The Prudent Investor


A Decision On Which Water Utility To Purchase
February 27, 2007, 1:12 pm
Filed under: Water Utilities

At the beginning of the year I started on this two month journey to decide which company would find its first place within my new portfolio. I knew that it would be a water company, but had no idea where the chain of decisions would lead. I finally have an answer.

Either company, California Water Service Group (CWT) or SJW Corporation (SJW), would make an excellent addition to a conservative portfolio, where the intention is to purchase for the long term. I have neither the time nor desire to make trades that last only a few weeks or months, and having taken almost two months to decide which company will begin the portfolio, buying for the short term would make no sense whatsoever.

In addition, many of the other eight companies I removed from consideration would also work nicely as investments. As previously stated, I currently hold Aqua America in a Dividend Reinvestment Program, and having enjoyed a double over the past few years, have removed the initial investment and am now playing with the bank’s money. If the company I now select does that over the next few years then I will be overjoyed, but I hardly expect that to happen.

In the last article I gave SJW a slight nod. There are final factors that I have taken into consideration that have made the decision for me, and the first is the dividend.

Both companies offer a dividend yield. CWT’s Trailing Annual Dividend Yield is 2.8% while SJW’s yield is only 1.6%. Both companies have a long history of increasing dividends, which is always a good thing to see for the long-term investor. A 1.2% difference in the dividend yield is certainly significant and can be meaningful when selecting a company.

Initially, the 1.2% dividend yield was very meaningful in my comparison, but this quickly evaporated for two reasons.

The first reason came when I looked at the dividend increases over the past decade. Whereas CWT has increased its dividend 10% over that period of time, SJW has increased theirs almost 60%. This is not to suggest that SJW’s dividend yield will surpass that of CWT any time soon, but to see a company increase their dividend so much over this period of time is very comforting.

CWT - SJW Comparison

The most significant element, however, comes from an understanding of the dividend yield – it is the dividend divided by the share price. That said; let’s look at a comparison of the share price over the past year. As you can see above, the value of CWT (the black line) has remained relatively flat, while SJW (the red line) has gone up over 40%. A year ago SJW’s dividend yield was 2.2% and CWT’s dividend yield was 2.7%, not nearly as much of a difference. The disparity in the yield was the result of incredible success with the stock price, so SJW has a nicely rising price with the comfort of a dividend – CWT only has the latter.

The second factor comes from the fact that SJW has been successful, albeit in a small way, with their real estate business. I am looking to purchase a water company, and both under consideration are water companies. However, SJW has a small advantage in slightly diversifying a small portion of their company in a successful manner. It is that small, extra bump that I like. Were their land division larger than the 1% it currently holds then I might have tossed the company from consideration. Indeed, I do expect this portion of the company to be a larger part of the whole, but seriously doubt that it will take on a major role. This small chunk of risk is quite appealing.

So my decision has been made to purchase SJW. The concern I presently have is that it may have gone too far, too fast. Again, look at the chart – it made a straight line up, then since the beginning of the year it has fallen back. If I were considering a single purchase then this would be a real concern. However, as I will be making multiple purchases over a long period of time, if I purchase now and it continues to pull back, then making more purchases means that I will get a better price. By planning multiple purchases, I remove much of the problems involved with timing, and reduce my risk.

Next post I’m going to take a breath, gather my wits, and move forward with the first purchase. On Friday I sent a check to Zecco.com to fund my account, and when that money becomes available, I will make the purchase.



Comparing California Water Service Group And SJW Corporation
February 22, 2007, 9:05 am
Filed under: Water Utilities

When I began this journey of comparing companies, I had no idea where it would take me. That is a good thing because it removed me from preconceived ideas as to where I should end up. As it turns out, the two remaining companies, California Water Service Group (CWT) and SJW Corporation (SJW) are equivalent in many areas.

The share price and market cap are close to one another. CWT holds a significantly higher Price/Earnings ratio than SJW, but the numbers are switched when looking at the Price/Sales ratio. The PEG is roughly equivalent.

I returned to the 10-Q filings for each company in the hopes that I would find something that stuck out. Examining the Income Statement for the past three months year over year, I found the Operating Revenue and Net Operating Income to be very similar, and the resulting Diluted Earnings Per Share to have dropped by the exact same percentage.

Moving to the Cash Flows Statement, I thought that I had found a major difference in the nine months year over year comparison when I noted CWT’s large loss in Receivables (whereas SJW had an increase in that column). However, when I got to the bottom of the table I found the Cash and Cash Equivalents to have changed very similar to one another.

One thing I did find on Yahoo Finance was a valuation of each company’s Corporate Governance Quotient. According to this, CWT is is better than 56.6% of Russell 3000 companies and 20.2% of Utilities companies and SJW is better than 98.8% of Russell 3000 companies and 83.9% of Utilities companies. This is a big difference, and something to keep in mind, if only in the back of the mind. The reason I say this is that if you click on the above link and enter “Corporate Governance” into the search engine (including the quotes, so that the full string is evaluated) in an attempt to get an idea as to exactly what Yahoo’s Corporate Governance valuation actually indicates, Yahoo has no idea. So this is potentially good information – I just wish I knew what it meant.

