Finance is circular economy catalyst
30th April 2016
The thorny subject of finance – the little-explored but nevertheless crucial aspect of driving the circular economy.
This topic was recently explored at the ‘Finance, the Catalyst to the Circular Economy’ conference hosted by ING Wholesale Banking, the Dutch Embassy and Green Alliance last month (March).
The circular economy relies not only on new technologies that recover and recycle materials to higher quality standards suitable for incorporation into manufacturing processes, but also on new business models. Two business models in particular have received a lot of attention from companies and from policy makers.
The servitisation model
In the servitisation model, the outright sale of a product such as a photocopier, a car or a light bulb is replaced by the sale of a service. For example, payment would be related to pages photocopied, miles driven or by the amount of light used.
Ownership of the product remains with the company providing the service, which is retained through leasing a product. Contractual arrangements with the customer will differ, dependent on the services offered, such as who controls maintenance.
The product life extension model
The product life extension model relies on products being retrieved after use.
After repairing, upgrading or remanufacturing, the product is re-marketed and put back into use. This way, more of the value in the product is retained and circulated back into the economy. In closed loop form, this model relies on buy-back or take-back schemes to return the used product to the manufacturer. In open loop form the used product is collected by a third party (such as a charity), repaired or refurbished, and then sold to consumers through a retail outlet.
An example of the income stream that can be generated through this model, Green Alliance have estimated in their report Resource Resilient UK that a reused iPhone retains around 48 per cent of its original value. In contrast, the value when dismantled with materials recovered as recyclates is just 0.24 per cent of its original value. Retaining value through reuse makes good business sense!
What is the impact?
These models have been in use for years, even decades; example of which include high-value, complex products such as cars, aero engines and hospital scanners.
These products are a small, highly specialised segment of the wider consumer market. The idea of the circular economy is to mainstream these business models. In order to cover the sort of everyday uses and functions the average consumer takes for granted through the outright purchase of a product.
This was the topic discussed at the Finance conference. New circular technologies and circular business models require financing, just as conventional businesses relying on linear take-make-dispose models do. But the challenges are different.
For example, when a use or function is “servitised”, the company no longer receives an up-front payment for the product. The product is paid for over the lifetime of the service contract, which may extend over several months or years.
If a contract is terminated early or the customer files for bankruptcy, the product may not be fully paid for. This, in turn, has implications on cash flow, and also on the perceived creditworthiness of companies wanting to borrow or raise capital. In instances where a particular product is embedded in a larger scheme and is owned by the customer, but the company contracts the service, loss of ownership of that product deprives the company of assets to put up as collateral against a loan. (ING cites the example of a light fitting in a building).
These are some of the issues that need to be addressed if circular models and technologies are to be adopted.
What are the next steps?
SUEZ has experience of seeking funding for new circular technologies. For instance, a plant designed to convert plastic waste into a diesel fuel. SUEZ can relate to the way in which technical and product-related aspects (scale-up from demonstration size, quality of and secure markets for the product) impact on the risk profile of the development, and hence of the willingness of banks and venture capitalists to fund the projects.
Discussions around the circular economy have generally focused on technical and design fixes.
- How the post-consumer capture rate of materials and products can be improved.
- Systems changes that improve the quality of recyclates.
- Changes to the design requirements for products to improve recyclability and repairability.
I believe the time has come to bring the finance sector to the centre of these discussions. A host of issues need addressing, ranging from how credit risk on circular business models can be mitigated, to forms of contract that can protect companies and lenders alike in the event of a bankruptcy.
Without their input, circular business models and circular technologies will continue to operate on the fringes of our economy.Tweet
- circular business
- circular economy
- circular technology
- the product life extension model
- the servitisation model