The Chain: Unilever’s Possible BCS Sale May Impact Unilever’s Investors and Zero-Deforestation Achievements

Unilever replied to this research note on August 22. Their reply is below in italics.

Reuters reported on July 25 that Unilever is close to selling off its Baking, Cooking and Spreads (BCS) division to private equity investors, valuing the division between USD 6 billion to USD 7 billion plus.

The BCS division has earnings before interest, taxes, debt and amortization (EBITDA) of USD 742 million on sales of USD 3.5 billion, six percent of total Unilever’s 2016 revenues. On April 13, Chain Reaction Research analyzed Unilever’s new strategy after the unsuccessful Kraft Heinz bid and found that the possible divestment of the division could hurt Unilever’s sustainability profile. Unilever’s BCS Division is one of Unilever’s main purchasers of certified sustainable palm oil and kernel oil.

Currently Unilever purchases three percent of global palm oil production, but impacts eight percent of global production via its use of palm kernel oil. As an early adapter of Roundtable on Sustainable Palm Oil (RSPO) standards, Unilever now purchases ten percent of global certified sustainable palm oil output. Based on this, Unilever has reached the leading sustainability position in the global food sector.

Unilever’s Possible Sale Means Sustainable Agriculture Products Sourcing May Decline 20 Percent

Unilever’s sustainability policy is focused on three goals:

  1. Improving health and well-being for more than one billion people in 2020 including health and hygiene and improving nutrition criteria.
  2. Reducing environmental impact by 50 percent by 2030 including greenhouse gases, water, waste, packaging and sustainable sourcing criteria.
  3. Enhancing the livelihoods of millions of people as Unilever grows including workplace equity, opportunities for women and inclusive business criteria.

Unilever’s BCS business with sales of USD 3.5 billion is only six percent of Unilever’s overall turnover, but BCS activities support all three sustainability goals.

In 2016, Unilever spent EUR 18.7 billion globally on raw materials and packaging. This EUR 18.7 billion can be broken down into:

  • Spreads accounts for EUR 1.2 billion of materials purchased.
  • Spreads materials purchased equals 6.4 percent of total Unilever material spend.
  • BCS division equals 6 percent of Unilever’s overall turnover.
  • Unilever’s total spend on palm oil and palm kernel oil is EUR 1.8 billion.
  • BCS division represents 15 percent – or EUR 277 million – of the total palm oil and palm kernel oil spend.

Unilever states that 51 percent of its agriculture-based raw materials in 2016 were sustainably sourced. In 2016, about 36 percent of Unilever’s palm oil came from physically certified sources including Roundtable on Sustainable Palm Oil’s (RSPO) mass balance and segregated certification mechanisms. This is in line with Unilever’s glide path to reach 100 percent by 2019. In 2016, Unilever can trace their universe of mills associated with 73 percent of their core volumes.

In 2016, Unilever updated their palm oil policy and moved forward their target date from 2020 to 2019 for purchasing 100 percent physically certified palm oil. They also stopped purchasing GreenPalm certificates, which had accounted for 18 percent of their sustainably sourced agricultural raw materials in 2015.

First, definitions for mass balance, segregated, and book and claim:

  • RSPO mass balance: Sustainable palm oil from RSPO-certified sources is mixed with ordinary palm oil throughout supply chain, certified volumes are monitored administratively.
  • RSPO segregated: Sustainable palm oil from different RSPO-certified sources is kept separate from ordinary palm oil throughout supply chain.
  • RSPO book and claim: GreenPalm operates RSPOs book and claim system. It is a certificate trading program that allows manufacturers and retailers to offset their impact. But there is no guarantee that the end product contains certified sustainable palm oil. Book and claim allows organizations to support sustainable palm oil instantly.

GreenPalm Certificates no longer carry the RSPO endorsement and that as of March 31, 2017 it has ceased trading of GreenPalm Certificates. The RSPO now operates the Book and Claim supply chain as RSPO Credits (launched on Jan 1, 2017) on their PalmTrace platform. The GreenPalm book and claim certificates were a transitional tool providing growers a market signal to move towards a more sustainable palm oil industry. The decision to stop buying GreenPalm certificates created a temporary dip in Unilever’s sustainably sourced agricultural raw materials performance from 60 percent in 2015 to 51 percent in 2016. Had they continued to buy GreenPalm certificates at the same level, their overall sustainable sourcing performance in 2016 would have been 66 percent.

By choosing to move forward with RSPO mass balance and segregated certification, Unilever has strengthened its supply chain commitments, improved its supply chain transparency, and potentially mitigated financial risks associated from unwanted deforestation in their supply chain.

