How to Boost the Bottom Line with Sustainable Products and Initiatives

16th in a series of excerpts from the book The HIP Investor (John Wiley & Sons, 2010). See other articles in the series here.

Is your Chief Financial Officer seeking more opportunities to enrich the company? The time may be ripe to introduce the financial fruits of sustainability products and initiatives, increasing your CFO’s happiness.

In this feature, we examine how income statements can benefit from the Human Impact + Profit (HIP) approach: the potential for increased cash from customer sales and reduced monetary outflows for the costs of materials, people, and taxes. Being more HIP can boost your firm’s bottom line.

Given world trends toward improving five factors of human needs -- Health, Wealth, Earth, Equality, Trust – companies selling HIP products tend to experience higher sales growth. This can result from selling higher volumes of product, charging higher prices, or both.

Higher volume potential from HIP products

Hannaford Brothers, founded in 1883, is a food retailer operating 170 stores across 5 states in New England, including its home state of Maine. Hannaford instituted a “Guiding Stars” program for rating food quality (including natural, organic, and healthy choices), which they describe as “nutritious shopping made simple.” One star is for Good, two is for Better, and three is for Best. The ratings value whole grains, dietary fiber, minerals, and vitamins higher, but rank products with added sugars, sodium, cholesterol, trans-fat, and saturated fat lower. Hannaford has applied for a patent on its rating system.

More than 50,000 products have been rated, including all produce, 51 percent of cereals, 41 percent of seafood, over 20 percent of dairy and meat, and under 10 percent of soups and bakery. More than one in four products evaluated (28 percent) have earned one or more stars. With this information, customers are now buying differently, shifting market share from less-healthy products to more-healthy ones.

Consumers bought 4 percent less whole milk, which received no stars, while increasing their purchases of fat-free milk by 1 percent, as it received the top rating of three stars. Sales of low-fat ground beef (90 percent or more fat-free) with Stars increased by 5 percent, while ground beef without Stars dropped by 5 percent. Healthier chicken preparations with Star ratings grew at 5 percent, while chicken products without Stars decreased by 3 percent.

On a relative basis, the sales volumes of several products with positive ratings moved faster: Yogurts and breakfast cereals with Stars grew more than 3.5 times faster than their no-Star counterparts. Packaged goods—including crackers, pasta, cereals, breads, canned and jarred foods, snacks, and beverages—with Stars grew at 2.5 times the rate of those with no Stars. Movement of Starred frozen dinners and entrees outpaced frozen no-Stars, growing about 4.5 times faster than those without Stars.

While the common perception is that healthier food costs more, Hannaford Brothers also suggests menus that increase both Health and Wealth, by saving customers money with more nutritious food.

Higher price per unit from some HIP products

Price premium is another driver of increased revenue. Organic milk is sometimes priced at up to double that of conventional milk. Sales continue to grow for organic milk, especially with moms seeking healthier foods for home consumption. Organic milk purchases have tended to displace market share of conventional milk among higher-income households, purchasers with college degrees, and younger buyers.

Here’s a personal example: At home, my wife and I pay the premium for organic, because we view it as a low-cost investment in our long-term health. We drink one gallon a week, so that amounts to an incremental $3 per week. At 52 weeks a year, this $156 investment seems to be a “healthy” return for the added benefits resulting from organic and natural dairy products, especially when compared to the $1000 per month that we can spend on health care insurance.

In some cases, price premiums can combine with higher usage. In green real estate, buildings that are energy-efficient or have other eco-improvements have tended to earn more per square foot, with lower vacancy rates. According to CoStar, even after the real estate meltdown, landlords of LEED-certified buildings can command an additional $10 per square foot per year, and owners can tack on another $150 per square foot when they sell a LEED-certified building. Occupancy rates of LEED- and Energy Star-rated buildings can run 4 percent higher, with higher tenant retention.

