Finance and circular economy
How finance can help the transition to a circular economy
As consumers turn their backs on conspicuous consumption, business models that reward a circular approach are primed for growth
Constraints on materials are leading investors to look for companies that embrace circular economy practices amid increasing awareness of the value of sustainable business models. Escalating commodity prices are adding to consumer pressure, favouring commercial models that emphasise resource reduction, reuse and recycling, according to François Travaillé, Europe Small & Mid-Cap and Climate Equity Fund Manager at HSBC Asset Management.
“We believe companies with those business models are more likely to succeed as they will have more visible inflows and will depend less on the price of external resources,” Travaillé says. “The early movers will stand to gain the most.”
Circular economy practices “are being increasingly perceived as value accretive”, says Bénédicte Mougeot, Head of Climate Equity at HSBC Asset Management. And this re-evaluation of value is still underway. “For the moment, the circular economy risk premium is not fairly priced.”
Capital inflows into circular economy businesses are often driven by corporate environmental, social and governance (ESG) policies. But companies embracing circularity may have plenty to offer investors beyond their sustainable credentials. Consumer preference for brands and products with a clear and meaningful feel-good statement can enhance the growth prospects of circular economy-based businesses versus their traditional peers.
The rise of fashion retail rental
In 2019, for example, fashion retailers focusing on second-hand clothes grew 25 times faster than the broader retail sector, according to Emily Healy, Finance Initiative Lead at the Ellen MacArthur Foundation.
Research suggests that the purchase of 100 second-hand garments can displace the production of 85 new garments
“Reseller-rental platforms such as Depop, Rent the Runway, The RealReal, Poshmark, Vestiaire Collective and ThredUP have reached billion-dollar valuations in the past two years,” Healy says. And this is based on consumer demand. “Costs are going up. People are looking for cheaper options and there’s also a growing awareness of the environmental impacts of the fast fashion industry. Research suggests that the purchase of 100 second-hand garments can displace the production of 85 new garments.”
The rise of fashion rental specialists mirrors moves in other industries to maximise the use of assets by offering them on a leased or as-a-service basis rather than for sale outright. As-a-service business models first emerged in the software industry, as an extension of subscription offerings, and have since extended to a range of sectors, from automotive to aerospace.
Once a product becomes a platform for service delivery – say, moving things from A to B in the case of a rented van – the company has an incentive to run it efficiently for as long as possible, rather than building in obsolescence so it can sell another product. Customers benefit from such pay-per-use models by having cost-effective access to expensive, well-maintained assets, while companies can reduce churn by having regular customer interactions over the lifetime of a product.
Not just recycling
Healy cautions against equating this directly with circularity – rented scooters, for example, “actually have a shorter life than if someone just bought a scooter and looked after it” – but concedes that when companies retain ownership of a customer asset it can help to reduce the waste involved in creating new products.
“Leasing is a good example,” says Travaillé at HSBC Asset Management. “At the end of the leasing period, you get the product back and you can sell, refurbish or perhaps dismantle it. The product is fully amortised and there is still value in it.”
The beauty of these ideas is that they offer a financial incentive for doing things that reduce the use of resources
Another set of circular-leaning business models looks to derive value from waste products. These underpin the growing recycling industry and are the basis for the voluntary carbon offset market, which was worth $1bn in 2021 but could grow to $35bn by 2030. The beauty of these ideas is that they offer a financial incentive for doing things that reduce the use of resources, rather than encouraging their depletion in pursuit of profit. “Something we’re exploring is the idea of farmers being paid for ecosystem services,” says Healy.
Such concepts can create new sources of investor value beyond the traditional view of the circular economy, which tends to be focused on the creation of infrastructure for recycling and similar activities. Scheduled to reach almost $392bn by 20262 the waste recycling market represents a circular investment opportunity in its own right – but when compared to the many other ways businesses can improve circularity, it is just the tip of the iceberg.
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Non contractual document, updated on 03/11/2022
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