At iClima Earth, we have a sole focus: to find the companies that will help bring down the world’s emissions. We look beyond the companies reducing their own carbon footprint. Instead, we went further by finding companies that make those reductions possible – the ones with products and services that enable CO2e avoidance. We’re motivated by the concept that the best way to reduce carbon in the atmosphere is by not emitting in the first place, which is exactly what CO2e avoidance measures. We calculate this key metric for each of the companies in our portfolio to quantify impact. Our economies are witnessing a transformational shift away from business-as-usual activities towards solutions with low or zero emissions. This transition will scale up fast, leading to profound change during our lifetime, and the winners will be those companies that enable this transformation; these are the companies in the iClima benchmark.
According to the UN, a net reduction in emissions of 7.6% p.a. is required to meet the 1.5°C goal of the Paris Agreement. The UN highlights the importance of action and the perils of inaction, stating: “Today we need to reduce emissions by 7.6% every year… Every day we delay, the steeper and more difficult it becomes. By just 2025 the cut needed would be 15.5 % each year…”.
To find the solutions that will assist the world in achieving this goal, we based our analysis on the following three fundamental sources:
A thorough and data-driven approach, Project Drawdown is a non-profit research study led by American environmentalist Mr. Paul Hawken. Conducted by global scientists, it identifies and quantifies the potential impact of existing solutions that can bring the world to “Drawdown,” defined as “the point in the future when levels of Greenhouse Gases (“GHG”) in the atmosphere stop climbing and start to steadily decline, thereby stopping catastrophic climate change.”
We then triangulated these findings with the EU Taxonomy, which provides screening criteria to define environmentally sustainable activities including climate change mitigation solutions as well as harmful activities.
To measure the impact of each of the companies in the benchmark, we used the concept of Potential Avoided Emissions and leveraged the framework produced by Mission Innovation in our calculations. Our data was sourced from publicly available information and, when this was lacking, from the companies themselves that we reached out to while conducting our analysis.
Based on the above research, we developed our first proprietary equity benchmark comprising companies that generate revenue in line with the most relevant existing climate change mitigation solutions. These solutions enable significant GHG reductions by directly avoiding CO2e emissions, improving energy efficiency or contributing to carbon sequestration. These solutions are represented across five segments and 27 subsegments (details can be found here).
We negatively screened for environmentally harmful or controversial revenue-generating activities. We then further assessed the extent of impact by measuring the percentage of each company’s revenue that is in line with enabling climate change mitigation. This combined approach yields greater insights into each company’s fundamental purpose. Such a holistic approach allows us to ensure that the selected companies are “Climate Champions” - those delivering impactful solutions, measured by the GHG emissions avoidance potential of the products - that are not involved in environmentally damaging or unethical activities.
As already mentioned, we took inspiration from Project Drawdown, both in terms of the solutions that could reduce emissions but also in their data-driven approach. They estimated Potential Avoided Emissions (“PAE”) for each of their solutions between 2020 and 2050, measured in gigatons of CO2e. PAE is a tangible metric to assess the relevance of a solution, based on the amount of emissions that can be avoided by a product or service in the year they’re sold. We adopted this approach and measured PAE for all the companies in our benchmark except for a small subset in our Sustainable Forestry subsegment, which is our only sequestration solution where impact is derived from CO2e captured as opposed to avoided.
The Avoided Emissions Framework report by Mission Innovation outlines the key concept of avoided emissions as a product or service that “enables the same function to be performed with significantly less GHG emissions”. Avoided emissions are then calculated as a difference in GHG emitted between the baseline scenario using conventional technologies and the enabling scenario where the mitigation solution is used instead. Calculations are always based on the data from the previous financial year. You can read more about our carbon avoidance calculation methodology here.
For each of the relevant solutions, we quantified the difference in emissions between the Business as Usual (“BAU”) and Climate Champion solution scenarios. Depending on the solution technology, emissions avoidance could take place at any stage of a product’s life-cycle. For example, at the user phase when driving an Electric Vehicle (“EV”) car, at the manufacturing phase for water treatment facilities that are more energy efficient, or at sequestration of CO2 for forestry companies with sustainable forestry management practices.
