One area of specific concern is the potential $381 million in cuts to energy innovation investments at the DOD – a 25 percent cut compared to FY2012 levels. Since 2009, DOD has invested $5 billion in clean energy research, development, testing, demonstration, and procurement, representing almost 25 percent of U.S. clean energy funding in FY2012. DOD’s focus on clean energy innovation is important for three reasons:

• The DOD has been the source of some of the last century’s most important breakthrough technologies, including the Internet, GPS, and microchips and it could have a similar impact on clean energy technologies like batteries and smart grid;
• The DOD has developed its own cohesive innovation ecosystem that bridges its investments in research to its procurement budget and actual use of new technologies in the battlefield, which allows for accelerated pathways for technology development;
• The DOD budget is typically not politically controversial in comparison to other sources of energy innovation investment like the Department of Energy, assuring consistent funding over time rather than periods of boom and bust.

During the past five years DOD has quickly ramped up its energy innovation investments to address strategic challenges impacting warfighters, such as protecting liquid fuel supply lines and addressing the geopolitical consequences of climate change. But budget sequestration threatens to slow, or even halt, these efforts.

(Related: Future of DoD’s Biofuels Program Should Not Be Sacrificed to Tight Budgets)

According to the Budget Control Act of 2011 – the legislative vehicle for the sequester – the DOD budget must be reduced by 9.4 percent beginning in FY2013 from its FY2011 budget and then remain at those levels with minimum increases through FY2021. The severity of sequestration indicates that most programs will feel at least some budget pain, but it’s unclear how each energy program or project will specifically be impacted until DOD leadership decide how to allocate the cuts. Even so, we can estimate how much investment in energy innovation will be reduced at DOD if cuts are made across-the-board.

ITIF’s Energy Innovation Tracker details each of DOD’s energy innovation projects in an easy to use database and provides a good baseline to estimate sequestration cuts. According to the Tracker, the DOD invested roughly $1.5 billion in energy innovation in FY2012, which I’ll use as a close proxy for this year’s budget because Congress simply passed an FY2013 Continuing Resolution rather than a new budget. I also group DOD’s energy innovation budget into two buckets: (1) research, development, testing, and demonstration; and (2) procurement.

Table 1 estimates cuts to energy research, development, testing, and demonstration programs. The second column represents DOD’s energy research budget baseline in FY2011 using Tracker data. The third column represents DOD’s energy budget in FY2012. Assuming the DOD cuts each of these tranches of research funding evenly, I estimate the 9.4 percent cut to each services research budget compared to the FY2011 baseline in the third column. The total estimated sequestration cut compared to DOD’s FY2012 budget is shown in the last column. Based off of these assumptions, sequestration cuts $195.7 million from DOD’s FY2012 energy research budgets, or roughly 19.6 percent.

Table 2 details the same estimation as Table 1, but for DOD’s energy procurement investments. Sequestration cuts $185.2 million from DOD energy procurement investment in FY2012, or a total cut of 38 percent. In total, I estimate that sequestration is cutting DOD energy innovation investments by $380.9 million, or 25.7 percent from its FY2012 budget of $1.5 billion.

What does this mean for DOD energy innovation? Immediately, sequestration is reducing the Army’s ability to develop and demonstrate new hybrid and all-electric vehicle technology for its Green Warrior Convoy, and the Navy’s ability to develop highly efficient power electronics systems in the pursuit of electrifying its ship fleet. It also may reduce DOD’s ability to procure next-generation biofuels for both the Air Force and the Navy, and advanced mobile electric grid systems for the Army. These innovations in power generation and use have the potential to spill over into commercial markets with DOD’s research, testing, and procurement support.

Of course, cuts to DOD’s energy innovation programs may be more or less severe depending on how the DOD prioritizes projects. These estimates don’t attempt to prioritize programs, rather give a sense of how an across-the-board sequestration would impact DOD energy innovation. Nonetheless, to make the numbers work, DOD will almost certainly have to scale back its energy innovation investments to the detriment of its long-term ability to meet its energy security goals.

And at least up until now, DOD has shown an interest in not cutting some of its energy innovation investments. For example, it recently announced a new round of procurement for next-generation biofuels as part of its effort to diversify its liquid fuel options. It’s also moving forward with its planned $7 billion Multiple Award Task Order Contract program through the Army Corp of Engineers. The DOD is contracting renewable energy companies to build and maintain renewable electricity generation projects and in exchange, DOD will sign a long-term power purchase agreement (PPA). DOD just signed agreements for geothermal-based electricity generation projects and will announce other renewable sources later this year.

Only time will tell whether the DOD decides to cut $381 million from its budget elsewhere or decide energy innovation must take a big hit. As ITIF has written before, decisions like these are being made across the federally funded innovation enterprise, as sequestration could potentially cut $12.5 billion from public research budgets. DOD’s ramp-up of investment in energy innovation in recent years shows the significant interest of the defense industry to accelerate the development of energy options for security and mission flexibility. Sequestration could slow – or even stop – these efforts.

