Responsible Investing: Investment opportunities in the circular economy

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on May 25, 2020 - May 31, 2020.
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Oceans, rivers and even low-income developing countries have become the world’s dumping sites. Every year, more than two billion tonnes of waste is produced globally and at least 33% of it is disposed of in a non-environmentally safe manner, according to the World Bank. Amid growing awareness of the impact this has on the ecosystem, consumers, governments and businesses have begun exploring solutions to cut down on waste.

Consequently, the circular economy model — which advocates keeping materials in use as long as possible and turning waste into raw material — has gained prominence as a more sustainable solution. This trend also opens up investment opportunities along the supply chain as the model changes how products are designed, manufactured, sold, refurbished and recycled.

Closed Loop Partners (CLP) is a New York-based investment firm targeting this opportunity with its venture capital, private equity (PE), growth equity and project finance funds. “It [the circular economy] is a fast-growing area. In today’s linear economic model, you extract raw materials out of the ground, use it for a short period of time and then dispose of it. This practice wastes resources and money as each step of the process involves costs,” says managing director Bridget Croke.

“The loss of that material to a landfill, incinerator or the environment when it is disposed of is also a huge inefficiency in the economy [because the material can still be reused]. [There are investment opportunities in the circular economy because] anytime you try to create efficiencies in the economic system, there is money to be made there.”

According to the Ellen MacArthur Foundation, a circular economy model designs out waste and pollution, keeps products and materials in use for as long as possible and regenerates natural systems. This results in less waste created as old products can be turned into raw materials for new products. It also contributes to fewer raw materials being extracted from the planet. 

Examples of circular economy business models include product as a service, where a company rents out its products instead of selling them. The company also repairs and maintains the products during their life cycle and refurbishes or recycles them into raw materials for new products at the end of their life. This turns consumers’ tendency to dispose of products when they are no longer useful on its head.

Dutch multinational corporation Philips is one company practising this. For a fee, it takes care of the installation, performance and servicing of its lighting products. All the materials are then returned for repurposing or recycling at the end of the service contract. Meanwhile, consumer products giant Unilever is developing pilot projects that allow consumers to refill beauty and skincare products instead of buying new ones in single-use bottles.

“We are seeing demand from consumers and regulators for more sustainable solutions. People are becoming aware of problems such as marine waste and climate change. Regulators and policymakers are banning certain materials and these policies likely differ from market to market,” says Croke. 

Large consumer companies are seeing the need to change, especially those with global supply chains, she adds. “That is why large companies like Unilever and Procter & Gamble (P&G) are looking at new materials for packaging [that are more sustainable] or ways to deliver products that do not involve packaging. Once these large companies change their demand, suddenly, their supply chain starts to change too. There are huge investment opportunities for investors who get in at the stage when this shift starts to happen.”

In the last few years, the adoption of circular economy principles have picked up at a faster rate than in the past two decades, Croke observes. “Three years ago, you would not have seen petrochemical companies at the table because they were the ones producing the input for these virgin single-use packages. But now, companies like Dow are putting hundreds of millions of dollars into R&D to identify how they can play a role in the circular economy.

“They see their business at risk if plastics continue to be public enemy No 1. Plastics are the fastest-growing revenue source for the petrochemical industry. If they are starting to shift, then it is a signal that a restructuring is underway.”

In a circular economy, plastics should never become waste but be reused, recycled or made compostable. If the plastic — such as plastic straws — cannot achieve any of these three, then it should be avoided, according to the Ellen MacArthur Foundation. Even then, most plastic that is recycled becomes a lower-quality product, according to the World Economic Forum. 

Finding its roots in recycling

Founded in 2014, CLP started by financing recycling facilities. There was a demand from large consumer companies that wanted recycling facilities, but the quality of such facilities was inconsistent across the US, says Croke.

“We thought an investment model could work here because there should be an economic return to scaling recycling as it costs money to send materials to landfills. So, our first launch was a private [project] finance fund. We gave below-market rate debt to municipalities and private recycling companies across the recycling supply chain.” 

The investors of the fund were large consumer and retail companies. “The idea was that in five years, we would start to pay back their principal. It was not a traditional investment that paid market-rate returns, but it was meant to be more catalytic,” she says.

