Real estate indicators from HFF Houston's Associate Director of Research Justin Boyar.
I have fielded a handful of questions recently from concerned investors wondering about the potential threats posed by self-driving cars, electric cars and the increasing use of renewable energy on the oil industry, and thus Houston’s economy. Both Ric Campo, chairman and CEO of Camden Property Trust (NYSE: CPT) and Paul Layne, executive vice president of Master Planned Communities, The Howard Hughes Corporation (NYSE: HHC), recently mentioned in a ULI Emerging Trends roundtable something that – in my eyes – was very much worth noting: Going forward, their companies plan to only develop parking garages that can be later converted to other uses, such as additional apartment units, office space or retail space.
Think about that: Two large, publicly-traded U.S. commercial real estate companies are already preparing for a future in which ride-sharing and self-driving cars may eat into parking demand. Around the same time, Chinese-owned Volvo announced that it would only introduce “electrified” vehicles (a mix of fully-electric and hybrid) after 2019, and the French and British governments both announced they would ban the sale of all internal combustion engine (ICE) vehicles that use gasoline and diesel by 2040. The resulting media reaction descended into panic and hysterics, as is so often the case with announcements like these.
Let’s talk about the facts. Fully-electric vehicles (EVs) today number two million in the global car and truck fleet out of an estimated 1.4 billion (only a 0.0014 percent market share), which are often heavily subsidized. Significant technological hurdles remain for EVs to gain wider mainstream acceptance, such as cost to purchase, lithium-ion battery pack prices (although these have fallen by two-thirds since 2010), the number of re-charging stations, range limitations, charging station infrastructure and the time it takes to charge (e.g. 15 minutes for a Chinese-made BYD and 30 minutes for a Tesla Model S). Market penetration of EVs has been higher in some countries versus others. In Norway, EVs represented five percent market share in 2016 (135,000 out of a total fleet of 2.7 million). Heavily subsidized at the point-of-sale and given a host of perks by Norway’s government, including dedicated HOV lanes, free tolls and free parking, these vehicles have grown in popularity. However, they often represent the second, third or fourth family car. Still, the data is stunning; Norway experienced a 20 percent decline in gasoline use between 2011 and 2016.
The new lexicon for ride-sharing (e.g. Uber, Lyft, Didi in China) combined with self-driving technology is referred to as transport-as-a-service (TaaS). There are an estimated 1,700 corporations and start-ups heavily investing in this disruptive transportation concept today, including the biggest automakers and tech companies. The idea is intuitive: A fleet of Ubers that operate more like self-propelled, high-speed, enclosed golf carts than anything else. The consumer interaction would be with the TaaS service provider rather than the automaker. TaaS answers many questions left unanswered by the slow adoption of individually-owned (IO) EVs. The TaaS fleets, owned by a service company, would be powered at warehouses on the outskirts of town, relieving consumers of the duty of charging them. These cars would include an array of smart technology features. Local governments may choose to subsidize TaaS service at little or no cost in order to spur business. Companies may sponsor them to the point that transportation is offered for free (e.g. Starbucks providing a ride if you buy a coffee or Google or Facebook using the platform for advertising).
Its proponents tout many potential benefits:
Additionally, proponents compare it to the introduction of the car replacing the horse-drawn buggy. They predict an S-curve of rapid and nearly-universal acceptance that will eventually render gas-powered and self-driven ICE vehicles prohibitively expensive to fuel, maintain and operate legally – and nearly obsolete – by as early as 2030. It is envisioned that these new autonomous vehicles will be electric (A-EVs). Why? The electric powertrain only contains 20 parts versus 2,000 for the ICE powertrain. It would be easier for a company to plug up a fleet of electric vehicles than ICE vehicles like a smartphone, and charging and maintenance costs would be less than fueling costs. The ICE must be continuously fueled with gasoline; by comparison, lithium is a material stock, which only need be mined once and manufactured into a battery for it to be recharged. Lithium also only makes up four percent of a lithium-ion battery’s components. After it finishes its road transportation life-cycle, lithium-batteries may still retain 80 percent of their original capacity and be recycled. Much debate on CO2 emissions of ICEs versus EVs centers on the higher emissions created by producing batteries versus ICEs. Ultimately, emissions created to produce either rely on the emissions of the power source, which can vary widely (e.g. coal versus solar). These studies also fail to take into consideration the emissions of each type post-production. Intuitively, EVs powered by renewables or natural gas will create less emissions than ICE vehicles that rely on gasoline and diesel. Back to the facts: It may be five or more years before autonomous vehicles are regulated and permitted on roads in all 50 U.S. states. Moreover, the technology of these is still yet unproven and remains in the testing/pre-approval phase. Already there are talks of tests being conducted on roads in California and Texas.
