Spencer P. Cavalier, CFA, Managing Director & Co-Head, Sean P. Dooley, CFA, Managing Director, M. Vance Saunders, CPA, Managing Director, John C. Duni, CFA, CPA, Vice President, James Mickelinc, CPA, Associate
Downstream Energy & Convenience Retail Investment Banking Group

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Introduction
There have been lots of buzz words, talking points, and ambitious initiatives disseminated to the public since New York State signed into law the Climate Leadership and Community Protection (Climate Act) on July 18, 2019, and Gavin Newsom, Governor of California, signed Executive Order N-79-20 on September 23, 2020. This CMP will summarize some of the more impactful recent plans and initiatives related to climate change and carbon & emission reduction that are scheduled to begin impacting citizens in earnest over the next decade.

There is no denying the significant, recent effort by various governors, state legislatures, and other state-level regulatory bodies (most notably, in the states of California, New York, Washington, New Jersey, and the Commonwealth of Massachusetts) to mandate transformational change of energy sources for citizens’ residences and vehicles, as well as energy infrastructure for commercial buildings. New York State’s Climate Act is among the most ambitious climate laws in the nation and requires New York to reduce economy-wide greenhouse gas emissions 40% by 2030 and no less than 85% by 2050 from 1990 levels. Throughout this paper you will see numerous references to zero-emissions, which is typically defined as an engine, motor, process, or other energy source, that emits no net waste products that pollute the environment or disrupt the climate.

Key highlights from relevant legislation impacting vehicles and building requirements are detailed below:

Stated Goals in California Executive Order N-79-20 (Signed 9/23/20)

• 100% of in-state sales of new passenger cars and trucks be zero-emission by 2035.
• 100% of medium-and heavy-duty vehicles in California be zero-emission by 2045 for all operations where feasible and by 2035 for drayage trucks, which are generally diesel-fueled, heavy-duty (Class 8) trucks that transport containers and bulk freight between the port and intermodal rail facilities, distribution centers, and other near-port locations.
• 100% of off-road vehicles and equipment operations in California be zero-emission by 2035.

California Air Resources Board (CARB) 2022 State Strategy for the State Implementation Plan (Adopted 9/22/22)

• Statewide planning document that identifies smog-reduction strategies.
• Sets a zero-emission standard in residential and commercial buildings for space and water heaters. Beginning in 2030, 100% of new space heaters and water heaters sold would be required to be zero- emission.
• State and local government fleets required to add only zero-emission vehicles (ZEVs) to fleets, beginning with 50% of new additions in 2024 and increasing to 100% by 2027.
• Drayage Trucks:

o Legacy trucks that reported to CARB prior to 2024 can remain in service until the model year of the engine exceeds 13 years or 800,000 miles with a maximum of 18 years from the engine certification date.
o As of January 1, 2024, any truck added to drayage service would need to be a zero-emission.
o All drayage trucks entering seaports and intermodal railyards would be required to be zero- emission by 2035.

• For high priority and federal fleets (based in California) beginning 2024, all additions to these specified fleets are required to be ZEVs. Existing trucks must upgrade to ZEVs when the model year of the engine exceeds 13 years or 800,000 miles with a maximum of 18 years from the engine certificate date or meet other graduated fleet milestones.

New York State Climate Action Council Scoping Plan (Voted to advance on 12/19/22)

• Adopted California Clean Cars II Regulation, which requires all new light-duty vehicle sales be zero emissions by 2035.
• Provides for ZEV rebates for the purchase of zero-emissions light-duty vehicles.
• Beginning in 2025, all new building construction submitted for permitting are required to avoid building systems or equipment that can be used for the combustion of fossil fuels.
• Beginning in 2030, a requirement to adopt zero-emission standards that prohibit gas/oil replacements (at the end of equipment’s useful life) of heating and cooling and hot water equipment for single-family homes and low-rise residential buildings with up to 49 housing units.

Examining the Current Residential Heating Systems in California and New York State
As summarized in the introduction of this paper, which emphasizes the regulatory outlook for vehicles and buildings, there are ambitious efforts underway to fundamentally transform the energy infrastructure of the country and how citizens/consumers power their vehicles, homes, and everyday life activities. In many cases, it is an effort to make electricity the dominant to near sole source of energy. To illustrate how fundamental of a change this is from the current energy landscape, there are two pie charts, on the next page, detailing the energy type for Residential Heating Systems in New York State and California per 2020 US Census Bureau statistics. As you will see in the pie charts, electricity comprises only ~13% and ~27% in New York State and California, respectively. While electricity is the #3 energy source for residential heating in New York and #2 in California, it would need to increase eight-fold and four-fold, respectively, in order to electrify everything in the home. One does not need to have his or her PhD in statistics to understand that this is a monumental overhaul of residential energy sources. While most people tend think of the major metro areas of New York City, Los Angeles, San Francisco, etc., the majority of both states, in terms of square miles, are quite rural in nature and do not have existing electricity infrastructure available for residents in the more rural areas.

