Water Utilities as a Liquidity Play

As I review the holdings in my portfolio, several themes emerge, among them the love of micro-caps, deep value, a stomach for illiquidity, companies with land and companies that own water and or water rights. That last theme has been one of the most interesting to me over the years, as I've searched far and wide for the ultimate in liquidity companies that have water in the ground, whether or not that is one of their primary businesses.

This has led me to positions in companies such as PICO Holdings (PICO - commentary - Trade Now) and to highly illiquid (no pun intended) pink-sheet agriculture companies such as JG Boswell and Limoneira. While this is not the primary reason that I also hold Alexander & Baldwin (ALEX - commentary - Trade Now), its ownership of water rights was a bonus in my book.

What has not been as lucrative, and is currently missing from the portfolio, is exposure to water utilities. I did own Southwest Water (SWWC - commentary - Trade Now) at one point but sold before things got a bit ugly with that company. I do hold Consolidated Water (CWCO - commentary - Trade Now), which is sometimes lumped into the utility bucket, but this is more of a desalination play in my book.

The water business remains the most fragmented of the utilities, with an estimated 52,000 community water systems in the U.S., and at year-end 2008, 83% of these were very small, serving fewer than 3,000 customers each.

There certainly are not as many publicly traded water utilities as there used to be, and several that remain are very small, with market caps below $200 million. The granddaddy of them all is American Water Works (AWK - commentary - Trade Now), which provides water and wastewater services to 15 million customers in 32 states. One of the issues with owning water utilities is that they are regulated businesses, and last year more than 89% of AWK's $2.34 billion revenue fell into this category. Shares of AWK are down about 4% year to date in terms of capital appreciation, but they are about even on a total return basis, as the stock currently yields an attractive 4.4%.

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At the time of publication, Heller was long JG Boswell, PICO Holdings, Limoneira, Alexander & Baldwin and Consolidated Water.

Jonathan Heller, CFA, is president of KEJ Financial Advisors, a fee-only financial planning he recently launched. Jon spent 17 years at Bloomberg Financial Markets in various roles, from 1989 until 2005. He ran Bloomberg's Equity Fundamental Research Department from 1994 until 1998, when he assumed responsibility for Bloomberg's Equity Data Research Department. In 2001, he joined Bloomberg's Publishing group as senior markets editor and writer for Bloomberg Personal Finance Magazine, and an associate editor and contributor for Bloomberg Markets Magazine. In 2005, he joined SEI Investments as director of investment communications within SEI's Investment Management Unit.

Jon is also the founder of the Cheap Stocks Web site, a site dedicated to deep-value investing. He has an undergraduate degree from Grove City College and an MBA from Rider University, where he has also served on the adjunct faculty; he is also a CFA charter holder.