Renewable energy may benefit from oil price war

Polaris Wind Power Network News:Wood McKinsey believes that continued low oil prices will destroy the return rate of new oil and gas projects, and clean energy may become stronger as a result.

Wood McKinsey believes that while oil price wars and reduced cash flows of oil companies may slow down oil giants' emissions reductions, the worldRenewable energyThe development will not be affected.

Additionally, at the oil price level of $35 per barrel, renewable energy can compete with oil and gas projects. In an oil price environment of $35 per barrel, renewable energy is an investment opportunity for companies with strong balance sheets that have the ability to think strategically for the long term. Entering clean energy and diversifying your business can ensure the long-term survival of your company.

Wood McKinsey analysis shows that when oil prices fall to $35 per barrel and below, 75% of projects waiting for final investment decisions (pre-FID) around the world will return less than their capital cost (assuming 10%), and renewable energy projects at this time are equally attractive to upstream oil and gas projects.

"The current weighted average internal rate of return for oil and gas projects is 6%, consistent with low-risk solar and wind projects. For giant oil companies, capital allocation is no longer limited to one area, because at the $35 oil price level, renewable energy projects are suddenly as attractive as upstream projects."

In any case, the energy transformation will move forward. Meanwhile, investors, regulators and consumers will continue to put pressure on oil and gas companies to reduce or neutralize carbon emissions. As investors realize the characteristics of oil and gas investment: low returns, high volatility and high carbon emissions, this pressure will only increase.

"We're not saying that oil prices will always stay at $35 per barrel. But this analysis highlights the relative risks upstream compared to renewable energy."

"The increase in upstream capital costs and threshold interest rates reflects the risks of oil and gas projects: future cash flow fluctuations depend on changes in oil prices. In contrast, renewable energy cash flow is more stable, more predictable, easier to obtain bank financing, and relatively low capital costs."

Wood McKinsey believes that global renewable energy growth will not be affected by the oil price war, because renewable energy investment has always had no connection with oil prices, and most of the investment comes from areas outside the oil and gas industry, while investment from the oil and gas sector accounts for less than 2% of global solar and wind power production capacity. "Even if the oil giants completely stop investing in renewable energy, the impact on renewable energy development will be minimal," Wood McKinsey said.

Wood McKinsey analysis showed that during the last oil price decline, wind and solar installed capacity continued to increase.“While oil and gas exporters have slowed their investment in renewable energy due to pressure from the budget downturn, these investments account for a relatively small proportion of the global renewable energy sector,” the report said.

Since 2016, European oil giants have invested about $10 billion in various clean technology sectors, including solar, onshore and offshore wind. Shell and Total have expanded their new energy portfolios across the power value chain, but this investment accounts for only a small part of their investment in the oil and gas business, accounting for less than 5% of total capital expenditure.

The capital allocation strategies of oil giants focus on carefully choosing investments between high-return projects, especially since oil prices fell in 2014. "Capital competition" between different projects has always been a key theme. Although renewable energy has much lower technical and commercial risks, solar and wind assets (5-10% average internal rate of return) have struggled to compete with double-digit expected returns from oil and gas projects at the oil price level of $60 per barrel. Since oil, gas and renewable energy projects are in the same capital structure, renewable energy has difficulty obtaining more capital.

The expected returns for renewable energy projects are usually lower than the capital costs of oil and gas companies, but the recent sharp drop in oil prices may push the industry into a new model where companies will measure their future oil and gas investments based on more conservative oil price expectations.

Wood McKinsey concluded that the argument that “investing in low-return renewable energy projects is tantamount to putting value on hold” is no longer valid in the context of oil prices of $35 per barrel. Even if the oil and gas industry completely stops investment in renewable energy, the growth trend of solar and wind energy will not reverse.