Stranded Assets Complicate the Energy Transition
Think the energy transition is just like the transition from horses to automobiles? Think again.
The transition from internal combustion engines to electric vehicles is being likened to the revolution from horse-drawn carriages to automobiles.
U.S. Transportation Secretary Pete Buttigieg:
“America led the original automotive revolution in the last century, and today, thanks to the historic resources in the President’s Bipartisan Infrastructure Law, we’re poised to lead in the 21st century with electric vehicles,”
The swiftness and ease (at least in retrospect) of the automotive revolution is cited as a hopeful and optimistic reference for the current energy transition. Once automobile production took off, the number of draft animals dropped precipitously. “In one decade, cars replaced horses (and bicycles) as the standard form of transport for people and goods in the United States” according to Scientific American (January 2017).
Of course, a whole ecosystem of supporting businesses lost out. Carriage makers, horse breeders, farmers growing hay, buggy whip makers, all were out of business. According to historian, Thomas Kinney, these business closings went smoothly: “Most wagon and carriage shops simply filled their last orders, discharged their work force, and liquidated their assets in the face of a sea change in American transportation.” (Thomas Kinney, CWRU PhD dissertation, 1997)
Other difficulties were also easily overcome. Nostalgia and affection for horses passed, and people were convinced to eat horse meat (Tony Seba). Cultural values of sanitation and cleanliness supported eliminating horse feces and urine from city streets (Microsoft blog, The Day the Horse Lost Its Job).
But today’s energy transition is complicated by stranded assets.
When cars were replacing horse-drawn carriages there were no buggy whip dictators, large and powerful horse breeders with armies of lobbyists working to ensure their industry received favorable legislation from congress. Nor were there horse and carriage fiefdoms whose economies were largely based on perpetuating the horse and buggy era or else be left with stranded assets.
What are stranded assets?
The value of oil and gas companies is based, in part, on their reserves, that is the oil and gas in the ground that has not yet been extracted. Reserves enter into the business model in important ways. CEO compensation for a given year is based on GROWTH in reserves (how much new crude they found) that particular year. WSJ reported that this is one reason oil companies have kept acquiring new reserves even during times of oil glut and falling prices--because the CEOs have an incentive to keep growing the reserves.
Reserves also are a strong consideration in oil companies’ ability to borrow money. Reserves are a sort of collateral for loans and credit lines. If they don’t replace enough of the volumes they sell each year with new discoveries, they risk losing funding (credit lines). (WSJ 17 May 2016).
All is well if everything keeps growing: oil companies, reserves, the price of oil & gas, demand for fossil fuels.
BUT What happens as the energy transition and policies to limit climate change diminish demand for those reserves? If the reserves remain in the ground indefinitely then those reserves become STRANDED ASSETS.
Citigroup analysts estimate that if we are to meet the stated goal of the Paris Climate Accord, and limit global warming to 2 degrees C, there will be $100 trillion of stranded assets. Financial institutions that insure or lend to or rate oil and gas companies are at risk from stranded assets.
The insurance commissioner in CA is requiring all companies that do business in his state to disclose their investments in fossil fuel companies so that potential investors can know the risk from stranded assets. Savvy investors, like the Bill Gates Foundation, have been divesting from fossil fuel companies for years in part because of the risk of stranded assets.
The new Global Registry of Fossil Fuels (fossilfuelregistry.org) is attempting to map and account for reserves – no easy task. “Information on reserves is typically held by private companies, and greenhouse gas emissions associated with global reserves vary widely based on a range of different methodologies.”
I hope this new data will unleash full and frank discussions of stranded assets in the energy transition. Let’s engage oil and gas company representatives at climate conferences in conversations about how to unwind stranded assets without crashing the economy. Let’s include Russia’s vast potential stranded assets in discussions of the war in Ukraine. If you know of a discussion on going, please let me know.