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10TH GLOBAL CONFERENCE ON BUSINESS & ECONOMICS ISBN : 978-0-9830452-1-2

Competitive warfare - The impact of electric cars on the oil & refinery industry and their countermeasures

SEAN PHILIPP AND PETER HAISS 1

Paper accepted for presentation at the 10th Global Conference on Business and Economics, Rome, Italy, Oct.15-16, 2010

Sean Philipp Peter R. HaissGraduate Student at WU Vienna University of Economics and Business Administration

Lecturer at the Institute of International Business, WU Vienna University of Economics and Business

Juchgasse 5/2 Althanstrasse 39-45/2/3A-1030 Wien, Austria A-1090 Wien, AustriaPhone ++43 (0)680 2323396 Phone ++43 (0) 664 812 29 [email protected] [email protected]

AbstractCurrent developments in the automotive industry and in the energy sector, particularly in the field of electric vehicles, are putting both industries under severe pressure. While e-mobility is a strategic opportunity for the automotive industry, for the oil & gas industry it is rather a threat of substitution in the Porter (1980) scheme. Drawing on Transaction Cost Economics (Williamson, 1981) and Strategic Disruption Theory (Averyt & Ramagopal, 1999), we hypothesize that the oil & gas industry will actively tackle the issue. We discuss possible strategic reaction patterns of companies attempting to maintain their market position like diversification and prolongation, and provide a case study on new intruders and national initiatives. We conclude that the oil & gas industry will react in a dual mode by (1) trying to turn the threat into an opportunity (e.g. demand public subsidies for the transition) and by (2) trying to delay the switch to e-cars.

JEL Classification: L91

Keywords: oil and gas industry, automotive industry, electric vehicles, competition, renewable energy

1 Sean Philipp ([email protected]; corresponding author) is a graduate student at the WU Vienna University of Economics and Business Administration, Vienna, Austria. Peter Haiss ([email protected]) lectures at the Institute of International Business (http://www.wu.ac.at/auha/english/ ), WU Vienna University of Economics and Business and is with UniCredit Bank Austria, Vienna. The opinions expressed are the author´s personal views. For more of our research, see http://ssrn.com/author=115752 or http://wu-wien.academia.edu/PeterHaiss/Papers

October 15-16, 2010Rome, Italy

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10th Global Conference on Business & EconomicsISBN : 978-0-9830452-1-2

Competitive warfare - The impact of electric cars on the oil & refinery industry and their countermeasures

Sean PHILIPP and Peter HAISS

ABSTRACT

Current developments in the automotive industry and in the energy sector, particularly in

the field of electric vehicles, are putting both industries under severe pressure. While e-

mobility is a strategic opportunity for the automotive industry, for the oil & gas industry it is

rather a threat of substitution in the Porter (1980) scheme. Drawing on Transaction Cost

Economics (Williamson, 1981) and Strategic Disruption Theory (Averyt & Ramagopal,

1999), we hypothesize that the oil & gas industry will actively tackle the issue. We discuss

possible strategic reaction patterns of companies attempting to maintain their market position

like diversification and prolongation, and provide a case study on new intruders and national

initiatives. We conclude that the oil & gas industry will react in a dual mode by (1) trying to

turn the threat into an opportunity (e.g. demand public subsidies for the transition) and by (2)

trying to delay the switch to e-cars.

1. INTRODUCTION AND OUTLINE

The main focus of this paper is to show how the development of alternatively fuelled cars

and in particular the introduction of electric vehicles might affect oil and gas companies in the

future, including possible countermeasures. Given the presence of crude-oil based products in

our daily life and especially its dominant position in the fuel market, there are two parties with

a particular interest in the “black gold” – oil and refinery companies and automotive

manufacturers. Nowadays more than ever these two groups see themselves threatened by a

very popular trend: “Green” thinking. When the first people who followed the idea of a


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sustainable and environmentally friendly lifestyle tried to promote their idea 20-30 years ago,

not many listened. Today, in 2010, this has changed. Many people nowadays are aware of the

impact of their actions and are willing to change their habits. With the introduction of the first

hybrid mass-production vehicles approx. 15 years ago and the gradual introduction and

development of electric vehicles oil and refinery companies, as well as car manufacturers, see

themselves in an endangered position. The formerly very safe haven, oil companies long time

saw themselves in, is more and more put under severe pressure.

Environmental issues are very important to people and governments alike and need to be

treated with great attention. Thus, the oil and automotive industry was put under ever growing

pressure to make their products more ecological and efficient. Not surprisingly, this is also the

right time for even better solutions in individual traffic – i.e. the introduction and

development of electric vehicles suitable for daily use. This paper will attempt to give an

insight in how oil and gas companies as well as automotive manufacturers might react to these

new developments.

The first part of the paper gives an overview of the current energy situation and points out the

likely impact of various market risks for the oil industry. We discuss risks for oil and gas

companies in the future and different approaches of handling these risks. We particularly

emphasize the move towards e-cars. The following part summarizes the theoretical

background the papers draws on, i.e. Porter’s (1980, 2008) theory of market forces and

Williamson´s (1981) theory of transaction cost economics. On the grounds of these theories

we discuss different strategic reaction patterns for the oil and gas sector to recover and

strengthen their market power. We hypothesize that the oil industry will apply

countermeasures to ward off the threat of substitution. In analogy to Arping & Diaw (2008),

D´Aveni (1999), Creane & Miyagiwa (2009) and Schneider (2008) we thus particularly

include concepts of strategic disruption and methods of market entry deterrence in the

discussion. The paper also includes a case study on Tesla Motors, Inc., and on public


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incentives for the introduction of electric vehicles. We conclude that oil companies react in a

dual mode to the threat of substitution of gas engines by e-cars by (1) using strategies like

diversification and prolongation in trying to turn the threat into an opportunity and by (2)

trying to delay the switch to e-cars.

