Elon Musk wants to take Tesla private at $420 per share, an amount that would value the company somewhere in the neighborhood of Ford and FiatChrysler combined.  His plan would also enable current public shareholders to retain their shares in an unspecified vehicle or fund that would limit sales to every six months.  Such a deal would force investors to make a choice:  accept an immediate cash premium over their investment or make a substantial bet on the vision of its founder.

The markets and some analysts have cast doubt on whether this plan, which would be the largest leveraged buyout in history, will even take place.  Even so, the announcement raises important governance questions that will be particularly salient for investor decisions about whether to accept the buyout, but also matter if the company remains public.

Question 1: What rights would remaining public shareholders have in the newly private company?

 The stated purpose of the transaction would be to insulate the company from the “wild swings” and “perverse incentives” of the public markets, yet the plan also envisions retaining current investors. This raises concerns that the company values external investment capital but not the accountability that comes with accepting public funding.  Investors should closely scrutinize how their voting rights would change under the new structure, especially since the six-month lockup would prevent orderly exits in the case of a major negative event.

Question 2: How will the company assure investors that the board will hold the CEO accountable for strategy, execution and performance?

Analysts and investors have questioned the independence of the Tesla board, which includes close business associates and the brother of Elon Musk.  These concerns increased with the 2016 acquisition of Solar City, a troubled company in which Musk held a major stake.  Though the transaction raised numerous potential conflict of interest concerns, the board appeared to do little to exercise oversight of the deal, failing even to convene an independent committee to study the purchase.

More recently, there is little indication of any board concern over Musk’s erratic public behavior, one example of which was an uninvited intervention into the rescue of a Thai soccer team from a flooded cave, and crude remarks about one of the rescuers.  Musk eventually apologized, but investors concerned about “key man risk” should expect the board to demonstrate the same concern.

This is especially true in the context of the method the company selected to disclose this information about plans for a possible buyout (tweet and email).  Was the disclosure approved by the board?  Was it reviewed by counsel? Who did Musk consult before choosing to communicate material information through social media?

With an exit from the public markets, the board may become the sole entity that can exercise oversight over management. Shareholders should expect that the board can demonstrate by its actions that it has the qualifications and the independence to ensure management accountability.

Question 3: Why will a private Tesla be more empowered to execute a long-term strategy than a public Tesla?

Companies adopting governance policy changes that reduce shareholder accountability commonly cite the need to empower management to think for the long term by insulating the company from short-term market pressures.  Most companies also understandably resent short sellers with an incentive to “attack” the company.

While there is often merit to these concerns, shareholders should carefully consider whether they apply in the case of Tesla. Although the company has never made a profit, investors have entrusted the company with a rich valuation even relative to future estimates for profitability.

Investors raise concerns not so much about the company’s strategy but about its failure to deliver on its current production targets for the Model 3.  The core investment issues about Tesla are not long-term vision but the short-term mundane details of manufacturing and supply chain management.

The discipline of the public markets is particularly well-suited to driving management to resolve precisely these kinds of concerns. In particular, institutional investors will insist that the board be able to explain why it thinks it has the ideal management team in place given the company’s current circumstances and how it will ensure that this continues to be true.

If the company believes that its long-term vision is being hampered by investor pressure, shareholders should ask it to articulate how that vision would be better served without shareholder accountability, and what assurances Tesla can provide shareholders that it will manage concerns about production.

Question 4: How will the company address concerns about social responsibility?

Tesla was founded as a mission-related company.  Its goal of mass electrification and automation of transportation has implications for climate change, mobility, urban planning and many other social and environmental issues.  Tesla’s sustainability narrative is a major part of its outsized appeal to investors, employees and customers.  However, the company has also been criticized for certain aspects of its corporate social responsibility.

The company has attracted scrutiny of its safety practices, but has provided far less assurance about its safety practices relative to others in the auto industry. These concerns heighten regulatory risk and reinforce concerns about the quality of its manufacturing capabilities.

Moreover, the manufacture of batteries raises numerous sustainability concerns, including the use of conflict materials, the local environmental impact of battery manufacture, and the working conditions for production and supply chain workers, especially in developing countries.