Higher revenues possible from HIP products

As corporations begin to track the value of more HIP products, they will start reporting more specific revenue numbers. For example, Corning (NYSE: GLW) estimated $500 million from its environmental related products, such as gas/diesel engine technologies. Recycling waste can generate top-line revenue, too. Trash-hauler Republic Services, Inc., (NYSE: RSG) is shifting its revenue mix toward recycling, which in 2008 totaled 7 percent of revenue. Profits can be enhanced when the waste streams feed renewable energy sources as well.

Higher revenues show up on the income statement through HIP products, metrics and management practices. In addition, these HIP practices can lead to an improvement in a company’s brand which can lead to higher market share and brand loyalty. Let’s look at how a HIP approach facilitates lower costs.

Lower costs from HIP-focused operations

An income statement captures the costs of doing business, from people to materials, from fuel to real estate. A HIP company experiences higher productivity from staff and lower costs from efficient operations. Both lead to better productivity and increased cash flow.

Labor productivity and savings

Highly satisfied employees are more engaged with their work, resulting in more innovation and better service to customers, which can generate revenue. It also helps reduce staff turnover and the associated retraining costs.

For Toyota, (NYSE: TM) a new customer-service center in Southern California with natural lighting and low-toxic paint and furniture resulted in a 14 percent reduction in absentee days, as employees enjoyed a healthier work environment. This higher productivity helped Toyota avoid the incremental costs of replacement staff and maintain trained staff for customer inquiries.

Materials, energy, waste, and water savings

For companies seeking to eliminate waste streams, to find new uses for old materials, and to remarket recyclables, Waste Management’s (NYSE: WM) Upstream business unit is advising business customers on how they can cash in on items that used to be destined for landfills. Customer cost savings drop to the bottom-line profit. Waste Management also optimizes natural resources—and profits—while converting municipal solid waste to “clean” electricity by burning trash or recapturing the gases from landfills.

At energy company Ashland, (NYSE: ASH) “instead of disposing, we are recycling,” says their Integrated Resource Management Sheet. Reusing sulfur and phosphorous has led to $240,000 of savings in inputs, and generated $155,000 in profit. Recapturing the energy from burned solvents has contributed $600,000.

Water, sewage, electricity, and waste-hauling expenses can all be reduced to help conserve natural resource intensity. Hobart, a company of Illinois Tool Works, (NYSE: ITW) sells food waste pulping equipment and hyper-efficient dishwashing machines to create dramatic savings in customer expenses, while also benefiting the environment. This super-efficient equipment leads to fewer wasted resources and lower costs.

Lower facilities costs in green real estate

Let’s move from operations to real estate. A survey of commercial real estate management in 2008 by Jones Lang LaSalle (NYSE: JLL) found that 76 percent of managers now think, “sustainability is a critical business issue.” Energy-related projects had been implemented by more than half the survey respondents because those types of initiatives were seen to yield the fastest payback. Office recycling programs were even more prevalent, though, generating higher awareness because employees found it easy to participate.

The Chief Financial Officer of real estate property manager Jones Lang LaSalle is a renegade. CFO/COO Lauralee Martin has spearheaded the effort to communicate the benefits to investors. “We are seeking to educate traditional investors that sustainability directly links to profitability,” she says. Which investors are interested? “Mainly the European ones,” Martin replies.

By the end of 2009, JLL was targeting to have 500 accredited LEED professionals on staff, including building managers, project managers, and expert advisers. One of its key roles is managing to reduce costs—saving energy, water, and waste. JLL’s projects have included taking McDonald’s headquarters to LEED “Gold” status and Bank of America to “Platinum” in the LEED certification for real estate eco-efficiency standards – and now the Empire State Building’s eco-efficiency renovation, including overhauling 6514 windows and radiators.

Eaton Corp, (NYSE: ETN) a $15 billion provider of power management, makes it easy to understand. On its Web site, the company lists two primary benefits: “save money” and “protect the environment.” Eaton offers five categories of solutions, including indoor environmental quality, energy and atmosphere, and sustainable sites. For sites seeking LEED certification, Eaton promises its products can help earn 40 percent of the required certification points. Lighting improvements, in particular, can save 10 percent to 30 percent of electricity costs.

