5. Going Green: The Pfizer Freiburg Energy Initiative (A)

03/2010-5680

This case was written by Sam Aflaki, PhD candidate, in collaboration with Paul R. Kleindorfer, the Paul Dubrule Chaired Professor of Sustainable Development and Academic Director of the Sustainability Programme at the INSEAD Social Innovation Centre. Useful input on this project was provided by Domenic Van Planta and Andreas Osbar, MBA students at INSEAD, and by Dr. Ulrich Kaier, CEO of EC Bioenergie GmbH. The case is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation.

Copyright © 2010 INSEAD

In December 2008, the Capital Budgeting Committee of Pfizer was about to consider a request to finance a portfolio of energy-related projects to be implemented at its production facility in the city of Freiburg, Germany. The Pfizer Freiburg Energy Portfolio, a set of interrelated energy conservation and carbon reduction projects prepared by the Site Energy Conservation team, had been spearheaded by Michael Becker, Director of Engineering. These introduced innovations aimed at energy efficiency and involved major technology changes in the way energy would be generated, utilised and distributed at the plant. Estimated total capital expenditure was modest, at least by the standards of ‘big pharma’, and the projected synergies were designed to shrink energy costs and the carbon footprint of the Freiburg plant. More importantly, if the process Becker had put together for identifying profitable projects was validated and replicated across Pfizer’s other facilities, it would advance corporate sustainability objectives to optimise the company’s ecological and economic impact, as well as its vision of creating a “healthier world”. Given the increasing cost consciousness of management, and the added environmental and reputational benefits from shrinking Pfizer’s energy and carbon footprint, the portfolio was seen as deserving more than a casual review of cash flows.

¹ This statement relates to statistics prior to Pfizer’s acquisition of Wyeth Corporation in 2009.

Quality assurance, industrial hygiene and precision in process control methods which reflected the high-tech reliability culture of the pharmaceutical industry were very much in evidence at the Freiburg plant. Furthermore, Pfizer’s environmental management credo was taken seriously at the facility, with the full backing of the plant manager, Dr. Herbert Krasowski. Krasowski saw sustainability, for which the measurement and reduction of the energy consumption and carbon footprint of the facility were essential, as a crucial pillar of creating long-term value.

These considerations had led to Becker’s decision to take a fresh look at energy consumption at Pfizer Freiburg in 2005 (ultimately resulting in the Energy Master Plan) and the identification of a number of opportunities for improving energy efficiency. The first major project undertaken was the installation of a 28.5 kW photovoltaic system on the roof of one building, followed by a geothermal heating and cooling system in 2007. These initial projects were an obvious success and recognised as such throughout Pfizer. Gradually, hundreds of small projects were framed and implemented at Pfizer Freiburg, including heat recovery systems, adiabatic cooling² and automatic power shut-down procedures, all aimed at reducing energy consumption. “Step-by-step” was the approach, building on Kaizen principles of continuous improvement for energy and resource conservation. Nonetheless, Becker’s more ambitious plans for energy efficiency, fulfilling 100% of the energy needs of the facility from renewable sources, were not immediately embraced.

² The process of reducing the temperature of a system without heat exchange between the system and its surrounding environment.

The economic crisis of 2007-2008 and the increased cost consciousness of the pharmaceutical industry resulting from the global economic downturn brought even more focus to Pfizer’s energy efficiency efforts.³ Adding emphasis to this was the election in November 2008 of Barack Obama as US president. Obama’s proposed healthcare plan to extend coverage to the remaining 15%+ of the uninsured population, while reducing costs, seemed likely to put further pressure on the pharmaceutical industry. Pfizer thus came under immense pressure to cut costs in every corner of the enterprise. With rising and highly volatile prices, energy consumption was one of several areas that received attention. Fortunately, this coincided with the foundational work that Pfizer had established with its Energy and Climate Change Programme and the work Becker and his team had accomplished in 2005-2006 to identify and value energy efficiency projects at Pfizer Freiburg.

³ Pfizer’s Energy and Climate Change Programme was established in 2000. Corporate Energy Conservation Guidelines had been in place since 1996.

