The Energy Industry's Stranded Asset Emergency

According to a new report from Global Energy Monitor, methane emissions from coal mines worldwide exceed those from the global oil or gas sectors and are significantly higher than prior estimates by the Environmental Protection Agency. Ryan Driscoll Tate, the report's author, found that coal mining emits 52 million metric tons of methane per year more than is emitted from either the oil sector, which emits 39 million tons, or the gas industry, which emits 45 million tons. Methane, which is the primary component of natural gas, is a potent greenhouse gas and the second leading driver of climate change after carbon dioxide on a unit per unit basis. Methane is more than 80 times as powerful at warming the planet as carbon dioxide over its first 20 years in the atmosphere.

With gas prices skyrocketing in recent days, given the Russian invasion into Ukraine, U.S. Senator Sheldon Whitehouse, the Democrat from Rhode Island, has introduced the Big Oil Windfall Profits Tax to curb profiteering by oil companies and provide Americans relief at the gas pump. Under Whitehouse's bill, large oil companies that produce or import at least 300,000 barrels of oil per day or did back in 2019 will owe a per barrel tax, equal to 50% of the difference between the current price of a barrel of oil and the pre-pandemic average price per barrel between 2015 and 2019. Revenue raised from the windfall profits of Big Oil companies will be returned to consumers in the form of a quarterly rebate, which would phase out for single filers who earn more than $75,000 in annual income and joint filers who earn more than $150,000.

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Meet Francois Cohen

Francois Cohen is an assistant professor with Department of Economics and the chair of Energy Sustainability at the University of Barcelona. Professor Cohen is also an honorary research fellow at the University of Oxford's Institute for New Economic Thinking and its Smith School of Enterprise and the Environment. Additionally, he has contributed approximately 15 policy reports for the European Commission, UNDP, the Green Economy Coalition, and the French and U.K. ministries of environment. 

What's in This Episode?

The fossil fuel industry finds itself in a catch-22, and unfortunately, the only result may be bad news for global warming and for oil investors. While the industry is slowly transitioning itself away from fossil fuel extraction, it's not ramping up its carbon abatement technologies fast enough to prevent hundreds of billions of dollars worth of stranded assets. Those are the findings of a recent research paper that was published in Nature Communications, coauthored by Yangsiyu Lu at the University of Oxford and Francois Cohn, an assistant professor of economics at the University of Barcelona. Francois Cohen joins us now to break down this report and what it means for the Paris Agreement, for these companies, and for the planet. Thank you for joining the Green Investor, Francois.

Francois:

"Well, thank you for having me here." 

Caleb:

"In simple terms, and I know it's not simple, I read your paper, explain the key conclusion of your report, which folks we're going to link to in the show notes. It's pretty dense. But Francois, give it to us as basically as you can."

Francois:

"OK. What we can do with the information at hand is to sum up all the capacity of power plants worldwide. And that also adds to this capacity to give us a plan for the last few years. And we can compare this to what electricity generation can come from fossil fuels, according to different scenarios that are consistent with the Celsius degree limits of the Paris Agreement. So, when we compare this, the stock of capacity for power generation, we have scenarios very consistent with managing climate change. What we find is that we have too many power plants and we are planning to build too many power plants around the world. So, the general message of the paper."

Caleb:

"Yeah. So, we're going the wrong way cause we continue to build the power plants to produce energy that also consume a lot of energy. Meanwhile, we're racing against the clock and trying to keep temperatures below this two degrees Celsius, which many people don't even think is going to be possible. The upshot, though, for the power industry and for those folks who have invested... and we're talking about institutional investors, we're also talking about companies who keep pouring tens of billions of dollars into these plants. What is the scenario look like five, 10 years from now?"

Francois:

"So, there may be some form of short-term profitability for investing in these plants. But longer term, what we know is that globally, as soon as we want to deal with climate change, some of these plants will have to be stranded. And a generalization that has been given in this field is just say, 'But we may not have to strand these assets because we can invest in technologies, especially carbon capture and storage. We can try to make plant conversation, start using more gas and coal-fired power plants. And what we find is even when we add up the potential for these different technologies, according to different scenarios, what we observe is that there is still a clear risk of what we call stranded assets, which are basically assets that won't be usable simply because there are too many of them. If we want to avoid climate change, which is what countries have been saying with the price of it." 