2. CURRENT ENERGY DEMAND

The following will give an overview over the World’s current energy demand, especially

focused on liquid fuels and the transportation sector including predictions for the future.

2.1 World energy demand and consumption

According to the International Energy Administration (IEA, 2009), the proportion of gasoline

consumption has been on a quite constant level, whereas the proportion of heavy fuel oil has

constantly been decreasing over the last two, three decades. This development resulted in an

increasing use of middle distillates. However, since the middle 1980’s there has been a

constant rise in the global total oil consumption. The following graph shows a fragmentation

of the world’s liquid fuel consumption, divided into four categories – residential/commercial,

electric power, industrial and transportation. As the graph shows, the predictions for

consumption in the first three categories remain at approximately the same level. The clear

increase in consumption results from the soaring energy consumption of the transportation

sector.


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Figure 1: Global liquids consumption 2006-2030

Source: Energy Information Administration, International Energy Outlook, 2009

2.2 Transportation sector energy consumption

Over the next 25 years, world demand for liquids fuels is projected to increase more

rapidly in the transportation sector than in any other end-use sector. Over the 2006-2030

period, transportation accounts for nearly 80 percent of the total increase in world liquids

consumption. Much of the growth in transportation energy use is projected for the non-OECD

nations. Many rapidly expanding non-OECD economies are expected to see strong growth in

energy consumption as transportation systems are modernized and income per capita

increases the demand for personal motor vehicle ownership (EIA, 2009).


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Figure 2: OECD and Non-OECD Transportation Sector Liquids Consumption

Source: Energy Information Administration, International Energy Outlook, 2009

3. ALTERNATIVE FUELS

As presented in the previous chapter, the world currently depends on fossil fuels and crude

oil. The ecological consequences of Man’s hunt for oil and its drawbacks have been of

increasing severity. From air pollution caused by the emission of green house gases,

predominantly caused by traffic, to major environmental disasters (i.e. the Exxon Valdez oil

spill off the coast of Alaska or most recently the explosion of BP’s offshore rig Deepwater

Horizon in the Golf of Mexico), these and other reasons have caused a change in mind with

many people and governments. Hence, there has been a very notable development in interest

for alternative forms of energy and fuels, especially for the transportation sector. Today there

are various alternatives to gasoline and diesel. Drawing on the US Department of Energy

(2010), the most common alternative fuels and their characteristics are:


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Biodiesel: Renewable fuel, produced from animal fats and vegetable oil

Can be blended with regular diesel and used in light-duty and heavy-

duty diesel engines

Ethanol: Produced from starch-based corps

Can be blended with gasoline

Largest producers of ethanol are the USA and Brazil

Natural gas: Already available to consumers through the utility infrastructure

Two forms: LNG; Liquefied natural gas and CNG; Compressed natural

gas

Significantly less emissions than gasoline and diesel engines

Hydrogen: Potential to revolutionize energy sector

Can be produced even from water

When produced with renewable energy it holds the promise of

pollution free transportation

Not fully developed yet and expensive to roll out

Hybrid:Basically a 2 engine technique – a conventional combustion engine and

in addition an electric engine

Plug-in hybrid vehicles have a battery pack, which is larger than in

conventional hybrid vehicles, and are pre-charged e.g. at home

Electric vehicles: Solely powered by electric power which is stored in battery packs

Produce no tailpipe emissions

Will become significantly important to transportation in the upcoming

decades


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Table 1: Alternative powertrains and broad market availability

Source: A.T. Kearny, Fuel-thrifty, Clean, Electric, 2009

4. THE POTENTIAL OF ELECTRIC VEHICLES (EV)

The major share of vehicles travelling our planet is fuelled by either gasoline or diesel

fuel. The tendency: Rising. Whereas growth in demand for fuel in OECD countries is rather

modest, non-OECD countries will soon demand a far larger portion of global energy than a

couple of years ago. Emerging markets like Brazil, Russia, India and China, also referred to as

the BRIC-countries, have booming economies and consumers craving for mobility.

Simultaneously, in Europe and also in North-America carmakers are facing regulations

that force them to reduce gasoline consumption and increase mileage-per-gallon of new

vehicles. Regarding fuel prices and the environmental situation we find our selves in right

now, fuel efficiency is probably not too bad a thing. However, fuel efficiency is not the only

eye on the dice.

For many years, electric and hybrid vehicles raised smiles, and development costs. That

was about it - until the issue of environmentally friendly transportation became important to

governments and consequently to car makers (which had to adjust to new environmental


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regulations). An invention of the early ages of motorization, the electric car, now finds itself

in focus of a wide discussion about sustainable transportation.

According to the Boston Consulting Group (2009), the causal correlation between CO2

emissions and global warming is now widely accepted by a solid majority of the scientific

community. The significant damage caused by global warming and the intense public

awareness of this topic make the challenge of reducing CO2 emissions the major force

currently driving development of alternative concepts for automotive propulsion.

