Tsla Models Powerwall

Image source: Tesla Motors.

The auto industry is just the first, and most visible, domino in a number of industries that will be upended by falling battery prices. A report by Bloomberg New Energy Finance and McKinsey & Co., cited by Bloomberg, found that the average battery-pack price fell 65% from $1,000 per kWh in 2010 to $350 per kWh last year. It even came out last year that General Motors (NYSE:GM) is paying LG Chem (NASDAQOTH:LGCLF) just $145 per kWh for battery cells to make packs for the upcoming Chevy Bolt.

The massive decline in battery costs is already gaining battery-electric vehicles a share of the overall new-vehicle market. But don't underestimate the adjacent industries that will open up as innovators learn how energy storage creates new opportunities.

The electric vehicle will drive battery prices lower

Scale is the first cost-reduction driver for batteries, and it has driven most of the 65% decline in costs in just five years. And as demand for electric vehicles grows, costs will continue to fall. According to Bloomberg New Energy Finance, just 52,000 EVs were sold in 2010; that number was up to 448,000 last year. By 2018, Tesla Motors (NASDAQ:TSLA) alone plans to sell 500,000 EVs, so the scale is becoming much bigger.

The cost reductions won't just help grow the adoption of electric vehicles -- they will open up a world of innovation in energy storage, which Tesla has its eye on as well.

Energy storage finally becomes a real thing

The first adjacent market to benefit from the falling cost of batteries is energy storage. Tesla Motors has been most vocal about moving into this market with lithium-ion batteries, but companies like Stem, AES Energy Storage, and Sunverge have been expanding in energy storage as well.

GTM Research estimates the U.S. energy-storage market will grow from just 226 MW in 2015 to 2,081 MW by 2021, as battery costs come down and regulatory markets open up.

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Image source: GTM Research's U.S. Energy Storage Monitor.

But installing batteries in the home could be just the beginning. The mere existence of an energy-storage market, driven by the falling cost of lithium-ion batteries, will open up a new level of innovation in energy.

Adjacent industries will get a boost

As utilities figure out the value that energy storage can provide and build compensation structures for new storage, technologies will emerge. Batteries will drive utility and regulatory innovation, but other technologies may end up being even bigger opportunities.

Pumped hydro, compressed air, mechanical-flywheel, thermal capture, hydrogen, and even rail energy storage will all be able to test and build out their technology to serve the market. It's hard to justify a company investing millions in proving a new energy-storage technology when there's no market to serve, but lithium-ion batteries are proving that there's a market, opening up a world of innovative options to store energy in new ways. Look for non-battery technologies to be a big point of investment for companies large and small for the next decade.

Energy storage is just the beginning

Proving that there's an energy-storage market and building the technology to serve it are just parts of the problem. The third leg of the energy-storage business is the software and devices that will make energy storage valuable and profitable.

If you've heard of smart electronics or smart devices for the home, you've heard of what energy innovators see as a bright future for energy-related companies. Smart devices are tied to an indicator that tells them when to perform activities. Devices like Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) -owned Google's Nest thermostat, which can tie into utility plans to compensate consumers for turning air conditioning down when electricity demand is high. Or they could schedule the use of a washing machine for the middle of the day when a rooftop solar system is producing the most energy. Smart devices connect to a hub, like Nest, and adjust energy consumption accordingly. And the devices available today are just the beginning.

Smarter energy decisions will be driven by a host of companies that will use signals from utilities and consumers to charge, discharge, and run electronics when it's most efficient to do so. The innovation layer will be the algorithms behind the scenes that consumers will never see.

When you hear Tesla talking about energy storage in the home, it will likely be tying thousands of energy-storage systems together to offer a service to a utility. A single battery in a home isn't valuable to a utility, but 1,000 batteries can be. And it's Tesla's algorithm, not its battery, that will end up being most valuable.

The same can go for the demand side of the equation, where smarter devices will use signals from the market to adapt energy consumption to the most efficient possible times.

Starting a wave of innovation

Energy storage makes this level of information and innovation possible, because future devices will need a level of information that's never been available in the energy industry. The ways regulators and utilities will be forced to react to energy storage will open up multiple layers of innovation. And the start of the energy innovation wave has been driven by the cost reductions that electric vehicles brought to lithium-ion batteries.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Travis Hoium has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Alphabet (A and C shares), and Tesla Motors. The Motley Fool recommends General Motors.

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