2010 Energy Outlook

March 2, 2010

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Energy usage will be a critical factor in the future of the industrial sector, not to mention the U.S. economy as a whole. Power generation and distribution, energy pricing and consumption, and raw-materials availability all remain key concerns, particularly as many businesses continue to focus on keeping costs low, minimizing production delays and meeting demand levels. Examining near- and long-term projections, IMT looks at prospects for the energy sector and what they will mean in 2010 — and beyond.

Energy Pricing and Projections Energy pricing for traditional power resources will be an important consideration for companies, particularly as the global economy emerges from the recession and businesses increasingly try to balance growth with production costs.

According to the Annual Energy Outlook 2010 from the United States Energy Information Administration (EIA), released in December, world oil prices generally rose through 2009 and are likely to continue rising gradually as demand for liquid energy outpaces supply from the Organization of the Petroleum Exporting Countries (OPEC), eventually reaching $133 per barrel in 2008 dollars ($224 in nominal dollars) in 2035.

In 2035, the EIA also projects that real prices for motor gasoline and diesel will reach $3.91 and $4.11 per gallon, respectively, in 2008 dollars, with stronger growth in demand for diesel. Natural gas wellhead prices will begin increasing after 2012, reaching $8.06 per thousand cubic feet in 2035. Due to increases in coal production west of the Mississippi River, coal prices are expected to fall from $31.26 per short ton in 2008 to $28.10 per short ton in 2035. Electricity prices, closely tied to natural gas prices, are expected to rise from 9.8 cents per kilowatthour (kWh) in 2008 to 10.2 cents per kWh in 2035.

Despite long-term moderation, energy prices are projected to generally shift upward in the near future.

"Unlike the start of 2009, when costs had nowhere to go but down, and cost-reduction was a large part of the profit margin improvement we began experiencing in mid-2009 (as oilfield services costs fell 30 percent-40 percent), costs now appear set to climb (albeit modestly, in our opinion)," economics blog Seeking Alpha reports.

According to the EIA's Short-Term Energy Outlook, released in February, average crude oil prices are expected to rise to $81 per barrel over the second half of 2010 and $84 per barrel in 2011. Due to rising oil costs, gasoline prices will increase from $2.35 per gallon in 2009 to $2.84 in 2010 and $2.97 in 2011.

Natural gas is expected to climb from a 2009 average of $3.95 per million British thermal units (Btu) to $5.37 per million Btu in 2010 and $5.86 per million Btu in 2011. However, electricity costs are expected to fall from 11.6 cents per kWh in 2009 to 11.5 cents in 2010, before rising to 11.7 cents in 2011.

As the economic recovery progresses and demand for energy products begins to rise, the energy market is expected to consolidate more through mergers. "After a two-year slowdown in mergers and acquisitions in the industry, companies are once again looking for ways to use their checkbooks to expand their reserves, buy new technology or snap up promising oil and gas fields," the New York Times reports.

Energy Consumption and Efficiency In terms of consumption, the EIA predicts that increasing industrial demand for fuel, a shift from lighter to heavier crudes in manufacturing and the growth of biofuel production will mean "the share of industrial energy use by the energy-intensive industries grows slightly, from 67 percent in 2008 to 70 percent in 2035, despite declines in energy consumption for several other industries."

A December 2009 report from ExxonMobil estimates that due to economic and population growth, global energy demand will rise by 1.2 percent per year through 2030, resulting in 35 percent more energy consumption two decades from now than the 2005 average.

"It's important to note that while economic growth drives energy demand, because of expected gains in energy efficiency, our projected rate of energy-demand growth (1.2 percent) is less than half the rate of global GDP growth (2.7 percent) through 2030... gains in energy efficiency through 2030 will curb energy-demand growth through 2030 by about 65 percent," ExxonMobil explains.

Increasing efficiency will be vital for meeting future added demand. According to a July 2009 McKinsey & Company report, a $520 billion investment in optimizing U.S. energy efficiency through 2020 would yield $1.2 trillion in gross energy savings and reduce end-use energy consumption by 9.1 quadrillion Btu, or roughly 23 percent of projected demand over the next decade.

McKinsey outlines specific measures that can be used to improve energy usage nationwide: recognizing energy efficiency as a way to meet future energy needs; implementing proven, piloted and emerging efficiency strategies on national and regional levels; identifying sources for funding upfront energy investments; forging greater alignment between utilities, manufacturers, regulators, government agencies and consumers; and fostering innovation in new energy technologies.

Since 1980, industrial energy consumption per real dollar of GDP has declined 41 percent, and "many studies indicate efficiency plays a role in these reductions," the report notes. According to McKinsey's findings, tapping into the full efficiency potential could further reduce end-use energy consumption in the industrial sector by 19 percent and primary energy consumption by 21 percent.

"In 2009, energy efficiency has risen to a new level of recognition in the U.S. and is a resource that is increasingly being called upon at the state level," the American Council for an Energy-Efficient Economy reports. "In the race for clean energy resources, states are adopting aggressive energy efficiency policies, increasing investments in efficiency programs, and improving efficiency in their own facilities and fleets."

Raw Materials Costs Outlook Raw materials costs play an important role in the energy sector and will affect numerous other industries in the coming year. A September 2009 survey from supply resources firm Prime Advantage found that raw material cost pressure was the top concern among 53 percent of manufacturers, making it likely that managing these costs will remain a priority in 2010.

"It's not as though the worries are misplaced. For most manufacturers, materials costs (not just raw) make up the largest component of their cost of goods sold, even as labor costs seem to attract the greatest attention," IndustryWeek explains. "Now, of course, the upward price creep is unmistakable as conversation about a recovering economy gains steam."

According to the latest producer price index from the U.S. Department of Labor, released in February, raw materials prices rose 9.6 percent in January, the largest increase since November 2006, with energy materials prices alone surging 16.8 percent.

From October 2009 to January 2010, crude energy materials prices climbed a total of 27.5 percent, following a 9.4 percent increase over the previous three months leading to October. Intermediate energy materials prices rose 6.9 percent, the largest increase since a 9.6 percent jump in November 2007, largely due to a 20.4 percent rise in diesel fuel prices.

"What should U.S. manufacturers be doing in the face of such raw materials volatility? Don't sit still, experts say. Rethink purchasing strategies, assess risk and consider changes to your production processes," IndustryWeek advises. "Actions taken today can mitigate raw material risks in the future."

Earlier: Outlook: Raw Materials, Energy and Materials Handling

Resources

Annual Energy Outlook 2010 U.S. Energy Information Administration, Dec. 14, 2009

Energy Outlook 2010: Gas and Oil Still at Odds by Eric Chenoweth Seeking Alpha, Feb. 1, 2010

Short-Term Energy Outlook U.S. Energy Information Administration, Feb. 10, 2010

Energy Company Mergers Are Expected to Rise by Jad Mouawad The New York Times, Feb. 16, 2010

Outlook for Energy: A View to 2030 ExxonMobil, December 2009

Unlocking Energy Efficiency in the U.S. Economy McKinsey & Company, July 2009

...Recession Not Dimming States' Growing Focus on Energy Efficiency... The American Council for an Energy-Efficient Economy, Oct. 21, 2009

... Manufacturers Becoming Optimistic About Economy Prime Advantage, Sept. 29, 2009

Raw Material Risks by Jill Jusko IndustryWeek, Oct. 21, 2009

Producer Price Indexes — January 2010 U.S. Department of Labor, Feb. 18, 2010

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