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How to invest in the energy transition without leaving the UK

Smiths Group is commonly perceived as a sleepy conglomerate making products suited for yesterday’s world. However, Andrew Marsh of the Artemis Income Fund says that it could hold the key to a cleaner and more efficient future for a range of industries.

Investors often fail to see things when they refuse to look for them. This in many respects summarises the UK market, which is often portrayed as a sleepy backwater for equity investors, despite containing many companies at the forefront of innovation in areas of structural growth.

Smiths Group is the perfect example. It started making watches for the admiralty in 18511, which perhaps explains why it is regarded as an ‘old economy’ business and tends to be overlooked by the market.

Yet our analysis shows its portfolio of industrial technology businesses is likely to play a leading role in the energy transition, set to be a defining issue of the coming decades as the world wakes up to the cost, timescale and sheer difficulty of decoupling economic growth from carbon emissions.

Here and now in Slough

Slough may not be the first destination that springs to mind when you think of the energy transition – it is better known as the dreary backdrop for UK sitcom The Office.

But it hosts the headquarters of Smiths business John Crane, which is promoting sustainability through scalable clean hydrogen, carbon capture, utilisation and storage (CCUS) and greenhouse gas emission-reduction technologies.

In the near term, increasing the efficiency of existing infrastructure will play a crucial role in the energy transition. One product developed by John Crane that has piqued our interest in this regard is a seal that prevents methane leaks from the storage and transportation of natural gas. This is especially important as methane is 80 times more harmful than CO2 in the first 20 years after it is released2.

We are set to visit John Crane’s Slough headquarters for a ‘deep dive’ into the business later this year and will report back in due course.

Flex-Tek: Greening the steel industry

Less often discussed in conversations about the energy transition is Smiths’ Flex-Tek division. The business, based in the US, has traditionally offered flexible tubing and heating elements for the housing market.

But in recent years, it has emerged as a potentially important player in reducing carbon emissions in the steel-production process. Steel is traditionally produced using coal- or gas-powered blast furnaces, which require extremely high temperatures. As a result, it is energy and carbon intensive, accounting for around 8% of global CO2 emissions3.

Flex-Tek has designed an electric heating element that ensures hydrogen can be safely pre-heated – rather important, given the gas’s explosive properties – before being used to replace fossil fuels and the blast furnace process. This process, called direct reduction, emits water vapour rather than carbon dioxide as the effluent gas.

Smiths has partnered with a business called Midrex which is the world leader in direct reduction technology. Flex-Tek’s heaters are being used in Midrex’s H2 project in Sweden, the world’s first large-scale green steel plant: it emits 95% less CO2 compared with traditional steelmaking4.

As the global steel-production industry comes around to the benefits of direct reduction over the coming years, we believe this could represent a significant avenue of growth for Flex-Tek.

Reducing US housing energy consumption

Flex-Tek has several other products in its pipeline that can improve energy efficiency in its core business in the US housing market. These include sealed ducting which reduces the leakage in hot-air heating systems, and heating elements for heat pumps which increase efficiency and reliability.

This latter product could meaningfully increase the market opportunity for heat pumps – which are already out-selling gas boilers in the US – by making them a reliable option in colder climates.

“Globally relevant for decades to come”

Smiths is a pertinent example of a company in the UK market with qualities that often go unnoticed. While it is commonly perceived as a sleepy conglomerate with a range of industrial products suited more for yesterday’s world, we believe it is quite the opposite.

Its capacity for innovation and its firm alignment with the energy transition mean Smiths should remain globally relevant for decades to come. We think the market should eventually come around to this point of view as well; but only when it decides to look.

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Reference to specific shares or companies should not be taken as advice or a recommendation to invest in them.

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Any forward-looking statements are based on Artemis’ current expectations and projections and are subject to change without notice.

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