Message Font: Serif | Sans-Serif
No. of Recommendations: 3
Aqua America's Acquisitive Nature

By Stephen D. Simpson, CFA
November 10, 2005

If you get really twitchy about companies that do a lot of acquisitions, Aqua America (NYSE: WTR) probably isn't going to be for you. The company has done 28 deals so far this year, and while each deal is generally rather small, I'm sure there will be more to come.

Say what you will about the company's approach, but it seems to be working so far. Operating revenue in the quarter climbed 14%, and both operating income and net income rose 16%. Turning to the cash flow statement (in the company's promptly filed 10-Q), operating cash flow is up about 13% over last year, although free cash flow is negative.

One of the issues that this company does have is the ongoing need for capital infrastructure spending. In at least some cases, that seems to me to be a part of the acquisition strategy -- buying small water businesses where the owners may not have the resources or desire to invest in needed upgrades. So while the bad news is that spending on capital expenditures is tracking higher than operating cash flow, the good news is that the company is borrowing money at pretty favorable rates.

Eventually, though, I would expect this to reverse to some extent. It takes time for rate increases to come through, but eventually the company should be able to earn a reasonable return on those improved assets. In the meantime, given the essential nature of water and the general predictability of the business over time, I'm not too worried about the debt load.

What does concern me a bit is the dynamics of the industry. The CEO of Aqua America recently spoke out on the potential dangers of financial investors entering the market and acquiring water utilities. Although I respect many of the points he made (particularly as private investors often lack transparency and can engage in foolishly risky activities to pump up returns), I can't help noticing he has a dog in this fight. More specifically, I'm sure he realizes that the entrance of private investors could mean competition for deals that would potentially raise prices for future acquisitions by the company.

Although this is not a cheap stock, it's a well-run company in an industry with some pretty favorable trends for the future. What's more, Aqua America is a steady dividend payer and has raised that dividend many times. Although the potential IPO of American Water Works could threaten the valuations in the sector, I'd still go with Aqua America over European companies like Veolia (NYSE: VE) and Suez (NYSE: SZE) or smaller companies like American States Water (NYSE: AWR).
Print the post  


What was Your Dumbest Investment?
Share it with us -- and learn from others' stories of flubs.
When Life Gives You Lemons
We all have had hardships and made poor decisions. The important thing is how we respond and grow. Read the story of a Fool who started from nothing, and looks to gain everything.
Contact Us
Contact Customer Service and other Fool departments here.
Work for Fools?
Winner of the Washingtonian great places to work, and Glassdoor #1 Company to Work For 2015! Have access to all of TMF's online and email products for FREE, and be paid for your contributions to TMF! Click the link and start your Fool career.