Because Unilever’s BCS division is responsible for 25 percent of Unilever’s sustainable agriculture-based raw materials purchased, if the company sells its BCS division, its sustainable agriculture profile and associated brand value may be impacted. This could result in its sustainability agriculture-based raw materials purchases decreasing to 40 percent – a 20 percent loss against Unilever’s current published achievements. Such a change might negatively impact MSCI, Bloomberg, and others scoring of Unilever’s sustainability and environmental, social, governance (ESG) achievements.

Changing sustainability and ESG scores might lead some institutional investors to adjust their Unilever positions. Some studies that show that higher ESG scores gives a better share price performance, including a recent study from NN Investment Partners that linked share price to ESG score momentum.

In the case of a potential USD 7 billion sale, Unilever’s BCS division’s 9.4X EV/EBITDA exit would be lower than Unilever’s current EV/EBITDA 2017 14.8X multiple. This means dilution.

Analysis shows that the discounted cash flow for the BCS division is USD 8 billion, assuming a weighted average cost of capital of 7 percent and a 2 percent compound annual growth rate in earnings before interest and taxes.

BCS Division Buyer May Lack Equivalent Sustainable Sourcing Policies

After a sale, would the BCS division’s new owners have the same values as Unilever? On July 25 Reuters reported Clayton Dubilier & Rice and Bain Capital are preparing a bid of USD six billion for the BCS division. Blackstone and CVC Capital Partners may be developing a bid above USD seven billion. Would these new potential owners pursue sustainable sourcing and maintain Unilever’s No Deforestation, No Peat, No Exploitation (NDPE) policies?

On its website, Bain Capital says that since its founding, it:

“Supported a wide array of charitable and non-profit organizations in communities around the world with…time, expertise and resources. Through Bain Capital Community Partnership, we strive to make real impact in the neighborhoods where we work and live.”

Looking to the investments by Bain capital over the last 12 months, they have not been involved in fossil fuel or other usual suspects in climate change. In fact, the private equity firm has raised money for impact investing. However, Bain does not have a sustainability report.

Clayton Dubilier & Rice is more concrete than Bain Capital in its sustainability behavior as it states:

“Endeavouring to make our companies great places to work and the communities they operate in great places to live; protecting our planet through environmentally responsible activities.”

But Clayton Dubilier & Rice does not publish a sustainability report.

CVC Capital Partners says:

“CVC is increasingly aware of the impact that the private equity industry can have on society and the environment.”

“CVC therefore believes that environmental, social and governance (ESG) issues should be integral to the investment process”.

CVC Capital Partners’ six investment criteria does not mention sustainability.

Blackstone applies the Walker Principles on transparency and disclosure for private equity. As one of the founding members of the Private Equity Growth Capital Council (PEGCC), Blackstone supports the PEGCC guidelines on ethical investing. However, like the others it has no sustainability report.

Greenbiz says that the private equity industry is lagging other parts of the financial services industry, but that it is gradually catching up. According to their reporting:

“Initially, six private equity firms signed on to the [UNPRI] framework in 2006, but six years later in 2012, there were over 1,000 signatories from firms that had $30 trillion in assets under management.”

In January 2016 Forbes wrote that in two decades funds managed by private equity had increased from USD 30 billion to USD four trillion and that it accounted for 5.4 percent of the professionally managed assets globally. Forbes said that this percentage could double over the next five years. This is a demand driver for Unilever to sell its assets.

Unilever stated August 22, 2017 in reply to this research note:

“Unilever strongly believes that a sustainable and responsible long-term approach goes hand in hand with long-term business success. One of the main reasons Unilever resisted the Kraft Heinz bid earlier this year was to ensure Unilever stay true to its values. The Unilever Sustainable Living Plan is at the heart of this. 

The Unilever Sustainable Living Plan has helped Unilever to live out the values that people are increasingly looking for in a turbulent and uncertain world and this will continue to be an important differentiator for Unilever.

Unilever will not sell the spreads business to any party who Unilever would consider to be disreputable. Unilever is acutely aware that, regardless of price, this would be bad business and would cause substantial damage to our reputation.

Unilever believes that sustainability differentiates their spreads business and is therefore attractive to potential buyers. As a matter of policy, Unilever never comments on any specific terms and conditions relating to any sale or demerger of assets from the Unilever Group.” 

Unilever’s Possible BCS Sale May Impact Unilever’s Investors and Sustainability Scores

Unilever’s possible BCS division sale may impacts investors because it might reduce Unilever’s sustainability scores while also diluting its EV/EBITDA multiple for existing shareholders. If Unilever’s sells its BCS division to a private equity firm, Unilever’s zero-deforestation legacy could be impacted even more because private equity firms generally lag publicly-traded firms in their NDPE commitments.