Is Water Really the New Gold?

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Includes: AWK, AWR, CTWS, CWT, MSEX, WTR
by: Paul Price

I have heard many people touting water as the next ‘new thing’ for value creation in the investment world. In many parts of the world water scarcity is a reality and large water utility rate increases are likely in coming years. The question for us is “Will these stocks perform well on a predictable basis?”

Water companies are a low-Beta group as they are classified as utilities and are government regulated in terms of ROI. They face mandated costs in infrastructure upkeep and safety measures while needing to apply to regulators for rate increases. Most of these stocks pay decent current yields and their shares tend to attract a ‘sticky’ shareholder base of local customers who are looking for income.

The positives:

Steady customer usage that is not very economically sensitive.

Monopoly status in most service areas.

Reasonable returns on total capital.

The negatives:

Limited growth potential.

Heavy projected infrastructure spending needs.

Potential legislative push-back on future rate increases as prices escalate.

Relatively heavy debt loads with refinancing risks if credit stays tight.

Here are the numbers from some of the major players in the Water industry:

Company

Price

2010 P/E

2011 P/E

Yield

5-yr EPS growth/yr.

52-wk range

American Water (NYSE:AWK)

21.09

15.1x

13.7x

3.98%

NMF*

18.70 –

23.7

Amer. States Water (NYSE:AWR)

34.40

16.9x

15.8x

3.02%

8.5%

31.20 – 39.61

Aqua America (NYSE:WTR)

19.24

21.9x

20.0x

3.01%

5.5%

15.39 – 19.56

Calif. Water (NYSE:CWT)

35.80

17.9x

15.8x

3.32%

6.5%

33.81 – 40.65

Conn. Water Serv.(NASDAQ:CTWS)

21.97

20.3x

19.3x

4.14%

-0.5%

20.00 – 26.44

Middlesex Water (NASDAQ:MSEX)

16.35

18.0x

17.8x

4.40%

3.5%

14.15 – 18.70

York Water (NASDAQ:YORW)

14.12

21.1x

19.1x

3.61%

5.5%

12.83 – 17.95

* AWK came public in early 2008 ----- all data as of 1PM EST 7/21/2010

Historical growth in EPS has been quite moderate while the P/Es are not cheap. None of the stocks listed have shown gains from their price points from years ago. In my view the projected shortages and rate increases will ultimately happen but only after these companies are forced to absorb enormous costs to maintain and upgrade antiquated pipelines and treatment centers.

I also see political risk as low income customers cry poverty in response to increased water bills. Just as President Obama has lashed out at drug companies for gouging patients I think local legislators will be attacking these profit making providers of essential services. Margins are likely to suffer rather than expand.

I see much better opportunities elsewhere and would avoid this group unless share prices go substantially lower on a valuation basis.

Disclosure: None