June 2018Decarbonization of industrial sectors the next frontierAuthored byArnout de PeeDickon PinnerOcco RoelofsenKen SomersEveline SpeelmanMaaike WitteveenJune 2018Decarbonization of industrial sectors the next frontier2The industrial sector is a vital source of wealth, prosperity, and social value on a global scale. Industrial companies produce about one-quarter of global GDP and employment, and make materials and goods that are integral to our daily lives, such as fertilizer to feed the growing global population, steel and plastics for the cars we drive, and cement for the buildings we live and work in.Industry also emits about 28 percent of global greenhouse gas GHG emissions, of which 90 percent are carbon dioxide CO2 emissions. Between 1990 and 2014, GHG emissions from major sectors such as buildings, power, and transport increased by 23 percent 0.9 percent per year, while emissions from the industrial sector increased by 69 percent 2.2 percent per year. Over the last decades, the outlines of energy transition pathways have emerged in the buildings, power and transport sectors. These have been driven by technological breakthroughs and cost reduction. For industrial processes, such pathways are less well-defined. The energy transition in industry should be viewed in the context of global trends that will impact the demand for and preferred production routes of industrial products. There is an expected growth in resource demand, driven by an increase in middle class consumers of 3 billion in the coming 20 years, as well as rapid urbanization. This coincides with growing constraints on key resources, such as copper and zinc, and environmental degradation, for instance from air pollution. On top of that, there are technological breakthroughs. Rapid cost reduction in renewable power generation is driving further electrification. New digital technologies are improving productivity. In the light of these demographic, resource, and technological developments, industrial players should reconsider their strategies. This report provides a global perspective on the energy transition in industry, with a focus on reducing CO2emissions from industrial processes in cement, steel, ammonia, and ethylene production. It shows that decarbonization of industry is technically possible through a combination of technical solutions, the optimum mix of which will vary widely between sectors and regions. It also shows that in many cases decarbonized production processes are currently not cost competitive with conventional production technology. In cases such as these, where there is currently an absence of an economic driver, decarbonization would require technological breakthroughs, a further lowering of zero-carbon energy prices, changing customer preferences willingness to pay and/or a regulatory push. This should not be seen as a ground to delay action. We believe that starting now with the decarbonization of industry would lead to better outcomes for individual companies. The long time horizons involved in building or retrofitting industrial sites mean that significant emission reductions can be achieved more efficiently through investment and plans initiated now, with an eye on capitalizing on future developments.PrefaceDecarbonization of industrial sectors the next frontier3This report offers industrial cutives, policy makers, and others a menu of options for decarbonization, along with ideas for how to prioritize and pursue them. We describe the industrial sector’s role in the climate challenge and explain how a range of innovative technologies and processes could cut CO2emissions from the production of four major industrial commodities cement, steel, ethylene, and ammonia. We present our analyses of how companies in the four focus sectors might assemble portfolios of decarbonization options that reflect their growth strategies and local conditions near their production sites. Based on these outcomes, we assess the industrial investments and changes to the energy system that are required to decarbonize these industrial processes. The report concludes with recommendations for how cutives and policy makers can position themselves as industrial decarbonization progresses. The findings in this report would not have been possible without the valuable of many industry and energy experts. We are especially grateful to the leaders and members of the Energy Transitions Commission for sharing their views with us, and to Cedric Philibert IEA, Marco Mensink Cefic and Andy Read Uniper for sharing their insights. We would also like to thank Energy Insights, McKinsey’s global energy market intelligence and analytics group, and a number of colleagues for their support and insights Peter Berg, Nicolas Denis, Dirk Durinck, Michel van Hoey, Maria Kolobova, Nathan Lash, Timo Leenman, Carlos Mendes, Joris van Niel, and Theo Jan Simons. The findings presented here represent our own, independent perspective. We