Can one company change the world? Yes - look at Amazon, Google, Facebook
Can one company change the world for the better? Hmm – Have they?
The second question is much harder to answer. In isolation, an affirmative claim would be met with scepticism, if not suspicion. In today's Arcus I will share with you how one particular Company in our portfolio is planning to change the world for the better whilst maintaining their profit objective. By doing soI also intend to show how “Purpose”a concept that I introduced into your investing framework last month can lead to impact + profits. You be the judge?
Even if you don’t believe in the link between carbon emissions and global warming, there is scientific proof and real-life evidence that global temperatures are going up. These higher temperatures should be music to the ears of the air conditioning industry. So why would our portfolio Company, an air conditioning specialist focus on reversing this carbon trend and kill the goose that lays the golden egg? Why would it commit to reducing carbon emissions on a global scale, especially if it will help manage the global temperature?
Problem To Be Fixed
None of us need to be reminded about the urgency for a concerted effort to manage if not reduce carbon emission intensity of our global economy. One emission contributor that needs to change is the Heating, Ventilation and Air Conditioning (HVAC) industry. As an example, 40% of energy used in US is used in operating buildings and 60% of that energy is for aircon/heating. Similarly, 60% of Europe’s buildings are older than 40 years, with inefficient systems consuming most of the overall fossil fuel derived energy. 15% of world’s carbon emissions come from heating and cooling of buildings and this will only increase as urbanisation in emerging markets continues. This is where our portfolio Company comes in. It is a Climate-Control player with highly formidable environmental targets not only for itself but also for its clients. Their world changing 2030 commitment is to reduce customer Co2 footprint by 1 billion metric tons. This is the equivalent to the annual emissions of Italy, France and UK combined.
Other than helping their clients meet their goals, our portfolio Company has an internal 2030 zero waste to landfill target, and a 10% absolute reduction in their energy consumption from present levels. In terms of progress, they have already reduced their absolute emissions in scope 1 and 2 to date by 26% since 2013 (against a 2030 target of 35%), improved energy efficiency by 27% against their previous 10% target, and achieved a 39% reduction in water consumption to date since 2013 (against 25% previous target). This is a company which having proven its conviction and execution ability internally is now expanding its influence and impact throughout its industry. Innovation is the Key. They have invested more than $500 million in product-related research and development to fund the long-term reduction of GHG emissions. Their innovation is aimed at 1) Design Products for World-Class Resource Efficiency during Use of Product, 2) Reduce Direct GHG Emissions, 3) Increase Reliability and Durability, 4) Reduce Environmental Impact at End of Products’ Useful Life and 5) Improve Health and Safety. All of which add much value to their client’s bottom line and sustainability efforts. As an example of their innovation they are delivering HFC alternative products, which will help them reduce their own products “during use” carbon footprint by 50mn tn by 2030 (equivalent to 6.6mn household annually). Similarly, their EcoWise products are specifically designed for next-generation, low global warming potential (GWP) refrigerants without sacrificing energy efficiency, safety and operating performance.
Profitable While Changing The World
Our portfolio Company whilst targeting the above environmental impacts for their customers is doing so with a strong growth outlook. It has 69% of its revenue from equipment sales and 31% from parts and services. Traditionally such industrials are seen as deep cyclicals. However, the fact that they have through innovation and purpose transformed themselves over the last decade into the leading Climate Control company. This has meant that their equipment sales now are driven by underlying structural and secular demand for energy efficiency (cost and carbon sensitive clients), regulation, aging of building, retrofitting plans etc. Financially, the company has a strong balance sheet with gearing at 1.5x Net Debt/EBITDA as of March 2020. It also intends to sustain a >100% free cashflow conversion. Other than price premiums for their energy efficient portfolio of products and services pushing up margins, management is also managing costs with efficiency targets of US$90mn in 2020 and going to $110mn run rate in 2021. Most importantly these cost cutting measures have NOT impacted their employees even as Covid brought sales to a halt in 2ndquarter of 2020. If anything their employee retention rate is 95%. One measure of value being created by this company is their target to help reduce clients carbon emissions by 1bn ton by 2030. With our $50/tn carbon cost assumptions they will help reduce client’s costs by c $50bn in 10 years. This is a significant value creation as much as it has a significant impact on the world. We believe our portfolio Company will be fairly rewarded for it.
Purpose Driving Profit And Impact
Our portfolio Company can only deliver the above global impact, and that with improving profitability because it has a Purpose. That purpose is to not only improve itself but also improve the greater ecosystem with all its stakeholders. Can that be said about all companies that claim to have changed the world? At Panarchy Partners one of the ways we measure a company embarking and then delivering on their purpose is through our multiyear resilience analysis. We believe that a company sets itself its purpose once it has genuinely engaged with its stakeholders to identify material issues around human, social, environmental and financial capital. These material issues then need to be acted on with S.M.A.R.T targets, which can only then be delivered through innovation and organisational flexibility. Below spider-grams show how our climate control Company has improved its resilience score from 5/20 to 15/20 in 13 years.
This multi-year analysis of a firms focus on all forms of capital has been found to also lead to improving financial returns, as their operating margins become sustainable and stable which when combined with a disciplined approach to financial capital, lead to improve Return on Capital Employed (ROCE). Below we highlight the ROCE over the same 13 years, with a marked improvement. Resilience and purpose has no doubt delivered profits and now will also help deliver impact in the coming decade.
One company can change its industry, and one industry can change the world.A great purpose for any company and Panvestor.
Last month I shared how theoretically investors need to start combining their financial return expectations with impact expectations of their investments. I also pointed out that purpose-driven companies were best equipped to deliver both positive financial returns and impact. Today, I hope to have shown how in real life we can find companies that are delivering on that expanded investment framework that we at Panarchy Partners are pioneering, through Panvesting.