Manufacturing accounts for 12% of U.S. greenhouse gas pollution, with 75% of those emissions attributed to heat generated for industrial processes or transportation. Consequently, manufacturing companies face mounting pressure to reduce greenhouse gas emissions. A Harvard Business School study found that companies that perform highly on material sustainability factors experience an 8.9% increase in annualized share price.
Regardless of the potential impact of sustainability performance, over 92% of global GDP is covered by some form of net-zero target. Decarbonization as a priority is here to stay.
However, the manufacturing sector’s high operating leverage and trade-sensitive nature make it difficult to decarbonize as quickly as other sectors.
An approach that incorporates impact, timing, feasibility and cost is crucial for manufacturing leaders to manage the energy transition. Maturing low-carbon technologies such as wind and solar are seeing dramatic gains in cost competitiveness. In the past decade, the costs of solar energy and energy storage have fallen 87% and 85%, respectively. As more low-carbon technologies work their way down the cost curve, it makes sense to align the retirement date of fossil energy assets with the maturation of lower-carbon alternatives. This provides manufacturers breathing room to pilot emerging technologies.
Here are four questions that should guide development of effective manufacturing decarbonization strategies:
1. What is the current environmental impact? Manufacturers should start with a complete greenhouse gas inventory that includes Scope Three categories relevant to your business. While fuel combustion for heat generation produces significant emissions, the second-largest contributors are manufacturing processes.
For example, though it does not involve fossil fuel combustion, the cement-making process typically results in the release of carbon dioxide. Both upstream and downstream distribution of products drive manufacturing emissions. A roadmap for decarbonization must identify “hot spots”—the areas producing the most emissions.
2. How can timing help? By reviewing fixed-asset replacement schedules, manufacturers can identify opportunities when near-term asset retirements align with transitions to cleaner technologies. While a natural gas furnace recently placed into service is unlikely to be replaced, a furnace scheduled for replacement next year might be an ideal test case.
Decarbonization is incremental, so being mindful of asset lives can help prioritize steps toward decarbonization. Once asset-replacement schedules have been reviewed, the interim time can be used for piloting emerging low-carbon technologies. Pilots can provide templates for what a best-in-class manufacturing plant might look like down the road.
3. What are the options and their feasibility? Organizations should prioritize understanding the problem at hand rather than falling in love with a specific solution. It’s helpful to start with a list of technologies and options to address the problem. Cross-functional teams can evaluate the feasibility of each option. For example, lower-carbon biomass feedstocks may produce as much heat as natural gas combustion, yet the biomass feedstock available near your facility may not suit your operational needs. By assessing feasibility, organizations can narrow down the list of options.
4. Where are the costs? Building a Total Cost of Ownership model to evaluate competing product alternatives may seem straightforward but incorporating the risks and opportunities that could materially influence financial decisions requires work. For instance, as more countries regulate the social impact of greenhouse-gas pollution, carbon pricing regulations and taxes are becoming more common. Including a proxy price for emissions in the evaluation can account for the potential future impact of these taxes.
There are also other potential future costs associated with maintaining fossil fuel assets. For example, commercial customers flocking to lower-carbon alternatives can drive up the cost of incumbent fossil technology, and can quickly turn existing fossil-fuel infrastructure into a stranded asset.
It’s essential to evaluate the potential benefits of lower-carbon alternatives. State and federal clean-energy tax credits and incentives, as well as grants from agencies such as the U.S. Department of Energy (DOE), can tip a financial calculation in favor of the low-carbon alternative. Consumer products giant Kraft Heinz recently announced a $170 million award from the DOE’s Office of Clean Energy Demonstrations to support the implementation of clean-energy projects at 10 of the company’s U.S. plants.
There are other benefits for manufacturers integrating new energy solutions. For instance, using a power purchase agreement to generate electricity with wind or solar plus storage can reduce reliance on third parties and de-risk energy price volatility. Building a TCO model for incumbent and low-carbon alternatives can ensure sound capital-spending decisions that set the company up for success. Ultimately, decarbonization initiatives that don’t make financial sense are unsustainable and counterproductive to successfully managing the energy transition.
Todd Dubner is the North America Industrial Manufacturing Deal Advisory and Strategy Leader, and Josh Hesterman is a managing director, and both are with KPMG.