FirstEnergy Scores One For Free Market Capitalism

Did you hear about last month’s appeal by FirstEnergy Solutions to the United States Department of Energy? It may have been one of the most unusual requests that was ever directed to a Cabinet-level Department of the United States government.

FirstEnergy, a struggling coal and nuclear energy producer of electricity, asked the Energy Department to declare a national emergency and order its customers to pay it above-market prices for its power. In theory, the federal government possesses the authority to do so under the Great Depression era Federal Power Act, derived from an earlier law that was first enacted in 1920.

Why did FirstEnergy need this support? Its coal and nuclear generated electrical power plants have been struggling to compete against less expensive and cleaner energy facilities. So FirstEnergy appealed for direct price intervention by the federal government, asserting that the insolvency of nuclear and coal plants would constitute a national energy emergency.

Department of Energy Secretary Rick Perry declined to grant the request. And how did FirstEnergy respond?

Instead of intensifying its political lobbying activities in hopes of a direct government intervention, the struggling company reached an agreement with the creditors of its nuclear and coal division. Although the firm is not yet on stable footing, it appears to be negotiating a path through its period of financial distress.

So let’s score one for free market capitalism. Although it must have been tempting for the Presidential administration of the United States to respond to the appeal of a struggling coal energy producer, it opted instead for a non-interventionist market based response.

That’s not to say, of course, that all of the parties acted in a perfectly consistent manner. FirstEnergy did issue the original appeal for a highly questionable government declaration of a national emergency. And it did take Secretary Perry more than one week to express skepticism about the request.

Eventually, though, the private corporation and the government entity both embraced a free market strategy. Their decisions represented an unremarkable, conventional conclusion to a remarkable, unconventional appeal.

Brazil’s Libra Oil Field and the Peril of Government Complexity

If you’re a Brazilian citizen with a relatively low income, you may have been anticipating the launch of operations at the Libra oil field. After all, Libra was expected to be the first project to produce revenues for a new governmental “… special fund that is supposed to spend money on areas like education and health.

Regrettably, though, the plan to generate public funds through the government ownership of oil fields hasn’t proceeded as planned. Although Libra will soon start producing crude oil, the government of Brazil has no ability to sell it.

Huh? In a world that is hungry for energy, and at a time of rising oil prices, how can an oil producer have no means to sell its product? The answer to this question lies in the sheer complexity of the government’s contracting process.

You see, in an attempt to prevent the corruption that has plagued Brazil’s state-sponsored energy firm Petrobras, the rights to Libra’s profits reside in a newly created special fund called Pré-Sal Petróleo SA (PPSA).

But not all of Libra’s profits are placed there; only 42% of “profit oil” is controlled by PPSA. So what does “profit oil” mean?

This is where the legal process become very complicated. Instead of paying Petrobras or other private contractors a simple fee to operate the Libra field, the government permits the firms to keep large shares of crude oil revenues to cover their expenses.

Any revenues in excess of these expenses are shared by the firms and the federal government. And 42% of Lbra’s excess funds has been earmarked for PPSA to finance Brazilian social services.

In accordance with these complex terms, the private contractors cover their expenses before the government obtains its own share of profit oil. Thus, when production volume is low, private contractors may break even while the government receives no revenue at all.

But this is not the only example of complexity that is plaguing the Libra field. In addition, the government must grant a “commercial agent” contract to a private firm to sell its profit oil. And because of a lengthy and complicated contract bid-and-review process, it may take years for the agent to be selected, while the production process is likely to begin generating oil in a few months.

The outcome? The government will soon produce a product to generate funds for people in need. And buyers will be available to purchase the product. But the government has established a legal process that will hand much of its revenues to private operators, and that will belatedly introduce a sales and distribution process long after it is first needed.

Brazil is a prime example of what energy industry veterans call the “resource curse” or the “paradox of plenty.” Indeed, there is a reason why nations with immense energy fields are often unable to translate their natural resources into national wealth. Many of these countries are victims of their own tendencies to develop legal systems of immense complexity.

The Lizard That Defeated The Energy Industry

How can a lizard destroy the energy industry? Apparently, by its very existence.

That obviously hasn’t happened yet, considering the energy industry’s current upswing in corporate profits. But a face-off in the Permian Basin of Texas and New Mexico is worrying industry advocates that a tiny reptile might stop the business sector in its tracks.

The reptile is the Dunes Sagebrush Lizard. It lives in the sand that is required by upstream energy producers to engage in fracking operations. Without this natural resource, the firms would be unable to extract oil and gas from the ground for delivery to energy customers.

