remains on average stable at 33%.
In the coming year we expect a significant increase in the completeness of non-financial reporting from oil and gas companies, especially on climate risks; a gradual reduction of negative environmental impact indicators; and a rise in the number of companies that prepare non-financial reports. This will be driven by the initiatives of the European partners, including the introduction of a cross-border carbon tax, as well as a number of initiatives of the Russian authorities to publicly disclose ESG indicators.
Box 1. Reference to the methodology:
A company's position in the Ranking is based on the score (from 0 to 100) obtained as part of the ESG rating assignment. Companies are ranked from those with the highest score ("leaders") to those with the lowest score ("outsiders"). The final score is a weighted average of the three components - E, S and G sections. Each section comprises two to four blocks, with weights set according to industry. Block weights for the oil and gas industry are shown in Figure 5. In turn, each block is made up of a number of thematic factors, each of which is used by analysts to assess the company's policies and guidelines (such as climate risk mitigation policy), reporting (such as annual disclosure of CO2 emissions) and performance (in the example given – reduction of specific CO2 emissions per dollar of revenue or per ton of oil produced). In total, the current methodology uses over 200 quantitative and qualitative indicators and provides companies with an opportunity to comment on the preliminary results of the assessment and send us an additional information. The full methodology is available on the RAEX-Europe website: www.raexpert.eu.
Box 2. Sampling:
Data Summary and estimates are presented for the following companies: Surgutneftegas, Sakhalin Energy, Rosneft, Gazprom, Gazpromneft*, TAIF-NK, Transneft, Russneft, Lukoil, Novatek, Slavneft, Tatneft, Yamal LNG. Several rounds of communication were held with Lukoil, Rosneft, Gazprom, Novatek and Sakhalin Energy to discuss the data and results of the assessments.
Box 3. Company reference:
Rating-Agentur Expert RA GmbH (RAEX-Europe) is an independent European rating agency. Since 2015, the agency has been accredited by the European Securities and Markets Authority (ESMA) and has official status as an External Credit Assessment Institution (ECAI). The head office of the Agency is located in Frankfurt am Main.