share them in the hope of ining public discussion about the decarbonization challenge and helping industrial companies develop effective approaches to decarbonizing their operations.Arnout de Pee, Dickon Pinner, Occo Roelofsen, Ken Somers, Eveline Speelman, and Maaike WitteveenDecarbonization of industrial sectors the next frontier45Contentscutive summary 6 1. Industry’s role in the climate challenge 12The industrial sector is both a global economic powerhouse and a major emitter of GHG emissions 2. The next frontier 20After breakthroughs in power, transport, and buildings sectors, industrial decarbonization is the next frontier 3. Options for decarbonizing industry 24Industrial companies can reduce CO2emissions in various ways, with the optimum local mix depending on the availability of biomass, carbon-storage capacity and low-cost zero-carbon electricity and hydrogen, as well as projection changes in production capacity 4. Application of decarbonization options in the four focus sectors 36Each of the industrial processes in the focus sectors requires a tailored set of options and innovations for decarbonization 5. The investment and energy requirements for industrial 48 decarbonizationIndustrial decarbonization will require increased investment in industrial sites and has to go hand in hand with an accelerated build-out of zero-carbon electricity generation 6. Charting a way forward 54Advance planning and timely action could drive technological maturation, lower the cost of industrial decarbonization and ensure the industry energy transition advances in parallel with required changes in energy supply Technical appendix 586 Decarbonization of industrial sectors the next frontierIn the Paris Agreement of 2015, member states agreed to limit global warming to 2 C versus pre-industrial levels. This would imply reducing greenhouse gas GHG emissions by 80 to 95 percent of the 1990 level by 2050. As industry accounted for about 28 percent of global greenhouse gas emissions in 2014, it follows that these targets cannot be reached without decarbonizing industrial activities. Industrial sites have long lifetimes; therefore, upgrading or replacing these facilities to lower carbon emissions requires that planning and investments start well in advance.In this report, we investigate options to decarbonize industrial processes, especially in the cement, steel, ethylene, and ammonia sectors. We selected these sectors because they are hard to abate, due to their relatively high share of emissions from feedstocks and high-temperature heatcompared to other sectors. We conclude that decarbonizing industry is technically possible, even though technical and economical hurdles arise. We also identify the drivers of costs associated with decarbonization and the impact it will have on the broader energy system. The industrial sector is both a global economic powerhouse and a major emitter of GHG emissions The industrial sector is a vital source of wealth, prosperity, and social value on a global scale. Industrial companies produce about one-quarter of global GDP and employment, and make materials and goods that are integral to our daily lives, such as fertilizer to feed the growing global population, steel and plastics for the cars we drive, and cement for the buildings we live and work in.In 2014, direct GHG emissions from industrial processes and indirect GHG emissions from generating the electricity used in industry made up 15 Gton CO2e 28 percent of global GHG emissions. CO2comprises over 90 percent of direct and indirect GHG emissions from industrial processes. Between 1990 and 2014, GHG emissions from the industrial sector increased by 69 percent 2.2 percent per year,1while emissions from other sectors such as power, transport, and buildings increased by 23 percent 0.9 percent per year.2Almost 45 percent of industry’s CO2emissions result from the manufacturing of cement 3 Gton CO2, steel 2.9 Gton CO2, ammonia 0.5 Gton CO2, and ethylene 0.2 Gton CO2the four sectors that are the focus of this report. In these four production processes, about 45 percent of CO2emissions come from feedstocks, which are the raw materials that companies process into industrial products for example, limestone in cement production and natural gas in ammonia production. Another 35 percent of CO2emissions come from burning fuel to generate high-temperature heat. The remaining 20 percent of CO2emissions are the result of other energy requirements either the onsite burning of fossil fuels to produce medium- or low-temperature heat, and other uses on the industrial site about 13 percent or machine drive about 7 percent.31Feedstocks are the raw materials that companies process into industrial products. High-temperature heat is defined in this report as a temperature requirement above 500 C.2Based on IEA data from the World Emissions Database OECD/IEA 2018, IEA Publishing; modified by McKinsey.3Breakdown of