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Solid Prospects for Water Utility Stocks Amid Aging Assets

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The Zacks Utility - Water Supply industry includes companies that are involved in providing drinking water and wastewater services to industrial, commercial and residential customer classes. The water utilities also provide services to numerous military bases across the United States. The players also own millions of miles of water pipelines that are buried under soil, hidden from public glare. Moreover, they own water treatment plants and desalination plants to supply 24X7 potable water across customer classes.

Let’s take a look at the industry’s three major themes:

  • Massive funding is needed to upgrade the quality of the U.S. water infrastructure. Per an American Water Works Association (“AWWA”) report, the cost of restoring aging underground water pipelines in the United States will be at least $1 trillion in the next 25 years. The AWWA report indicates more than 200,000 water line breaks per year in the United States with more than 7 billion gallons of water leaking out of aging pipes every year. However, the total cost for overhaul of the existing U.S. water system will be much higher as the AWWA projection does not include cost of constructing new infrastructure or repairing treatment plants.
     
  • There are more than 53,000 water systems in the United States providing water solutions to customers. The highly fragmented water industry creates operational challenges in meeting increasing requirement for water. At present, only 7% of the country’s systems serve populations of more than 10,000 and a mere 1% of the systems serve populations of more than 100,000. So, consolidation in this highly fragmented industry is essential. Big water companies are trying to acquire small water utilities and extend quality services.
     
  • One of the primary reasons for weakening water infrastructure is the gradual decline in the Federal government funding for water infrastructure projects. Per the U.S. Water Alliance, four decades ago, the federal government funded 63% of spending in water infrastructure, which has come down to 9% now. Government funding is not expected to increase dramatically in the near term, so regulated companies in the industry will have to take an initiative to upgrade water infrastructure. Revision in the existing water rates in the United States, which is comparative less than other developed countries, will help in funding the massive investment required for overhaul of water infrastructure.  


Zacks Industry Rank Indicates Bright Prospects

The Zacks Utility Water Supply industry is a 14-stock group within the broader Zacks Utilities sector. The industry currently carries a Zacks Industry Rank #77 which places it at the top 30% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bleak near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the top 50% of the Zacks-ranked industries is a result of positive earnings outlook for the constituent companies in aggregate.
 
Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock market performance and valuation.

Industry Beats S&P 500 and Sector on Shareholder Returns

The Zacks Utility Water Supply industry has outperformed its own sector and the Zacks S&P 500 composite over the past 12 months.

The industry has gained 16.7% in the past 12 months compared with its sector and the S&P 500’s increase of 9.3% and 3%, respectively.



 

The Industry’s Current Valuation

On the basis of trailing 12-month enterprise value-to EBITDA (EV/EBITDA), which is a commonly used multiple for valuing water utility stocks, the industry is currently trading at 13.22X compared with the S&P 500’s 10.63X. It is marginally lower than the sector’s trailing 12-month EV/EBITDA of 13.25X.

Over the past five years, the industry has traded as high as 14.68X, low of 8.36X and at the median of 11.64X.

EV/EBITDA Ratio - Industry vs  S&P  500

EV/EBITDA Ratio - Industry vs  Sector



 

Summing Up

Demand for potable water and wastewater services is steadily increasing, thereby creating ample opportunities for growth and expansion for the industry.

Demand for potable water is increasing in the United States and desalination plants are helping the water industry to meet increasing demand. Per an International Desalination Association report, more than 2,000 desalination facilities are operational in the United States and the number of these projects is gradually rising.

With ample room for growth over the long term, companies like Eversource Energy (ES - Free Report) from the electric utility space have started to show interest in the water supply industry.

Below we present four stocks — one sporting a Zacks Rank #1 (Strong Buy), one carrying a Zacks Rank #2 (Buy) and two holding a Zacks Rank #3 (Hold) — that are well positioned to grow in this fragmented water space. You can see the complete list of today’s Zacks #1 Rank stocks here

American Water Works (AWK - Free Report) , based in based in Camden, NJ, is engaged in providing water services to over 15 million customers in 47 states, the District of Columbia and Ontario, Canada. The Zacks Consensus Estimate for 2019 EPS has improved 0.9% over the last 90 days. Additionally, the company has expected 2019 earnings growth of 7.3% on a year-over-year basis. The stock carries a Zacks Rank #2.

Price and Consensus: AWK



AquaVenture Holdings Ltd. (WAAS - Free Report) , based in Road Town, British Virgin Islands, is a provider of provides water-as-a-service solutions in North America, the Caribbean, and South America. The Zacks Consensus Estimate for 2019 EPS has improved 7% over the last 90 days. Additionally, the company has expected 2019 earnings growth of 10.3% on a year-over-year basis. The stock sports a Zacks Rank #1.

Price and Consensus: WAAS



San Dimas, CA based American States Water Company (AWR - Free Report) along with its subsidiary provides water and electric services to customers in the United States. The long-term earnings (3 to 5 years) growth outlook of the company is 6%. The company has expected 2019 earnings growth of 15.9% on a year-over-year basis. The stock carries a Zacks Rank #3.

Price and Consensus: AWR



San Jose, CA based California Water Service Group (CWT - Free Report) along with its subsidiary provides water utility and other related services in California, Washington, New Mexico, and Hawaii. The long-term earnings (3 to 5 years) growth outlook of the company is 7%. The company has expected 2019 earnings growth of 16.1% on a year-over-year basis. The stock carries a Zacks Rank #3.

Price and Consensus: CWT



 

Zacks' Top 10 Stocks for 2019

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