This is the third and final article of a series. The first, named "Natural Gas and Commerical Transportation: The Hatching Egg", focused on Westport (NASDAQ:WPRT) and Clean Energy Fuels Corp (NASDAQ:CLNE) as companies that will be directly benefit from utilization of natural gas and technology as it relates to U.S. commercial truck market. The second article focused on how the United States' federal regulations will affect the whole process of natural gas adoption as a fuel for transportation through (1) subsidies and (2) the government's power to authorize or deny export. This article was called, "U.S. Federal Law, Exports And Subsidies: Natural Gas and the Commerical Trucking Industry". This current article presumes you have read these as I continue to build on this data and information.
If you have ever watched an issue advance through the American court system, you will observe an interesting bureaucratic phenomena. Initially rulings are made in "lower courts". If there are sufficient problems with these rulings and the issue is still contentious, the rulings are appealed to a state court and, if people are still not happy with the results, this process of debate and appeal can eventually lead to United States Supreme Court, who, for better or worse has the final say.
This "bureaucratic phenomena" can be observed in our political system as well (with one very important distinction: with law, there is a final decision, however with bills, they can fail but be raised again and again if there is sufficient political will to do so). Just like lower courts, cities, counties and states are often used to incubate issues that eventually lead to a need for national direction and attention, though of course there are exceptions (like export of natural gas which is considered a matter of national security) that are solely within federal discretion. The time used in this process, for various reasons, often hedges on absurd to those who are used to working in the business world, but, this process of idea incubation and development plays a significant role in the development of policy and decision making on the federal level in United States.
The United States federal government could be accused of waffling on the issue of what to do with our newly discovered natural gas resource. Do they export it? Promote it? Subsidize it? All of the above? What about pollution? (It is a real issue if left completely unchecked.) How does a government control pollution without destroying its economy in a global marketplace when other countries are not controlling it (this is slowly changing, but I stress slowly)? What is done about subsidies when they are a common part of how business is conducted internationally?
Until recently, there simply was not the resources or infrastructure available for a good answer to this conundrum until the natural gas boom happened over the last 2-5 years and the United States found out there is an abundant supply of natural gas in the ground that is accessible. In fact there is such an abundant supply that natural gas (ignoring the issues of demand and infrastructure for now) is suddenly a lot cheaper to use then oil. Suddenly WPRT, and the technology it patented, has suddenly become a lot more valuable. Many big players fundamentally agree with this: look at Buffett's move to power trains with natural gas (incidentally WPRT is involved in this process in Canada and in a round about way, the U.S.). These trains will be utilized to haul many things, including oil. Why haul oil with natural gas? The answer is self evident. These and other long term decisions are based on the sound economics found in the price gap between these two resources. Natural gas is a practical and economic hedge on oil as neither is going away as an energy source anytime soon. One goes up, use the other and visa versa, except, natural gas has the blessings of the EPA at this stage, and this means something.
So what has the federal government done? So far, very little. Attempts to pass federal bills that would subsidize this natural gas industry and infrastructure have come close to passing, but failed in 2011 and 2012. My second article gave some detail on this process: in 2012 it was close.
One might lose hope that the federal government is capable of acting, become disgusted with federal political process or worry that action will take too long while the rest of the global market is capitalizing on the new drilling techniques and making inroads into production and export. Did we miss the window of opportunity to strike while the "iron is hot"? These are all valid points and concerns, however, there are certain big picture truths that weigh heavily on the other side: (1) U.S. gas is easy to access on land (look at Australia - lot of gas, really expensive to get), (2) U.S. is a stable country of law (yes, that pesky business problem of the corruption index - multi-billion dollar deals require stability), (3) U.S. has some infrastructure in place and liquefaction is a reality and (4) people like energy. In every society, in every nation, people always gravitate towards energy if they can. People choose engines instead of rowing, engines instead of walking, engines instead of digging, engines instead of carrying and power over candles. The energy to do this is all based on availability, infrastructure and cost. I believe natural gas has been heating up, not cooling down, and states are part of the reason behind this. Perhaps the timing is just the bureaucratic phenomena. There is no question what is happening on the state level is interesting and worthy of attention for those interested in this market segment.
