Show you're worth it

5th September 2014


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Author

Gary Matthews

Seb Beloe and Hyewon Kong on getting a financial bang for your environmental buck.

Have you ever questioned whether your chief executive or clients really understand and appreciate the value of the work that you, as an environment professional, do? Salary and benefits surveys of practitioners routinely show a profession that is reasonably well remunerated, but still punching well below its weight compared with other business services, such as the accounting and legal professions. Why is this?

A big part of that disconnect is the lack of understanding of the true value that environment professionals create. This, in turn, is caused by an inability among practitioners to translate value into the measures, ratios and indices used by chief financial officers (CFOs) and investment analysts, who help to decide what a business is worth.

Understanding the investment community and the type of company information it requires – when assessing whether to invest in either a company or in a particular sustainability project – can improve the chances of receiving financial backing.

Spivs and gamblers

The business secretary, Vince Cable, is fond of labelling the financial community a collection of “spivs and gamblers”. In reality, though, there are many types of investor, varying by asset class – fixed income (bonds), listed equities (traded stocks), private equities (direct investments or buyouts) and property, to name a few – and by investment approach.

Some investors adopt long or short-term investment strategies. Some will invest in passive indices (tracking a stock market), while others will use high-frequency trading algorithms to rapidly trade shares.

In all honesty, many of these investment strategies are never going to recognise the valuable work of the environment professional. For several of them, even the core activity of a particular company can be an irrelevance because their focus is entirely on whether a given security is undervalued or overvalued, relative to the calculation made by the investment algorithm.

There is, nonetheless, a growing group of investors – including many of the world’s largest institutional investors – who are very interested in understanding how a company is positioned so as to create value over a number of years. These longer-term investors are often more valuable to companies. By definition, they tend to remain committed to a company and its management team for longer, supporting the share price and allowing management to invest and pursue strategies that generate value over many years.

As Paul Polman, chief executive at Unilever, memorably put it: “If you buy into [Unilever’s] long-term value-creation model, which is equitable, which is shared, which is sustainable, then come and invest with us. If you don’t buy into this, I respect you as a human being, but don’t put your money in our company.”

Longer-term investors are also likely to be most interested in the work of environment professionals, but there is an important caveat. The information that practitioners provide needs to be framed in a way that makes it clear how environment work supports the business model and enables the company to create value.

Sustainable growth at the right price

We are convinced that firms taking account of their key environmental, social and governance issues are better-managed, higher-quality companies that will outperform their peers over the longer term. So what should investors be looking for from environment practitioners? We believe the best approach is to identify high-quality companies that are delivering sustainable growth at relatively cheap valuations.

That means assessing the quality of a business in the following five areas:

  • the quality of the markets in which it operates;
  • its competitive strengths;
  • the quality of its operations and value chain;
  • the strength of the management team; and
  • the underlying governance and its strategy for growth.

The table below provides further detail on the key areas for an investor’s analysis of a company, including the financial and non-financial metrics. The precise selection of metrics will depend, however, on the nature of the business.

This framework is just one of the vast range of analytical tools used by investors, but many of the underpinning principles and areas of focus are widely shared by others with a long-term investment strategy.

Investor analysis of companies

Category Factor/metrics
Market attractiveness Market size, growth rates, regulatory support, etc

Competitive position

Market share – revenues/volumes compared

with peers

Competitive advantage from economic “moats” – high switching costs, wide use of network and service, strong brand, pricing and cost leadership

Profitability and margin – shows how effectively the company turns sales into profits

Gross margin – profit made on cost of goods sold

Operating margin – earnings before interest

and taxes (EBIT)

Net margin – after-tax earnings to sales

Balance sheet strength – liquidity, leverage. Balance sheet is a snapshot of a company’s financial health. Debt-to-equity indicates the relative proportion of equity and debt to finance company assets

Value-chain analysis Operational performance, including supply chain, customer relationships, employee productivity, environmental performance and levels of working capital

Management quality

Corporate governance – organisational checks and balances, and shareholder rights and control

Business ethics – generally assessed through media monitoring and level of risk

Risk management – policy and systems to manage key operational risks

Sustainability leadership – board and executive-level responsibility to address sustainability issues

Profitability – return-on-assets (ROA) shows how well management is employing the company’s total assets to make a profit. Higher ROA means management is using its asset more efficiently

Growth strategy

New product development, market opportunities, capacity expansion, mergers and acquisitions

Financial ratios

In order for environment professionals to extract maximum value for the work that they do, it is critical that their initiatives feed into the high-level categories identified in the type of analytical frameworks used by investors. Ideally too, the impacts of this work, typically measured using basic environment data, should be translated into key financial ratios.

Some companies are beginning to do this. For example, US industrial gases company Praxair has reported on how energy efficiency projects have fed through into reductions in operating expenditure and helped with the expansion of the company’s margins. Meanwhile, another US company, rail business Kansas City Southern, has seen improved health and safety performance, which in turn has reduced downtime for its assets and helped to drive productivity improvements.

And eco-innovation initiatives are increasingly widely reported to help drive top-line growth in revenues including, for example, the work done by Marks & Spencer, Kingfisher and Royal DSM, the Dutch-based life sciences company.

The financial community has been enormously influential in driving the behaviour and priorities of many senior leaders in businesses. Too often, though, companies undertake environment and wider sustainability programmes in spite of, rather than because of, the influence of the financial community.

Leaders need to present their own financial case for investments in these programmes to help convince investors that they do create long-term value for the business. To do this they need the “right” numbers (see table above). In their absence, a significant constituency in the business, such as CFOs, and the investment community will continue to resist greater investment in this area.

Seb Beloe, MIEMA CEnv, is head of sustainability research and Hyewon Kong is a senior analyst at WHEB Asset Management, a specialist investment business focused on investing in companies that are providing solutions to the most pressing social and environment problems. It believes these businesses will grow more quickly than the market as a whole and therefore give investors a better return.


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