Several steps of development have had to be taken before a fully-suitable EV could be

introduced to the market. The first step was the “mild hybrid”, in which case a small electric

engine supports an internal combustion engine (ICE) and its batteries are recharged by

regenerating braking energy. Whereas costs are relatively high the CO2 savings are modest.

Next on the range was the “full hybrid”, which offers a larger battery and electric engine

compared to its “mild” comrade, thus increasing CO2 savings, yet at an even higher price.

Expectations are that costs will decline sharply, once sales volumes go up. An upgrade of the

“full hybrid” is the “plug-in hybrid”, a vehicle which is equipped with an even larger battery

and that can be charged from the grid. The “range extender” is a feature that offers increased

range by integrating an efficient ICE that recharges the battery inside the vehicle. Finally the

last step is the electric vehicle. It is charged from the grid and operates on battery only (BCG,

2009). At time, this is the problem exactly. Today’s batteries offer an insufficient range and

charging infrastructure on-the-road is deficient. What’s more is that batteries, especially

Lithium ion batteries, are very expensive. The electronic vehicle (EV) therefore needs

stronger support in development and in terms of providing infrastructure in order to make

shifting consumer habits feasible. The potential of EVs is also supported by the following

graph published by A.T. Kearney. It shows an estimate of total costs of ownership (TCO) for

different vehicle types by A.T. Kearney (2009), however, put electronic vehicles in a

competitive range compared to gasoline fuelled vehicles.


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Electric vehicles are also seen as a means to reduce dependency on oil imports for

political grounds. According to EPRI (2002), plug-in hybrid electronic vehicles (PHEVs)

promise to reduce dependence on foreign oil, reduce emissions, and help utilize generation

capacity of the country that is idle during off-peak hours. PHEVs offer the potential to reduce

both gasoline consumption and associated emissions. PHEVs that could travel up to 60 miles

on a battery charge on electric energy stored in their batteries without recharge (PHEV60s)

could reduce CO2 emissions by 50% and petroleum consumption by more than 75% (EPRI

2002; Hadley, Tsvetkova, 2008). Kintner-Meyer, Schneider, and Pratt (2007) argue that the

U.S. electric power infrastructure is a strategic national asset that is underutilized most of the

time. With the proper changes in the operational paradigm, it could generate and deliver the

necessary energy to fuel the majority of the U.S. light duty vehicle fleet.

Figure 3: Total Costs of Ownership for different vehicle types

Source: A.T. Kearney, Fuel-thrifty, Clean, Electric, 2009

Even though TCO for electric vehicles (EVs) are the highest, apart from fuel cells, they

still are within a very similar cost range compared to others. In addition this graph shows

clearly that the main cost burden for EVs is depreciation, which might result from the rather


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short 4-year period used in this calculation. Regarding the fuel costs EVs are clearly in the top

position, a fact which must not be overlooked.

Summing it up, one can see that the potential for EVs is sufficiently large, considering the

discussed opportunities in the US for example. Furthermore EVs also have the chance of

challenging common vehicles on the cost side, provided they are given sufficient support in

the beginning to achieve a certain sales volume that will let prices drop. Therefore, EVs may

be seen as a powerful competitor for common, gasoline and diesel fuelled vehicles and thus

the oil and gas industry.

5. BUSINESS RISKS FOR OIL AND GAS COMPANIES

In the following, we summarize the various market risks the oil and gas industry is facing.

We concentrate on selected risks, particularly on competition from new technologies as e.g.

from electronic vehicles.

Figure 4: Ernst & Young Business Risk Radar 2009

Source: Ernst & Young, Business Risk Report Oil and Gas, 2009

Access to reserves: Access to reserves is currently seen as the top risk for the oil and gas

industry. The increase of oil prices in 2008 gave political interference a great push,


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resulting in power shifting to the owners of resources. Companies are menaced by

resource nationalism, increasing declaration of land areas as environmentally sensitive

and concerns about energy safety. [The disastrous oil spill in the Golf of Mexico, caused

by BP’s off shore oil rig Deepwater Horizon, will very likely spark initiatives for further

regulations, thus exacerbating the situation for oil and gas companies.]

Uncertain energy policy: The economic crisis of 2009 caused a high volatility in

commodity prices. In addition to a quite volatile energy policy, goals of security of

supply, climate change considerations and affordability, make a clear prediction of

future policies near to impossible.

Climate and environmental concerns: The earlier environmental concerns are dealt with,

the more likely it becomes that a company deals with these concerns successfully, but it

also might turn out as a strategic advantage in the future. “The public is acutely aware of

the potential hazardous environmental effects that oil and gas companies’ operations can

have. Today, there is a “zero tolerance for environmental accidents,” […]”

New operational challenges: As oil and gas companies are operating in new locations

and unfamiliar environments, experienced employees and new high-tech equipment

becomes vital to their businesses. Drilling in the Artic or the frozen Tundra involves

dealing with different daylight hours and of course the cold. [In Canada and Venezuela,

just to mention two countries, oil is produced from oil sands. Although the amount of oil

sands is huge, the price of production is multiple compared to free flowing crude oil.]

Competition from new technologies: Two major aspects can be identified. The first is

the risk of competitors taking over leadership in new technologies and the second is new

technologies altering consumer habits and preferences. The risk is “not participating in

the discovery and development of the new energy future,” […].


