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The industrial machinery sector, a subset of the larger manufacturing industry, produces products and equipment essential for manufacturing other goods. As part of the supply chain of larger, consumer-facing companies, these businesses must comply with their customers’ Scope 3 requirements. While this sector may not directly feel consumer pressure to green their operations, it cascades down to them whenever their clients embrace decarbonization.
If these machinery companies are not prepared to decarbonize, or have not already started down that pathway, they risk increased costs from having to meet the demands of the companies they supply. They also face reputational risk from being perceived as environmental laggards, or even removal from the supplier list due to non-compliance with their customers’ decarbonization targets. Therefore, it’s essential that industrial machinery companies are prepared for a landscape where sustainability and competitiveness converge.
To be prepared to meet their clients’ sustainability demands, machinery companies should become early adopters of a holistic, whole-company approach to decarbonization. When designing and implementing a decarbonization pathway, companies should analyze potential implementation scenarios through the lens of Total Cost of Ownership (TCO) rather than as isolated initiatives with quick returns on investment (ROI) to enable them to calculate the impact of decarbonization over the entire journey.
ROI is a familiar tool in business decision-making, calculating the ratio of the return on an investment to its cost. It helps companies allocate resources effectively. However, while ROI is a quick and easy way to estimate the success of an isolated investment, it has limitations, as it often overlooks the long-term performance of investments.
Another common cost analysis approach is TCO, which accounts for all relevant costs over an asset’s lifecycle, not just the initial purchase cost. This provides a clearer understanding of the true total cost of assets, facilitating better decision-making and resource management.
TCO analyses typically include direct costs, operating costs (such as fuel), management costs, and disposal costs over the asset's lifetime. This is particularly useful when evaluating decarbonization scenarios, which may have longer payback periods.
By viewing decarbonization investments through a TCO lens, companies can more easily accept lower short-term ROI on certain items given the role they play in a broader strategy that will ultimately deliver a robust, sustainable payoff. Instead of focusing solely on an asset’s ROI, TCO considers its potential to drive long-term benefits within the overall decarbonization roadmap.
To calculate the financial impact of TCO, companies can factor in the future costs and benefits associated with decarbonization initiatives. This approach assesses the cost difference between adopting renewable energy or other low-carbon technologies, such as electric vehicles or solar panels, and using traditional high-carbon technologies like fossil fuels.
While some companies pay the current market price for carbon emissions of approximately €100 per ton of CO2 as set by the EU Emissions Trading System (ETS), others are proactively incorporating future costs into their planning to demonstrate better financial returns on green technology investments. Adopting environmentally friendly technologies often requires higher initial investments and costs compared to a “Business as Usual” (BaU) approach. However, recent TCO analyses of various industrial facilities show that the overall TCO of decarbonization is often lower than that of maintaining the status quo, with the investment portion (CapEx) often making up only about 12% to 15% of the TCO over the decarbonization journey.
Engie Impact conducted a Net Zero Factory for a manufacturing site where 2/3 of the energy volume is thermal (gas) and 1/3 of the energy volume is electrical. The resulting decarbonization pathway relies on:
1. Energy conservation measures
2. Power purchase agreement (PPA)
3. Electrification through heat pumps (for hot water) and electric boilers (for steam)
The graph below illustrates TCO over project duration 2024 – 2050 (M€)
Zooming in on the decarbonization pathway, note that as energy sourcing transitions from natural gas to green electricity contracted through a PPA, the cost of energy declines as overall emissions are reduced to zero.
This scenario concerns a typical industrial machinery company – a gearbox manufacturer [GB]. GB does not produce a stand-alone product generating value on its own. It only creates value through a larger company that uses that gearbox in another product – a car.
The transition begins when an automotive company, to which GB supplies gearboxes, faces regulatory and consumer pressure to reduce emissions. When that company decides to decarbonize, it develops a plan which includes imposing its carbon goals on its suppliers – e.g., on GB – against a short timeline, exerting pressure across its supply chain.
Like many suppliers, GB is not prepared to decarbonize at the required levels. They had been pursuing their targets using ROI criteria and now need to adjust to meet someone else’s criteria. However, GB lacks the financial means to transition its assets to low-carbon options. And while GB’s engineers are technically adept, they do not have the expertise to set up a decarbonization roadmap.
