Are you Gambling on your Valuation?
If you are not considering the impact of the transition of energy into your risk analysis, you may be more exposed then you think.
If you have been near a gas station lately or turned on the news, it is hard to miss the soaring gas prices and its impact on automobile drivers. While some may try to point to politics, the bottom line is the market is global and impacted more by supply and demand than the policies of any one country. But there is an underlying lesson that we in real estate should be paying attention to, that the energy marketplace is changing - and changing quickly.
We have seen examples of this in the past; in 1890, there were 13,000 businesses in the wagon and carriage industry. The primary fuel to get from point a to point b was a horse, and the gas pedal was a whip. A seemingly small event occurred just a few years later; in 1893, Henry Ford successfully tested the gasoline engine and, three years later, began testing self-propelled vehicles. In 1908, just 18 years later, the first Model T rolled out, and between 1913 and 1927, more than 15 Million model T’s were produced.
The recipe here is simple. A concept was developed than the ability to mass-produce it created, which caused the cost to decrease and the market to adopt the new technology. But what about those 13,000 businesses in the wagon and carriage industry? What happened to those companies the day the horse lost its job? By 1920, only 90 companies remained in the wagon and carriage industry.
Why might this be a lesson we should pay attention to in real estate? That energy marketplace shift I opened this article with will impact your real assets, both in terms of valuation and operational expense. We are staring at a classic case of risk management.
Are you considering the potential impact on your real estate assets should the energy market shift from a fossil fuel-based industry to a renewable fuel-based industry? Should you be?
Let’s start with some history. While our media was obseeed with the election of 2020, something in the energy sector was occurring that many might have missed. We have been flirting with renewable energy reaching “grid parity” since 2015.
Grid Parity is that point when the cost of generating energy from renewable fuel sources is on par, or roughly about the same cost as producing it from fossil fuels.
But in 2020, that parity was shattered, and the efficiency of renewable energy sped past fossil fuels. If you look into Power Purchase Agreements (PPAs), in 2021, Solar PV costs reduced by 42% compared to 2019 and reached a cost level of one-fifth less than the cheapest fossil-fuel competitor. Since then, we have seen record-low auction prices for solar PV in Abu Dhabi and Dubai (UAE), Chile, Ethiopia, Mexico, Peru, and Saudi Arabia, confirming that values as low as USD 0.03/kWh are already possible.
It’s clear the engine has been created, but what about the ability to mass-produce it - or, in this case, install it?
As of 2020, more than 230,000 Americans within solar at more than 10,000 companies representing every state in the union. In 2021, the Solar industry generated more than $33 Billion of private investment in the American economy. This has provided an annual growth rate of 33% over the past decade and accounts for 121 gigawatts (GW) of solar capacity installed nationwide, enough to power 23.3. million homes (source).
So a sharp increase in the ability to produce it, evidence of falling prices - 60% over the past decade - and we have a pretty solid case of a marketshift occurring before our very eyes. But what about those real assets in our portfolios, the ones that count on natural gas for heating and cooking? What about those electrical utility providers who rely heavily on natural gas and coal to generate electricity? What do you think will happen to the price of those utilities?
If you are unsure, go get a tank of gas.
Now, let’s put this in terms of valuation. You have a property that is reliant on an energy source that is rapidly rising in cost - which means the cost to operate it is increasing. I, on the other hand, have a renovated property across the street that has onsite generation of energy and has electrified the previously gas-fired appliances so I no longer need fossil fuels. While your costs increase, mine are pretty stable. DO YOU think I won’t use that in my marketing to investors or prospective residents? You have met leasing agents… Over time, your costs keep creeping upward, while mine remain predictable and stable. Who has a better-positioned asset?
You could potentially take the position that you will electrify the gas-powered appliances. Still, you will wait on the local utility to provide a cleaner supply of electricity. This may be viable in California, which already has a relatively clean grid. But how long does it take to build a new electrical generation plant? If it is coal - it averages eight years; nuclear is likely double that. And cost…
To truly mitigate the risks posed by the energy transition, you need to be investigating the viability of onsite energy generation. I would add to that, potentially keeping an eye on Demand Energy Response (DER). Combining stable onsite energy generation with onsite energy storage is likely where we are going unless you are willing to gamble stranding your asset.
Imagine the induction cooktop that is charging its internal battery during the day so it can provide the energy needed to cook at night. That world is closer than you think. But if you gamble that nothing will change, your gambling on the buggy whip factory to survive the Model T. 90 did, but 12,910 did not.
You can help reduce the impact of the built environment by sharing this blog with your peers. Together we can impact the 39% of greenhouse gasses attributed to the built environment. It starts with awareness, and we succeed with teamwork.
Stay well!
Chris Laughman is the ThirtyNine Blog author, a blog dedicated to reducing the impact of the built environment. When not blogging, Chris is helping the real estate industry minimize energy and water impact as the Vice President of Sustainability for Conservice, the Utility Experts. Whether Multifamily, Single Family, Student Housing, Commercial, or Military, we simplify utility billing and expense management by doing it for you. Our insight into your utility consumption provides an opportunity to identify risks. Leveraging innovation and experience, we ignite solutions with real impacts and track performance to ensure the trendline stays laser-focused on the goal. At Conservice, we have developed a true bill-to-boardroom solution to help truly make a difference. We have before us a tremendous opportunity. Standing shoulder to shoulder, we will get this done. Contact me at claughman@conservice.com for more information.
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