We focused on the stage of a product’s life-cycle where we believe the avoidance takes place and where data is available to conduct relevant accurate estimates. Conducting a Full-Life-Cycle Analysis (“LCA”), where emissions from source materials, production and distribution of a product is also included in the analysis, is currently challenging given available data; however, we plan to evolve our approach to encompass a full LCA analysis.
The baseline with conventional technology also varies across different solutions and depends on the market in which a company operates. The baseline across companies for the same product in the same industry, however, is the same for consistency and comparability.
The below example illustrates how we apply the PAE methodology in the case of an EV, compared to a traditional Internal Combustion Engine (“ICE”) car. PAE is based on the annual difference in emissions in the use phase of a company’s EV and its closest ICE alternative, where emissions from the ICE arise from fuel combustion and the emissions from the EV are based on the electricity used to charge the vehicle. Emission assumptions for the EV would include variations by region to account for the different sources of electricity generation in the grid. This annual avoided emissions number for a single vehicle can then be multiplied by the number of EVs sold by the company in the previous FY as reported in its financial statement to give an estimate of the annual avoided emissions for the company in that year (as outlined below).
A spotlight on carbon avoidance shifts the focus away from companies trying to reduce their direct emissions (often via power purchase agreements, or PPA’s, with renewable power generators), to companies offering products and services that provide emission avoidance solutions. We believe this fundamental shift in focus will allow more capital to flow into the segments that support the transition to a low carbon economy, accelerating the uptake of existing individual and system solutions which will further encourage the development of new solutions.
Our goal of identifying the solutions that enable PAE requires that we estimate green (desirable) revenue as well as brown (undesirable and often unacceptable) revenue. Green revenue is defined as the total or percentage of sales that are derived from environmentally sustainable solutions that enable avoided emissions. Our Green Revenue Assessment tool therefore allows us to evaluate the materiality of a company’s exposure to climate change mitigation solutions. We use company financial reports, investor presentations and information received from a company’s investor relations team to calculate this percentage of the company’s total revenue that comes from climate change mitigation solutions.
The concept of green revenue emerged in response to growing popularity of thematic investments claiming to have a positive impact on the environment. However, there has been a lack of a systematic, universal standard to identify and measure green business activities that helps to navigate investors away from greenwashing and hype. The EU Taxonomy was created in response to that problem to provide rigorous granular criteria for business activities that contribute to one of six environmental objectives including climate change mitigation. From 2022, large companies and financial product providers in the EU will also be legally obligated to disclose how their activities are aligned with the EU Taxonomy. As companies are not yet reporting in line with the new requirement data is often not available and needs to be estimated.
The main challenge we came across in our green revenue analysis effort was the lack of granular data required to accurately classify company business lines as aligned with green criteria, a challenge that has been echoed by many investors and highlighted by research from FTSE Russell:
“Less than 30% of companies with green revenues provide disclosures that are granular enough to allow investors to systematically break out and quantify companies’ green business activities”
Our comprehensive benchmark includes a diverse range of key zero or low emission solutions that go beyond renewable power generation. These include high-performance glass, insulation, LED lighting, transportation solutions (electric vehicles, public transportation and EV car pooling), plant-based-diet products, telepresence, heat pumps, and electric trains. However, iClima also includes some technologies defined as Transition Solutions (“TS”); these “regrettable” solutions are pragmatic solutions that are needed until technology evolves. TS reduce emissions through avoidance but also create emissions through their processes. These solutions include waste incineration and waste-to-energy technologies, fuel cells using natural gas and diesel, bio-diesel, brown hydrogen, and ICE car-pooling. We expect, however, these technologies to be used only in the short term, and that they will shift towards low-carbon alternatives.
