If you ever saw the classic film Chinatown, then you know that water is big business. American Water Works Company Inc (NYSE:AWK) involves the ownership of utilities that provide water and wastewater services to residential, commercial, industrial, public authority, fire service and sale for resale customers. The utilities operate in approximately 1,600 communities in 16 states, with approximately 3.4 million active customer connections to water and wastewater networks.
Investing in Water
New Jersey, Pennsylvania, Illinois, Missouri, Indiana, California and West Virginia account for roughly 87% of AWK stock revenues. Roughly 55% of operating revenue comes from American Water Works residential water service, with 20% coming from commercial water, and the rest split up among industrial water services, water for public authorities like fire stations, and wastewater services.
Water and wastewater industries are new to this investor, and apparently it is an extremely fragmented industry. There are more than 50,000 water systems and some 16,000 wastewater systems in the United States alone, with roughly half of drinking water systems being privately owned. And, yet, those systems only serve about 15% of the population.
With scale comes the possibility for growth, and the earnings for AWK stock have been fairly impressive over the past few years. Net income of $268 million in 2010 grew to $476 million in 2015. The past two years there’ve been some modest declines, with 2017 coming in at $426 million, although some of that decline is the result of the tax reform legislation. Revenue has been incrementally increasing every year between 3% and 5%.
Regulated Monopolies
This is one of the great benefits of owning utilities like AWK stock. Utilities are regulated. They have to be because they are regional monopolies. Consequently, utilities no what kind of revenue they can expect each year, allowing them to get a pretty good handle on how much they can spend, and what kind of dividend they can throw off.
While AWK stock struggled with distributions in 2012, subsequent annual increases were 14.3%, 10.7%, 9.7%, 7.7%, and 10%. Between rate increases and acquisitions, AWK has been able to stay at or near the top of the water utility sector. Much of this is due to the fact that its net margins have been relatively constant between 12.5% to 15%. Also constant has been its debt-to-asset ratio which has consistently hovered around 33%.
High Efficiency
The other element that has made AWK and American Waterworks stock so successful is that it is operated at a very high level of efficiency. That efficiency allows it to provide more favorable rate structures for customers and enough capital that it is able to upgrade the infrastructure of some of the companies it acquires.
The company’s 10-K points out a really upsetting statistic, which is that roughly 20% of the treated water in the country is lost every year due to nearly a quarter-million water main breaks. The country is in desperate need of upgraded infrastructure and this utility is doing its part to remedy that problem, which is obviously also a benefit to the company itself.
Bottom Line on AWK Stock
As far as stocks go, it’s difficult to ignore the largest publicly held water utility company in the United States.
AWK stock is roughly 70% off of its all-time high and while it remains in a downtrend, I’m not sure if now is quite the time to buy. As always, if you have a time horizon of 10 years or longer, you are probably going to do just fine owning the stock. If you’re not in a rush, I think I would wait for a lower price.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance and is the Manager of The Liberty Portfolio at www.thelibertyportfolio.com. He does not own any stock mentioned. He has 23 years’ experience in the stock market, and has written more than 2,000 articles on investing. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