While cost was a major driver of the interest in energy efficiency, sustainability issues were also important. In 2002, Pfizer’s Energy and Climate Change Programme had established a public goal of reducing its greenhouse gas (GHG) emissions by 35% relative to sales by 2007, from a 2000 baseline. Pfizer exceeded the goal, achieving a 43% reduction relative to sales. In 2007, a new goal was announced to reduce total global GHG emissions by 20% on an absolute basis from 2007 to 2012. This followed several decades of increasing awareness and public concern about the impact of industrial activity on the biosphere, and especially its consequences for climate change. Initiatives to reduce CO₂ and other GHG emissions that followed the Kyoto Protocol (ultimately coming into force in February 2005) had significant implications for all companies, particularly those that were energy intensive. Although the pharmaceutical industry was not in the frontline of industries to be regulated in terms of emissions, most companies had considered moving towards sustainability (or, as Becker put it, “going green”) as a core value both for their public image and with the strategic objective of increasing their flexibility to face the future dynamics of the corporate environment. If this could be accomplished while simultaneously reducing energy-related costs, well, so much the better.

Becker and the Site Energy Conservation (SECON) team had worked with site process owners as well as external service providers to form a set of alternative options for the facility’s energy needs and manufacturing processes in order to increase energy and carbon efficiency. The process he had developed over several years was based on four basic principles:

• Integration of all projects into a transparent value-based Energy and Resource Conservation Master Plan to show progress over time, to identify synergies across projects and to show systemic interactions of these projects;

• Objective measurement of energy inputs and useful work accomplished with energy for the Freiburg facility as a whole as well as for individual processes at the site;

• Working with process owners at the facility in a participative way to identify opportunities for improving energy efficiency and to implement projects with the highest combined energy and cost impact;

• Developing a transparent process for valuing the cash flows and energy consequences of identified projects.

In Becker’s words, there was a need for “measurement, vision and value”. His team was responsible for the measurement side. They used various mapping tools based on life cycle analysis (LCA) to determine the inputs and outputs of individual processes throughout the facility. Ongoing discussions with process owners, with the results of measurement and historical trends in hand, led to joint decisions on potential projects. Further work to value these was undertaken jointly by Becker and the SECON team in cooperation with the respective process owners. Results on energy and cost were carefully monitored and fed back into the measurement process.

To ensure an adequate effort from the process owners, Becker was emphatic that the credit for implementation and positive results should accrue to them. This was often straightforward in that process owners at the Freiburg facility were directly accountable for energy costs as a part of their overall performance. Beyond the reinforcement of Freiburg’s process-based cost accounting, efficiency in the process of option generation was also ensured by facilitating a bilateral flow of information between the process owners and external consultants, who had been invited by Becker to provide information and bids on projects requiring technical support beyond the capacity of the permanent Freiburg engineering staff. Becker’s insistence on a participative approach helped to invoke the interest and effort of multiple operational units at Pfizer Freiburg to define for themselves projects where a potential had been identified by Becker’s LCA mapping system, and to move towards harvesting the benefits.

A set of representative projects in the Energy Master Plan with estimated profit potential for the Pfizer Freiburg facility are listed in Table 1.

Table 1 Representative Projects in the Freiburg Energy Master Plan

Becker estimated that there were four general sources of profit for projects in the Energy Master Plan:

a. Reductions in operational and maintenance costs relative to business as usual.

b. Reductions in GHG emissions by using more eco-friendly technologies, some of which could be certified in the Joint Implementation market for GHG emissions, with resulting revenues from the CO₂ emission credits received (see Appendix 1).

c. Governmental incentives (tax reductions and feed-in tariffs for excess electric energy resold to the grid).⁴

⁴ Feed-in tariffs provide incentives to adopt renewal energy resources. In Germany, according to the Renewable Energy Law passed in 2008 and coming into force in 2009, companies generating electricity from renewable energy sources such as hydro, solar, biomass or wind will receive a guaranteed payment per kWh of excess electricity fed into/resold to the grid. For electricity generated from biomass, for example, this payment amounted to 8.4 to 11.5 euro cents/kwh, depending on the size of the installation, with these guaranteed prices decreasing annually from 2010 on. This meant that if Pfizer installed a cogeneration unit burning wood pellets, for example, it could generate both electricity for the Freiburg facility as well as process heat. It could thereby both displace energy purchases from the gas or electricity grid as well as generate additional revenues from feed-in tariffs by selling excess electric power from its cogeneration unit to the grid.

d. Further benefits in aligning operations with corporate environmental goals and Pfizer’s corporate social responsibility objectives.

