The Myth That Electric Vehicles Will End The Oil Business
“Conventional wisdom is that EVs will drive the end of the oil age as they eliminate demand for gasoline and diesel fuel. Our analysis of forecasts and our own modeling suggests EVs won’t take over the global vehicle fleet for decades, meaning oil will be needed well into the future. ”
The stock of Tesla Inc., the face of the electric vehicle (EV) industry, has soared this year as its financial performance improved. In fact, the company surprised Wall Street with a profit and outstanding vehicle deliveries in its second quarter results ending June 30, 2020, on July 22. The company surprised analysts by delivering 90,650 vehicles worldwide. This surpassed a set of analyst estimates compiled by Bloomberg projecting the company would only deliver 83,000 vehicles. This delivery performance came despite the Covid-19 pandemic that caused many nations to shut down their economies, including Tesla manufacturing plants. While deliveries were better than forecasted, deliveries were only 4.8% below those of the same quarter last year despite the slump in global auto sales. Vehicle production in the quarter was 82,272, however, the company did not say how many vehicles were made at its new Shanghai plant versus its US factory in California.
Exhibit 1. Tesla’s Profit Performance Remains Marginal SOURCE: Vox
The second quarter profit of $104 million extended the company’s run of profitable quarters to four consecutive quarters, despite revenue declining to $6 billion from $6.35 billion in the comparable quarter of 2019. Once again, Tesla wasn’t profitable based on its sales. It achieved profitability through selling $428 million worth of regulatory credits in the quarter, an increase over the $354 million of credits it sold during 1Q20, which was a record for the company. Despite how Tesla achieved its profitability, the bottom-line profit led shareholders to drive the share price up nearly 9% in premarket trading the morning after the earnings release, after it had risen 3.7% prior to the earnings release. The premarket share price was $1,219.02.
Exhibit. 2 Tesla Share Price Performance YTD SOURCE: Finance.Yahoo.com
Following the earnings report, the shares traded up, further driven by news of a new Tesla Gigafactory to be built in Austin, Texas, as well as tantalizing tidbits about battery technology breakthroughs. What really sent the stock soaring was the early August announcement of Tesla splitting its shares 5-for-1. The nearly doubling in share price since the earnings announcement only continued the incredible share price performance this year. Until the middle of last week, Tesla shares are up 429%, as of the pre-market open on August 31. During the final days of last week, the share price fell roughly 17%.
The company’s amazing stock performance reflects the overall market’s fascination with technology stocks, which now includes Tesla. This is quite surprising for an auto manufacturer, and one who only delivered 367,000 vehicles last year when the entire global industry sold approximately 95 million vehicles. Tesla’s market value stands at approximately $400 billion, more than the cumulative market values of the top five auto manufacturers, who delivered 45 million vehicles in 2019. The key to this extraordinary valuation is the perception of the future for the EV industry, especially as geopolitical trends are driving western economies toward zero-carbon emissions.
Electrifying the economy is the proposed solution for limiting carbon emissions and their impact on the future climate. According to data from the International Energy Agency (IEA), carbon emissions from the transportation sector in 2017 totaled 8,040 million metric tons of CO2, or 24.5% of total emissions that year. Two sectors – air travel and maritime transportation – have few alternatives to hydrocarbon fuels, although cleaner fuel options are available. The maritime industry introduced a global rule this year requiring all ships to use low-sulfur fuel oil, or as an alternative, employ air scrubbers to remove the sulfur from the exhaust from burning conventional bunker oil. The air transport sector is testing biofuel alternatives to jet fuel, but the technological options to replace conventional fuels on a wide scale are almost nonexistent.
Switching cars and trucks off of fossil fuels and onto electricity is perceived as the correct and highly desirable strategy to deal with climate change and protect future societies. Those goals underlie the push for EVs, not just for cars, but for trucks and buses, too. We are told to not worry about the inherent high cost of EVs, as the batteries that power them are expensive. Batteries also impose distance limitations on EVs, something EV manufacturers are working on solving. Most solutions for extending the distance an EV can travel have come from reducing the vehicle weight, slightly improving the battery’s efficiency, but largely by adding larger batteries. A big problem is that the materials needed for batteries are limited at the moment. In addition, they are associated with poor environmental processes in their mining and manufacture, and they often employ child labor in mining operations.