To have a holistic picture of the companies in our universe and ensure that they are not engaged in environmentally harmful and controversial activities, we undertake a negative screening exercise to:
We use a similar approach to our green revenue assessment for the analysis of a company’s brown revenue. We define revenue from the following activities as brown and exclude companies that do not meet the threshold criteria:
As part of our Brown Revenues analysis, we estimate the percentage of a company’s total annual revenue that comes from brown activities as defined above. Total annual revenue data for the analysis is taken from the previous years’ financial reports, investor presentations and investor relations contacts. The percentage of brown revenue indicates how material brown activities are for a company in absolute terms and relative to its green activities as well as whether a company should be screened out from selection for our portfolios.
As with our Green Revenues analysis, the accuracy of this exercise depends directly on the level of detail disclosed by each company. Some companies tend to report their revenues at a granular level, for example, based on different types of power generation, products and end markets. For these companies, brown revenue estimates can be precise. However, many companies report their revenue based on business operation segments made up of several products or services that may contain a mixture of brown, green and neutral products and activities.
When there is a lack of disclosed data, iClima gets in touch with companies’ investor relations department to directly request required details. Otherwise, assumptions are made based on knowledge of the market and the companies’ historical operations and data. In some cases, when robust assumptions cannot be made, companies are flagged as “Not Enough Information” (“NEI”) indicating they may have brown revenue with unknown materiality.
To provide more clarity for investors, many corporates could make further efforts to disclose data in a form that makes it easier to understand what drives their main sources of revenue and align their revenue with green and brown activities. This level of granularity varied considerably across the companies that were analysed.
The European Banking Federation and UNEP FI came to a similar conclusion in their most recent report after testing the EU Taxonomy in their analysis of green business activities. The report found that “the availability and quality of data and information proved to be the most difficult challenge in evaluating Do No Significant Harm (DNSH) criteria, particularly when segmenting alignment by turnover/revenue and in the alignment of SMEs and non-EU based assets.”
Our brown revenue analysis helps us assess the materiality of a company’s harmful activities, allows us to monitor changes in these activities over time and communicate this to investors, while also engaging with companies more effectively on these issues. As such, we believe this approach provides valuable added insight, helps us and the industry avoid ‘greenwashing’ and improves corporate disclosure and transparency, allowing investors to make more informed decisions and navigate them towards companies like the Climate Champions.
While the EU Taxonomy is a widely used tool to help stakeholders identify environmentally sustainable activities, as of March 2021 it does not provide a guideline on brown activities. Our approach addresses this need and we hope to see further consensus on negative screening in the near future. Given these limitations, iClima uses the EU Climate benchmark as a reference.
iClima uses a visualise-to-analyse approach to demonstrate our revenues analysis findings. This approach gives investors a quick and easy way to assess and compare the percentage of each company’s annual revenues that comes from climate change solutions.
We use coloured bars to represent a company’s green or brown revenues as a percentage of total revenue. The letter “D” next to these bars indicates sufficient company-disclosed revenue information to fully assess their green and brown revenue activities. An “E” represents companies for which there was insufficient company information and industry data and reports had to be used to partially or fully estimate the percentage of green or brown revenue.
iClima wants to identify and represent the companies with relevant green revenue while minimising exposure to brown activities, especially holdings of emissions-intensive power generation.
Based on our 2019 revenue analysis, the majority of companies (71%) in iClima’s benchmark are not engaged in any brown activities and 44% are pure green players with green revenue exceeding 90% of total revenue. Providers of Transition Solutions comprise 8% of all companies.
After identifying the relevant solutions that can bring the planet to carbon neutrality, we focused on finding the companies at the forefront of climate innovation. Our methodology attempts to maximise green revenue with minimum levels of brown revenue, as we recognise that many relevant solutions are being sold by companies with some historical ties to the oil & gas industry. Not all green companies are like Tesla (100% green revenue and zero brown). At iClima we believe that some levels of brown revenue is acceptable at this stage of the transition to a greener planet and is necessary to activate and support innovation until greener solutions can be more widely implemented.
