Dan Romito, Contributor

Dan Romito is a consulting partner at Pickering Energy Partners focusing on quantitative ESG strategy and implementation.

Insurance giant Chubb announced a new mandate in March to incorporate evidence-based plans to reduce methane emissions in underwriting guidelines, demonstrating that ESG does not just impact equity and debt, but insurance as well.

According to its news release, Chubb will continue to provide insurance coverage for clients that implement evidence-based plans to manage methane emissions, including at a minimum having in place programs for leak detection and repair and the elimination of non-emergency venting.

Regardless of where you stand on the topic, the fact is that ESG impacts access to capital.

Moving forward, insurance options will diminish if clear and quantifiable emissions-based directives are not implemented. This decision will not remain unique to Chubb; it will certainly expand across other providers quickly. As was the case with equity and debt, recent market precedent implies there exists a higher likelihood of broader adoption as opposed to aggressive pushback. 

It is imperative the absorption and interpretation of this directive are not relegated solely to the idealistic. The regulatory markets are quickly evolving in a manner that will adversely impact the companies that underplay the importance of ESG disclosure. This is most evident with the regulatory mandates in Europe, namely the Sustainable Finance Disclosure Regulation (SFDR).

The investable universe, including insurance, is quickly separating into three distinct areas defined by explicit ESG-related considerations: Article 6 (funds that do not integrate sustainability into the investment process); Article 8 (promotes certain environmental or social characteristics); and Article 9 (a sustainable investment or a reduction in carbon emissions as its objective). Article eligibility is determined by self-reporting the quantitative ESG-related data points necessary to validate a respective designation. To the earlier point on eligibility, Article 8 funds have been dominating capital flows over the last two years, according to Morningstar and Goldman Sachs reports.

We anticipate SFDR to act as the baseline for the impending SEC greenwashing rules set to be released before the end of the year.

The Chubb decree, unfortunately, marks only the start of a variety of future anticipated ESG-related mandates. To be fair, Chubb is most likely updating their approach to risk now that the Inflation Reduction Act formally introduces a methane tax to the market beginning in 2024. Facilities exceeding 25,000 metric tons of CO2 per year will be taxed at $900 per metric ton (mt) of methane in 2024. This tax increases to $1,200/mt and $1,500/mt of CO2 in 2025 and 2026, respectively. 

Whether the energy industry likes it or not, ESG data and disclosure are now deeply embedded within the processes that determine eligibility for quality equity, debt and, now, insurance. All private and public companies are now expected to provide some degree of ESG-related material to remain eligible for capital markets participation. Moving forward, the industry’s collective focus should emphasize the importance of quantitative non-fundamental trends, as opposed to questioning the overall conceptual utility of ESG.

To properly prepare for the impending regulatory and market changes and to convey the factual narrative, the industry must become more fluent in sustainability terminology. Incorrect interpretation of data primarily derives from the rating agencies and aggregators, who aggressively push their own variation. Therefore, it is critical all companies acquire a firm grasp of their non-fundamental data.

Regulators have also increasingly placed energy within their crosshairs and enhanced their own sophistication with measurement and disclosure. Preparation and protection must include tracking the same data points regulators often use against energy companies.

To slow the trajectory of regulatory mandates, companies should play more offense and proactively establish the objective economic realities of the energy sector. Failure to do so will inevitably lead to fail winning the pragmatic middle. Unfortunately, the adverse impact of this decision will have a greater impact on smaller private mid-market energy businesses.  Ironically, the empirical fact remains that the U.S.’ energy sector is leading the way in decarbonization, safety, efficiency, reliability and affordability. The narrative, however, is currently controlled by the detractor community.

Regardless, the math implies the U.S. has figured out how to decouple energy use and economic growth since U.S. GDP has increased steadily while total energy use has remained flat over the last 25 years. The sector’s empirical trend over the last quarter century is impressive; however, the industry continues to struggle in telling the collective story. The positive is that the U.S. is already the world’s cleanest and most efficient energy producer.

Controversy aside, we must acknowledge that ESG-related directives and data are now embedded within the global regulatory fabric. Assuming financial returns are in place, companies positioning themselves in a manner where accessing trending non-fundamental data becomes second nature will thrive, while companies that do not, regardless of financial performance, will struggle.