The Swedish Tycoons… An ESG analysis of H&M

Published in

The Startup

16 min readJun 14, 2020

Pedestrian walks with her H&M shopping bag on Via del Corso, main shopping street in Rome, Italy. Photo: Sara Sette via Shutterstock.

You have to grasp the word Tycoon. The sound of it, how it lands somewhere in the frontal lobe, causing both amusement and confusion at the same time. Who is the man behind one of the most successful retail empires in the world?

A billionaire who owns vast swathes of Britain’s West Country. A person that owns 19,000 acres called Ramsbury Estates across North East Wiltshire, West Berkshire and North Hampshire, which includes prime hunting, shooting and fishing territory and an entire village. His 30 square miles of land, which he bought piece by piece, includes the picturesque village of Linkenholt, near Andover, including farmland, a cricket ground and its 21 cottages which are leased to villagers. A couple of years ago his name hit the headlines when he got staff on his estate to dig a two-mile trench to bring superfast broadband to Ramsbury, the Wiltshire village where he has a home, after BT Openreach tried to charge him £170,000. His manor employees also connected nearby residents in Axford while they were at it. The Bell at Ramsbury was given a full makeover after he and his wife acquired it eight years ago. Now it is the holder of the AA Pub of the Year award and described as the ‘heart of the local community’. Prince Charles even paid a visit to the estate’s distillery last December when Persson served samples of the bespoke gin and vodka. Marlborough College, where the Duchess of Cambridge went to school, is just a few miles down the road.

So it is hard to think of traditional Nordic modesty in this case. With that said, the Persson family is among the top tax payers in Sweden, a country known for its tax funded welfare system. Stefan Persson is chairman of H&M, and according to Forbes magazine he is Sweden’s richest man, amassing a fortune currently estimated at $15.3 billion. But it was not always like that. H&M was founded in 1947 by Swedish entrepreneur Erling Persson, a salesman in the family cheese business. During a business trip in the U.S., he was impressed with the way American retail stores sold volumes of clothing at discount prices. Upon returning to Sweden, he launched the Hennes retail business, opening its first store in the Swedish city of Västerås and stocking it with womens wear sourced from independent Swedish designers and local manufacturers. Rather genius idea, given that availability of these kind of stores was non-existent in Sweden at the time. The business focussed on offering “frequently updated” affordable fashion for women. The centre of gravity of the entire business became, and still is, women. This unique value proposition proved fruitful. The business was able to undercut the expensive department stores and gain itself a loyal customer base of fashion-conscious women. The business grew successful, and in the following decades it would eventually cater to men, babies, children and teens after it acquired Stockholm-based hunting apparel and fishing equipment business Mauritz Widforss. In 1968, the ‘M’ was included in the business name and it became known as Hennes & Mauritz.

The Persson family still controls almost 80% of H&M’s voting shares and approximately 36% of the equity. According to several interviews with people with insight in the business, Hennes & Mauritz is still run like a small family business, focusing on long-term results and maintaining the founder’s informal management style, despite being one of the biggest clothing retailers in the world.

A business model to die for

The textile and apparel industries are very important contributors to the world economy and prosperity. Global apparel consumption is estimated to be around US$2.3 trillion corresponding to around 3% of global GDP. The industry employs between 60 to 75 million people globally, and textiles are responsible for 4% of the global merchandise trade, amounting to US$765 billion in 2018. H&M Group (Hennes Mauritz AB) is a retail giant known for pioneering fast fashion. H&M Group also controls brands such as Cos, And Other Stories, Weekday and Monki. Offering cheap clothes in well-located retail stores in 69 countries and 43 online markets, it is no surprise that H&M is one of the most financially successful fashion companies in the world. Fast fashion is a “grow or die” business. Global economies require continuous consumption and define success through growth. The global population is set to grow by another two billion people in the next 30 years and we live in an era of hyper. The garment industry has a high proportion of founder and family firms. Over 73% of companies in this industry are classified as either founder or family firms. It is about volumes, and only volumes.

Large global corporate retailers are actually, even if it looks so from time to time, not really seeking to change their fundamental business model. Rather they are trying to modify bits and pieces of it, and re-package the messaging. Annual financial reports usually include ambitious goals to grow and expand. Despite tough conditions, H&M believes it can grow sales by more than 25%. It is going to focus more on online sales and slow down store openings.

A transition away from fast fashion towards slow fashion would require a slowdown in manufacturing volumes, the introduction of sustainable practices throughout the supply chain and a shift in consumer behaviour to reduce the amount of new clothing being purchased and increase garment lifetimes. Low-priced fashion obviously on the other hand encourages consumers to buy more frequently and to discard still-wearable garments.

