The energy transformation requires large investments, especially for new innovative technologies. However, success will be achieved by those who choose an investment direction in line with mega trends and in line with the goal of carbon neutrality by 2050.
The trends likely to drive the situation in the commodity markets of crude oil and fuels, petrochemical raw materials and electricity are as follows:
The centre of global economic growth and technologies is shifting from the US and Europe to China and Asia. The largest population growth rates are seen in Africa, where the climate change is most severe, while Europe, with its ageing demography, is under increasing migration pressure.
The COVID-19 pandemic has broken many inter-continental supply chains. The ‘just in time’ logistics models have been linked to or supplemented with ‘just in case’ models, increasing the current costs of economic activity but reducing the risk of interrupted supplies and the related costs. The continuing digitisation, which is in the intensive investment phase, builds the potential to reduce the cost of activity and enhances the ability to respond promptly to changes as they emerge.
Capital is flowing to areas where the growth rates are higher and where real interest rates are positive. The capital flow from the US and the EU to China and Asia strengthens RNB against other currencies. This time, China is refraining from measures to control appreciation of its currency, which is reflected in the weakening US dollar exchange rate.
The stronger RNB is translating into higher prices of Chinese products all over the world, both in the case of consumer goods (imported inflation in the US and the EU) and electronics and RES technologies, which drives up the cost of energy transition as the lion’s share of such equipment in the US and Europe originate from China and Asia.
The rate and cost of energy transition depend on access to scarce minerals and metals produced in China and Asia.
Offshore wind farms globally
Offshore wind power as an energy generation technology has been rapidly developing over the last decade and is likely to become one of the leading energy sources in the future. This is largely due to zero CO2 emissions, technological progress and lower electricity production costs.
The first commercial large-capacity offshore wind farms were built around 2010 and the industry has been continuously developing since then. The development is mainly seen in the growing unit capacity of turbines (up from approximately 3.6 MW to 14 MW in the case of turbines offered by market leaders), and thus larger capacities of entire offshore wind farms and increasing depths at which the turbines are installed. And this creates demand for larger and larger foundations, installation vessels etc.
At the beginning of 2020, offshore wind farms all over the world had installed capacity of 28.3 GW, of which 22 GW was located in Europe. The leaders of the European market are the United Kingdom (approximately 10.4 GW), Germany (7.7 GW), Denmark and the Netherlands. In Asia, most offshore wind farm capacities are situated in China. However, it should be noted that further projects are being developed and that at the end of 2028 the installed capacity of all offshore wind farms is expected to exceed 160 GW. By region, Europe will have the largest share of this capacity (84 GW), followed by Asia (67 GW) and North America (16 GW). Further development of the industry in these countries will be accompanied by growth on new markets, including the US, France, Taiwan and Poland. European countries (the UK and Germany) will certainly remain the market leaders with the largest number of completed farms, and this group will be joined by the US, being a new player, which is currently developing a number of new projects and investing extensively in its own supply chain.
The development of offshore wind power generation is supported by the energy policy of individual countries and organisations, such as the European Union. In November 2020, the European Commission presented the Marine Renewable Energy Strategy, which provides for the support for offshore wind farms necessary to expand the capacity installed in the EU (excluding the UK) to 60 GW in 2030 and 300 GW in 2050.
Development of offshore wind power generation in Poland
The potential of offshore power generation in the Baltic Sea is estimated at 83 GW, of which 28 GW is attributable to its Polish part. The plan for the development of offshore wind farms in Poland has recently been officially confirmed by the most recent drafts of the Zoning Plan of the Polish Maritime Areas (the “Zoning Plan”) and Poland’s Energy Policy until 2040 (“PEP 2040”), which are currently in the development and approval phase.
The Zoning Plan will identify the zones in which offshore wind farms will be permitted and will take precedence over other possible projects in this part of the Baltic Sea. The zones have favourable conditions for the development of offshore wind power plants (estimated water depth: 25 to 50 metres, estimated average annual wind speed at the hub height: 9–10 m/s, insignificant tides, low salinity, and total area of approximately 2,500 sq. km). Numerous investors are interested in developing projects in the Polish Exclusive Economic Zone where offshore wind farms may be located.
At present, development work is underway on projects for which permits have been obtained to construct and use artificial islands, structures and facilities in Polish marine areas (the PSZW permits). These are: Baltic I (Polenergia/Equinor), Baltic II (Polenergia/Equinor), Baltic III (Polenergia/Equinor), Baltic II (RWE), B-Wind (EDPR/Engie), C-Wind (EDPR/Engie), Baltic Power (Baltic Power from the ORLEN Group), Baltica 1 (PGE), Baltica 2 (PGE) and Baltica 3 (PGE).
In January 2021, the Act on the Promotion of Electricity Generation in Offshore Wind Farms was passed and signed. It provides a legal framework for the development of wind farms in the Baltic Sea. In accordance with the new regulations, in the first phase of the support scheme for offshore farms with a total installed capacity of 5.9 GW aid will be granted by way of an administrative decision by the President of the Energy Regulatory Office (URE). Further projects will participate in auctions organised on a competitive basis. The first auction will be held in 2025 and the second one in 2027 (each for farms with a total installed capacity of 2.5 GW).
Electricity prices will be driven by two factors related to energy transition. On the one hand, we will probably see growth in the prices of emission allowances and their average price of approximately EUR 35/tonne in 2021–2025 (with significantly higher prices expected over a longer term, at approximately EUR 50/tonne). On the other hand, the rising share of wind and solar energy in Poland’s energy mix will reduce the wholesale cost of energy, which is based on the national merit order curve, dominated by coal-fired generation. Against this background, gas-fired cogeneration is expected to become a source of predictable revenue with a stabilising effect on the Company’s financial performance.
