Inside BMW’s Decarbonization Strategy

RAMSEY KHABBAZ: Welcome to HBR On Strategy, case studies and conversations with the world’s top business and management experts – hand-selected to help you unlock new ways of doing business. I’m Ramsey Khabbaz, an editor here at HBR. This month, we’re highlighting four of the best HBR podcast episodes on strategy from 2023, curated by me. In 2023, the auto industry went through huge changes in pursuit of lower carbon emission. Some automakers – like Ford, Mercedes, and General Motors – announced their plans to stop selling vehicles with internal combustion engines. In other words, cars that run on gas. And the reaction from investment analysts was overwhelmingly positive, despite the fact that the production of electric vehicles, or EVs, actually increases emissions in the supply chain. In contrast, BMW decided to pursue a more flexible decarbonization strategy. Their plans include gasoline and diesel-fueled internal combustion engines, plug-in hybrid EVs, and battery EVs. The goal is to reduce lifecycle emissions across BMW’s supply chain, their production, and tailpipe emissions. In this episode, Harvard Business School assistant professor Shirley Lu explains how BMW analyzed its sustainability goals alongside market-based risks to formulate their decarbonization strategy. She also discusses how the company’s leadership presented their strategy to skeptical stakeholders. If you’re making complex strategic decisions about big, emerging trends in your industry, this episode is for you. It originally aired on Cold Call in March 2023. I hope you enjoy it as much as I did.

BRIAN KENNY: On April 3, 2020, a woman in Punjab, India posted a photo of the Himalayas on Twitter, taken from her rooftop – and it went viral. The photo itself was unremarkable. It became a sensation because that particular view simply hadn’t existed before that day, which came three weeks after the city was effectively shut down by COVID. Three weeks was all it took to wipe away the cloak of air pollution that obscured the iconic mountain range. The same phenomenon was taking place around the world as photos revealing deep blue skies emerged from the likes of Beijing, Rio, and LA. Scientists say that CO2 emissions dropped by as much as 7% in that period, the largest drop in history and the kind of impact we could expect if say, half of the drivers in the world converted to electric vehicles. But that of course is a big if. Today on Cold Call, we’ve invited Professor Shirley Lu to discuss the case entitled, “Driving Decarbonization at BMW.” I’m your host, Brian Kenny, and you’re listening to Cold Call on the HBR Podcast Network. Shirley Lu conducts research in the area of corporate social responsibility disclosure with a focus on topics related to climate change and gender diversity. Thank you for joining me today, Shirley.

SHIRLEY LU: Thank you for having me.

BRIAN KENNY: We’re going to touch on a couple of those topics today. So this is perfectly timely, and I think this case for me was super eye-opening in a lot of ways. I mean, I don’t have an electric vehicle. I’ve thought about getting one. And there’s some complications with electric vehicles that I think we’re going to get into and that BMW has certainly considered as they move down this path towards decarbonization. And they are sort of a bit of an outlier in terms of their competitors in this space. So I think it’s going to be really interesting for people to hear you talk about that. So thanks for writing the case and thanks for being here to talk about it. Why don’t we just get started right away here. If you want to begin by telling us what the central issue is in the case and what your question is to start the conversation in the classroom.

SHIRLEY LU: Absolutely. I see this case as a decarbonization 101 case for the students, where they learn the basics of carbon accounting, carbon management, but also strategies that today a lot of companies are facing this transition to a low carbon economy. So, I go in the classroom and start by saying that one of those industries is the automobile industry that is facing tremendous amount of pressure coming from regulators, investors. And they’re really focusing on this transition from internal combustion engines. I’ll call that ICE, to electrical vehicles, EVs, which really focuses on the tailpipe emissions. And so, our question for the student and the cold call is: why is BMW focusing on emissions across the entire value chain? So that will start from the supply chain to their own production and then to the use phase tailpipe emissions.

BRIAN KENNY: Now, I teased a little bit in the introduction about your areas of research. We always are interested in what motivates faculty to drill into a particular topic. I’m wondering why you decided to write this case.

