Without investment in circular business, we won’t reach our net-zero goals
Circular business investments bring both climate-wins and resilient, risk-adjusted returns
The recent IPCC report issues the starkest climate change warning yet. The pressure to achieve net-zero (carbon neutrality) is mounting. However, decarbonisation and energy efficiency alone will not permit us to reach our greenhouse gas (GHG) emission targets. Crucially, a 1.5-degree world must be resource-smart: circular economy strategies are crucial for climate mitigation and reaching the goals of the Paris Agreement. The upcoming pivotal climate conference, COP26, hopes to mobilise trillions of dollars in climate finance. If directed towards companies that apply circular economy strategies, this funding can get the world on a net-zero path — and represents secure and future-proof investment opportunities for financiers.
Businesses and financiers stand to play a key part in the circular transition. While companies utilising circular business models are struggling to entice investors that are used to judging linear business models, financiers are increasingly searching for sustainable investments that are financially safe. A growing number of case studies show that circular business investments are profitable, protected from linear risks, and will allow investors to reach net zero alongside resilient, risk-adjusted returns.
You don’t have to be a pioneer to start investing the circular economy, as shown by the notable rise in circular financing: private financial institutions and asset managers — such as ABN AMRO, Barclays, BlackRock, BNP Paribas, HSBC, ING, Intesa San Paolo, Rabobank and RobecoSAM — have issued their own circular economy finance products and services. However, more is needed. The majority of recent initiatives continue to focus on decarbonisation and energy efficiency — and not resource use and circularity. The recently launched Net Zero Investment Framework Implementation Guide makes no mention of circularity, for example, and the same is true for the Investor Guide to Climate Collaboration: From COP26 to Net Zero developed by LSEG and Principles for Responsible Investment.
The promise of the circular economy
Our Circularity Gap Report 2021 made clear that we cannot reach our 2-degree, or ideally 1.5-degree goal, focusing on energy efficiency or the energy transition alone. Looking at national climate pledges submitted by countries — Nationally Determined Contributions (NDCs) — we are still projected to hit 3.2-degree warming by 2100. Essentially, current pledges only get us 15% of the way toward our goals. Yet applying circular economy strategies at the intersection of resource and emissions-intensive processes has the potential to deliver the remaining 85% (see visual below).
This is because the vast majority of emissions (70%) are associated with the use and handling of materials. A circular transition involves a fundamental rethinking of our present economic model to close the resource cycles on the smallest scale possible, extend the lifespan of material and products in use, and design waste and pollution out of the system. Through a gradual decoupling of growth and prosperity from the use of natural resources, it can pave a way for a resource-aligned, people-centric and emissions-free future.
Carbon dioxide emission and global warming scenarios. Source: Circularity Gap Report 2021.
The potential for circular investment
The financial sector stands to play a crucial part in the circular transition. In Europe alone, reaching the interim GHG reduction target of 40% by 2030 requires €260 billion of additional investment a year. The trillions of dollars which COP26 aims to mobilise in climate finance holds enormous potential to bridge this gap and achieve broader global objectives.
Through investing in circular businesses, investors can help achieve these goals alongside risk-adjusted returns. The benefits are manifold. Firstly, circular investments are more profitable. A global survey of 150 companies recently found that companies engaging with circular economy models reap monetary and reputational benefits as a direct result of the activities. Circular businesses are also safer from linear risks, such as failures in the supply chain or vulnerability to social, economic or political trends that threaten a firm’s strategic business objective. Circular companies steer away from these risks — and therefore represent secure investments.
Moreover, as the EU rolls out its sustainable finance package, forward-looking investors need to reconsider their portfolios now in order to avoid future compliance risks and reputational costs. Just as companies had to prepare for carbon pricing, companies and investors will have to consider resource use and related costs in their risk assessments. New regulations such as the EU Taxonomy and the Sustainable Financial Disclosure Regulation (SFDR) will soon become mandatory and financiers need to understand the beneficial role of circularity in preparing before it’s too late. Just as companies had to prepare for carbon pricing, companies and investors will have to consider resource use and related costs in their risk assessments.
So, what should investors do next?
To turn our climate goals into reality and benefit from the advantages circular business offers to investors, they must explore the following steps:
- Set investment targets to move capital towards the circular transition. Through investing in companies which understand the value of circularity, financiers can reward good practice and send a clear signal to those still lagging behind — all while reaping the benefits of investments which have been shown to be as profitable as non-circular alternatives.
- Develop engagement strategies to encourage circular businesses. By actively engaging with companies whose business models remain linear, investors can help them navigate the transition process and develop clear circular targets and milestones.
- Demand circular data from companies. Investments and engagement activities require that investors have an understanding of the level of circularity of the companies in their portfolio — and beyond. It is now the turn of businesses to start collecting data. Investors should require companies to release information on resource use, not just GHG emissions. The right metrics to assist businesses in this are already here.
The time is now for forward-looking investors
As the IPCC projects, a failure to act on climate change might see us grapple with a 5-degree warming by the end of the century. Financiers stand to play a crucial role in preventing this impending climate catastrophe. At the same time, as pressure to act mounts and new regulatory mechanisms are put in place, those investors who continue to hold on to unsustainable assets are likely to be quickly outperformed by competitors. Forward-looking investors — who are alert to profit, reputation, and compliance considerations — should act now and understand the crucial role circularity can play in investing sustainably.
At Circle Economy, we can help make circular solutions financeable and help investors assess their existing portfolios and/or discover new opportunities for profitable and linear risk-free investment in the circular economy. Read here for more information on how we leverage finance to accelerate the implementation of circular solutions.