How
Shell Is Preparing for the Energy Sector’s ‘New Normal’
The downturn in the
oil industry has been “completely devastating” for
individuals who lost their jobs and for companies without strong balance sheets
that can “weather this storm,” Marvin Odum, outgoing president of Shell Oil
Company, said recently during an interview on the Knowledge@Wharton show on
Sirius XM.
However, for Shell, the decline has provided new opportunities
to realign its global strategy with the changing realities of global energy
markets, Odum added. A 34-year veteran of Shell, Odum noted on the SiriusXM
segment, “If you’re a company like Shell that spends a lifetime thinking about
how you develop … the resiliency to get through these kinds of cycles, which
you know will come, it’s a difficult time, but it’s a time you’re prepared [to]
use to make strategic moves as well.” (Listen to the full SiriusXM interview
with Odum using the player at the top of this page.)
Stung by a 70% slide in crude prices since mid-2014, last month
Shell reported its lowest annual income in more than a decade, and pledged to
make further cost-saving measures. Odum, who steps down at the end of March,
was at the helm during Shell’s failed
$7 billion bid to drill offshore in the Arctic, which the company
abruptly called off last September. Since 2009, he has been on the executive
committee, responsible for Shell’s portfolio interests in the Americas for
shale oil, heavy oil and the Arctic.
In February, Shell acquired British Gas, a few months after BG reached record oil and gas output thanks to new
projects in Australia and Brazil. The acquisition will boost Shell’s oil and gas
production by 20%, according to
Reuters, and bring it closer to challenging the
world’s top international oil company, ExxonMobil. Combined, Shell and BG will
overtake Chevron as the world’s second-biggest publicly traded oil and gas
company measured by market value.
On March 3, in an on-campus discussion
organized by the Penn Wharton
Public Policy Initiative and Penn’s Kleinman Center for Energy
Policy, Odum addressed the strategic challenges facing Shell and
other energy producers at a session moderated by Arthur van
Benthem, Wharton professor of business economics and
public policy. Responding to a question by van Benthem, Odum noted that Shell
as a company recognizes that the world is in an energy transition — away from a
focus on fossil fuels to a mix that places increased emphasis on renewable
energy sources, electricity storage and possibly the use of hydrogen.
“That transition is much
more difficult than most people think it is, not the least because of the scale
of the energy system and the trillions and trillions of dollars that have gone
into developing that system,” Odum said. “The world depends on that
infrastructure, so replacing that infrastructure with something else is
actually quite difficult. There is a real need to understand the complexity of
the energy system overall.”
In a separate interview with Knowledge@Wharton, Van Benthem
pointed out that while the transition to a new mix of energy sources may seem
slow to take hold to outsiders, “it is actually very exciting and disruptive if
you are inside the energy business — because it is not quite as slow as you
would expect. It really means that a lot of traditional thinking has to be
replaced.” Shell’s leadership has to think about how the firm can exist in 50
years if it is going to become mostly a natural gas and electricity company,
rather than one that is predominantly an oil company, Van Benthem said.
A major theme of Odum’s Wharton presentation, Van Benthem
pointed out, was that “although it is going to be very difficult — given the
speed at which investment moves — to see a world predominantly powered by
renewables by 2050 or so, it is completely wrong for oil and gas companies to
say that they don’t have to take renewables very seriously because there are
lots of exciting developments there.”
There are global ambitions to reduce CO2 emissions to 80% below
1990 levels by the year 2050, Van Benthem added. “Renewables will certainly
play a big role — but you also have to rely on things like a shift from coal to
gas and nuclear.”
A ‘Patient’ Approach
A second major theme of Odum’s talk involved patience. In
effect, he said that patience is key to the way Shell does business. When asked
about whether he is troubled by the volatility of oil prices, Odum said that
Shell has no idea what oil prices are going to be on any given day, and rather
than attempt to guess where they are going next, the company’s leadership tries
to identify the best projects possible, in order to ride out multiple booms and
busts and average it out over time.
The decisions about which projects to take on are not clear-cut,
Odum noted. “[These decisions] rely on absolute clarity about what you are
trying to accomplish and asking this question for every [investment] you make:
Does this particular project have the ability to survive better than the other
projects you have to choose from?”
Further complicating the challenge, “these decisions have
everything to do with what the world will look like during [the coming]
decades,” Odum said. “Will there be a price of carbon? If so, what will it be?
