Some of the costly Wall Avenue shareholder battles on report might sign a giant shift in how hedge funds and different traders view sustainability.
Exxon Mobil Corp. has been warding off a so-called proxy fight from a hedge fund often known as Engine No. 1, which blames the energy giant’s poor performance lately on its failure to transition to a “decarbonizing world.” In a Might 26, 2021 vote, Exxon shareholders approved at least two of the four board members Engine No. 1 nominated, dealing a serious blow to the oil firm. The vote is ongoing, and extra of the hedge fund’s nominees can also quickly be appointed.
Whereas its focus has been on shareholder worth, Engine No. 1 says it was additionally doing this to save the planet from the ravages of local weather change. It has been pushing for a commitment from Exxon to carbon neutrality by 2050.
As business sustainability scholars, we can’t recall one other time that an vitality firm’s shareholder – significantly a hedge fund – has been so efficient and forceful in displaying how an organization’s failure to tackle local weather change has eroded shareholder worth. That’s why we consider this vote marks a turning level for traders, who’re effectively positioned to nudge firms towards extra sustainable enterprise practices.
Hedge funds to the rescue?
Local weather methods aimed toward saving the planet are an odd play for a hedge fund. Such funding corporations are higher recognized for getting firms to cease investing in any such factor to allow them to gather fast income.
Current analysis undertaken by certainly one of us discovered that activist hedge funds tend to target companies that spend extra of their sources on most of these sustainability initiatives. That’s, they purchase shares of an organization to achieve affect after which persuade different traders to hitch them in demanding effectivity enhancements and cost-cutting protocols to return more money to shareholders. A follow-up research discovered that firms cut spending on sustainability initiatives inside 5 years of a hedge fund getting concerned.
In different phrases, hedge funds deal with short-term returns – not long-term considerations resembling local weather change or perhaps a firm’s personal future profitability. And that is due to how hedge funds essentially function.
Hedge funds normally cost their traders – usually rich people and institutional traders – a 1% to 2% management fee in addition to a 20% cut of any gain in their investments. In return, these shoppers expect quick and substantial returns that substantially outperform the market.
Engine No. 1, a brand new sort of hedge fund?
That is what makes Engine No. 1’s battle so attention-grabbing.
It started in early December 2020, shortly after tech investor Chris James launched Engine No. 1 with two different hedge fund trade veterans. The agency stated it was “purpose-built to create long-term value by harnessing the ability of capitalism.”
Engine No. 1’s first order of enterprise was to choose a battle with one of many world’s largest vitality firms, Exxon Mobil. It sent a letter to the company’s board on Dec. 7, 2020, urging it to deal with clear vitality and shake up its board of administrators – a daring transfer for an upstart funding agency with only a 0.02% stake within the nearly US$250 billion company.
However Exxon was an apparent goal for this technique. It has been a laggard on creating low-carbon fuels for years and has promoted misinformation concerning the human affect on local weather change for many years.
After Exxon refused to decide to a transition to carbon neutrality, Engine No. 1 formally launched its proxy battle in March to pressure a change of technique on the firm, which traces its historical past again to 1870, when John D. Rockefeller founded the Standard Oil Company.
A proxy battle is when a bunch of shareholders tries to garner sufficient assist from different traders – within the type of votes – to force a company to do what it wants, whether or not it’s to chop prices or change technique.
Exxon stated it expected to spend $35 million greater than its ordinary prices to cope with the proxy battle; sadly, by growing Exxon’s bills, these are prices which might be really footed by traders. Engine No. 1 put its bills at $30 million. The overall price, by some estimates, has exceeded $100 million.
Engine No. 1 hoped to switch a 3rd of the oil giant’s board of directors with 4 people who’ve extra clear vitality expertise. The hedge fund was additionally searching for company governance reforms, a overview of Exxon’s local weather motion plan – and its affect on the corporate’s funds – and better public disclosure of its environmental and lobbying actions.
Even earlier than the vote, the marketing campaign was already altering the way in which Exxon does enterprise. Prior to now few months, Exxon has proposed a $100 billion carbon capture project in Houston and committed $3 billion to low-emission technologies through a new venture.
Although Exxon denies any of those investments had been on account of stress from Engine No. 1, it’s laborious to consider the hedge fund wasn’t a catalyst. These are a number of the biggest investments Exxon has proposed in sustainability in recent years, and so they got here proper after stress from the hedge fund – in addition to the election of a brand new U.S. president who has made fighting climate change a priority.
One other probably purpose for the brand new initiatives is that Engine No. 1’s marketing campaign was enlisting vital assist from different main Exxon traders, such because the California Public Staff’ Retirement System and the New York State Widespread Retirement Fund, which laid additional pressure on Exxon to do something about its lagging sustainability strategy.
So regardless of its pushback towards Engine No. 1 and its proposed local weather plan, clearly Exxon Mobil’s consideration to its sustainability plans has been piqued.
What all of it means
So why is Engine No. 1 actually doing this – and do its motives matter?
Whereas the agency is pushing laborious for extra funding in sustainability and clear vitality, the main target in its statements on what’s driving this battle is generally about shareholder worth. And many of its demands, resembling higher long-term capital allocation technique, a plan to reinforce shareholder worth and a “misaligned” administration compensation, are straight out of a typical hedge fund’s playbook.
What we see as essentially totally different right here is the emphasis the hedge fund is placing on the connection between sustainability and long-term income. It makes a robust case that the explanation Exxon’s financial position has been deteriorating is due to its failure to spend money on low-carbon applied sciences.
Or, like a hedge fund, Exxon has been specializing in the short-term good points from fossil fuels on the expense of its long-term future in a world economic system that puts a premium on sustainability and a penalty on carbon-intensive actions.
Furthermore, the readiness of so many main traders – together with the three largest U.S. pension funds and BlackRock, the world’s largest funding supervisor with $7.4 trillion in property underneath administration – in becoming a member of Engine No. 1 reveals which approach the winds are blowing, which Exxon appears to now additionally notice.
So the vote itself isn’t the story right here. It’s that the burden of activist hedge funds – the most potent form of shareholder activism – appears to be shifting in favor of sustainability. As we see it, this implies firms and executives that don’t spend money on the transition to low-carbon vitality will more and more danger incurring their wrath.