A Stock for Investing in Recycled Plastics
When panic ensues in the financial markets, financial services firms are quick to reach out and assure their clients that they have everything under control. Cancels affect run rates, and clients need to know that all those tools they’re paying exorbitant amounts of money for will work in bear markets as well as bull markets. “Get on the phones and call your clients,” the Managing Director will shout during the all-hands sales meeting, after which all the sycophants scurry back to their desks and pretend to be making client calls.
One financial services firm – that shall remain unnamed – told their clients last week how well “green stocks” are outperforming “brown stocks,” which is convenient given their CEO’s desire to go full-blown ESG in the coming years. Whether or not ESG outperforms is debatable, but what’s not debatable is the extent to which opinions differ about “brown” vs. “green.” Independent investment management firm Brown Advisory suggests that ESG ratings ought to be taken with a grain of salt because there such a mismatch of ratings between data providers:
The wide range of classifications seen above means that some providers say a stock is brown, while others say it’s green. If you ask us, the whole thing smells a bit brown. While some of the ESG rating methods certainly seem dubious, today we’re going to talk about a stock that’s indisputably good for the environment. But is it good for investors?
About Loop Industries
A few years back, we wrote about 7 Startups Recycling Plastic with New Technology and talked about how humans have now generated 8.3 billion tons of plastic waste, of which just 9% has been recycled. Another 12% gets incinerated, which means 79% of plastic waste gets accumulated in landfills and just sits there to this day. (Travel to any third-world country and you’ll get to see just how much plastic gets discarded on the spot and doesn’t even make it into these numbers.) Today, we want to focus on polyethylene terephthalate or PET.
PET is a highly valued packaging material because it is strong yet lightweight, non-reactive, economical, shatterproof, and safe for food and beverage use.
Virtually all single-serving and 2-liter bottles of carbonated soft drinks and water sold in the U.S. are made from PET.
Credit: PET Resin Association
As we’ve talked about before, not all plastics can be recycled. Thermoplastics are the set of plastics that can be recycled, and they can be used to produce films, packaging, Styrofoam, PET bottles, and PVC pipes. The problem is, not a lot of these recyclable plastics get recycled. Currently, if you’re a manufacturer that wants to use recycled plastic for consumer products like soft drinks or food packaging, the only option is to purchase recycled PET or rPET from mechanical recyclers which rely solely on clear bottles. (In North America, collection rates for clear PET bottles are stagnant at 29% since 2010.) The inability to source rPET coupled with the desire to pacify the Twitter activists means that companies need more rPET than they can buy.
Publicly traded since 2015, Loop Industries (LOOP) is a $267 million company that owns patented technology that “depolymerizes” no and low-value waste PET plastic and polyester fiber, including plastic bottles and packaging, carpets, and textiles of any color, transparency or condition, and even ocean plastics that have been degraded by the sun and salt, to its base building blocks (monomers). The monomers are then filtered, purified and polymerized to create virgin-quality Loop™ branded PET plastic resin and polyester fiber suitable for use in food-grade packaging.
The idea is that we can now recycle a lot more types of rubbish instead of just cherry-picking clear PET bottles from trash processing facilities using robots.
Loop Industries plans to commercialize their technology in two ways.
rPET From Existing Facilities
The entire business model of Loop Industries surrounds producing recycled plastic and selling it to companies that have committed to going green and have money allocated to spend on it. Loop has entered into multi-year supply agreements with huge consumer product companies like PepsiCo, Coca-Cola, Danone SA, and most recently L’Oréal. Just between three of these companies, the expected spend on recycled PET is around $4 billion a year.
Of course, we need to address the elephant in the room. It’s easy to make promises like this to your customers when you’re sailing through life on the coattails of the biggest bull market ever. What happens when a recession hits? Or what happens when the price of oil tanks and the cost of plastic tanks along with it? Coca-Cola happens to be one of our core dividend growth stocks, and we’d much rather they focus now on making sure that dividend growth continues. Pacifying Twitter activists takes a second seat to fiduciary responsibility in times of crisis.
Still, let’s assume that the $2.48 billion Coca-Cola plans to spend still makes sense in the face of recent market turmoil. The plan is for them to purchase production capacity from Loop’s joint venture facility with Indorama in the United States, a 40,000-ton-per-year facility that’s expected to begin production in the third quarter of calendar year 2021. (That will fill about 3% of Coca-Cola’s total demand for rPET.)
With the aforementioned recycled PET spend calculated at 75 cents a pound, back of the napkin math gives us $1,653 a ton or around $66 million in potential revenues for this joint venture. We have no indication as to what cost structure is in place or what percentage of presumed profits would make their way into the Loop Industries coffers. The same can be said for the new facilities that Loop plans to build.
rPET From New Facilities
The Infinite Loop™ concept involves building facilities near large urban centers where feedstock is located to significantly decrease the transportation and logistics costs associated with the process. To do this, Loop has partnered with one of the world’s leading PET and polyester engineering companies – thyssenkrupp Industrial Solutions (tkIS). Together, they’re designing and building a new-generation recycling plant.
Once the first facilities are operational it may create the possibility of licensing the technology to create recurring revenue streams for Loop while reducing operational risks.
It’s all fine and dandy to have a group wank on Twitter about how environmentally conscious we all are during the longest bull market in the history of mankind. However, those attitudes just might change a bit when a bear market arrives. Should companies be focused on planting trees and filling the latest useless D&I job requisition, or should they be looking to trim the fat as revenues drop?
The ability for companies like Loop Industries to survive a recession lies in the extent to which they can do good for the environment while also doing good for shareholders. As everyone’s 401Ks drop precipitously, they’ll be less keen about subsidizing business models that make us feel better about ourselves. That’s why dividend growth investing does so well during times of turmoil. No matter what happens in the stock market, odds are you’ll be getting a yearly raise that exceeds inflation.