Repsol has just announced a shift in strategic direction – to become a net zero emissions company by 2050. This move extends their previous long-term ambition, which was to lower carbon intensity by 40% by 2040. It addresses one of the key shortcomings of relative intensity targets, and crucially is integrated into the overall business plan and investment process. We believe this positions Repsol as the most progressive oil and gas producer on climate.

Net zero – where relative intensity targets start to become absolute

Repsol is one of a handful of companies that have set ambitions to lower the lifecycle carbon emissions intensity of their products, alongside Total and Shell. While certainly better than having no targets, these aren’t fully adequate in themselves when it comes to being compliant with the Paris Agreement. Our planet works on absolute limits; it is the aggregate amount of greenhouse gas emissions that determines the level of global warming, as recognised in the concept of the global carbon budget.

However, when companies set themselves relative targets in terms of CO₂ emitted per unit of energy produced, this enables them to maintain or even keep increasing emissions in absolute terms. For example, a company could increase its fossil fuel production while adding renewables to its portfolio, lowering the average carbon intensity of its energy production but increasing emissions overall. At the global level, this could lead to the perverse situation where all companies lower their average carbon intensity despite increasing fossil fuel production, therefore all claiming to be compliant with Paris as the planet sails past 2˚C and beyond.

For example, Shell’s ambition is to reduce intensity by 50% by 2050, while it plans to increase fossil fuel production in absolute terms in the interim. Where Repsol differs is that, by extending to net zero, its relative target effectively takes on an absolute aspect. It doesn’t matter how much the company grows, an emissions intensity of 0 will mean that from 2050 no net carbon is added to the atmosphere.

The hallmarks of Paris for emissions targets

Setting targets relating to CO₂ emissions has become increasingly popular for fossil fuel producers, under pressure from various stakeholders. In a recent report, we outlined three key components that an emissions target should have as pre-requisites before it can be thought of as truly reflecting a company’s contribution to atmospheric carbon emissions:

1. It should be bounded by finite limits through an absolute basis, not just on intensity;
2. It should cover scope 1, 2 and 3 emissions; and
3. It should cover emissions from the vast majority of a company’s owned production.

An absolute basis doesn’t mean that it needs to be a figure in tonnes of CO₂ that can never change; just that it reflects a finite limit of some sort, perhaps even through a limit on investments rather than a limit on CO₂. Repsol’s ambition doesn’t give a set limit on the amount of CO₂ that might be produced in the period to 2050, but it does at least give an end point.

Secondly, many competitors only cover scope 1 and 2 emissions in their targets, meaning those generated in the extraction process and roughly 15% of total emissions for oil and gas on average. Repsol’s target further includes the remainder and vast majority of emissions, being the “scope 3” emissions that are released in the use of fossil fuels, for example burning gasoline in a car.

Thirdly, Repsol’s approach covers 95% of the products that Repsol sells. Conversely, many companies have targets that only cover that proportion of their production which they themselves operate, which may only be a fraction of the oil and gas development that they have an economic interest in.

Accordingly, Repsol’s target appears to be the first in industry that tries to satisfy all three.

Beyond these, there is then the question of whether the target itself is sufficient in magnitude. Last year’s IPCC Special Report found that limiting warming to 1.5 degrees would require CO₂ emissions to reach “net zero globally around 2050”, even in scenarios that assume a lot of negative emissions technologies in future. Again, Repsol’s target appears to fit the bill.

Integration into business strategy is essential for risk mitigation

Carbon Tracker has tended to look at each company’s contribution towards climate outcomes through the lens of investment practice and project portfolio, rather than emissions targets. Really these are two sides of the same coin – one can consider the investments that lead to the emissions, or the emissions that result from the investments.

However, by looking at investment practice one can get a better handle on the financial risk associated with a company’s portfolio. A company might set emissions targets but then continue to invest in high cost projects; doing so leaves shareholders with the risk that changing demand trends will leave those assets stranded as they are outcompeted in the market, regardless of carbon emissions. In our view, delivering optimal financial results in terms of maximising returns and mitigating risk in the energy transition requires that companies’ investment practices consider such dynamics, and hence ensuring that emissions targets aren’t simply a fig leaf for continuing business as usual.

Walking the talk?

Here again, Repsol’s approach shows a great deal of promise. The company has changed its internal price assumption to one it considers compliant with Paris, and will use this as a base for future upstream project investment decisions. A sufficiently conservative price deck would ensure that it does not invest in the marginal projects that may turn out to destroy value in the transition. The company has not yet disclosed this new price assumption, so it is hard to judge how conservative it is yet; we estimate that Repsol has recently sanctioned projects that don’t fit in an economically-rational low carbon world. We look forward to seeing how their investment approach develops.

Furthermore, this change of internal price deck has incurred a €4.8bn write down on its assets, demonstrating a consistent application throughout the business. This move attempts to bring the financial statements closer with what would eventually result under the Paris agreement if achieved, rather than simply assuming its failure.

Pay for performance

In order for management to act as desired, it is essential that they are incentivised appropriately. We have been critical of companies that reward their executives for chasing growth for the sake of growth, for example by basing bonus metrics on production or reserves growth rather than financial metrics that encourage value creation without getting bigger (for example return on capital employed). Such growth metrics clearly aren’t good for the climate, and research shows they aren’t good for shareholder value either.

Repsol has so far fallen into this category, incentivising both production growth in its annual bonus and reserves replacement in its long term incentive plan. However, it has now said it will link at least 40% of management’s long-term pay to achieving the net-zero target. As the company has said it will now prioritise “the generation of value and cash over volume”, we hope to see the volume growth metrics removed from its incentive structure as well.

Repsol moves ahead of the pack

Oil and gas companies often seem to treat the energy transition as an ESG issue – throw out a bit of disclosure and hope that they get left alone to get on with the business of producing more and more fossil fuels. In reality, the problem is much more fundamental. Many investor concerns are driven by financial risk and acceptance that a genuine change of business model will be required, rather than simply environmental impact. After all, what could be more important to a company than the future demand for its products?

Repsol’s commitment appears to recognise this and take it to heart. Yes, the net zero ambition is non-binding, and implementation in 2050 will rely on the actions of several generations of future executives.  One might question how feasible it is make the leap from an intensity reduction of 40% in 20 years to 100% in 30, and hence whether milestones along the way should require deeper cuts, earlier. However, the company seems to have gone further than peers in properly reflecting the decarbonisation challenge throughout its business, including in the key areas of sanction practice and executive remuneration.

Accordingly, we consider Repsol to be the current industry leader on the issue of the energy transition, and hope that it continues down this path.