Sunniva Kolostyak: Welcome to Morningstar. I'm in the studio today with Andrea Carzana, co-manager of the Aviva Global Climate Transition Equity fund, and he is here to give us his three stock picks for the climate transition.
Andrea, let's go straight in. What's your first stock?
Andrea Carzana: The first stock is Linde (LIN), which is an industrial gas company. Industrial gases is a very interesting segment. It is a market that is very consolidated. The top four players are around 80% of the market versus like a decade ago where it was a lot more fragmented. It's a market that is expected to grow around 7%, 7.5% per annum until 2030, which is much more than GDP or a lot of end markets.
What is interesting is that the company, Linde, is exposed to so many different end markets. If you think about it, you need industrial gases for everything, not just for manufacturing. You need industrial gases to produce food, produce semiconductors, oxygen for hospital. So, they are very well diversified. The key with Linde is that massive focus on productivity and cost. This is why the company is a lot more – the return profile of the company is a lot higher than competition and in a company that continues to improve the return profile because of its strong focus on productivity.
Recently, the Inflation Reduction Act and decarbonisation trend is really helping the top-line story of the company, especially in North America, thanks to the Inflation Reduction Act, and this is like something that will help the company for the next decade. What is interesting is that even on this type of project, the company tends to generate a return that is double-digit unlevered after-tax, which tells us that over the next decade or more, the return profile of the company will continue to improve because of these return characteristics. So, overall, we think that Linde is the best company in an attractive end market with strong opportunity, structural growth opportunities.
Kolostyak: So, what's your second stock then?
Carzana: The second stock is Epiroc (EPI A). Epiroc is a Swedish company that makes underground mining equipment. What is interesting here is that compared to surface mining underground mining equipment is a lot more consolidated industry. You only have two players, Epiroc and Sandvik, and there's Caterpillar, which is a distant number two. And the reason why it's so consolidated is because it's incredibly difficult to operate in an underground mine. So, the equipment that mining companies buy has to be extremely high quality. So, quality is much more important than price.
Why is underground mining important? Because copper, which is the key commodity that we need for electrification, is a hard rock that is underground. And so, mining companies are finding themselves needing to extract more copper by also trying to decarbonise in their operation. And so, one of the key products of Epiroc is underground mining truck, which until recently they used to run with a combustion engine and now both Epiroc and Sandvik, they offer EV underground trucks. This is very interesting, not only because a mining company is able to cut their emission, but also able to save on money. A big operating cost for mining companies is ventilation because of course you have a lot of – if you run these diesel trucks, it tends to be – I visited a mine myself, it's incredibly hot and the conditions are not nice. So, having an EV truck makes conditions for workers much easier and allows mining companies to save a lot of money.
It's still a small part of their business. But when you look at the order profile for this EV truck, that's where all the mining companies are investing. So, the company is targeted to grow 8% per annum through the cycle. Now, we think this could accelerate. The CapEx we're hearing from mining companies is very positive, very, very good. So, overall, we think that this is a very quality compounder that we expect to continue to grow nicely and steadily.
Kolostyak: Yeah. Not many people would have expected mining to be in a climate transition fund. So, where are we going for your third stock?
Carzana: So, the third stock is another one that could be controversial, and it's Rentokil (RTO). It's a pest control business. What's the rationale here on climate? We know that rising temperatures are making breeding season for pests longer. And so, when we think about solutions, it's not just a solution to mitigate, but it's also adaptation solution, and this is really what Rentokil offers, like a solution to adapt to rising temperature. What is interesting is that the company is able to translate this into stronger financial profile. We expect the growth, especially in North America and in India – which might be globally, but North America is a big part of their market – to accelerate growth as a result of climate change. It won't happen overnight, but we're starting to see first signal of this. And it is a market that, while it's very fragmented, Rentokil has been one of the best companies in a consolidated the market.
So, the story here is very simple. It's a company that keeps consolidating the market, creates the density and the scale effect that helps them to improve their profitability while the market grows. The market grows around mid-single digit. The company is targeting to outgrow the market. So, again, this is another example of a company that is in a structural growing market where climate change is making the market grow even faster and their ability to consolidate that will allow them to generate even stronger profit than the previous years.
Kolostyak: It's very interesting. Thank you very much for joining today. For Morningstar, I'm Sunniva Kolostyak.
