Executive Q&A: How ESG is Driving Oil and Gas M&A Activity

If there has been one common theme in the oil and gas sector’s recent dealmaking activity, it’s more focused than ever on ESG issues. Buyers are willing to pass on deals that do not align with their ESG goals, which otherwise would have been attractive from an earnings standpoint.

According to 2021 market data, there were 798 M&A deals across industries that were considered “sustainable” by data provider Refinitiv, representing a stunning 44% year-over-year increase.

Peter Wolf, corporate and securities partner at law firm Mayer Brown, spoke with Hart Energy about how ESG considerations are playing a decisive role during the M&A process.

“Previously, the primary consideration as to whether to do an M&A deal was whether acquiring the target business would be accretive to earnings…but increasingly there is a focus among energy sector dealmakers as to whether acquiring the target business aligns with the buyer’s ESG priorities—principally, any decarbonization targets,” Wolf told Hart Energy.

He also shared thoughts on how an increased focus on climate reporting and SEC’s proposed rules will impact the dealmaking outlook in the oil and gas sector.

Hart Energy: How is the increasing focus on ESG impacting M&A deals in the energy sector?

Wolf: The increased focus on ESG, particularly from the investment community and the SEC, is having a significant impact on the types of target businesses that buyers are interested in acquiring. Previously, the primary consideration as to whether to do an M&A deal was whether acquiring the target business would be accretive to earnings. There have always been a plethora of other ancillary factors that impact the decision whether or not to do a deal, but increasingly there is a focus among energy sector dealmakers as to whether acquiring the target business aligns with the buyer’s ESG priorities—principally, any decarbonization targets. Buyers may be willing to pass on deals that otherwise would have been greenlit from an earnings standpoint because the target business does not further their ESG priorities. Even acquiring a target business that fits squarely within the buyer’s traditional core business may not align with the buyer’s ESG priorities as they transition towards clean energy.

That isn’t to say that the increased focus on ESG has slowed dealmaking in the energy sector. One of the most tried-and-true ways of transitioning any business is through M&A, and the clean energy transition is no exception. Energy companies looking to jump-start their decarbonization efforts have been eyeing investments in renewable energy for some time to gain access to new technologies and skilled talent, and that trend will only continue and likely accelerate in the coming years.

We are also seeing energy firms looking to divest fossil-based assets as they seek to shed older, carbon emitting technology as a means to achieve their ESG priorities. This trend is likely to increase in light of the SEC’s proposed new rules requiring climate change disclosure, which, among other things, would require public companies to disclose data regarding their direct and indirect greenhouse gas emissions and climate-related expenditures. Divestitures will be a useful tool to improve these metrics.

Hart Energy: Large-scale deal-making seems to be on hold, but smaller asset sales lie ahead as buyers seek to diversify their portfolios. What role is ESG expected to play in these deals?

Wolf: ESG is playing a significant role in the types of target businesses that buyers are looking at. Many traditional energy firms are looking to diversify their portfolios to accelerate their transition to clean energy by acquiring or partnering with smaller solar and wind developers and operators. Additionally, we are seeing a phase of consolidation in the renewable energy space as larger, established players look to acquire new participants to gain access to new services, enter new markets and increase market share.

Hart Energy: What concrete steps can energy businesses take to address ESG considerations in their M&A transactions?

Wolf: Aside from a shift in the types of target businesses that energy firms will consider acquiring, there are additional steps that buyers are taking to address ESG priorities. One key step energy firms are taking in M&A transactions is focusing due diligence on the target business’s supply chain. This is particularly important in the renewable energies space, which has been hit hard by recent supply chain challenges impacting the supply of components and parts from Asia. Buyers not only want to know that the target business has sufficient plans in place to address these supply chain challenges, but also to confirm that the suppliers are in compliance with applicable regulations and that their practices align with the buyer’s ESG priorities, including with respect to sustainable sourcing practices and social employment standards. 

Hart Energy: Do you think the increased focus on climate reporting will impact dealmaking?

Wolf: The SEC’s proposed new rules requiring climate change disclosure, and the SEC’s expressed focus on “greenwashing” as an examination priority, are almost certainly going to impact dealmaking in the energy sector. Even before these recent events, our ESG team has been counseling clients about the risks of litigation and liability associated with the voluntary ESG disclosure. As ESG disclosure becomes mandatory, these risks will become more prominent and universal. Companies that fail to live up to their stated ESG goals and objectives will be targets for litigation. M&A will be a tool that these companies can use to achieve their ESG goals and objectives.