Tesla investors are engaging with the company on these issues, which have the potential to undermine both the company’s brand and investor confidence in its operational management.  Investors should consider how the absence of these outside voices may impact the company’s commitment to improvement in these areas.

Question 5: What risks or benefits should shareholders consider when locking up capital for six months?

The six-month lock-up envisioned in Musk’s plan lies between the liquidity and orderly price discovery of the public markets and the stability of the private markets, where companies can be assured of their investor base.  A six-month lockup would not allow the investor to respond in a timely fashion to material market events, while potentially exposing the company to widespread periodic selloffs if the company’s circumstances change materially.

Because the proposed structure is highly unusual, shareholders should examine the company’s disclosure about its evaluation of the risks and opportunities related to their approach.  Investors need to assess whether the loss of liquidity and the other risks that investors may encounter are adequately compensated by the $420 share offer.   Shareholders will be interested in which of these issues were considered by the company in setting the deal’s price.

The “skilling up” of the retail workforce has the potential to enable retail workers to improve their productivity and career prospects, while enabling retail companies to build their future workforces. Purposeful investors can identify these companies and take a long-term investor view to encourage these companies to train and deploy this workforce.

The widely reported decline of physical retail stores is alarming for a variety of reasons, but retail stores are likely to live on in one form or another for the foreseeable future (as evidenced by Amazon’s recent moves into the “bricks and mortar” space). The question for retail workers is “Which retailer should I work for?”

Our recent report Retail Automation: Stranded Workers? Opportunities and risks for labor and automation provides some insight into this question for people who are looking to join or currently work in the retail sector. The report highlighted structural changes under way in retail that have the potential to impact the size and wages of the retail labor force. More than six million of the 16 million retail workers in the US, especially women and  those located in smaller regional hubs and rural areas are at risk of losing their jobs to automation just in light of technology that is currently available.

Our research revealed two key automation-related trends likely to affect labor.

First is the “hollowing out” of middle-skilled workers who perform routine tasks, like cashiers and back office associates. These workers will either retrain for higher-skilled jobs or, without training, be pushed down into basic “innate ability” jobs (such as store greeters), with minimal career growth opportunities.

Second is the potential movement of retail stores to more clearly bifurcated strategies:

Companies that adopt an experience strategy are likely to invest in their workers and use technology to enhance the effectiveness of their workforce. In contrast, we see convenience strategies as reducing the absolute number of workers to save costs. Our report offers a framework for assessing a company’s movement towards a convenience or experience strategy—or its lack of clear direction.

What’s a retail worker to do?

Based on these two trends, retail workers looking to navigate the structural changes under way should favor companies that provide tuition reimbursement and/or technical and programming training. Workers who acquire the skills to advance beyond their current roles will be better positioned to benefit, or at least avoid harm, from these secular changes.

Examples of companies that provide such programs are shown in Figure 1.

Figure 1: Publicly disclosed tuition reimbursement and incentivized training programsSource:  Company reports, Cornerstone Capital Group

Amazon, Lowe’s, Gap, and Wal-Mart offer public disclosure around tuition reimbursement that suggests they are positioning their labor force for retail jobs of the future. Best Buy intends to increase its investment in employee development, while automotive retailers Advance Auto Parts and O’Reilly Automotive signal support of their labor force advancing within the automotive field.

Most retail companies are also actively hiring a range of programming, user experience, and merchandising workers. Retailers are competing with Silicon Valley for workers that are in high demand and have seen their wages grow significantly over the last decade, as shown in Figure 2. (Note: our original report did not explore this trend.)

Figure 2: Software developer hourly wage growth vs. total private hourly wage growth 

Source: BLS, Cornerstone Capital Group

Retailers already employ a large workforce that, with training, could provide these higher-skilled services. In addition, these workers have corporate knowledge that could allow them to be more useful to the organization than a Silicon Valley software developer.

The “skilling up” of the retail workforce has the potential to enable retail workers to improve their productivity and career prospects, while enabling retail companies to build their future workforces. We believe purposeful investors can identify these companies and take a long-term investor view to encourage these companies to train and deploy this workforce.

Sebastian Vanderzeil is a Director and Global Thematics Analyst at Cornerstone Capital Group.

