Ecolab：清洁机器 - [商业拆解，第214期]

This is Matt Russell, and today we are breaking down Ecolab. As of this recording, Ecolab has a $66 billion market cap, so they are a giant in what they do. They protect over 36% of the world's packaged food supply and over 44% of the global milk supply, just to give you some sense of their business. My guest is Todd Wenning, founder of K&A Capital Management and someone who has a knack for finding these interesting businesses.

We get into the very on-brand origin story for Ecolab many decades ago, how the business kept that core focus throughout its history, and how it became one of 2 vendors that any U.S. McDonald's must work with, the other being Coca-Cola. There's a ton of interesting threads in this one, but the opportunity in water is what really grabbed my attention. It's one of these theses you've heard for many years, and I had never come across a business with the exposure that Ecolab has. So, an interesting one to do more research on.

Todd, I'm excited to have you here to break down Ecolab. You have a knack for finding very interesting businesses that operate in unique corners of the world and the economy. Ecolab definitely fits that bill. To kick us off, could you introduce Ecolab—who they are and what they do—and then we can take the conversation from there?

1. Ecolab Starts With Savings

Thanks, Matt. The best place to start with Ecolab is how it was founded, because that is the cultural DNA that exists with the company today. In the early 1920s, a salesman named M. J. Osborn was traveling around and noticed that hotels were closing rooms for multiple days at a time because they had to be cleaned. They were using water, so the carpets would get wet, they couldn't turn the rooms, and the rooms were just being wasted.

Osborn figured out that, with some chemicals—he called it Absorbit, which is a great name—he could help the hotels turn the rooms faster by making the cleaning process shorter. That saved money for the hotels, and it made money for his business. He started growing this business. The name Ecolab comes from Economics Laboratory. You might think it's “eco” in terms of ecology, based on where it is today, and that would make a lot of sense, but it actually has its roots in Economics Laboratory: saving money and doing it in a scientific way. That is what Ecolab continues to do today. It has had many different phases, many acquisitions, and many divestitures, but when it comes down to it, that is still what Ecolab does today.

It's very interesting. I did not appreciate the naming origin. I love any type of initial sales process that revolves around, “Here's a way where what we sell can make you a lot of money,” and it's very obvious and upfront. Certainly the case here. Fast-forwarding to today, it seems like they have their hands in many different worlds beyond just hotel rooms. Is there a way to take a snapshot of where they operate today in terms of segments of the economy and what they do?

About 50% of their revenue comes from their industrial business, which they're renaming the water business. That came from the Nalco acquisition, which we'll talk about. About 35% comes from their legacy institutional business, which is their cleaning and hygiene solutions business for quick-service restaurants, hospitals, and so on and so forth. Then there’s about 7% in life sciences and healthcare, and a remaining 7% or so in the pest elimination business, which is actually a really great business.

It's a B-to-B business that they cross-sell to their existing customers, and it's a great, steady-margin business with 20% operating margins. We can talk about that, too. They've got a lot of things going on at Ecolab, but again, it all comes back to what M. J. Osborn wanted to do from the start.

Does it all revolve around chemicals, or is it broader in terms of cleaning? If there were ways to categorize the actual focus of the business, would you use either of those 2 categories?

2. Ecolab Circles The Customer

Chemicals are really at the foundation of Ecolab. That's going back to Osborn. That's what he started with: figuring out how to use chemicals to solve a customer's problem. Over the years, the company has added new chemical applications, so it made a really big acquisition in the 1990s called K Chemical, and they were the chemical-cleaning providers to quick-service restaurants. That was another really transformational acquisition for them.

There they got the McDonald's business. One interesting fact about the McDonald's business is that, in the U.S., McDonald's has 2 vendors that it has to work with. One is Coca-Cola, and the other is Ecolab. That's how powerful the Ecolab brand is in the quick-service restaurant space in the U.S. Now, McDonald's franchises outside of the U.S. have Ecolab on the preferred list, but they don't have to use Ecolab. It still tells you just how strong the Ecolab brand is.

It goes back to solving problems with chemicals. One of the major things that they've done over the past couple of years is go from liquid chemical sales to solid chemical sales. This all goes back to saving customers money, and it also speaks to their really big push into sustainability. If you're a McDonald's restaurant, it makes far less sense for you to have buckets of chemicals shipped to you and stored in closets: you've got high employee turnover, employees can mix chemicals the wrong way, they can cause problems, and it takes up a lot of space.

