Can and will Exxon transform itself? Is a carbon tax politically feasible? If yes, how should a carbon tax be optimally designed? What are the geopolitical implications of a carbon tax on the oil market?
Earlier in the month, my co-conspirator, Bob Eccles, and I posted a “what-if” analysis on Forbes related to what would happen to Exxon’s financials if the U.S. government were to impose a $100 per ton tax on its carbon emissions. The story received a lot of attention: over 15,000 views, 50 plus comments on our LinkedIn pages, and several thoughtful personal emails. We tried the age-old case study method of using a specific company to flesh out an abstract debate on the first, second, and third order effects of carbon tax. We believed that the discussion on this topic was deficient in the 30,000-foot tax and policy debates and investor discussions on energy transition.
What follows is a summary of the key comments and questions raised by readers (anonymized for obvious reasons, acknowledging the thoughtful comments we received). We have organized the feedback under 10 broad categories: (1) Can and (2) will Exxon transform itself? (3) who owns Exxon’s emissions from state owned oil fields? (4) is a carbon tax politically feasible? (5) how should a carbon tax be optimally designed? (6) geopolitical implications of a carbon tax on the oil market; (7) how might a carbon tax effect the consumer; (8) has the ESG finance industry overestimated its influence on oil and gas firms? (9) will renewables become cheap enough? and (10) can we find better policy alternatives? We will undertake detailed analyses of many of these questions in the months to come.
Part 1 covers questions (1)-(6). Part 2, to follow, in the next few weeks covers questions (7)-(10).
1.0 Can Exxon transform itself?
1.1 Unrelated diversification rarely works
“Exxon lost a fortune in the 1980’s when they attempted diversification. They have long memories. The European oil companies are more confident in their abilities to pivot to new businesses versus Chevron and Exxon Mobil. We will see who is right in the long run.”
“For your follow up you might want to consider whether or not Exxon should be in wind-down mode. This is quite a radical thought for a modern organization – even though the original modern corporations – that funded merchant ships on a long spice voyages and shared the risks and rewards – ended after the completion of the voyage.”
“I ask as I find now that investors who welcomed BP’s adoption of a sustainable energy future are now having something of an (excuse the vulgarity) ‘oh shit’ moment. In short, they are wondering whether or not the excellent engineers, geologists and managers at BP are the obvious people to be growth capital investors in decarbonization.”
“When they look at the retained earnings these apprentice growth investors may deploy, they wonder if they have not just created another Softbank – minus any investing expertise…”
1.2 Oil and gas firms are doomed anyway
“I think this is being viewed the wrong way. Carbon tax or not the future for oil companies is already bleak. Every BEV (battery electric vehicle) registered is a permanent loss to the oil market. When companies like Ford, GM, VW have made the commitment to 100% electric, where will oil demand be? BEV’s come in all areas now with electric planes flying commercially, Freight trains running on one or more electric engines, electric ferries everywhere and the trucking industry doing everything but R&D into ICE (inventory of carbon and energy) not to mention that the world’s biggest car business is Tesla.”
1.3 More optimistic, others such as Marathon, Phillips66 are leading the way
“The vehicles to run on these new low/zero carbon fuels will be coming to showrooms in 2023/2024 in much larger numbers than the drips there now. But even if you can’t afford one of these and are driving a 1998 Dodge Minivan still, renewable gasoline can be added directly to petroleum gasoline, and this renewable gasoline will be cheaper than the petroleum version in the 100$ carbon tax credit world you envisage. This is a business opportunity that most others in the global oil industry already see and are investing in. I’m talking Marathon Petroleum, Phillips66, CVR Energy not to mention the big oil companies we all know who are frankly moving slower.”
1.4 BP’s green initiatives were too early
“Green initiatives by BP long back, though, proved too early by the market and investors itself, quite ironically. However, it is good that ESG is serious at least nowadays in board meetings and by the rating orgs.”
1.5 Is creative destruction via Exxon’s demise that bad after all?
“ExxonMobil unfortunately may be a casualty of a change in how the world fuels itself. This has happened many times over history of energy supplying industry. Sometimes these companies died because they didn’t want change, sometimes because they didn’t know how, or they backed the wrong alternative too strongly, or sadly, they saw it, understood it and simply couldn’t execute the changes needed quickly enough. If the US lost ExxonMobil as private, publicly traded company, but replaced it with much faster growing, more innovative companies, has the US economy suffered?”
2.0 Will Exxon transform itself?
2.1 Inertia is too strong a deterrent
“My view on O&G (oil and gas) majors is largely aligned to the rich men getting into heaven and camels going through the eye of a needle. There isn’t really any incentive on Earth that is going to incentivise super majors to realign fast enough (or at all) with the science to limit temperature rises well below 2c by 2050. Aggressive action needs to be taken to reduce emissions by 2030 and with few true incentives from governments to change behaviours and rising oil and gas prices on a liquidity pumped economic recovery, it is unlikely that they will act to reduce output at any time soon.”
2.2 Exxon has to get it right although they are floundering
“Exxon is better off treating this as an existential crisis and re-strategizing/ diversifying into other businesses. Your balance sheets will look bad for the next 3-5 years, but you’ll be better off in the longer run, than cash-starve.”