Prior to the fracking era, the lizard was considered for designation as an Endangered Species. It wasn’t granted that status at the time, but today, commercial operations in its natural habitat are raising new concerns about the viability of the tiny creature.

We’ve heard such concerns before, haven’t we? During the 1970s, for instance, a tiny fish called the snail darter delayed the construction and operation of the Tellico Dam. The project included a $115 million hydroelectric facility on the Little Tennessee River.

And several years ago, Michael Kraten (the author of this blog) developed a composite business case named Save The Blue Frog. It trains college students, industry producers, and their investors to develop methods for assessing the impact of environmental factors on the long-term sustainable value of energy projects.

The case has evolved into an active learning role-playing simulation game. It now provides the foundation and framework for Michael’s Sustainability and MBA Capstone Accounting courses at Providence College. And it is also heavily utilized in the Rhode Island Society of CPA’s Certified Sustainable Value Professional (CSVP) program.

And what of the Dunes Sagebrush Lizard? At the moment, energy producers, environmental groups, and government regulators are all proposing potential solutions to this existential problem. If they can achieve an agreement that balances the needs of our human and lizard societies, they may provide a blueprint for addressing other intractable issues as well.

The Exxon Climate “Victory”

Ten days ago, the President of the United States decided to withdraw from the international Paris Accords. And in typical Trumpian fashion, the news overshadowed all other climate change news that occurred during that time.

But just one day before the President’s announcement, ExxonMobil held its Annual Meeting of Shareholders in Dallas, Texas. Of the thirteen shareholder proposals that were submitted for consideration, the twelfth was a proposition that the firm publish an annual assessment of its ability to meet the Paris Accord’s climate change targets. Exxon management formally recommended that its shareholders vote down the proposal.

But guess what? The shareholders voted to approve it! New York State Comptroller Thomas DiNapoli, who played a key role in the battle, proclaimed that “this is an unprecedented victory for investors in the fight to ensure a smooth transition to a low carbon economy.”

Is it actually a victory, though? Feel free to skim the original proposal on pages 62 and 63 of the Meeting Materials. Then skim Exxon’s formal recommendation on pages 63 and 64. Is it clear to you what DiNapoli and his supporters actually gained from the vote?

In essence, their proposal asked the firm to publicly disclose the impact of the Paris Accords on Exxon’s portfolio of energy assets. It then provided a fair amount of descriptive detail about what they have in mind.

Then Exxon responded that it already publishes equivalent information for public use. In turn, it also provided a fair amount of descriptive detail about the content of its publications, even though it didn’t address the proposal on a point-by-point basis.

So what was the outcome of this legal process? On the one hand, the shareholders of Exxon have approved a proposal to require the firm to disclose meaningful climate change information to the public. But on the other hand, Exxon has asserted that it already does so.

Given the President’s announcement about Paris, it is certainly understandable if environmentalists believe that any victory warrants a celebration. Nevertheless, if this truly represents “an unprecedented victory … in the fight (for) a low carbon economy,” they’re in for a very long fight.

Amtrak and the Keystone Pipeline

It’s easy to oppose the Keystone Pipeline on environmental and social grounds, isn’t it?

After all, last week’s Santa Barbara, California oil spill is killing many birds, animals, and fish, and is despoiling miles of Pacific coast line, because of a single 24 inch pipeline leak. Imagine the level of damage that might be inflicted on us if a massive pipeline that extends from Canada to the Gulf Coast suddenly ruptures!

Nevertheless, though it might seem like a no-brainer to oppose Keystone, last week’s Amtrak train crash in Philadelphia might offer a contrary argument. Many commuters died, and more than two hundred were injured, when the train leaped off the tracks and turned into a twisted wreck.

Why might this commuter train disaster make us think twice about the Keystone debate? It’s not because of what might occur in the future if the pipeline is approved and commences operations. Instead, it’s because of what is already occurring in the present because the project has been delayed for regulatory reasons.

You see, crude oil is still being shipped to the Gulf Coast for refining activities, but without a pipeline to carry the inventory, trains full of the highly flammable product are delivering it instead. In fact, trains across the country now carry crude oil on the same tracks as commuter trains, worrying environmentalists and social activists who complain about the immense damage from rail explosions.

Last week’s Amtrak train crash was particularly worrisome because there is reason to suspect that it may have been caused by projectiles that were thrown or shot by bystanders. If projectiles at a commuter train can kill many people and injure hundreds, how much damage could a similar attack cause on an oil train that is traveling through a residential community on a commuter line?

In other words, the elimination of a pipeline project does not necessarily prevent any possibility of environmental or social damage. Instead, it may simply shift the possibility of such damage to a potentially far more horrible train-based scenario.