H&M spends around $100 million on advertising in digital, print, and national TV. They invest in premium ad units and advertise on over 250 different media properties. The primary target group for H&M’s latest mobile campaign is women ages 20 to 40. Women are centre of gravity for entire business of H&M, both as consumers and as labour in the trillion dollar industry.

Impossible equations

Globalisation means that things can be produced in far-off lands at low cost, many choices and lower prices. How does the business model of fast fashion look in relation to sustainability? Well, the business model of textile industry is one of the most polluting industries and is even more CO2-emitting than air and sea transport. Generating 10% of the worlds’ carbon emissions and nearly 20% of wastewater. Production is often carried out in developing countries and scope 3 emissions from transportation — in the supply chains and to export final products — are also a factor in high indirect emissions. With the fast fashion trend, some brands offer new collections every 3 weeks, resulting in further draws on resources such as cotton and water. There is no such thing as a 100 percent sustainable fabric today. Fabrics require a tremendous amount of energy and natural resources to produce. Today, so-called “sustainable fabrics” are just less harmful, but still harmful. Every second, one trash truck’s worth of textiles is either burned or sent to a landfill according to U.N.

As an example, around 70 million barrels of oil a year are used to make polyester fibres in our clothes. From waterproof jackets to delicate scarves, it’s extremely hard to get away from the stuff. Part of this stems from the convenience — polyester is easy to clean and durable. It is also lightweight and inexpensive. But a shirt made from polyester has double the carbon footprint compared to one made from cotton. A polyester shirt produces the equivalent of 5.5kg of carbon dioxide compared to 2.1kg from a cotton shirt. According to the World Bank, 40% of clothing purchased in some countries is never used. This gives you a feeling of the volumes produced and sold at a low price.

The number of times you wear an item of clothing can make a big difference too in its overall carbon footprint. Research by scientists at the Chalmers Institute of Technology in Gothenburg, Sweden, found that an average cotton t-shirt might release just over 2kg of carbon dioxide equivalent into the atmosphere while a polyester dress would release the equivalent of nearly 17kg of carbon dioxide. They estimated, however, that the average t-shirt in Sweden is worn around 22 times in a year, while the average dress is worn just 10 times. This would mean the amount of carbon released per wear is many times higher for the dress. H&M estimates that about 70% of a garment’s impact on the climate happens during the manufacturing process. By 2040, H&M intends to be climate positive, by which the company means that it will be reducing more greenhouse gas emissions than its value chain emits.

H&M CEO Persson recently stated that shaming consumption “will have terrible social consequences”, but equally that continuing consumption growth will have terrible environmental consequences. What does he really mean by this?

Since the 1960s, Asia has grown to become the world’s garment factory, sending about $670 billion worth of clothes, shoes and bags a year to Europe, the United States and richer Asian countries, according to UN’s International Labour Organization.

Retailers generally place orders at least three months ahead of delivery and pay for the finished product when it is delivered. During the Covid-19 pandemic, most retailers initially cancelled all outstanding orders. But many adjusted their position in March and April after a public outcry, agreeing to pay for goods that had already been manufactured or were mid-production.

Despite the new orders, several garment manufacturers said the low volume of work on the books means many factories in Myanmar, Bangladesh, and Cambodia will not be viable, which means many of the young women who make up the majority of the workforce will no longer have jobs. That leaves them torn between returning to families in the countryside, where there are few employment opportunities, and enduring life in the city in the hope that factories will reopen at full capacity.

It is actually European tax payers, the European Union and not H&M or other retailers that have created a wage fund for workers in Myanmar worth 5 million euros ($5.3 million) to pay a portion of the salaries of the most vulnerable for three months.

Job security is one thing, and certainly important to consider. But there’s another side — a very brutal side — to the entire business model of fast fashion.

In just four days, top fashion CEOs earn a garment worker’s lifetime pay. Let that sink in. It takes a CEO from one of the world’s top five fashion brands just four days to earn the same amount a Bangladeshi garment worker will earn over her lifetime.

As an example, raising the pay of garment workers to a living wage is theoretically feasible. It would cost $2.2 billion a year to increase the wages of all 2.5 million Vietnamese garment workers from the average wage to a living wage, Oxfam claims. This is in principle equivalent of a third of the amount paid out to shareholders by the top five companies in the garment sector. Well you get the picture. Brands also want to please their shareholders, which means keeping costs low and profits high.

H&M, for one, has publicly committed to paying a living wage to workers in its supplier factories, although the Clean Clothes Campaign, a watchdog group, has accused it of not adequately following through on that promise.

Over the years I have done many visits on the ground in many places where the garment industry is the most important export business, and my conclusion is that the basic income which many brands, including H&M, continuously repeat as the beacon of responsibility is far from what people working for them for 13 hours a day 7days a week need to survive.

