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Assessing ESG Risks in National Oil Companies: Transcending ESG Ratings with a Better Understanding of Governance

Reports by Luisa Palacios & Catarina Vidotto Caricati • May 18, 2023

This report represents the research and views of the author. It does not necessarily represent the views of the Center on Global Energy Policy. The piece may be subject to further revision. Contributions to SIPA for the benefit of CGEP are general use gifts, which gives the Center discretion in how it allocates these funds. More information is available at Our Partners. See below a list of members that are currently in CGEP’s Visionary Annual Circle.

CGEP’s Visionary Annual Circle

(This list is updated periodically)

Corporate Partnerships
Occidental Petroleum Corporation
Tellurian Inc.

Foundations and Individual Donors
the bedari collective
Jay Bernstein
Breakthrough Energy LLC
Children’s Investment Fund Foundation (CIFF)
Arjun Murti
Ray Rothrock
Kimberly and Scott Sheffield

Executive Summary

National oil companies (NOCs) produce about half of the world’s oil, hold more than half of its refining capacity, and own the bulk of oil and gas reserves. Most of these companies come from emerging markets and depend heavily on international capital to finance their operations. As financial institutions consider more carefully environmental, social, and governance (ESG) risks in their investment decisions, an accurate assessment of the ESG performance of NOCs will be vital. Assessment of ESG risks in NOCs is currently hobbled by both the considerable divergence in ESG ratings for any given company and the complex nature of NOCs’ state ownership structure, which isn’t always readily encapsulated in ESG scores. A clearer picture of these companies’ ESG performance could be useful to investors.

This paper, part of the Financing the Energy Transition initiative at the Center on Global Energy Policy at Columbia University SIPA, aims to provide a better understanding of what impacts the ESG performance of NOCs in emerging markets. The authors survey ESG ratings of the largest national oil and gas companies in emerging markets for which such ratings are available, alongside the scores of some of the largest integrated oil and gas companies from advanced countries. The authors find a significant divergence in ESG scores for each single company, which raises questions about their individual stand-alone value in assessing the relative ESG performance of companies in the integrated oil and gas space.

An analysis of average NOC ESG ratings—imperfect as they are—against those of international oil companies (IOCs), however, indicates much lower performance of NOCs on governance specifically (i.e., the G in ESG). Ownership by a state creates unique governance challenges—which, in turn, affect environmental and even social efforts—and deserves further exploration to determine which factors within state-owned companies can improve or impair ESG performance, to facilitate a more reliable understanding of NOCs’ ESG risks.

Additional takeaways from the report include the following:

  • NOCs require continued access to global financial markets to refinance, repay, or contract new debt and finance their operations. NOCs’ management of ESG factors and performance on ESG metrics, which the authors categorize as ESG risks, could become increasingly relevant to the creditworthiness of NOCs and their shareholder governments as financial institutions pay closer attention to their own ESG commitments, including their net-zero pledges.
  • This matters to emerging markets bond investors, given that bonds of governments from oil-exporting countries and their NOCs represent a large share of the bonds outstanding from emerging markets.
  • Using only standard ESG metrics of rating agencies to measure ESG risks in NOCs appears insufficient, particularly on governance. Understanding the systems and processes that lead to governance improvements in NOCs through the particular lens of state ownership can strengthen overall assessment of ESG risks. Institution building within NOCs, as well as external and internal controls, for example, can reinforce ESG progress and discourage reve rsals, and are reflected in numerous factors, including: transparency, often linked to a company being listed on a stock market; the selection process of boards and a company’s independence from its shareholder government; and the presence of competition in domestic markets and of independent energy regulators. 
  • Even for investors focused on environmental concerns, or the E in ESG, the governance function of NOCs matters greatly. One of the most problematic governance risks in NOCs is corruption. Among violations processed under the US Foreign Corrupt Practices Act, the oil and gas sector ranks first in the number of cases brought since its inception, with the average penalty for such violations reaching $450 million in 2020. This risk relates to the E in that, for corruption to flourish, it needs to weaken the very system of internal controls that leads to effective management of operational and environmental risks.
  • ESG progress in NOCs is not linear and can be subject to reversals. Economic and political crises, changes in governments, and geopolitical events (e.g., Russia’s invasion of Ukraine and subsequent sanctions) are some factors that can lead to ESG regression in NOCs. Both sound internal governance and external systems of checks and balances are key to buffering negative pressures to backslide on ESG performance.

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Assessing ESG Risks in National Oil Companies: Transcending ESG Ratings with a Better Understanding of Governance

Reports by Luisa Palacios & Catarina Vidotto Caricati • May 18, 2023