What Ecolab has done is sell the chemicals in solid form, so you just drop a concentrated dose into your spray can, and you can use it that way. They also have hardware installed in some cases where they bring the chemicals in a solid form to the restaurant, the restaurant provides the water, and they mix together to get the dosage that way. You're not shipping water on trucks to get to the restaurants, and you have the assured dose that you want. There are far fewer safety issues involved.

So that's going back to the solution Ecolab has always had. They've always had this idea of what's called “circle the customer,” and that's one of their core principles: get all the way around the customer. Try to figure out what their problems are. How can we solve them? Let's take it back to the R&D lab, figure out a solution, and distribute it to our whole customer base.

Just thinking about how that can impact so many different pieces of the business, weight and storage makes a lot of sense. In terms of the size of the market, is there any way to capture how big it is and how big Ecolab is in terms of fitting in? I think the McDonald's point makes it clear in terms of them being a leader, if not the leader. How would you go about framing it just from an industry perspective?

The opportunity is pretty big. Right now, they have about $16 billion in revenue, and they see an opportunity to cross-sell another $55 billion into their existing customer base. They see an additional $81 billion opportunity in the untapped market where they have no presence.

Wow.

One of the issues that I've always had with Ecolab, in terms of thinking about their TAM, is that they work really well with large multinational companies or regional or national companies, but their value proposition isn't quite as strong with small mom-and-pop restaurants. If you're running an independent restaurant here in town, Ecolab comes in with a 20% premium price, which is generally what they have, and it's like, “Hey, we can solve problems for you and save you money.”

But when you're trying to make ends meet as an independent restaurant, you're just trying to hit margins, and you're trying to figure out, “Okay, how can I do this as cheaply as possible to stay in compliance?” They don't sell that well to independent mom-and-pop places. Now, they might be able to sell you on their dishwashing, and that's how they get their foot in the door. What they do is lease dishwashers to the owner and then sell the chemical. That's how they get entry into a lot of these places, but it's really more challenging for them to make a good pitch to smaller mom-and-pop shops.

3. Ecolab Bets On Water

The Nalco acquisition is probably a good opportunity to step back and talk about it. In 2011, they made a really transformative acquisition. The backstory to Nalco was that it worked mostly with heavy industrial businesses—think water solutions, chemical plants, pulp and paper, and energy—and was trying to help them figure out their water usage. That asset had been passed around quite a bit.

They actually had a very similar origin story to Ecolab, and they grew up in Naperville, Illinois. They were founded around the same time. Later on, Ecolab would say, “These guys were our long-lost brothers, and we brought them back into the fold.” The backstory there is that they were passed around. They were once owned by Alcoa.

They were owned by Suez at one point, which is a current competitor. Suez got into financial trouble and sold Nalco to a private equity consortium, which took Nalco private in 2003 and saddled it with a ton of debt. By 2010, the company had a single-B credit rating and was really struggling.

At the same time, Ecolab was trying to figure out, “Where’s the puck heading next?” It was a really genius move in hindsight. At the time, I was a little concerned about why they did this because they had this really nice razor-and-blade business model with low volatility. I think the beta used to be 0.6 or something—a very steady, recession-resistant business—and they went out and made a large investment, about 30% or so of their market value, in Nalco.

What their vision was, according to Christophe Beck, who was then executive vice president at Ecolab, and Doug Baker, the CEO at the time, was that water is the future.

Is that water purification, essentially—cleaning the water that would otherwise come out of the taps with some type of mineral impurity?

That’s part of it. They don’t work in municipal water at all. These are mostly situations like mining, downstream oil and gas, paper and pulp. Think about paper and pulp. I used to cover the paper and pulp industry when I was at Morningstar, and you see these huge vats where they’re bringing in this pulp and processing it to be recycled. There are huge, huge amounts of water.

When you think about the amount of water being processed, both on the industrial side as well as in food and beverage processing, and increasingly in data centers and semiconductor creation, one new semiconductor fab uses the equivalent drinking needs of 17 million people. So it’s huge, huge amounts of water to produce semiconductors, and data centers require water for cooling. Forty percent to 50% of the water evaporates.

We only have a limited amount of fresh water, and not all of it meets the standards for every need. Depending on where you live in the world, the water chemistry could be different. The genius move there was noticing that there’s this huge tailwind behind water in the coming years, that the cost of fresh water has been rising, and Ecolab can use its R&D and expertise to improve that for everyone.