Examining the Role of Other Energy Sources in the Transition to a Greener, Lower Emissions Goal
Larry Fink, CEO of Blackrock (NYSE: BLK), in his 2022 Annual Letter to CEOs, titled The Power of Capitalism, and someone generally known to not be the greatest admirer of non-green energy, wrote: “The transition to net zero is already uneven with different parts of the global economy moving at different speeds. It will not happen overnight. We need to pass through shades of brown to shades of green. For example, to ensure continuity of affordable energy supplies during the transition, traditional fossil fuels like natural gas will play an important role both for power generation and heating in certain regions, as well as for the production of hydrogen.” He further wrote, “As we pursue these ambitious goals – which will take time – governments and companies must ensure that people continue to have access to reliable and affordable energy sources. This is the only way we will create a green economy that is fair and just and avoid societal discord. And any plan that focuses solely on limiting supply and fails to address demand for hydrocarbons will drive up energy prices for those who can least afford it, resulting in greater polarization around climate change and eroding progress.”

Does gradually passing through shades of brown to shades of green, as Larry Fink mentioned, who has perhaps near unrivaled insight into the energy investment transition via Blackrock’s ~$10 trillion assets under management (AUM), sound similar to the recent comments from Richard Trumka Jr., Commissioner of the Consumer Product Safety Commission (CPSC) calling for banning gas stoves in the homes of private citizens? Trumka was quoted in a January 11, 2023 Bloomberg interview, stating gas stove usage is a ‘hidden hazard” and that “Any option is on the table. Products that cannot be made safe can be banned.”

Or going back even further to December 2021, when the New York City Council voted to approve its ban of gas-powered heaters, stoves, and water boilers in new construction – can these measures be described as gradual or cautious? Just one of the myriads of challenges that Larry Fink likely had in mind as he drafted his 2022 Annual Letter to CEOs, may have been the concerns that are echoing across the country, including in New York City, regarding whether the required investments in regional electrical grids can be made in advance of these ambitious deadlines.

Speaking to PolitiFact about the upcoming restrictions on fossil fuel combustion-based energy in New York, David Bertola, spokesman for National Grid, one of several companies that supplies electricity to end-users in New York State, noted, “We expect to see increased load from the building sector, where energy delivered by the gas networks is currently three to four times the amount of energy delivered by electric; paired with a rapidly electrifying transportation sector, the grid as it exists today could not handle these anticipated increases in load.” When it comes to concerns about the reliability of New York’s electrical grid, Mr. Bertola is not alone. In November of 2022, the New York Independent System Operator (“NYISO”), which manages the state’s bulk transmission lines, published its 2022 Reliability Needs Assessment which similarly warns of potential disruptions in electricity supply, particularly in New York City, if additional investments are not made. The report goes even further, stating that “a minimum of 17,000 MW of [its] existing fossil fleet will need to be retained to reliably serve a net peak demand of 26,700 MW.”

The likely truth, which stakeholders from Larry Fink to the NYISO seem to understand, is that an “everything or nothing” approach to reducing greenhouse gas emissions carries with it severe risks to the energy industry and existing infrastructure and places a significant economic burden on every-day working people, which will have ripple effects throughout the broader economy, impacting all industries in some form. Major capital improvements to electricity generation and transportation capacity like those contemplated by the California and New York plans are, as the respective plans acknowledge, expensive, especially so given the accelerated timeframe to comply with upcoming mandates. Unfortunately for residents of those states, there are, ultimately, only two potential sources of additional capital for projects of that scale for a publicly regulated utility – either passing the costs on to end-users in the form of energy rate increases or asking for additional government subsidies. In either scenario, ratepayers and/or taxpayers will bear the brunt of the costs for the green transition to electricity-based power systems.