Stronger natural gas prices are good news for some and bad news for others. Natural gas producers like Chesapeake Energy Corporation (NYSE:CHK) were hit especially hard as gas prices fell. Between June 2011 and April 2012, CHK’s share price declined 25 percent. But over the past 12 months, CHK has rallied 36 percent as gas prices recovered. Since Chesapeake is the nation’s second-largest producer of natural gas, it’s not surprising that its shares track the price of the commodity. The company isn’t diversified, so it is nearly a pure play on natural gas.

(Related: Short-Term Trend in U.S. Natural Gas Prices Point Higher)

However, Chesapeake isn’t the nation’s largest producer of natural gas. That distinction goes to ExxonMobil (NYSE:XOM). ExxonMobil shares have underperformed in recent years because of the company’s ill-timed $41 billion buyout of natural gas producer XTO Energy in 2009. The week the deal was announced natural gas fetched close to $6 per MMBtu. The acquisition of XTO made Exxon the largest US natural gas producer just as prices began a long decline. By June 2012 CEO Rex Tillerson was admitting that “We are losing our shirts” on natural gas production because of low prices.

As a result, ExxonMobil’s share price has lagged that of competitors like Chevron (NYSE: CVX), whose natural gas production is a much smaller part of its business. Over the last five years CVX is up 23 percent, the S&P 500 17 percent, and XOM a mere 1 percent. (Keep in mind that this time period includes the oil price crash of 2008.) Over the past 10 years CVX is up 265 percent and XOM 154 percent, but CVX only began to seriously outpace XOM in 2009 — the year the XTO acquisition took place.

ExxonMobil wasn’t the only oil producer to have made an ill-timed foray into natural gas. The timing was even worse for ConocoPhillips (NYSE: COP), which acquired Burlington Resources for $35.6 billion in 2005 (when I was still working for COP). At the time, natural gas prices were hovering near $15 per MMBtu and many were predicting that they might stay that high for years. As with ExxonMobil, ConocoPhillips shares fell behind those of competitors as natural gas prices declined, a trend that only reversed once the company spun off its refining business in April 2012.

(Related: World Energy Consumption Facts, Figures, and Shockers)

So, if you are of the opinion that natural gas prices will retain strength in the coming months, the companies to target for superior performance are obviously the natural gas producers, especially those with the greatest potential to profitably grow their output. Given their heavy investments in natural gas, ExxonMobil and ConocoPhillips, along with Chesapeake, stand to benefit from the recovery in natural gas prices. Chesapeake has already made a strong upward move, so they may not have much upside left unless gas prices continue to rise. But I expect XOM and COP to outperform over the next 6-12 months as long as gas (and oil) prices remain strong.

Next week I will discuss the potential losers from higher natural gas prices, some of which are far from obvious.

Link to Original Article: Who Wins from Rising Natural Gas Prices?

By Robert Rapier

In a previous article I argued that climate policy advocates should make energy innovation part of their policy elevator pitch. A good opportunity to start is now available through the debate on reforming and re-authorizing the America COMPETES Act.

Within the climate advocacy community there are those that argue for aggressive clean energy innovation policy (such as myself) and those that argue for aggressive deployment of existing clean energy technologies (such as Center for American Progress’s Joe Romm and 350.org’s Bill McKibben). Each provides different policy emphasis and nuance. Today, deployment policies receive higher priority, reflected in it dominating the narrative among advocates as well as dominating the portfolio of U.S. public investments in clean energy. As a result, conflict occurs over what policy changes should be made.

As Grist’s Dave Roberts argues (correctly to a degree), both “camps” agree on a lot and everyone should aggressively work for clean energy to be a national priority to “lift all boats,”—both innovation and deployment of today’s technologies alike. How then should this consensus be reflected in our pitches to policymakers?

In my earlier piece I proposed what my two minute energy innovation pitch would look like, but many climate hawks like Bill McKibben (in the comment section here) asked how they could advocate for more specific energy innovation policies. Here’s how they can start: push for reform and re-authorization of the America COMPETES Act.

The America COMPETES Act is Important Climate and Innovation Policy

Don’t be fooled by the lack of “climate” in the policy title — COMPETES is just as important to addressing climate change as it is to its originally stated goal of strengthening U.S. international competitiveness. The legislation, originally enacted in 2007 and reauthorized in 2010, directly supports science and technology institutions that underpin U.S. innovation, particularly in clean energy.

This included calling for the doubling of budgets for key science programs by 2018 that directly impact clean energy, including the Department of Energy’s (DOE) Office of Science and the National Science Foundation (NSF). It also authorized increasing the budget of the National Institute of Standards and Technology (NIST), which supports energy innovation in electric grids, nanotechnology, material science, and manufacturing. Furthermore, COMPETES authorized the creation of DOE’s ARPA-E which invests in breakthrough clean energy technologies. Finally, COMPETES authorized a number of additional institutional reforms to enhance collaborative research, as well as a long list of educational reforms to  increase the number of individuals entering STEM disciplines, a vital component to a growing clean energy industry.

