Oil companies are smart. They are dirty, gross, polluting, and awful in many ways, but they are also smart. They are smart businesses. They see what is happening in environmental policy. That is a big reason why gas prices are going up, and it is a big reason why they agree with climate activists. Let me explain.
The Cost of Oil Infrastructure
Oil production involves several steps — exploration, development, production, and refining. Each step requires enormous investments. The average cost of a single offshore oil rig is $650 million. The average capital cost for an on-shore well is $4.9 to $8.3 million each. A new refinery will cost between $5 billion and $15 billion, and take 5–7 years to build. These are real investments of real dollars.
Although several small specialty refineries have been added since 2010, the last major new refinery in the US came online in 1977, with a 200,000 barrel per day capacity. It is unlikely there will be more.
Why They Won’t Invest
Like all businesses, oil companies are not going to invest where they cannot make an appropriate return. Oil infrastructure is very expensive and requires a very long time to pay off. For decades, those investments have been worthwhile to the companies, and they have paid off very handsomely. Enormous wealth was created through oil.
Here’s the good news: Oil is no longer a good long-term investment.
Mike Wirth, CEO of Chevron, said this:
“You’re looking at committing capital 10 years out, that will need decades to offer a return for shareholders, in a policy environment where governments around the world are saying: we don’t want these products,” he said. “We’re receiving mixed signals in these policy discussions.”
Translation: Oil is being phased out and it no longer makes sense to make long-term investments in oil-based infrastructure. It’s too expensive to build new capacity, explore more, and develop more. It is even too expensive to restart COVID-closed facilities.
I hate to say it, but no amount of presidential jaw-boning is going to change this business decision.
Here’s what they see: Approximately 40% of total oil production is used for gasoline. The EU has banned gasoline-driven cars by 2035 and every major car company in the world is trending toward electric vehicles. In other words, in the next 1–2 decades, 40% of the market for big oil products will vanish. In such an environment, investing in added capacity makes no sense, and the oil companies are not going to do it.
Why This is Great News
For generations, oil companies have driven the agenda when it comes to oil, energy, and the environment. Today, they are part of the growing consensus that sees a radically reduced role for gasoline, and therefore oil, in the global economy. Regulators, industry, automakers, miners… everyone sees what is changing and they are making business decisions based on it. It may not be that everyone agrees on climate change, but the business decisions being made based on this new environment support a new, carbon-reduced economy. In other words, despite their preferences, oil company business decisions are becoming aligned with climate change solutions.
This is when the game changes.
The best business decision and the best environmental decision are now the same: “Leave it in the ground.” The economic fallout will be higher prices and inflation, and we could see political consequences as well. But when business and environmental decisions coincide, almost nothing can stop them. It’s a classic case of doing the right thing for the wrong reason, but we can be grateful the companies are doing the right thing anyway.
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This post was previously published on MEDIUM.COM.
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