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Risk N° 1 and N° 2, as stated above, can be confirmed by the following quotes of US

President Barack Obama’s speech at Carnegie Mellon University, Pittsburgh, PA.

“[…] We also have to acknowledge that an America run solely on fossil fuels should not be

the vision we have for our children and our grandchildren. […] We consume more than 20

percent of the world’s oil, but have less than 2 percent of the world’s oil reserves. So without

a major change in our energy policy, our dependence on oil means that we will continue to

send billions of dollars of our hard-earned wealth to other countries every month -- including

countries in dangerous and unstable regions. […] It will continue to put our economy and our

environment at risk. […] The time has come to aggressively accelerate that transition. […]

Now, that means continuing our unprecedented effort to make everything from our homes and

businesses to our cars and trucks more energy-efficient. It means tapping into our natural

gas reserves, and moving ahead with our plan to expand our nation’s fleet of nuclear power

plants. It means rolling back billions of dollars of tax breaks to oil companies so we can

prioritize investments in clean energy research and development” (The White House, 2010).

Especially the last sentence is of great impact to the oil and gas producing companies in the

US. It might initiate a redistribution of state support away from the traditional energy business

towards renewable, green energy. This, very likely, has the potential of igniting a severe

lobbying rally against renewable energy, EVs, “tree huggers” and also the President himself.

Admittedly, the public acceptance of such measures is very likely much smaller than it would

have been a couple of months ago, before the catastrophic oil spill in the Gulf of Mexico.

President Obama’s approach is supported by the horrifying situation on the Louisiana coast

line and the effects on the local economy.


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6. CASE STUDY: TESLA MOTORS, INC.

6.1 About Tesla Motors

To provide vivid examples of the new competitive issues the conventional automotive

companies and the oil & gas industry now face, Tesla and Austrian national initiatives are

briefly summarized in the following. Tesla Motors, Inc. is a Californian car manufacturer

based in San Carlos, CA. What distinguishes them from conventional automotive original

equipment manufacturers (OEMs) is their focus on building 100% electrically driven sports

cars, making their company unique in this field (Tesla Motors, 2010a). Named after the

engineer, scientist and inventor Nikola Tesla, Tesla Motors also shares their namesake’s

passion for electric engines (Tesla Motors, 2010b). The following paragraphs will try to

briefly outline Tesla Motors’ key competence, currently built models and an overview about

the electric vehicle in general, the battery system and environmental issues.

6.2 Key competence

Tesla’s core competence is building cars driven by 100% electric powertrains (Tesla

Motors, 2010c). Unlike hybrid vehicles which are quite common and very popular nowadays,

Tesla cars do not have an optional Otto-engine or even a gas tank. This fact alone would not

make them unique. Tesla’s big advantage compared to other low-emission and electric

vehicles, and also another of their core competences, is the design of their cars. A layman

might easily confuse them with a Ferrari, Lamborghini or many other sports cars. Given this

fact Tesla does not have to fight the image of being just a gadget for wealthy, environmentally

cautious “green thinkers”. In comparison to other low-emission vehicles on the market Tesla’s

performance is quite outstanding. The following chart shows the energy consumption of

different fuel saving vehicles, including diesel, LNG and hybrid fuelled vehicles.


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Table 2 shows that Tesla’s 100% electric powertrain is not only fuel-efficient; it also is

less dependent on a specific fuel source. The reason for this is simple. Whereas for example

hybrid cars still depend on crude oil, at least to some stake, cars driven by electric power can

use electricity from a various number of sources. Be it wind, water, nuclear power or solar

power, there is a large range of options. Furthermore these technologies will become more

and more important and common and hence reduce a country’s dependence on crude oil.

Table 2: Well-to-wheel efficiency

Source Tesla Motors, Inc.October 15-16, 2010Rome, Italy

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www.teslamotors.com/performance/well_to_wheel.php

6.3 Models

The following table shows a short overview over Tesla’s currently built vehicles and a

selection of technical specifications.

Powertrain HP 0 - 60 mph Range

Roadster 100% electric 288 3,9 sec 236 miles

Roadster S 100% electric 288 3,7 sec N/A

Model S 100% electric N/A 5,6 sec 300 miles

Model S

(Signature)100% electric N/A 5,6 sec 300 miles

Table 3: Technical specifications

Source: Tesla Motors, Inc., www.teslamotors.com/buy/buyshowroom.php

The table shows that the battery system used by Tesla Motors is already capable of

providing enough power for regular, daily short and medium trips. Also other specifications

are worth further consideration. Both the acceleration and horsepower are comparable to other

sports cars. There is even one further advantage of the electric engine. Unlike normal gasoline

or diesel engines, where torque has to be built up during acceleration, electric engines provide

the driver with 100% torque at any rpm-range (Tesla Motors, 2010d).

6.4 Battery system

The energy storage system (ESS) used in Tesla vehicles contains of a Lithium (Li) ion

battery pack and is one of the most efficient and technically advanced Li-ion battery packs

worldwide. Li-ion batteries can be found in various items of daily life; they are used in cell

phones, laptops and other applications. In the case of Tesla’s ESS it contains of 6,800 small

Li-ion battery cells, reaching a total mass of 450kg (Tesla Motors, 2010e).