In other words, the COMPETES Act strengthens the very foundation that the emerging clean energy industry must rely on for present and future growth. Without aggressive support for these programs, the U.S. clean energy industry won’t have a strong and constant flow of new ideas and technologies to expand their markets and continuously cut costs. And without reforms to U.S. STEM education policies, emerging high-tech companies in clean energy may not have access to a large pool of qualified scientists and engineers, which will be particularly necessary if the United States continues to push for more competitive energy manufacturing industries.

Congress Must Reform and Reauthorize the America COMPETES Act

This is where climate hawks can play a role. The COMPETES Act must be reauthorized by the end of 2013 to continue support for many of the funding trends, programs, and reforms that are important to climate policy. It is also an opportunity to introduce or extend effective energy innovation programs that will directly impact clean energy. Climate advocates could lend aggressive support for doing both to help ensure that the foundation of U.S. clean energy innovation — and by definition our ability to address climate change — does not deteriorate after 2013.

ITIF recently released a new report that describes 25 policy recommendations Congress should implement as part of the COMPETES reauthorization. A number of these are expressly important to clean energy, so I’ll highlight three groups of proposals here.

First, the COMPETES reauthorization should put the United States back on a path to double funding for key science and technology programs (e.g. DOE Office of Science, NSF, and NIST) by 2018. If you extend the original baseline for doubling the budgets of these agencies from their 2008 starting point, each are about 23 percent below where they should be to meet their 2018 goal, assuming a straight-line increase. If we factor in sequestration, the short-fall is even worse. This is a good opportunity for hawks to support budget increases in key innovation programs that have received overwhelming bipartisan support in the past and are central to climate advocacy.

Second, the COMPETES reauthorization should add significant public support for U.S. advanced manufacturing. One way this could be done is by designating at least 20 U.S. “Manufacturing Universities” that would revamp their engineering programs to focus more on industry-relevant manufacturing engineering rather than just pure engineering science. Some of these manufacturing universities could be designated in states with growing renewable energy industries and could re-orient their engineering programs to focus on manufacturing issues related to next-generation solar cells, new wind turbine blades, new battery chemistries, and additional clean energy technologies.

Another way to support advanced clean energy manufacturing is to fully fund the National Network for Manufacturing Innovation (NNMI). As proposed by ITIF and supported by the Obama Administration, NNMI aims to create 15 industry-defined regional institutes that would bring together universities, companies, and researchers to develop, test, and implement cutting-edge capabilities and equipment. The President announced the first clean energy-related institute for power electronics manufacturing, which is central to deploying cheaper, more efficient smart grid technologies, electric vehicles, and renewable power. Climate hawks should aggressively support fully funding the initiative (a one-time investment of $1 billion to create the institutes).

In both cases, climate hawk support could accelerate the deployment of clean energy technologies as well as seed domestic firms with high-skilled engineering talent.

Third, the COMPETES reauthorization should reform the DOE’s National Laboratory system to accelerate the transfer of new clean energy technologies from Lab to market. This could include adding more weight for technology transfer in the DOE’s Lab Performance and Evaluation Measurement Plans (PEMP), the equivalent of the Labs’ report card from DOE. As it stands today, moving clean energy technologies to market is a significantly low priority for the Labs, and the PEMP is one of the reasons. Another is to allow the Labs to invest limited “overhead” funds in early-stage demonstration and other technology maturation activities to move research closer to the pilot and proof-of-concept stages, so that clean energy companies can more easily commercialize these technologies. In absence of additional research investment, projects targeted for these funds would just sit on the shelf rather than making U.S. clean energy companies more competitive.

Building climate advocacy support for foundational innovation policies like the America COMPETES Act just makes sense. It helps protect and expand the clean energy research base, enhances the deployment of clean energy technologies, and builds a robust manufacturing and engineering base that U.S. clean energy companies need. This surely fits Dave Roberts’s bill of a “lift all boats” approach to climate policy and it should be an easy rallying point for everyone.

Walgreens says that lighting retrofits completed at 80% of its locations nationwide not only saves money, but also improves the customer experience.

When it comes to energy efficiency, retailers are on a roll. Convenience store chain Wawa announced last year that it saves over $1 million a year in energy costs thanks to an LED lighting retrofit. Nationwide department store Kohl’s saved $50 million in energy costs over four years and has continued to improve its energy performance with lighting and energy management systems upgrades.  As a result, Kohl’s claims, “we have one of the lowest energy usages per square foot in the retail industry.”

Walgreens, the country’s largest drugstore chain, recently completed lighting retrofits at 80% of its locations nationwide. The company said this change not only saves money, but also improves the customer experience: “Colors appear more vibrant and more like they would in daylight, so customers don’t need to second guess themselves in the cosmetics aisle.”

For retailers like these, energy efficiency offers an edge over their competitors. It’s about the bottom line, pure and simple.

The quest for a competitive edge may explain why retail stands out as the only sector of the commercial real estate industry that has shown appreciable success in overcoming the plague of the “split incentive.”

