Without a green premium, launching new net-zero goods and services may not be cost-effective for companies.
However, by including a green premium in cost curves, companies can better understand the value potential of new net-zero offerings.
The net-zero transition could lead to the largest transformation of the industrial sector since the beginning of the Industrial Revolution. To reach net zero by 2050, about $275 trillion in cumulative spending on low-emissions assets will be required over the next 30 years—or approximately 7.5 percent of global GDP every year for 30 years.1 Decarbonizing operations and product offerings presents many companies with the most significant opportunity in a generation: a potential $9 trillion to $12 trillion in annual sales by 2030 as capital and customer demand shift toward a low-carbon economy. On the flip side, failure to decarbonize could, on average, risk up to 20 percent in economic profit for companies by 2030, based on factors including stranded assets, increasing cost of capital, and loss of market share.2
In any case, decarbonization is a difficult transformation for most companies. The costs for scaling climate technologies and building new capabilities can be high. Access to financing can be challenging for businesses entering nascent, untested markets. Timelines for decarbonization can conflict with performance objectives and often stretch beyond the expected tenure of the current company executives. Meanwhile, entire supply chains are still being rewired from fossil fuel–based energy and feedstock to renewable sources, which could lead to major shifts in energy costs and the viability of current assets. In the current moment, leaders are also navigating the added complexity of inflation, disruptions to energy markets, supply shortages, and increased interest rates. To survive—and, ideally, create value—companies will need to think through their decarbonization strategy, keep up with a shifting landscape of market opportunities and policy (from subsidies and regulatory schemes to the organization’s geographical footprint), and make swift decisions.
In some markets, start-ups have become early leaders in decarbonization (renewable energy, electric vehicles, and steel, for example). Start-ups often have a higher tolerance for risk-taking and the ability to operate at faster speeds with agility. But a set of incumbents has emerged as market leaders, too. These incumbents, including many in hard-to-abate sectors (such as chemicals and steel), have leveraged a few of their advantages, including long-term customer relationships and access to capital, talent, industry insights, and supplier networks. These established players, from industrial companies to logistics and consumer goods organizations, have been willing to take bold action and play offense to get ahead of their competitors.
How can more incumbents decarbonize and create value? Based on our experience, companies that are a step ahead in their decarbonization transformation tend to take action in three key areas. In this article, we explore the three key areas, a new tool that can help leaders build the business case for net-zero offerings, and reasons to move quickly.
In our experience, incumbents that have created value through decarbonization have focused on three key areas of action:
In the past two to three years, we’ve seen an increasing number of companies set ambitious decarbonization commitments. To date, more than 6,000 companies have signed up through the Science Based Targets initiative to achieve an average reduction of 49 percent in Scope 1 and 2 emissions and 28 percent in Scope 3 emissions by 2030.4 Now companies face the steep challenge of making the reductions a reality.
Many organizations have begun their decarbonization journey by looking to cut emissions from operations. Traditionally, some leaders have assumed there is a financial trade-off for reducing emissions in operations, and for good reason: decarbonizing operations can be complex and capital intensive. We’ve also seen companies try to decarbonize operations through a stand-alone program that isn’t fully integrated with the core business, which can limit both the potential for emissions reductions and a healthy balance sheet.
Now, however, we see leading organizations integrate cost and carbon reductions simultaneously. Our analysis shows that companies are already seeing results: up to 40 percent reductions in emissions and up to a 15 percent improvement in financial performance (Exhibit 1). By 2030, incumbents can, on average, abate 20 to 40 percent of emissions while also reducing their production costs (Exhibit 2). A reduction in production costs could be driven by energy efficiency, sourcing green energy, and variable cost reduction (yield and throughput increase, for example) of the manufacturing footprint. The potential for dual cost and carbon savings varies by industry. However, in some sectors, we see the potential to reduce emissions by as much as 60 to 80 percent while still having a favorable business case based on net present value. Reducing costs and carbon simultaneously can also free up cash to invest in new business opportunities that emerge from the ongoing net-zero transition.
Integrating cost and carbon reductions can also help companies gain market share. As both the public and private sectors increasingly set demands on sustainability, organizations that are ahead on decarbonization could be positioned to earn early contracts in growing markets and generate revenue faster than competitors. This advantage for early movers will likely fade as competitors catch up. However, as more market players decarbonize, global emissions should go down—a societal benefit—and end customers should experience more competitive pricing.
