Equilibrium Capital: The Case for Owning and Operating Sustainable Real Assets

Equilibrium Capital isn't just an investor in sustainable real assets. It's an operator as well, growing blueberries and citrus, operating agricultural bio-digesters and generating energy efficiency.

Dave Chen, Equilibrium's CEO, has built a $1 billion asset management platform that combines on-the-ground experience with the financial discipline required by institutional investors.

A former venture capitalist and tech executive, Chen formed Equilibrium, based in Portland, Ore.,  in 2007 around  powerful trends, from the rising consumption of the global middle class to a new focus on water use to the reshaping of major commodity sectors. Natural resource constraints and increasing demand create a value-shift and market opportunities.

Real assets. Solid fundamentals. Scale economics. Institutional investors. That’s our contribution to the impact conversation.Dave Chen, CEO, Equilibrium Capital

To realize those opportunities, Equilibrium has built investor-operator teams and asset-management strategies on the thesis that environmentally and socially beneficial practices can drive operational efficiencies, reduce risk and deliver above-market, or ‘alpha,’ returns. Increasingly, companies are internalizing the true costs of their operations, and the pricing of risks is becoming well-understood. “Sustainability is becoming just the way business is done,” he says.

Owner-Operator

Financial engineering, which got a bad rap in the global financial crisis, is a potentially huge force for social good, he says. A teacher at the Kellogg School of Management and Stanford’s Graduate School of Business, he tells his students: If you want to change the world, you better know your way around a spreadsheet. He is a co-founder of what is now the Morgan Stanley Sustainable Investment Challenge, in which teams of MBA students compete to develop workable structures for financing solutions to social and environmental challenges.

But finance isn’t enough. Unlike most fund and asset managers, Equilibrium is the actual grower of its blueberries and operator of its wastewater biogas generators. Equilibrium recently closed its $250 million ACM Permanent Crops Fund, which is already a large organic blueberry producer and is buying and developing hazelnut, table grape and citrus farms in California, Oregon and Washington. Equilibrium’s team manages not only the financing, but the growing, processing, packaging and marketing of the crops, many of them organic. By applying modern water, soil and pest management, the team aims to lower input costs while fetching premium prices.

Equilibrium’s wastewater and biogas strategy, Wastewater Capital Management, provides project capital to design, build and operate agricultural and municipal biodigesters. The projects generate multiple revenue streams: from farmers and cities for waste disposal, from utilities for renewable natural gas and from carbon credits bought by other companies to offset their emissions. In agriculture alone, the Obama Adminstration’s “biogas opportunity roadmap” last year found a market for more than 11,000 additional systems in the U.S., up from 2,000 currently. Together, the digesters could power more than 3 million homes and reduce methane emissions by up to 54 million metric tons by 2030, the equivalent of taking 11 million passenger vehicles off the road.

Equilibrium also is developing investment vehicles to scale-up energy efficiency financing. It is the backer of EnergyRM, a Portland company that has developed a “DeltaMeter” to measure the energy generated by energy efficiency. Seattle City and Light last year became the first utility to approve an agreement to buy and sell such energy just like any other source.

In its early years, Equilibrium started by buying into the companies of leading fund managers who were executing on sustainability strategies. Australian Pastoral Fund Management has assembled large ranches across Australia to cost-effectively produce sustainably grassfed beef and sheep for the growing Asian market. Gerding Edlen’s Green Cities funds manages more than 60 office, apartment and mixed-use projects worth more than $5 billion. In 2011, Equilibrium shifted to a proprietary fund model, developing its own strategies and teams.

Institutional Grade

In pitching investors, Equilibrium doesn’t generally lead with its sustainability thesis. Many institutional investors already are increasing their allocation to real assets, such as real estate, farmland and timber, as a hedge against inflation and market volatility and can combine immediate yields with long-term appreciation. To this appeal, Equilibrium adds practices that further boost returns and reduce risk. The fact that they are environmentally sustainable is an added plus. Just as in earlier decades “quality” in manufacturing went from being an added cost to a competitive advantage, “Sustainability is on this very same path,” Chen says.

There’s some big thinking behind Equilibrium’s offerings. Externalities — the economic term for costs and benefits that are attributable to a company but not directly valued on its books — are increasingly becoming internalized in business operations. Just as mortgage-backed securities and collateralized debt obligations let financial engineers offer investors different levels of risk, the quantification of social and environmental benefits — a still-rough but improving science — is starting to let financial engineers create different “tranches” of benefits, including social and environmental ones.

Chen sees an emerging shift in the understanding of “fiduciary duty,” away from a narrow focus on short-term financial gain to consideration of a long-term values and comprehensive risk factors. For long-term holders, such as public pension funds, he says, sustainability drivers are becoming “material macro-trends that must be considered in their duty of care and loyalty.”

Indeed, several of the firm’s investment strategies already have attracted public pension funds, university endowments and other major institutional investors, as well as high-net-worth individual investors. The institutional focus makes Chen something of a pioneer of impact investing’s next stage: large-scale, repeatable investment strategies that can attract eight- or even nine-figure checks in the mainstream capital market.

Chen considers this a “break out” strategy for impact investing. ”We’ve charted and executed a very different impact approach,” he says. “Real assets. Solid fundamentals. Scale economics. Institutional investors. That’s our contribution to the impact conversation.”

Disclosure

One of a series of impact profiles produced in conjunction with the Case Foundation’s publication, “A Short Guide to Impact Investing.”

Equilibrium Capital is a sponsor of ImpactAlpha.

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