Quick background on the split incentive: in most leased buildings, the owner is responsible for capital improvements, including most energy efficiency upgrades, while the tenant often bears responsibility for the utility bill. The owner, therefore, has no incentive to invest in energy efficiency. (For a more detailed explanation, see “Why Energy Efficiency and Buildings Don’t Mix”.) Yet a recent evaluation of a retail-oriented energy efficiency program in Wisconsin indicated that approximately half of participating retailers completed retrofits in leased spaces.*

We can’t say exactly why the Wisconsin program had such a good response from retail tenants, but I suspect that the structure of retail leases plays a part.  Compared to a standard office lease, the most common type of retail lease gives the tenant much more control to make improvements. Could this arrangement work as a model for a “green lease” in other types of buildings? Tell me your thoughts in the comments.

*Full disclosure: I worked on this evaluation as part of my responsibilities at Cadmus.

Biofuels Leader

The military has been a leader in the development of biofuels – for good reason. As I’ve written before, the military’s single-source dependence on petroleum for fuel is a strategic vulnerability. Oil has a monopoly on energy supply for 80% of our military’s energy needs, including virtually all of the non-nuclear transportation. To simply accept that oil is going to remain as the sole source of liquid fuel that the US military relies on for its transportation, operations, and training is to say that we should accept the long-term strategic risks of price volatility and dependence upon uncertain foreign countries.

We should remember that, even if the military uses oil solely from the United States and its allies, the price that the Defense Logistics Agency pays for oil is largely set by global market conditions – and saying that those are highly vulnerable to conflict and unrest in the Middle East is an understatement.

(Related: The Operational and Strategic Rationale Behind the U.S. Military’s Energy Efforts)

Last year, in an attempt to address this threat, the Department of Defense, the Department of Agriculture, and the Department of Energy were authorized under the Defense Production Act (DPA) to support the development of an alternative source of fuel. The funding agreed in a joint memorandum, and appropriated by Congress, each agency will invest $170 million over three years in helping to build a domestic biofuel industry (read more about the DoD’s biofuels policy here). This funding will be matched by investment from the private sector. Over the past several months, the agencies have been deliberating over which companies will partner with the government.

In many ways, the Navy has taken a lead on the transfer from oil to biofuels, as is appropriate for a branch that pioneered the move from sail to steam, coal to oil, and nuclear propulsion. In the summer of 2012, the high-profile test of the “Green Strike Group” – run on a 50/50 blend of biofuel – at the RIMPAC exercises off Hawaii were a clear sign of the importance that the Navy places on biofuels. However, the Air Force also has issued aggressive goals on biofuels: it claims that it will be able to use biofuels for 50% of its domestic fuel use by 2016.

On a political level, the DoD biofuel program has been under fire from (some) Capitol Hill Republicans for more than a year. However, a diverse coalition of supporters of biofuels, including farm-state Republicans like Nebraska’s Mike Johanns and Iowa’s Chuck Grassley, have beaten back the politically motivated attacks. The political heavy lifting of approving this program has already been done: the will of Congress is clearly that this program should go forward.

What About Sequestration?

Admittedly, the military is facing a tough budgetary environment, and across the board sequestration cuts mean that virtually every area of the military has been harmed. These cuts are already harming readiness, undermining the acquisition and training process, and are slashing much-needed research and development. However, even in the face of such cuts, an investment in deploying advanced biofuels is important. Even if the government could reprogram the funding intended for the biofuels DPA (something that is likely not allowed under current law), it is a mistake to slash investment in the future.

The question of how to fund investments in the next-generation is fundamental to building the fighting force of tomorrow. There is a natural tendency during downturns to cut investment – but it is precisely the opposite of what we should be doing. On a national scale, Dwight Eisenhower faced a deep recession in 1957-1958, with GDP falling by 7.1% in the fourth quarter of 1957, then falling by an astounding 10.4% in the first quarter of 1958. In precisely that time, however, President Eisenhower proposed, and Congress enacted, the National Defense Education Act which significantly increased federal support to education in science, math, and foreign languages. As detailed in August Cole’s post on ASP’s Flashpoint blog, the Soviet’s ‘Sputnik’ threat inspired massive R&D investments; the strategic threats of oil dependence should also inspire investment.

In contrast, today’s Congress is forcing the government, including the Department of Defense, to make harmful across-the-board cuts. The stupidity of Congress’ actions, however, should not excuse military and civilian leadership in the Department of Defense from making the important investments into the future; it is strategically important for the military to develop new sources of energy like biofuels. The military has long been a catalyst for technological advancement – and a successful biofuels industry will have impacts across society.

Protect Your Downside

With all the crosscurrents in the markets, Europe in recession, Japan with no economic growth, and the U.S. registering slow GDP growth that keeps energy demand sluggish, and continued high volatility in oil and gas prices, I remain cautious in the energy sector. However, although cautious I am not absent from the market as I do believe that with a diligent and “defensive” investment philosophy one can achieve positive results over the long-term.