Many studies have shown that the greenhouse emissions released in the manufacture of EVs mean they must be driven for 5-7 years to offset their legacy emissions with carbon-free driving. Only after that driving period does the EV’s carbon-free driving contribute to a reduction in carbon emissions compared to those emitted in driving an internal combustion engine (ICE) car. The lack of an extensive public charging network has been cited by many prospective EV buyers as a reason to not purchase them. For some buyers, their living arrangements also limit charging options. People residing in urban areas and in apartments lack access to personal charging stations, such as those that people in standalone homes are able to install. Thus, while EVs could be very helpful in reducing emissions in cities, charging them becomes a significant impediment.
EVs also are known for being expensive. This has resulted in most of them being sold to particular categories of customers – high-income, environmentally motivated, and first-movers. The high cost of EVs has been somewhat offset by subsidies from both the federal government, as well as certain state and local governments. Even after the tax credits (assuming they can be fully utilized against a buyer’s income tax liabilities), EVs are more expensive than comparable ICE cars. According to a new study about EVs in Europe by the Financial Times, utilizing data from consultant Oliver Wyman, they found that while EVs costs will fall by more than 20% by 2030, to €16,000 ($21,143), they will still remain 9% more expensive than ICE cars. This gap will exist despite the cost of EV batteries dropping nearly in half over the next few years. According to the Financial Times, this projection is bad news for the profit margins of European car companies.
Exhibit 3. EVs Will Still Be Expensive After Cost Cuts SOURCE: Financial Times
Interestingly, the study showed that the cost of ICE cars will increase, but that increase is largely due to customer demand for luxurious interiors and more sustainably-sourced materials. What is driving down the cost of EVs is advances in battery technology and production. Although not noted, it is not impossible for a scenario in which the forces driving up ICE car costs begin to impact EV’s, too.
The study found that the cost of a 50-kilowatt-hour EV battery will fall from the current average of €8,000 ($10,574) to approximately €4,300 ($5,684) by 2030, due to increased scale and the completion of several new battery Gigafactories in Europe and Asia. Potential breakthroughs in battery development, such as the rise of solid-state technology as a replacement for lithium-ion, could bring down costs even further. The timing of such an improvement, or if it can actually occur, is uncertain.
One of the assumptions behind the forecasts for EV growth is that battery technology will lower the cost of EVs versus ICE cars. However, the primary driver of the forecasts is the government mandates seeking to ban ICE vehicles from cities and highways in various countries. Those mandates, along with tax subsidies, will push consumers to buy EVs, the only functional transportation option available. What is often missed in these forecasts is that they are projecting the growth of ‘electrified’ vehicles, which means both battery-only EVs (BEV), as well as plug-in hybrid EVs (PHEV). In some forecasts we have examined, the number of PHEVs is a significant component, and greater than the number of BEVs, which is certainly counter to the popular notion about the future of EVs. PHEVs have gasoline-powered engines, as well as battery-powered motors. This is something not acknowledged by those EV proponents who are predicting the end of the age of oil. Is that out of ignorance or to mislead?
The 2020 forecast by Bloomberg New Energy Finance (NEF) calls for the share of new car sales represented by EVs to climb from 2.7% in 2020 to 10% in 2025, 28% in 2030, and 58% in 2040. That is a significant growth in EV penetration of global auto sales. NEF suggests the number of EVs in the global fleet will rise from 8.5 million vehicles to 116 million in 2030, again a significant achievement. They see the EV fleet growing to just under 500 million vehicles by 2040, suggesting a dramatic acceleration in new EV sales during the decade of the 2030s. Interestingly, the IEA, another major promoter of EVs, sees that fleet at 245 million vehicles in 2030, considerably more than NEF.
NEF sees the global vehicle fleet, which it estimates is currently at 1.2 billion units, remaining essentially flat, with a small uptick in 2022, before resuming its historical growth trajectory in 2023. Based on its estimate for fleet growth, NEF projects a fleet of 1.4 billion vehicles in 2030, growing to 1.6 billion in 2040. The key variable not provided in its forecast is the sales rate. When we look at the history of vehicle sales globally, the past few years have experienced roughly 95 million units sold per year. Since we know these were good years for automobile sales, we have assumed that represents peak capacity, based on operating plant capacity. The industry has been working to reduce surplus manufacturing capacity by closing plants, besides shifting some manufacturing capacity to lower-cost countries. In our modeling of the future EV market, we used 85 million units sold in 2020, but then increasing to 95 million a year and continuing at that rate for the entire forecast period. Some forecasts are projecting sales eventually ramping up to 100 million a year. We know that the manufacturing process for EVs involves fewer parts, thus the time necessary to build them is less than for an ICE, which effectively boosts plant capacity, but we are unable to estimate if or when any manufacturing capacity might be added.
