Why oil and chemicals companies should abandon green hydrogen

I’ve worked at Lux for almost 11 years; during that time, one technology has proven to have extraordinary staying power, continuously being a source of questions for myself and for my colleagues. But it has also proven to be extraordinarily difficult: During that whole 11-year period, we’ve seen a huge amount of effort, billions in investment, and very, very little to show for it. I’m talking, of course, about hydrogen, especially green hydrogen. It’s been a tough year or so for the hydrogen sector: Initial costs for green hydrogen have come in much higher than expected at EUR 8/kg to EUR 14/kg; not only is electricity expensive (this was well known), but the capital costs were also quite high, as much as three times higher than some claims from major manufacturers. Then, the election of Donald Trump in America put all the major U.S. hydrogen efforts on life support (if not outright killed them). Bloomberg has written a story about the end of the oil and gas industry’s supposed green pivot, as investors demand better returns. It’s been tricky to find any hope for the future of hydrogen, but maybe some can come in the form of new technology. Last month, my colleague Cansu Doganay put out an excellent map of next-generation hydrogen technologies, which you can see below. It’s all very exciting, but I think chemicals and oil and gas companies should just steer clear of this new generation of green hydrogen approaches — not because they can’t make it work technologically but because they can’t make it work institutionally.??

These technologies are very diverse, but what they have in common is a focus on reducing the electricity consumption, and thus the cost, of green hydrogen. They also tend to be in the mold of existing green hydrogen approaches, that is to say, leveraging advanced electrochemical or even photocatalytic techniques to produce hydrogen more cheaply (excepting some of the thermochemical approaches). Like solar, hydrogen electrolysis is a distributed technology — its economics don’t improve much from being concentrated into gigawatt-scale deployments. Instead, you can (theoretically) deploy it at small scales wherever power is cheap. Hydrogen production via these techniques is fundamentally different from large-scale chemical operations: Instead of scaling by making a system bigger (like cracker operations), you scale by adding more modules. The idea, like solar, is that you achieve economies of multiples, rather than economies of scale: Eventually, the manufacturing of the electrolysis (or whatever the hydrogen production mode is) becomes commodified, the capital costs drop dramatically, and green hydrogen becomes cheap in the way solar prices have dropped. Solar has become a big success story of cleantech this way, and I think the most reasonable hope of green hydrogen is that it follows this path. But despite solar’s success, oil and gas companies have mostly failed to make it work. BP, most notably, has gotten totally burned by solar investment, as have groups like Shell and ?rsted with wind. Why? And why will chemicals and oil and gas efforts keep failing with green hydrogen??

First off, they don’t have the skills to succeed. What actually moved the needle for the cost of solar? It was mostly in the scale-up of high-value, high-throughput manufacturing, done largely by Chinese manufacturers, which have a world-class electronics manufacturing supply chain and skilled labor force to draw on. You see something similar with batteries, another tech area where we’ve see 10-fold cost reductions — Chinese manufacturers, along with South Korean and Japanese companies, have reduced costs by increasing the scale of manufacturing and making many improvements to the high-tech manufacturing process. Oil and gas and chemicals companies generally don't have these skills: This is very different from running a cracker complex, as it’s all about supply chain management and fast iteration of techniques. The closest point of skill crossover is the construction of distributed infrastructure — transitioning from building oil wells to solar farms and wind turbines. This, perhaps unsurprisingly, is where some oil and gas (but not chemicals) companies have had success, with companies like TotalEnergies and ?rsted running clean energy production.??

Second, there’s what they do have, and that’s a lot of existing capital equipment and skills that get in the way of them being good at distributed manufacturing. Refining and chemicals production is highly centralized, occurring in USD 10 billion+ complexes that have been built up over decades (or centuries, in some cases). Running these successfully requires a very specific skillset and organization: the skill at building very centralized, very large cost-intensive projects and running them for a long time. The problem is that when you have a hammer, everything looks like a nail: These companies are naturally drawn to technologies that fit this mold, or they try to force them to fit this mold. This was most painfully apparent to me with plastics pyrolysis: Even though as an investment it’s much worse than mechanical recycling, chemicals companies piled into it because it was very familiar in terms of skill and very easy to fit with existing chemical complexes. These efforts have run aground because there’s a huge mismatch between the distributed resource (waste) and the centralized nature of pyrolysis, which made these facilities hugely expensive to run. Something similar is playing out with gigawatt-scale hydrogen deployment — it is very expensive, because as the study above shows, the cost reductions come from reducing capital expenditures (manufacturing) and the cost of electricity (a distributed resource). The fundamental skills of chemicals companies, and to some extent oil and gas players, push them in a centralized direction — all wrong for a distributed production technique.??

Finally, there’s the problem of returns, or, rather, lack of returns. The ROI of oil and gas investment is structurally higher than the returns on solar or green hydrogen because these green approaches take on a lot of extra costs to avoid the negative environmental and social outcomes caused by oil and gas. If oil and gas companies had to pay the damage from carbon emissions (somewhere between USD 100 and USD 200 per metric ton), the ROI on oil and gas would unsurprisingly look a lot worse. As long as oil and gas companies (and to a lesser extent, chemicals companies) can get a free pass on the very real harms they commit in the world and have a legal duty to maximize shareholder returns, they can’t invest in lower ROI approaches like solar or green hydrogen. It’s possible that a big, cataclysmic macroeconomic change could throw ROI in oil and gas out of whack, but it seems much more likely that what’s been going on (reduction of investment in new oil production, increased mergers, and a focus on reducing the cost of existing production), paired with a gradual decline in oil demand, will mean that green tech never looks better than oil and gas investment, even if the overall size of that investment goes down slowly over time. Of course, a globally enforced carbon price could help move the needle here, but that’s hard to imagine and maybe less likely than some sort of black swan-style shock.??

So, oil and chemicals companies don’t have the skills; the skills they do have are often more of a hinderance than a help; and even those companies that have successfully deployed green tech have gotten generally hammered for it by investors. Is there no hope for hydrogen 2.0? On the contrary — solar has been a major success story largely without the oil industry, and green hydrogen, and thus green chemicals, could be a success story without the chemicals industry. One of the biggest stories of last year (to me, anyway) was Pakistan’s huge boom in solar imports, fueled not by grid-scale deployment but individual factories, farms, and households deploying a network of small-scale production — all without government subsidies. Why can’t the same story spell out for hydrogen, especially?paired with distributed ammonia production? All those small-scale farmers (now small- scale solar operators) could become small-scale fertilizer producers. Obviously, it’s not as easy as it sounds: For one thing, the solar producers benefited from years of government subsidies and large markets long before solar was cheap enough to export to Pakistan. Still, if current Chinese efforts to scale hydrogen electrolyzers bear fruit (and overcome current technology issues), it may not be long before distributed chemicals production becomes a reality — just not for the chemicals industry.??

For more on #sustainable #innovation,?check out the Lux Research Blog and the Innovation Matters podcast. The opinions expressed in the Innovation Matters newsletter are my own and do not reflect the views of Lux Research.