Energy Strategy for the C-Suite
Large companies spend millions, or billions, of dollars directly on energy each year—and millions more indirectly, on supply chain, outsourcing, and logistics costs. Yet outside the most energy-intensive industries, the majority of firms approach energy as merely a cost to be managed. This is a strategic mistake that overlooks enormous opportunities to reduce risk, improve resilience, and create new value.
Today energy is climbing up the corporate agenda, due to sweeping environmental, social, and business trends, including climate change and global carbon regulation, increasing pressures on natural resources, rising expectations about corporate environmental performance, innovations in energy technologies and business models, and plummeting renewable energy prices. These megatrends change the context in which businesses operate and open companies up to new risks and new paths to value creation.
In Michael Porter’s classic view of strategy, firms create advantage either by keeping costs low or through differentiation. The choices a company makes about its energy sourcing and consumption can profoundly influence its cost structure. And how it manages the environmental and climate impacts of its energy use—principally carbon emissions—is an increasingly important differentiator for consumers, investors, and corporate customers.
To understand how firms are approaching energy strategy, we surveyed executives from 145 companies with $1 billion or more in revenue from across sectors and geographies. The research looked at the firms’ performance on 15 measures of energy practice, including developing a formal strategy, deploying cutting-edge technologies, and leveraging advanced financing mechanisms. We sorted the firms into leaders, middle tier, and laggards and gauged how well their “energy maturity” drove business value. Drawing on this research and on our decades of experience in energy consulting and management, we have developed a new framework for using energy strategy to drive business value.
In this article, we lay out the central steps in applying emerging best practices to create competitive advantage.
Before we delve in, let’s look at how one leader, Microsoft, approaches energy strategy. Like most firms, Microsoft had long regarded energy as a ubiquitous commodity: Flip a switch, and the lights—and data centers—come on. But with the rise of cloud computing and with historic volatility in energy prices, energy has become a major and unpredictable operating input and expense for tech giants. Also, companies in the information, communications, and technology (ICT) sector now rank among the world’s largest energy users, raising concerns about carbon emissions. Big NGOs like Greenpeace have launched offensives against “dirty data,” challenging the cloud-computing leaders on their environmental performance. All these pressures, along with new clean-energy opportunities, pushed Microsoft to the forefront of energy strategy.
In 2011, Microsoft’s top environmental and sustainability executive, Rob Bernard, asked the company’s risk-assessment team to evaluate the firm’s exposure. It soon concluded that evolving carbon regulations and fluctuating energy costs and availability were significant sources of risk. In response, Microsoft formed a centralized senior energy team to address this newly elevated strategic issue and develop a comprehensive plan to mitigate risk. The team, comprising 14 experts in electricity markets, renewable energy, battery storage, and local generation (or “distributed energy”), was charged by corporate senior leadership with developing and executing the firm’s energy strategy. “Energy has become a C-suite issue,” Bernard says. “The CFO and president are now actively involved in our energy road map.”
In pursuing its energy goals, Microsoft has increased renewables in its energy mix and improved energy efficiency. It now charges business units a fee for their carbon emissions, reinvesting the funds in its energy programs. It recently announced plans to source 50% of the energy for its data centers from wind, solar, and hydroelectric power by 2018, and 60% by early in the next decade.
For all ICT companies, managing energy well has become table stakes at the very least and is increasingly a competitive differentiator. Companies in other sectors where energy and emissions are critical are following a similar path. Agriculture, for example, produces up to 35% of the world’s carbon emissions. Understanding the strategic implications of this, many food-industry firms have set aggressive targets for reducing energy use and carbon emissions in their value chains. Kellogg’s, for instance, has reduced its absolute energy use by 8% and plans to cut its own and suppliers’ emissions by 65% and 50% respectively by 2050.
“The CFO and the president are now actively involved in our energy road map.”
