Competitive Warfare - The Impact Of Electric Cars On The Oil & Refinery Industry And Their Countermeasures

10th Global Conference on Business & Economics ISBN : 978-0-9830452-1-2Institute of International business

WU Vienna university of Economics and Business

Competitive warfare - The impact of electric cars on the oil & refinery industry and their countermeasures
Sean PHILIPP and Peter HAISS [1]

Paper accepted for presentation at the 10th Global Conference on Business and Economics, Rome, Italy, Oct.15-16, 2010

Sean Philipp / Peter R. Haiss
Graduate Student at WU Vienna University of Economics and Business Administration / Lecturer at the Institute of International Business, WU Vienna University of Economics and Business
Juchgasse 5/2 / Althanstrasse 39-45/2/3
A-1030 Wien, Austria / A-1090 Wien, Austria
Phone ++43 (0)680 2323396 / Phone ++43 (0) 664 812 29 90
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Abstract

Current developments in the automotive industry and in the energy sector, particularly in the field of electric vehicles, are putting both industries under severe pressure. While e-mobility is a strategic opportunity for the automotive industry, for the oil & gas industry it is rather a threat of substitution in the Porter (1980) scheme. Drawing on Transaction Cost Economics (Williamson, 1981) and Strategic Disruption Theory (Averyt & Ramagopal, 1999), we hypothesize that the oil & gas industry will actively tackle the issue. We discuss possible strategic reaction patterns of companies attempting to maintain their market position like diversification and prolongation, and provide a case study on new intruders and national initiatives. We conclude that the oil & gas industry will react in a dual mode by (1) trying to turn the threat into an opportunity (e.g. demand public subsidies for the transition) and by (2) trying to delay the switch to e-cars.

JEL Classification: L91

Keywords: oil and gas industry, automotive industry, electric vehicles, competition, renewable energy

October 15-16, 2010

Rome, Italy

10th Global Conference on Business & Economics ISBN : 978-0-9830452-1-2

Competitive warfare - The impact of electric cars on the oil & refinery industry and their countermeasures

Sean PHILIPP and Peter HAISS

Abstract

1. Introduction and outline

The main focus of this paper is to show how the development of alternatively fuelled cars and in particular the introduction of electric vehicles might affect oil and gas companies in the future, including possible countermeasures. Given the presence of crude-oil based products in our daily life and especially its dominant position in the fuel market, there are two parties with a particular interest in the “black gold” – oil and refinery companies and automotive manufacturers. Nowadays more than ever these two groups see themselves threatened by a very popular trend: “Green” thinking. When the first people who followed the idea of a sustainable and environmentally friendly lifestyle tried to promote their idea 20-30 years ago, not many listened. Today, in 2010, this has changed. Many people nowadays are aware of the impact of their actions and are willing to change their habits. With the introduction of the first hybrid mass-production vehicles approx. 15 years ago and the gradual introduction and development of electric vehicles oil and refinery companies, as well as car manufacturers, see themselves in an endangered position. The formerly very safe haven, oil companies long time saw themselves in, is more and more put under severe pressure.

Environmental issues are very important to people and governments alike and need to be treated with great attention. Thus, the oil and automotive industry was put under ever growing pressure to make their products more ecological and efficient. Not surprisingly, this is also the right time for even better solutions in individual traffic – i.e. the introduction and development of electric vehicles suitable for daily use. This paper will attempt to give an insight in how oil and gas companies as well as automotive manufacturers might react to these new developments.

The first part of the paper gives an overview of the current energy situation and points out the likely impact of various market risks for the oil industry. We discuss risks for oil and gas companies in the future and different approaches of handling these risks. We particularly emphasize the move towards e-cars. The following part summarizes the theoretical background the papers draws on, i.e. Porter’s (1980, 2008) theory of market forces and Williamson´s (1981) theory of transaction cost economics. On the grounds of these theories we discuss different strategic reaction patterns for the oil and gas sector to recover and strengthen their market power. We hypothesize that the oil industry will apply countermeasures to ward off the threat of substitution. In analogy to Arping Diaw (2008), D´Aveni (1999), Creane & Miyagiwa (2009) and Schneider (2008) we thus particularly include concepts of strategic disruption and methods of market entry deterrence in the discussion. The paper also includes a case study on Tesla Motors, Inc., and on public incentives for the introduction of electric vehicles. We conclude that oil companies react in a dual mode to the threat of substitution of gas engines by e-cars by (1) using strategies like diversification and prolongation in trying to turn the threat into an opportunity and by (2) trying to delay the switch to e-cars.

