Engine No. 1 is the activist hedge fund that targeted Exxon Mobil Corporation (NYSE:XOM) and successfully placed three candidates on their board of directors. They have now announced the launch of an exchange-traded fund (VOTE), and this has already received $100 million in commitments. This is a landmark situation in shareholder activism, and the question now is if shareholders should be worried for the future.
Q1 2021 hedge fund letters, conferences and more
Exxon Mobil Doubles Down On Conventional Fossil Fuels
Nicholas Hyett, Equity Analyst at HL commented:
“Company AGMs are usually pretty boring affairs and a recent report found that just 4% of FTSE 350 companies saw a resolution fail to pass at an AGM in 2020. Only 22% of companies even saw “significant opposition” to a resolution. In short, investors have tended to wave through resolutions that have already been signed-off by the board. That makes ExxonMobil’s recent AGM particularly notable.
While peers have been looking to channel the proceeds from oil & gas sales into renewable alternative energies, Exxon doubled down on conventional fossil fuels. The logic was straightforward – while the pandemic rocked demand last year, oil and oil products will remain a key part of the energy mix for decades to come. Developing new reserves as rivals exited would allow the group to exploit rising prices as supply from other sources fades away. Higher volumes at higher prices could turbo charge profits.
Engine No. 1 is a small hedge fund with just $240m of funds under management, by comparison Exxon’s market capitalisation is $263bn. Engine No. 1 argued that Exxon had been underperforming for years – with total returns over ten years of 27.8% compared to 85.0% across the wider sector.
Its solution required Exxon to invest in clean energy, set a lower anticipated oil price when planning new oil & gas investments and completely overhaul the board and the way management were paid.
Engine No. 1 Scores Three Board Seats
To achieve its goal, Engine No. 1 wanted investors to back its nominees for new directors at the company – who would then go on to deliver the change that Engine No. 1 argued was needed. In the event, three of the activists’ four nominees for the Exxon board won seats.
Funds like Engine No. 1 are described as activist investors. They invest in a company with the goal of driving significant change which, they hope, will add value to the shares they own. Shareholder activism isn’t new, but such a small fund affecting change at a stock market giant is very unusual.
Engine No. 1 argue that their campaign has already driven significant shareholder value. With the shares having risen faster than rivals since it became apparent the activist was at work. In fact, the group’s outperformed a range of peers over the last 12 months*, and that’s continued since the shareholder vote. Though of course this is just an example and does not indicate what will happen in the future.
We would caution against assuming all of this outperformance is due to Engine No. 1’s activities.
As a company which has actively sought to remain as exposed to oil & gas as possible, results are always going to be somewhat linked to the price of oil. The oil price has nearly doubled in the last 12 months, from $36.34 a barrel to $70.91 (based on the US WTI benchmark). So it’s no surprise that Exxon’s performed better than some rivals investing in alternative energies where results are less tied to the oil price.
That’s not to say that the Engine No. 1 campaign has had no effect. Investors are increasingly conscious of the environmental, social and governance (ESG) credentials of their investments, and the proposed changes should improve Exxon’s ESG scores. However, we’re sceptical that Engine No. 1 can take all the credit.
A Willingness By Investors To Challenge Boards
So, what does this all mean for shareholders? Well it illustrates a willingness by investors to challenge boards – not only activists themselves, but the big institutions that backed the board changes and actually made them happen.
If investors are prepared to take management to task over ESG concerns, then it might also mean that companies become increasingly active in this area. Board directors are unlikely to risk being unseated by investors who want a stronger line on environmental issues. However, the fact Exxon has performed better than other global oil groups over the last year also suggests there could be some opportunity in investing ESG laggards. Investors could find value in seeking out companies that perform poorly on an ESG basis and have scope to re-rate over the longer-term.
A year ago Exxon shares traded on a price-to-book ratio of 1.26, today that’s more like 1.67 – a transition that would’ve resulted in significant change to the share price if the underlying portfolio had remained unchanged. A higher oil price also implies Exxon’s assets could generate more profits in the future than previously anticipated. But of course there are no guarantees and figures shouldn’t be looked at in isolation. Investors will have to make up their own minds whether its improved ESG credentials or old-fashioned profits that have been the better lubricant for Exxon’s recovery.
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