Although leading firms in many sectors are developing energy strategies, they are proceeding without a playbook. To be sure, some solid frameworks for energy management exist, but they are not integrated with overall strategy, nor do they explicitly address the strategic implications of global megatrends. The five steps we recommend here for building a robust energy strategy are not revolutionary—but systematically applying them to a company’s energy use is.
1. Start with a C-Level Mandate
An energy strategy will be hard to implement without explicit engagement from the CEO and a clear governance structure. Laggard companies in our study identified the lack of this organization as their biggest obstacle to progress.
The CEO mandate typically begins with a commitment—within the company, initially—to make energy strategy central to the firm’s mission and competitiveness. The CEO should signal the importance of this commitment by appointing a senior executive to serve as champion and shepherd. In firms where operations and energy footprint are critical, as is the case for industrial and petrochemical manufacturers, the COO may play this role; in companies where energy sourcing and financing are central issues (in the ICT and retail sectors), the CFO may be the right choice.
This executive assembles a cross-functional team to develop the firm’s energy strategy and guide execution. The team should include executives from operations, facilities, finance, legal, procurement, sustainability, and perhaps other functions. Microsoft’s team, which includes members from environment and sustainability, legal, finance, and data center operations, is accountable to the VP for cloud infrastructure and operations and the VP for technology and civic engagement. The energy team at data service firm EMC (now a division of Dell) reports to the CFO.
2. Integrate Energy into the Company’s Vision and Operations
The team’s first job is to assess the firm’s internal and external energy impacts. Among the questions it should consider are: How much energy does our firm use, and what does it cost? What impact does this spending have on key financial indicators such as cost of goods sold? Are we capitalizing on opportunities to use renewables? What is our carbon footprint and that of our suppliers? How does this align with customer, investor, and employee expectations, and how do we compare with competitors?
Answers to these questions will quickly reveal performance opportunities and gaps. For example, a big box retailer can measure its energy use per square foot of retail space and calculate the cost savings potential from addressing the gap. The company can also assess its annual rate of energy reduction. Large retailers with solid energy programs are achieving sustained annual reductions of 2.5% to 3.5%. On hundreds of millions of dollars of energy spend, those reductions represent significant bottom-line savings. And similar calculations for carbon intensity would highlight exposure to fuel price swings and indicate the company’s success at adopting renewables.
Once the team has a clear understanding of the firm’s energy impacts, it can develop an action plan with several broad areas of focus, beginning with a recommendation to the CEO for specific energy and emissions goals. Aggressive targets should reflect the degree and pace of emissions reductions that scientists have determined are required to mitigate climate change. Nearly 200 of the world’s largest companies have agreed to set such science-based targets, and more than 80 firms have signed on with the global initiative RE100, which commits an organization to move toward 100% renewable energy. A growing number of companies are requiring that their supply chains meet science-based targets as well. Setting public targets not only signals the firm’s commitment to external stakeholders, it also helps align the many different functional groups across the enterprise, drives accountability, and inspires employees.
Once targets are set, the team must create incentives for people throughout the organization to make energy an operational priority. General Motors, for example, which spends more than $1.2 billion on energy annually, has woven energy efficiency into its standard global and plant business plans. The plans, which are tied closely to compensation for plant managers, include not only expected operational metrics such as production volumes but also energy and environmental key performance indicators such as energy used per vehicle produced. If managers fail to hit energy targets, they need to explain why to global leadership. As Mari Kay Scott, GM’s environmental compliance and sustainability director, puts it, “We make [energy efficiency] imperative in the plant…along with safety, quality, cost, [and] responsiveness.”
In addition, the team should advise on how to integrate energy considerations with strategic processes and priorities. For example, energy needs to inform risk assessment, as it did in Microsoft’s case. Facilities and operations managers should consider energy in their resilience and business continuity planning. And the finance team needs to prioritize energy and carbon reduction in the capital allocation process. Johnson & Johnson and GM set capital aside annually for efficiency and carbon reduction projects—$40 million in J&J’s case and $20 million at GM.