In total, 25% of our current holdings have some brown revenue with 5% at the borderline of acceptable thresholds. We also identified that for 4% of companies there is not enough information (labelled as NEI in our visualise to analyse table) to evaluate levels of their brown revenue.
The world is transitioning to a low carbon economy, and we expect many companies in our universe to significantly reduce their brown revenue in the next few years to lead the transition. Many of the companies in our benchmark have already made relevant pledges and set effective targets. That is why by 2030 we expect to have significantly minimised exposure to brown activities in our benchmark, maximising dark green activities.
There are a few companies in iClima’s benchmark that derived a small percentage of their 2019 revenue from emissions-intensive coal power generation and oil & gas upstream activities but that have successfully moved away from such operations, moving towards greener solutions. This is particularly the case for a company like Ibedrola, which has been on path to phase out of coal since 2001 and became coal free in 2020. Companies like Siemens AG and Schneider Electric are similar examples. In 2020, Siemens AG became more ‘green’ after its spin-off of Siemens Energy, which included its fossil fuels business lines, in order to focus on digitalisation, smart infrastructure and mobility.
In the case of Schneider Electric, it produces valuable innovative industrial automation and power management systems as well as software and data management solutions boosting energy and resource efficiency. These solutions, however, are still also applied in the oil and gas industry, helping to refine crude oil and produce LNG. Importantly, this association was significantly reduced in recent years and now forms a minor share of Schneider’s revenue, at less than 30%.
Some companies are in the process of leveraging existing distribution channels to push sales of greener solutions, while still deriving some revenues from fossil fuel-related products. This is the case for Generac Power Systems, a leading producer of residential and commercial backup power generators. Since 2011, the company has made 14 acquisitions. Since 2019, the M&A focus has been on green solutions, such as Neurio Technology Inc. and Pika Energy in 2019; and Mean Green Mowers and virtual power plant software provider Enbala in 2020. This accelerated Generac’s entrance into the residential solar energy storage and energy monitoring markets. Generac is committed to transforming its business model and shifting from an upcoming green player to a pure player. We are currently assessing the company’s shade of green revenue and the impact of its recent acquisitions.
As shown above, 44% of companies in iClima’s benchmark are Pure Players defined as those with green revenue accounting for more than 90% of total company revenue. Majority Players (28%) are classified as companies with green revenues representing between 50% and 90% of the total. Partial Players (23%) have between 20% to 50% of revenue defined as green, while just 5% of companies are Upcoming Players, with 20% or less of their revenue derived from green solutions but demonstrating high growth in these areas.
Only 2% of companies have a borderline percentage of their revenue from coal and oil power generation. One company is engaged in biofuel blending and has retail sales of petroleum diesel. Similarly, only 1% of companies derive close to 50% of their revenues from natural gas-related activities. Around 12% of companies have a reduced association with fossil fuels between 0-25% of their revenue.
After careful revenue and negative screening analysis, we identified a number of companies engaged in borderline brown activities. Some companies are often assumed to be fully green, and their brown revenue is not highlighted by some green ETFs. However, the transition to a green economy will take time and creating a portfolio with only 100% green companies would reduce diversity significantly. We believe it is key to highlight and disclose the companies in our benchmark that do have some brown revenue in order to improve transparency and track their performance over time, making sure they are on the right track to phasing out these activities and actively reducing their exposure to emissions-intensive business lines.
At iClima we believe the best way to combat greenwashing is through data. Those of us that focus and care a great deal about ESG have an obligation to be more precise in our nomenclature, definitions and taxonomy. We state our purpose and clearly show our tangible and quantifiable metrics.
Moreover, we believe in stewardship. We want to work with the companies in our universe as well with other stakeholders, to enhance transparency. Companies are embracing ESG standards and becoming more transparent. We are cognisant that not all companies are 100% green.
We continue to monitor. We have looked back to 2017 and overall the direction of travel is positive. Green revenue went up (became darker) and brown revenue became more diluted. We plan to continue to monitor, quantify and disclose these key parameters.