So reduce water needs, recycle water, and conserve water, making sure that we’re not wasting the fresh water that we have, because the tailwinds behind freshwater demand are only increasing with population growth, increased food needs, and so on and so forth. Ecolab has come up with a lot of solutions to address those issues.

In many ways, it’s obvious how that blends into what they were already doing in terms of chemical usage that might speed up that process and make it more efficient. On the other hand, it seems like the customer base would be very different. So, from a synergistic standpoint, especially in hindsight now, given this was done close to 15 years ago, what was the outcome of that in terms of their ability to improve the R&D process and use some of their expertise there? More broadly, how did these 2 businesses end up fitting together?

4. Food Connects The Businesses

The entrée, so to say, for Ecolab was the food and beverage business. Nalco was working a lot with food and beverage processing plants. Think about breweries and food processing. They touch 36% of the world’s processed food, so they’re involved at some step in 36% of the world’s processed food. That’s a huge opportunity.

They had a lot of existing relationships in the food and beverage industry through their hygiene and sanitation business. Now they could go into an existing customer and cross-sell Nalco Water: “Hey, we can help you with treating your boiler to make sure it doesn’t have any foulants in it, that it doesn’t destroy your boiler, and that you’re not using more energy and more water to heat your solution.”

That was the real entrée into the business. Once they got into that, they could begin to use some of Ecolab’s expertise and apply it to the other industries. What Nalco really brought to the table was a product called 3D TRASAR, which is employed in industrial water processes. It reads what’s going on in the water system at all times and shoots that information back.

Then you can imagine Ecolab taking that information and saying, “Hey, we can come up with chemistry to help you figure out how to reduce the foulants in your system, improve your water quality, reduce water usage, reduce energy usage, and so on.”

Very interesting. It brings up a point on all sides of the business. Do you have a sense, when they’re working with a customer—whether it’s McDonald’s, a brewery, or a mining operation—of who the buyer of Ecolab’s various product segment offerings is? It’s not obvious that it would be the chief revenue officer or the CFO, but do you have a sense of who is in charge of what Ecolab does for its various businesses?

It varies by the business, for sure, but it really comes down to the person who’s responsible for the expenses and the long-term project revenue, or the return on investment for the project, because that’s what this is.

Ecolab has a new formula that’s based on the ROI it provides to the customer. That’s one thing it’s moving toward: more of a value-based pricing model, where it can now go to the customer and say, “Look, we’ve saved you this much money. We’ve saved you this much on energy. We’ve saved you this much on water. Here’s our pricing.”

Instead of just raising prices 1% or 2% a year as it has historically done, it can now go and say, “Here’s the value opportunity.” So the decision-maker varies between food and beverage and mining. It really comes down to the person in charge of making that investment in Ecolab, because that’s really what it is: an investment.

That makes sense. It’s a good opportunity to bring in a bit more on the revenue discussion. You tapped into it a little bit there, just in terms of the pricing mechanisms, but how does the company operate? Is it contracts, or is it just volume-based in terms of what they’re selling? There’s going to be some variance depending on what it actually is, but do you have any snapshot of what that looks like?

5. Contracts Build The Moat

It does vary, but it’s usually about 3- to 5-year contracts. If there’s a chemistry component to it, there’s an estimate of how much chemistry is being used, and then that gets deducted from the usage over time. That’s typically how Ecolab structures these.

From an economic moat perspective, even though they’re 3- to 5-year contracts, the switching costs are so high. In fact, with data centers, they’re installing a lot of this stuff when they’re building the system, or the data center and fabrication plants. It’s already being built into the system, and there’s zero appetite for downtime once things get going.

So they can really name their price. They try not to, right? They want to make sure they stay with the customer long term. But when you’re a global company, when you’re a multinational company—whether it’s food and beverage production, data centers, or fabrication plants—you want to work with a company like Ecolab because it has a global reach.

There are 48,000 employees, and 28,000 of them are sales and service people. They’re in 170 countries; they’re all over the world. If you work with Ecolab in the United States, you know you can work with them in other parts of the world. They just have their hands everywhere in the world in terms of their ability to address customer needs.

Yeah. I’m sure that extends both to international expansion and thinking through that, or even just new problems that arise and knowing you might be able to find a solution in terms of what Ecolab can offer.

