4 Ways Manufacturers Can Cope With Rising Energy Prices

Tue, 06/25/2013 - 8:05am
Michael Lewis

4 Ways Manufacturers Can Cope With Rising Energy PricesManufacturers require tremendous amounts of energy to power equipment and light and heat facilities, and move raw materials to their plants and finished goods to store shelves. Chemical, fertilizer and plastics manufacturers use carbon-based fuels as feedstock, so accurate projected costs and ready availability is essential to adequate pricing.

Manufacturers have benefited in recent years from stable or declining energy prices due to several factors:

  • Slow recovery of economies around the globe
  • Stable petroleum output from the Middle East and new production of tight shale oil in the United States and Canada
  • Combination of better "scrubbers" and continued relaxed environmental standards that allow old power plants that burn coal to remain in operation
  • Increased energy efficiency of equipment, particularly automobiles and trucks, reducing overall demand
  • Increased alternative energy sources such as wind, solar and geothermal
  • Adequate domestic transportation systems (pipeline, rail and power lines)

Through 2014, petroleum, diesel and gasoline costs — excluding the seasonal effect that happens every year as refineries shut down in preparation for changing over to summer gasoline — are expected to drop. The price of natural gas is likely to rise due to increased demand of utilities required to burn a "cleaner" fuel, while the cost per kilowatt hour (kwh) of electricity will grow due to increased demand, current generation plants and transportation capacity.

Preparing for the Future

Environmental scientists agree that the continued release of greenhouse gases, particularly CO2, must be restricted before irreparable damage is done to the environment. As a consequence, the burning of carbon fuels will require costly remediation by users to limit emissions, and the carbon fuel itself is likely to be heavily taxed to spur conversion to renewable fuels. These increased costs will be passed to manufacturers.

Astute manufacturers will use one or more of the following strategies to control and reduce their energy costs, thereby gaining a competitive advantage over rivals who are slow to see the writing on the wall:

1. Reduce Energy Consumption

No segment of American industry has more to gain from energy efficiency than the manufacturing sector, using almost 40 percent of the energy consumed in the United States. Replacing inefficient machinery, employing "smart" environmental controls and upgrading lighting, heating and air-conditioning systems can drop utility bills by 20 percent to 30 percent. Improving logistical efficiency using route optimization software, coordinating load and vehicle sizes, back-hauling when available and increased use of rail can cut gasoline and diesel costs. At the present time, there are various federal and state tax deductions and credits available to reduce the financial impact of the required investments.

2. Reduce Fuel Costs

Consider the economies of producing a portion of your electrical energy using alternate energy sources such as wind, solar, geothermal or a hybrid power system capturing energy from burning your own waste products. In some areas, a small scale power plant, fueled by natural gas, might make sense as a private commercial system. Trucks, autos and mobile machinery are available or can be economically modified to use cheaper fuels than refined gasoline including diesel (30 percent to 35 percent more efficient than a comparable gasoline engine); compressed natural gas (CNG) for high-mileage, centrally fueled fleets within confined area; and liquified natural gas (LNG) for vehicles that travel long distances. While biodiesel is not yet economically viable, hybrid engines using diesel and electric or gasoline and electric power are becoming more common.

3. Reduce Price Volatility and Risk

Even though electricity can not yet be commercially stored and must be consumed within a few hours of being produced, contracts to buy or sell specific quantities of crude oil, natural gas, heating oil and gasoline are traded on the New York Mercantile Exchange. The oil futures market provides hedging opportunities for those manufacturers with sophisticated financial capabilities who are regularly consuming large quantities of energy. Electricity deregulation in many states gives manufacturers the ability to negotiate rates and "lock in" electricity prices for specific lengths of time, a possibility because of the multiple suppliers in a market.

4. Think Outside the Box

Capturing energy savings requires constant vigilance and staying abreast of the latest technological breakthroughs. For example, the cost of solar energy are projected to be $1.50 per watt within five years, down from S7.50 per watt in 2000. A 2013 Ernst & Young report predicts that companies with large electricity demand will find it cheaper to install unsubsidized solar than to buy energy via the grid in the traditional manner.

Possibilities to stabilize or reduce energy costs include:

  • New Technology. Bloom Energy's fuel cells are being tested by companies such as Google, Walmart and FedEx. Studies ranging from commercial biofuels and underground coal gasification, to splitting hydrogen from water are currently being pursued. While many may prove to be unsuccessful and uneconomical, there are also important successes which will revolutionize the availability and cost of energy in the future.
  • Creative Scheduling. Utility companies are willing to sell "off-demand" energy for lower prices. Manufacturing plans which can operate multiple shifts or a single shift outside normal 8am to 5pm hours would gain a pricing advantage.
  • Fuel Cost Offsets. Natural gas and petroleum are generally fungible, one barrel or Mcf indistinguishable from another. Consider drilling for your own account or purchasing proven oil or gas reserves to protect against future price increases. Investigate the possibility and benefits of energy buying co-ops with other manufacturers in your area or local political entities.

Final Thoughts

Economies are driven by the availability of energy — the United States being the largest economy in the world is also the largest consumer of energy. As other countries like China and India seek to maintain growing economies, prices for traditional energy sources will increase. Being forewarned is forearmed. If you don't control your energy costs, you can't control your destiny.

What other tips can you suggest for manufacturers contending with the rising cost of energy? Post your suggestions in the comments below.

Michael Lewis, a retired business executive, writes about economic policy, business operations, and entrepreneurship on the popular finance resource, Money Crashers.


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