 

Executive summary (download full report here)

The retail landscape is experiencing unprecedented change in the face of disruptive forces, one of the most recent and powerful being the rapid rise of automation in the sector. The World Economic Forum predicts that 30-50% of retail jobs are at risk once known automation technologies are fully incorporated. This would result in the loss of about 6 million retail jobs and represents a greater percentage reduction than the manufacturing industry experienced. Using Osborne and Frey study1 with the Bureau of Labor Statistics, the analysis suggests that more than 7.5 million jobs are at high risk of computerization. A large proportion of the human capital represented by the retail workforce is therefore at risk of becoming “stranded workers.”

As of 2002, retail employment exceeded total manufacturing employment, and now sits at about 16 million workers (Figure 1). Total manufacturing employment, which peaked in 1979 at approximately 19 million workers, has fallen to 12 million workers. The repercussions of manufacturing’s decline, which was driven by automation and globalization, have been felt at the local and national levels. For example, certain areas of the US that were once manufacturing hubs have experienced rising poverty, declining populations, and erosion of political trust.

Figure 1: Employment in manufacturing and retail trade 

Source: US FRED, Cornerstone Capital Group

The impact of significant reductions in retail workers may mirror the impact of manufacturing job losses. Retail sales at brick-and-mortar stores, as well as margins on those sales, are increasingly constrained as consumers shift to online shopping. At the same time, many parts of the country are experiencing upward structural wage pressure as concerns about income inequality are gaining political traction. Major retailers, including Macy’s, J.C. Penney, Kohl’s and Wal-Mart, have collectively closed hundreds of stores over the last few years in attempts to stem losses from unprofitable stores. These headwinds are pushing retailers to rethink the traditional retail business model.

Technology has the potential to automate part of the sales process and render a range of jobs redundant

Retailers are investing in technology to build out their omnichannel platforms. In some cases, technology is complementing labor by providing a better customer experience. Indeed, this report argues that companies which use technology to support their workers are likely to benefit from long-term productivity gains. However, technology also has the potential to automate part of the sales process and render a range of jobs redundant. Taken together, store closures and automation technology have the potential to accelerate job losses in retail, an industry that employs approximately 10% of the total US labor force[1].

An in-depth examination of retail automation was undertaken to enable investors to consider investment risks and opportunities by exploring how retail is addressing profit pressure and how employees are considered in the context of a broader shift in strategy. This report:

Key questions

Which factors are driving automation in retail?

Given that automation has been a central driving force for economic development for decades, it is important to understand why its application in the retail sector threatens to radically and rapidly reshape the retail labor force. The research identifies two key factors driving the automation conversation.

First, e-commerce has grown significantly over the last five years and now accounts for more than 8% of total US retail sales. Amazon has been a dominant force in e-commerce for years, and the company accounted for 43% of all online sales in 2016. While the consumer benefits from lower prices and greater price transparency, Amazon’s success is pressuring retailer profit margins as they fight to maintain market share and keep prices low to remain competitive.

Retail workers are disproportionately represented among recipients of public assistance

Second, a growing focus on income inequality and regulatory-driven minimum wage changes are a source of increasing wage pressure. Retail employs about 10% of the US labor force, and research finds that retail workers are disproportionately represented among recipients of public assistance.[3] Retailers have been increasing wages recently due to a tighter labor market, but retail faces a structural issue of increasing pressure for minimum wage hikes at the local and state level.

Taken together, retailers are facing structural price and cost issues that impact profitability and create meaningful long-term uncertainty. These headwinds will likely increase the industry’s propensity to automate, which would have significant impacts on existing labor. Companies are likely to respond through two consumer strategies:

While companies may pursue a mix of these two strategies, understanding which is the primary strategy will enable investors to understand how technology and labor are likely to be used, and how the overall labor profile of the company might change.

How is automation being adopted in retail?

The technology initiatives of 30 retail companies were assessed, and ten in-store technologies that will impact the retail industry were identified. The assessment provides an indication of the extent to which each technology is being deployed. These initiatives are focused on improving customer satisfaction, operational efficiency, or a combination thereof.

Research indicates companies are adopting mobile devices, self-checkout, digital kiosks, proximity beacons, and workforce and task management solutions

The review of company reports indicates that retail companies are implementing technologies such as mobile devices, self-checkout, digital kiosks, proximity beacons, and workforce and task management solutions.

