What does Engine No. 1’s recent proxy fight at Exxon Mobil have in common with the insane trading in GameStop and AMC common stock that occurred during the pandemic? The answer is that they all garnered lots of media attention but accomplished nothing.
Engine No. 1, a small hedge fund with less than $40 million worth of Exxon Mobil
common stock in hand, amazingly succeeded in getting three of its four nominated directors elected to Exxon’s board. Unfortunately, the hedge-fund activism of Engine No. 1, seeking to enhance shareholder value, reduce Exxon’s carbon emissions, and transition it into a global leader in profitable clean-energy production, was not able to provide specific recommendations on how Exxon Mobil was to accomplish these objectives.
For example, what precisely are the profitable clean-energy opportunities that Engine No. 1 would like to see Exxon Mobil invest in? Engine No. 1 did not provide an answer.
In sum, a lack of specificity indicated that it was not truly informed about the operations of Exxon Mobil or how to manage its long-term future.
Confirmation that Engine No. 1’s activism was not expected to positively impact Exxon Mobil can be found in the lack of an associated upward movement in Exxon’s stock price. As observed by Hemang Desai, Shiva Rajgopal and Sorabh Tomar in June, whatever increase in the stock since Engine No. 1’s activism became public can be attributed to a rise in oil prices that have benefited all oil and gas companies.
However, even without specific recommendations or a positive market price reaction, Engine No. 1 was still able to win its proxy fight. How was it able to do this?
No doubt the timing was right. Exxon Mobil was floundering financially as a result of a high debt load, pandemic-reduced demand for its products, and low oil and gas prices. Yet at the time that Engine No. 1 began its proxy fight in earnest on March 15, Exxon was still a $250 billion company and recognized as one of those small number of top-performing companies, based on decades of capital appreciation and dividend payouts, that have allowed the stock market to significantly outperform U.S. Treasurys over time.
Exxon Mobil was floundering financially as a result of a high debt load, pandemic-reduced demand for its products, and low oil and gas prices
Engine No. 1 succeeded because it focused on gaining the support of the “Big 3” investment advisers to index and ESG funds — BlackRock
Vanguard, and State Street Global Advisors. The Big 3 own approximately 21% of Exxon Mobil’s voting stock. However, that percentage significantly understates their voting power because they will likely vote all their shares while individual investors — those most likely to vote with management — won’t.
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To garner the Big 3’s support, Engine No. 1 appealed to their desire to be perceived as investment advisers who are making a difference in mitigating climate change. Such a perception is necessary to attract “millennial” investors, the investor segment that will soon be the dominant investor type in mutual-fund and exchange-traded-fund investing.
So the Big 3 were under a lot of pressure to support Engine No. 1’s efforts or else they would be perceived as not walking the talk on climate change. Based on their voting, it appears that the marketing implications won out over the need to actually implement value-enhancing change at Exxon Mobil. BlackRock ended up supporting three Engine No. 1 director nominees, while Vanguard and State Street Global Investors each supported two.
An impediment to fighting climate change
Perhaps most importantly, Engine No. 1’s hedge-fund activism may be an impediment to the world’s ability to deal with climate change. As observed by Tariq Fancy, BlackRock’s former chief investment officer for sustainable investing, “one lesson COVID-19 has hammered home is that systemic problems—such as a global pandemic or climate change—require systemic solutions. Only governments have the wide-ranging powers, resources and responsibilities that need to be brought to bear on the problem.”
If so, then the Engine No. 1’s successful proxy fight may have caused significant harm to climate change mitigation efforts “by creating a societal placebo that delayed overdue government reforms,” he added. That is, the sustained focus on the proxy fight and the perception that Engine No. 1’s victory represents a victory in the fight against climate change may have reduced our sense of urgency to advocate for strong governmental actions that will have a real impact on mitigating climate change. Fancy, the former BlackRock executive, refers to this as a “deadly distraction.”
Engine No. 1’s activism resulted in Exxon needlessly spending significant resources on defending its director nominees and thereby distracting Exxon Mobil from engaging in its current strategy of focusing on the production of oil and gas, a strategy that Engine No. 1 could not adequately disprove as being the correct one.
Yes, Exxon’s current strategy may result in the company stranding oil and gas assets or the company eventually losing its independent existence if the road to decarbonization speeds up, but until proven otherwise, perhaps a different hedge-fund activist that is more informed will serve that role, its strategy cannot be discounted as the one that will maximize the value of the company’s stock.
Henry N. Butler is executive director of the Law & Economics Center at George Mason University’s Antonin Scalia Law School. Bernard Sharfman is a research fellow at the Law & Economics Center and a senior corporate governance fellow of RealClearFoundation.