On the sales process, one of the things you brought up was the dishwasher example with some restaurants, mom-and-pops, or even having some type of software that can monitor what’s happening inside a brewery. It sounds like there’s some connectivity to hardware in these places. Is it common for all of their customers to have some equipment that is obviously going to make the switching cost really challenging? Can you just talk to that strategy a little bit?

Yes, that’s increasingly been the case, and that’s another fortunate byproduct of having these solid chemicals instead of selling liquid chemicals into the food and beverage space and the restaurant space.

A lot of times they come in and install the hardware into the McDonald’s. If there’s a new restaurant, like a new Shake Shack being built, they’ll have it installed already. The idea of switching it is so hard.

In addition to the hardware, they also have these deep personal relationships with their Ecolab salespeople. The really good field service folks are the ones who build these relationships with people in their region. Once you’ve established that relationship, Betty or Joe—whoever your salesperson is—becomes part of your business and a big part of your process.

To switch out Ecolab means Joe and Betty aren’t coming by anymore. They’re friends of mine. So it’s a really strong sales culture. If I had to define their culture, some companies are engineering-focused—Nalco certainly was more engineering-focused—but Ecolab is very much a sales-oriented business.

In terms of the swings that you can see in revenue, you gave me some sense with the beta back in the post-financial-crisis period, which suggests that there was some strength in the operating performance through that period of time.

But how sensitive are they to general economic factors? Does usage end up resulting in major swings to the revenue base, or is there anything else that results in revenue volatility in periods of macro weakness?

6. Ecolab Compounds Through Cycles

We haven't seen a really strong recession with Nalco under Ecolab's wing. They brought on Nalco in 2011, after the recession from the financial crisis. COVID brought a big shock, obviously, to hospitality and food at restaurants, so there was a strong, about 25% organic volume decline during that period, I think, on a year-over-year basis. But that's to be expected, and it recovered very quickly.

I hope not to see another situation like that. Overall, the organic volume and pricing growth has been very steady, especially for the institutional business. When I look back at the Nalco business, there was a bit of a shock in 2009, but they had a big impairment that year, so it wasn't apples to apples. Their profitability didn't decline as much as I would've expected it to.

Even though the cyclicality of Ecolab has increased with the acquisition of Nalco, I do think they are recession-resistant. They made another acquisition 2 years later, in 2013, of a company called Champion. It did not work as well as they expected, and they eventually spun it off into the company that's currently called ChampionX.

They took some of the upstream business that Nalco had and combined it with this business and spun it back off. There was not an impairment related to that, even though I thought it was a bad decision at the time because that's when everyone was rushing into energy investments. With hindsight, they handled it about as well as they possibly could.

Yeah. Speaking of cycles.

Exactly.

You mentioned a little bit about the steady state on pricing, looking somewhere between 1% and 2%. Do they have a general model or framework for thinking about what organic growth can be year to year using that volume plus price?

They're targeting 5% to 7% revenue growth every year, or at least that's the long-term average they're looking for. I think they can take about 2% to 3% price every year. They used to take 1% to 2%, and I think coming out of COVID, in this recovery, they started to notice, with inflationary pressures, that they could take a little bit more.

Perhaps we were providing a little too much consumer surplus to our customers and recovering some of that. They're trying to get back to operating margins of 20% by 2027. They're well on their way. Most of that's going to come through gross margin, through pricing. A little bit will come through SG&A, but most of it's going to come through pricing.

And where is it today, out of curiosity, versus that 20% target?

They're not too far off now. They're approaching that number. I think the last time I checked, they were about 18% for their operating margin. They're getting much closer to that, and I'm expecting them to get there when they expect to, in 2027.

And is that a reasonable mature state, 20% operating margins? Is there much runway post that? How would you think about it on a steady-state basis?

I think that's probably a good steady state to start with. Some of that could change if we have a real push into the water business. If the water business does pick up the way I expect it to, you could see a little more operating leverage, but there's a lot of variable costs in this business, so it's not going to have a ton of operating leverage related to it.

And then, just thinking about how much of this is converting into free cash flow, can you talk a little bit about that in terms of earnings conversion? Any unique free cash flow dynamics with the business? None immediately come to mind, and then we can talk about capital allocation.

They target about 90% to 100% free cash flow conversion, so it's a very free-cash-flow-generative business. Dovetailing into capital allocation, they've raised their dividend for 33 consecutive years. It's a very strong cash flow business, and it hasn't been an issue. Even in recessionary periods, free cash flow has continued to be generated.