The dual task of cutting costs and carbon emissions is not easy. Decarbonizing operations often requires a transformation of processes and capabilities. There needs to be clear buy-in and accountability from leadership, as well as the ability for leaders to continuously reevaluate the decarbonization strategy as input costs change (energy prices, for example) and new technologies become commercially available. However, many incumbents—including those in harder-to-abate sectors—have advantages, such as the ability to engineer large-scale production processes, technological know-how, and investment flexibility. In our experience, companies successfully integrate cost and carbon reductions through a few approaches, from assessing carbon emissions on a granular level to embedding decarbonization in all processes:
Demand for net-zero offerings is surging—so much so that there could be shortages in certain sectors. According to our analysis, in steel, cement, and chemicals, for example, there could be up to a 60 percent supply–demand gap in 2030 for net-zero products. While such shortages could temporarily slow the net-zero transition, there is an opportunity for fast-moving players to capture the value of full decarbonization through value-based pricing strategies (moving away from a “cost plus” approach to one that factors in the value of decarbonization, for example) or earning a price premium on green goods and services. In some sectors, we’re already seeing green premiums of 15 to 30 percent. In many markets, particularly in Europe, the ability to sell excess carbon allowances further strengthens the business case for green offerings. According to our analysis of green steel, for instance, producers in Europe that combine a green premium with the sale of excess carbon allowances could earn a 30 percent return on capital employed by 2035. Similar opportunities exist for many other products and services.
Another way to build the business case for net-zero offerings could be to use a marginal abatement revenue and cost curve (MARCC) on a product level. A MARCC, a new concept we have developed, shifts the discussion of offering net-zero goods and services from only cost to the total value of the opportunity. To create a MARCC, we start with the cost to decarbonize a product and then add the green premiums that we anticipate the net-zero version of the product can earn. Looking at just the costs of net-zero products, for example, shows that, on average, net-zero products incur an overall cost that is 10 to 30 percent higher than their more carbon-intensive counterparts.8 These figures suggest that creating net-zero offerings would erode margins and destroy value for companies. However, a cross-sector MARCC for net-zero offerings, which captures the potential revenue upside of green premiums, reveals that incumbents can reduce emissions by up to 80 percent and create value (Exhibit 3).
Without a green premium, launching new net-zero goods and services may not be cost-effective for companies.
However, by including a green premium in cost curves, companies can better understand the value potential of new net-zero offerings.
Launching net-zero offerings successfully is not a given. A thorough market analysis and strategy is needed to identify the markets where net-zero products could generate green premiums, particularly if leaders set ambitious carbon abatement goals or foresee large capital expenditures. Companies often need to move quickly in markets where there are supply shortages, creating new markets and product categories, and working with partners across the value chain to maximize carbon reductions. However, incumbents that have existing production models, familiarity with a customer base, and experience with supply chains should have a leg up. The following are specific actions companies can take to help ensure a successful product launch:
The net-zero transition can generate vast business-building opportunities for organizations. Since 2015, six decacorns and 135 unicorns have been created within the sustainability space.13 However, building green businesses isn’t just a game for start-ups. As markets transition to green offerings, new value pools will emerge—in many cases, upstream or downstream of a company’s current value chain position. There is an opportunity for incumbents to enter these new value pools, provided they move quickly and strategically.
Incumbents might not be naturals at building disruptive ventures. However, in recent years, we have seen incumbents flex a few advantages in building new green businesses, from securing strategic partnerships to attracting low-cost financing, while also embracing the speed and agility of a start-up.
That said, entering new value pools has challenges. It often requires, for example, a new set of capabilities and new types of risk management. Companies can consider a set of actions to mitigate risks while scaling new ventures:
Companies, for good reason, may hesitate to commit resources without complete clarity on their business case for decarbonization. However, our perspective is that now is the time to strike. Cost curves for green technologies are moving down across industries, and as we discussed earlier, some green premiums may have a shelf life. Making strategic moves now could be the difference between gaining market share and securing profitable growth, versus being stuck with stranded assets and higher costs for entry later on.
The three areas of action we have outlined are not a one-size-fits-all model, and implementing all three at once could indeed be a steep task. Leaders can prioritize based on factors including sector supply–demand dynamics, value chain opportunities, cost analysis, commercially available climate technologies, and evolving policy.
To decarbonize operations, leaders can swiftly act on the most cost-efficient moves that still help achieve decarbonization targets. As we noted earlier, launching net-zero products and services ahead of the competition has the potential to earn green premiums, a source of capital for scaling. When to enter a new value pool may depend on the pace of technological advancement, as well as regulatory changes. While it is impossible to predict such developments, companies would be wise to anticipate change in these areas and be prepared to jump on opportunities—before the competitive landscape gets crowded. For example, last year’s Inflation Reduction Act in the United States, which allocates about $370 billion for climate and energy spending, and multiple policy packages under the umbrella of the European Green Deal, could accelerate pockets of the net-zero economy and facilitate access to funding.
The net-zero transition presents challenges for incumbents, particularly those in hard-to-abate sectors. At the same time, established companies have a unique opportunity to decarbonize and create value. While there is no one universal approach, making timely moves across three key action areas could help companies create a competitive advantage in the years to come.