The Fourth Quarter 2013 GEOS Review – Less is More

2013 was an important year for the Essex Global Environmental Opportunities Strategy (GEOS):  Essex has successfully completed our first year as an employee-owned firm, asset inflows to GEOS are accelerating, and we are excited to welcome our first institutional GEOS client.  From an investment perspective, 2013 was a year of validation for the clean tech arena.

A key tenet of the broad clean tech skepticism has been that many of the technologies are too expensive to adopt and lack widespread commercial appeal unless corporations are strong-armed into adoption through government regulation and mandate.  Our investment philosophy is founded on the thesis that corporations are rational allocators of capital and will increasingly adopt these clean technologies and services as a means of enhancing economic returns.  We define clean technology as doing more with less – using fewer resources to do the same amount of work, or have similar productivity.  Indeed this global trend is accelerating as we have seen myriad recent examples of corporations adopting energy efficient technologies, not only to improve their environmental footprint but in an effort to bolster earnings growth in a challenging revenue growth environment.

One of the most vivid examples of the increasing adoption of energy efficiency technologies is the substantial secular change in U.S. energy supply and demand dynamics, as evidenced in the chart below depicting U.S. primary energy use versus real domestic GDP from 1949 to today.  As we have posited in our Energy Equation whitepaper, historically, there is a very strong correlation between energy demand and economic output. However, over the past few years, while our economy continues to expand, energy use in the United States has declined. This is an extremely important secular shift – a major de-coupling which should have profound effects on most sectors of the U.S. economy. Given the global energy dynamic we have also expressed frequently, where all marginal energy demand is in the hands of the emerging economies, we believe energy efficiency – limiting energy use will be an increasingly important competitive advantage for companies and countries. This de-coupling will also have global implications, as our situation in the U.S. is a strong proxy for the developed markets.

Source: National Energy Policy Institute, 5/13.

We believe the strongest differentiator of our GEOS investment process is our nine GEOS themes which we invest across, enabling diversification and investment opportunity. Most of the GEOS themes are directly tied to energy efficiency, with efficient transport, clean tech and efficiency, agricultural productivity and power technology having primary exposure to companies enabling energy efficiency technologies and services. It is these themes which drove GEOS performance for 2013, aside from GEOS solar positions in our renewable energy theme. Overall, the stocks in these themes performed on improving fundamentals, whether fleet optimization software, LED lighting, energy efficient HVAC, auto parts supply optimization, power conversion technology, or activated carbon technology for clean coal and water filtration.  In each of these industries, year/year revenue growth was driven by increased adoption rates as companies sought to lessen energy expenditures.

LED technology is an industry that, while tracing its roots to the early 1960’s, is experiencing strong adoption that has been led by commercial and industrial lighting demand. Leading LED bulbs use 10-15% of the power of traditional lighting, and last 50,000 hours versus 2,000 hours for incandescent bulbs. The 85% improvement in energy efficiency coupled with vastly longer install lives are the primary reasons for high LED adoption over the past year for commercial and industrial applications. LED is also rapidly scaling for residential use as pricing decreases, leading to a second wave for the LED lighting cycle. One leading LED manufacturer is offering a complement to incumbent incandescent 65 watt bulb technology, with a mere 10.5 watt consumption, and 2000% longer life. We expect the residential wave to drive LED industry growth for the next several years. LED is a prime example of energy efficiency, and a driver of the decline in U.S. energy use relative to real GDP. Other examples of this trend are technologies that enable distributed energy management, or demand-side management systems that allow commercial or industrial users to harvest energy from the grid at lower and off-peak rates, while relying on their own distributed energy production or storage during peak-power use. No longer is energy production and distribution a linear event, with centralized, base-load utilities spending capital on constructing power plants, and receiving a return-on-investment with growth based on increased power prices. The energy equation is moving from supply to demand-side, with technology disruption occurring on the demand-side, through technologies enabling energy efficiency. It is at this end of the equation – investing in technology disruption, where GEOS is positioned to capitalize, for these clean technologies enable less to be more.