Exxon’s Board Defeat Signals the Rise of Social-Good Activists

The energy giant’s stunning loss was the work of a tiny hedge fund that believes investing for social good is also good for the bottom line.

By Matt Phillips  June 9, 2021

Wall Street has seen its share of strange bedfellows, but a recent alliance of investors that took on Exxon Mobil was unprecedented.

Last week, an activist investor successfully waged a battle to install three directors on the board of Exxon with the goal of pushing the energy giant to reduce its carbon footprint. The investor, a hedge fund called Engine No. 1, was virtually unknown before the fight.

The tiny firm wouldn’t have had a chance were it not for an unusual twist: the support of some of Exxon’s biggest institutional investors. BlackRock, Vanguard and State Street voted against Exxon’s leadership and gave Engine No. 1 powerful support. These huge investment companies rarely side with activists on such issues.

The stunning result turned the sleepy world of boardroom elections into front-page news as climate activists declared a major triumph, and a blindsided Exxon was left to ponder its defeat.

Engine No. 1 instantly became a Wall Street name. The firm is among a new breed of shareholder activists, ones driven by the idea that social good also benefits the bottom line, just as policy and public sentiment on the environment are evolving. Chris James, the founder of Engine No. 1, argued that Exxon’s management wasn’t making needed changes fast enough.

The firm convinced the mighty BlackRock. “We believe more needs to be done in Exxon’s long-term strategy” on reducing climate risk, which threatens shareholder value, it said in a statement explaining why it had sided with Engine No. 1.

Laurence D. Fink, the chief executive of BlackRock, has stressed the importance of climate in his annual letter to executives. “No issue ranks higher than climate change on our clients’ lists of priorities,” he wrote this year’s edition. “They ask us about it nearly every day.”

Observers say Engine No. 1’s victory shows there is a path for shareholder activism to change how companies approach issues like racial diversity and the environment, often considered distractions from producing profits.

“We’re finding that there are other components that factor into a company’s overall performance: social, cultural and, now, environmental,” said Andrew Freedman, a partner and co-head of the shareholder activism group at Olshan Frome Wolosky, a law firm in New York. “Shareholders are able to now find a way to run a campaign where there’s alignment on the initiative because it all feeds to the bottom line.”

In other words, activist investors can now agitate for changes at companies on the ground that such shifts aren’t just the right thing to do but will also enrich shareholders by pushing up the price of the stock.

So far, the performance of Exxon’s shares backs that up. In a reversal of years of underperformance, the price is up more than 45 percent since Engine No. 1 began its campaign in December, beating the broader market and the close competitor Chevron.

Exxon Mobil isn’t the only energy giant facing pressure on climate-related issues. On Wednesday, Royal Dutch Shell said it would accelerate efforts to cut its carbon dioxide emissions, after a Dutch court ruled Shell must reduce its global net carbon emissions by 45 percent by 2030 compared with 2019.

Protesters in New York City outside a 2019 state trial. The judge cleared Exxon of civil charges that accused the company of misleading shareholders about its climate change costs.Credit...Justin Lane/EPA, via Shutterstock

A Strategic Focus on Exxon

The strategy of Engine No. 1 hinged on getting votes from Exxon’s three largest shareholders, BlackRock, Vanguard and State Street, on its side, an uphill climb since such firms often side with management.

Engine No. 1 held only 0.02 percent of Exxon’s shares, giving it a similar portion of proxy votes, while those three institutional investors together accounted for nearly 20 percent of the voting shares.

With nearly 30 years as a technology investor under his belt, Mr. James and his colleagues knew how to frame their climate-centric arguments in a way that blended activism and a focus on financial results.

“A refusal to accept that fossil fuel demand may decline in decades to come has led to a failure to take even initial steps towards evolution,” the analysts at Engine No. 1 wrote in the fund’s 82-page pitch to investors.

The hedge fund reminded Vanguard, BlackRock and State Street that its campaign was in line with their own publicly stated goals to see the carbon emissions of the companies in their portfolios fall sharply over the next 30 years.

Engine No. 1’s success aligned with a rapid shift in public sentiment on climate change. Companies have had to acknowledge their impact on the environment and publicly pledged to improve.

