Stormy weather: Energy transition and M&A

There was a very amusing newspaper cartoon printed during the global financial crisis 10 years ago. It showed a businessman with an umbrella, sheltering from a small cloud which was gently raining on him. The cloud had the words “credit crunch“ written on the side. Out of sight of the man, above the cloud, was a much bigger cloud waiting to move in once the smaller one had gone away. The much bigger cloud was entitled “climate change.“ To a large extent you could repeat this scene in 2021, and it would be making the same point as it was in 2010, with the only change being to rename the smaller “credit crunch” cloud “coronavirus”. The “climate change” cloud, if anything, would be a lot bigger and darker today than it was in 2010.

So when the coronavirus cloud lifts, climate change will still be there as the number one issue confronting companies, investors and markets, but with more urgency than ever. A year ago, some companies were starting to announce “net zero” strategies for 2030, or 2040 or 2050 – in other words, a commitment to make their businesses into ones which are no longer net emitters of carbon, all while presumably maintaining healthy returns for investors and shareholders. This is not a challenge to be understated for companies operating in a global economy founded on cheap and reliable power supplies and the easy transport of goods and people around the world with little regard to the in-built long-term environmental costs.

And commentators are no longer just measuring the carbon emitted by a company – they are looking at the carbon emissions in the company’s supply chain, as well as the carbon emissions of the company’s products in the hands of their customers (witness the new term of “Scope 3” carbon emissions being included in the carbon footprint of oil and gas companies – it adds in the carbon emitted when the oil and gas are combusted in vehicles and buildings).

Whilst Danish renewable energy company Ørsted is a good example of a company which has made a transformational change by exiting oil and gas and becoming a world leading developer of renewable energy, many energy companies have begun with relatively small steps towards net zero. A few small venture capital investments into cleantech, a passive holding in a climate change fund, new criteria for assessing proposed investments – while this seemed progressive a few short years ago, it soon won’t seem credible at the annual general meetings of the 2020s when shareholders have their annual chance to call out the board. Small steps will be labelled greenwashing, and boards will be pressured to be more ambitious. We will shortly reach a point when ESG issues are ranked as important as, if not ahead of, shareholder returns.

As soon as coronavirus recedes, the importance of climate change action will reassert itself. There will be a sense that coronavirus was a global problem tackled head-on by global action, and that similar efforts could be made to combat climate change in the 2020s. Companies will have to think bigger in 2021, and start speaking to and acting on more ambitious steps in the direction of net zero. What worked in the last 10 years isn’t going to work again. Companies will have to be brave and take bigger, more strategic steps, including in M&A, if they hope to make the move towards net zero in a timeframe that will be acceptable to investors and, increasingly, regulators.

But strategic M&A, meaning strategic acquisitions to transform a business rather than bolt-ons to expand it, as anyone who works on these deals knows, is fraught with risk. A fair chunk of ordinary M&A deals are later seen as failures, more so for transformational deals – 2000’s failed US$350bn AOL Inc. /Time Warner Inc. merger lives long in the memory for dealmakers; “old economy” Time Warner trying to catapult itself into the new internet age became a case study on how not to do M&A. Marconi plc’s reshaping of itself from a defense contractor to a telecoms business destroyed a UK bellwether stock and all shareholder value. 

So here’s the rub: Companies are going to have to move quickly to address carbon emissions. Standing still is not an option, nor is purely organic change. For most energy companies, transformational M&A is the only way forward. And as if M&A on that scale isn’t enough of a risk, the number of renewable energy targets that might make a strategic difference to a large company is not very big. If there are not enough targets to go around, it’s going make for some interesting deal-making. 

Doing nothing is not an option. Companies are going to have to step up and demonstrate substantive change at pace once the world moves beyond coronavirus. Where they look to M&A deals to deliver this change, the energy industry should look to learn lessons from the internet boom and the credit crunch crisis to ensure that the they do the right deals at the right prices to the long-term benefit of investors and the environment. It’s not going to be straightforward. Strap yourself in for renewable energy M&A 2021!