11 Jun 2007  Lessons from the Classroom

Teaching the Next Generation of Energy Executives

A new generation of energy industry managers will make decisions that affect the quality of life for hundreds of millions of people. At Harvard Business School, students in professor Forest Reinhardt's Energy course are learning the complexities and realities of developing and implementing strategy in such a complex environment. Key concepts include:

  • Energy executives face a complicated playing field on which to develop strategy, buffeted by factors including increased demand, dwindling resources, technology breakthroughs, and the regulatory environment.
  • General managers will be of great value because many aspects of business contribute to the energy industry.

 

You may think that being an energy executive—especially a manager in a leading oil company—might be the easiest job around. Just flip the production switch, and watch gas prices head toward $4 a gallon.

But students enrolled in Harvard Business School professor Forest Reinhardt's course on the energy industry come away with a quite different perspective on the strategic and management challenges confronting energy executives today.

As demand continues to soar, where will new oil reserves be found? What bets are to be placed by industry leaders on alternative energy sources such as solar and wind? How will local residents feel about windmill farms on their horizon? What effects will regulators have on the energy industry in the future? What unexpected opportunities or obstacles will pop up along the way?

The course examines strategic choices faced by firms that produce oil and gas, that generate and distribute electricity, and that contribute in other important ways in the delivery of energy services.

Reinhardt notes a certain similarity in today's rhetoric with media accounts of what was heard during the oil shocks of the 1970s. "Oil prices will never go down" was one refrain heard then and now, accompanied by, "The only question is when oil will hit $100 a barrel, not if."

"If you have a windmill project, you can bet it will insult the aesthetic sense of some of the nearby residents."

But clearly oil prices back then did not go on an unending escalation. The price predictions did not come true because the idea of an oil reserve is an economic concept as well as a physical one, Reinhardt says. As the price of oil goes up, it becomes profitable to extract it from sources that require more effort and investment to yield a usable product.

But not forever, and this is an example of the type of industry transition that future energy executives must anticipate.

"At some point it will become more trouble than it's worth to extract those supplies and refine them—and at that point we'll have moved on to other energy sources," Reinhardt says. "That transition will be determined by technological innovation, by how quickly we get better at extracting oil from inconvenient places versus making fuel out of alternative sources, or by commercializing vehicles that will run on something other than petroleum products. We don't know exactly how that's going to play out."

Back to basics

Reinhardt's students first study the traditional, oil-based value chain, with class discussion driven by cases that feature BP, the Chad-Cameroon Petroleum Development Pipeline Project, and offshore drilling.

"The value chain begins with a geologist looking at a map and ends with a consumer putting fuel in his car so he can drive to work," Reinhardt explains. "There's enormous economic value being created there; so who captures it?"

The value chain for coal-fired electricity is examined as well. In a case on Burlington Northern, students must decide how the railroad's coal-transporting operations will be affected by clean-air legislation; in another, they consider questions of risk and strategy, international politics, and environmental responsibility as global energy giant AES builds an electric power plant in Yangcheng, China.

"You can't understand innovations in energy without a grounding in the basic, traditional industries that they're trying to supplant," Reinhardt says.

A classroom module on innovations in energy explores the risks and potential of biofuels, hydrogen, wind, and nuclear power. Companies producing solar and wind energy products, for example, compete for customers in the electricity market, which is far more competitive than the vehicle fuels market. Driving this competition is the rich supply of coal that fires many electric power plants—even if burning this carbon-intensive fossil fuel puts millions of tons of carbon dioxide into the atmosphere every year.

"If wind and solar are going to be competitive with coal, we have to either improve the technology or decide that coal prices should reflect the costs that we're imposing on ourselves, our children, and our grandchildren," he says. "So far, neither of those things has happened, so the only way alternative energy has been viable is if governments tell people that they have to purchase it. That's the case in Germany, and that's why the wind sector is so dynamic there. It's a regulatory solution to the problem, not one that most economists would prefer."

Not in my backyard

The influence of politics becomes clear in "Reading Energy," a case focusing on the travails of entrepreneur Tom Cassel, who wants to build an electric power plant in Chicago that will run on trash.

The business model seems unbeatable: Revenues will be generated from trash collection as well as from the electricity it generates. And thanks to this alternative approach (which also solves the problem of limited landfill space), the Illinois legislature has guaranteed that the plant will receive the retail rate for its electricity. Yet community opposition to the plant is fierce in some areas.

"There's a great deal of activity and excitement in energy markets."

"The case is about the difficulties entrepreneurs can have in finding solutions to social problems that seem, on their face, to be a win-win situation," says Reinhardt. "You can usually find somebody who doesn't think the 'win' applies to him or her, and our political process makes it relatively easy for people to slow down industrial projects."

From an environmental perspective, Reinhardt suggests that the energy question can be thought of as being "a distribution of environmental insults over space."

"If you have a windmill project, for example, you can bet that it will insult the aesthetic sense of some of the nearby residents," he says. "But windmills don't create pollution. A nuclear power plant creates waste that will make some relatively small area unsuitable for anything else for a long period of time. The alternative to both of these solutions is to burn coal, which creates pollution and could change the climate of large parts of the planet. If we want to continue to enjoy cheap energy, the choice might be between having some areas where we can't do much else and having large parts of the world where the quality of life is impeded."

Wanted: General managers

Some students who take the course come from the oil patch, with prior experience at majors like Shell or Exxon. Others have worked with energy concerns in consulting or investment banking. But many students also bring to the classroom a broader, societal perspective.

"They believe—correctly, I think—that the way we solve these problems is going to affect the quality of life for hundreds of millions of people, and they want to participate in designing those solutions," says Reinhardt. "Overall, I would say there's a great deal of activity and excitement in energy markets, with increased demand, developments in technology, and changes in the regulatory environment."

Understanding the energy sector requires a remarkable range of knowledge on domains including physics, chemistry, biology (with the advent of biofuels), science, politics, law, and engineering—to say nothing of finance, economics, strategy, and consumer behavior.

"If there's a place where you need general managers, it's this industry, because it draws from so many different disciplines," Reinhardt believes. "The leadership of these firms is extremely important. They're making big bets that affect not just shareholder value but the way in which people around the world live their lives."

About the author

Julia Hanna is an associate editor of the HBS Alumni Bulletin.