Top ESG Investing ideas from iA Capital

It’s a theme that’s been gaining prominence in the investing landscape in recent years, and with companies the world over adopting Environmental, Social and Governance (ESG) practices, investors will want to focus on names expected to benefit from the overall shift. That’s according to investment bankers iA Capital Markets who released a recent report highlighting ESG-related themes for investors, singling out a number of stocks in the space as Buys for the upcoming 12 months.

ESG has found its way into business in a number of different guises, from corporate governance and risk management to net-zero corporate goals, sustainability financing and investment in renewable energy projects. The movement has been in some senses citizen-driven as more and more people, including shareholders, are expecting better corporate practices out of the companies they support, while from the other end, governments in jurisdictions around the world have put out policies and regulatory environments that favour and in some cases require companies to uphold ESG practices, especially when it comes to fossil fuel production and climate change mitigation.

“The approach that companies and investors alike are taking to address and manage ESG criteria continues to evolve,” writes iA Capital analyst Naji Baydoun in the June 30 report. “As overall ESG practices (e.g., internal management, reporting/disclosures) become more prevalent in capital markets, we believe that stakeholders will increasingly focus on the investment opportunities that these trends will provide over time (compared to what seems to be an initial focus on risk management).”

Looking at the renewable power sector, Baydoun said the way forward is not without its challenges as near-term headwinds exist for companies in the renewable energy space due, for example, to cost increases and supply chain disruptions. That means there’s a need for more investment in renewables in order to meet decarbonization objectives coupled with a rising demand in electricity and a push to decommission non-renewable power facilities. 

Baydoun said renewables are expected to provide about 60 per cent of global power production in the next ten to 20 years and over 80 per cent by 2050, an infrastructure transformation that could require about $1-$1.5 trillion per year of investments over the next five years, which essentially would be three to five times recent annual investments. And while government is likely to stay central to these investments, private capital is also expected to contribute and to, in fact, “take the lead in financing the energy transition,” Baydoun said.

“Looking ahead, we expect the pace of growth in sustainability financing to accelerate, primarily driven by increased issuances of green bonds and sustainability/sustainability-linked instruments. We also expect sustainable debt to gain market share relative to the overall global bond market share over the next few years. To capitalize on the expected growth in sustainable financings, it will be important for companies to improve visibility on their ESG performance and management practices via better sustainability disclosures. If successful in doing so, corporations could benefit from the expected growth in green financings via improved access to capital,” he wrote.

From a Canadian perspective, Baydoun says power and utility companies have embraced the decarbonization aspect of ESG much faster than companies in other sectors, due in large part to regulatory requirements and an overall more direct role in emissions production — about 45 per cent of global emissions are related to power generation, with more than 70 per cent of that amount tied to coal and more than 20 per cent related to gas generation. Baydoun said comprehensive green financing frameworks have been gaining traction to give power companies the funding instruments to more forward on decarbonization projects. 

For the investor, Baydoun said the focus on ESG means there will be substantial growth opportunities afforded to companies in renewable power and decarbonization, both over the near and long-term, and it will be “the largest, most experienced, well-funded and most diversified players” who will best capitalize on investments in these markets. 

As for evaluating companies, Baydoun said up to this point ESG management, reporting and financings haven’t provided a significant cost of capital advantage and thus have not figured significantly in valuations, but this should change.

“With increasing investor demand and an evolving regulatory landscape, we expect companies that maintain best ESG practices to become more competitive over time. Therefore, although we do not directly incorporate a distinct ESG element into our cost of capital parameters (yet), we are making an initial attempt at framing what the sustainability upside potential could be for companies under coverage. In this exercise, we stress test our DCF valuation work by incorporating an ESG-related variable into our discount rates (with no changes to terminal growth or exit multiples),” Baydoun wrote.

The companies listed below are from iA Capital’s Power & Infrastructure coverage universe, with their respective ratings and 12-month target prices represented:

Aecon Group (Aecon Group Stock Quote, Charts, News, Analysts, Financials TSX:ARE)

Rating: Buy

Target Price: $23.00

Last Price: $12.97

Algonquin Power (Algonquin Power Stock Quote, Charts, News, Analysts, Financials TSX:AQN)

Rating: Hold

Target Price: $20.00

Last Price: $17.37

Bird Construction (Bird Construction Stock Quote, Charts, News, Analysts, Financials TSX:BDT)

Rating: Buy

Target Price: $12.00

Last Price: $7.60

Boralex (Boralex Stock Quote, Charts, News, Analysts, Financials TSX:BLX)

Rating: Hold

Target Price: $45.00

Last Price: $43.40

Brookfield Infrastructure (Brookfield Infrastructure Stock Quote, Charts, News, Analysts, Financials TSX:BIP.UN)

Rating: Strong Buy

Target Price: US$48.00

Last Price: US37.04

Brookfield Renewable (Brookfield Renewable Stock Quote, Charts, News, Analysts, Financials TSX:BEP.UN)

Rating: Hold

Target Price: US$42.00

Last Price: US$32.79

Capital Power (Capital Power Stock Quote, Charts, News, Analysts, Financials TSX:CPX)

Rating: Hold

Target Price: $45.00

Last Price: $45.10

H2O Innovation (H2O Innovation Stock Quote, Charts, News, Analysts, Financials TSX:HEO)

Rating: Buy

Target Price: $3.60

Last Price: $1.79

Innergex Renewable Energy (Innergex Renewable Energy Stock Quote, Charts, News, Analysts, Financials TSX:INE)

Rating: Strong Buy

Target Price: $25.00

Last Price: $17.75

Northland Power (Northland Power Stock Quote, Charts, News, Analysts, Financials TSX:NPI)

Rating: Buy

Target Price: $47.00

Last Price: $38.16

Polaris Infrastructure (Polaris Infrastructure Stock Quote, Charts, News, Analysts, Financials TSX:PIF)

Rating: Buy

Target Price: $24.00

Last Price $19.21

TransAlta (TransAlta Stock Quote, Charts, News, Analysts, Financials TSX:TA)

Rating: Strong Buy

Target Price: $19.00

Last Price: $16.69

TransAlta Renewables (TransAlta Renewables Stock Quote, Charts, News, Analysts, Financials TSX:RNW)

Rating: Hold

Target Price: $19.00

Last Price: $16.69

UGE International (UGE International Stock Quote, Charts, News, Analysts, Financials TSXV:UGE)

Rating: Speculative Buy

Target Price: $3.25

Last Price: $0.90