On the M&A front, there's obviously some history of large strategic acquisitions. Is that always a piece of the DNA? Are they always out there looking, even if it's not quite that size, for attractive bolt-ons or anything else along those lines?

M&A is certainly part of their DNA. From a share repurchase standpoint, their capital allocation is not really opportunistic. They're just buying back roughly what they're paying out in dividends every year, so it's about a 50-50 split.

M&A is always on their mind. They'll tuck in things once in a while. I do not expect them to do anything the size of Nalco. They have been very strong about saying that culture comes first. They don't see any available large companies with the culture that Nalco had, with which they thought they had a nice relationship.

I would expect them to do more bolt-ons than anything else. One of the things I like about them as well is that they are willing to take a divestiture. A lot of companies will try to make something that's not working work and hold on to it too long. Any investor knows how that feels—holding on to something, just hoping it comes back.

But they are quick and open to divesting projects that just aren't working, and I think that's a really good sign of good capital allocation.

I agree. It's one of the things that I often look for: If M&A is in your DNA, do you also look for opportunistic divestitures? I think that can show the market that you're thoughtful on both sides of the equation.

In terms of the competition, are there any players that match the same scale from an offering perspective as Ecolab? And then, I guess, to make it a two-parter here, who do you think of as the key competitors for Ecolab, even if that means looking at individual segments?

The legacy institutional business is the cleaning and hygiene business, and that's where most people are familiar with getting their hands sanitized and seeing an Ecolab sign. That's usually where you feel or sense that brand more than anything else. Again, most of their work is happening behind the scenes in that space.

Their major competitor there for a long time has been Diversey, which is now a unit of Solenis. Diversey has been passed around quite a bit, let's put it that way, over the past 25 years. I believe ownership has changed hands about 6 or 7 times, and they're a distant second. They're not anywhere close to Ecolab, especially in North America.

Diversey is stronger in Europe. They have some legacy contacts there, but they're not a really good competitor to Ecolab in that space. They're a distant second. So there's really no major competitor that I worry about on the institutional side.

On the industrial side, the competitors are companies like SUEZ and Veolia, which have a long history of working more with industrial and energy companies. I do think one advantage Ecolab does have there, again, is in innovation, R&D, and the ability to generate economies of scope from the R&D they're doing anyway and put it into that system.

I think that's their key advantage, and they're holding up just fine. I think Nalco had about a 20% market share when it was bought. It's higher than that today. I don't know exactly the number, but they're still a very strong competitor.

I think we touched on a bunch of the growth opportunities and the numbers they referenced in terms of potential runway and TAM that they would be going after. But are there key segments that stand out? You mentioned data centers, and that just feels like this massive program that's going to be going on.

The CapEx needs are huge. It's going to take a long time to roll out. There's going to be all this derivative spending that goes into it, with Ecolab being a piece of it. But are there certain pieces of the business that really stand out from a growth perspective and the impact that could also have in terms of moving the needle?

7. Water Defines The Upside

I think overall, it's just the water trend. That is the common thread through all of this now. About 70% of Ecolab's sales touch water in some way. Do you think of water as just this free commodity? It's becoming increasingly expensive, especially in places where there's a lot of water stress, like the American Southwest, for example.

And yet data centers are being built there, need to be cooled, and need to use a lot of water. Their focus is certainly on figuring out, “How do I maximize water?” Even a regular restaurant dishwasher can use tens of thousands of gallons of water—just one restaurant. So there's a ton of need for this.

In fact, I think Bill Gates believes in this too. Bill Gates, through Cascade Investment and the Bill & Melinda Gates Foundation, bought a huge position in Ecolab in 2012, not too long after the Nalco acquisition. I believe they share that vision, given Bill's focus on global water supply. They increased it in 2022 as well.

They currently own about 12% to 13% of the shares outstanding. Bill Gates is the number one beneficiary listed in the proxy statement.

Yeah. Gates, I know, is quite a popular figure in the water space. Michael Burry, from The Big Short, is also a big water guy, and I saw it firsthand in the oil and gas space.

It's easy to forget how much goes into that. On that point, and just the point of chemicals broadly, there's obviously exposure to the pricing of these commodities, the access, and everything that goes into that. How are they able to manage that? Is it simply passing those impacts through to the customer? Is there anything else that they do?

They have listed in their annual report that they source 10,000 types of raw materials. Just a huge, huge amount of raw materials.

