The report “Green Capex: Making Infrastructure Happen” has been published by Goldman Sachs. REGlobal presents an extract from this report that focuses on clean energy.
- Green Capex needs to support Net Zero, Infrastructure and Clean Water are significant – $6 trillion annually this decade, up from $3.2 trillion per year in 2016-20.
- Green Capex spending today does not appear to be sufficient, but we see publicly traded companies able to invest $1+ trillion more per year in Green Capex due to their reinvestment and balance sheet spare capacity (most meaningfully in oil/gas, metals/mining and semiconductors, among relevant sectors).
- Corporate returns should continue to matter over the medium to longer term. Many sectors important for Green Capex have at- or below-average corporate returns, which could put pressure on managements to lower costs or raise product prices to accommodate more Green Capex. Corporate/project returns will likely influence managements’ willingness to invest directly vs. return capital to shareholders who could choose to redeploy into Green opportunities elsewhere.
- The stock market has rewarded companies with Green Capex and can continue to do so, in our view.
- We see equity outperformance from Green Revenue/Capex-exposed companies, corporations that are reinvesting a high/rising percent of cash flow in capex and R&D, and the Greenablers — companies in building blocks sectors (e.g., copper/aluminum, electricity transmission, semiconductors, cybersecurity) where increased reinvestment will be needed more urgently due to project lead times.
- Managements should look to increase Green Capex and/or discuss reasons why Green Capex is not otherwise higher. We see benefits from disclosures to investors of capex/revenue mix for sustainable use cases (part of the EU Green Taxonomy which should have global equity/investor impact). We believe investors will look at four factors when determining the extent to which they should “CARE” about a company’s Green portfolio: Core competency, Available capital, Returns and Execution.
The Need: Green Capex Needs to Meet Sustainable Development Goals (SDGs) are Immense
Green Capex toward Net Zero, Infrastructure and Clean Water, historically about $3.2 trillion per year, needs to increase significantly to achieve Net Zero and other SDGs. Historically, Green Capex for these three focus areas has been about $3.2 trillion annually, which represents about 15% of average global gross capital formation during 2016-19. Within the $3.2 trillion annually, about $1.2 trillion goes toward Net Zero (per the IEA, 2016-20 average), $1.7 trillion goes towards Infrastructure (per McKinsey, adjusted to 2016-20 average) and $0.2 trillion goes towards Clean Water (per the OECD, adjusted to 2016-20 average). Goldman Sachs Research analysis as well as reports from other government and non-governmental organizations highlight the significant increase in investment needed to meet Sustainable Development Goals — around $6 trillion annually to meet Net Zero, Clean Water and Infrastructure objectives based on the above sources. This will be needed from a combination of governments, private companies and public companies. Geographically, China and the US should represent the greatest percentage of overall and incremental Net Zero/infrastructure investment needs (in 2019, China emitted around 28% of global carbon dioxide, while the US emitted about 15% as per Our World in Data). The incremental $2.8 trillion of annual investment needed this decade represents around 2.7% of global GDP, based on our Economic Research team’s forecasts. While we discuss capital requirements of key technologies to support these goals, we note that ultimately innovation and scale among other drivers will make capex more dynamic than static.
Significant ramp in investment needed to meet Net Zero goals. We believe ESG investors and corporates will define Green Capex as a combination of growth and maintenance investment for sustainable use cases. The IEA in May 2021 estimated that Net Zero by 2050 investment requirements (excluding fossil fuels) during the 2020s will be $3 trillion annually (rising to $4 trillion in 2030) vs. $1.2 trillion annually on average in 2016-20. Our colleagues’ recent Carbonomics report estimates incremental infrastructure investment (before considering ongoing maintenance and other end use) of $1.3 trillion annually will be needed in the 2020s (en route to $56 trillion total by 2050) to be aligned with a 1.5 degree temperature reduction scenario. As our Energy and Utilities teams have written, meeting Net Zero objectives will likely require capex of about $11 trillion in the EU by 2050 and $16 trillion in China by 2060 (China is pursuing a Net Zero path by 2060, which would likely result in less spending in the 2020s than what is required for a Net Zero by 2050 pathway). A recent Princeton University report highlighted the need for at least $2.5 trillion of incremental cumulative spending during 2021-2030 for the US to stay on track to meet Net Zero emissions.
We believe further ramp-up in investment will likely be needed to meet 2030 US greenhouse gas emissions reduction target vs. our base case… In April, President Biden unveiled a target for US greenhouse gas emissions to fall 50%-52% by 2030 vs. 2005 levels. Our estimates for carbon dioxide emissions (80% of overall US greenhouse gas emissions), before including the impact from carbon capture and land use change, do not achieve this level of reduction at present. We assume about 5-6 million new electric vehicles in the US fleet annually in 2026-30 (putting EVs as 45% of US new sales and 13% of the US fleet in 2030), about 30 GW of new solar/wind capacity adds annually and 10-11 GW of annual coal plant retirements. A combination of demand efficiency, increased deployment of additional clean generation capacity, increased utilization of existing generation or swifter/greater coal plant retirements are needed to fully accomplish this goal.