As major dates on the global decarbonization calendar are fast approaching, more and more companies will be accelerating their sustainability efforts. Machinery sector companies, which often have significant emissions and long supply chains to manage, should not wait until targets are imposed on them to enlist help in preparing their decarbonization roadmap.
Many industrial machinery companies lack the expertise, technologies, and capital to undergo the necessary carbon transformation at the required speed and scale. As a result, they face formidable sustainability challenges that impede progress toward reducing carbon emissions. Nevertheless, they have options to lower the barriers and start moving in the right direction.
A critical early exercise is ambition setting, whereby the company considers the feasibility and credibility of decarbonization targets. They need to ask themselves key questions: How far should they go to meet the demands of the supply chain head (e.g., demands made by the car manufacturer in the scenario above)? How to arrive at a credible target? Should they comply with an international standard such as SBTI? or devise their own trajectories? How do they finance this transition – with their own capital, a green fund, or through a third party?
A holistic decarbonization strategy goes beyond setting ambitious targets. To deliver outcomes on time and budget, organizations need a phased plan with actionable steps to integrate proven technologies, secure financing, and enhance organizational coordination. While companies in the sector may not have experience developing a roadmap, onsite engineers familiar with complex processes are crucial for implementing technical decarbonization measures. Co-creation ensures their long-term engagement.
ENGIE Impact’s research shows budget constraints and a lack of investment are the primary barriers to implementing decarbonization initiatives. The high cost of robust carbon mitigation, and a narrow ROI focus, often lead companies to favor low-cost, quick-payback projects at a site or facility. As a result, they could find themselves in the predicament of the GB company discussed above, neglecting broader decarbonization investments until client sustainability targets impose them.
This predicament points to the fact that companies should realize that sustained investment is essential to turn decarbonization strategy into reality. They should be aware of the available financing options for decarbonization projects that fall outside the typical ROI framework for core business expenditures. Financing options include internal funds, debt, and service agreements.
Investors must weigh multiple factors when deciding on a financing solution and take a holistic view of the costs associated with the proposed project. TCO not only considers the initial capital outlay and the ongoing operational and maintenance costs but also accounts for the fact that new technology typically reduces running costs, improving the business case.
This approach helps decision-makers understand the complete economic impact of the investment, supports informed decision-making about resource allocation to maximize return on investment, and helps align long-term organizational goals with environmental and social impacts.
If a decarbonization project or investment does not meet the typical payback threshold companies expect, switching from an ROI to a TCO perspective can improve the chances of implementing the necessary carbon mitigation measures. Another way to lower the barrier to investing in decarbonization projects is through internal carbon pricing (ICP). ICP is a corporate financing strategy whereby a company assigns a monetary value to carbon emissions, typically as a price per ton of CO2.
ICP fosters an understanding of the risks and costs of a company’s environmental impact, which can then be factored into investment decisions. It is gaining traction because governments and regulatory bodies increasingly adopt carbon pricing to account for the external costs of GHG emissions, such as crop damage and health risks due to extreme weather, and property loss due to flooding and sea level rise. The EU ETS is one example, where companies either reduce emissions or pay a direct tax.
The advantage of ICP is that it provides a foundation for estimating future carbon costs and creating a strategy to manage them. Companies mainly use two main forms of ICP. The most common is shadow pricing, where a company places a notional value on GHG emissions to assess the potential costs and benefits of various emission reduction strategies. This shadow price helps calculate the added fiscal value of decarbonization projects, offsets, or renewable energy certificates. The second is an internal payment scheme, which sets a carbon price and requires business units to pay each other, or a central pool of funds, based on their emissions.
By incorporating the cost of carbon into financial planning, companies can make decarbonization projects more economically attractive. Reducing energy use through efficiency measures not only lowers energy costs but also avoids future carbon taxes that would have been charged had those measures not been taken. In this way, the shadow price used in ICP calculations offsets costs that might otherwise deter decarbonization investments.
Machinery companies that adopt ICP early can avoid the shock of transition costs when major clients impose sustainability targets. Companies are already preparing for 2040 when they’ll face ETS taxes. Including ICP in financial equations now will make decarbonization investments more appealing in the long term. It’s crucial for companies to adopt ICP proactively, rather than waiting until they are forced to do so.
