Green financing solutions enabling a faster energy transition

The oil and gas industry’s transition remains at the top of the news agenda, with many conversations centred around how applying smart proess engineering and the latest digital techniques can reduce an asset’s emissions. The question remains, however, as to how these projects will be funded when captial investment in brown oil and gas companies is being squeezed.

Typically, the emission reduction process begins by a full understanding of your current emission profile alongside a costed road map of how to achieve net zero at both the asset and portfolio of operations level. Such understanding is usually captured in a marginal abetment cost curve and reinforced in corporate environmental, social and governance statements and goals.

“Green finance, in its broadest sense, it is any financial structure that has been created to ensure a better environmental outcome for the planet.”

Some of the quick wins are cash positive but, as we move along the marginal abetment curve, the cost of emission reductions becomes increasingly substantial. To make the more ambitious area type projects viable requires innovative and complex technical, commercial and financial solutions that take time to evolve.

Xodus’ approach to thinking about the energy transition underpins our vision for a responsible energy future by linking the project level and portfolio level to financing regarding emissions and carbon management. In our experience, there are a set of projects that make a significant emission reduction difference that lie in between the quick wins and these very large projects. It is these ‘quick win’ projects that are ideal for a nimbler and project enabling green finance approach.

Green finance, in its broadest sense, it is any financial structure that has been created to ensure a better environmental outcome for the planet.  There is also ‘sustainable finance ‘ which takes account of social considerations with the purpose of providing increased investment in longer-term and more sustainable projects. And, more recently, ‘transitional finance’ which provides finance to companies which are currently seen as brown but have the ambition to transition to a greener future.

The most common of these finance products to date are green bonds and sustainability loans for longer term projects which, alongside a growing market in green leased facilities, help deliver greener assets.

There are currently a plethora of loans, bonds and other financial structures available to help drive the energy transition process and some of these products are available to the oil and gas industry. These financial structures are regulated by numerous financial authorities split over various geographies. 

However, regulation in this space is starting to coalesce around some general requirements. All green finance typically requires that the money borrowed is used on projects that provide clear environmental and or social benefits, which will be assessed, and where feasible, quantified, measured and reported on annually by the borrower. In addition, the borrower should corporately have clear environmental and sustainability objectives.

For oil and gas specifically, finance is being squeezed as traditional sources of capital are actively ‘decarbonising’ their investment portfolios. The simplest way to achieve this is by removing and withdrawing from high carbon intensity fossil fuel investments. This loss of available cash for oil and gas investments has many ramifications and new oil and gas financed projects must now have even higher financial returns and minimal carbon footprint in order to attract a dwindling set of investors.

Conversely, large green, sustainable and transition funds are actively looking for projects in which to invest. Currently, these ethical investment funds do not have enough projects on their books and are typically looking for long term infrastructure type investments; consequently, the costs of capital and investment terms are much lower than in oil and gas.

Green financing in oil and gas does have some controversy, and not all funds are available to these types of companies. Care must be taken in correctly framing the project for green, sustainable and or transitional investment to avoid green washing accusations and to align it correctly with targeted funds’ investment criteria. The projects should consider a wider more global funding pool outside of European jurisdictions to ensure a wider selection of funding options.

Other considerations to be aware of include economic modelling and ongoing green reporting, as failure to meet the agreed green targets usually results in higher rates being applied to the loans.

With that background, let us consider how we can use green finance for cash positive ‘quick wins’. Typical projects that fall into this category would be flare recovery projects (installing a new vapour recovery system) and gas utilisation and monetisation projects (either reinjection or collection and exporting of currently flared gas).

There are two main types of green leased finance options for these projects: operating leases where the asset is owned by a new lease corporation at loan maturity, and financing leases where the asset is owned by the same company at loan maturity. The choice only affects the cost of borrowing. 

For an ideal leased approach, the project should be easily defined, with minimal or well understood ties to existing assets and preferably not core business activity. There are a few benefits to this approach. The project gets the beneficial cost of capital based on a green finance term sheet, meaning that more projects will become commercially viable due to the reduced cost of borrowing. Also, as it is a leased facility it will not impact the company’s current liquidity – the lease providers will pay for the asset, thus enabling more green projects.

All in all, oil and gas energy transition projects can be green financed, enabling more projects to proceed via lower investment criteria. Also, these green lines of credit can be extended to leased opportunities without impacting the company’s balance sheet or already stretched capital requirements. 

Our clients trust us to deliver authoritative, in-depth advice and analysis, combining smart thinking with practical experience and an ability to describe and balance risk and financial pressures.  If you would like more information about any of the above, please get in touch: Kent.Massey@xodusgroup.com