Caleb:

"When you speak of these carbon abatement technologies, what specifically are you referring to and and who's using those effectively today?"

Francois:

"So, I'm talking about coal to gas, or conversions from coal to gas. So, that can be a dual-fuel use in power plants or co-funding of coal with gas, for example. We are looking at the use of bioenergy, so the use of wood pellets instead of coal, as well as carbon capture and storage. So, at the moment... So, a lot of plants have been using gas instead of coal in the U.S., especially gas, despite the cheap oil in the West. This is less common in other countries. When it comes to bioenergy, there have been some investments in different countries to start doing this, but we are not really there using wood pellets instead of coal in most places. And finally, carbon capture and storage is a technology that we think that we will be able to upscale sooner or later. But so far, it's not at the commercialization stage."

Caleb:

"You're an economist, Francois. You've been watching the madness in oil prices lately and the domino effect it has had on calls for more production on the one hand from the oil companies and calls for a faster transition to renewable energy on the other, specifically in Europe, which now wants to accelerate its transition to renewables given its reliance on oil. How does this play out from your point of view as an economist?"

Francois:

"I mean, this has can only be my personal opinion, which is that we need to push for renewable energy if we want to achieve stronger energy security in Europe. So, I'm European and French, and clearly we depend on fossil fuels that are basically extracted abroad outside of the European Union. And this has been a challenge for Europe for decades. Right now, there is a very strong investment package that the European Union wants to implement, and the idea is basically to have more renewables. And these renewables we can we can build at home, so... I mean, we can install them at home, so it will clearly reduce our reliance on fossil fuels from Russia, in the present case, and possibly also pacifying our relations with this country because we would be less reliant on them, so we will have a stronger negotiating power about what to do."

Caleb:

"Let's talk about stranded assets a little bit more because it's such an important economic principle, but it's also a balance sheet matter, right? We're talking about infrastructure, whether that's power plants, whether that's oil rigs, whether that's pipes under the ground or whether that's the oil itself. Give me a sense of the magnitude of the dollar amount of the stranded assets that could be sitting out there five, 10, 15 years from now."

Francois:

"So, for the electric sector, it's about 10 times global electricity production in 2018 that we think should be stranded. So, it's a massive amount. The difficulty to give things like dollar value... because it would depend on the cost of electricity and the projections about the cost of electricity. But basically, we are talking in terms of billions of dollars here."

"When we think about stranded assets... So, the paper is just about electricity generation. But in general, climate change increases the risk that some assets in all sectors may be stranded simply because some sectors are particularly vulnerable to climate change. And as a result of that climate change vulnerability, their balance sheets may be strongly affected in the future. So, if you think that some, for example, products are dependent on the weather, then naturally... I mean, we may not have the right information as investors to know when we're investing in this type of company. Are we making the right investment, which is in the future? Climate change may happen and it completely affects the profits of a specific company. So, this is a massive problem that goes much beyond the case of electric companies, even though these companies are very much dependent on what policies will be implemented when it comes to climate change mitigation."

Caleb:

"Put on your behavioral economics hat for a second, and imagine that you're one of the CEOs or an executive in one of these big power companies or one of these big oil companies. You know that in the future, you're going to have to transition just because that's the way the world is going. At the same time, you're watching right now, oil prices topped $139 per barrel. They've come way down from that. But if you're thinking about demand destruction and about the things that drive us to make decisions given our behavior as economic animals, what are the questions you're asking yourself if you're in that seat?"

Francois:

"So, I think for these companies, the question is how can there be lesser cost to them? So, they are already committing to net zero emissions by 2050... I mean, though, you have a lot of oil and gas companies that have made these commitments. The question to them is how to ensure that they can sustain profits while they make the transition. So, if I were a CEO of one of these companies, I would have the question of climate change risk and the litigation risks as well. Very, very clear because we see that some countries are taking legal action against companies that don't comply with or are not consistent with the Paris Agreement. So, I would have this in the back of my head."