Some of the projects, such as insulation and smart air-conditioning systems, were “no brainers”, with low upfront investments, relative certainty of the direct benefits of the project, and short payback periods (group 1), while others required significant capital expenditure and entailed some degree of uncertainty in profitability (group 2). Group 2 projects were the most ambitious, but also the most significant in terms of expected reduction in long-term cost and environmental benefits. Examples of group 2 projects included the installation of a geothermal heating and cooling system and a new wood-pellet boiler.⁵

⁵ The boiler itself would be of standard industrial type, a closed vessel in which water (or other fluid) is heated and used to generate heat and steam for building heat and production. Wood pellets are a type of biofuel produced from the biomass harvested from sustainably managed forests and waste products from sawmills. High density and low humidity make wood pellets an efficient combustion fuel option. They have significantly lower GHG emissions in their production life cycle, since if the excess wood from which they are made is left to decay naturally, it will yield basically the same GHG emissions as if it were burned as wood pellets. Biomass is therefore considered a near-zero net GHG emission source of energy.

Geothermal heating and cooling was the first major project in group 2 to be implemented from the Energy Master Plan and it had a significant ecological and economic impact on the Freiburg site. The project was supported by Dr. Krasowski, the Global Engineering Group from Pfizer, the Frauenhofer Institute and the municipal government of the Green City of Freiburg. After careful test drills and geological studies had established the safety and feasibility of the project, some 19 access shafts around the facility were drilled reaching 130 metres into the ground. These provided access for closed loop piping that brought circulating water into contact with underground water at a nearly constant year-round temperature of 12-14°C. Water in the closed loop system that was pumped through an aquifer came out at this temperature. Since that temperature was considerably lower than the ambient temperature in summer (around 25°C) and considerably higher than the ambient temperature in winter, circulating the water from the geothermal closed-loop system through a network of pipes embedded in the walls of the facility resulted in cooling the ambient air in summer and heating it in winter. Of course, additional cooling and heating were required to maintain temperatures within a comfort range, but the geothermal wells and pumping system went a long way to achieve heating and cooling efficiencies. The system became operational in the summer of 2008.

With a payback period of less than two years, the geothermal project was immediately hailed as a success for the Becker-Krasowski vision of sustainable energy for the Freiburg facility. The project yielded considerable savings in annual energy costs, reducing gas and fuel consumption by 3,325 megawatt hours (MWh) and CO₂ emissions by 1,200 metric tons. Harvesting the benefits of the geothermal project underlined the importance of having a comprehensive Energy Master Plan. The geothermal installation was an essential part of that plan, but its full benefits could only be harvested in connection with other projects in the plan. The entire process was driven by the vision of a low-energy-consuming plant designed and constructed using the latest energy- and resource-conservation principles.⁶

⁶ The story of the geothermal project is available at: http://www.pfizer.com/responsibility/protecting_environment/case_studies_freiburg.jsp.

The geothermal project was a success for both energy efficiency and carbon mitigation, but Becker also saw it as part of a broader vision of energy efficiency at Freiburg. The next step was the installation of a biomass boiler, which he considered to be one of the major projects in his portfolio, with huge benefits in both environmental and cost terms, and which would ultimately allow the Freiburg facility to generate all its energy from renewable sources.

The two older boilers, #1 and # 2, were found to be at high risk of failure in an FMEA⁷ analysis in 2007. Moreover, gas supply for these boilers was not sustainable due to lack of locally available capacity in winter, which had occasionally obliged the company to switch to oil in winter as an alternative fuel, with consequent additional costs.

⁷ Failure Mode and Effect Analysis, the basic engineering risk assessment process to determine conditions and likelihood of equipment failure. The FMEA process is standardized and well developed for boilers.