(Related: Three Reasons to Invest in Energy Long-Term)

Indeed, as I have outlined in several of my energy trend notes over the last few weeks, I remain bullish long-term in energy equities, as investors will continue to be attracted to energy equities due to long-term structural supply/demand imbalances that will continue to see demand – consumption increasingly outpace production growth.

Invest Defensively for the Long-Term

The key is to pick and choose wisely by not focusing on the overall broader energy market, but to seek out energy stocks that are “infrastructure” related as pipeline MLPs, or niche providers to the energy market as offshore rig providers, deep water drillers and specialty pump and valve flow systems.

In the current market of volatile share price swings, seek out companies with high dividend yields or MLPs with high distribution yields that will protect your downside by providing support to share prices in down turning markets. I’m talking about specialty companies with above average dividend yields, solid balance sheets, low debt, a sound credible and simple business plan, and — most importantly — high growth prospects. And that brings us to our energy investment idea this week: Magellan Midstream Partners LP (NYSE: MMP).

Magellan Midstream Partners LP (MMP)

If you like a company that:

• has outperformed the broader energy market (XLE) over the last two years;
• has continually moved higher over the long-term;
• recorded consistent positive free cash flow since 2007;
• provides favorable tax treatment on your dividends;
• a high dividend yield;
• high growth prospects;
• a strong balance sheet;
• and believe infrastructure is underinvested in the U.S. energy sector,

then you should like Magellan Midstream Partners LP (MMP), a master limited partnership or MLP, which due to its capital tax structure has to return 90% of its income to investors.

In a nutshell, MMP transports, stores and distributes petroleum products. It operates the nation’s largest refined petroleum products pipeline, operating in three business segments: petroleum pipeline system, petroleum terminals, and ammonia pipeline system. Its petroleum pipeline system runs roughly 9,600 miles of pipeline and 50 terminals. Its petroleum terminals include storage terminal facilities of which six marine terminals are located along coastal waterways and crude oil storage terminal in Cushing, Oklahoma and 27 inland terminals.

MMP’s recent high visibility project has been the reversal of the Longhorn crude oil pipeline in mid-April from Crane, West Texas in the oil producing Permian Basin directly to Houston refineries. The reversal allows crude oil to be diverted from its previous destination to the oversupplied Cushing, OK storage terminals. The Longhorn pipeline average delivery rate has been approximately 90,000 barrels per day (bpd) from mid-April through the second quarter, and ramping to its full 225,000-bpd capacity in the 3Q of 2013. Due to high shipping capacity demand, the company has indicated it may increase capacity by 50,000 bpd. At an estimated cost of $80 million, the expansion would take a year to 18 months to finish.

The company has noted that continued rapid growth in oil production in the lower U.S. 48, particularly in the Bakken and the Eagle Ford, will require additional pipeline infrastructure to move crude to refineries for processing.

MMP has roughly a $12 billion market capitalization and boasts a 3.80% dividend yield. What drives this stock is its strong positive free cash flow generation — a major financial metric I always pay close attention to when I look at stocks. MMP’s free operating cash flow is before any financing or capital investment spending decisions and that gives one a truer picture of the company’s internal operational strength; its ability to re-invest in its operations through its internal cash flow. Indeed, Magellan has reported positive free cash flow for 22 out of 25 quarters since 2007 through 2012.

(Related: Energy Industry Struggling to Generate Free Cash Flow)

The driver behind cash flow growth is essentially EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) generation, and that has been positive since 3Q 2009. Its financial strengths include a strong balance sheet with above average EBITDA-to-interest expense coverage ratio compared to its peers, no general partner incentive distribution rights, and very low to insignificant short interest exposure.

MMP has consistently exhibited positive upward momentum above its 50-day and 200-day moving averages over the last two years. Its longer term line of support is 47.49 at its 200-day moving average. Over the last two years on a rolling basis, MMP has outperformed the broader energy sector (XLE).

Conclusion: I like Magellan’s outlook as an infrastructure player building pipeline capacity from main oil producing regions like the Permian and Eagle Ford. It has a good dividend distribution yield that provides a floor of support to the stock, and has very little short interest. I recommend buying modest amounts particularly on any stock pullbacks toward its long-term line of support at 47.49. Place a firm stop-order limit at 47.00. BUY.

Price Target: 60.00 within the next six months.

Company Information:

Magellan Midstream Partners LP

One Williams Center

Tulsa, OK 74172

918-574-7000

http://www.magellanlp.com

(Related: The Energy Industry’s Production Challenge: 100 Million Barrels Per Day)

The new USGS assessment stated that the Three Forks formation had not been previously assessed, but that an assessment was warranted based on a rise in drilling and production in the formation. Inclusion of the Three Forks formation added an estimated mean resource of 3.73 billion barrels of oil to the estimated 3.65 billion barrels of oil in the Bakken formation for a total estimated resource of 7.4 billion barrels of undiscovered, technically recoverable oil in the two formations. The two formations were also estimated to contain a mean of 6.7 trillion cubic feet (tcf) of undiscovered, technically recoverable natural gas and 0.53 billion barrels of undiscovered, technically recoverable natural gas liquids (NGLs).