Greenmail to Green Investing?

Originally known as “corporate raiders” or “greenmailers” — a portmanteau of “greenback” and “blackmail” — activist investors historically weren’t thought of as a force for good. Their core business, pioneered in the 1980s, is to buy a stake in a company and agitate for clear economic outcomes, like cutting costs, selling assets or boosting dividends, moves that would lift the stock price and provide an immediate gain. The activists then tended to dump their shares, pocket the profits and move on to the next target.

Some activists, such as Nelson Peltz’s Trian Fund Management, were credited with keeping corporate managers on their toes and helping to turn companies around, but many on Wall Street viewed them as speculators in search of quick paydays who cared little about the long-term future of a business.

Carl Icahn, a titan of activist investing, was famous for his hardball tactics. For about three years, he owned a large stake in Apple and agitated repeatedly for the company to raise its stock buyback program. Like dividends, stock repurchase plans are a way for companies to return cash to their shareholders. Apple never formally followed Mr. Icahn’s directives, but it did expand its buyback program, and he exited the investment in 2016 with an estimated profit of about $2 billion.

In recent years, activist investors have adjusted their approach, as firms such as ValueAct and Third Point have sought more strategic changes in a company’s long-term strategy.

Engine No. 1 marries the aggressive strategy of old-school investors like Mr. Icahn with the new thinking behind social-good investing. The firm stands out for mounting such a bold campaign even as it had little financial heft or public clout.

Engine No. 1’s approach is unique, but analysts and observers say its high-profile success is likely to prompt others to try similar tactics.

The Market View

Investing in social good has been good for investors. Many have seen solid returns in what are known as E.S.G. funds, which invest in companies that meet certain standards (set by the investors) on environmental, social and governance issues.

In 2020, three of every four stock funds categorized as “sustainable” beat a market index of roughly comparable conventional stocks, according to the research firm Morningstar. In part, that reflects the kinds of companies that make up such funds. They tend to feature fewer fossil fuel stocks, which were hurt last year by pandemic-related shutdowns. At the same time, large tech companies such as Microsoft, which often show up in many sustainability focused portfolios, posted solid gains.

In some quarters of the stock market, sustainability is a sexy attribute. Industries such as solar and electric vehicles have become hot growth stories. Tesla’s share price has more than tripled over the last 12 months. Invesco’s exchange-traded fund for solar power has more than doubled.

Money is pouring in. Last year, $51.1 billion was invested in E.S.G. funds, more than double the $21.4 billion that was invested in 2019 and more than nine times the 2018 level.

A protest against BlackRock’s investment in coal and tar sands at its headquarters in Manhattan last month.Credit...Carlo Allegri/Reuters

A Shift From Asset Management Giants

The asset management industry has a long history of issuing public statements in support of social issues but with unclear goals. That seems to be changing.

This year BlackRock, Vanguard and State Street all signed on to the Net Zero Asset Managers Initiative, a commitment to push the companies they invest in toward cutting their net greenhouse gas emissions completely by 2050.

Average shareholder support for resolutions on this year’s environmental, social or governance issues rose more than 12 percentage points to 44 percent, according to Jackie Cook, an analyst at Morningstar, and Lauren Solberg, a data journalist there.

They noted in a Morningstar article last month that “strong levels of support are likely driven by more votes in support of E.S.G. resolutions by these large fiduciaries — particularly BlackRock and Vanguard, who have historically supported fewer E.S.G. resolutions than most of their asset manager peers.”

A Decision That Will Resonate

Analysts say it’s hard to overstate the impact that Exxon’s defeat will have on corporations across the country.

In 2018, BlackRock, Vanguard and State Street cast an average of about 25 percent of the votes in elections for directors of all of the companies in the S&P 500, according to academic research. The mere threat that some of those votes are more likely to be cast against management will force executives to think long and hard about how to address their concerns, analysts say.

“You’ve seen that kind of shift dramatically overnight,” said Lyndon Park, managing director at ICR, a firm that advises corporate boards on investor relations issues.

Mr. Park, who formerly worked at BlackRock, added: “The days are over where you could think, you know, these guys would give the benefit of the doubt to management.”