Aqua America: Prudent Buyouts Impress, Regulations A Woe

On Dec 2, 2016, we issued an updated research report on Aqua America Inc. (NYSE:WTR) . The company’s extensive network of water and wastewater systems, and continuous investments in regulated assets will enable it to provide high-quality, reliable water services to its expanding customer base. However, the company runs the inherent risk of contamination of water sources, which could raise its operating costs.

In the third quarter of 2016, Aqua America’s earnings and revenues both outpaced the Zacks Consensus Estimate. Bottom-line growth was primarily driven by higher contributions from the Regulated business and prudent expense management.

As per a recent Environment Protection Agency (EPA) report, capital investment of $384.2 billion will be required to upgrade drinking water lines and $298.2 billion for wastewater lines. Thus, water utilities have immense opportunity to expand their regulated operations.

Aqua America aims to invest of over $350 million in 2016 as part of an ambitious capital investment target of over $1.1 billion in the 2016–2018 period. The company expects rate base to grow by 6% to 7% in 2016. The new water rates approved so far this year will increase Aqua America’s 2016 revenues by $5.5 million, while the pending rates cases in Virginia, Ohio and Indiana, if approved, could boost annualized revenues by $8.1 million.

Year to date (as of Nov 1, 2016), Aqua America’s has completed several acquisitions in its service territories, adding 5,700 customers to its existing base. Acquisitions and organic growth have enhanced the company’s customer base by more than 1.3% so far this year. Thanks to strategic acquisitions and organic growth, the company expects its customer base to expand by 1.5% to 2% this year. The pending acquisitions are projected to add another 4,700 customers to its existing base.

However, the current rate of return from the company’s shares was lower than that of the broader industry in the last 12 months. Note that the possibility of contamination of water supplied to customers despite implementing the best safety measures is a persistent headwind for Aqua America as it could result in service disruption and lead to extra costs.

Moreover, water utilities are subject to certain federal and state environmental laws and regulations. With environmental regulations getting stricter by the day, compliance could lead to significantly higher operating costs for the company.

Zacks Rank & Key Picks

Aqua America currently has a Zacks Rank #3 (Hold). A few better-ranked stocks in the same space include SJW Group (NYSE:SJW) , Global Water Resources, Inc. (NASDAQ:GWRS) and The York Water Co. (NASDAQ:YORW) . SJW Group sports a Zacks Rank #1 (Strong Buy), while Global Water Resources and The York Water Company carry a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

SJW Group’s earnings surpassed the Zacks Consensus Estimate by 104.4% in the prior quarter. Its 2016 estimates improved 26.1% to $2.27in the last 60 days.

Global Water Resources’ earnings surpassed the Zacks Consensus Estimate by 50% in the preceding quarter. Its 2016 loss estimates narrowed to 13 cents from 15 cents in the last 60 days.

The York Water Company’s current rate of return is 50.2% was much higher than that of the Zacks Categorized Utility Water Supply industry return of 28.6% in the last 12 months.

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