Figure 1. Location of the Three Forks Formation Assessment Units (AUs) in the Williston Basin. Inset map shows location of the Bakken Total Petroleum System (TPS). Source: USGS

The new assessment represents a doubling of estimated undiscovered, technically recoverable oil and a nearly threefold estimated increase in mean natural gas and mean NGL resources from the 2008 assessment. The increase in estimated resources is primarily due to the inclusion of the Three Forks Formation. However, Rigzone reported that a USGS spokesperson explained that the size of the Bakken estimate also increased:

“It’s deceptive, because although our current estimate of 3.65 billion barrels of oil for the Bakken is numerically the same as the 2008 assessment for the Bakken, you have to remember that oil companies have been producing millions of barrels of oil since the 2008 assessment, gradually transforming the undiscovered resources to the proven reserves then production barrels,” the spokesperson commented. “Because our assessments do not include proven reserves or produced barrels of oil, the 3.65 billion does represent an increase.”

While recognizing that “undiscovered resources” are not quite a bird in the hand, these estimates are likely to assure that the oil boom in North Dakota continues for some time. If nothing else, companies will be searching for oil there.

(Read More: The Effect of New Production Methods on U.S Oil Output)

How much oil does this represent? The US currently uses nearly 7 billion barrels of oil per year, so the total from the new assessment of undiscovered oil would represent just a bit over a year of US oil consumption at current rates. Petroleum imports have been declining, but the US still imports about 3 billion barrels of oil per year. Thus, in terms of imports, this new assessment of undiscovered oil amounts to a little over 2 years of US petroleum imports.

So, while it is a lot of oil, it is going to take a lot more than that to make the dreams of US petroleum independence come true. I do expect US oil production to continue to climb for another 3 to 5 years though, primarily as a result of a continued growth in oil production in the Williston Basin, as well as the Permian Basin and Eagle Ford Shale in Texas.

(Related: The Amazing Reversal of the US Oil Industry)

Link to Original Article: Estimate for Williston Basin Oil Resources is Doubled

By Robert Rapier

Over at OurEnergyPolicy.org the Alliance to Save Energy (ASE) is hosting a discussion on whether this bill is an effective approach to energy efficiency. While this is a positive step (and reducing waste does seem like a natural place for bipartisan support), I think there are some other simple steps we could take to move things forward faster, and one easy way would be to accelerate the adoption of proper evaluation of energy efficiency with mortgage lenders. Here was my response to ASE:

Laying the framework for updating building codes is a simple and obvious step towards promoting more efficient energy use in commercial residential and industrial buildings so yes, I think this is an excellent idea. The step that I would like to see, and that I believe would have a more material impact on investment in building efficiency would be to tie energy efficiency and use projections to the credit review process.

Efficiency upgrades are generally up front expenditures and the value is realized through savings over time. Often these are systems (or improved systems) that are integrated into a building and so not easily borrowed against as a lender can’t recover in the event of default because the specific energy efficiency upgrades can’t be removed and resold (challenges are both physical and legal).  Further adding to this challenge is that lenders (and appraisers) don’t accurately value efficiency upgrades, which means that a complete financing often won’t cover the value of the building plus the efficiency upgrades. The result is that the upgrades have to financed with the building owner’s cash and recovered over time – this substantially limits the appeal of these kinds of investments.

Here’s a simple example: Buyer is going to pay for a building to be constructed at a total cost of $100. Bank will lend buyer $75 for 20 years, buyer will use $25 of its own cash. Instead buyer would like to include $20 in efficiency upgrades that will reduce energy costs by $4/year for a total building cost of $120. Bank, however, sees the same building – same market, same sq. ft., same exterior. Bank will lend buyer $75 and buyer’s equity requirement is now $45. Most efficiency upgrades don’t happen with this math.

And the result is the same even where the Bank recognizes only a partial value of the upgrades: bank will now lend buyer $80 on an assumed value of $107 (because the bank does not recognize the increased value of several of the installed efficiency systems based on existing valuation methods). Buyer’s equity investment in the efficient building will be $40 on a loan to value ratio of 66/33 rather than $30 on 75/25 split as would have been the case had the bank treated the efficiency upgrades at full value in the larger financing package.  The additional $10 is often enough to cause buyer to walk away from at least some of the efficiency upgrades.

The curious result should be obvious. The buyer has significantly more free cash from the energy savings than is necessary to pay the principle and interest on the incremental amount borrowed for the efficiency upgrades. The building is more valuable because it costs less to use. Despite these facts, the bank is still using tradition valuation methods and the result is that an investment that makes financial (not to mention social) sense doesn’t happen.

Adding a set of energy use and efficiency criteria to lending requirements, and requiring the reduction in net energy use and expense be considered in the valuation of property would immediately cure this inconsistency. However, legislating lending standards, which are generally market driven won’t really work – with the notable exception of FMHA and USDA residential loans.