What are the broader stakeholder implications?

An assessment of the gender composition of retail workers shows that the largest group, retail salespeople, has equal numbers of men and women. However, cashiers, the next largest group of retail workers, are predominantly women (73%). Cashiers are considered one of the most easily automatable jobs in the economy. Based on this analysis, large-scale automation of retail labor could disproportionately affect women, as noted previously in Cornerstone Capital Group’s September 2016 report, Women in an Automated World.

From a geographical standpoint, it appears that several major retail companies have store footprints that are concentrated in less densely populated metropolitan areas. For example, a UCLA study shows that Wal-Mart possesses an average market share of 25% in metropolitan areas with populations of fewer than 500,000 residents. This market share, if indicative of employment share (even if not directly proportionate), suggests significant potential impacts for local communities should Wal-Mart pursue an aggressive labor automation strategy.

How are companies managing labor issues associated with automation?

The retail sector provides little disclosure on labor issues. None of the 30 companies reviewed in this report provides key labor data such as employee turnover, labor costs as a percentage of SG&A, or employee satisfaction. Therefore, a series of proxy metrics were developed to evaluate the universe of companies:

No companies provide key labor data such as employee turnover, labor costs as a percentage of SG&A, or employee satisfaction

Based on the assessment, key takeaways include:

The analysis indicates that automation is set to alter the retail industry’s labor profile. If companies migrate towards a high-touch, experience-based strategy, then it is possible workers will receive improved training and higher wages, and there will be fewer layoffs. If companies adopt a heavily convenience-oriented strategy, more tasks will be automated and less labor required. To date, companies’ discussions around implementing technology suggest that technology is aimed at complementing labor. However, should structural price and cost issues persist, technology may be viewed as a potential substitute for labor.

A mix of experience and convenience strategies could still result in material lay-offs in the retail sector

The most likely outcome is a mix of experience and convenience strategies, though this could still result in material layoffs in the retail sector. Because retail represents approximately 10% of the total US labor force, any systematic deployment of automation is likely to reduce the number of retail jobs by a figure in the millions.

Download full report here.

[1] Calculated from retail trade employment, given by the Bureau of Labor Statistics Current Employment Statistics Survey

[2] Business Relationship Analytics for Value Enhancement.

[3] EPI analysis of Current Population Survey Annual Social and Economic Supplement microdata, pooled years 2012-2014

__________

Michael Shavel is a Global Thematic Research Analyst at Cornerstone Capital Group. Prior to joining the firm, Michael was a Research Analyst on the Global Growth and Thematic team at Alliance Bernstein. He holds a B.S. in Finance from Rutgers University and is a CFA Charterholder.

Sebastian Vanderzeil is a Global Thematic Research Analyst with Cornerstone Capital Group. He holds an MBA from New York University’s Stern School of Business. Previously, Sebastian was an economic consultant with global technical services group AECOM, where he advised on the development and finance of major infrastructure across Asia and Australia. Sebastian also worked with the Queensland State Government on water and climate issues prior to establishing Australia’s first government-owned carbon broker, Ecofund Queensland.

Emma Currier is a Research Associate at Cornerstone Capital Group. Emma graduated with a Bachelors of Arts degree in Economics from Brown University in May 2016. While at school, she worked with the Socially Responsible Investing Fund and as a teaching assistant for the Public Health and Economics departments. She spent her sophomore summer researching differences between American and Indian educational styles in Arunachal Pradesh, India, and completed a summer investment bank analyst position with Citi in the Media & Telecom group in 2015.

 

On October 20, the Detroit Health Department announced an investigation into two cases of Hepatitis A potentially linked to Whole Foods’ stores. Whole Foods contacted the Detroit Health Department to report one of the cases, while the second case has not been definitively linked to Whole Foods. While we view the reporting of this incident to health officials as positive, we have concerns about the grocery chain’s food safety preparedness given its exposure to prepared/ready-to-eat food and its lack of food safety disclosure.