States and the Big Picture
We use the noun "United States" so much, it is easy to forget what it means. It means that America is composed of 50 states that are united under one federal government. Each state has its own agenda, resources, population and goals. United States is 50 separate states each capable of making their own decisions, limited only by federal power (national security, interstate commerce etc.). Each state is run like a mini-federal government and each state has its own budget, laws, bills, et cetera. History teaches us that each state can act on its own and promote goals that are seen as beneficial to its population. Eventually sufficient state action leads to federal regulation for the "benefit" of the population at large though sometimes the federal government acts spontaneously. One can argue whether a large federal government is what the founding fathers wanted, but at this point such argument is academic (though tea party members will disagree with me, we can agree, at present, the federal government is large) . The real issue is when or will the federal government act in this case. Ok, let's get back to the article.
Let's start with this document: "State's Memoradum of Understanding" regarding state adoption of natural gas vehicles. In 2011, when the federal government failed to act on some proposed legislative subsidies designed to help the commercial trucking industry transition to natural gas, some states decided to take matters into their own hands. Oklahoma spearheaded a state movement to start purchasing "lighter" natural gas vehicles and build out the infrastructure to fuel them for intrastate transport and business. The idea was that certain states, for various reasons (a major reason being they happen to have significant natural gas reserves that represent a cheap locally sourced fuel for consumption and export out of state), really wanted natural gas to be adopted (leaving our national best interest out of the argument). There was a problem though: without demand, transportation companies were hesitant to invest the resources to start making natural gas vehicles and people and companies were hesitant to invest money in fueling stations. There needed to be a grass roots movement and the average citizen was not capable of starting such a movement as it required money, not protest or time.
So as to this Memorandum: why go to all the trouble to draft a letter, circle it around to various states and get it signed when the language is a promise without meaning? One word: intent. The Memorandum was meant to tell big transportation companies that these states fully intend to purchase and utilize natural gas so "make some vehicles".
As a result of this "Memorandum of Understanding", which should probably be more accurately called a "Memorandum of Understanding and Intent", vehicle manufacturers started to believe, with some degree of confidence, that there would be significant state adoption and acquisition of their vehicles over the long term. It also meant vehicle manufacturers could drop their price points and take a greater short term profit/loss on the cost to build and manufacture these vehicles knowing they will be bought and adopted in quantity over the long term.
Through the joint solicitation of a Multi-State Request for Proposal (Joint-RFP) that aggregates annual State fleet vehicle procurements, the States will endeavor to provide a demand base sufficient to support the design, manufacture, and sale of functional and affordable OEM NGVs by automotive manufacturers in the United States. --State's Memorandum of Understanding
So where are we at? This document is pretty old. Well on or about August 4, 2012, this "Memorandum of Understanding" blossomed into a "Request for Proposal". Take the time to look at this link. Although 170 vehicles are ordered, most importantly, dealerships, contracts, and pricing has been established for natural gas vehicles and this data has been given to the National Association of State Procurement Officials (NASPO), an organization whose purpose is to bundle state orders of vehicles for purchasing power. As a result of the efforts spearheaded by Oklahoma, the foundation and groundwork (contracts, purchase discounts for volume, providers, etc) has been laid, but more importantly, it provided motivation for large vehicle companies to produce vehicles, and price them at the kind of prices that will lead to adoption, not experiment. So with vehicles finally being produced and priced high, but not so high fuel savings can't justify adoption, this effort is paying or has paid off, depending on how you look at it. The point: adoption is starting to happen despite no federal action and states played a roll in making it happen.
States and the Macro Picture
There is an enormous amount of data that is being produced in the state legislatures on an ongoing basis. I am not a member of an analysis team and so I must find creative shortcuts to condense this data. I have done this by limiting my efforts to the 16 signatories of the above document and used data produced by Department of Energy. I am not trying to skew data towards a particular viewpoint, rather, I am just limiting the data as this is an article, not a report.