emissions is defined by the use of various reports and datasets, most importantly IEA, Enerdata, heat and cooling demand, market perspective JRC 2012, and sector energy consumption flow charts by the US Depart- ment of Energy combined with from experts. Activities up and down the value chain are not included in these numbers and could lead to additional emissions, e.g., transportation of fuel to the production site or incineration of ethylene-based plastics at end of product life.cutive summary7Decarbonization of industrial sectors the next frontierAfter breakthroughs in the power, transport, and buildings sectors, industrial decarbonization is the next frontierGlobal efforts have driven innovation and the scaling up of decarbonization technologies for the power, buildings, and transport sectors. This has led to major reductions in the costs of these technologies. Examples are the recent reductions in the costs of solar photovoltaic modules and electric vehicles. Less innovation and cost reduction have taken place for industrial decarbonization technologies. This makes the pathways for reducing industrial CO2emissions less clear than they are for other sectors. Besides that, CO2emissions in the four focus sectors are hard to abate for four technical reasons. First, the 45 percent of CO2emissions that result from feedstocks cannot be abated by a change in fuels, only by changes to processes. Second, 35 percent of emissions come from burning fossil fuels to generate high-temperature heat in the focus sectors, process temperatures can reach 700 C to over 1,600 C. Abating these emissions by switching to alternative fuels such as zero-carbon electricity would be difficult, because this would require significant changes to the furnace design. Third, industrial processes are highly integrated, so any change to one part of a process must be accompanied by changes to other parts of that process. Finally, production facilities have long lifetimes, typically exceeding 50 years with regular maintenance. Changing processes at existing sites requires costly rebuilds or retrofits.Economic factors add to the challenge. Cement, steel, ammonia, and ethylene are commodity products for which cost is the decisive consideration in purchasing decisions. With the exception of cement, these products are traded globally. Generally, across all four sectors, externalities are not priced in and the willingness to pay more for a sustainable or decarbonized product is not yet there. Therefore, companies that increase their production costs by adopting low-carbon processes and technologies will find themselves at an economic disadvantage to industrial producers that do not. Industrial companies can reduce CO2emissions in various ways, with the optimum local mix depending on the availability of biomass, carbon-storage capacity and low-cost zero-carbon electricity and hydrogen, as well as projected changes in production capacityA combination of decarbonization technologies could bring industry emissions close to zero demand-side measures, energy efficiency improvements, electrification of heat, using hydrogen made with zero-carbon electricity as feedstock or fuel, using biomass as feedstock or fuel, carbon capture and storage CCS, and other innovations.4The optimum mix of decarbonization options depends greatly on local factors. The most important factors are access to low-cost zero-carbon electricity and access to a suitable kind of sustainably produced biomass, because most processes in the focus sectors have significant energy- and energy-carrier-related feedstock requirements that could be replaced by one or both of these alternatives. The local availability of carbon storage capacity and public and regulatory support for carbon storage determine whether CCS is an option. The regional growth outlook for the four focus sectors matters, too, because certain decarbonization options are cost effective for use at existing brownfield industrial facilities while others are more economical for newly built greenfield facilities.4Other innovations can be non-fossil-fuel feedstock change e.g., alternatives for limestone feedstock in cement production and other innovative processes e.g., reduction of iron ore with electrolysis.8 Decarbonization of industrial sectors the next frontierSince the optimum combination of decarbonization options will vary greatly from one facility to the next, companies will need to uate their options on a site-specific basis. To help industrial companies narrow down their options and focus on the most promising ones, we offer the following observations, which account for current commodity prices and technologiesƒ Energy efficiency improvements can reduce carbon emissions competitively, but cannot lead to deep decarbonization on their own. Energy efficiency improvements that lower fuel consumption by 15 to 20 percent can be economical in the long run. However, depending on the payback time