Chevron’s recent climate change disclosures become the first to reach down to the asset level, but remain light on useful detail.
Hot on the heels of ExxonMobil’s recent climate change report , Chevron has published “Climate Change Resilience: A Framework for Decision Making” . It represents a substantial update to their report last year, with greater insight into the company’s thinking and scenario analysis approach.
It contains a number of tropes that may be familiar to the well-versed in oil and gas climate disclosures – for example narrowing the scope of stranded assets, and characterising the energy sector impacts of a low carbon transition as gradual and well-signposted, thereby depriving investors of an assessment of the volumes and capex at risk should the company misread the pace of the transition.
However, for the first time, it includes a consideration of a low-demand world and some disclosure at the asset level. Caginess abounds, but this is an important step on the industry’s journey and Chevron are to be commended.
A common theme remains oil and gas companies’ reluctance to put numbers on how they might fare in an energy transition. We wonder which company will be the first take this important step.
2 degree scenario analysis: comparison of supply/demand
Chevron has based its analysis on the demand pathway in the International Energy Agency’s (IEA) main decarbonisation scenario, which assumes a 50% probability of limiting global temperature rises to 2°C. Specifically, it has input those demand projections into their own model of supply and commodity prices and utilised the resulting price output to test their assets. While details of the assumptions in that model are lacking, the approach is an instructive one in that it takes an approach based on supply/demand fundamentals consistent with Chevron’s own long-term planning processes and demonstrates that such modelling can be done.
However, Chevron does not indicate what prices its model delivers, leaving substantial uncertainty regarding the prices used. Chevron contends that it cannot disclose this because of the potential for commercial harm—we believe that commercial sensitivities around long-term prices are overstated, given the difficulty of forecasting prices accurately. However, we would think that the company could at least provide a sensitivity approach across a range of prices which would provide investors useful information without revealing modelled outputs.
Asset level analysis – tentative, but there
Chevron does provide some detail on certain major assets, but does not make an overall quantitative assessment. For example, Chevron notes that its Kazakhstan Future Growth Project and the Australian Gorgon and Wheatstone LNG projects will “generate cash”. In contrast, the base business in Kazakhstan, deepwater assets in the Gulf of Mexico and Nigeria, and heavy oil in California will “generate cash and earnings”.
It should not be a surprise that any project would generate cash once it has been built, even in a challenging price environment. If the majority of capital investment has already been sunk, it will continue to produce while it can cover its variable costs, which are likely to be relatively low. However, the real test is whether such a project will ultimately deliver adequate financial returns on the original investment.
We therefore read this as tacit admission that the first three projects don’t create value in a low-demand world – i.e. that they would be stranded.
Like other companies that have attempted similar exercises, they refrain from offering any financial measures of this stranding. However, that they have done this analysis and released some of the results, albeit in purely qualitative terms, is notable.
Stranded assets – a financial test of value, applying to reserves and resources
It seems strange, then, that Chevron argues separately that assets will not be stranded, this time based on their reserve estimates. They are not the first to attempt to limit the definition of stranding to a) proven reserves only; and b) whether these will be physically produced. However, this artificially narrows the scope. The generally understood definition is a financial test and applies to all assets, not just the proven reserves subset. For example, in the IEA report that Chevron cites frequently, stranded assets are “capital investment in fossil-fuel infrastructure that ends up failing to be recovered over the operating lifetime of the asset because of reduced demand or lower prices resulting from climate policy” .
Clearly, if it is acknowledged that a project with capital investment previously estimated at $54bn  cannot deliver positive earnings in an energy transition scenario, then there is an issue that shouldn’t be sidled out of with semantics. Chevron’s dismissal of the stranded assets concept feels at out of place in the report as a whole.
Downstream – approach sensible, detail lacking
In their discussion of the downstream (refining) industry, Chevron’s thinking is similar to Carbon Tracker’s , assuming that lower refinery runs will lead to lower profitability and investment across the industry, with excess capacity forced to be rationalised.
Again however, decision-useful detail is absent. Chevron notes that it’s Richmond Refinery Modernization Project “benefits” from having sunk most of its capex – investment may prolong the operating life, but will that capex actually deliver a return if margins are falling?
Carbon prices – a small part of the picture
Chevron makes much of its internal carbon price analysis, but does not disclose its forecasts fearing this would “erode” its competitive advantage. Although they can give significant differentiation between particular assets, internal carbon prices are likely to have a limited impact on upstream project sanction overall. For example, a price of $40/tCO2, far above those currently prevailing, would add $1-2/bbl to upstream costs on average. Even then, it would only impact margins if it could not be passed through to consumers, as Chevron notes. We would be interested to hear of any assets that have failed the carbon price test.
The greater impact of lower demand is likely to be on commodity prices; here Chevron are sanguine. An emphasis on supply/demand equilibrium leads them to conclude that oil price impacts would be “muted”. Competition between producers would be “intense”, yet margins “would not necessarily be impacted”. Of course this is educated guesswork, but we note that volatility since 2014 was incurred by a ~2% imbalance in supply/demand and was steadied by co-ordinated OPEC action, perhaps less likely with the envisaged rivalry on cost.
Chevron dedicates 6 pages to supporting its view that oil and gas demand will continue to grow. The implication is that the Paris Agreement commitments will be missed, and by a long chalk – a similar scenario  gives a 50/50 chance of global warming being above/below 2.7°C. Everyone is perfectly entitled to their own opinions on how the world’s energy system might evolve. But the important issue is whether managements are taking downside risks seriously and giving shareholders sufficient detail to understand their positioning.
The disclosure debate takes a step forward each time a company goes beyond its peers in a particular aspect, and Chevron sets an important precedent. There is recognition of asset stranding, wordplay aside. There is an interesting qualitative discussion of low-demand impacts and evidence of 2°C scenario analysis at the asset level, although coy. There is an effort to incorporate the voluntary recommendations of the Taskforce on Climate-related Financial Disclosures. We would like to see the industry keep up this momentum and look harder at areas such as value implications, and capex at risk. If management’s belief is that climate targets will be missed, they will likely invest on these convictions; what is the value at risk in such a misread? Chevron, like others seems to suggest that they will see it coming and avoid pouring capital into projects uneconomic in a 2°C world. The industry’s spending up to the 2014 price crash suggests that investors cannot assume this level of omniscience.
Such hesitancy is somewhat understandable. Climate change disclosures are in unchartered waters and companies have a keen eye on their competitors’ movements. There are no doubt internal battles being fought. And there is the lingering question in the wake of the TCFD as to whether a completely voluntary regime for these disclosures can and will deliver decision-useful information. We think that readers should recognise the progress in this report and we look forward to further detail of quantitative outcomes and developments in Chevron’s business and reporting.
Andrew Grant – Senior Analyst
Robert Schuwerk – Executive-Director (North America)
 ExxonMobil, “2018 Energy & Carbon Summary”, February 2018
See Carbon Tracker analysis at https://carbontransfer.wpengine.com/exxon-nudges-right-direction-climate-risk/
 International Energy Agency, “World Energy Outlook 2017”, November 2017.
 Financial Times, “Cost of Australia’s Gorgon LNG project rises to $54bn”, December 2013
 See Carbon Tracker, “Margin call: Refining Capacity in a 2ᵒC World”, November 2017
 The IEA’s New Policies Scenario, which Chevron notes that it’s views on total primary energy demand are generally aligned with.