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© Matthew J. Kiernan© Matthew J. Kiernan1
The Competitive Imperative of Sustainability:
Causes, Risks, and Strategic Opportunities
ADFIAP Annual Meeting
Dr. Matthew J. KiernanChief Executive
Inflection Point Capital [email protected]
Vancouver, Canada
May 11,2010
© Matthew J. Kiernan© Matthew J. Kiernan2
• Dramatically increased complexity, transparency, and velocity of change in SME’s competitive environments.
• Accelerating pace of “disruptive innovation.”
• Shift in the world’s center of economic gravity towards emerging markets, where “sustainability”-driven risks and opportunities are greatest.
• Dramatically increased demand for energy, water, and other critical natural resources. Caused by:
• explosive population growth• urbanization • industrialization• demographic shifts and • growing consumer affluence and consumption, particularly in emerging markets.
A New World Order for DFIs – and their clients!
© Matthew J. Kiernan© Matthew J. Kiernan3
The New Competitive EnvironmentEn
viro
nmen
tal P
ress
ures E
nvironmental Im
pact
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And also . . .
• Substantially increased expectations for improved sustainability performance
• Wider variety of more credible, better-resourced stakeholders – especially regulators and NGO’s.
• Much greater information transparency with which stakeholders can assess companies.
• More powerful and pervasive communications tools for disseminating criticism of companies.
• Emergence of a new fiduciary paradigm.
Success in this new competitive environment therefore demands new and different capabilities from companies – and from their bankers:
• Better strategic management• Better stakeholder management• Faster innovation• Greater adaptability
The New Competitive Environment
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• “Management quality” is arguably the #1 factor most critical to companies’ competitiveness and profitability.
• “Sustainability” issues are among the most complex and demanding management challenges of the 21st century. Therefore:
• Companies with superior positioning and performance on Sustainability factors tend to be:
> More forward-looking and strategic> More agile and adaptable> Better managed companies in general; and therefore:
Likely to be financial out-performers as well
• Powerful global megatrends will make “sustainability” factors even more critical to companies’ – and investors’ – competitive and financial success over the next 3-5 years.1
1. UNEP Finance Initiative Working Group (2004) members included Goldman Sachs, HSBC, Deutsche Bank and UBS.
The Investment Logic – It’s All About Competitiveness!!
© Matthew J. Kiernan© Matthew J. Kiernan6
Why Do Your CLIENTS Need To Address ESG?
1. “Carrots”:
• “Social license to do business” – relationships with regulators, government, communities, NGO’s, customers, and – increasingly – investors
• Market differentiation and competitive advantage
• Building human capital – recruitment, retention, motivation of top talent
• Strengthened sales, cash flow, and ROCE; cost reduction and efficiencies
• Improved risk management – regulatory, supply chain
• Access to “green” government stimulus funds
3. “Sticks”:
• Growing regulatory and compliance requirements
• Customer insistence – “The WALMART Effect”
© Matthew J. Kiernan© Matthew J. Kiernan7
IPCM’s “Iceberg Balance Sheet” – 5 Keys to Sustainable Competitiveness
Today, 75-80% of companies’ true risk profile and value potential lies below the surface, and cannot be captured by traditional financial analysis.
Inflection Point Capital’s proprietary 5-Factor Model has the proven ability to generate alpha from these “non-traditional” drivers of risk and return:
Environmental Sustainability
Human Capital
Organizational Capital
Adaptability & Responsiveness
Innovation Capacity
It’s NOT Just the Environment:A New, Broader Conception of Corporate Sustainability
© Matthew J. Kiernan© Matthew J. Kiernan8
Growing International Investor Momentum. . .
• Globally, 50% growth since 2006.1 PLUS . . .
Over 700 major institutional investors have adopted the UN Principles for Responsible Investment (PRI) - $20 trillion.
Over 400 leading global financial institutions have formally expressed strong concern about climate change as an investment risk through the global Carbon Disclosure Project (CDP) - $60 trillion.
An October 2008 study by Booz Allen Hamilton predicts that SI will be 20% of global assets by 2015 – over $15 trillion.
In 2009, both Bloomberg and Thomson Reuters begin offering ESG (sustainability) data to their (mainstream) clients.
“SUSTAINABILITY” investment is going mainstream – DFI’s will need to keep up.
1 Lipper/FERI, 2010
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• ESG/SRI considerations are immaterial or actually injurious to companies’ competitiveness and financial returns
• Including ESG considerations is, therefore, incompatible with fiduciary responsibility
• ESG/SRI research is inevitably more “wooly”, imprecise, and unreliable than mainstream investment research
EACH of these 3 myths has now been categorically disproved!