"So, the question is all about what you do as an investor. Are you investing maybe short term to get like short-term benefits because oil prices are very high and so on? So, you get the return, but it may be at the expense of the longer term. These investments, they may not have the longer term profitability that you would expect from them. So it's all about a matter of calculating these things right. And, probably, there is some confidence that the oil and gas industry in providing these revenues because we've seen them providing these revenues for decades. And therefore, we expect them to perform better than they may perform in the future, especially when they are confronted with structural change."

"So, this is my take on when we see that, in fact, things are going very fast when it comes to renewables. So, we have seen drastic production in renewables. That's, for instance, electric companies. It may make us think maybe we need to start really investing big dollars (in your case, it'll be euros in our case in Europe) in these technologies. I mean, in Europe, what has been happening, for example, is that electricity companies, traditionally monopolies, they haven't done so great in the rise in renewables. And this has implied some costs to them. So, I think these things, they are really tangible and they'll happen now and not in 20 years."

Caleb:

"Well, Europe seems to have a little bit more of a woke sensibility to the importance of climate change. At least the regulations are a little bit more clear and a little bit tighter and certainly on the banking side and on the investing side, ESG regulations, ESG rules and terms, they're a lot more clear than they might be here in the U.S. Do you feel like Europe has the sensibility to make these changes fast enough to help keep up with the goals of the Paris Climate Agreement? Or is Europe just like the United States, trying to make it through this cycle of economic recovery into the next cycle?"

Francois:

"From European operations, it's clear that when it comes to green recovery, there has been more said. And probably there will be more done than in the U.S., even though, well, we never know. I mean, things are changing so fast that we never know what one country will implement or another. But clearly Europe has taken the lead on this."

"It may come as well from the fact that we have a different situation with respect to energy security. So, we depend on Russian gas, and in the case of the U.S., there is shale gas that is being exploited, and the Americans demand less on on Russian gas. So, for sure our geostrategic position and yours are very different. Having said so, there is a general trend in the production of renewables, in the cost of renewables anyway. So, even in the U.S., there is a moment when the rational choice will be to invest in these technologies because they are catching up very fast." 

Caleb:

"Let's talk about the reaction to your paper, which again was published in Nature Communications. Pretty dense paper, but it did wake a lot of people up to the fact that we're continuing to head down the wrong path. Have you received any backlash or any follow from the paper since it came out in Nature Communications?"

Francois:

"It's very soon to say this because the research time is different from the journalistic time. So, for now, the paper has been out for about a month and we haven't received strong backlash. When it comes to stranded assets, it's now generally accepted that this is the problem. And I think companies are taking this very seriously when it comes to making... So, the scenarios about where they can be widely accepted scenarios. So, we're not making any assumption there that people can really heavily criticize, even though scenarios and projections are always open to critics."

"What I think is a question of utmost importance for investors is, considering that there are all these risks, we are in the situation of deep uncertainty when it comes to investing in these fuels because people don't really know how fast these things are going to happen and how fast the assets would be losing out. In contrast, the uncertainty in favor of renewables... it's a positive because the faster the transition, the more profitable these assets will be. So, I think... I'm not so sure that investing in fossil fuels will be the right choice for you. So, naturally... I mean, it's a difficult thing to say in general because investments have to be studied on a case-by-case basis."

Caleb:

"Beyond this, and I know you look at a broader scope of things in your work, both as a professor and as a researcher, what's another thing that folks aren't really paying attention to that they need you that will become a major issue as it relates to climate change and industry going forward in the next five to 10 years? What's nobody talking about that you think people need to pay attention to today?"

Francois:

"The costs of climate change will accumulate, and they are going to accumulate quite fast. We're already seeing them, but for a very long time, because of how the climate system works, a lot of the temperature increases happened at sea, so you couldn't really see this really happening. But now the Earth has reached a point where any increase in greenhouse gas emission is going to translate into increases in temperature. And what I therefore want to say to investor is, 'Take into account climate risk and ask companies to disclose information about climate change risks because these risks exists and they are not already fully disclosed. And you may be making the wrong investments simply because you're unaware of the potential liabilities that may come from climate change." 

Caleb:

"We're starting to see more rules around disclosure, but much more serious in Europe, and hopefully those will come across the pond to these shores as well. Folks, Francois Cohen, the associate professor of economics at the University of Barcelona. Thanks so much for joining the Green Investor and breaking down your recent report."

Francois:

"You're welcome."