Businesses of any kind — from the highest emitting to the most sustainable — need to finance themselves to exist, survive and grow. The two financing avenues — debt and equity — can be cut and diced in a myriad of ways by a variety of capital providers but share one key unifying factor — they expect a return on their capital invested. If there is money to be made, finance providers usually don’t need a second invitation. So, in our capitalist societies, when we think about how we can best finance businesses that are tackling climate change, the easiest way is to make funding climate change lucrative. We have to align the incentives.
Before we dive in, let’s get a better grasp of finance to try and put it into context.
- Finance is powerful.
The global public markets are worth $70 trillion, the corporate bond market around $19 trillion, and the fast growing private investment markets (private equity, venture capital etc) have assets under management of $6.5 trillion. There’s a lot of money sloshing around.
2. Finance is an enabler.
Enablers are not magic bullets, but partnered with the right management and idea, they facilitate change and growth at pace. In the tech startup world, for example, finance has enabled the concept of blitzscaling — something that wasn’t there one day suddenly seems to be everywhere. Facebook, Airbnb and Shopify are all good examples.
The world needs these powerful enablers in order to achieve the ambitious and vital goals set in 2015 by the Paris Agreement.
So, where are we at currently?
Current estimates for the level of finance required to achieve a low-carbon economy range from $1.6 trillion to $3.8 trillion per year. Every year. Until 2050. So far, we’re lagging. Records show the highest annual level of climate finance recorded was $612bn back in 2017 — or 40% of the lower-bound estimate. Takeaway — climate change needs more investment.
Recently, there have been some businesses tackling high emission industries that have received considerable investment — Tesla (raised over $20bn since 2010) and plant-based meat company, Impossible Foods (raised $1.3bn to date), are two good examples. However, it is important to not get too caught up in the media hype here.
Both Tesla and Impossible Foods are premium products — Impossible’s plant-based beef patties are almost three times the price of regular beef — and therefore price prohibitive to the mass market consumer. This not only limits the impact these businesses can have on climate change (we need the mass market to eat less meat to reduce agriculture’s 12% share of carbon emissions, not just the high earners), but also limits the pace and level of investment that flows into the industry. Finance is drawn to big markets — the global meal substitute market is exciting as it is expected to grow at 7–8% pa and reach $8.1bn by 2026, but it is a drop in the ocean compared to the $1.5 trillion global meat market.
So what’s a solution?
We need to allow businesses tackling climate change access to the mass markets.
If products were taxed based on their emissions, it would inflate the prices of products from high-emitting companies and promote lower-emitting competition. Despite differences in economies of scale, the carbon surcharge would help level the playing field. Over the long-run, companies built on low-emission foundations would receive higher levels of investment to further drive down price and capture the mass market.
There would be so much to play for. Large companies would invest heavily into R&D to reduce their emissions in order to reduce their carbon surcharge. There would be a flurry of M&A activity as strategics buy up proprietary technology and low-emitting brands to adjust their holdings fuelling investment in early-stage companies. Investors would work with ambitious entrepreneurs to blitzscale their companies to become low-emitting leaders of industry. High-emitting companies would either fail or be acquired by distressed private equity funds and put through a ‘green turnaround’.
It sounds good right? But obviously everything has a cost. One needs to empathise with governments around the world that a carbon tax would mean unpopular price rises, which can cause real unrest and escalate quickly (just ask Emmanuel Macron). However, the tax revenue gained (1.5% of GDP in 2030, on average, for G20 countries according to one UN proposal) could be used to assist low-income households, support disproportionality affected workers or communities (e.g. coal mining or cattle farming) or cut other taxes. And remember — this isn’t a choice if we want to keep our biosphere intact.
A carbon tax would also allow Government to shift more responsibility to the markets. It is worth noting that publicly listed firms (excluding government controlled ones) account for only 14–32% of the world’s total emissions. Business is a big piece but it’s not the full solution to this global problem. A self-regulating loop needs to be created that unleashes finance with the monetary incentive of investing behind low-emitting businesses.
As the science builds and consumer attitudes continue to shift towards a need for sustainability, finance will continue to slowly turn to businesses tackling climate change. But this will take time and businesses tackling this global problems will focus on the high-income consumers who are willing (and able) to pay more. But if we want to achieve net zero by 2050, we need to go faster. We need to open these low-emission companies and products up to a larger customer base sooner.
A carbon tax makes climate change about numbers, not morals — and, as I was once told, finance guys may forget your name, but they’ll never forget a number.
Let’s get this enabler pointed in the right direction.