Massive Projects But Heavy Regulation Ahead for Water Companies

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Water infrastructure replacement is becoming a major issue throughout much of the developed world. Most pipes in America haven't been replaced since the 1930s, and in England they are often more than 200 years old. Regulatory concerns have left many of the companies that replace this infrastructure with a cap on the amount of money they can earn, however. These regulations are common due to the fact that it is municipalities (which are government run) that are in need of the upgrades.

The following two American firms are heavily regulated, but one has been taking steps recently to initiate private projects as well. Let's also take a look at one UK firm that isn't as regulated as its American counterparts.

American firms to watch

American Water Works Company (NYSE: AWK) looks to benefit in an industry that is need of repair. The water infrastructure throughout the United States is old and not well maintained. According to a 2007 report from Environmental Protection Agency, updating community water infrastructure will cost an estimated $335 billion. 

As the United States' largest investor-owned wastewater and water utility company, American Water Works looks to be a major part of the national upgrade. It should be noted, however, that the profits at individual companies are limited by the government. In fact, excess returns aren't often allowed. The firm is able to profit somewhat from its projects, of course, and it can gain ground with regulators over how much profit it is able to accrue. Furthermore, the company has the ability to undertake non-governmental projects as well which aren't as tightly regulated.

Aqua America (NYSE: WTR) is growing at a staggering pace. The firm has made about 200 acquisitions in the past 10 years. This is an attractive stock for any investor, and especially those who love dividends. The company has increased its dividends 21 times in the last 20 years, and it now yields 2.32%. 

Aqua America differs from American Water Works because it is laying down new pipes in the private-sector arena which is not heavily regulated. One of these projects is the Penn Virginia Resources Partners project. The project, which was started in 2011, includes 18 miles of pipe that transports fresh water to natural gas drilling initiatives in Pennsylvania. The project is anticipated to bring the company $0.01 per share this year, $0.02 per share in 2014 and $0.04 per share in 2015. 

A UK firm to watch

United Utilities Group (LSE: UU) is Britain's largest water company and represents a reprieve from the heavy regulatory environment of the United States. That isn't to say that the company isn't regulated in England, of course; the company does face some regulation, and has actually sold much of its previously non-regulated operations. UK regulators are simply known to not be as strict as American regulators in regard to capping water firms. Regulators in the UK also typically approve utility rates once every five years, as opposed to those in the United States which are approved once capital is invested. This makes U.S. companies more prone to period increases.

The UK also faces a more urgent need for new water systems. Most of its infrastructure is over 200 years old. According to Morningstar, the UK will invest about £2.2 billion ($3.3 billion) into water infrastructure upgrades by 2017. 

United Utilities becomes even more attractive when you consider that its balance sheet is full of cheap debt that is financed for at least 30 years. Paying off this debt could boost returns in the years ahead. The company has also recently restructured, an action taken to help decrease risk. 

Lots of potential ahead

The massive amount of water infrastructure that is needed in the United States and the UK certainly represents a ton of cash. Before investors get to excited, however, they need to take into consideration the heavily regulated nature of many water companies. I would keep an eye on government spending to see how fast the infrastructure replacement progresses. In the end, however, it is the company that is able to secure the largest amount of private projects that will come out on top.

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Phillip Woolgar has no position in any stocks mentioned. The Motley Fool recommends Aqua America. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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