Uncertainty on oil and fuel markets
The effects of the pandemic led to a decline in demand for fuels from transport, and refineries responded with a sharp reduction of their crude oil purchases. The current balance on the oil market has been restored through major production cuts, which pushed up oil prices. Price growth is under pressure from existing crude oil and fuel stocks (limiting current production growth), as well as increased reserves in hydrocarbon fields (ready for immediate production by OPEC countries and Russia).
Refineries have reduced their fuel output in line with current demand, but have not yet adjusted their production capabilities to the permanent decrease in fuel demand from the transport sector. The high share of idle refining capacities is weighing on fuel prices, as well as product and refining margins. It is estimated that the global refining industry’s production capacities should be reduced by 3.8 mbd by the end of 2024. This estimate takes into account the new refineries that are to be placed in service during that period, mainly in the Middle East and Asia, whose potential is estimated at 5.7 mbd. In 2020, just over 2.2 mbd of refining capacity was decommissioned globally. For a more significant reduction to materialise, refining margins need to remain low, below the profitability threshold for many refineries. Independent European refineries that sell fuels to seaports are most exposed to the capacity reduction risk, as they compete directly with fuel supplies from refineries in the Middle East and Asia. Integrated inland refineries, which are links in longer value chains, are least exposed.
Demand for liquid fuels is weakening in the long term due to structural reasons. The efficiency of combustion in ICE engines and performance per 100 km (due to hybridisation) are improving, the share of biofuels and alternative fuels produced outside refineries is increasing, as is the share of electric cars in the total number of passenger vehicles, and demand forecasts take into account the development of alternative drives, including ones using hydrogen. The shrinking market means deteriorating prospects for hydrocarbon production, which discourages investment although crude oil will still be needed in transport. This situation makes oil prices more susceptible to changes and generates price cycles.
Crude oil production activity in the US is currently dictated by Saudi Arabia and Russia, as these two countries have regained control over oil prices, which determine production levels in the US.
An economic rebound in the US and increase in fuel demand after the pandemic will cause the US position to change from that of net oil exporter to net oil importer. Crude oil production in the US declined sharply in 2020 (by nearly 3 mbd). A recovery is made difficult by market sentiments turned against investing in oil production and the Joe Biden administration’s new US Energy Strategy, which assumes acceleration of energy transition. Brent oil prices are expected to range from USD 50/bbl to USD 80/bbl in the coming years. China is the largest oil consumer. In 2020, China took advantage of the low prices and purchased crude oil on a huge scale. Its oil imports were record high, up 7.3% year on year, despite the impact of the pandemic in China at the beginning of 2020 and no import data for January and February 2020. The highest volumes of Chinese crude oil imports were seen in the period May−September 2020. With its existing oil reserves China can maintain an active procurement policy. It is estimated that China ceases to buy oil and uses its stocks when the prices reach USD 80/bbl, while this is a price level that encourages investment in production in the US. With prices at USD 50/bbl, China rebuilds its stocks and OPEC and Russia cut supplies.
The likely underinvestment in production will result (through asset cycles) in a large susceptibility of oil prices to changes, which, given the overcapacity of refineries and the difficulty in passing oil price hikes onto fuel prices, will be reflected in increased dependence of refining margins on changes in oil prices.
Petrochemicals are the oil industry segment that is expected to grow faster than GDP. The world needs materials, and their production from crude oil and natural gas is more environment- and climate-friendly than production from alternative inputs. The global potential of the petrochemical business is growing, while expectations of low prices of gasoline and kerosene relative to oil prices over the next few years increase the attractiveness of kerosene-based petrochemicals.
On a global scale, experts even speak of a potential risk of overinvesting in the petrochemicals segment, by analogy to the situation that occurred in the global oil industry in connection with the IMO regulation, when the decline in demand was accompanied by the emergence of a new bunker fuel, pushing bunker diesel out of the market.
In Central Europe, the risk of overinvesting in the base petrochemicals is mitigated by the shortening of supply chains and using local sources of raw materials.
Petrochemical margins should remain close to their past ten years’ average. The increase in petrochemical margins in 2015–2018 was exceptional and due to a sudden decline in oil prices following the shale revolution.
Fluctuations in petrochemical margins in the short term will be driven by the expected higher volatility of oil prices.
PKN ORLEN believes that the European Green Deal is an opportunity for Poland and Central Europe to transform their power systems, and for ORLEN to create new business lines and take the position of a leader in energy transition.
The Paris Agreement has set the objective of maintaining global warming within the limit of 1.5°C. One way to reach it is to achieve carbon neutrality by 2050. In line with this objective, in September 2020 PKN ORLEN announced its ambition to become a net zero company by 2050 with respect to its own assets, as part of a broader transition strategy. At the same time, the Company announced its operational target: reduction of CO2 emissions from its existing refining and petrochemical assets by 20% by 2030 relative to the base year 2020, and cutting down CO2 emissions per MWh by 33%.
ORLEN recognises the EU climate agenda as an appropriate path to achieve the objectives of the Paris Agreement. It intends to consistently harmonise its CO2 emissions reduction efforts with the emissions reduction rate set by the EU for the economy sectors relevant to the Company’s operations. At the same time, ORLEN points to the need for equal treatment of individual sectors of the economy, taking into account all CO2 emissions over a product’s life cycle, and for preventing exports of emissions to countries outside the EU.
More information incl. on the consequences of the COVID-19 pandemic and the energy transition, see 'Outlook 2021+'.