A lot of SKUs.

A lot of SKUs, and the largest accounts for 4%, so it's very fragmented, very diversified. They've spoken on conference calls in the past that they can't really tie it to any particular type of chemistry or material to really say, "Hey, look out for phosphates, or whatever the price is on that. That'll dictate our margins." Everything is very spread out.

One of the things that you've seen, certainly since COVID, is an increase in commodity prices across the board. That's another reason why their margins have been struggling a little bit in the past couple of years: They have not been able to catch up and pass that on until the contracts are renewed and renegotiated. They've been able to push through this value-based pricing to show, "Hey, we're really delivering you a lot of value, and so we're going to raise your price 2% or 3% instead of 1% to 2%."

Historically, hearing that they could be in a period of time where they're exposed to commodity prices but unable to pass that on would make me way more nervous than it sounds like the ultimate impact has been. They've just been able to manage that effectively over the years, where their sourcing capabilities, broad exposure, and effectively priced contracts allow them to navigate that otherwise underlying risk?

Yes. It just may be a bit delayed as they renew contracts and renegotiate. That's where I would say short-term investors may get a little nervous and long-term investors can see opportunity.

Knowing that Ecolab has these switching costs and great business relationships, they're saving their customers so much money, and there's such strong demand for water that they're going to bounce back. It just takes a little bit of time. You just have to be patient.

If you look at the long-term history of Ecolab, I think in the 6 decades that they've been public, they've averaged an ROE of 20%. In the past couple of years, it's been a little off because of the acquisitions and then COVID, but 20% is kind of their bogey, and that's where they've been for a very long time.

In terms of any chemicals business, I tend to think about risks that we've seen historically with the likes of DuPont or others, where it ends up being environmental issues. Oftentimes, they date back in history. Has that ever been an issue? And just in terms of thinking about the management of the environmental concerns around chemicals, how do you view that as either a risk or not?

That's always something that could come up. I've covered companies with asbestos liabilities where they owned the company for 3 weeks, then sold it, and they still had that liability. So these things can happen.

I do not worry about that quite as much with Ecolab, and it's because they are so focused on sustainability in general. I think that's become a negative connotation here in the past year or so, especially in the US with ESG and sustainability. But Ecolab is all in on that.

Outside the US, it remains extremely important. Ecolab is very focused on making sure that what they're doing has positive social and environmental benefits, and they have won a ton of awards around that. That's their main focus, and so I would be surprised if they let a risk like that slip through. It's certainly possible, but that's a risk.

I'm just curious—you might not know this—but were they considered an actual ESG candidate for portfolios, given that focus?

Oh, yes. They're included in things like the water ETFs. That's their main focus. But clearly, especially in the past couple of quarters, that has not been a tailwind to the stock price.

Yeah. It's always interesting to know those dynamics and where companies end up falling on the spectrum in terms of the grading and whatnot.

The last thing, hearing about all their different exposures, the one I wanted to ask about was general customer exposure and revenue exposure. With a business like McDonald's, does that make up a large percentage of their overall revenue? And are there other customers, or even segments, that would represent revenue risk or concentration risk? Does anything stand out?

It's a pretty diversified business, so there's no major customer where, if they lost the contract, it would have an impairing effect on their ability to operate. Now, if they lost somebody like McDonald's, that would obviously be a huge blow to their confidence and reputation.

I think the biggest risk to Ecolab, given their lack of competition in some of their spaces, is Ecolab. Can they maintain this culture of delivering results when they're on the mountaintop? That's the concern that I have as an investor: Are they going to be able to maintain that esprit de corps?

I think they only have about 4,000 of their 48,000 employees at the Saint Paul, Minnesota, headquarters. Being able to control—or influence, I should say—the employees who are scattered all over the world, making sure they're all united in their focus and their cause, is hard to do.

Ecolab does have a great culture, and they've done a great job of doing that. But anytime there's a CEO transition, you always kind of worry in the back of your head: Is something going to change? Is the CEO going to come in, try to do something transformational, try to disrupt the blueprint for success that they clearly have?

Yeah. Can you talk a little bit about some of the historical CEO transitions? It sounds like you had someone in place during the 2011 acquisition who is no longer there. But how large of an impact do the individual CEOs have? We have obvious icons whose tenures are represented by great shareholder returns, and then we see a transition to a different operational style. Is that the case with Ecolab, or is it more of a company culture that persists through time?

