World’s most stringent ESG rules draw backlash from EU business

FOR TotalEnergies chief executive officer Patrick Pouyanne, the difference in the performance of his company’s stock and that of ExxonMobil, the largest United States producer of oil and gas, is in no small part explained by an acronym: ESG.

ExxonMobil’s aggressive oil and gas strategy has been rewarded by investors, with its shares more than doubling in the past three years. For Europe’s second-biggest oil company, in contrast, pressure on the region’s asset managers to invest using environmental, social and governance (ESG) standards has capped gains and prompted Pouyanne to flirt with the idea of listing shares in the US.

The French oil giant is not alone in pointing to the skewing effect of ESG regulations that critics say have put European businesses at a competitive and valuation disadvantage to their US peers, with potentially long-lasting effects for the bloc’s economy. Companies from Mercedes-Benz Group to Unilever are pushing back. The European Round Table for Industry, whose members have combined annual sales of two trillion euros (S$2.9 trillion), said overly stringent regulations are “accelerating loss of competitiveness” and warn that members’ prospects “are better outside Europe”.

Over the past five years – a period during which Europe started formulating the world’s most ambitious ESG regulatory framework – the US’s S&P 500 Index has soared more than twice as much as Europe’s benchmark Stoxx 600 Index. Although several factors – including the dominance of Big Tech – have contributed to the richer US valuation, ESG requirements in Europe have not helped.

European energy firms broadly trade at a 40 per cent discount to their US peers. If TotalEnergies were valued in line with the average big US crude producer, its market capitalisation would be boosted by US$108 billion, based on earnings multiples calculated by Bloomberg.

TotalEnergies reaffirmed the views expressed by its CEO on Europe’s ESG policies, declining to say more. ExxonMobil, for its part, said its strategy is to provide products the world needs, while it also invests US$20 billion to 2027 in areas such as carbon capture and low-emission fuels.

Faced with diverging ESG rules between the US and Europe, some companies have weighed their options. Commodities trader Glencore, which recently said it’s abandoning plans to exit coal, has been touted as a potential candidate to ditch its London listing for New York. German utility RWE is among businesses directing more investments across the Atlantic than its home market, while Norwegian battery company FREYR Battery has moved its headquarters to the US.

“The biggest risk of the European approach is that it has put energy-intensive industry at a significant competitive disadvantage,” said Dimitri Papalexopoulos, chairman of Greece’s Titan Cement International and also of the European Round Table’s Committee on Energy Transition & Climate Change. “If Europe’s share of these global sectors is lost, others from elsewhere will simply pick it up and prosperity will go there.”

The number of European Union companies in the Fortune Global 500 has shrunk. Europe’s share of worldwide aluminium production fell to 5 per cent in 2022 from 30 per cent in 2000. The bloc has gone from being a chemicals exporter to a net importer.

European officials acknowledge problems with the fast pace and complexity of the regulations rolled out since 2019,  adding, however, that the measures are needed to avoid a dual climate and biodiversity crisis. “There are short-term pains, obviously, because it requires some effort, but the benefits are starting to emerge,” says Helena Vines Fiestas, chair of the EU’s Platform on Sustainable Finance and co-chair of the UN’s Taskforce on Net Zero. “We are working really hard on simplifying and making things on the ground work.”

The US has reams of environmental protection rules, but its overall framework is dwarfed by the breadth and depth of the EU’s, particularly around disclosure. Also, the anti-ESG movement has thrived in the US, and if former President Donald Trump returns to the White House, his “drill, baby, drill” mantra looks set to lower the regulatory burden for producers. Even his rival Kamala Harris has backed off from her earlier call for a ban on fracking – the technique used to produce most US oil and gas today.

As the EU expands regulations – over the European Parliament’s last five-year term about 8,000 acts were adopted, many environment-related – the US is offering incentives. President Joe Biden’s signature climate law – the Inflation Reduction Act (IRA) of 2022 – is a package of tax credits and rebates intended to propel investment in everything from electric vehicles (EVs) to solar panels. Goldman Sachs Group estimated it could unleash as much as US$3.3 trillion in spending, pitting what some call a US carrot against Europe’s stick.

Europe’s approach is more about “telling companies what to do”, said Tal Lomnitzer, a senior investment manager on the global sustainable equity team at Janus Henderson Investors.

The EU’s Green Deal legally obliges the bloc to hit net zero emissions by 2050, with at least a 55 per cent cut by 2030. The EU also has pledged to pour money into the green transition, including a plan to raise one trillion euros from public and private sources. In response to the IRA, Europe launched the Green Deal Industrial Plan in 2023, setting aside roughly US$270 billion from existing EU funds. The bloc is also distributing billions to member states from its pioneering carbon market for addressing climate.

