Aqua America: Pure And Simple

| About: Aqua America, (WTR)

Looking for some thrills in your investment experience? Does your inner manic depressive need stimulation? Do you enjoy the heart palpitations and sweaty palms the morning of your latest investment's earnings announcement? Did you buy that cute little biotech despite the fact that after reading the business plan eight times, you still have no clue what it does? If any of this pertains to you, don't buy this stock.

Back in 1947, Jackie Robinson took the field with the Brooklyn Dodgers, a Polaroid camera was introduced that produced pictures in 60 seconds and Philadelphia Suburban, now known as Aqua America (NYSE:WTR), began a string of dividend payments that continues to this day. During the last five years, the dividend has grown at a 6% clip and in the last 20 years, there have been 21 dividend increases. Since 1996, the stock has split six times. Aqua America has made 191 acquisitions since 2003 and 20 more are planned for this year. The utility serves nearly 3 million people in 11 states.

Aqua America brings the good water in and takes the bad water out. That's a concept I can grasp. The company's growth is achieved through acquisitions. Through rate increases and infrastructure surcharges, the company captures return on invested capital and maintains a respectable return on equity of 10%. For the 12th straight year, Aqua America has lowered its cost of debt. $10,000 invested five years ago has grown to over $16,000 today. I know; more numbers. Sorry, I can't help it.

While Aqua America and what it does might be on the dull side, the company's future is quite the opposite.

Let's start with the housing industry. If Aqua America has a chink in its recessionary armor, this sector might be it. The utility derives 63% of its regulated revenue from residential water. Most of that market, however, is already established, and a slowdown in new home starts shouldn't have a major impact on Aqua's earnings. Besides, I'm reminded of a fact that I read in the company's history. During the Great Depression, it laid off no one. If the Depression didn't rattle the company, well... But now is no time to fret, for the housing industry is stirring, and a subdivision or two thrown the utility's way will most certainly be a plus.

As I alluded to earlier, Aqua America's business plan is growth through acquisition. It's a buyer's market. The water and wastewater industry is extremely fragmented and the dynamics of the sector don't bode well for empty-pocketed municipalities. The EPA is planning an overhaul of the nation's drinking water regulations. This translates into more expensive technologies for water systems. Many municipalities are in a quandary over how to replace decrepit pipes in their lines, much less tackle the costs of advanced technology. Aqua America has the brains, brawn and the bucks to rehabilitate and upgrade these shaky infrastructures. Municipalities realize this and are willing to sell. They rid themselves of the problem and gain a windfall for the local coffers. There are some situations where the residents have grown comfortable with their local provider and don't want a change. In these instances, Aqua America will try to form a partnership with the municipal utility. Oft times, after trust is established, these partnerships morph into a buyout by Aqua.

Acquisitions cost money and Aqua acquires much of that money through successful requests for rate hikes. When asking for a rate increase, Aqua can cite its record on service, reliability and accessibility. I believe the utility has one more asset in its portfolio that it can trot before a regulatory board. A few weeks ago, Aqua joined the EPA in a Green Power Partnership. I don't see how it can hurt Aqua's chances for a favorable ruling when the utility can show itself an ally with the EPA in the pollution battle. Before you think I wanted you to read this entire article through rose-colored glasses, read this. As you can see, things can get a bit testy.

Though the majority of Aqua's revenue is derived from regulated sources, it is, (sorry about this), laying new pipelines of private-sector income. One example is the Penn Virginia Resource Partners venture. Initiated in 2011, this project has been completed and is operational. Aqua, through 18 miles of pipe, is bringing fresh water to certain natural gas well drilling operations in Pennsylvania. The utility said this operation will add a penny a share to profits this year, with that amount doubling annually through 2015. It's not huge, but it's a start.

Water filling stations are another source of income for Aqua. Since these stations are situated close to the drilling fields, they take much of the truck traffic out of the small towns and neighborhoods that surround the drilling operations.

The electricity needed for several of Aqua's treatment facilities is supplied by either wind or solar power. It is also in the process of converting a large portion of its truck fleet to natural gas.

Aqua America, at around $28 a share, is not cheap. It's selling at a PE of 24 and a dividend yield of 2.7%. Aqua's closest competitor is American States Water (NYSE:AWR). American is going for around $52 a share with a PE of 19. I think the premium Aqua commands can be explained by its return on revenue. American's return is 10%. Aqua America's? Over 20%. You usually get what you pay for.

Aqua America is a well-run company in a business that's easy to understand. Though nobody wants their water bill to go up, it's a fact that rotting pipes have to be replaced and the technology required to meet tougher EPA regulations doesn't come cheap.

People will always need water. That's Aqua America's business plan. No glamor. No glitz. No fanfare. People and water. Pure and simple.

Now it's up to you. Dig deeper and make your own determination.


Disclosure: I am long WTR. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.