Let’s talk about hypothetical, potential risks for a moment. If you really want to stay up at night, I suggest you read the report from May 2017 by the non-profit technology think-tank RethinkX titled “Rethinking Transportation 2020-2030: The Disruption of Transportation and the Collapse of the Internal-Combustion Vehicle and Oil Industries.” The well-sourced, 77-page report predicts a doomsday scenario for both the automobile and oil industries as TaaS gains traction in the next two decades.
Let’s consider the facts again: As The Wall Street Journal reports, transport fuel makes up 50 percent of global demand for oil, about half of that from cars and about half from a combination of heavy trucks and jets. On average, a U.S. refinery produces 19 gallons of gasoline, 10 to 12 gallons of diesel and four gallons of jet fuel from every 42-gallon barrel, so 69 percent of its contents. The RethinkX report proposes that a 95 percent adoption of TaaS in terms of passenger miles by 2030 would reduce energy demand by 80 percent and reduce global oil demand by 30 mbpd (million barrels per day). To put that into perspective, the oil downturn of 2014 and 2015 was caused by supply outstripping demand by just two mbpd. Current global oil demand stands at 96 mbpd. Trucks are also not immune to A-EV and TaaS technology; several start-ups are testing this for the trucking industry as well. The Wall Street Journal noted that Asian trucking alone accounts for one-third of global crude oil demand growth today. Of lesser importance to Houston’s economy, the automobile industry would need to be completely redefined, with auto manufacturing becoming more commoditized and the manufacturers themselves playing more of a support role – similar to that of Foxconn to Apple – unless they should begin to offer TaaS themselves. New car sales would plummet; the RethinkX report predicts that more than 80 percent of vehicles would be wiped off the road.
What are oil companies saying about all of this? We used to talk about “peak oil production” – the notion that oil companies would exhaust global supply reserves (Jeremy Rifkin famously spoke about this in his 2002 book, The Hydrogen Economy). The Shale Revolution certainly proved that idea wrong, and now the world is awash in oil and discovering more every day (note: Talos Energy’s latest discovery of two billion barrels of oil potential in the Mexican Gulf of Mexico). So, the latest fad of conversation has shifted to “peak oil demand” – and this is related to the Paris Climate Accord, increases in fuel efficiencies and technological disruptors such as renewable energies, EVs and A-EVs. It would be easy to discount this notion of peak oil demand based on steadily-increasing global demand except that the supermajors themselves are serious when discussing it. The two U.S.-based supermajors – ExxonMobil and Chevron – see increases in fuel efficiencies but do not foresee peak demand. However, their European counterparts are already forecasting peak demand; Netherlands-based Royal Dutch Shell and Norway-based Statoil both predict this in 2030; France-based Total and U.K.-based BP both see this occurring a decade later – in 2040. The European supermajors are investing more into natural gas and renewables.