The business of Covid-19

As the coronavirus outbreak paralysed Europe, the company’s bottom line has been further threatened (68% of H&M’s 2018 sales came from Italy, for example). It remains to be seen if the company can withstand this test amid the continuing push for a living wage in Europe. The coronavirus epidemic has resulted in the lockdown of some cities across Asia, and general production there has yet to fully resume. With a more flexible supply chain than its peers, H&M may be better-positioned to minimise supply-chain disruption than competitors (H&M had 32% of its suppliers in China in FY2018 vs. 52% for other big retailer). However, like other apparel retailers, H&M’s bottom line was also hit by temporary store closures in China (297 of the 520 H&M stores in China were closed as of Feb. 13, 2020). H&M now faces threats to its bottom line from disrupted physical-store operations. How will this affect millions of women working for them all around the world?

None of the big retail brands pays a living wage. None of the millions of women around the world that work in garment industry have any insurance that will protect them in the case of illness or in case of something like a pandemic. Caught between a rock and a hard place they are left at the mercy of retailers, which usually claim that consumers in the West don’t want to pay higher prices for the garments they purchase. Working conditions, overtime, and harassments are regular features, although many including H&M have initiated some sub-scale improvements.

Several labour organisations have raised concerns regarding the impact of the coronavirus pandemic to the garment manufacturing industry in Asia after several retailers have cancelled outstanding orders. Apparently, thousands of garment workers across Asia have been laid off with little or no pay.

In 2017, I made a “salary increase exercise” in order to grasp what the effect of paying a living wage would have on consumer prices. One of the calculations left me with this conclusion:

If H&M would more than double the salaries for each factory worker in Bangladesh (currently at 87 USD per month) the cost for a t-shirt could be an estimated 13 to 28 cents higher. An additional 10 to 21 cents would make the worker earn a living wage.

And here’s the calculation that led us to this remarkable result:

*Source: Wall Street Journal, Al-Mahmoud, 2013. Journal of Business & Economic Policy. **A factory worker in Bangladesh has a regular work week of 6 days. ***Its actually $21.40, but we round to $20 to make it simple. Source: Edited. ****Source: Living wage estimate by Impactt Data Set 2016.

The climate

For H&M, a comprehensive approach to environmental sustainability is a core pillar of its business, at least on the paper. The rationale for this model is that the apparel industry has complex supply and production chains that contain many environmental touch points, all of which are at risk to be meaningfully impacted by climate change. The impact of climate change on the fashion industry is exceedingly relevant to the long-term profitability of apparel companies. Greenhouse gas emissions are expected to double in 50 years and the average surface temperature of the earth is expected to increase, potentially affecting cotton-growing and textile manufacturing. Agriculture uses more than 70% of global freshwater, and growing cotton, a core element of many textiles, requires a water-intensive process. In fact, producing one pair of jeans uses ~3,000 litters of water. Water withdrawals around the world have tripled over the last 50 years, and it’s expected that the cost of water will increase as it becomes a scarcer resource.

H&M may have already begun to experience the impact of doing business in a world affected by climate change. Its average cost of goods sold has steadily increased as gross margins have decreased over the last five years. As resources become scarce and increasingly expensive, it’s critical that apparel retailers like H&M prepare for and mitigate the effects of climate change.

H&M has an extensive environmental sustainability program to lessen this impact, comprised of both short-term projects and long-term target initiatives.

As for the use of sustainable materials, H&M has targeted using 100% sustainable cotton in textile production by 2020 and an increased quantity of recycled polyester, in order to utilise 100% recycled or sustainable materials by 2030. The company is almost there, but not completely. Can this be verified somehow? Well, no. All of it is self-reported, and it’s very hard to verify if it is correct. That goes for all self-reported data for any company.

H&M has also targeted becoming climate positive, or reducing more emissions than its supply and production chains generate by 2040. Additionally, H&M joined the World Wildlife Foundation (WWF) as a partner in its Climate Savers program in April 2017, with the mission to reduce CO2 emissions and influence market and policy development surrounding the topic. Yes, it sounds good but H&M is on a 4 degree Celsius path and far, very far from Paris.

H&M is on 4-degree Celsius path, far away from the target set in the Paris Agreement. Source: J. Safra Sarasin.

H&M entered into a partnership with WWF in 2013 specific to water stewardship, with the following objectives: Improve awareness about the use of water; more responsibly use water throughout H&M’s value chain; and encourage sustainable water practices among H&M stakeholders. The initial two-year partnership was successful. More than half of H&M’s employees completed water training, and 75% of suppliers met the global water quality standard.

