“The lesson for public policy here is the importance of structuring incentives and managing expectations to shape business models and channel corporate resources in a positive rather than counterproductive way. In the face of global policy uncertainty, a key task is to maintain momentum by creating a predictable business and regulatory environment.”
By David L. Levy
Originally published in Transparency International’s Global Corruption Report 2010: Climate Change, and reprinted by permission. This report explores risks related to tackling climate change, from international policy-making to national level mitigation and adaptation strategies, with a special focus on the forestry sector.
A global transition to a low-carbon economy requires the large scale mobilisation of financial, technological and organisational resources, many of which are concentrated in the hands of large multinational corporations. Of the US$500 billion in annual global investment needed over coming decades to keep warming within a 20 C limit, more than 80% will have to come from private sources.
Climate change presents a profound strategic challenge to business, however. Measures to control the emissions of greenhouse gases (GHGs) most directly threaten sectors that produce and depend on fossil fuels, such as oil, power and transportation. Managers in energy-intensive industries, including cement, chemicals, paper and metals, have also been concerned with the regulatory risk of higher costs for fuels and lower demand for energy-intensive products.
After years of hostility to any carbon regulation, government incentives, competitive pressures and non-governmental organisation (NGO) campaigns have led many firms in the last decade to craft business models that exploit potential market opportunities in low-carbon products and services. This shift in corporate political and market strategy has created a virtuous cycle, in which strengthened business coalitions have grown supportive of more stringent climate policy and widened the political space for action.
This cycle is fragile, however, and the momentum of this corporate conversion is already in danger of stalling. Climate change creates considerable competitive risk, as changes in prices, technologies and demand patterns disrupt traditional business models. Investing in new technologies can be a treacherous business. Automobile manufacturers, for example, find that they are dependent on existing infrastructure, creating barriers for electric vehicles, which require a network of charging stations. Multiple clean energy technologies are in competition, such as solar thermal versus photovoltaics, and ‘thin film’ versus ‘crystalline silicon’ solar cells, making it hard to pick winners.
Moreover, companies successful in one area of business cannot easily transition to new products and markets. Corporate managers know that the key lesson of business strategy is to stick to your ‘core competences’. Exxon lost money when it tried to diversify in the 1970s energy crisis, and now understands that its expertise lies in geology, hydrocarbon chemistry, extraction and distribution. Rather than embrace radical change, it has enhanced its capacity in related low-carbon technologies. In 2009 Exxon announced a US$600 million algae biofuels project with a biotech company, and a US$41 billion acquisition of a major player in the shale gas sector. These investments represent a better strategic fit than solar or wind, though they entail cross-industry partnerships to acquire external capabilities.
Similarly, oil and gas companies have befriended the coal industry as proponents of carbon capture and sequestration (CCS) technology, as the expertise to extract fluid fuels is closely related to that required to re-inject CO2 underground. Although many of these emerging technologies will have to be proved to be environmentally safe and financially feasible, the model for cross-industry collaboration is strong, allowing companies to share risks, gain capabilities and shoulder the fixed costs of research and development.
Climate change presents a host of strategic uncertainties regarding the unfolding science, regulation, technological developments and competitor reactions. Thus, when British oil company BP committed itself to investing in solar and wind energy in 2000, it was competing in the same global oil market as Exxon, but perceived the risks very differently. BP plotted a strategy for a world in which mandatory emission controls appeared inevitable, carbon would carry a price tag, and consumers would demand low-emission products. A decade later, though, with growing regulatory uncertainty and its solar business far from profitable, BP has pulled back from its renewable energy investments, instead increasing its investments in Canadian oil sands.
National and regional authorities have a vital role to play by implementing policies that provide incentives for positive corporate action. Bolstered by tax policies in Denmark and Israel, the company Better Place is developing a national replaceable battery infrastructure for pure electric vehicles that allows consumers to pay according to driving distance. The Vélib bike rental system in Paris and the US-based Zipcar car rental firm similarly engage business and government in partnerships that transform markets and overcome systemic obstacles in infrastructure, scale and incentives.
These initiatives move towards a service- rather than product-based business model. Moreover, they trigger competitive dynamics with far-reaching effects. Better Place has signed a deal with Renault–Nissan to supply the electric cars, and other car companies, fearful of falling behind, are accelerating their own plans for plug-in hybrids and pure electric vehicles.
Major companies in the US power sector have adopted a more proactive position on climate change in recent years. Duke Energy, Exelon and PG&E have joined initiatives led by the US Climate Action Partnership and the Pew Center on Global Climate Change that aim at emissions reductions by deploying renewables, boosting generation efficiency and implementing demand-side management (DSM) policies. These companies might anticipate a future national cap-and-trade regime and carbon price, but they face more immediate and local pressures, notably escalating renewable or alternative energy portfolio standards in more than 30 US states.
US states are also attempting to restructure power markets to provide incentives for energy efficiency. Most frequently, this takes the form of small ‘benefit charges’ being added to bills, which are used to subsidise consumer efficiency upgrades. Several states are also examining California’s experience with rate decoupling, which rewards utilities with higher power prices for implementing energy efficiency and DSM measures.
The lesson for public policy here is the importance of structuring incentives and managing expectations to shape business models and channel corporate resources in a positive rather than counterproductive way. In the face of global policy uncertainty, a key task is to maintain momentum by creating a predictable business and regulatory environment.
Business realises the dangers of the proliferation of multiple regulations, standards and carbon trading schemes, and large firms are joining groups that press for clear, predictable and coherent climate policy. In 2007 more than 60 of the world’s largest companies, including BP, Siemens, GE and Unilever, launched Combat Climate Change (3C), with the goal of developing ‘a worldwide policy framework to replace the Kyoto Protocol from 2013 and onwards’. In the absence of an international treaty, the onus falls on the private sector, along with local and national governments, to seek novel business models that stimulate the transition to a low-carbon future.
 International Energy Agency (IEA), World Energy Outlook 2009: Executive Summary (Paris: IEA, 2009), p. 14.
 Wall Street Journal (US) ‘Exxon chief makes a cold calculation on global warming’, 15 June 2005.
 MarketWatch.com, ‘Exxon Mobil lays $600 million on the line for algae fuels’, 14 July 2009; CNNMoney.com, ‘Exxon to buy XTO in $41 billion deal’, 14 December 2009.
 See, for example, www.globalccsinstitute.com.
 BusinessGreen.com (UK), ‘BP shrugs off anti-tar sands shareholder resolution’, 16 April 2010.
 See Betterplace.com.
 NPR.org (US), ‘Paris’ popular bike program may inspire others’, 15 September, 2009; Government-fleet.com (US), ‘City of Baltimore launches car sharing program’, 1 July 2010.
 See www.us-cap.org/about-us/about-our-members and www.pewclimate.org/companies_leading_the_way_belc/company_profiles.
 Pew Center on Global Climate Change, ‘Climate Change 101: State Action’ (Arlington, VA: Pew Center on Global Climate Change, 2009).