Climate scientists say that global greenhouse gas emissions need to be approximately five times lower by 2050 than they were in 2005. Given that global GDP is set to grow by a factor of four in the same period this means that emissions would need to be reduced by a factor of 20 for every dollar of global GDP generated.
To achieve this will require a revolution in how energy is generated and used in the global economy – of the same order of magnitude as the industrial revolution in the 19th century. Radically “de-carbonizing” products and processes will then likely become a major theme of industrial value creation for the next decades – the same way as replacing manual labor with machines was during the industrial revolution.
But what should companies do in the short term? Many of the executives we talk to struggle to translate the long-term global outlook into concrete short-term actions for their companies. Some of them feel that there is so much uncertainty, and so many other priorities in the financial crisis, that they end up adopting a “wait-and-see” strategy or take only some minor initiatives, such as emphasizing how green they are in their marketing.
We believe a better ambition and strategy for companies in the relevant sectors is to get a few years ahead of their competitors in understanding what this major transition could mean for their industry. This will allow them aggressively to pursue the markets and trends that are already predictable enough to justify large investments, while placing careful bets on the longer-term and more uncertain ones. Even though working out this strategy is hard work, and could be seen as distracting in the middle of the recession, we believe the time is well spent. A discontinuity on the scale of climate change will create clear winners and losers in many industries.
Understanding the implications of possible regulatory outcomes from the COP15 negotiations in Copenhagen is one thing. But executives also need to address several other important strategy questions for their companies and industries: for example how the cost competitiveness of different assets could change, how asset valuations could be affected, how the expectations of major customers and media might change in the future, what new business models and technologies could emerge, and how the implications could differ between geographic markets.
The companies that we see as being the most proactive on climate change typically act along three dimensions:
First, they take control of their own carbon footprint, and put pressure on their suppliers to reduce their emissions. In doing so, many of these companies have found that there are also significant cost savings to be gained by reducing emissions. Improvements in energy efficiency alone often yield 15-25 per cent savings in energy costs with short payback times.
Second, they carefully explore the knock-on effect of the transition to a low-carbon economy on growth in different parts of their industry, and what new opportunities will appear. In a wide range of emission-related industries, from specialty chemicals to advanced materials and heavy equipment, we have seen that applying a climate change lens to growth has generated counter-intuitive insights, and led managers to re-prioritize customer segments, R&D investments, and structural moves.
Third, they engage with policymakers in creative ways to shape regulation. The shift to a low-carbon economy will to a large extent be driven by regulation, and getting this regulation right is in some cases of such importance to companies that it even dwarfs operational excellence and M&A as value-creation opportunities. Yet, too few management teams in high-emissions industries spend real time and effort on shaping policy outcomes. In fact, in many companies the issue is delegated to communication departments or external lobbyists.
Major discontinuities do not hit industries very often. We believe it is important for companies in energy and land-use related industries to recognize that climate change could well be a major discontinuity for their industries, and make sure that their attention and response to it are in proportion to its importance.
Per-Anders Enkvist is a Principal of McKinsey & Company based in Stockholm.