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http://www.teslamotors.com/buy/buyshowroom.php


6.5 Environmental benefits and incentives

Being 100% electrically powered vehicles, Tesla vehicles do not produce any emissions

themselves and can be powered by electricity generated from 100% renewable sources. Hence

the wide introduction of electric vehicles will lead to a reduction of a country’s dependency

on fossil fuels like oil and natural gas. Trying to support existing and potential drivers of

electric vehicles, there are several incentives making the purchase of such vehicle more

attractive. For example, in the state of California, the following incentives apply:

- Tax rebate of $ 5,000 for vehicles purchased/leased after March 15, 2010

- Single occupancy of High Occupancy Vehicle (HOV) lanes

- Free parking in several areas, e.g. Sacramento

- Reduced charging rates.

7. INITIATIVES AND INCENTIVES FOR ELECTRIC VEHICLES – SELECTED

NATIONAL CASES

7.1 Austrian Mobile Power

The ambition of Austrian Mobile Power (AMP) is the promotion of electric vehicles and

alternative powertrains in Austria. AMP’s ambitious goal is to have 100,000 EVs in operation

by 2020. “In 2050, there will then only be purely electrically powered vehicles in Austria. At

best, petroleum will only be found in the gearbox of our cars, and emissions will only come

from the radio” (AMP, 2010). AMP’s approach is to use renewable sources of energy, which

Austria is rich of, for the electrification of said vehicles. Their development partners include:

Siemens (electric and mechanic engineering), Verbund (electric energy utility), Magna

(automotive supplier), KTM (automotive sector), the Austrian Institute of Technology (AIT)

and many other companies from the technology and energy sector.


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7.2 Austrian Federal Ministry for Traffic, Innovation and Technology

In Austria the Federal Ministry for Traffic, Innovation and Technology has launched a

program to introduce electrification and to promote a mentality of seeing traffic and mobility

as an issue of traffic, infrastructure, technology, energy and environment and is an important

economic issue. Also their ambition is to introduce electrification of traffic as part of the

solution of energy problems in the future and needs the cooperation of numerous partners

throughout Austria (BMVIT, 2010). In this case the approach to reaching these goals is

similar the approach used by AMP. Taking advantage of combined know-how of companies

operating in technology, energy and business related sectors has the potential of efficiently

developing sustainable solutions for traffic in the future.

8. THEORIES

The following chapter will briefly summarize selected theories used to delineate strategic

reaction patterns in the following. These are (1) Porter’s (1980) Five Forces and (2)

Williamson´s (1981) theory of Transaction Cost Economics and (2) the aim of this chapter is

to explain the theoretical basis of these theories.

8.1 Porter’s Five Forces

A business environment is usually accompanied by severe competition and risks. The

structure of an economy, and a company’s ability to deal with given circumstances, can

decide over success or failure of an enterprise. According to Porter there are five fundamental

forces of competition, also known as “Porter’s Five Forces” (1980, 2008). They will be

explained in the following section (Wallentowitz et. al, 2009):


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- Rivalry : Rivalry amongst contestants can take many different forms. A very simple

form of course is price competition (i.e. “be cheaper”), but may also be found as

marketing and advertisement campaigns, introduction of new products or extended

warranty periods and services.

The intensity of rivalry can be influenced e.g. by the following factors:

o Many/equally equipped competitors

o Growth within a certain economy

o High fixed costs and high costs of storage

o Differences between the products

o Exit barriers (i.e. sunk costs)

- Market entry of new competitors : New competitors are often equipped with large

amounts of capital to successfully penetrate the market by lowering the price,

increasing the cost for existing producers thus reducing the profitability. Yet this

implies that a new contestant has to overcome the (often very high) market entry

barriers. There are numerous factors that may cause or result in a market entry barrier:

o Economies of scale

o Product differentiation

o Capital requirements

o Access to market channels

o Cost advantages

o Governmental policies

o Retaliatory measures

- Threat of substitution : Fear of substitution is a very common issue in many businesses,

predominantly due to two reasons. (1) Substitutes may limit the profitability within an

economy, thus setting a price cap to products and (2) are able to reduce the market


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share of existing companies. This is usually a longer procedure though, because the

consumers need some time to find out about a substitute and then have to switch their

consumption habits.

- Negotiation power of the consumers : The target group of a certain product can, if of

sufficient size, have a major impact on the behaviour of a company. They can demand

lower prices or higher quality or performance and hence play the competitors off

against each other.

The following features characterize a strong target group:

o Large share of total sales to a certain group

o Sold products are of significant amount/value

o Standardised products

o Low conversion costs

- Negotiation power of the suppliers : By taking advantage of their market power

suppliers may threat to raise prices or, on the other hand, lower quality.

This is especially the case when:

o A few suppliers dominate the market and hence hold enough market power

o Substitutes are not available

o Volume of sales to a certain party is considerably small, therefore market

power can be opposed on the buyer

o High influence of suppliers goods on the buyer’s cost structure

o High conversion costs for the buyer


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8.2 Transaction Cost Economics

The Transaction Cost Economics (TCE) theory by Williamson (1981, 2007) consists of 3

basic factors, these are (Averyt & Ramagopal, 1999):

- Specificity : The higher the specificity of a certain asset, the more resources have been

invested by the supplier, making the asset highly tailored to the needs of one certain

party.

- Uncertainty : High uncertainty shows that a company is operating in a market

environment marked by high turbulence and risk.