SHIRLEY LU: Yes. First of all, I want to highlight this is also a joint work with two other amazing professors here, George Serafeim and Mike Toffel. And they were both kind of experts in decarbonization and thus great research there. So I definitely learned a lot from this process. And this is my first case. So, my hope is both to learn the art of case writing, but also that to do research in a climate space, I think the practice is moving very fast. So for example, the best practices, the challenges. In particular, I’m curious about the credibility of environmental disclosure. All of these are better learned in practice as opposed to having a lot of archival data. And so that’s why for me it’s really important to early on in the career to see how companies are actually doing these carbon accounting and management.

BRIAN KENNY: This is a pretty ambitious one and Mike and George are great. They’ve both been on the show and this is as good a time as any for me to plug Mike’s podcast Climate Rising, Mike Toffel is the host of that, cases like this are the kinds of conversations that he’s having with leaders in this field all the time. So, that’s awesome. Let’s talk about BMW. Everybody knows BMW. They make really nice expensive fast cars. You don’t necessarily think about them as a maker of EVs per se. You think about that stick shift on the floor and the sort of racing vibe that you get. Can you talk a little bit about their history as an automotive maker and the culture within the company?

SHIRLEY LU: BMW was founded in 1916 in Munich, Germany. And initially they actually produced aircraft engines and gradually moving to automobile engines and then automobile cars. And I think they’re best known for being the ultimate driving machine by having really strong engines.

BRIAN KENNY It’s great marketing right there, the ultimate driving machine.

SHIRLEY LU: And hence that transition to EV will be interesting. And two things I want to highlight about that culture when we visited a company. The first one that really comes off a lot when we talked to the employees there is this belief of under promise and over deliver. And so whenever they make a promise, they’ll make sure they deliver it, and if not, they’d rather not make the promise. And for example, when you look at EV, they talk about their driving range. So, when BMW releases a driving range and then someone independent goes in and test it, it’s actually probably longer than the one they listed. Whereas the other companies, it may be the opposite.

BRIAN KENNY: That’s pretty smart actually on their part, I think.

SHIRLEY LU: And then the second part about their culture is they’re very metric target driven, very quantitative. So, they set clear targets. And what’s interesting is everyone in the company owns a bit of that target. What we see is everyone knows the overarching target. So, down to every engineer, when they designed one component for the car, they have a part of that target. So, when I meant target, I mean the decarbonization target. They focused on sustainability starting way back in 1970s, but that’s when they first hire an environmental officer for the purpose of complying with environmental regulations. And then in 2000 is when they defined sustainability as part of their overarching strategy. And starting in 2007, that’s when they started developing the first battery electrical vehicle inside of the company. And that’s a time when there’s no mass produced BEV on the market, before the times of Tesla. And then in 2013 is when they release that EV, which is I3 model. And what’s fascinating is they try to have a EV that has the lowest emissions across the entire value chain, that even the door, they say if you compost a door, you put it on the ground, it will be composted.

BRIAN KENNY: I’ve seen the I3 and the I4, and some of them are a complete departure from what you would expect to see from BMW. So I’m wondering when they introduced these models, how were they viewed? How were they received by people?

SHIRLEY LU: It is quite divided. So, there are some that find it very revolutionary. It’s very different from their traditional cars. It’s very beautiful. To me, it looks a little cute even.

BRIAN KENNY: Right.

SHIRLEY LU: But on the other hand, you also have some critics saying that the market’s simply not ready. And they say it’s because they came up with an I3 so early in the game that’s why right now they’re a laggard in the EV game.

BRIAN KENNY: Okay. And who else are they competing with in this space? Who else is introducing models like this?

SHIRLEY LU: There are two types of players. First of all, you have the newer startups type company like Tesla and like XPeng or NIO in China that are all producing only electrical vehicles. But at the same time, a lot of the traditional automobile companies like Mercedes, like Ford, GM, they’re also facing this transition and pushing out their version of BEVs, battery electrical vehicles.

BRIAN KENNY: So, several of their competitors have already put a stake in the ground about when they’re planning to go completely cut away from ICE vehicles and go completely electric. Is that right?

SHIRLEY LU: Yes. For example, Mercedes say they will be ready to go all electric at the end of the decade where market conditions allow. And also at COP26, a lot of companies including Ford, Mercedes, General Motors, they signed a declaration to essentially ban ICE by 2040. And that’s no later than 2035 in the leading markets.

BRIAN KENNY: But BMW has not put that stake in the ground.