What are the environmental factors that have to be considered? Also — all the
geopolitical factors; the country-risk factors. That’s just a small number of
factors that have to be considered.”
Clean Power
Odum also touched on Shell’s strategies for
remaining profitable while nevertheless handling environmental challenges such
as climate change, and related public policy initiatives such as the 2015 Paris Climate
Accord and the Obama administration’s Clean Power Plan.
Many U.S. policy makers, energy executives and academics have
expressed strong skepticism about the goals laid out by the 195 countries at
the conclusion of the Paris Summit. “In my opinion, it was borderline
embarrassing that the world leaders were holding hands like they saved the
earth” after the Paris gathering, Van Benthem said. “It’s a start, but once you
look a little closer into it, it is just a list of 200 good intentions, which
are often very vague and are very easy to renege on afterwards.” Though world
leaders “over-sold” the accord, according to Van Benthem, it could stand the
test of time if major countries follow through with quick and serious action.
Odum saw it differently, however. “I personally think that 200
countries coming together to have consensus to some extent … and making
commitments [is a] significant event in itself … and it builds a certain amount
of momentum that will cause decisions to be made,” he noted.
In the U.S., the Clean Power Plan has the objective of reducing
pollution from the power sector to 32% below 2005 levels by 2030. This was the
plan that was presented at the Paris summit, although the President had to
submit the plan via executive order due to Congressional opposition. Two dozen
states and a coal company have sued Obama over the plan, which they argue goes
beyond the authority granted to the U.S. Environmental Protection Agency by
Congress.
Van Benthem asked Odum if he is a supporter of the Clean Power
Plan. Odum said he prefers setting a price on carbon, and noted that the Clean
Power Plan was the closest analogue to a price on carbon that the Obama
Administration could practically achieve. The EPA regulations are more
complicated than a carbon price because every state has its own target and each
state needs to come up with its own plan in order to reach that target by 2030.
“We prefer that they make the plan very flexible so you don’t literally tell
states [for example] that ‘You need to shut down coal-powered generation,’ but
[rather] that a state can choose any technology to meet its target,” Odum said.
“And if states want to trade — e.g., if it is easy for Massachusetts to meet
its target but not so much for West Virginia — then one could do more and one
could do less.”
The Benefits of High Carbon Prices
Odum said Shell uses the price of $40 per ton for every ton of
CO2 that is emitted. When Van Benthem noted that Shell uses this price to
evaluate its projects, Odum said, “This is a strong signal that we … put our
money where our mouth is, about wanting to have a price of carbon…. This gives
you a sense of resiliency to this sort of change…. It’s not a real price; it’s
just a price we add on and use to rank projects.” Odum added that Shell wants
to set a price of CO2 that is “high enough that it triggers substantial
innovation and incentivizes companies to change their practices.”
According to Odum, “Our position is that the only way you get to
where you want to be is to use market forces to do it, and therefore to have a
price of carbon to help with that shift. We very clearly and openly call for
and advocate a price on carbon. If you live in a compete dream world, you might
say that one price across the world could apply to the whole economy … and that
things would move forward smoothly. [But] that’s absolutely and completely a
dream world.”
Forty dollars is also near to the current U.S. government
estimate of the environmental cost of a ton of carbon, Van Benthem noted. He
added that there are two major reasons why Shell has aligned its strategy with
carbon prices. “First, Shell wants to be a major player in [carbon capture and
storage underground.] That’s not going to fly if there is no CO2 pricing. They
think this is a technology they are very good at. They want to be a leader and
exporter of that technology. That’s part of the deal.”
Second, and more importantly, with its acquisition of BG, Shell
is “moving away from being mostly an oil company with a bit of natural gas, to
becoming mostly a natural gas company which happens to do a little bit of oil,”
Van Benthem said. Carbon pricing, or something like the EPA’s Clear Power Plan,
is “relatively favorable for natural gas producers — and much less so for their
competitors that are more oil- or coal-heavy. It certainly puts [Shell] at a
competitive advantage compared with other players in the energy industry.”
http://knowledge.wharton.upenn.edu/article/how-shell-is-preparing-for-the-energy-sectors-new-normal/?utm_source=kw_newsletter&utm_medium=email&utm_campaign=2016-03-30
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