Changing the FMHA requirements may seem like a small and possibly insignificant step, but it isn’t. When PACE (property assessed clean energy) bonds were first introduced, FMHA took a hard stand against the financing tool (more on that here and here). While there has been some progress on commercial uses of PACE progress remains slow and one of the key challenges has been an unwillingness of underwriters to adopt a process directly in conflict with FMHA standards – some of this may be for industry consistency, but some seems more like an unwillingness to learn a new language. By forcing energy into the FMHA standards the reverse could be true, an expansion of the existing language and discourse on lending standards would act as a significant pull on others (and of critical importance, provide a template for non-FMHA loans) to begin to incorporate these consideration into loan underwriting.

For anyone else that would like to join the dialogue you can join the conversation there, but please be sure to add your comments here as well.

The incubator programs would be housed within each of the energy technology offices (except for geothermal) and leverage a small share of existing research budgets. The figure below provides the proposed budgets for the new incubators. (Note, the DOE is also continuing its existing solar incubator program.)

Each incubator is expressly aimed at emerging areas of research and technology development not “supported in any meaningful” way by existing DOE projects.

For example, the Vehicle Technologies Program wants to focus on advanced power electronics and electric motor ideas. The Advanced Manufacturing Program wants to invest in “revolutionary” technology pathways that cut energy-use in production, but also make U.S. manufacturers more competitive. And the Bioenergy Technologies Program wants to support novel thermochemical approaches to producing low-carbon fuels.

(Related: Obama’s Budget Boosts Support for Energy Innovation)

The goal is to invest small sums of public research dollars to help overcome barriers to moving a new idea from proof-of-concept to pre-commercial pilot scale. In practice, this means moving new ideas that have proven feasible through laboratory experiments and early small-scale technology mock-ups, but must also be tested at larger scale. If successful, these start-ups could rapidly commercialize and deploy.

Unfortunately, doing so is not as simple as taking a small laboratory experiment and making it bigger. Rather, creating pilot projects of novel technologies often requires new materials, chemical processes, and engineering designs that may not already exist and require significant research the start-ups may not have the unique technical capabilities or funding to do. The incubators can offer solutions to these barriers by collaborating with start-up researchers to use public research equipment and infrastructure at a National Lab, make use of Lab scientists and engineers, and invest in breakthrough research the private sector is unwilling to fund even though it’s required to prove commercial viability.

This model has already proven successful at DOE. In 2007, the DOE created a Solar Incubator Program to accelerate the transition of next-generation solar start-ups to commercial scale with small grants for 12 to 18 month long projects. Since then the program has invested $92 million in 54 projects (and recently announced $12 million in more funding), which helped advance a number of technologies to pilot-scale and spurred $1.7 billion in follow-on venture capital and private sector investment. And while the incubator awards grants, the start-ups are also required to share between 20 and 50 percent of project costs. The eight proposed incubators would be directly modeled after its solar brethren.

As with any high-risk investment, some of these incubator projects may commercially succeed and others may not. The Solar Incubator was no different. On the one hand, the incubator successfully assisted PrimeStar Solar in piloting their next-generation thin-film solar design, which ultimately led General Electric (GE) to purchase the company with plans to manufacture the solar panels. GE eventually scrapped those plans and decided to further develop the thin-film technology after unfairly subsidized Chinese solar panels flooded the market at below-cost prices. Similar market issues derailed incubator graduates Abound Solar and impacted thin-film producer SoloPower. On the other hand, incubator alumni 1366 Technologies is a leading solar manufacturing company, Alta Devices recently demonstrated the most efficient dual junction solar cell in the market, and concentrating solar company Solaflect Energy is moving toward commercial demonstration of its heliostat mirror technology.

In all cases, the projects significantly advanced solar innovation towards cheaper and better technologies by broadening the DOEs investments beyond the research pathways it is already investing in, commercial success or not. This is a crucial point because with all public funding, not all potential projects can be invested in. Choices must be made because of limited federal dollars. That means only some high-risk research approaches can be focused on at any one time. For instance, ARPA-E receives thousands of high-quality research proposals in response to their funding announcements yet is only able to support a select few because it’s underfunded. The incubator programs would allow the DOE to invest in more high-risk projects without straining its research budgets during times of budget austerity to the benefit of U.S. energy innovation. And it also acts as a vital feedback loop into existing research programs by informing whether new research approaches should be invested in and how best each technology office can invest its portfolio to maximize innovation.

Of course, the energy incubators still won’t make up for the sobering fact that the United States continues to chronically underinvest in innovation. Nor do the incubators aim to. Ultimately, the United States must dramatically increase funding in energy innovation to make a low-carbon future possible. But it’s important to note that even in times of declining research budgets there are still ways to spur more energy innovation. The proposed energy innovation incubators are one of these ways.

At the same time, U.S. and European demand for petroleum products are declining. The economic troubles in the Euro zone have dampened economic activity (and petroleum demand), while in America, economic growth has returned, but the consumption of petroleum products are down as consumers change habits and lifestyles to drive less. At the same time, the low price of natural gas, particularly in the United States due to the boom in shale gas production, has some analysts predicting that gas will increasingly act as a substitute for oil whenever possible.

