Holly Cook: Welcome to the Morningstar series where we asked fund managers for their favorite stocks. Joining me today is Roland Arnold. He is co-manager of the BlackRock U.K. Special Situations Fund. Roland, thanks for joining me.
Roland Arnold: Thank you for having me, Holly.
Cook: So let's go straight off into the first one. What's one of your favorite stocks at the moment?
Arnold: So, right now, we've been looking at adding consumer exposure to the fund. One of the stocks that we particularly like is Howden Joinery (HWDN). Howden Joinery is a business that supplies kitchens to U.K. builders. So rather than supplying it directly to consumer in the retail environment, it does everything it can to make a relationship better for a builder, who then sells it on to the end user. They have around 540 depots in the U.K. In last few years whilst the kitchen market has been in quite substantial decline, given what's happened to the property market, Howden's actually managed to grow its turnover through that period by investing in new sites and taking market share off of weaker players.
It's one of these companies that have been able to invest in its product base, whilst others around it have been weakening. At the same time, it's done an awful lot on the liability side of its balance sheet. It did have £100 million of net debt and has moved that to a net cash position. It's had a lot of leases that [bankrupt company] MFI left it with. It had to work through it and sort out that liability. So you've both the top line story and the liability story coming through the business.
Cook: So that all sounds quite progressive. Is there any associated risk or concern with this company?
Arnold: Well, as with any small or midcap company, the company specific risks are by far the most important and clearly, this is a business that's focused on consumers and consumer spending. So if there were to be interest rate rises or weakness in consumer outlook, Howden's may well feel some of that pain, but for the moment it feels that the business is in relatively good shape.
Cook: Okay, let’s move on to your second one then, another favorite stock?
Arnold: So I think one of the stocks we've liked in the fund for an awful long time is Rotork (ROR). Rotork is one of these great examples of the U.K. engineering business. It's been a wonderful global success and the majority of its earnings are actually earned outside of the U.K. It makes a systems called valve actuators, which is just a system that switches a valve off and on in the applications that they tend to be in, which is power and industrial and petrochem.
The importance here is that Rotork has a very strong brand name. It often gets specified when these plants are being built and that specification means it clearly gets to charge a premium price for its product, and that premium price feeds through to better margins and better cash flow. The international focus of the business means that people will benefit from global growth as it returns in whichever areas it returns into.
Cook: Some it's more international play, but again an associated risk?
Arnold: Well, again, in this, the end markets here are very specific in terms of power, petrochem, oil and gas. So any weakness in those markets, and particularly the CapEx development comes from those markets, these are big expensive plants that these actuators go into. So any weakness there will filter through to the shares.
Cook: So, we've done kitchens, we've done valve stops, what's the third one?
Arnold: So, the last one is a slightly esoteric business that makes steam traps, that's called Spirax Sarco (SPX). Again, this is a business we've had in the fund for an awful long time, and again this is a business that's had one of these great British engineering stories. It's had a fantastic last few years in what have been very difficult markets for manufacturing related businesses. Spirax has managed to grow all the way through that period.
Steam traps are used in industrial applications. In industrial application you have five utilities, the three we have at home, but also compressed air and steam. To recycle that steam, because of the energy cost, is very important. Again, it's an international business, which will benefit from international growth.
Cook: So, where does the risk lie with this one?
Arnold: Well, again, it's the same sort of end market characteristics. If there is increased worries in industrial CapEx, then Spirax will start to feel those concerns. Interesting about Spirax is, this is the business for last 40 years only had a flat dividend once and has grown in every other year. So the track record of this firm is absolutely phenomenal in most market conditions.
Cook: That was very impressive one. Thanks very much for teaching us a little bit about industrials and sharing your favorite stocks with us.
Arnold: Thank you for having me.
Cook: For Morningstar, I am Holly Cook. Thanks for watching.