Finally, the energy team can help connect two operations that are usually distinct: procuring energy and managing its use. Typically, managers in one part of the organization focus on buying energy at the lowest possible price and developing a budget and a risk strategy; managers elsewhere are working to reduce consumption and improve efficiency. Coordinating those activities can save or make money and reduce risk. For example, the procurement managers might choose energy contracts with higher costs during the grid’s peak demand times in exchange for lower rates during off-peak periods. The managers working the demand side could shift consumption to avoid peak periods and even collect demand-response payments from utilities for curtailing use at peak times. Companies are also experimenting with lowering their peak-use demand by using energy stored earlier. Kendall-Jackson wineries, for example, has used batteries from a Tesla/EnerNOC pilot program to store energy from its solar panels. This lowered the winery’s energy bill nearly 40% in 2016—saving it $2 million—and increased its resilience in the face of potential power outages.
3. Track Energy at All Levels
It’s often a rude awakening to C-suite executives that their firms can’t easily say how much energy they use at either the enterprise level or the level of individual plants or activities. Energy is among the biggest cost areas for companies—along with people, product costs, facilities, and equipment—but it’s the only one that is not monitored and managed carefully. Indeed, it’s often the largest inadequately monitored part of a company’s cost structure. Most companies lack good systems for accessing energy data quickly or in a form that provides actionable information. When networking giant Cisco installed 1,500 energy sensors in one of its Asian manufacturing facilities in 2015, it measured the plant’s total energy use for the first time—and soon found ways to cut it by 30%. Cisco’s VP of supply chain, John Kern, told us, “We always manage costs so closely, but we weren’t really measuring energy—we didn’t know how much we spent!” This is a common gap among manufacturers, but it’s a troubling one, because, as Kern noted, energy is typically a factory’s largest variable cost.
Monitoring and analyzing energy use can reveal operating issues that affect costs, performance, and quality. For example, “energy signature” data may show that a piece of equipment, such as an HVAC system or an injection-molding machine, is running outside its optimal operating range. Blommer Chocolate, a large cocoa-bean processor, uses statistical analysis to predict the energy required for every pound of product roasted. When actual consumption varies from the prediction, managers know something is off. One building products manufacturer monitors energy costs for each product line (some 30,000 SKUs) and has used that data to adjust prices and ensure profitability.
Comparing energy use at similar sites or plants can uncover efficiency opportunities as well. One hospitality and entertainment company uses a quarterly energy scorecard to compare properties. The sites that are lagging can learn from the leaders to improve performance. Similarly, a movie theater chain worked with its air-cooling partner, Ingersoll Rand, to gather energy data and then apply predictive analytics to data on past and current use. In this way, it optimized the HVAC operation in each auditorium according to expected show times and ticket sales. And oil refiner Valero, using fairly inexpensive energy meters and energy intelligence software to capture real-time data, found $120 million in energy savings in the first year.
Developing a detailed understanding of enterprise-wide energy use is also essential. This information can help a firm predict how volatility in energy prices and availability will affect its overall operations, profits, and cash flows.
Zooming out further, companies must look across their entire value chains for risks and opportunities. It’s often the case that the majority of most firms’ energy and emissions impacts are outside their direct control, residing either with suppliers or with customers. The biggest operating risks from price volatility and future regulation may actually lie upstream. Many leading companies require that their tier-one suppliers, at the very least, provide data on their energy use and carbon emissions. But suppliers, like most companies, lack good systems for tracking energy use, and to the extent that they do, it’s often a slow, laborious, and manual process. Some companies, such as Walmart, offer their suppliers tools to help them reduce carbon emissions and energy consumption. The first supply chains to automate and perfect this accounting will have an advantage in cost control and risk reduction.
Companies should also look downstream in their value chain to understand how much energy their customers use. For some sectors, their products’ energy and carbon footprint during use are major points of competitive differentiation. Ingersoll Rand intensively engineers and promotes the energy efficiency of its pumps, compressors, and refrigeration technologies and has added intelligent controls that analyze how the equipment is performing and self-optimize for efficiency. Boeing has partnered with customers to make sure its engines can run well on carbon-neutral biofuels, a technology many global airlines are committing to. And most large technology and car companies have set aggressive energy-efficiency goals for their products. These innovations lower costs and differentiate products, driving sales and customer loyalty.