- Frequency : A certain raw material or other component is purchased at a high

frequency and therefore many similar transactions have to be dealt with.

The larger the first two factors (specificity and uncertainty) are the more likely it becomes

that a company will try to internalize the handling of such transactions, mainly in order to

protect its know-how on certain goods. The internalization of such transactions increases the

company’s transaction costs; this can be seen as the price to protect know-how.

The opposite happens with an increase of the third factor (frequency). In this case the

more often a certain transaction has to be done the more likely it is that the purchase can be

standardised and know-how can be protected by a so called blanket contract, thus reducing

transaction costs (Averyt & Ramagopal, 1999).

Depending on current market situations a company will find itself with a certain

transaction cost equilibrium, according to its market power and transaction cost conditions.

Yet in a highly competitive business environment, like the oil & gas or automotive industry,

competitors will be keen on disrupting a company’s transaction cost equilibrium and shifting

it in order to reduce their contestant’s competitiveness. This usually is achieved systematically

and is called “strategic disruption”. Strategic disruption may also involve governing entities in


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order to protect domestic companies from outside competition, for example Rules of Origin

and Local Content Regulations (Averyt & Ramagopal, 1999).

- Local Content Regulations : LCRs are regulations imposed by a governing entity

ensuring that certain quotas for the use of domestic goods are fulfilled during

production.

- Rules of Origin : RoO are, like LCRs, imposed by governing entities. Their function is

to regulate the amounts of goods/raw materials in terms of origin. Not only do RoO

show how big the proportion of domestically produced goods has to be, they show

from which other country goods may come from.

Both, LCRs and RoO, can be classified as non-tariff trade barriers and therefore can act as

market entry barriers for new, potential competitors (Averyt & Ramagopal, 1999).

9. STRATEGIES

Since the market positions of the conventional automotive and particularly of the oil &

gas industries are clearly endangered, the respective companies will consider methods how to

minimize competition or strengthen their own position. Thoughts of how to tackle the issue

might include e.g. to:

o turn its gas station network around into e-loading stations; to cover the cost of changeover

and “sunk costs” the industry might demand public support (direct) or additional leeway

for turning its gas stations in to full-fledged supermarkets (indirect)

o try to lobby against e-cars (and their public support)

o monopolize the necessary technology by e.g. acquiring the battery producers, patents,

resources necessary to build these etc.


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o team up with the successful new e-car producers (following the strategy “if you can´t beat

them, join them”)

o Pay for studies (media articles…) that discuss the overly high cost of e-cars, their

disadvantages (e.g. accidents because you do not hear the cars approaching; high societal

changeover costs; job losses; rising electricity prices; lack of supply…)

o Improve the energy efficiency of conventional petroleum & diesel engines, and

favour/pay for research in this area to raise the “hurdle” for e-cars

9.1 Entry barriers

In a business field companies’ actions can influence their competitors’ behavior, e.g.

erecting entry barriers to ward off new technologies and competitors. Depending on different

cost structures of two companies, the first one being in a certain market position and the

second trying to inherit a place on the market, and different expectations the party with the

most market power can hinder or promote innovation, thus changing a competitors cost

structure and making it harder, or even impossible, to compete.

“If an industry earns a return on capital in excess of its cost in capital, it will act as a

magnet to firms outside the industry. If the entry of new firms is unrestricted, the rate of profit

will fall toward its competitive level. […] An absence of sunk costs makes an industry

vulnerable to ´hit-and-run´ entry whenever established firms raise their prices above the

competitive level. In most industries, however, new entrants cannot enter on equal terms with

those of established firms” (Grant, 2008).

Creane and Miyagiwa (2009) describe two situations. In the first situation a market entrant

develops a new technology in order to enter a market. The market leader, in this case a

monopoly, therefore has a strong incentive to invent and patent the new technology before its

contestants do. Otherwise the monopoly risks that the new entrant, who uses a new


23


technology, might be able to produce at lower cost and therefore be able to replace the prior

market leader.

The second situation describes a situation in which the market leader acts oppositely.

Whereas the standard case is to promote innovation in order to hinder competition through

new technology, Creane and Miyagiwa (2009) argue that there is another possible approach.

In this case the market leader, even though facing research and development costs of zero, is

tempted not to promote innovation. The general thought is that by blocking innovation, and

thereby making new technology unavailable to potential market entrants, the cost of

innovation would have to be taken over by the entrant. This is referred to as “raising –the-

rival’s-cost-strategy” (Creane & Miyagiwa, 2009).

9.2 Strategic Disruption

The concept of strategic disruption is based on the principles of Transaction Cost

Economics (TCE) and utilizes these principles in order to manipulate a competitor’s

transaction cost structure, thus shifting the cost equilibrium to the competitor’s disadvantage.

(Averyt & Ramagopal, 1999) “According to TCE, a firm will establish a governance structure

(such as arm’s length contract, internalization, or a hybrid approach) guided by the attributes

of the transaction in question” (Averyt & Ramagopal, 1999).

According to the theory of Transaction Cost Economics summarized earlier, companies

can impose policies of strategic disruption against the governance structure of their

opponents. This was also the case in the US, when the powerful car manufacturers, i.e. Ford,

Chrysler and GM – also known as the Big Three, felt endangered by Japanese OEMs entering

the market.

