By Douglas McKeige[*]
The case is in and we now await a ruling from Judge Barry Ostrager of the New York Supreme Court. The Attorney General of New York sued Exxon for publicly misrepresenting how it valued its oil reserves in light of likely future costs of climate change. Ultimately, the decision will prove to be a modest plot turn in the decline of what once the largest public company in the world (measured by its market capitalization). Exxon and the rest of the oil and gas companies are already in a broad and steep decline, however they may account for their oil reserves and promote their future prospects. Over the past five years, Exxon’s stock price has declined 29% versus a positive 51% return of the S&P broad market index—an 80% delta.[1] There have been similar stock price declines across the oil and gas industry. No matter what the ruling from Judge Ostrager, investors are rapidly divesting these investments.
The idea that the United States will sharply or even modestly cut fossil fuel consumption in coming years has not been broadly accepted. Five years ago, renewables were way too expensive to replace oil, gas and coal. We are just discovering in the last 24 months that the costs of solar, wind and batteries have declined so rapidly that they can do the job.[2] Now, the shift from fossil fuel to renewables is both reasonable and inevitable. If the world cuts its consumption of fossil fuels by even 15%, most of the fossil fuel producers will be subject to operating losses as far as the eye can see. Equity values will be wiped out and many bondholders will not get paid. This is already happening. The highly touted fracking companies, like El Paso Energy, California Resources, and Chesapeake Energy, are either in bankruptcy or headed there in a hurry.[3]
We do not have to wait for the U.S. federal government to get moving to replace fossil fuel with renewables. The markets are good at looking around the corner. Decisions to buy and sell companies on the stock exchange happen minute to minute. Once capital starts moving, it is far more impactful than government mandates.
Investors do not care much today about what companies said about their businesses a couple of years ago. They care about whether the stock price today is a good value relative to future prospects and cash flows. The only relevance today for investors is whether the NY Attorney General obtains a financial recovery against Exxon. However, the AG’s expert put damages in the $500 Million to $1.5 Billion range. These sound like big numbers, but Exxon’s market cap is $298 Billion.
Moreover, the hope that the successful prosecution of the Exxon lawsuit will engender more securities cases against big oil is unlikely. The NY AG is uniquely enabled with a special NY State statute, the Martin Act, to prosecute securities violations without (1) having to show intentional misconduct and (2) without having to show a direct connection between the misstatement and financial losses to investors.[4] In contrast, under state law common fraud law and federal securities law statutes (typically Section 10(b) of the 1934 Exchange Act), the plaintiff must prove she purchased securities at an inflated price, relying on statements by the company, that the statements were made knowingly (bad intent), and that a revelation of the misstatement caused an investment loss.[5]
The distinction between the Martin Act and other laws was on display at the end of the Exxon trial, when the NY AG announced that she was dismissing the common law fraud claims, which she had included in the case along with the Martin Act claims. After the broad investigation, the inability to show “fraud” makes typical investor fraud cases even less likely.
This is not to say that investors in fossil fuel companies are without powerful levers. The divestment of fossil fuel investments is in its infancy but investors are increasingly incentivized to act as they get better educated on both climate change and the accelerating decline in the value of these investments. Further, long term institutional investors like Blackrock, Vanguard, JP Morgan, Wellington, Capital Research, etc., collectively hold mid-teens percentage equity position in the fossil and utility companies that burn the fossil fuels.[6] Their power to vote their proxies to replace members of the Board of Exxon, Chevron and the big utility companies and push for change is unlimited.
[*] Douglas McKeige was a managing partner at Bernstein Litowitz Berger & Grossmann, LP, the leading investor securities law firm the United States and is also a ten year Wall Street veteran with senior positions at 3 multi-billion dollar investment firms. He is currently an LLM Candidate in Environmental Law at the Elisabeth Haub School of Law at Pace University in White Plains, New York.
[1] See CNBC stock price information for Exxon (NYSE symbol XOM).
[2] Presentation by CEO Jim Robo of Nextera Energy (ticker: NEE) at the Wolfe Research 2019 Power & Gas Leaders Conference, Oct. 2, 2019; Institute for Energy Economics and Finance, “Solar Plus Storage projects spreading across the U.S.,” Oct. 17, 2019, https://ieefa.org/solar-plus-storage-projects-spreading-across-the-u-s/.
[3] See, e.g., CNN Business, “Fracking pioneer Chesapeake Energy is drowning in debt,” Nov. 5, 2019, https://www.cnn.com/2019/11/05/investing/chesapeake-energy-debt-going-concern-natural-gas/index.html; WSJ, “Oil and Gas Bankruptcies Grow as Investors Lose Appetite for Shale,” Aug. 30, 2019, https://www.wsj.com/articles/oil-and-gas-bankruptcies-grow-as-investors-lose-appetite-for-shale-11567157401; E&E News, “Is U.S. shale facing an ‘unmitigated disaster’?,” Sept. 19, 2019, https://www.eenews.net/stories/1061136849.
[4] See Eurycleia Partners, LP v. Seward & Kissel, LLP, 12 N.Y.3d 553, 559 (2009).
[5] See generally Dura Pharmaceuticals, Inc. v. Broudo, 544 U.S. 336 (2005).
[6] See “Exxon Mobil Corp.,” https://whalewisdom.com/filer/exxon-mobil-corp (last visited Nov. 25, 2019).