4. Shift to Renewables and Other Advanced Energy Technologies
The market for clean energy technologies is changing fast, and companies need to understand both the technologies and their financing options. Firms that aren’t aggressively incorporating renewables and other new energy technologies into their overall energy strategies are overlooking important benefits and exposing themselves to an array of risks.
The energy landscape today is characterized by dramatically increased supply and plummeting costs of a range of alternative energy technologies, including wind turbines, photovoltaics, biofuels, fuel cells, advanced batteries, LED lighting, and advanced meters. The newest renewable-energy projects are pricing energy below the cost of any source of power. In 2015, the average price of electricity from new long-term-contract wind power projects in the United States was two cents per kilowatt-hour, down five cents since 2009. New solar projects in sunny areas like the Middle East and Mexico are coming in below three cents per kilowatt-hour.
As with all forms of energy, government incentives make the economics more attractive. But even without help, the cost of clean technology is dropping shockingly fast. The total costs of developing solar and wind energy have fallen 74% and 55% respectively in just five years. The cost of LED light bulbs has dropped a remarkable 94% in less than a decade. The cost of storage technologies—batteries that eliminate the key remaining challenge of renewables, intermittency—is falling quickly as well.
Those lower prices, which stem from both massive global investment and rapid advances in technology, are producing a predictable shift in the market: More than half of the new energy put on the grid globally has come from renewable sources each year since 2012. In 2015, large enterprises directly contracted for 3.4 gigawatts of clean power, representing about 20% of the total renewables market (utilities and homeowners bought the rest). According to research by PwC, 85% of companies that have already bought clean energy expect to buy more in the next 18 months.
While corporations rely on renewables—principally wind and solar—for most of their clean technology, they are experimenting with an array of other alternative technologies. Some firms are capturing waste heat from electricity generation to use for heating and cooling. Others, including GM and spirits company Diageo, are collecting and burning methane from landfills—a source of natural gas considered carbon-neutral. Walmart uses fuel cells to supply power to more than 50 stores and has deployed more than 1,000 hydrogen-powered forklifts at its distribution centers. Home Depot recently increased the number of its stores using fuel cells plus power storage to 200. Airlines the world over are using alternative fuels from many sources—solid waste, plant oils, waste gas from steel mills, and even tobacco. And major fleet companies like USPS, FedEx, and UPS are experimenting with alternative-fuel vehicles, from electrics and hybrids to trucks running on propane, natural gas, or biomethane. UPS’s alternative-fuel vehicles have logged one billion miles delivering packages.
Clean energy technologies may be proliferating and their prices falling, but it’s not always easy for companies to take advantage of them. Doing so requires a sophisticated understanding of the financial and risk implications of various purchasing options. The most widely used renewable-energy financing mechanism is the power purchasing agreement (PPA). The simplest version is a 10- to 20-year commitment to buy clean power at a set price, usually from a wind or solar farm. Finance and operations executives may balk at signing long-term contracts, despite the good prices. And like all hedges, PPAs are a gamble: Energy prices are highly volatile, and even renewable energy contracts signed at a price below current costs are no guarantee.
But smart firms understand the value of PPAs as a hedge against price volatility—and as a source of competitive advantage. Jigar Shah, one of the progenitors of the PPA model, points out the opportunities left on the table. “Renewables and other clean technologies are some of the fastest-growing parts of the economy…and yet CFOs generally have little knowledge of the dominant financing mechanism.”
Renewables, and new-energy technologies broadly, provide an array of benefits beyond price hedging. First, they can help firms position themselves advantageously in advance of future regulations. Forty percent of the world’s emissions are already under some form of carbon pricing, and with the Paris climate accords going into effect in late 2016, the odds of more global carbon regulation—regardless of the United States’ participation—are high. Governments around the world are also setting aggressive energy-efficiency standards.