But the appeal of the US programme is sucking up investment, with more than 60 European and Asian companies announcing projects in the year after the IRA was passed, an analysis by Bank of America Global Research showed.

“A lot of corporates have found this scheme very attractive, very efficient, very quick to implement versus Europe, where things are a bit slower sometimes,” said Panos Seretis, head of global sustainability research at Bank of America.

Norway’s FREYR is limiting spending on a project in its Scandinavian market to instead focus investment in the US. German utility RWE earmarked 20 billion euros last year for the US, almost twice the spending plans for its home base.

“The IRA creates a positive and stable investment environment with a simple regulatory framework,” RWE CEO Markus Krebber said.

For Estelle Brachlianoff, the CEO of French water-treatment company Veolia Environnement, “the US wins”. Dutch Bank ING Groep’s CEO, Steven van Rijswijk, said the US is doing better on luring investments. European regulations are “out of touch, they put a break on investments”, said Repsol CEO Josu Jon Imaz San Miguel, an oil and gas producer shifting towards cleaner energy. He wants Europe to “learn a lot from what’s being done in the US”.

Unlike the US, where the federal government can offer tax breaks, EU taxation rests with member states, leaving the bloc to work largely through loans and grants.

Climate directives – with acronyms such as CSRD, SFDR or CSDDD – have cemented Brussels’ reputation as the ultimate Hydra of bureaucracies. Its disclosure requirements have spawned a cottage industry of consultants, with ESG-reporting software revenue set to more than double to US$2.1 billion between now and 2029.

The Corporate Sustainability Reporting Directive (CSRD) will compel companies to provide more than 1,000 data points on everything from water consumption to boardroom diversity in supply chains, with more requirements to come. The Sustainable Finance Disclosure Regulation (SFDR), with reporting requirements for investors, faces an overhaul after criticism for not adequately defining concepts such as “sustainability”.

The Corporate Sustainability Due Diligence Directive (CSDDD) mandates detailed corporate transition plans and opens businesses to lawsuits if there are ESG violations in their value chains. For companies with hundreds of global suppliers, that can get “very complex”, said Sophie Tuson, head of the environmental unit at the London law firm RPC.

Compliance costs are soaring. Olga Smirnova, internal audit director at Heineken, said money spent by the Dutch brewer on ESG reporting has grown at an “exponential” rate. Desiree Fixler, previously a sustainability head at Deutsche Bank’s investment arm DWS before becoming a high-profile whistleblower, now denounces European ESG regulations on social media.

“Most companies are absolutely suffocating in the amount of data capture they have to do,” Fixler said.

While the EU has encouraged EVs, investors in Porsche recently called on the luxury carmaker to slow its EV push, worried about returns. Mercedes-Benz and Volvo Car also are walking back some EV ambitions. EV sales in markets like Germany and Italy are in decline, BloombergNEF data shows.

Despite the protestations, though, there are some who warn of a climate reckoning further down the road.

For now, “oil and gas may outperform, but if that sector does not shrink, then the effects in terms of extreme weather and so on will cause absolute performance across large portfolios to actually be lower than it could otherwise have been”, said Eric Pedersen, head of responsible investments at Nordea Asset Management.

Onerous as disclosure rules are, Johan Floren, senior ESG adviser at US$100 billion Swedish pension fund AP7, says he needs them to do his job. “Without information, the market doesn’t work,” he said.

Some of Europe’s biggest financial firms are purging their books of ESG risks. BNP Paribas, the EU’s largest lender by assets, is restricting fossil-fuel finance. The US$550 billion Stichting PensioensFonds ABP, Europe’s biggest pension fund, said in May it exited liquid assets in oil, gas and coal, a portfolio worth about 10 billion euros. It intends to offload a further 4.8 billion euros in illiquid fossil-fuel assets.

The fund will only invest in companies that “are on a pathway in the transition to a sustainable economy and companies that don’t harm climate or biodiversity”, Harmen van Wijnen, chairman of ABP’s board of trustees, said.

The EU may just be ahead of the game on ESG regulations. Efforts are underway to make sustainability reporting global, with countries representing almost 55 per cent of the world’s economy working on adopting disclosure requirements set by the International Sustainability Standards Board.

Some say there is no other way. After two decades of coaxing markets to address climate change, it’s clear voluntary measures have failed, said Simon Braaksma, senior director for sustainability at Royal Philips.

“The people who are crying, maybe they should roll up their sleeves and contribute more to addressing those societal issues,” he said. BLOOMBERG