Averyt and Ramagopal (1999) examine two specific examples of this method of strategic

disruption. Local Content Regulations and Rules of Origin were imposed by the US

government. The effect of these regulations was that Japanese OEMs had to (1) move their


24


plants to the US instead of importing their vehicles from Japan and (2) furthermore had to

make sure that a specific threshold of the raw materials and parts used was of US origin.

Consequently they were no longer able to profit from their traditional network of suppliers

(known as kyoryokukai) and had to turn to domestic, i.e. American, suppliers.

Both, Local Content Regulations and Rules of Origin, aim at one goal precisely: Shifting

the cost equilibrium of possible outside contestants and hence reducing their profitability. In

other words: Making the production of goods more expensive for the outside contestant.

Although it is not a matter of innovation or technology, the aim and outcome of this strategy

is very similar to the strategy discussed above – increasing the competitor’s cost or reducing

his profitability in order to force the competitor out of the market.

9.3 Diversification

Acknowledging the fact that sources of fossil fuels are getting scarce and exploration of

sufficient oil and gas supplies more and more difficult, companies and countries alike have

admitted the need for alternatives, or at least supplemental fields of business. Their aim

therefore can be pinned out at diversification of business fields.

In May 2001, Vice President Cheney acknowledged that US oil production would fall

12% over the next 20 years. Subsequently US dependence on foreign oil would continue to

rise, and foreign oil imports would reach approximately two thirds of US oil demand by 2020.

(Karoui, 2006) Very similar was the core statement of the French Prime Minister De Villepin

in 2005. He stated that it was necessary to implement a new energy policy and to strive for

energy independence due to increasing energy demand world wide, also triggered by the

economic upswing in the BRIC-countries. De Villepin’s concept aimed at technological

innovation and energy independence and was built on three pillars (Karoui, 2006).

The first pillar was massive investment in energy policy. De Villepin called for the French

oil company Total to invest in more refining capacity. The second pillar was renewable


25


energy, with a special focus on hydroelectricity and bio-fuels. The third pillar of his program

were energy savings and the promotion of energy saving, low-consumption cars, solar heaters,

etc. (Karoui, 2006).

The US and France were not the only countries to have noticed these problems. The

governments of Kuwait, Abu Dhabi and Alaska for example have a fund for future

generations which is supposed to provide revenue when oil runs out (Karoui, 2006). Saudi

Arabia, the holder of the world’s largest oil reserves, also is planning on diversifying its

petroleum-dependent economy to secure revenue in the future. “To diversify the economy is a

matter of life and death for Saudi Arabia,” says Saudi economist Ihsan Bu Hulaiga in The

Wall Street Journal. A statement which may be confirmed true when looking at Saudi

Arabia’s export statistics: 90% of export revenues and 80% of budget revenues are generated

in the petroleum sector. Their future aim is to boost their industry, reaching 20% of GDP by

2020 – twice as much as today (The Wall Street Journal, 2010). “Much if this growth has

come from energy-intensive and hydrocarbon-based industries such as petrochemicals, which

have thrived on the availability of cheap natural gas. Today, Saudi Arabia is one of the

world’s biggest producers of basic and intermediate petrochemicals such as polyethylene and

polypropylene, which are exported to Asia and used to make plastic consumer goods. […] But

they need to not just produce the feedstock and the basic petrochemicals; they need to move

into the advanced petrochemicals that have a very high added value component. […] While

petrochemicals have been a cornerstone in the ongoing diversification process, other

industries have taken on increasingly prominent roles in recent years. Mining in particular has

emerged as an important pillar because of the country’s large bauxite, phosphate and gold

resources” (The Wall Street Journal, 2010).

Increasing fuel prices and environmental regulations have made gas guzzlers quite

unpopular for most consumers. Therefore, even US carmakers have started to offer smaller,

more fuel efficient cars (The Economist, 2010). Apart from fuel efficient engines carmakers


26


have also introduced many other concepts to react to current developments and try to remain

in a stable position. But not only OEMs have faced these different economic times, their

suppliers and oil companies have taken certain measures too. In the following three examples

shall be discussed briefly.

The Austrian based oil and gas company OMV has set up a project called “Future Energy

Fund” under which it presents new projects and technologies for the development of

renewable sources of energy. Three main goals have been set out, these are:

o Development of new business opportunities for OMV in the renewable energy field;

o Acquisition of know-how and experience in the renewable energy field;

o Achievement of reductions in greenhouse gas emissions (OMV, 2010).

The areas of research include bio-fuels of the 2nd generation, including bio-diesel and bio-

ethanol, Hydrogen filling stations in Graz and Stuttgart, a bio-gas project in Romania,

geothermal energy projects in Austria and Romania and many others (OMV, 2010). By

shifting research into these multiple energy fields OMV most likely attempts to (1) secure

itself a good position in the European energy sector for the future, then being able to provide

technically mature methods of alternative energy supply, thus securing income. (2) Also, this

strategy can been used not only to secure future income and develop know-how, it puts OMV

in a strong competitive position once the pressure starts increasing (and this is just a matter of

time). An early established knowledge and financial base will be necessary if OMV do not

want to be overtaken by competitors who may then impose market entry barriers and hinder

future success.

Total, a French oil company, which is quite known for its lubricants and special fuels, also

took a similar step like OMV. Their approach, apart from offering a broad variety of different

lubricants, which may be used in various types of machinery and appliances, was to cooperate

with the Danish company Vestas, producers of wind turbines (Total, 2010). Since wind


27


turbines need a lot of lubricant and wind energy as a form of alternative energy is up and

coming, cooperating with Vestas makes perfect sense and gives Total the opportunity of

developing a good revenue base for the future.