All policies that price carbon in some way make fossil fuels more expensive than clean energy (through a trading scheme that limits total carbon-based energy or through a direct tax). These policies affect some firms less than others. Companies including Apple and IKEA now have procurement contracts for enough renewable energy to cover more than two-thirds of their operational energy demand—substantially insulating themselves from the threat of carbon regulations.
Another benefit of clean technologies is the ability to reduce business continuity risk. Companies such as Walmart, Morgan Stanley, and Kendall-Jackson use on-site distributed power (fuel cells or a combination of solar panels and storage technologies) to maintain operations when the grid goes down.
Most firms can’t easily say how much energy they use.
Finally, clean energy commitments provide brand benefits and opportunities for competitive differentiation. Social pressure to reduce emissions is rising, and clean brands and offerings can effectively engage stakeholders of all kinds, as we’ll discuss next.
5. Engage Key Stakeholders
Companies may excel at the operational aspects of energy strategy: increasing efficiency, diversifying energy sources, reducing emissions, and so on. But these efforts go only so far in the absence of a coherent strategy for communicating with stakeholders. Companies need to engage with governments to influence energy and environmental regulations that affect their businesses, and they must connect with customers, communities, investors, and employees about their energy strategies, tailoring communications to the interests of each.
Clean energy markets are evolving rapidly. Companies no longer need to buy power from a local, regulated utility and increasingly can negotiate with energy providers, even pitting them against one another to bid for business. Dynamic pricing, new financing mechanisms such as PPAs, and incentives such as tax credits for increasing efficiency and investing in renewables all can directly help firms manage costs. Companies can also use smart grid, battery storage, and on-site power-generation technologies to optimize how much electricity to buy from the grid and when. But their ability to reap benefits from these advances is enhanced and accelerated by government policy, including regulation promoting renewable energy and energy efficiency. Thus companies have a real stake, whether they like it or not, in helping to create a dynamic and forward-looking regulatory system.
Much of the action happens at the local and regional levels. For more than a century, natural monopolies have provided energy, particularly in the United States. Utilities, public utility commissions, and the grid itself will continue to be central to every firm’s operations, even with the rise of distributed generation. So to capture the value from using clean tech, companies need to advocate for policies that encourage the transformation of the energy system to include distributed generation. For example, a group of big companies with significant operations in Ohio—including Campbell Soup, Owens Corning, Jones Lang LaSalle, Nestlé, and Whirlpool—recently called on the state legislature to reinstate energy-efficiency and renewable-energy standards. Companies also need to engage with governments on building a smarter grid and better transmission to enable big renewable-energy projects and on developing physical infrastructure that supports cleaner and energy-efficient logistics.
The scale of the challenge is substantial. Some utilities and states continue to fight to maintain the status quo and have resisted providing the types of energy and services that market-leading companies are demanding. Companies must wield their influence to promote regulations favorable to their energy strategies and to ensure access to new technologies and financing—and be willing to take their business elsewhere if necessary.
Last year the Las Vegas gaming giant MGM Resorts International paid an $86 million penalty to break its contract with the local utility Nevada Power so that it could buy greener energy on the wholesale market. In a letter to the state public utilities commission, the firm explained: “It is our objective to reduce MGM’s environmental impact by decreasing the use of energy and aggressively pursuing renewable energy sources. Our imperative is heightened by increasing customer demand for environmentally sustainable destinations.” Facebook has worked closely with utilities to achieve its energy goals while being public about the fact that access to renewable energy is important when deciding where to locate a new data center. Companies should use both carrots and sticks to influence local and state regulations and policies.
Connecting with customers, communities, investors, and partners.
MGM’s move to leave its utility clearly signaled its commitment to customer and community environmental concerns. All companies should aggressively communicate their energy and climate strategies to these groups. Demonstrating good environmental stewardship not only protects a company’s social license to operate but also drives sales to customers trying to manage their own climate impacts. Consider Iron Mountain, a $3.4 billion document and data storage company, which has used clean energy to create an innovative offer: Its data-center customers have the option of purchasing low- or no-carbon hosting services (powered by wind energy) at an attractive long-term price, enabling customers to capture both price stability and climate benefits.