2. Current energy demand

The following will give an overview over the World’s current energy demand, especially focused on liquid fuels and the transportation sector including predictions for the future.

2.1 World energy demand and consumption

According to the International Energy Administration (IEA, 2009), the proportion of gasoline consumption has been on a quite constant level, whereas the proportion of heavy fuel oil has constantly been decreasing over the last two, three decades. This development resulted in an increasing use of middle distillates. However, since the middle 1980’s there has been a constant rise in the global total oil consumption. The following graph shows a fragmentation of the world’s liquid fuel consumption, divided into four categories – residential/commercial, electric power, industrial and transportation. As the graph shows, the predictions for consumption in the first three categories remain at approximately the same level. The clear increase in consumption results from the soaring energy consumption of the transportation sector.

Figure 1: Global liquids consumption 2006-2030

Source: Energy Information Administration, International Energy Outlook, 2009

2.2 Transportation sector energy consumption

Over the next 25 years, world demand for liquids fuels is projected to increase more rapidly in the transportation sector than in any other end-use sector. Over the 2006-2030 period, transportation accounts for nearly 80 percent of the total increase in world liquids consumption. Much of the growth in transportation energy use is projected for the non-OECD

nations. Many rapidly expanding non-OECD economies are expected to see strong growth in energy consumption as transportation systems are modernized and income per capita increases the demand for personal motor vehicle ownership (EIA, 2009).

Figure 2: OECD and Non-OECD Transportation Sector Liquids Consumption

Source: Energy Information Administration, International Energy Outlook, 2009

3. Alternative fuels

As presented in the previous chapter, the world currently depends on fossil fuels and crude oil. The ecological consequences of Man’s hunt for oil and its drawbacks have been of increasing severity. From air pollution caused by the emission of green house gases, predominantly caused by traffic, to major environmental disasters (i.e. the Exxon Valdez oil spill off the coast of Alaska or most recently the explosion of BP’s offshore rig Deepwater Horizon in the Golf of Mexico), these and other reasons have caused a change in mind with many people and governments. Hence, there has been a very notable development in interest for alternative forms of energy and fuels, especially for the transportation sector. Today there are various alternatives to gasoline and diesel. Drawing on the US Department of Energy (2010), the most common alternative fuels and their characteristics are:

Biodiesel: / Renewable fuel, produced from animal fats and vegetable oil
Can be blended with regular diesel and used in light-duty and heavy-duty diesel engines
Ethanol: / Produced from starch-based corps
Can be blended with gasoline
Largest producers of ethanol are the USA and Brazil
Natural gas: / Already available to consumers through the utility infrastructure
Two forms: LNG; Liquefied natural gas and CNG; Compressed natural gas
Significantly less emissions than gasoline and diesel engines
Hydrogen: / Potential to revolutionize energy sector
Can be produced even from water
When produced with renewable energy it holds the promise of pollution free transportation
Not fully developed yet and expensive to roll out
Hybrid: / Basically a 2 engine technique – a conventional combustion engine and in addition an electric engine
Plug-in hybrid vehicles have a battery pack, which is larger than in conventional hybrid vehicles, and are pre-charged e.g. at home
Electric vehicles: / Solely powered by electric power which is stored in battery packs
Produce no tailpipe emissions
Will become significantly important to transportation in the upcoming decades

Table 1: Alternative powertrains and broad market availability

Source: A.T. Kearny, Fuel-thrifty, Clean, Electric, 2009

4. The potential of electric vehicles (EV)

The major share of vehicles travelling our planet is fuelled by either gasoline or diesel fuel. The tendency: Rising. Whereas growth in demand for fuel in OECD countries is rather modest, non-OECD countries will soon demand a far larger portion of global energy than a couple of years ago. Emerging markets like Brazil, Russia, India and China, also referred to as the BRIC-countries, have booming economies and consumers craving for mobility.

