Firm Boundaries in Energy Markets: Should Heavy Users of Energy Vertically Integrate into Production?

Some emerging scholarship is more positive about Delta’s acquisition of the Trainer facility, proposing alternative viewpoints for how vertical integration might create value for firms (e.g., Almansour et al. [12•]). However, even these efforts suggest it still may be too early to tell what the true financial impact will be for Delta (cf., Manuela, Jr., et al. [13]) and that some of the particulars in Delta’s situation would not widely apply to other firms in energy markets.

Transaction-specific investments are also sometimes termed as having “asset specificity”—but the idea is the same: the assets are not easily adapted to uses that are as lucrative as the current one. In this situation, the firm with these types of assets can be taken advantage of by its trading partners.

Delta has, in fact, seen soaring profits since Russia’s invasion of Ukraine caused a worldwide shortage in refining capacity (and global refining margins to surge). However, the structural difficulties of the business, including its cyclical nature, suggest that these profits are likely temporary. To be sure, the refinery had struggled to make money for over a decade and Delta has attempted several times to sell it [14].

An example of an energy market in which asset specificity sometimes arises is in the coal industry, where transportation costs of coal are extremely high relative to the value of coal, and value can be created by locating a coal power plant next to a coal mine. Here, asset specificity occurs as the coal plant is more valuable with nearby coal than coal which has to be transported from farther away. Coal mines in this situation tend to behave opportunistically toward these power plants—they charge more than the market price of coal, knowing that the plant will still buy from them so long as the price is not so high that the plant will incur the transportation costs of buying coal elsewhere. Joskow [23] finds that vertical integration is a common solution in such cases.

According to its most recent quarterly earnings, Delta’s refining arms had a credit shortfall of $556 million as of June 2022 [14].