Tuesday, April 17, 2007

Social cost

Global warming is in the air as are a lot of other social issues. The question that I have is, Are social costs reflected in earnings multiples of stock and their valuations?

A recent BBC show on Climate change blamed India's coal fired power plants as one of the reasons for increase in green house gas emissions - one of the prime cause for global warming. Interestingly, if you glance through the 11th Five year Plan of Govt. of India, around 65% of incremental power plants will be using coal to generate power. Yes, the obvious reason being India has a zillion (or thereabouts) tonnes of coal reserves (we are a part of the Gondwanaland mass that formed Australia, Africa and we still haven't discovered our potential mineral wealth).

Using coal to fire power plants has social implications and hence leads me to think that this social cost should be reflected in the earnings multiples. Tata Power and NTPC (to name a few) have bulk of their power plants running in coal, however the PE multiples are very similar to companies producing power using renewable sources of energy. Tata Power quotes in excess of 20x F08 earnings , NTPC around 19x F08 earnings. In India Suzlon - which uses wind as a source of power generation is quoting at 20x F08 earnings (Source: Bloomberg Consensus Estimates, Price as of 16th April 2007) - i.e a multiple similar to that of Tata Power and NTPC -Is this justified? .

Forging industry is another glaring example. Worldwide forging industries are being shut down and bulk of such businesses are moving to India. Bharat Forge is a darling of most fund managers - again quoting at 20x F08 earnings. The industry is known for excess noise pollution which is harmful for employees and hence they are all being shifted to "emerging" markets where environmental concerns are lax.

There are many such companies which have social cost attached

A lot of Fund houses do not invest in Tobacco stocks (due to the harmful effects of Tobacco) - again this does not mean Tobacco stocks trade at a discount to FMCG peers for example.
Maybe the stock markets in India are still at a nascent stage to embrace this concept.

Are such concerns reflected in valuations of stocks elsewhere?


Neelakantan said...

Should these costs be reflected, if so by how much?

By that logic every industry in the world has a balance of good or bad. We look at tobacco being harmful, but then so is sugar. Solar cells are in, but as of today the inputs costs are greater than the benefit that you get out of them. Mines are bad, as are paper firms. Where do we stop?

So, ultimately, will we go back to the misplaced fallacy that "all big industries are bad".

Ramesh said...

Well other way around then why not give premium multiples to those cleaner companies atleast those which are obviously using cleaner fuels....