Ok, cross reference these initiatives with this map of the 1284 CNG fueling stations in the United States, and for fun, this map of CLNE's build out of the LNG highway. (It is interesting to note that though California is not a signatory, this map shows it is at the forefront of adoption, mainly because of air quality issues which is a real issue for the EPA whether some like this or not. In addition, ongoing legislation in other States is tackling this issue right now.) Aside from CNG growing in metropolitan areas, you can see that states that are aggressive in their subsidies of natural gas (most with caps on time frames these incentives can be taken advantage of) are achieving CNG/LNG adoption. The hard numbers, ignoring fluctuations, appear to support adoption when there is a plentiful and local source, air quality is an issue or a population is dense enough that a fueling station can serve many. So it looks like there is merit to the Picken's assertion that natural gas revolution has already happened, people just haven't figured it out yet.
Quick side point I must make as there is massive confusion surrounding it: the actual price of natural gas is a small fraction of the actual cost of this fuel at the fueling station. The majority of the price of natural gas comes from fixed costs like transportation, distribution, compression, maintenance and taxes. Oil is the other way around. Oil itself is 60-80% of the price at the pump as the infrastructure is already in place, it has international demand and is easier to transport. In context, if the price of natural gas goes from $2.00 to $4.00 (as it has) and all fixed costs remain the same, the CNG pump price would go from $2.00 to $2.32. Notes from the July 24, 2012 Committee on Energy and Natural Resources, US Senate, pg. 40 of the transcript. Though I take the Energy Information Administration ("EIA") estimates with a grain of salt, they estimate the cost of natural gas to be $7.35 in 2035 and oil to be $145 at the same time. Ignoring the ups and downs of the next couple of years, there is a lot of room in these numbers to save money when you look at it this way, and, U.S. national government must look at things this way, hence why they pay the EIA to produce forecasts.
So action is taking place on the state level to subsidize this alternative fuel into existence, fund the up front cost of local infrastructure and this has gotten U.S. car companies to make bi-fuel or pure natural gas vehicles. States have been acting for the last two years and the results are starting to pay off. As mentioned, bigger companies than CLNE are starting to line up and develop game plans for commercial trucking. So what will happen in the future and what effect has the state's actions had? Again, I must punt, however I do have some thoughts.
Obama is on board (previous article), natural gas has been legislatively "separated" on the federal and state level from its petrochemical "big brother" oil and is now considered an "alternative fuel" for purposes of EPA and other agencies, natural gas has the potential for bipartisan support from "green party" democrats (there are those who only will accept wind/solar "pure" renewable power, and some who are more moderate and concede we must balance commerce and the environment when making decisions), the numbers and statistics pencil well for "long term savings" with natural gas, commercial trucks use a lot of fuel, CLNE's initial build out is almost done, other big companies are planning and getting in position, CMI/Westport's new engines and fueling systems are coming out in limited production this month with full production slated this fall, states are taking action in law, subsidies and fleet purchasing programs that are either funded or waiting to be funded, Secretary of Energy Moniz is on board with the "bridge fuel" argument and lastly, the federal government has been trying for 50 years to get a nationally sustainable, secure energy source that does not fund international states whose interests are considered "counter" to the United States.
So it appears that various state governments are acting and this is slowly driving adoption. Whether this is part of the bureaucratic process that will lead to federal action is the million dollar question.
What will happen can never be predicted, especially with companies that have not achieved profitability, never mind dividends. One can only make educated guesses based on data, logic, information and knowledge that suit the risk level one is wiling to take with various portions of one's portfolio. I hope these articles have given readers enough to assist in their own research and decision making process. I hope you enjoyed reading this series on natural gas as much as I have enjoyed writing it.
Please post interesting, new, or valuable data: no one person knows everything and I write these articles to share and learn. I am particularly interested in federal committee action, political party newsflashes, significant state action, pre-orders of WPRT's new engine or its LNG fuel system and any large movement in the commercial transportation sector. Thanks in advance for sharing.
Disclosure: I am long WPRT, CLNE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.