But STILL the misconceptions persist . . .
But Some Common Misconceptions Still Persist Among Some Investors . . .
© Matthew J. Kiernan© Matthew J. Kiernan10
Sustainability Analysis Can Provide Early Warning Signals on Risk . . .
Since initiating coverage on Bear Stearns in April of 2005, Innovest never rated Bear above `sub-investment grade’ – using Innovest’s `four pillar’ ESG methodology - through to its eventual absorption by JP Morgan Chase.
Innovest Very Early Advance Warning on Bear Stearns
© Matthew J. Kiernan© Matthew J. Kiernan11
…and Better Performance on the Upside
The IPCM Global 100 Index
Daily and Accumulated Performance: 5 year live results
Out-performance: 300 bps/year
© Matthew J. Kiernan© Matthew J. Kiernan12
Why should you care?
• Growing impact on your portfolio companies’ competitiveness and financial performance. Climate change is NOT about SRI!
• Climate risks affect a much broader range of industry sectors than one would think – not just heavy industry.
• Same-sector climate risk can vary by 30 times!
• Fiduciary best-practice increasingly demands it.
Climate Change: the “Mother of All” Sustainability Issues
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Climate Risk: Can YOU Afford to Ignore It?
CO2 Regulatory Cost of Compliance as Percentage of EBITDA
13.69%12.90%
19.21%
0.43%
2.72%2.00%
37.85%
>50.00%>50.00%
46.25%
2.91%1.26%2.00% 1.48%
0.00%
5.00%
10.00%
15.00%
20.00%
CommodityChemicals
Steel Integrated Oil & Gas Multi-Utilities &Unregulated Power
Metals & Mining Electric Utilities -International
ConstructionMaterials
Cos
t of C
ompl
ianc
e as
EB
ITD
A%
fo
r CC
h, S
teel
, and
IO &
G
0.00%
10.00%
20.00%
30.00%
40.00%
50.00%
Cos
t of C
ompl
ianc
e as
EB
ITD
A%
Max case Min case
Allegheny Tech.
Rautaruukki
CRH
Hanson
Centrica
CMS Energy
Drax
Fortum
Toray
Nova
Statoil ASA
Tosco
Umicore
Kinross Gold Corp.
© Matthew J. Kiernan© Matthew J. Kiernan14
And There is a Performance Premium for Top Performers:
Source: Innovest
Annualized Out-Performance: 300 bps
© Matthew J. Kiernan© Matthew J. Kiernan15
• Identify/minimize risk in portfolio companies; lower default rates
• Better understanding of management quality in borrower companies
• Identify new commercial opportunities – both for clients and for YOU
• Increase client “stickiness” though added-value advice
• Differentiation and competitive advantage – for YOU!
So Why Should YOU Consider ESG?
© Matthew J. Kiernan© Matthew J. Kiernan16
• Focus both lending and equity investing not just on downside risk but also on upside opportunities – eg. Renewable energy; health water
• Address social issues as well as environmental – eg. “Base of Pyramid” entrepreneurs
• Building human capital – training: both clients and DFI staff
• Sector-specific lending guidelines
• Evaluate own ESG impacts from lending
• Advisory services for clients
• Power of collaboration – NGO’s; academe
• Reduce own operational footprint (secondary)
• Your own pension fund – how is THAT invested?
What Does Global Best-Practice Look Like?
© Matthew J. Kiernan© Matthew J. Kiernan17
• Generally, less devotion to unfettered capitalism; more of a “social contract”
• No intellectual/organizational baggage, unlike the West
• Acknowledged size and strength of SME sector and entrepreneurs
• Korea, Thailand, Malaysia public pension funds – investor awareness ahead of the West
An Asia Pacific “Leapfrog” Opportunity . . .
© Matthew J. Kiernan© Matthew J. Kiernan18
A New “Hierarchy of Organizational Self-Actualization”
Ignorance
Awareness
Hollow Rhetoric
Action
Denial
Ignorance
Embryonic Understanding
Hollow, Pious Rhetoric
Action
Denial
© Matthew J. Kiernan© Matthew J. Kiernan19
And There’s Always THIS To Consider . . .
© Matthew J. Kiernan© Matthew J. Kiernan20
© Matthew J. Kiernan© Matthew J. Kiernan21
For More Information, Please Contact:
Dr. Matthew KiernanChairman & Chief Executive