Case study by Inherent Group
Inherent Group is an investment manager with US$757 million* in assets under management. It targets public and private investments across North America and Europe.
*As of 1 June 2020
Why use the SDGs?
Inherent Group seeks equity investments that can compound in value over three to five years. To achieve this goal, we have found that deep thematic research built on the UN’s Sustainable Development Goals (SDGs) is a repeatable, fruitful source of differentiated ideas. Understanding key societal priorities as they apply to markets and industries helps us identify relevant trends and secular changes, which can lead to non-consensus investment opportunities.
Embedding ESG considerations into the investment process
Our investment team embeds qualitative and quantitative environmental, social, and governance (ESG) considerations across all stages of its research-driven, fundamental investment process. The same analyst performs both the traditional and ESG-specific investment work as mutually reinforcing activities (see Figure 1).
Figure 1: Mutually reinforcing fundamental and ESG workflow
Theme-driven sourcing is one channel through which we identify investment ideas for further research, including at an annual off-site meeting devoted to SDG themes. Through a series of focused presentations and discussion, we stress-test ideas surfaced by the analysts.
Each investment team member:
- identifies broad trends or pressing issues relevant to the SDGs in the industries they cover;
- isolates one or several of the highest priority areas for further research;
- consults and synthesises industry and academic research, government and NGO reports, data, and conversations with subject matter experts to develop high-conviction themes; and
- develops a list of potential actionable investment ideas, long and short, mapping SDG-aligned thematic drivers and ESG analysis to financial value drivers (see Figure 2).
We use the highest-conviction themes as ongoing filters and pattern recognition aids for new opportunities that may emerge. More details can be found in our ESG policy.
Figure 2: Determining how and when ESG factors may affect financial value
Example: Combining thematic and fundamental research to identify a long investment opportunity
In preparation for our 2018 offsite meeting, our healthcare analyst focused on an issue related to SDG 3: Good Health & Well Being. The analyst endeavoured to better understand the paradox at the centre of US healthcare – US health outcomes lag those of other OECD countries while spending is significantly higher per capita than in its peer countries. This combination reduces the quality of life while creating challenges in access and affordability at the individual and national levels (see Figure 3).
Figure 3: The US overspends for poor outcomes relative to other countries
|Life expectancy and health expenditure
|Avoidable mortality (preventable and treatable) and health expenditure
In researching US healthcare costs, we noted that 84% of healthcare spending is focused on the 46% of the population with one or more chronic conditions, with 5% of the population accounting for roughly 50% of all spending (see Figure 4).
Figure 4: Annual US healthcare spending is highly concentrated
Further analysis of US healthcare spending data revealed that spending on diabetes and its complications is the highest of any condition, with hypertension also in the top five.
Consequently, we developed chronic disease management as a high-priority theme:
- Chronic disease management relies on consistent monitoring, lifestyle adjustments and medication adherence. Yet the US healthcare system is not focused on preventive care: provider infrastructure, payment arrangements and embedded incentives instead drive a focus on medical emergencies, such as heart attacks, and reward providers for high-margin procedures, such as elective surgeries, diagnostics and imaging.
- There is a pressing need for better preventive care, given the increasing burden of chronic disease on the US population and the fact that poorly managed chronic diseases further increase healthcare costs. More solutions are needed that can manage chronic disease effectively within the confines of the existing system.
Through this thematic research, we recognised the opportunity available to a digital healthcare company we had identified, Livongo – at the time not yet traded publicly – that helps individuals to better manage their chronic conditions, including diabetes.
In late 2019, Livongo’s share price declined over 60% from a post-IPO high. We recognised a potential opportunity from what we believed to be a misunderstanding of the business, compounded by the negative market sentiment towards IPOs between September and December that year and a poorly choreographed first earnings call.
Based on conversations with sell-side analysts and other investors, it seemed that healthcare and software investors alike had abandoned the stock. Veteran healthcare investors were sceptical of the product’s value, while software investors that may have been attracted to the business model could not get comfortable with the idiosyncrasies of the healthcare industry.
We took a contrarian view, based on our SDG-aligned thematic work and detailed analysis of the company’s operating and financial fundamentals. We gained confidence in its large potential market and attractive value proposition from our healthcare sector knowledge and strong conviction in the need for a solution like the one offered by the company.
Conversations with customers and other industry participants further reinforced our view. Drawing on our understanding of software economics and the subscription business model from previous investments, we conducted a detailed analysis of the company’s unit economics and long-term profitability potential as it started scaling up its operations.
In subsequent quarters, the company has continued to perform above consensus expectations. It has benefitted from accelerated adoption due to the COVID-19 pandemic, as those with chronic conditions are at greater risk of contracting the disease.
Disclaimer: The case study referenced above is designed solely to illustrate the way Inherent Group may consider ESG Factors in evaluating potential investment opportunities. It is not an offer of, or solicitation to invest in, any investment product or fund managed by Inherent Group, not is it investment advice. The case study does not represent all the companies and issuers identified, followed and/or invested in or considered for investment by Inherent Group. Readers should not view the referenced company’s performance as being indicative or representative of the performance of investment vehicles and/or accounts managed or advised by Inherent Group.