We know that oil demand in OECD countries has been declining for years due to improvements in fuel efficiencies. Oil companies are betting on the rise of the middle class in Asia-Pacific countries and their consumption of products and gasoline to support demand growth in the future. According to BP, between 2005 and 2015, China’s oil consumption grew by 5.7 percent per year and by 3.3 percent in 2016. Meanwhile, India’s oil consumption grew by 4.8 percent per year during years 2005 to 2015 and 7.8 percent in 2016. This is important because China and India are the second- and third-largest consumers of oil globally behind the U.S., having consumed approximately 12 million and 4.5 million barrels of oil in 2016 (vs. 20 million in the U.S.). Total Asia-Pacific demand grew 3.3 percent last year, leading all regions; none of the other regions posted higher than two percent oil demand growth. By comparison, total global consumption grew just 1.6 percent in 2016. North America’s grew 0.4 percent; however, even Chinese and Indian gasoline demand are at risk of disruption. Quoting a recent Houston Chronicle article, “In January, China, already offering incentives for EVs, said it would spend $360 billion on renewable energy. That news was followed by India setting an ambitious goal of electric-only car sales in little more than a decade.” Moreover, ride sharing apps are already very popular in China and India, and China is a world leader in EV battery production and adoption of renewable energy.
Keep in mind that half of all oil demand should remain unaffected by these changes; industry and power generation account for the balance of global oil demand. Industry uses petroleum and natural gas as feedstocks for plastics and petrochemical manufacturing. Many of the products that underpin modern civilization are derived from crude oil and natural gas. Moreover, natural gas represents a significant share of global power generation. The shift from coal to natural gas in U.S. power generation helped America achieve huge strides in reducing carbon emissions. RethinkX predicts that the power grid would need to grow 18 percent by 2030 to accommodate the new EVs. What is going to power those? Natural gas can be a clean energy bridge until renewables become more cost-competitive and economical. Commercial buildings and residences will still need electricity, heating and gas; natural gas will continue to play a large role. Energy companies here in Houston faced with the threat of declining crude oil demand in a TaaS-driven world could diversify away from crude oil production to focus more on natural gas, petrochemicals, plastics and renewables. The Mining (upstream oil and gas) and Manufacturing sectors currently make up about 10 percent of the Houston metro’s headcount and about 34 percent of GDP. As the “Energy Capital of the World," support for this ecosystem extends well into the Professional and Business Services and Trade, Transportation and Utilities sectors and helps support a bustling service economy. Besides adapting to the world’s evolving energy needs, Houston investors and companies might also participate in the new TaaS economy more directly, helping lead infrastructure construction globally and fostering a tech hub to support TaaS software development and big data analysis. As the nation’s fourth-largest city by population, the huge increases in disposable income and thus consumer spending predicted as a result of TaaS would support Houston-area service businesses and retail as well.
It is safe to anticipate that Houston will remain the “Energy Capital of the World,” even if the energy companies themselves based here will be faced with adapting to a changing energy landscape. Home to the Western Hemisphere’s largest petrochemical complex, Houston now produces and exports more plastics than any city in the world. It is difficult to imagine that very infrastructure picking up and moving somewhere else. Also considered the U.S. energy capital, Houston is the regional home base for supermajors; should they make the shift to renewables, Houston has the engineering base and brainpower to adapt. At the turn of the 20th century, Houston’s largest industry was cotton, followed by rice, sugar and lumber. Our Port of Houston once exported 42 percent of the nation’s cotton, and the Texas Medical Center – today the world’s largest medical complex – was founded on land donated by the wealthiest cotton trader in the world at that time: M.D. Anderson. The oil discovery at Spindletop in 1901 changed the fate of our city for the next century-plus. What is to say that Houston will not adapt again?
The problem with forecasting a disruption that hasn’t occurred yet is the uncertainty of how this would all play out. I believe that it is too early to call the death of the oil industry, as we can only speculate on and imagine a world in which technological advancement, policy shifts and consumer acceptance of the service will evolve to the point of disruption. It all remains a giant question mark.
Justin Boyar is an associate director of Research for HFF’s Houston office. He has more than 10 years of real estate industry experience and is focused on executing in-depth research and analysis of economic, property and capital markets trends. Mr. Boyar is also responsible for providing extensive market reports, client presentations and deal-specific analysis for the debt placement and investment sales groups.
Mr. Boyar joined HFF in June 2015. Prior to joining the firm, he was a senior business analyst with a global professional services and investment management company specializing in real estate and also served as a consultant for Greater Latin America in Panama City, Panama. He began his career in commercial real estate as a development associate in New Orleans, Louisiana.