Simultaneously, in Europe and also in North-America carmakers are facing regulations that force them to reduce gasoline consumption and increase mileage-per-gallon of new vehicles. Regarding fuel prices and the environmental situation we find our selves in right now, fuel efficiency is probably not too bad a thing. However, fuel efficiency is not the only eye on the dice.

For many years, electric and hybrid vehicles raised smiles, and development costs. That was about it - until the issue of environmentally friendly transportation became important to governments and consequently to car makers (which had to adjust to new environmental regulations). An invention of the early ages of motorization, the electric car, now finds itself in focus of a wide discussion about sustainable transportation.

According to the Boston Consulting Group (2009), the causal correlation between CO2 emissions and global warming is now widely accepted by a solid majority of the scientific community. The significant damage caused by global warming and the intense public awareness of this topic make the challenge of reducing CO2 emissions the major force currently driving development of alternative concepts for automotive propulsion.

Several steps of development have had to be taken before a fully-suitable EV could be introduced to the market. The first step was the “mild hybrid”, in which case a small electric engine supports an internal combustion engine (ICE) and its batteries are recharged by regenerating braking energy. Whereas costs are relatively high the CO2 savings are modest. Next on the range was the “full hybrid”, which offers a larger battery and electric engine compared to its “mild” comrade, thus increasing CO2 savings, yet at an even higher price. Expectations are that costs will decline sharply, once sales volumes go up. An upgrade of the “full hybrid” is the “plug-in hybrid”, a vehicle which is equipped with an even larger battery and that can be charged from the grid. The “range extender” is a feature that offers increased range by integrating an efficient ICE that recharges the battery inside the vehicle. Finally the last step is the electric vehicle. It is charged from the grid and operates on battery only (BCG, 2009). At time, this is the problem exactly. Today’s batteries offer an insufficient range and charging infrastructure on-the-road is deficient. What’s more is that batteries, especially Lithium ion batteries, are very expensive. The electronic vehicle (EV) therefore needs stronger support in development and in terms of providing infrastructure in order to make shifting consumer habits feasible. The potential of EVs is also supported by the following graph published by A.T. Kearney. It shows an estimate of total costs of ownership (TCO) for different vehicle types by A.T. Kearney (2009), however, put electronic vehicles in a competitive range compared to gasoline fuelled vehicles.

Electric vehicles are also seen as a means to reduce dependency on oil imports for political grounds. According to EPRI (2002), plug-in hybrid electronic vehicles (PHEVs) promise to reduce dependence on foreign oil, reduce emissions, and help utilize generation capacity of the country that is idle during off-peak hours. PHEVs offer the potential to reduce both gasoline consumption and associated emissions. PHEVs that could travel up to 60 miles on a battery charge on electric energy stored in their batteries without recharge (PHEV60s) could reduce CO2 emissions by 50% and petroleum consumption by more than 75% (EPRI 2002; Hadley, Tsvetkova, 2008). Kintner-Meyer, Schneider, and Pratt (2007) argue that the U.S. electric power infrastructure is a strategic national asset that is underutilized most of the time. With the proper changes in the operational paradigm, it could generate and deliver the necessary energy to fuel the majority of the U.S. light duty vehicle fleet.

Figure 3: Total Costs of Ownership for different vehicle types

Source: A.T. Kearney, Fuel-thrifty, Clean, Electric, 2009

Even though TCO for electric vehicles (EVs) are the highest, apart from fuel cells, they still are within a very similar cost range compared to others. In addition this graph shows clearly that the main cost burden for EVs is depreciation, which might result from the rather short 4-year period used in this calculation. Regarding the fuel costs EVs are clearly in the top position, a fact which must not be overlooked.