Although H&M is taking steps to reduce the environmental impact of the millions of garments it produces every year, it is far from enough. Can sustainable manufacturing and production practices offset the negative environmental impact of increased consumer garment purchase, disposal and waste? I believe that more drastic waste reduction measures are needed, and that will have fundamental impact on their business model. H&M has the money, the global influence and the infrastructure to engage consumers in a program that could promote real environmental change by reducing the total quantity of garments in the market. By reducing the number of garments produced and sold, H&M could eliminate the corresponding environmental manufacturing and supply chain impacts, together with the finished good waste generated.

If you expect e-commerce to be an increasingly important channel for H&M, how will the environment and supply chain be impacted? Can the role of e-commerce tangibly strengthen H&M’s sustainability strategy? And is it possible for H&M to create a sustainability+e-commerce based business model to eliminate its impact on climate change?

Forget about traditional ESG

The first step is moving beyond broad-brush ESG scores to focus on specific social issues that carry meaningful economic effects in specific industries. Yet even this analysis falls well short of truly connecting social impact with competitive strategy and opportunities for superior profitability. After all, materiality originated as a legal concept largely oriented towards identifying risks that require disclosure, rather than highlighting future opportunities for competitive differentiation, growth, and profitability.

In addition, many of the operational factors highlighted by the traditional ESG approach as material are generic across an entire industry, not unique to a particular company’s competitive positioning. The result is that incremental improvements in most material ESG factors converge over time into industrywide best practices and therefore do not confer any long-term competitive advantage on a single company within the industry. Ignored in this entire approach is the integration of social factors into competitive strategy to differentiate products, expand markets, enhance human resources, or improve a company’s local business environment. A materiality analysis of ESG metrics may help investors identify industry laggards or measure, analyse, and price risks that protect portfolio value. Yet this approach is insufficient to identify companies that are truly innovating by creating value through the use of social innovation to drive superior long-term economic results.

Material ESG factors can also be misleading to investors who fail to understand business model differences. Even when companies do improve on material social issues, they rarely report on the economic benefits that accrue. The idea that companies should focus their social impact on improving their reputations makes them eager to be seen as “doing the right thing,” but, sadly, reluctant to acknowledge that they profit from it. In many cases, companies actually conceal the economic benefit from investors, which reinforces investor ignorance about the importance of social innovation as a source of economic value.

Companies can achieve superior economic performance only through a distinctive value proposition that either offers better value to target customers (differentiation) or achieves structural efficiencies that support lower cost versus competitors (cost savings). What has been overlooked historically in ESG thinking is that social innovation on key issues within every industry can profoundly affect strategic positioning in both differentiation and cost savings.

Three key questions on H&M (and the answers)

– Is H&M creating new products that address emerging social needs or open currently unserved customer segments?

No, it does not. It does produces zillions of garment pieces affordable to most of the population in the developed world, but these segments would be served anyway. There is no emerging social need addressed.

– Is H&M enhancing productivity in the value chain, whether by finding new efficiencies or increasing the productivity of employees and suppliers?

Yes and no. It is optimising output for efficiencies in its business model, but it is usually just a contractor and does not own its supply chain. As a contractor, price and volume are king, the rest is the rest. That is why many of the CSR measures are very limited and cosmetic. Aside from this, being on a 4 degree Celsius path with the volumes and resources they deal with is very telling story. They do bring some efficiency as contractor — so we go for the split score.

– Is H&M investing to improve the business environment or industry cluster in the regions where the company operates?

Yes and no. They relocate their supply chains around the world in search for the cheapest labour, and at the same time they do improve at least some marginal things in the communities where they operate by just being there and having stakeholder expectations on them.

Conclusion

So, the conclusion is that it depends pretty much on ESG style and outcome you are looking for.

A hard-core mission driven ESG investor would certainly never invest in the stock, looking at business model from a labour conditions point-of-view is heavy for even hardened people. The climate path looks bad too, and the purpose of the business is, well, it’s hard to find good arguments.

An ESG libertarian will recognise the risks and harbour in stock as “all of the others do” given that H&M is better than the rest of the stocks in a terrible sector. This investor will deploy “engagement”, proxy voting and collaborative initiatives.

A true LTA (long-term active investor) will assess real economic-value creation, which seeks out companies that achieve excellent economic performance by innovating to meet important societal needs. And in this case, if an important societal need is to get cheap garments in 13 collections a year for a growing population on this planet, then you know the answer.

And a sidenote…

In addition to the short summary above, one thing needs to be made clear. There is no organisation in the world, no analyst, or company that has verified anything of what H&M has published over the years on their work with ESG issues. All the available information is self-reported and taken at fair value.

This goes for all companies that report ESG relevant information which makes it almost impossible to evaluate what the reality is. Given the many, many scandals we’ve seen over the years in various sectors and companies, it makes you wonder how valuable the current ESG ratings really are.

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