In Exhibit 4, we show the result of our forecast, which ties to the NEF data points in 2030 and 2040. We also have put in the IEA 2030 forecast estimate, which clearly exceeds our forecast, and exceeds the NEF forecast. The NEF estimate of nearly 500 million EVs in the global fleet falls slightly short of our 2040 forecast value of 565 million units. Our forecast reaches 500 million EVs in 2039, as well as our forecast reaching 116 million EVs in 2029, suggesting that our growth rate assumptions are pretty comparable to those assumed by NEF.
Exhibit 4. Various Outlooks for EV Fleet Growth SOURCE: OICA, inside-Ev.com, NEF, IEA, PPHB
The forecast shows an accelerating growth in the EV fleet beginning in 2025. This forecast certainly suggests the oil industry should be worried about its future. The assumption has to be that with the number of EVs increasing as rapidly as forecast, the future for gasoline and diesel demand must be peaking and starting to decline. According to NEF, EVs are already displacing one million barrels per day (mmb/d) of gasoline demand, and by 2040 it will be 17.6 mmb/d. For reference, gasoline consumption for 190 major countries in 2017 was 26.3 mmb/d. However, the future for the oil industry isn’t as bleak as suggested by the rapid growth projected for EVs. When we look at the EV forecast compared to the projected growth of the entire global vehicle fleet, we see a stark reminder that oil will be needed for decades.
Exhibit 5. Composition Of Global Vehicle Fleet SOURCE: OICA, inside-Ev.com, PPHB
As can be seen, EVs, including BEVs and PHEVs, will represent only a small portion of the global vehicle fleet. Even if we model EV’s share of new car sales going from 58% in 2040 to 100% by 2049, the EV fleet still falls about 300 million vehicles short of saturating the projected 1.6 billion vehicle fleet of 2040. Is it possible that EV sales as a percentage of total vehicle sales could nearly double almost overnight? Maybe it could happen if autonomous vehicles are a success and a significant ride-hailing business evolves that causes suburban families to rapidly shed their second and third vehicles, at the same time the urban population abandons car ownership entirely. In effect, the total global vehicle fleet would shrink rather than grow. Is that realistic or possible?
NEF is one of the most aggressive promoters of EVs and clean energy. We think their aggressive position is influenced by perceptions that the United States, Europe and China will embrace EVs in the same way their citizens embraced cell phones. The problem is that people do not purchase vehicles with the same short-term thinking when buying a cell phone. Additionally, the United States, Europe and China have widely different reasons for welcoming the EV movement. Furthermore, although those markets have large populations, they are barely growing, or are even in decline, while rapidly ageing. The fast-growing populations are in Asia and Africa where people cannot afford expensive EVs, let alone have access to charging networks, which will likely be fueled with power produced from coal-fired power plants.
When we modeled the potential growth of EVs, the challenges of securing the supplies of rare earth minerals needed for batteries becomes obvious. There is little doubt that the environmental and social issues associated with producing these materials have yet to be fully assessed, meaning we have no idea what the economic and environmental costs might be, let alone the human cost. Even if our model’s projections are off somewhat, the reality of our forecast shows that oil will be needed for several decades, and possibly much longer. That doesn’t mean that oil’s use will grow as it has in the past. In fact, it may not grow at all. For the industry, the challenge will be to replace the lost production due to the normal reservoir decline rates. That alone will keep the industry busy.
Based on our modeling of the EV market, its growth will need to ramp up much faster and much sooner than projected to meet the carbon-free goals. Despite government anti-fossil fuel mandates, there are many questions about the pace at which the global EV industry can grow. This still ignores the issue of how many EVs will be PHEVs versus BEVs. That too will impact fuel demand. This outlook for the oil industry is quite different from the narrative EV promoters present. Time will tell which outlook proves more accurate.