Are companies leading in their sustainability performance being undervalued by the market? Are companies with poor sustainability performance over-valued by current valuation models? There would be no bigger coup for the shareholders of sustainable businesses, (not to mention the health of the planet), if companies leading in their sustainability performance were to get their day at the bank in the form of premiums in market capitalisation. Global companies are taking brave decisions and have been investing significant capital to ensure that their business models are robust enough to withstand the long term risks of a carbon, water and ecosystem constrained world. Some companies are creating models of business that directly address global challenges and focus on value to society.
Yet to-date there has been little evidence that sustainability performance is being considered a significant contribution in the valuation of these companies. Perhaps until now. The world’s largest metals transaction, the $38bn acquisition in July 2007, priced Alcan’s stock at $101.03 representing a premium of 65.5 percent. According to Richard Evans’ statement above, is the Rio Tinto Alcan acquisition a sign of things to come in terms of sustainability performance increasingly being considered in business valuations? And if so, what does it mean? This paper argues three points:
New definitions of business value are starting to emerge – from the CEO
Climate change and other global challenges (i.e. sustainable development more broadly) are important issues for society, and are becoming increasingly important for business.
In 2005 CEOs of global businesses, and members of the World Business Council for Sustainable Development (WBCSD) conducted a study that concluded, “Leading global companies of the future will be those that provide goods and services and reach new customers in ways that address the world’s major challenges.” Therefore, a company’s value will need to reach far beyond economic value to sustainability value. In reference to the Rio Tinto Alcan case, it seems that enlightened company executives are starting to communicate a new definition of value, sustainability value, to the investment community.
The brand valuation journey, which began with recognition in mergers & acquisitions, could provide a model for sustainability valuation
Intangibles such as brand, reputation and patents (once thought inconceivable to be assigned value) have transformed how modern business is valued in recent years. An Interbrand study of acquisitions shows that intangible assets represented less than 20 percent (on average) of the amount bid for companies in 1981, and has escalated up to about 80 percent (in some cases) today.
It was the series of brand acquisitions in the late 1980’s that exposed the hidden value in highly branded companies and brought brand valuation into the spotlight. If the Rio Tinto Alcan example represents evidence of sustainability value being included in acquired valuation, could we be at the start of the sustainability valuation journey? Will companies start to be acquired for their track record on sustainability?
Sustainability value must be differentiated from brand value in business valuations for optimal benefit
Sustainability value must be differentiated from brand value because it is different, and because business valuation could play a very important role in promoting a sustainable future. For global companies of the future to be those that provide solutions to global challenges, these business models must be rewarded by the capital markets. In turn, for the capital markets to reward a company’s value to society, this sustainability value must be weighted highly in business valuations. If sustainability value were to be simply integrated into brand value, a unique opportunity to institutionalise sustainability value and sustainability valuation could be missed.
Why is this important? – A summary
Progress towards sustainable development, addressing the world’s most urgent challenges, must involve the capital markets. Business valuations need to link environmental and social performance with business value. The Rio Tinto Alcan case could signal that company executives and market actors are ready to act regarding the inclusion of sustainability performance in business valuations. The lessons learned from the brand valuation journey could provide a step by step guide for market actors and companies to accelerate this process. To fully optimise the opportunities that lie ahead in defining sustainability value, careful attention should be paid to differentiating sustainability from brand value – this will be good for business and good for sustainable development.
“There is no doubt that the premium received by Alcan shareholders in the Rio Tinto combination was largely a reflection of financial performance. But, Alcan’s track record on sustainability, environmental stewardship and stakeholder relationships was also a very significant contribution.”
Richard B. Evans, chief executive, Rio Tinto Alcan