By Geoffrey Cann
Companies working in the energy sector are, or soon will be, on their own self-defined pathways to achieve carbon zero or carbon neutral business profiles. What does this even mean?
Roadmap to Carbon Zero
I’m on a panel discussion this week, sponsored by Anaplan, to discuss pathways to zero carbon for energy companies. Our goal is to peel this problem apart, layer by layer. My focus is on the role of digital innovation to assist the industry in this epic journey, and the other panelists include David Lepa from Anaplan, David Yager (author and oil industry executive), and Samantha Stuart (VP Strategy and Development with TC Energy).
To begin, the panel discussion assumes that there is some consensus on the need to address climate change at an industrial level, and that the question is no longer “should we”, but “how should we”.
Capital markets have successfully pushed climate change decisively onto the corporate agenda by demanding disclosure of precise steps that companies are taking to deal with climate change as a condition of financing. Even state-owned oil companies cannot avoid scrutiny, which was confirmed by the CEO of Petronas (Malaysia’s state owned oil and gas company) at a conference in January 2021. Energy businesses are highly reliant on capital markets to fund their activities, since the upfront investment to bring new energy infrastructure to market is substantial.
In this light, the panel is poised to discuss the following:
- The new and dynamic structural changes in various aspects of their historical business model including the future of their core products and services.
- Board level discussions on the topic of ESG measures including the journey to a lower carbon emission future and appropriate disclosure obligations.
- Capital market requirements for a roadmap to net zero carbon emissions
The panel hopes to reveal the outlines of a transparent, auditable and cost-effective carbon emission reduction strategy for some participants in the energy industry.
This will not be easy.
Once upon a time long ago, it was more straightforward to run an energy business. Demand for energy used to rise in lockstep with GDP growth. Consumers had few viable alternatives to the local utility. Competitive actions were predictable, and returns were strong.
Today, energy companies face a very substantial set of headwinds:
- Balance sheets are loaded with assets such as oil terminals that are not yet fully depreciated and, under energy transition, may have values approaching zero.
- Resources such as oil and gas deposits are at risk of becoming stranded.
- Energy assets are typically engineered and financed to run for decades, and often well beyond the targets set for carbon neutrality.
- Uncertain demand for traditional energy products alters the calculus for investments in de bottlenecking, modernization and expansion.
- Active energy producing assets such as power generation are losing the competitive battle to rapidly improving renewable assets.
- The base of attractive investment opportunities to expand is constrained because of social resistance to large scale energy developments.
- Energy companies now compete for capital with digital businesses that trade at much higher multiples.
- New energy business models are emerging that could permanently upend established market positions (or not).
- The potential for a new direct relationship between energy producer and consumer requires sets of skills that are absent in the business-to-business energy market.
- The opportunity to create entirely new energy products, such as energy donations, truly green energy, and energy charities, is possible through technology.
- Capital markets now demand transparency about the impacts of climate change, and for decisive and specific changes to address.
- Shareholder expectations for returns from traditional energy businesses are misaligned with the ability of new energy assets to reproduce the solid returns of the past.
Making decisions in this setting is even harder. The business environment is compounded by political cycles that are much shorter than the approval cycles for long life assets, geopolitical pressures relating to market access, energy security and dependence on high-risk energy suppliers, and regulatory processes that are lethargic and bureaucratic.
When you think about it, the transition facing the energy is not necessarily that unique. In fact, the auto industry is facing its own version of this same challenge—rapidly changing social expectations, heightened competition from new players, brand new technology, capital market pressures.
That doesn’t make it easier, but it does mean you have friends along for the journey.
The Contours of a Roadmap to Carbon Zero
Energy businesses are going to vary dramatically in how they approach energy transition.