The Wood-Pellet Boiler (WooB) Project consisted of the replacement of boilers #1 and #2 with a single, more efficient boiler fired by wood pellets. The initial cost of the replacement boiler was higher than an alternative gas boiler, but the payback period on the additional investment was less than two years. The boiler was installed with technical assistance from EC Bioenergie GmbH, a Heidelberg-based company specialising in biomass, which was also contracted as the initial provider of wood pellets to fire the boiler.

The replacement biomass boiler’s capacity was estimated conservatively to be 5 tons/h, but its initial implementation generated between 5.5 and 6 tons/h. It was in compliance with EU safety, hazardous material, noise emission and ergonomic standards. With the additional measures undertaken towards energy efficiency such as the geothermal heating and cooling system, the new boiler was estimated to meet the facility’s total needs for heat and steam.

Wood pellets were in plentiful supply given the proximity of the Freiburg facility to the Black Forest. They would be delivered by truck and moved into an on-site wood pellet silo by means of a pneumatic conveyor system. The boiler technology was well understood, and EC Bioenergie had an excellent reputation and was viewed by Pfizer as a highly reliable supplier.

CO₂ emissions from wood pellets were 0 tons per megawatt-hours (based on Kyoto regulations), while oil and natural gas produced 0.25 and 0.19 tons of CO₂ per MWh respectively, for equivalent energy use. The reduced emissions from the WooB project were estimated at 5,500 tons/year. It would not only help Pfizer to reduce its carbon footprint, but it could be certified and the credits obtained sold in the European Emissions Trading System (ETS).

While pharmaceutical companies and their facilities were not regulated directly, to encourage cost-effective GHG emission reductions any company in the EU could apply for credits under the so-called Joint Implementation (JI) process. JI allowed certification agencies to verify emissions reductions from energy efficiency projects, leading to credits (in terms of tons of CO₂ equivalent emissions reductions) which could be traded in the cap-and-trade system at the going market price. The price in December 2008 for such credits in the ETS market was just under €15/teCO₂. Even at this relatively depressed price (due to the lower level of economic activity associated with the 2007-2008 economic crisis), once certified under JI, the resulting revenues from 5,500 tons of CO₂ saved by the WooB project would add €80,000 per annum to the already positive NPV of the project.

Exhibits 1–6 provide some basic data that Becker and his team used for the evaluation of the WooB project. These data enabled the team to do a standard cash flow and risk analysis which was to be integrated with managerial and strategic considerations for a comprehensive value assessment. These exhibits reflect only the relevant engineering and financial information necessary for a rough analysis of the value of the WooB project.

Becker envisaged a three-phase process for the WooB project (see Figure 5-1). In phase 1, the Pfizer facility would contract with EC Bioenergie to install the boiler and supply wood pellets for the coming five years. EC Bioenergie had sufficient long-term contracts itself that it was prepared to offer a five-year supply contract to Pfizer based on the German wood-pellet price index (an index of the cost of wood pellets across Germany) and capped at 70% of the heat equivalent market cost of oil. Interestingly, the use of performance-based contracting of this sort was driven by the CEO of EC Bioenergie, Dr. Ulrich Kaier, an energetic elder statesman of sustainable energy in Germany, who had nt some 30 years developing and marketing biomass technology.

Figure 5.1 A Schematic Model of the WooB Project

Phase 2 of the WooB project involved the installation of an absorption cooling system that would use some of the steam generated in the WooB as input to an absorption cooler. This was viewed as an important complement to the cooling already provided by the geothermal system, and had the additional benefit of assuring a more seasonally balanced use of the thermal energy generated by the WooB.

Phase 3 foresaw the installation of a co-generation⁸ unit. This would replace one of the remaining oil and gas boilers (Boiler #4, capacity 6 tons/hr), leaving only Boiler #3 (capacity 8 tons/hr) as a backup oil/gas-fired boiler. The electric power generated from the co-generation unit would be used for lighting and production, and the heat would be captured for building and process heat (in the so-called combined cycle process) rather than simply releasing it into the environment. The electricity produced would be used by the Pfizer facility or re-sold to the grid. With the completion of phase 3, the Freiburg facility would supply 100% of its own energy needs from biomass obtained within 50 kilometres of its facility, as well as producing and supplying additional renewable energy (with zero carbon net emissions) to the local grid.