Given all this – an increase in production of oil coupled with a decline in demand – an elementary Economics 101 class would say that prices should be in a steep decline. Over the past several months, there have been a slew of articles predicting that oil prices are bound to drop.

However, while there was a dip in oil prices in April, prices for Brent Crude are back up above $100 per barrel. And, while there has been a persistent price spread between the American-based WTI and the global-based Brent (reflecting the U.S. oil boom, and infrastructure problems in getting it out), the price has stayed remarkably steady throughout the boom in the last two years.

Limited Vision

The problem is that our vision is limited only to what we see. The media is focusing on what is close to home – and by doing that we’re missing the entirety of the global market for oil. Even though production of oil from new fields in the U.S. is booming, there is a consistent decline in production from old fields around the world, and OPEC members have not increased production. Meanwhile, though demand for oil is falling in the U.S., it continues to grow around the world.

For detailed charts on the total world supply of oil, see Lou Gagliardi’s excellent post, 2013 Crude Oil Outlook. He makes the case visually better than I could: oil demand is declining within the OECD, but growing overall, while oil supply is failing to meet the demand.

We Americans are myopic: we only see what is directly in front of us. This does us a disservice when we talk about oil because the market for oil is essentially a global bathtub – more production in one area raises the total supply only so far. We have forgotten that the price of oil is more closely connected with geopolitics and the world economy than with what is happening in Texas or North Dakota.

Insatiable Emerging Economy Demand

In Lou’s post, he showed that sometime in 2013 or ‘14 the total consumption of oil within the OECD will be surpassed by consumption of oil outside the developed country group.

The truth appears to be that demand for oil in the developing world – particularly (but not exclusively) in Asia – is effectively insatiable (at least over the medium term). These are fast growing economies with rising middle classes. For every new barrel or oil produced by the United States, there are refiners in China willing to buy it to satiate their country’s ever-growing demand.

(Related: The Energy Industry’s Production Challenge: 100 Million Barrels Per Day)

While the story of China’s growth is well-told, it deserves to be told again. Since 2000, Chinese oil demand has grown at what Lou calls “a torrid 6.7% per annum rate.” A post by Brad Plumer in Wonkblog illustrates that China is using up oil faster than we can produce it. While there are limits to that growth, China’s immense population means that we are not there yet.

And, the story continues outside of China – India and Southeast Asian countries like Vietnam, Indonesia, and the Philippines have had lower growth rates than China, but they are showing signs of taking off. Behind them, but finally growing, is sub-Saharan Africa: a major unknown in future oil demand. As a region, Sub-Saharan Africa posted the word’s fastest growth rate in 2012.

So, even though Americans are driving less and European economic woes mean that there is less oil needed, the demand from the rest of the world is set to outstrip these concerns.

Tight Global Control of Oil Supplies

What then, about the ‘booming’ production of oil in the U.S.; certainly that should help to moderate prices? Unfortunately, the boom in the U.S. has not been matched by a boom around the world.

The boom has been great for American-based refiners, who can buy crude oil at reduced North American prices, and then turn around and sell gasoline or diesel at the higher world price.

It is also important for America’s balance of trade. For example, in 2010 the total value of oil imports was $680 billion – larger than the total trade deficit of $497 billion. Today, oil is a declining share of a declining deficit – and some are predicting that the next battle in Washington will be over allowing crude oil to be exported. Paying for oil from North Dakota and Texas instead of Nigeria and Saudi Arabia will keep American dollars at home – helping them to cycle through our domestic economy.

However, the American oil boom is not affecting prices because total world oil production is not matching America’s boom. There is one word that can explain that: OPEC. The oil cartel was set-up to restrict supplies of oil in order to keep prices high. While there have been several periods of failure in their 40 year history, they have been mostly successful.

Yesterday, the Saudi Oil Minister, speaking in Washington, indicated that the Kingdom had no plans to expand production, saying “We’re pleased to see production coming from so many other suppliers, and see no need to go beyond our 12.5 million b/d capacity.” Surely, if the Saudis applied some of the new technology being used in the United States, they could increase production – but that would actually reduce prices, an outcome they do not desire.

Recently, I have heard the argument several times that we are entering a period that is akin to the early 1980s in oil prices. At the time, the high prices of the 1970s had incentivized American drillers to get back to work in Texas, and a boom in production there caused a bottoming out of the price of oil.  I don’t subscribe to this theory – mostly because in the 1980s, the Saudis had a geopolitical incentive to cut the price of oil: the USSR – then, as now, a major producer of oil. Saudi Arabia and its main ally, the United States, know that high oil prices were subsidizing the Soviet Union with much-needed hard currency. So, the Saudis opened their taps, and the rest is history.

Today, the geopolitical incentives go the other way. After the Arab Spring, the Saudis significantly increased the subsidies (in both direct and implicit grants) to its people. They know that they need high oil prices in order to keep their population happy.