… Supporting opportunities for companies focused on Clean Energy expansion, carbon capture/sequestration and Energy efficiency. Importantly, meeting the Net Zero pathway objectives involves not only the expansion of power plant capacity but also of transmission lines, batteries, charging infrastructure, and carbon capture/sequestration. The building blocks to support the shift to clean power generation, energy efficiency, and automation come in part from copper/aluminum, semiconductors, software and cybersecurity among other products. As discussed later in the report, many of these projects have longer lead times, which will require confidence in policy, demand and pricing ahead of aggressive capex increases.
Investment can drive innovation and scale, leading to lower costs over time. As has been seen across multiple sectors from semiconductors to shale to solar — greater investment and innovation can lead to lower costs. The levelized cost of energy for renewable power has decreased by more than 70% since 2008, and the overall cost curve of carbon abatement has also decreased due to innovation and scale. So, we see potential for estimates of costs needed to achieve Net Zero to further evolve. Investment is a catalyst not only to stay on the path to achieving Net Zero but to potentially over time lower the costs via scale/innovation.
Future disruptive innovations that we are watching. The path to Net Zero will require breakthroughs across multiple green technologies, as decarbonizing harder-to-abate emissions (e.g., emissions in industrial processes, long-haul transport) require solutions that are still relatively nascent and expensive to implement. Our Energy team’s Carbonomics analysis, for example, suggests that the costs to decarbonize 50% of the world’s emissions currently stand at nearly US$80 or less per tonne, but decarbonizing beyond 75% of the world’s emissions through advanced technologies (e.g., CCUS) could require between US$150 to more than US$1,000 per tonne based on current solutions. The urgency to foster cost deflation across various decarbonization technologies and to innovate new solutions is why we believe companies exposed to our Green Capex themes — both public and private — will play an increasing role in a low carbon economy in the long-term.
Who Will Fund Green Capex?
We believe much of Green Capex will likely need to come from corporates and/or governments. At present, consensus estimates for publicly traded corporate capex — including in sectors that will more likely see Green Capex needs like Utilities — call for a modest increase in overall capex (not just Green) in 2022/2023. This will likely result in greater calls among investors and other stakeholders for: (a) companies to break out Green Capex to monitor portfolio shifts; and/or (b) greater clarity regarding the impediments toward greater capex. Over time, we see greater investor credit for companies with attractive corporate returns investing incremental Green Capex.
Increasingly we believe investors and broader stakeholders will look more closely at how much Green Capex is being funded and how funding, cost structure and innovation will impact execution towards Net Zero, Clean Water and broader Infrastructure goals. We expect Green Capex will primarily be funded by the private and public sectors, though for some products like residential solar, appliances and electric vehicles, individuals will play an important role.
- Consensus expectations for the >6,800 publicly traded companies in our global GS SUSTAIN database call for a +3%/+2% yoy increase in 2022/23 capex + R&D (not solely Green) off about a $4 trillion base.
- We estimate $0.4 trillion of incremental private equity capital availability annually in the 2020s, based on a 20% CAGR from annualized raises in 2021 for Climate/Infrastructure/Water private equity and venture capital funds.
- We expect $0.4 tn of investment by individuals to support development of residential solar, electric vehicles and energy efficient appliances. As our colleagues recently wrote, power price increases are unlikely to derail the path to Net Zero.
- 31 global banks have announced plans to provide $1.3 trillion of financing per annum for Green or broader SDG-related projects.
We also expect significant government support to advance these goals. The level and mix of public sector Green Capex funding via tax incentives vs. direct investments will vary by jurisdiction. We believe monitoring public company capex (and, for some sectors, revenues) as well as deployed/raised private equity capital dedicated for Climate, Infrastructure or Clean Water goals will be important tools to understanding Green Capex trends.
The Greenablers: Longer Lead Time Investment Needed in Key Sectors on Critical Path
We believe the building blocks needed to execute on Sustainable Development Goals will require investment with long lead times — 2-12 years — to avoid bottlenecks and delays. This could increase urgency among Sustainability investors in pushing companies toward codifying Green Capex plans, particularly companies that make building blocks on the critical path.
The need for long lead time project spending to source Energy generation is a shift from Energy demand growth that has largely been supplied by short-cycle oil and natural gas for much of the last decade. Short-cycle shale was the main driver of meeting Energy demand (oil and natural gas) growth during the past decade. Much of energy demand growth was sourced by short-cycle shale oil and natural gas where investment lead time was 9 months. This comes in sharp contrast to prior periods where long lead time projects — 4-7 years — were the main source of meeting oil and natural gas demand. Long lead time capital spending by the major integrated oils continued through 2014 until realization of shale’s longer-term materiality and capital availability led to a reprioritization of capital to fix balance sheets, increase short-cycle spending and diversify into Clean Energy sources. Importantly, while majors were still focused on long lead time projects in the first half of the 2010s, long-term corporate guidance for Exxon and Chevron were consistently revised down. While there were multiple reasons for this including asset sales, it is a reminder that execution is not a guarantee.
Building blocks to meet SDGs require long lead time investment; lack of clarity on long-term demand raises potential for bottlenecks. While over the past year there has been much focus on Green Capex for “final products” such as residential solar expansion, offshore wind farms, electric vehicles, and — there has only recently begun to be a focus on the “building blocks” needed to ensure execution to achieve key Sustainable Development Goals. These include semiconductor chips, copper, electricity transmission lines among other products. We also believe cybersecurity could play a more important role toward automation and related energy efficiency gains.
The complete report can be accessed here