As an example Denmark Oil and Natural Gas (or DONG Energy as it was known), was a state-owned company founded in 1972 to manage Denmark’s North Sea oil and gas assets. Over time the company expanded in power generation and distribution, and off shore wind, and entered new markets (the Netherlands, the UK, and the US). In 2009, the company adopted its “85/15 vision”, meaning a shift from 85% fossil fuel focus to 85% green energy. Eight years later, the company had entirely exited the fossil fuel sector, renamed itself Ørsted, as DONG was no longer representative of its business, and is nicely positioned globally as the world’s largest off shore wind company.
This is perhaps an extreme example, but it illustrates at least one pathway forward—all in on green. A few oil companies are betting on petrochemicals. Many power generators may wish they had paid attention to the shifting economics of energy as they watched their coal fired power plants rapidly become uncompetitive to gas-fired power and renewables.
The first step for energy companies is thus to decide what they wish to become as energy transitions. It may be too late to own the solar power panel market, the wind turbine innovator, the global off shore operator, and the battery leader. But many other fields are still contestable.
Consolidated energy relationships that bring together power, gas and petroleum are now possible. Utility deregulation that separated power generation, transmission and distribution may well bring these businesses back together.
Asset ownership is separating from the cycles or units of work output from those assets because of better usage tracking and subscription business models.
Roof top solar, in-home batteries, and many other energy innovations could become new asset classes. These assets are beyond the reach of many building owners, businesses and home owners, but could be securitized with a strong balance sheet.
Battery vehicles may well become swing power suppliers, which will require a novel business model for the new combined role of prosumer.
Charge points are needed in vast numbers across large geographies, with extensive building fit up required.
All those new consumers in battery transportation assets (cars, light duty trucks, delivery vehicles), will need reliable and predictable power supply agreements that follow them as they drive the friendly highways.
The Digital Play
I’m biased, of course, but in my view, digital innovations will play a decisive role in energy transition. Digital tools are among the very few, if the only, innovations that can lower costs, improve productivity, create new business models and lower carbon emissions at the same time.
For an illustration of the potential, take a look at how BP is using cloud-based AI tools to run entire oil fields. Costs have fallen 20%, productivity has risen 22% and methane emissions are down 74%.
Here are just a few of the common elements that I believe need to be on any roadmap to zero emissions.
Data is now critical table stakes to improve decision making around energy assets. The value at risk is now much greater, because the balance sheet is so much more in play. Shoring up data assets, investing in data science, and improving organizational acumen around data are key investment areas. An early focus should be on building an understanding of the true carbon footprint using data.
Improved analytics that leverage the immense computing horsepower of the cloud will help analysts identify assets at risk, competitor strategies and investment candidates. Better analytics, based on machine learning and other advances, will help optimise asset performance by eking out marginal gains in productivity, eliminating wasted cycles and empty runs, and keeping assets constantly at peak performance levels and minimal carbon emissions.
Cloud computing has been the basis for almost all the rapid growth, fast moving business models of the recent past. Energy businesses need to adopt cloud-based architectures to maintain a minimum of competitiveness. The latest asset builds even move SCADA (supervisory control and data acquisition) solutions to the cloud for greater flexibiliity.
The growth in low-code and no-code technologies that are fast to build with and deliver enterprise-grade solutions at speed, put many legacy systems at a distinct cost and flexibility disadvantage. Migrating to new solutions should be laid out.
Tracking carbon throughout the supply chain is no longer rocket science. Data Gumbo delivers 90% of CASB compliance reporting (including Scope 2 and 3) from its existing blockchain based system for processing field data. Knowing what carbon originates where is the first step to identifying carbon reduction strategies.
Getting To Carbon Zero
Roadmaps to zero emissions are going to be unique to each company because of their individual situations. But a few common digital elements that focus on data, analytics, cloud computing, low code technologies, and blockchain, will be the signposts of a successful transition.
Check out my book, ‘Bits, Bytes, and Barrels: The Digital Transformation of Oil and Gas’, available on Amazon and other on-line bookshops.
Take Digital Oil and Gas, the one-day on-line digital oil and gas awareness course.