SHIRLEY LU: Exactly. So BMW is not making that statement, and instead they’re focusing on having a flexible powertrain strategy. So, by that, it means if you’re a customer and you want a particular type of car, you should be able to choose having an electrical battery inside or an internal combustion engine inside. So, you should leave that option to customers. And part of that reason is customers have different driving habits. So, some may be using a car for professional reasons, some may be using for leisure, for commute, some may in rural, some maybe in urban areas. And there’s this concern from the customer that the battery power cannot last for such a high range. And they call that a range anxiety, as one potential-

BRIAN KENNY: I have range anxiety. That’s one of the reasons why I haven’t made the move to the electric vehicle.

SHIRLEY LU: Exactly. And also the lack of charging infrastructure that when you go into oil station, you can just charge quite instantly. For EV, you have to charge for half an hour at the moment, the current technology. So, it’s adding that pressure. But what’s interesting here is in reality, the average driving distance is not that long for a trip. In the US for example, the average daily driving is less than 30 miles, but an EV’s range can go up to 300 miles.

BRIAN KENNY: Right. So, you’re saying that my anxiety is unwarranted as most people’s anxiety is probably unwarranted.

SHIRLEY LU: But again, it depends on the use case.

BRIAN KENNY: Yeah, yeah. And I would imagine that this strategy that they have pursued, I mean it makes sense to the extent that they’re able to meet the needs of the customer regardless of whether they’re looking for an electric vehicle or a combustion vehicle. But it’s got to be taxing on them as an organization because now they have two manufacturing processes, they have two sets of suppliers. It’s got to be complicated. So I can imagine that Mercedes and the other firms that have put this stake in the ground are saying, We’re converting everything because it’s just going to be a more fluid process for us.

SHIRLEY LU: Part of the reason for staying flexible, I think also relates to their experience with two other major trends in the automobile industry. So, you may have heard the three major trends are automation, ride sharing, and electrification. And with the first two, BMW invested in technology that relates to ride sharing and automation driving. The technology of the market is not quite there yet and end up they have to write off these investments. And so when it comes to the electrification, they’re also being very careful with the timing that they’ll keep it flexible. And again, relating back to their culture of not trying to overpromise. So that’s why I think partly they’re not going to give a date by which we’re going to ban internal combustion engine before they’re certain they can do that.

BRIAN KENNY: So, what’s the regulatory environment look like around EVs?

SHIRLEY LU: There is a lot of regulations coming out, and I think they’re the catalyst for this transition from internal combustion engine to EVs. For example, the EU parliament approved the ban of selling new ICE, new combustion engine by 2035.

BRIAN KENNY: Okay.

SHIRLEY LU: California also announced similar rules and other states like Massachusetts and New York are considering following. So the regulatory environment, I think it’s another big push. That’s why a lot of companies are also using those dates. 2035. That’s when we are going to also ban ICE.

BRIAN KENNY: Okay. So that puts a lot of pressure on BMW to put a date out there to put a stake in the ground. Are they suffering any consequences from not actually taking that step?

SHIRLEY LU: Yes and no. So, on the yes side, there are media articles that are calling them the EV laggard. And there’s even a social impact investor that comes out and say they are the Blackberry of the automobile industry. But on the other hand, potentially no. Because the more sophisticated analysts or investors may be able to see that BMW is still investing a lot in the EV technology. And even if you look at their actual sales of EV, it is higher than some of their traditional competitors.

BRIAN KENNY: And for those who remember Blackberries, by the way, they were really good, and they’re making a comeback. I think people are…

SHIRLEY LU: Really?

BRIAN KENNY: Yeah. Yeah. They’re pining for those again. Those and flip phones, who knew? Let’s talk about what exactly they’re measuring and reporting on within the EV cars themselves. And I think that begins with the GHG, the greenhouse gas protocol. Can you just describe as succinctly as possible, because I know it’s a very complicated measure, what exactly are they looking at with GHG?

SHIRLEY LU: Yes. And that’s what we hope the students can learn from that. The current way they measure carbon is through the greenhouse gas protocol and they divide greenhouse gases into three buckets. And first of all, there’s more than one greenhouse gas. They will aggregate everything in terms of a carbon equivalent in terms of the global warming potentials. So let’s call that carbon for now, carbon equivalent. So they separate those into three buckets. Scope one, two, and three. Scope one is the company’s direct emissions. So, for example, BMW burns certain fossil fuel for their paint shop. And so, that’ll be scope one direct emissions. Scope two is the electricity they purchase, and that has some emissions associated with that. Scope three is everything else. So for BMW, scope one and two is in total only 1% of their total emissions. Scope three, everything else can be separated into the supply chain and the use phase. Supply chain is around 15%, whereas the use phase is 80% of emissions.