⁸ Co-generation refers to the process of generating both electricity and heat from the same electric generator.

If phases 1-3 of the Freiburg Energy and Resource Master Plan were as successful as hoped, Pfizer could capture these as best practices and disseminate them to other sites as part of its sustainability strategy.

Figure 5.2 The Becker Energy Project Portfolio and Pfizer’s Sustainability Agenda

CO₂ emissions reductions resulting from the Freiburg Energy Portfolio illustrated its alignment with Pfizer’s commitment to sustainability. Pfizer had also endorsed “Caring for Climate”, a supplemental initiative through the UNGC focused on climate change. Companies were required to publish a ‘Communication on Progress’—on programmes and performance that supported the ten principles of the Global Compact—which at Pfizer took the form of its Corporate Responsibility Report. One aspect of this, noted above, was the goal to reduce GHG emissions by 20% on an absolute basis by the end of 2012 (from 2007 the baseline year).

In line with these objectives and public commitments, Pfizer initiated a global energy and climate change programme to understand the challenges of climate change and to cope with new carbon constraints. It received increasing recognition for its efforts towards sustainability, both in the local and global community. Pfizer was included in the Carbon Disclosure Leadership Index for the third consecutive year in 2009, in recognition of its understanding of the impacts of climate change on business and for taking appropriate measures at leadership levels to lessen these impacts. The achievement of Pfizer’s initial greenhouse gas reduction goals was also honoured by the US Environmental Protection Agency (EPA).

The Freiburg energy initiative, if coordinated appropriately, could be seen as a role model for the energy component of Pfizer’s broader sustainability agenda. Replicating this elsewhere could mobilise a series of similar initiatives at Pfizer facilities around the globe. Besides the energy savings and external brand image benefits, the participative approach, which was core to Becker’s plan, could increase employee enthusiasm for facility engineering management regarding environmental issues and raise the company’s credibility in dealing with local authorities and external stakeholders.

Achieving the indication reduction targets is left to individual countries (with some blocks of countries being treated as a single entity for the purposes of meeting the target, as is the case of the European Union, which reports as a single entity for the purpose of the Protocol). In the EU there are both direct regulations regarding energy and carbon efficiency targets as well as the requirement that some 12,000 facilities in energy-intensive sectors, such as steel and cement, must cover their emissions at the end of each year with emission certificates. They can either purchase these certificates through the European Trading System (ETS), or generate them by implementing projects that lead to reduction in GHG emissions relative to a business-as-usual case. Figure 5-3 shows the basic structure of this scheme.

From Mansanet-Bataller, M. and A. Pardo (2008). “What you need to know to trade in CO₂ markets.” Mission Climat de la Caisse des Dépéts, Paris.

Figure 5.3 Structure of the Kyoto Protocol Emission Permit and Trading Systems

There are two mechanisms under the Kyoto Protocol through which such projects can be certified as having achieved emission reductions: joint implementation (JI) and the clean development mechanism (CDM). In the JI, the industrialised countries, listed in the Kyoto Protocol as Annex I countries, implement emission reduction projects in Annex I countries. This will result in the issuance of emission reduction units (ERUs) which can be used by Annex I countries themselves, or by companies operating in these countries, to verify compliance of their emission targets. The CDM is essentially identical to the JI mechanism, with the difference that under CDM, the emission efficiency project is implemented in a developing country. JI or CDM projects result in certified emission reduction units (CERs), which can be submitted for compliance. These reduction units or “allowances” can then be traded in the existing markets, and the traded allowances can be used to achieve compliance.

In the case of Pfizer Freiburg, their geothermal and their WooB project were able to achieve certification as JI projects resulting in GHG certification credits obtained for CO₂ emission reduction, against a business-as-usual scenario, of over 6,000 tons per year. As noted below, these certified reductions lead to ERUs which are tradable on the active carbon markets in Europe. They can be tradable as well in other cap and trade systems in the US, for example, once these systems are launched.