“I started my career in energy with an internship at Exxon In the mid 1980’s and I know many smart, talented people who work there. I would hate to see it fail…but leadership needs to set the strategy and steer the course: that is why the board pays them tens of millions of dollars per year.
They need to get it right for retirees, for employees. The apparent double dealing about carbon tax and climate change that recently came to light from their lobbyists certainly doesn’t bode well for the current strategy and senior leadership. It would appear to suggest that they don’t really know what their strategy should be. That might be worse than BP whose own energy transition strategy appears risky but they are steadily committing to it, right or wrong.”
3.0 Who owns Exxon’s emissions from state owned fields?
“Much of Exxon’s overseas production will be based on a PSC (production sharing contract) or RSC (risk sharing contract) type of contract. where legally they are operating as a contractor not an owner of the resource. The owner being the NOC (national oil company) through the state. This then begs the question who “owns” the emissions the owner.. the state .. or the contractor .. something for lawyers to ponder .. not a simple geologist like myself.”
4.0 Is a carbon tax politically feasible?
“I think the reason why Exxon has historically been in favor of a carbon tax is that (1) they see little chance of it actually being adopted, so may as well pay it lip-service; and (2) they are doing the same math as you and may feel it actually wouldn’t be that punitive for them versus some other “green” policies. This has actually been confirmed recently by a lobbyist that was speaking with an undercover environmental advocate. Was not a good look for Exxon.”
“Caution: to Governments – if you use taxpayer money to fund those projects, the intent behind this entire exercise would fail.”
“Want a hard truth? Carbon Taxes change nothing. Costs get passed on. Emissions don’t change.”
5. Design of the carbon tax
5.1 Imports should be taxed
“The carbon tax needs to apply to domestic as well as imported products, meaning imports are taxed just as much, further contributing to innovation and entrepreneurship in production/operation, transportation, consumption etc. in a circular way, for emission reduction as well as domestic jobs. It’s a win-win-win.”
5.2 Split the burden between the consumer and Exxon and the importance of scale
“Imposing a carbon tax on Exxon for their CO2 emissions will have to start with US$100/ton on their Scope 1 & 2 emissions. Push the responsibility of paying for Scope 3 emissions jointly between Exxon and users (in proportions of 60:40 or 55:45, respectively). This would make fossil fuels more expensive, and you could expect the demand side to weaken. The profitability of crude processing (GRM or gross margin, if you may) has a correlation to the demand. If the demand weakens, one can expect that, on lower scales of operation, the margin will have to be higher. This will set into motion, a cascade of events, making fossil fuels increasingly less viable.”
6.0 Geo-political implications
6.1 Impact on the global oil market
“Practically speaking, raising the “cost curve” of US production by $40ish per bbl would render nearly all of the >10MMbd of production from the US non-economic. So, while it might not raise oil prices by the full $40, we saw last year what a 10MMbd shock in the supply/demand balance can do (oil prices went negative), so a similar spike in the reverse direction is not just possible but very probable. Applying U.S.-only policies in a global market is dangerous.”
6.2 Oil production will simply migrate abroad
“Exxon and other upstream operators will move their oil & gas activities out of the country, leaving the U.S. more dependent on foreign producers and ridding the country of a tax paying sector that is a major employer in some states”
“There is model that the oil companies shift their headquarters out of OECD and just let their OECD businesses run down (or sell them). Then they can deploy their expertise to serve the 6 billion people outside the OECD.”
6.3 Impact on Russia and the Middle East
“Someone should be thinking about what happens to the oil and gas oligarchies – e.g. Russia, much of the Middle East – when the O+G money starts to flow less freely. It could cause ructions.”
“You will have a world in which US becomes increasingly less “energy independent”. The power that the Middle East and others could wield over US economy based on its control over oil supplies would be a significant by product of a U.S.-only tax. The irony here was demonstrated last month when—despite the democratic administration trying to hurt the fossil fuel industry—basically had to tell the Saudis and UAE to “knock it off” and pump more oil when they had a little spat at their monthly OPEC+ meeting.”
6.4 Classic prisoner’s dilemma
“Without global coordination on the carbon tax you will have some producers who avoid this and buyers arbitrage who their new suppliers are. For any carbon tax to be effective, it needs global buy-in to avoid consumers purchasing from producers who don’t have to pay the carbon tax.”
6.5 Impact on the developing world
“There are many emerging markets in South America (i.e. Guyana, Suriname) and Africa (Uganda and others) as well as various other places that were formerly colonies of various western countries. Those western countries have had over a century to exploit their natural resources and grow their economies into the world leading OECD group it has now become. Arguments that are anti-fossil fuels for these specific countries really amount to anti-development arguments. It starts getting into squishy arguments like the present value of human lives (i.e., is it OK for a higher level of poverty to persist in country X for the next 20 years than might otherwise in exchange for a better climate 100 years from now).
There is a separate argument that the oil generated doesn’t help the people as much as it should, but this is more of a corruption and wealth distribution issue – the actual dollars generated are very material for each country noted.”
To be continued….