Lower energy usage also positions a company financially for lower liabilities, as we will see later in the balance sheet discussion. Lower regulatory risk is likely, too, as climate-change legislation and carbon taxes evolve.

But if financial results are enhanced by a new fundamental, wouldn’t that be of keen attention interest to the investing world? Apparently not. The mindset of “anything environmental or social must require a financial sacrifice” is old school. Tradition-minded capitalists who do not see the light on this leading indicator are missing out on new profit opportunities.

The Coming Cost of Carbon

“Businesses at large don’t yet understand their ‘lifecycle carbon footprints’ of services they provide,” says Mitch Jackson of Federal Express (NYSE: FDX). “You might think that transportation is a big part of your carbon footprint, but many times it is much lower, depending on what you make and how your customers use it. It will be a service enhancement and a sustainability enhancement,” Jackson says. FedEx Chair Fred Smith has also called for the company’s aircraft fuel to be 30 percent bio-based by 2030.

How can companies easily calculate their carbon footprint? A savvy solution is offered by Climate Earth, a software company based in San Francisco. By using the manufacturing and financial accounting systems that track costs of materials and resources, Climate Earth can calculate a company’s carbon profile in about 30 days. Its information tools help find savings in costs and carbon, even among a company’s suppliers. The construction company Webcor is using these tools to find savings in multimillion dollar construction projects. It’s also winning new projects by incorporating the savings in costs and carbon into its bids. “Carbon dioxide equivalence is a strategic metric,” says Webcor’s President and CEO Andy Ball.

We’ve covered revenue and expenses. Now let’s look at the third major driver of profit on the income statement—taxes. A reduced tax bill is also possible through initiatives creating positive human impact.

Tax Incentives, Rebates, and Credits Add Profit

Taxes on business cover income, payroll, assets and property, and sales of goods and services. Yum! Brands, (NYSE: YUM) which owns KFC and Taco Bell, encourages their outlets to hire economically disadvantaged and disabled workers, earning a Work Opportunity Tax Credit while creating jobs, advancing equality and enhancing profit.

Calculating the Full Benefits for Return on Investment

Before we finish the income statement mapping, let’s summarize the ROI of all aspects. Capital E analysts estimated the typical savings from energy, emissions, water, and operations and maintenance improvements over the 20-year life of green structures. Those benefits easily exceeded the estimated incremental costs of those improvements. In addition, because of the “health” of the building, its open design and natural materials, fewer employees would get sick, and productivity would increase for staff. The inclusion of these employee-related benefits generated a net value that was three to five times higher, with a very attractive return on investment.

So you can see how companies can increase profit through higher income, lower costs and optimizing taxes, while also creating positive human impact – which can make your CFO much happier. Sustainable finance is smart finance. When you map the income statement benefits to products and initiatives that are more HIP, your firm can benefit from potentially higher profits.

In our next feature, we will focus on how the balance sheet can become stronger and more resilient, also increasing your CFO’s satisfaction with sustainability.

To navigate this series, please use this table of contents.

***

HIP Investor supports Spring of Sustainability.  For three months, the Spring of Sustainability will feature 100 “stars” of sustainability, from Jane Goodall to Bill McKibben to Van Jones, in free interactive teleseminars throughout the spring of 2012. Live events will also be held in cities across the globe.

***

R. Paul Herman is CEO and founder of HIP Investor Inc. Herman is the author of “The HIP Investor: Make Bigger Profits by Building a Better World,”  published by John Wiley & Sons in 2010. Herman is a registered representative of HIP Investor Inc., an investment adviser registered in California, Washington and Illinois.

NOTE: This feature, excerpted and adapted from the HIP book, is not an offer of securities nor a solicitation. The information presented is for information and education purposes, and is not an investment recommendation. Past performance is not indicative of future results. All investing risks losing your principal. The author may invest in the companies mentioned above, and several are included in the HIP 100 Index portfolio. Details and full disclosures are at www.HIPinvestor.com

Follow on Twitter @HIPInvestor