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Assessing Energy Transition Risk in the Oil and Gas Industry:  The Role of 2℃ Scenario Analysis

Assessing Energy Transition Risk in the Oil and Gas Industry: The Role of 2℃ Scenario Analysis

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Mark Boling, CEO of 2C Energy

This post is by Mark Boling, CEO of 2C Energy, a company dedicated to providing low-carbon energy solutions to the challenge of climate change that will sustain economic growth, enhance energy security around the world and bring modern energy to billions of people worldwide.

It details why energy companies must engage in decision-relevant energy transition planning. This is important for global energy security because the world is going to need energy companies, whether they provide oil, gas, renewable, or nuclear power. Poor planning for the energy transition could lead to the irrelevance and bankruptcy of some of the world’s biggest companies. On the other hand, strong, scenario-based planning could ensure they remain pillars of global business for the long term. It is imperative for America’s energy security that our leading companies remain competitive as the world transitions to cleaner energy. Thanks for reading – Andrew Holland, COO, American Security Project

 

Introduction – Who Needs to Plan for Energy Transition Risk?

The world is transitioning to a low-carbon economy, requiring substantial changes to the global energy system. Today, more than 80% of the world’s primary energy demand is currently met by carbon-based fuels. By 2050, that energy mix will change dramatically, driven by advances in technology, new energy policies, and evolving consumer preferences.

 

This transition will expose oil and gas companies to a new category of risk as their existing business model is challenged. This energy transition risk will threaten companies that don’t change, while providing enormous opportunities for those that meet the transition.

 

Likewise, the capital market participants that finance energy companies will face challenges to accurately identify, assess and manage energy transition risk as part of their asset valuation and investment decisions.

 

Meanwhile, policymakers will struggle balance the economic, environmental and social policies that will ensure the energy transition while balancing competing priorities.

 

These players – energy companies, financiers, and policymakers – all need access to the same invaluable tool:  timely, decision-useful information about energy transition risk.

Paris Agreement Leads the Way

Fortunately, there is a roadmap for how to begin: the Paris Agreement. In 2015, every country in the world came together to support a global agreement that would reduce emissions by “Holding the increase in the global average temperature to well below 2 °C above pre-industrial levels and pursuing efforts to limit the temperature increase to 1.5 °C above pre-industrial levels.”

 

That text – agreed to by every nation in the world – gives the boundaries for the 2℃ analysis that every policymaker, financier, and energy company should do. While the U.S. has announced an intention to pull away from the Paris Agreement, every other nation remain in – and numerous American companies and localities have also announced their intention to remain “in.”

 

For any company to simply ignore the direction provided by the Paris Agreement would be to ignore the consensus of the world’s leaders. Though there are some questions about how fast policy will move to meet these targets, there should be no question about what direction they are going.

 

The Importance of a Scenario-based Transition Risk Report

That means that every company involved in producing energy must create a “Transition Risk Report.” Problematically, the lack of well-defined criteria for preparing Transition Risk Reports can result in a wide disparity in the quality of reporting. Look no farther than the 2℃ scenario analysis reports recently issued by ExxonMobil, Chevron, Royal Dutch Shell, and others, and you’ll see just how differently major companies can choose to interpret what should be the same set of facts.

 

For example, ExxonMobil’s report, said that Exxon will be able to safely develop all its reserves, but the assumptions that led it to that conclusion seem questionable; there are some significant differences from best practices. As Senator Sheldon Whitehouse (D-RI), said in a Senate floor speech on May 22, citing my company 2C Energy: “ExxonMobil, in their best case scenario–this upper scenario–is able to extract and burn only 82 percent of its oil and gas assets. The other 18 percent would be left unused or stranded–stranded assets.”

 

That’s why it is imperative that we create a high-quality, decision-useful Transition Risk Reports using effective scenario analysis. Most 2℃ scenarios are generated by integrated assessment models that are designed to provide insights into how changes to the drivers of GHG emissions can induce a range of impacts on energy systems, land-use systems, and other human and natural systems.

 

The transition to a low-carbon economy will bring significant changes in demand for oil and gas, oil and gas prices and capital investment in oil and gas production capacity and delivery infrastructure.

 

Conclusion: To Stay Relevant, Plan for Future Transitions

Energy has made possible the development and adoption of many innovative technologies, leading to unprecedented economic growth and tremendous advances in society’s standard of living.  Fossil fuel companies have played, and continue to play, a big role in this success story by supplying customers with affordable and reliable sources of energy.  But the world is transitioning to a low-carbon economy, and the market is moving to low-carbon sources of energy. Companies must immediately begin to understand the threats and opportunities that poses to their business – not hide behind possible threats.

 

To read more, see my full paper, “Assessing Energy Transition Risk.