What if China decides, "We don't want petrol cars in five years?"
Every global automaker is furiously working on a lineup of electric vehicles. Many of them already have a model in their showrooms. Billions are poured into it every year. Electric cars are cheaper and simpler to build, and have been around longer than cars with internal-combustion engines. Only hiccup? The battery! It takes too long to charge, weighs too much, and costs too much.
But since 2008, costs have plunged 73% to $268 per kilowatt hour. Some expect costs to drop to as low as 100/kWh by 2020, at which point, electric cars would become cost competitive. Whether this happens in 2020 or a few years later only shifts the timeline. But this move away from oil as a transportation fuel, says Fitch Ratings in a report released today, could send global oil majors, such as Exxon Mobil (NYSE:XOM), Chevron (NYSE:CVX), Total (NYSE:TOT), and Royal Dutch Shell (NYSE:RDS.A) (NYSE:RDS.B), into an "investor death spiral."
Transportation accounts for 55% of oil consumption. "Widespread adoption of battery-powered vehicles is a serious threat to the oil industry," the report says. It would cut into the demand for oil as transportation fuel and "could tip the oil market from growth to contraction earlier than anticipated":
A market with structurally falling demand will be a lot more risky for all oil companies, with long periods of low prices and investment uncertainty, as demonstrated by the current slump in oil prices.
The narrative of oil's decline is well rehearsed - and if it starts to play out there is a risk that capital will act long before any transition occurs. This could reduce oil companies' access to equity and debt capital, increasing funding costs during a crucial period.
Jittery investors would sell their holdings of oil company shares and bonds, thus driving down prices and raising yields. This would hit over $3 trillion in global energy bonds, creating turmoil in the markets overall, and making it too expensive for oil companies to raise new funds. But they constantly have to raise new funds for their capital intensive operations. And investors see that too.
"If they stick their heads in the sand and try and pretend it will all go away, we think they will ultimately have issues," the report's lead author, Alex Griffiths, a Fitch managing director, told the Financial Times. "They need to have a plan."
According to the report:
An acceleration of the electrification of transport infrastructure would be resoundingly negative for the oil sector's credit profile.
In an extreme scenario where electric cars gained a 50% market share over 10 years about a quarter of European gasoline demand could disappear.
That would be the doom-and-gloom scenario for oil companies. But not by tomorrow at noon. Fitch says a "compelling" argument can be made that this transition will be a "long, drawn-out process."
There's the need to invest in electricity infrastructure, everything from power plants to charging stations. And vehicles can last two decades. So even if half the new vehicles sold are EVs, the replacement cycle will still take time. Fitch came up with its own estimates:
We calculate that with a 32.5% compound annual growth rate in EV sales, it would be nearly 20 years before EVs comprised a quarter of the global car fleet.
The 1.2 million "plug-ins" on the road are still a rounding error of the total fleet. In terms of sales, plug-ins currently have a market share - despite all the hoopla and hype - of less than 1% globally. But it could happen faster too: In 2015, 500,000 EVs were sold globally. Their share of the market was 22% in Norway and 9.6% in the Netherlands.
And there could be surprises, as Fitch's Griffiths points out to the Financial Times: "One of the most difficult things for oil companies there would be if China decides, 'Actually we don't want petrol cars in five years' time'."
China is by far the largest auto market in the world. All global automakers are massively investing in it. GM and Volkswagen are the market leaders. If China forces a switch to electric vehicles - and it could, with power-generation overcapacity of 20% already in place - it would impact the US and Europe as automakers would strive to globalize the technology.
Fitch has some advice for the oil companies that wish to survive this coming disruption in some form:
We believe it will be important for oil companies to react early, and we will continue to evaluate their strategies for doing so, even though the changes discussed here would occur well beyond our rating horizon.
Many are already taking initial steps such as diversifying into batteries or renewables or focusing more on natural gas, and many are actively participating in the debate around future energy sources.
Oil companies are seeing the writing on the wall. For example, Total stepped up to the plate earlier this year and bought French battery specialist Saft (OTC:SGPEF) for $1.1 billion. And BP (NYSE:BP) has invested heavily in wind power. In the US alone, BP operates 15 wind farms, with a total capacity of 2,279 megawatts. That would be about the capacity of the Diablo Canyon nuclear power plant in California, both reactors combined.
But for automakers, there are now more immediate challenges. Read… It Starts: Shutdowns, Production Cuts, Layoffs at Auto Plants.