The firm’s goal was always to close the loop, which means keeping materials in the supply chain for as long as possible without using raw extracted material as the core component of the products, says Croke. Recycling was only one way of doing that.

Eventually, CLP’s team noticed other opportunities in that area and expanded its focus to the circular economy. For instance, it began investing in companies that made better materials to ensure products could stay in the supply chain longer. 

“That was the beginning of thinking through a circular lens. The venture capital fund that we launched a couple of years later allowed us to fully invest in companies within the circular economy model, which are those that build new materials, new [circular] designs and recovery technologies. The fund has a wider scope than what we had in the beginning,” says Croke.

Areas of interest

Consumer products and packaging is the most mature space for investors to look at opportunities, according to Croke. The companies in this space are the furthest ahead in terms of transforming their supply chains, especially those that eliminate plastic packaging.

“For example, some companies are using recycled materials instead of virgin materials in packaging. That is a huge decision because plastic and paper are two large components of the packaging supply chain,” says Croke.

In this area, CLP has invested in US-based Cambridge Crops, which has created a silk-derived edible, tasteless protective layer for raw food to extend its shelf life. This cuts down on the need for plastic packaging.

“Another interesting area that is more nascent but growing is the reuse and resale models that use new technologies such as smart packaging. It can incentivise consumers to continue reusing a plastic container, for example,” she says. 

This is important because often, plastic containers of high quality — such as those used to fill detergent — are recycled into lower quality plastic or disposed of after use when in fact, the plastic can still be reused. 

CLP has also invested in Chile-based Algramo. The start-up uses a vending machine that travels around the city on an electric tricycle to allow consumers to refill dish soaps and detergents in reusable plastic bottles. A radio-frequency identification (RFID) code is attached to the bottle, which allows consumers to get a discount whenever they reuse the bottle.

Investors should also look at the fashion industry, says Croke. Fashion is the second most polluting industry in the world, according to the United Nations Conference on Trade and Development. Some 93 billion cu m of water, which can meet the needs of five million people, is used by the industry annually to produce clothes. It also dumps millions of tons of microfibre into the ocean.

“We have seen an increase in interest from consumers in sustainable fashion. What we are seeing in the fashion space is what we saw in the packaging space three to five years ago. The solutions are not as advanced yet, but we believe that given the scale of the issue and interest from younger consumers, it is one of the next areas to grow in the circular economy,” says Croke.

The resale model, such as buying and selling pre-owned clothing, is a concept that has taken off in this space. One of CLP’s investee companies for its venture capital fund is US-based digital boutique vintage clothing marketplace Thrilling. 

It has also invested in US-based Renewal Workshop, which repairs clothes that are flawed and that would otherwise be thrown away. After fixing the clothes, the company either sells them online or back to the clothing company. 

“We have invested in a company called Evrnu [based in the US], which has a chemical technology that can deconstruct cotton into fibre and yarn so that it can be made into textile again. Old clothes are usually down cycled into something that can be used only once or twice more,” says Croke. 

Recycling facilities are still an interesting area to look at as they still perform a critical function in society, she adds. “Recycling facilities recapture valuable materials from households, be it metals, paper and plastics, and keep them in manufacturing supply chains and out of landfills. Optimising their efficiency offers ample opportunities for investors. The current facilities are often outdated, ill equipped and in need of state-of-the-art technology.

“One emerging area is the potential for artificial intelligence-connected machinery in materials recovery facilities. We have invested in AMP Robotics [via the venture capital fund]. Its robotic arms enable facilities to pick recyclables from the conveyor belt at an unprecedented speed [thus increasing the quality and quantity of the sorting process in recycling facilities].”

CLP’s investments are primarily in North America, although it also has investments in Chile, Israel and Spain via its venture capital fund. Its project finance funds are primarily for large corporate investors such as Unilever, Coca-Cola and P&G. 

CLP’s venture capital, PE and growth equity funds are open to family offices, high-net-worth individuals and institutional investors globally. According to its website, the firm aims to provide investors with above-market returns.

“We are excited to see the momentum surrounding the circular economy grow. We will continue to work towards catalysing capital across sectors and countries to advance the transition to circularity. From venture capital, PE and growth equity to project finance, we create an arc of capital that accelerates the growth of early-stage firms through established companies,” says Croke.