Managing Environment, Social and Governance in the SUPPLY CHAIN
Environment, Social and Governance (ESG) in the supply chain is increasingly becoming relevant for enterprises across all industries. ESG is in the news almost every day and is most often associated with Climate Change and Sustainability. So, it’s easy to mistake ESG to be synonymous with Net Zero emissions and moving towards more sustainable sources of energy. There is more to ESG than just Net Zero Emissions. Prior to discussing the supply change impacts and challenges due to emerging ESG requirements it is critical to develop a good understanding of the term ESG itself. Let’s explore what this means for a specific industry such as Oil and Gas, and more specifically Onshore Oil and Gas (OO&G).
Reducing methane emissions in Onshore Oil & Gas is clearly a significant environmental challenge but represents just one component of the “Environment” issues that are represented in ESG. Onshore Oil and Gas industry is an extremely resource intensive industry. Approximately 10% of the cost of drilling/fracking an onshore well is expended on fuel. In addition, millions of gallons of water are consumed every year in fracking wells. In a world where governments are targeting reductions in the dependance on fossil fuel and where both fuel and water are becoming scarce resources; oil and gas operators will need to target improvements in their fuel consumption and water usage in fracking operations before it gets mandated. Recycling water has not been economical but will need increased focus in the coming years. The oil/gas field in the US is fairly remote and requires a lot of truck driven miles by employees and contractors on a daily basis. Efforts to reduce fuel consumption through shared trucking, and increased use of electric vehicles is still fairly in its infancy. An oilfield hand’s commute starts at home and often covers several hundred miles daily, with no infrastructure along the way for recharging. The electric trucks that are coming into the market are only functional for roughly 80% of the work force that do not require high torque for performing their daily duties. As companies look at reducing their carbon footprint, they will have to consider all these aspects holistically.
The “Social” aspect of ESG is not yet well understood by most people and is often not discussed in most ESG forums. Even when it is on the docket most often the discussion turns to diversity in the work force. Diversity in OO&G is a known challenge and has often been discussed in the context of the ageing work force. Diversity in the supply chain is even more complex due to remote areas the industry operates in. However, there is more to the Social component of ESG than just diversity. An interesting way to look at this is to look at the various stakeholders an Enterprise has. Every enterprise has five major stakeholders – employees, customers/suppliers, governments/regulators, shareholders/investors and lastly the public at large. The interactions and the demands of these stakeholders on an enterprise form the social component of the ESG. Millennials are increasingly looking at a company’s ESG footprint before they accept job offers. Can OO&G companies become attractive employers to the Millennials and Gen Zr’s? Customers are looking at the carbon footprint of a product’s supply chain before purchasing it. Whether the average retail customer be more willing to pay a premium for green gas at the pump is still out for debate? Texas utilities already offer customers a choice to purchase clean energy at a higher cost. Would the ability to charge a premium for cleaner oil and gas become an attractive option for OO&G companies as the infrastructure costs of reducing the carbon footprint increases their cost of doing business? Governments and regulators, federal, state and local bodies are still defining the requirements they will need companies that operate in their jurisdictions to follow. Shareholders/investors are increasingly becoming activistic and looking at companies’ ESG footprint before they invest. Institutional investors and hedge funds, that carry significant clout might have significant leverage with the companies in their portfolio or the companies they consider for investment. Finally, a company’s brand depends on how the general public views the company and the last thing a company wants is to be featured as a bad boy in an article or a TV show. An article in Bloomberg or a feature on TV could do significant damage to their public image. All of these will continue to present challenges for OO&G companies, especially the larger ones which the industry expects to lead the way. Companies that have become lean in HR, communications and government affairs will need to re-consider their staffing models to help prepare for the future.
Not only is ESG reporting becoming an ethical necessity, but it is increasingly becoming an important business routine. ESG reporting requires companies to not only look at their internal methods and processes but also requires them to review the method and processes used in their supply chain at large as companies are responsible for ESG across their total footprint. Federal and State regulations have been requiring companies to report their wastewater and chemical spills. A majority of the reporting today is a manual process. Many companies have been good at tracking metrics related to their spills and setting targets for improving performance year over year related to these issues and have also required their suppliers to report this data. But the gathering of this data from third party sources such ISNetworld and reconciliation, for monthly and quarterly reporting purposes has been a challenge for most companies. Most operators are very early in their journey in trying to understand their current situation. It’s even too early for them to benchmark themselves against their peers as all of them are in the same boat. Setting targets and tracking their performance and reporting how they will perform related to their goals will be challenging as the goal posts will continue to move. Companies will individually and collaboratively need to define rules, controls, policies that they will use to govern themselves. If they are caught napping and are under prepared, they may be facing huge fines levied by the government bodies or find that their systems and processes make their cost of doing business prohibitively high.
Let’s look at what companies can do and what is being done by the oil and gas supply chain. The top three costs for drilling a well are rigs, fracking (includes pumps, resources, sand, and proppant) and oil country tubular goods (OCTG). Premier rig and fracking companies have taken steps towards reducing their emissions by moving to electric rig and frac fleets. These rigs are mostly in their first or second generation and performance data is still trickling in, and costs are still prohibitive, but yet a step in the right direction. The availability of power in the oil field is still hit or miss, so despite these advances there might still be a need for a natural gas-powered generator for operating these in the oil field. Early adopters must pay higher costs, make longer term commitments and deal with uncertainties related to performance. On the OCTG side, steel mills which are large consumers of resources on their own and have a large emission footprint are racing to come up with alternative methods of steel making using green hydrogen produced using renewables such as solar and wind. This is still in the very early stages, isn’t cheap and requires huge expenditures by the steel industry over the next two decades. The next big contributor to emissions that is highly visible are the thousands of trucks with company men or contractors that are plying back and forth in any oil field. The advent of electric trucks such as the Ford Lightning is promising. The next decade should see an increase in adoption of use of electric trucks in the oilfield. But the range of the trucks and their torque output will limit their use by everyone in the oilfield. Oil and gas companies are still building their own electrical infrastructures in the oil patch and will need to perhaps invest in their own charging capabilities at a central operating center. Can they afford to have their employees and contractors spend two hours charging their vehicles in the middle of the day is probably being debated in the board rooms by the operations managers.
There is no clear standard on how to measure performance against a Social standard, yet. Oil and gas companies that have traditionally struggled meeting their targeted diversity numbers will find it very hard to stand up to emerging standards on how their stakeholders view the company. Most oil and gas companies are traditionally top heavy and do not have sufficient gender or age diversity in their work force. Diversity in the supply base is a far greater challenge because of the lack of availability of qualified choices in the remote markets they operate. With human resources mostly outsourced, companies will likely struggle to convince millennials that they are great places to work. Could they lose the ability to engage with large international suppliers who may choose not to engage with companies that do not have their act together?
Governance, systems and processes will probably present one of the greatest challenges over the next couple of decades. Some companies are realizing this and are creating centralized data warehouses in the cloud to serve as a single source of truth for their enterprise. Since data is captured by different systems, reporting often becomes a nightmare. Even reporting data captured from the first level (Tier 1) of the supply chain presents a significant challenge. Companies are already experiencing this trying to report contractors’ hours and injuries that are required by OSHA. Traditional ERP systems are not geared to capture the type of data that might be required for ESG reporting. Traceability of the data and independent verification will become paramount. New technologies like the blockchain may be appropriate to consider, only if companies becomes comfortable with putting sensitive data in a public domain.