Of course, this concern does not necessarily mean that we should feel compelled to support Keystone. But it does indeed mean that, before deciding to oppose Keystone, we should consider the natural consequences of such a policy.

Tesla In Nevada: New World Of Energy

Certain corporate announcements explode across the headlines and shock us all with the realization that we are entering a new world. The emergence of McDonald’s in the old Soviet Union, for instance, embodied the triumph of capitalism over communism. And Steve Jobs’ introduction of the iPad, for example, epitomized the emergence of the mobile internet.

Although it received far less publicity, Tesla’s announcement of the construction of a $5 billion battery “gigafactory” in Nevada (USA) last week may be recognized, eventually, as another such announcement. After all, on several different levels, it exemplifies the emergence of a new world of energy.

How does it do so? Well, Tesla itself is a creature of the age of clean energy. Although electric automobiles were first built in the 1800s, Tesla was formed a decade ago to address environmental concerns like climate change by replacing gasoline powered vehicles with zero carbon emission cars. Elon Musk, its founder and owner, also launched SolarCity with the same goal in mind.

Furthermore, Tesla’s decision to built the gigafactory was necessitated by its plans to introduce its first mass market all-electric automobile, the Model 3. The firm’s senior officers are convinced that environmental concerns will compel middle class buyers to embrace automobiles with zero carbon emissions.

Perhaps most significant, though, is Tesla’s decision to build the factory in Nevada, a state with a very limited manufacturing footprint because of its distance from traditional carbon based energy sources. Nevertheless, the site was chosen because of its ability to generate renewable solar, wind, and geothermal power.

A gigantic factory powered by renewable energy sources, producing massive numbers of batteries for mass market vehicles that emit no carbon pollutants? That is certainly a project that can serve as a harbinger of the emerging new world of energy, one that may be remembered for years to come.

Fracking And The Milkshake Dilemma

Last week, the continuing legal battle between the energy industry and the environmental movement in the United States took a dramatic turn in favor of industry. A court in the state of Colorado ruled that cities and towns could not, under state law, ban fracking within their territorial boundaries.

Fracking (or hydraulic fracturing), of course, is the controversial practice of injecting water and chemical additives into the earth in order to extract energy products. The activity has been blamed for earthquakes, pollution of water tables, and other environmental maladies.

Although last week’s court decision applied solely to the town of Fort Collins, other Colorado municipalities had banned fracking as well. Voters in Lafayette and Longmont, for instance, had approved moratoria on such development activities.

Ironically, though, the court system may have paid the environmental movement a favor by overturning local bans on fracking operations. After all, such bans often fail to address the environmental effects of fracking when applied in a geographically piecemeal manner.

This dilemma was vividly illustrated in the film There Will Be Blood. The actor Daniel Day-Lewis played an oil prospector named Daniel Plainview, an entrepreneur who purchased several plots of land that were scattered across a region. By placing rigs on those individual plots, he accessed a massive oil field beneath the earth.

Eventually, a rival entrepreneur offered to sell Plainview his plot. Plainview replied that he no longer needed more land because he had already drained the entire oil field (including the oil that existed under his rival’s property) from his existing rigs. Plainview colorfully explained:

Drainage! Drainage, Eli, you boy. Drained dry. I’m so sorry. Here, if you have a milkshake, and I have a milkshake, and I have a straw. There it is, that’s a straw, you see? Watch it. Now, my straw reaches acroooooooss the room and starts to drink your milkshake. I… drink… your… milkshake! [sucking sound] I drink it up!

Plainview’s point was a simple one: geological formations and water tables extend across vast distances that lie underneath numerous cities and towns. Although a fracking ban in Fort Collins may hinder the extraction of some energy resources, the residents of the town would nevertheless suffer the effects of any regional environmental damage from fracking operations in neighboring towns.

In other words, if individuals are truly concerned about protecting the natural environment, they can far more effectively address their concerns through regional, statewide, or national legislation. So what can we expect from a municipality-by-municipality approach to banning energy operations? It simply will not suffice.

Petro States Cheer American Shale!

America is poised to become the world’s largest energy producer. By utilizing new technologies for fracking its domestic shale resources, the United States is expected to become self-sufficient in energy within a generation.

Wouldn’t you expect the oil exporting OPEC nations to voice a little concern about the competitive threat that is posed by American shale? Not all! So claimed experts at today’s Energy Insights Forum at the London Business School.

Apparently, the experts believe that North America will now become a magnet for OPEC’s technological expertise and business acumen. On the one hand, perhaps that will prove to be true.

But on the other hand, perhaps this expert prediction represents the most optimistic “spin” that the oil industry can place on a highly ominous economic prospect: the evolution of a significant amount of demand towards an alternative source of supply.