BRIAN KENNY: Okay. And is that the use of the actual customer in the vehicle itself?

SHIRLEY LU: The use phase, exactly. That will be when the customers drive the car. And then the tailpipe emissions, that’s also being considered on BMW’s books.

BRIAN KENNY: Where are they focusing their decarbonization efforts? What are they looking at?

SHIRLEY LU: And that is back to our cold call question. Yeah, they look at the full value chain. So they set a science-based target, which are targets that can align with the scenario to limit the global temperature rise to 1.5 degrees. And so for them, the target is by 2030, per car, the scope one and two emissions, they want to reduce it by 80%. So that is quite ambitious. And part of the reason is, this is their own emissions. They need to own it, and really show they’re making a sincere effort. Scope three supply chain is 22% reduction. But in reality, to achieve that, it’s much harder. The reason is by converting to electrical vehicle, you’re having the battery. The battery increases your supply chain emissions by around 50%. So in total, for them, a true reduction of 22% really feels like a 70% reduction. And finally, scope three use phase, which is the driving. And that’s more depends on the car they sell that one they hope to reduce by 50%.

BRIAN KENNY: So, they are putting targets against all of these. And as you said, they’re ambitious targets, which flies a little bit in the face of their under-promise and over-deliver strategy. But what are some of the issues that they’ve run into as they try to make these goals?

SHIRLEY LU: Exactly. I think initially when they first set the targets, they are quite reasonable. And there will be surprises they learn afterwards that made it harder to achieve potentially. And I think it’s not unique to BMW. A lot of companies, they set a target, but how to achieve it? It’s a learning process. In the case of BMW. Let me share three surprises they had-

BRIAN KENNY: Okay.

SHIRLEY LU: … that are challenges. The first one is realizing a lot of the decarbonization opportunities are not readily available everywhere. So when they think about changing to solar and wind power, but not all the plants have the same amount of sunlight or wind. And so, when they plant at a high level and then realizing at the local level, it is not fully available. The second is some of the processes turn out to be more expensive. So, for example, electrification is a major step towards decarbonization because if you electrify all of your process, you don’t need to burn fossil fuel anymore. So that lowers emission, and then you can then move into using renewable energy to really transition to closer to almost zero emissions. But for them, they realized that to electrify for example the paint shop, that will mean they have to stop the operation and really rebuild the facility. And that is more costly than they initially thought. Whereas if they build a new facility with the new technology and become electrified to begin with, that is actually cheaper and that’s what they’re going for as well.

BRIAN KENNY: Okay. So scopes one and two are somewhat within their control, but difficult nonetheless. Scope three is really hard because now they start to dive into the supply chain. How deep are they going into the supply chain?

SHIRLEY LU: Very deep. Ideally, it’s all of the supply chain.

BRIAN KENNY: Wow.

SHIRLEY LU: But then as you imagine some of them four or five tiers down their supply chain, how are they going to get the measurements? And that speaks to one issue in the carbon accounting for scope three supply chain, which is this issue of primary versus secondary data. Ideally you get primary data, which is the real number that contributes to the tire, to the steel that you acquired. But then, because they don’t have such detailed information right now, they will use industry averages. So for example, steel produced in this region under this method as an average emissions of this number. And that’s what they’ll use on their books. And you can imagine the problem with this is, well then you are not compensating for firms that are greener.

BRIAN KENNY: The case goes into the Catena-X approach. How does that help them in this focus on phase three?

SHIRLEY LU: This is an industry effort that they are one of the pioneers in it. The idea is to build almost something like a blockchain for emissions data, where within the automobile industry, all of the suppliers will put their information on that chain. And Catena-X, actually the “Catena” stands for chain in Greek. And so, it’s the idea that if they all put in their data, then they can have this primary data. But you can imagine the challenge, it’s also how do you coordinate with everyone in the industry?

BRIAN KENNY: There’s also a big emphasis on recycling within the automotive space. The case goes into some of the complications of using recycled batteries in just recycled materials in general. Can you talk a little bit about that?