Automotive supplier Bosch of Germany has also read the signs of time and is keen on

reducing their dependence on the car industry. Although Bosch is the largest supplier in the

automotive industry and has regularly introduced important innovations to the market, their

goal, like OMV and Total, is to shift into other businesses. According to Handelsblatt (2010)

Bosch is seeking to use the growth potential of business models that combine the internet and

software applications that would connect and control various devices in the energy, mobility,

health and environmental sector. Bosch plans to invest €2 billion in acquisitions in the next

years. In recent years Bosch has invested €2 billion in acquisitions in the field of solar power,

(Handelsblatt, 2010) which is a very interesting move. Apart from supplying parts and

modules to the car industry investing in solar power opens the door to supplying electricity,

also to electric vehicles. This attempt secures revenue from the car industry by using two

approaches – one; supplying parts to the automotive industry as they did before and securing

their market share in this field. Two: Providing solar panels that will also be erected to

produce electricity which then can be used in electric vehicles. As seen before this is a

strategy of diversification, like OMV and Total, combined with a strategy of acquiring

businesses to broaden (by buying) know-how.

9.4 Prolongation

Given the fact the biggest proportion of worldwide traffic – be it on water, airborne,

commercial and most of all individual transportation - is running on fossil fuels changing the

motorization spectrum is a tedious process. Consequently oil and gas companies together with

OEMs are working on maintaining this business field. To prolong the period of leadership of

fossil fuels in the transportation sector oil companies not only are keen on developing new,


28


more efficient fuels – e.g. diesel fuels and natural gas – finding new, sufficient and reliable

sources of oil and gas as crucial to the oil and gas sector. While the exploration of new oil

fields is often very difficult and technically challenging, a new source for oil has been found

in large quantity – oil sands. “Northern Alberta is home to the oil sands, one of the world’s

largest known oil deposits. This resource is considered second in size only to those found in

Saudi Arabia, but comes with its share of challenges given the way the oil is trapped in the

sand. The oil sands contain a ‘heavy’ form of crude oil that requires special extraction

methods to get it out of ground and into a form where it is fluid enough to travel down

pipelines for refining into gasoline and other hydrocarbon products” (Conoco Philips, 2010).

This clearly shows that at time great attention is paid on maintaining competitiveness in

the energy sector is on exploring and developing new sources of crude oil. This might be due

to the fact that oil companies may have the position that the electrification of traffic will be a

long way down the road and may be dealt with intensively a little later.

When looking at the following graph, one can see that above the above discussed topics of

diversification and prolongation play an important role for companies. Both arguments can be

spotted in the next graph which the Boston Consulting Group (2009) describes as

“Electrification Path”.

Figure 5: Electrification Path


29


Source: The Boston Consulting Group, The Comeback of The Electric Car?, 2009

10. CONCLUSION

The electric car may be seen as the vehicle of the future. The problem is to predict a

precise time period for that to happen globally. Even though first steps have been taken, it is

still a long way down the road until electric vehicles (EVs) will be as affordable, competitive

and reliable as common vehicles. Still, significant efforts have been achieved in developing

new solutions for the future demand for energy in the sector of transportation and have to be

promoted further on.

The evidence for the necessity of different power sources is clear, the statistics on oil

consumption show this very clearly. Even though oil and gas companies currently might not

see this threat as the biggest, moving into the business of solutions for electric vehicles and

alternative power sources will become much a bigger issue in the upcoming years. Other risks

and problems might be more important and challenging to these firms today, but the

importance of reducing the global dependence on oil will rise constantly.

From applying concepts like competitive advantage (Porter, 1981), transaction cost

economics (Williamson, 1981) and strategic disruption (Averyt & Ramagopal, 1999), we find

that oil companies react in a dual mode to the threat of substitution of gas engines by e-cars

by (1) using strategies like diversification and prolongation in trying to turn the threat into an

opportunity and by (2) trying to delay the switch to e-cars. Whereas oil and gas companies are

trying to improve efficiency of their products and try to provide substitutes of a similar kind

(e.g. natural gas instead of gasoline) – which in this paper is referred to prolongation – they

will also need to constantly diversify their field of business and consequently their source of

revenue. Regarding EVs, oil companies might try to reduce the success of EVs by trying to

change their governance structure. The reason is that oil companies will have to fear losing

governmental support (e.g. tax benefits in the USA), monies that most likely will flow into the


30


support of EV-technology and also infrastructure suitable for EVs. Two aspects might be a

powerful argument in this discussion. The first is that oil companies could state that charging

EVs at the same time (in the evening) might affect the power supply for different sectors.

Secondly, they might argue that currently used batteries do not offer sufficient range for daily

traffic and have to be disposed of correctly at the end of their life time.

On the other hand it is quite clear that the electrification of traffic will be a slow, gradual

process - a process with which the power suppliers will have to deal with by enlarging

capacities and improving efficiency. As argued by Maass (2009), national stakeholders

naturally also play a role, “Though oil provides fuel for our cars and warmth for our homes, it

undermines most countries that possess it and, along with natural gas and coal, poisons the

environment. We need to find another way”. This issue could be investigated in further

research e.g. applying stakeholder analysis.


31


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