Ready-to-eat food accounts for the highest percentage of recalls in the US and Prepared Foods/Bakery accounted for 19% of Whole Foods sales in 2015. Prepared foods is a growing area for grocery stores, with consumers citing time and affordability as reasons for this choice. In June 2016, Whole Foods received a warning letter from the Food and Drug Administration citing ‘serious violations’ of federal regulations during an inspection of the company’s food preparation facility in Massachusetts. Whole Foods stated that it would respond to issues raised in the letter, but we have not observed an increase in disclosure.

Our review of previous food safety incidents revealed that grocery store sales suffer less than restaurants; however, growth in prepared foods may lead to an increased impact. In 2008, Kroger experienced a multistate outbreak of E.coli linked to ground beef but did not experience a material sales impact. Restaurant chains such as Jack in the Box, Yum Brands and Chipotle experienced multi-quarter same-store sales impact as a result of a food safety incidents. We identified a key factor being the amount of time between purchase and consumption—adulterated or unsafe food is more likely to be consumed at restaurants. However, Whole Foods’ prepared foods are consumed quickly, thus creating a possible restaurant-level food safety risk.

In our July 2016 report Food Safety: In a State of Transformation, we developed a food safety disclosure assessment tool comprising 11 elements. Elements included internal food safety systems and independent auditors/standards, board expertise and product traceability. We view disclosure as a proxy for food safety performance as it suggests the company is actively considering the relevant issues and is able to publicly discuss its approach.

Whole Foods currently provides limited disclosure related to food safety, even after the FDA warning. We could not locate disclosure on an internal safety system or external auditors for its operations including its prepared food facilities. Whole Foods requires mandated food safety plans for high-risk items (e.g. eggs and baby food) but suppliers are not required to comply with a food safety standard accredited under the Global Food Safety Initiative. There is no food safety expertise present on the board or published Key Performance Indicators related to food safety.

Whole Foods recognizes in its 10K that it is held to higher standard on food safety due to its reputation but, given lack of disclosure, we question whether Whole Foods is appropriately considering this risk should further incidents arise. Increased disclosure would provide investors with greater confidence that the appropriate processes are in place. Disclosure would also provide investors with confidence that issues will be managed quickly and efficiently to avoid significant impact to the business.

Click here to download this report.

Sebastian Vanderzeil is a Global Thematic Research Analyst with Cornerstone Capital Group. He holds an MBA from New York University’s Stern School of Business. Previously, Sebastian was an economic consultant with global technical services group AECOM, where he advised on the development and finance of major infrastructure across Asia and Australia. Sebastian also worked with the Queensland State Government on water and climate issues prior to establishing Australia’s first government-owned carbon broker, Ecofund Queensland.

Michael Shavel is a Global Thematic Analyst at Cornerstone Capital Group. Prior to joining the firm, Michael was a Research Analyst on the Global Growth and Thematic team at Alliance Bernstein. He holds a B.S. in Finance from Rutgers University and is a CFA Charterholder.

A number of highly publicized food scares have swept through the global food chain in recent years. Headlines include the outbreaks of E. coli and norovirus at Chipotle, Salmonella linked to Foster Farms poultry, melamine adulterated infant formula in China, and Salmonella-contaminated peanut butter leading to the imprisonment of the former CEO of Peanut Corporation of America. These events highlight vulnerabilities in the food safety chain that present opportunities and risks for investors.

To this end, the food industry is undergoing a transformation as it addresses food safety risks in an increasingly global, complex supply chain. Food safety encompasses the practices and conditions promoted across a food supply chain with the intention of ensuring food quality and preventing contamination and foodborne illness.

In this report, “Food Safety: In a State of Transformation,” we examine major food safety events that have affected publicly traded US companies over the last 25 years. We identify the behavioral/demographic, regulatory, and technological factors acting as catalysts for the food industry’s transition towards increasingly proactive and innovative food safety strategies. To assess the opportunities and risks associated with this transition, we evaluate the food safety practices of nearly 60 companies throughout the food supply chain. Data is aggregated at each level of the supply chain and key findings are discussed.

Converging forces impacting food safety

Converging forces impacting food safety.jpg

Source: Cornerstone Capital Group

We highlight three areas of food safety innovation for investors wishing to gain exposure to the food safety theme: 1) Food testing and analysis; 2) supply chain technology; and 3) automation and robotics. We present a list of 30+ companies that offer food safety solutions and rate their level of exposure. We also offer industry-level observations that may lead to additional avenues of inquiry.