Ecolab's had 7 CEOs in its 102-year history. There's not a lot of turnover. The first 2 were M. J. Osborn, the founder, and then his son, E. B. Osborn, who ran the company up until 1978.

There were 2 CEOs who had less than 10 years after that, but Doug Baker was there for a very long time. He only ran the business for about 17 years. He started in 2004 and ran it to 2021.

Only 17 is not bad.

Only 17. When you think about the median S&P CEO at 5 years, that's a long run. Doug Baker did a great job. He was the one who spearheaded the Nalco acquisition.

Christoph Beck has been the CEO since 2021. Christoph is a very passionate leader and does a very good job of spreading the word about what Ecolab stands for, particularly around sustainability. He's a native of Switzerland and came up through Nestlé. He joined Ecolab in the mid-2000s and came up, and he was really the organizer of the Nalco integration.

By all accounts, it was a textbook integration on how to bring in 2 companies with a long history and integrate them together. So he got the tap on the shoulder when it came time for the new CEO to come in.

In terms of the market perception of the business, you've made a few references to short-term versus long-term investors and how they might look at things. But is there a general framework that's typically used for Ecolab, just from a valuation perspective?

Ecolab never looks cheap. There might be a few times once in a while, in a market panic, where it gets down to its low trading range and its P/E, but typically it's in that 25 to 30 times earnings. It's because 90% of its revenues are recurring in some way. It's consumable, it's a subscription, it's something. The other 10% are just equipment sales, selling mops and buckets and things like that.

But 90% of that business is just recurring, and they've got such a strong moat in that space that it's really a duration question. We talked about how, over 6 decades of being a public company, they've had a 20% ROE. Any value investor worth his or her salt is going to expect that ROE to revert to a mean at some point, and yet they just keep beating the fade. That's why the ROE is so high.

A company like Fastenal comes to mind as well, or Cintas, too. They keep beating the fade, and investors expect that to happen. Obviously, the risk is that if it does happen, the multiple contracts and the stock goes down. But I don't think that's going to happen.

Yeah, I know exactly what you're describing in terms of it never quite gets there, but there's usually a reason tied to operational performance that has persisted for a long time. It's a different category than the pure growth stocks that trade at these valuations because you're looking 3 or 4 years out, where they grow into it. This almost feels like it's a steady state because it's delivering a different type of result.

Is there anything else that we haven't touched on, just either upside considerations or downside considerations that are particularly relevant?

I think the opportunity that might be underappreciated, especially by American investors, is the water opportunity and the sustainability angle. Again, I think that's lost its appeal, that ESG sustainability label. But the climate needs are obvious, and you don't have to believe certain things to acknowledge that there's a ton of demand for water coming in the next 10, 20, or 30 years, whether it's from industry or from food consumption.

Just looking at the numbers, the population is supposed to grow 25% or so by 2050. How are we going to feed everybody? We have to use more resources, and that means more water, which means more business for Ecolab.

And so, if I think investors aren't getting something about Ecolab, it's not believing in what their value is when it comes to delivering, saving customers money from energy savings, water savings, and conserving the environment.

As much as it's been a theme probably for 15 years at this point, it still feels like an under-the-radar theme for the masses in terms of water's importance. So I think it's fair to hammer on that point, and certainly one where I haven't had an appreciation for where you can reflect that view in the market, and it's interesting to get the Ecolab story today.

We finish up these conversations with lessons that you can pull away from the business and potentially apply elsewhere. What stands out from Ecolab?

For Ecolab, there's a lot of different lessons I've learned from following the company for a long time. But the core one goes back to how we started this conversation: see an idea, listen to your customer, figure out what their problems are, go back to the lab, figure out how we can solve that customer's problem, and then scale it.

That's what Ecolab does, and because it has all of these relationships now, it can say, “Hey, look at this McDonald's restaurant. It's best in class. Now everybody kind of get in line with that, and here's how we can help you do that.”

So it's finding solutions to problems, and if you can find one for one customer, I bet you there's dozens and hundreds and thousands of other customers who need the same help.

Yeah. It's certainly a strong case, and I've seen that in a lot of software solutions. You'll hear the description of it. We've covered some of those companies in the past, but this is kind of a great example that you interact with on a daily basis, and then it extends well beyond what I see in my consumer life.

So this has been a pleasure, Todd. Thank you for bringing this one to us and breaking it down. It's been an enjoyable one.

Thanks, Matt. It's been my pleasure.