Emissions trading in Europe: The 15 countries of the European Union 15 (EU-15, including Germany) are considered as a whole by the Kyoto Protocol, and therefore have pooled their reduction in an internal burden-sharing agreement. In March 2008, the European Council in Brussels approved an ambitious energy plan that required the EU countries to reduce their emission by 20% by the year 2020.

The European Union Emission Trading Scheme (EU ETS) is the first international trading system for CO₂ emission. Each EU allowance (EUA) is a permit to emit one metric ton of CO₂ under the EU ETS. National Allocation Plans (NAPs) determine the total number of EUAs that Member States grant to their companies, which can then be sold or bought by the companies in one of the carbon markets active across the EU. This means that each Member State must ex ante decide how many EUAs to allocate in total for a trading period, and how many each plant covered by the EU ETS will receive. The first trading period ran from 2005-2007, the second from 2008-2012, and the third will start in 2013. Member States use the ETS as a primary means of efficiently limiting CO₂ emissions from the energy-intensive industrial sectors through the allocation and trading of allowances, thereby creating scarcity of permits to emit carbon, so that a functioning market can develop to allow the least expensive sources of abatement to be discovered by the market for EUA trading.

Prices for EUAs are quoted in euros per ton of carbon dioxide and allow the holder to emit one metric ton of CO₂ throughout the period of the contract. Trades are quoted from 5,000t–50,000t with 5,000t increments. EUA prices have been highly volatile ranging from 0 to $35, given the previous uncertainties about the international response to climate change and the US action. It is now clear that this price will not fall to 0 again, especially given the new US administration’s commitment to taking action to join the Kyoto Protocol and the rising global concerns about climate change. The post Kyoto agreements and renewal, and perhaps strengthening of the Protocol targets, were the major agenda item at the 2009 United Nations Climate Change Conference in Copenhagen. While this did not lead to specific targets, the resulting Copenhagen Accord did embody a renewed sense of urgency in keeping overall surface temperature increases below the 2°C level, which is likely to lead to more stringent targets to reduce CO₂ emissions.

In addition to the trading of ERUs, the German government passed several laws to provide direct legal and financial incentives towards using renewable energy (and reducing CO₂ emissions), by granting subsides to renewable producers (1990 Electricity Feed Law and 2000 Renewable Energy Law). This makes the future option of electricity/heat co-generation a potentially interesting project, building on the initial phase of the WooB project.

Figure 5.4 EU ETS Carbon Prices from January 2006 to December 2008

Exhibit 1 Pfizer’s Energy Mix Before and After the Installation of WooB

Note: Figures are provided with the following assumptions on the energy content of the fuels: Fuel oil (12.1 MWh/ton), Natural gas (0.3 MWh/mbtu) and wood pellets (4.8 MWh/ton).

Exhibit 2 Maintenance Costs of the Existing and New Boilers (€/year)

Exhibit 3 Pre-project Cost Estimates for Central Elements of the WooB Project

Exhibit 4 Wood Pellet Prices Compared to Oil and Natural Gas (in Euro Cents)

Notes:

The wood pellet industry is increasingly profitable in southern Germany and pellet boilers are being installed more and more. The trend towards using more energy-efficient heating systems is likely to increase the demand for wood pellets. Prices declined in Europe in 2009, but increasing demand is likely to push prices upwards. Nonetheless, the expectation is that the price will remain well below that of other alternatives like oil and natural gas for at least the next five years. Another interesting feature of pellet prices is the lower variability in comparison with other options.

The use of wood pellets is common in neighbouring industrial facilities in Freiburg and the supply of wood pellets is a sustainable fuel for the local region, given the large forestry resources of the adjacent Black Forest region of Germany. The wood pellet supply firm EC Bioenergie has provided contractual guarantees for the security of the wood pellet supply chain.

Exhibit 5 IEA⁹ Scenarios for Energy and CO₂ Prices

⁹ International Energy Agency

¹⁰ International Monetary Fund

Exhibit 6 Real Energy Price Growth under Different IEA Scenarios¹¹

¹¹ By the end of 2008, the global carbon market was worth over $86 billion, with predictions of a market of $1.9 trillion by 2020. See http://www.newenergyfinance.com/.