Cornerstone Capital Group is pleased to have had the opportunity to produce this report on behalf of the Investor Responsibility Research Center (IRRC) Institute.  For more information please visit  irrcinstitute.org.

To download the full report, please click here.

 

Michael Shavel is a Global Thematic Analyst at Cornerstone Capital Group. Prior to joining the firm, Michael was a Research Analyst on the Global Growth and Thematic team at Alliance Bernstein. He holds a B.S. in Finance from Rutgers University and is a CFA Charterholder.

Sebastian Vanderzeil is a Research Analyst with Cornerstone Capital Group. He holds an MBA from New York University’s Stern School of Business. Previously, Sebastian was an economic consultant with global technical services group AECOM, where he advised on the development and finance of major infrastructure across Asia and Australia. Sebastian also worked with the Queensland State Government on water and climate issues prior to establishing Australia’s first government-owned carbon broker, Ecofund Queensland.

Andy Zheng is a Research Associate at Cornerstone Capital Group. Andy graduated from Bowdoin College with an interdisciplinary major in Mathematics and Economics and a minor in Visual Arts. He spent his junior year studying abroad at the University of Oxford and the summer prior to that at the Sorbonne in Paris.

 

 

At Levi Strauss & Co., our business depends on water. From cotton to manufacturing to consumer care, this precious resource plays a vital role over the lifetime of our products. We’ve studied this issue in great depth, including two comprehensive life cycle assessments. We know exactly how much water a pair of Levi’s® 501® jeans traditionally uses over its lifetime — and where.

That knowledge helped us make a lot of changes in our business to reduce our own water impact. And it’s helped us educate consumers about the impact of their laundering habits. But for us, that’s not enough. As a leading apparel company we have a responsibility to be a catalyst for change — because time and again we’ve found that where we lead, others follow.

That’s why we took a cue from our neighbors in the tech industry and opened up our innovative Water<Less finishing techniques for anyone to use. The Water<Lessprocess can save up to 96% of the water used in the denim finishing process. Since 2011, we have used the process to save more than 1 billion liters of water in our own manufacturing, and we’ve set a goal to use Water<Lesstechniques for 80% of our products by 2020.

Water scarcity is too important for us to keep these techniques to ourselves. Just as tech companies open their APIs in order to accelerate change, LS&Co. is welcoming our industry partners to build on what we have done to accelerate water conservation. We believe our Water<Less innovations could save the apparel industry at least 50 billion liters of water by 2020 — enough to supply every family in New Orleans for a year.

This isn’t the first time we’ve joined with others to address water issues. In 2009, we were one of the founding members of the Better Cotton Initiative (BCI), aimed at fundamentally changing how cotton is grown. Seventy percent of the water used by a pair of jeans is from cotton agriculture. BCI farmers use up to 18% less water than non-BCI farmers in comparable locations.

We’ve also saved 30 million liters of fresh water through the industry’s first Water Recycling and Reuse Standard, which we piloted with one of our vendors in China; we’re sharing that standard across our industry as well.

We are committed to doing even more in the future. We’ve committed by 2020 to train 100% of LS&Co.’s corporate employees in a water education program we developed in partnership with the Project WET Foundation. The goal is to increase employee awareness of the social and environmental impacts of apparel, and to train our employees to become water conservation ambassadors so they can share what they have learned in their communities.

Lastly, we’re working hard to educate consumers about reducing their impact through care labels, awareness campaigns including the “Are You Ready to Come Clean” consumer quiz and “Don’t Be a Drip” water education program as well as through
e-commerce sales channels.

This sounds like a lot of work, and it is. But it’s absolutely vital to our business, our employees, and workers in our supply chain, their communities – and our entire planet. We want to use our leadership position in the apparel industry to spur even more innovative ways we can all work together to preserve this scarce, vital resource.

Michael Kobori is Vice-President, Sustainability at Levi Strauss & Co. He leads the development of LS&Co.’s environmental vision and strategy, including its efforts to collaborate with other brands on sustainability and to extend its standards throughout the supply chain.