The comeback kings of the water world

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Quoted water stocks reversed some of the losses they incurred last month, despite a profit warning from Veolia. Profitability challenges have put the company’s acquisition strategy on hold for the time being.

Water stocks shook off the mantle of gloom this month, outperforming a number of the major indices by appreciable margins. The GWI Global Water Index was up 11.4%, beating the MSCI World Index by more than 8%.

Asian companies led the way, occupying five of the top ten best performing stock slots this month, though the UK listed water utilities also did well, and some have now returned to the levels at which they began the year. This helped the European component of the index to rise by 13.4%, though Europe’s performance was hampered by another significant decline at Veolia.

The bulk of the damage to Veolia’s share price was sustained several weeks before the company released its third quarter results, when CFO Jérôme Contamine delivered a profit warning that sent the company’s shares tumbling by 21%.

The company now expects to generate EBITDA of between €4.1 and €4.2 billion in 2008 – appreciably lower than its August estimate of €4.4 billion, and effectively flat to the €4.16 billion figure generated in 2007. While low delivery volumes and tariff hike delays have impacted earnings on the water side, the waste division will take the biggest hit, and is likely to wipe around €100 million off the summer earnings estimate.

Following the disappointing acquisition of German waste company Sulo, the company plans to be “very selective” with regard to new investments in 2009, with CEO Henri Proglio telling investors: “We are not going to embark on new acquisitions for the time being.”

Veolia’s sales for the nine months to 30 September 2008 were up by 15.3%, of which 10.9% was organic growth. The group generated €3.1 billion of EBITDA on sales of €26.3 billion over the period, with the water division posting sales of €9.1 billion (up 15%). Veolia Water Solutions & Technologies was the star performer, posting revenues of €1.7 billion, nearly 35% higher than the same period last year.

While revenue growth at Suez Environnement was more pedestrian (6.7% for the nine months to 30 September), the group is on track to hit its earnings target for the year, generating €1.5 billion of EBITDA on revenues of €9.1 billion for the first nine months of the year.

The US investor-owned utilities generally had a positive results season, with California Water Service and Aqua America both posting impressive bottom line performance over the most recent quarter. Net income was up 20% at Aqua, while Cal Water managed to boost its net profits by a stunning 61%.

Neighbouring Southwest Water Company did not have such an easy time of it, revealing on 10 November that it will delay filing its 10-Q, and that its results for 2005, 2006, 2007, and the first half of 2008 will have to be restated. It turns out the company failed to depreciate some of its acquired assets at the correct rate, which could result in up to USD8 million being wiped off its net income. SWWC shares fell by more than 36% on the news.

Debra Coy of Janney Montgomery Scott had already downgraded the company from ‘buy’ to ‘neutral’ on 30 October, taking the view that SWWC’s turnaround was proceeding more slowly than hoped for. She subsequently decided that the market’s reaction to the accounts restatement was overdone, and promptly reinstated her ‘buy’ recommendation on the stock on 11 November.