SHIRLEY LU: And that’s actually the third surprise that I wanted to mention earlier with recycling. The surprises with recycling is that it’s difficult to have a closed loop. So some of the materials like aluminum, you need a higher quality for automobile industry, you need higher purity, let’s say purity. Whereas for Coca-Cola can you also need aluminum, but that’s of a lower quality. And the issue is some of the cars being recycled, the aluminum were used to produce Coca-Cola cans. So, you actually lose that same purity of aluminum, which are not going back into the automobile industry. So, these are some of the issues, how can you get back the material? So the same with battery. The battery is even more important to have recycling because of the rare minerals that is of limited supply. And so, who can really keep the battery to their own company, to their own production can really dominate the market. And one thing they mentioned that’s interesting is in China, the requirement is that whoever produces the battery, the company, so if BMW sells a car with a battery, BMW has to recycle that battery. Whereas in the rest of the world, there’s no such a regulation. So the question becomes who gets those recycled batteries?

BRIAN KENNY: I was really surprised to read in the case that there are ICE vehicles in the BMW line that have lower emissions than some of their EVs, which made me say, “Well, why are they doing this at all?” Because that throws up a big red flag. But maybe you can talk a little bit about why an ICE vehicle would have lower emissions than a smaller size EV.

SHIRLEY LU: And that really depends on a few factors.

BRIAN KENNY: Okay.

SHIRLEY LU: That is actually one of the major exercises we have the students do in class. We share an Excel file with them with all the emissions numbers and ask them to tweak certain assumptions. And in particular, we ask them to tweak where the battery’s being produced, what is the local grids emissions and how long do you drive the car for? And these factors, let me highlight two key things here. So, the first one is the transition from ICE to EV is a trade-off where you lower your tailpipe emissions, but you increase the emissions from the battery. So, with ICE, you are kind of creating emissions as you drive. With the electrical vehicles, you don’t see the emissions, but you charge them using the local electricity. So, the emissions of your local electricity will determine how much emissions that process creates.

BRIAN KENNY: Very interesting.

SHIRLEY LU: And that really varies by region. So the emissions of the local grid in China, for example, is three times that of EU and twice as much as in the US. And so, in certain combinations where you don’t drive long distances, you are in a local grid with very high emissions and battery produced in regions with high emissions, there is that potential that the EV is actually dirtier than an internal combustion engine. And the other question we also ask students is, what about outside of the model? Are there some things we’re not capturing just by looking at one car scenario? And one factor is, imagine if all the cars convert to EV, let’s say right now, there’s not enough renewable energy or clean energy such that you may need to actually end up firing up more coal plants and that is higher emissions.

BRIAN KENNY: Yeah. This is part of it, the whole tension around sustainability. And we talk about this in other cases that we discuss on the show as well. This has been a really interesting conversation, Shirley. If there’s one thing you want listeners to remember about the BMW case, what would it be?

SHIRLEY LU: The measurement. You need to measure emissions because you can’t manage what you don’t measure. And with the better measurements, it helps you make better decisions. And one thing we want to highlight is emissions across the entire value chain. Sometimes by focusing on one type of emission, you end up increasing another emission. So it’s important to see the full picture. And one final thing, what I really am grateful for, is BMW for sharing with us all of their experience. And our hope, or my hope, is that some of the students who learn this will one day go into their own company and this case can show them once you have the measures, you can start making better decisions.

BRIAN KENNY: Shirley Lu, thank you so much for joining me on Cold Call.

SHIRLEY LU: Thank you for having me.

RAMSEY KHABBAZ: That was Harvard Business School assistant professor Shirley Lu – in conversation with Brian Kenny on Cold Call. We’ll be back next Wednesday with another hand-picked conversation about strategy from the Harvard Business Review. If you found this episode helpful, share it with your friends and colleagues, and follow our show on Apple Podcasts, Spotify, or wherever you get your podcasts. While you’re there, be sure to leave us a review. We’re a production of Harvard Business Review – if you want more articles, case studies, books, and videos like this, find it all at HBR dot org. This episode was produced by Anne Saini and Hannah Bates. Ian Fox is our editor. And I’m your guest host, Ramsey Khabbaz. And special thanks to Adi Ignatius, Maureen Hoch, Karen Player, Nicole Smith, Anne Bartholomew, and you – our listener. See you next week.