The New York and California approaches also pass over a wide range of existing technologies that have the potential to significantly reduce greenhouse gas emissions without requiring, or at least laddering out, the kinds of significant infrastructure investments discussed above. Renewable diesel, for example, is one of several “drop-in” fuels which are chemically similar to their fossil-based counterparts and can be used in traditional fossil-fuel powered engines and appliances. Made from fats and oils such as soybean oil and canola oil, renewable diesel is 65% less carbon intensive than its petroleum-based counterpart and its supply is becoming more abundant each year. In fact, global renewable diesel capacity is expected to grow to 4.3 billion gallons by 2024, an over 700% increase from 2017 capacity, with record global soybean production the past several years available to bolster further product availability.

Renewable propane, similarly, a drop-in fuel, is only 25% to 50% as carbon intensive as conventional propane, depending on the exact feedstock used for production. Although renewable propane is currently less commercially available than renewable diesel, recent investments by major companies in the propane industry are helping make the product more obtainable and affordable. For example, AmeriGas entered into a 2022 distribution agreement with Global Clean Energy to be the exclusive distributor of the up to 15,000 barrels of renewable feedstock processed by Global Clean Energy’s Bakersfield, CA biorefinery each day. Although more carbon intensive than electricity-based systems, animal and vegetable fat-based fuels offer the potential for an easier transition away from fossil fuels and lighten the extremely significant capital demands on state and local governments, many of whose budgets are still struggling to recover from shortfalls presented by the COVID-19 pandemic.

Conclusion
Ultimately, lawmakers and regulators have a much wider range of tools at their disposal to curb greenhouse gas emissions than one may believe from taking a passing look at the headlines on state and local climate initiatives over the past several years. Blanket bans on entire classes of fuels and power systems, sometimes structured in ways that are agnostic to differences in emissions profiles among the competing products in each class, are blunt instruments that attempt to make the inevitable immediate, with little regard for how the energy infrastructure of the entire nation gets from point A (present time) to point B (fully green). These goals may not be achievable on the timelines or the budgets provided for by states like New York and California. A more nuanced, pragmatic, and realistic approach that considers the benefits of drop-in fuel technologies and other less capital-intensive options as intermediate solutions may stand to play an important role as policymakers navigate through the various hues of brown and green on the way to a cleaner, lower emissions future.

About Matrix Capital Markets Group, Inc.
Founded in 1988, Matrix Capital Markets Group, Inc. is an independent, advisory focused, privately-held investment bank headquartered in Richmond, VA, with additional offices in Baltimore, MD and New York, NY. Matrix provides merger & acquisition and financial advisory services for privately-held, private-equity owned, not-for-profit and publicly traded companies. Matrix’s advisory services include company sales, recapitalizations, capital raises of debt & equity, corporate carve outs, special situations, management buyouts, corporate valuations, and fairness opinions. Matrix serves clients in a wide range of industries, including automotive aftermarket, building products, car washes, consumer products, convenience retail, downstream energy, healthcare and industrial products. For additional information or to contact our team members, please visit www.matrixcmg.com.

Disclaimer
The contents of this publication are presented for informational purposes only by Matrix Capital Markets Group, Inc. and MCMG Capital Advisors, Inc. (“Matrix”), and nothing contained herein is an offer to sell or a solicitation to purchase any of the securities discussed. While Matrix believes the information presented in this publication is accurate, this publication is provided “AS IS” and without warranty of any kind, either expressed or implied, including, but not limited to, the implied warranty of merchantability, fitness for a particular purpose, or non‐infringement. Matrix assumes no responsibility for errors or omissions in this presentation or other documents which may be contained in, referenced, or linked to this publication. Any recipient of this publication is expressly responsible to seek out its own professional advice with respect to the information contained herein.

SOURCES

“States that outlaw gas bans account for 31% of US residential/commercial gas use.”, S&P Global Market Intelligence, 9 June 2022, https://www.spglobal.com/marketintelligence/en/news- insights

“Executive Department State of California, Executive Order N-79-20.”, https://www.gov.ca.gov, 23 Sept. 2020, https://www.gov.ca.gov/wp-content/uploads/2020/09/9.23.20-EO-N-79-20-Climate.pdf

“2022 State Strategy for the State Implementation Plan.”, https://ww2.arb.ca.gov, 22 Sept. 2022, https://ww2.arb.ca.gov/sites/default/files/2022-08/2022_State_SIP_Strategy.pdf

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“If New York’s proposed limits on natural gas in buildings take effect, the grid today can’t handle the increased electric load.”, PolitiFact, 20 Jan. 2023, https://www.politifact.com/factchecks/2023/feb/08/robert-ortt/electrical-grid-requires-investments-if-natural-ga/

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