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A sewer thing: Utility stock’s rise should continue

DEAR MR. BERKO: We have $38,000 in cash that we’d like to invest. We are 73 and 80, and a broker we’ve used for 35 years, who is retiring this year, suggested that we invest this money in AT&T (which we know you like) and Aqua America. We would appreciate your thoughts on Aqua America. – GR, Erie, Pa.

DEAR GR: Yes, I like AT&T, and I like this guy. Too bad he’s hanging up his tools.

I couldn’t imagine a more blasé, uninteresting and boring company than Aqua America (WTR-$26). But I couldn’t imagine a company whose product is more important to the political, social and economic welfare of a country than Aqua America’s.

WTR’s history began in the winter of 1886, when an association of Swarthmore, Pennsylvania, residents decided to abandon their home wells in favor of spring water. This association was granted a charter to supply water to the residents of Springfield Township in Delaware County, so a contract was let to build a pumping station with underground pipes to the homes of the association’s 49 members. In 1887, after completing its first full year of operation, the waterworks had revenues of $648.78 and made $40.47. However, as the number of users increased, so did the association’s responsibilities. Therefore, the members incorporated Springfield Water Co., which eventually, after myriad acquisitions, became the precursor of Aqua America.

Today WTR, which has made over 300 acquisitions since 1999, is a water and wastewater utility serving over 3 million residents in Pennsylvania, Ohio, Indiana, Illinois, North Carolina, New Jersey, Florida and Texas. This year, WTR expects to book $801 million in revenues and produce a net income of $210 million, which is an impressive net profit margin of over 25 percent. And the 63-cent dividend, which has been raised for 32 consecutive years, yields 2.7 percent.

There are over 53,000 independent water systems in the U.S., serving about 290 million users. France, with a population of 66 million Frenchies, has just one water utility, and Great Britain, an island of 64 million Brits, has only 30 water utility companies. The U.S. water/wastewater industry is comically fragmented. Ninety-three percent of the 53,000 systems serve areas with fewer than 10,000 customers; 83 percent serve areas with fewer than 3,300 customers; and 53 percent serve communities with fewer than 500 customers. And the majority of these systems are within a few miles of other, smaller water utilities.

Stand-alone, small systems miss economies of scale. They have trouble attracting investment capital for costly repairs, purchasing new equipment and complying with continually updated Environmental Protection Agency regulations. They lack the technical, managerial and financial capabilities required of a modern water system. Monitoring and testing requirements continue to burden small systems, most of which don’t have full-time operators. The cost to monitor and treat water and maintain EPA compliance is $4 per household annually if the system serves 500,000 users. However, the cost is over $300 per household if the system has 100 users or fewer.

So the need to succeed has also created an urge to merge, and WTR should maintain its impressive expansion by acquisition. WTR made 15 acquisitions in 2013 and will exceed that number this year. WTR’s management recently purchased North Maine Utilities for $22 million and will invest an additional $10 million to upgrade the system for its 44,000 users. And because WTR’s financials have been improving impressively recently, the balance sheet should be able to comfortably take on more debt by acquisition. So in the coming dozen years, WTR may add 200 or more smaller systems to its portfolio of water utilities. If so, WTR could better than double revenues, to $1.8 billion, more than double net profits and continue to raise its dividend by 8 to 10 percent a year. Thank your broker for his excellent recommendation.

Please address your financial questions to Malcolm Berko, P.O. Box 8303, Largo, FL 33775, or email him at mjberko@yahoo.com.

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