External communications should also be tailored to investors and business partners. Historically, the analyst community has not cared a lot about companies’ environmental and social actions, but that has begun to change. In an apparel-sector analyst report, for example, Morgan Stanley raised its stock price targets for Nike, Hanesbrands, and VF because they outperformed peers with a “better and more effective sustainability strategy,” including their management of energy issues. Communication with partners and investors is particularly important when energy and carbon are material issues related to the costs, risks, resilience, and performance of a company or its customers. Alcoa, for example, proactively talks to investors about how its products help make customers’ products—cars, planes, and buildings—more energy-efficient. On a recent quarterly investor call, Walmart’s CEO made the pitch that the company’s sustainability efforts, including commitments to clean energy, were key drivers of brand trust and thus of business value.
Involving employees in energy strategy has tangible and intangible benefits. First, it will be hard to fully execute the strategy without their engagement in efficiency initiatives. GE’s famous “treasure hunts” invite employees to participate in structured examinations of facilities to ferret out energy and other resource waste and recommend efficiency improvements. The company has conducted more than 300 hunts across its businesses, saving $150 million. Over the past 10 years, GE has brought the treasure hunt process to more than 6,000 customers and partner firms. Companies can boost employee engagement with energy strategy by rewarding participation in efficiency activities like treasure hunts, sharing energy and ROI data internally to foster friendly competition, and providing energy education and training.
Second, communicating with employees about the firm’s energy strategy enhances commitment. This is hard to measure, obviously, but it’s well understood that organizational values are important to workers, particularly Millennials, who will make up half the global workforce by 2020. A 2015 Morgan Stanley study found that Millennials are up to three times as likely to want to work for (and buy from) companies that share their values and manage environmental and social issues well. Understanding this, Microsoft president Brad Smith is vocal about the firm’s energy strategy. Among the ways he communicates is through a company blog. For instance, he recently laid out Microsoft’s renewable energy strategy for its data centers, describing aggressive goals “that we can use to hold ourselves accountable.” That’s the sort of language employees want to hear from their leaders.
What’s Stopping You?
If there’s so much value to unlock and protect with an energy strategy, why haven’t more companies developed one? In our research, we’ve uncovered hurdles both real and imagined. For most firms, the lack of good data has made it challenging to benchmark and manage energy strategically across the enterprise. And without centralized ownership of energy strategy, it’s difficult to capitalize on opportunities.
But the tools to measure and manage energy and carbon are now available, data is easier to capture, and, as we’ve shown here, robust models of governance and management practices have emerged that allow companies to understand and address their gaps.
The biggest hurdle remains the perception that energy is either just a cost to be managed or that managing it strategically is prohibitively expensive. We hope that this article has disabused anyone of the first notion. Regarding the second: Executives from smaller firms often claim that buying into the clean energy economy is possible only for big, rich companies: “Of course Apple or Microsoft or Walmart can do it,” they tell us, “but we don’t have that kind of cash.” But having capital lying around isn’t the main reason those firms have been able to pursue energy efficiency and investments in renewables, both of which have actually saved them money; rather, those firms are succeeding because they have big goals, top-level commitment, empowered teams, and clear energy-strategy governance, and they make clean energy a central part of their corporate story.
Energy initiatives, like those in any part of the business, require some investment—if not in cash, then in time and organizational focus. But in our experience, all the recommendations we’ve set out here are within the reach of most firms, and the substantial benefits they deliver to the business can come rapidly.
The drivers of competitive advantage are always evolving. Not long ago, “quality” was a fringe idea, and IT was just a cost center. Now quality is table stakes, and fluency with big data is mission-critical. Energy is on a similar trajectory. What was once hidden deep in procurement is rising to take its place among the key levers of business success.