A resource I sometimes use is analyst recommendations. My account at TD Ameritrade offers a number of such reports, so I decided to see if they were willing to help select between these two companies.

I normally look at three reports, TheStreet.com Ratings Report, Standard & Poor’s Stock Report, and Ford Equity Research Rating Report. There is no need to go through all of the numbers here, the bottom line pretty much says it all. When I looked at the reports for CWT I saw immediate disagreement – TheStreet suggested a Buy, S&P had no opinion and Ford offered a sell. Looking at SJW I saw pretty much the same, TheStreet telling me to buy, S&P without an opinion, and Ford suggesting a hold. Not as helpful as I would have wished.

Another route I have to taken, in this regard, is research offered through my account at Siebert. It is too bad that they make their login process impossible to remember, or I would use their service much more frequently. One research offering I use on occasion is Validea. It utilizes the valuation methods used by such individuals as Peter Lynch, James O’Shaughnessey, Kenneth Fisher, and others. Although some “gurus” methodologies I do not find useful, I do like their take on looking at a company the way a certain individual might.

As far as Validea was concerned, SJW was certainly the superior company. Of the eight ways at valuing the company, six preferred SJW over CWT, so it appears that there is actually a consensus here.

So at this point I would give SJW one and a half points over CWT – one point for Validea’s consensus, and half a point for the unknown Yahoo Corporate Governance numbers.

Next post I will make my final decision as to which company will be purchased.



How Do California Water Service Group And SJW Corporation Make Their Money?
February 20, 2007, 8:54 am
Filed under: Water Utilities

Before we get to the comparison, we should examine exactly how each company makes their money. First, the description of California Water Service Group, as found on Yahoo Finance.

California Water Service Group (CWT), through its subsidiaries, operates in the water utility industry in the United States. The company engages in the production, purchase, storage, treatment, testing, distribution, and sale of water for domestic, industrial, public, and irrigation uses, as well as for fire protection. It also provides non regulated water-related services, including water system operation, billing, meter reading, lab services, water rights brokerage services, and communication antenna sites leasing under agreements with municipalities and other private companies.

As coincidence would have it, approximately 6% of CWT is owned by SJW Corp., the other company in this comparison. Perhaps that tells me that I am in the right ball park. <g>

California Water Service Group (the Company) is a holding company with five wholly owned subsidiaries.
1. California Water Service Company (Cal Water),
2. Washington Water Service Company (Washington Water),
3. New Mexico Water Service Company (New Mexico Water), and
4. Hawaii Water Service Company, Inc. (Hawaii Water)

provide regulated utility services and

5. CWS Utility Services (Utility Services)

provides non-regulated water utility and utility-related services.

CWT is a pure water play without any extraneous divisions. The revenue from each segment consists of monthly cycle billings for regulated water and wastewater services at rates authorized by the Commissions and billings to certain non-regulated customers.

An understanding of SJW Corp.’s income involves more than just water. First, the description of SJW Corp. from Yahoo Finance.

SJW Corporation (SJW), through its subsidiaries, engages in the production, purchase, storage, purification, distribution, and retail sale of water in the United States. It provides water service to customers in the cities of Cupertino, San Jose, Campbell, Monte Sereno, Saratoga, Los Gatos, and Santa Clara. The company also provides non regulated water-related services, including water system operations, billings and cash remittances, and maintenance contract services. In addition, it owns and operates an eight acre surface lot parking facility, commercial properties, undeveloped real estate properties, and warehouse properties in the states of Florida and Connecticut; a retail property in the state of Texas; and holds a 70% limited partnership interest in 444 West Santa Clara Street, L.P. Further, the company engages in the sale and rental of water conditioning equipment in the metropolitan San Jose area.

SJW is a holding company with four subsidiaries:
1. San Jose Water Company, a water utility operation with both regulated and nonregulated businesses,
2. SJW Land Company, which operates parking facilities and commercial building rentals,
3. Crystal Choice Water Service LLC, a business providing the sale and rental of water conditioning and purification equipment (of which SJW Corp. owns 75%), and
4. SJWTX Water, Inc. doing business as Canyon Lake Water Service Company.

SJW is not a pure water play, but how much is it not? What is the significance of its land enterprise?

It is important here to understand how important each segment is to the organization as a whole. From the September 30, 2006 10-Q report, the operating revenue of each company breaks out as $61,803,000, $1,070,000, $246,000, and $63,119,000. On a percentage basis we see this as 49%, .8%, .2%, and 50%. Looking at the percentage of total assets each commands, this comes to 43%, 3.6%, 3.3%, and 50% (small rounding error). Clearly, the non-water portion of the whole has little significance.

Or does it?

When I compare the increase in total assets for each segment for the three months year over year, I see 11%, 21%, -10%, and 10%. Clearly, the land portion is being seen as gaining in significance. In April SJW sold land to Adobe Systems for $25,000,000 – not an insignificant amount. The company still holds half a dozen other properties, from three commercial buildings in San Jose Metropolitan to two warehouses on 25 acres of land in Florida and Connecticut. They have received approval from the City of San Jose City Council to develop eight acres of property into 325 high-rise residential units and about one million square feet of commercial real estate.

So while the percentages mentioned a couple of paragraphs above are small when compared to the whole, they could result in a significant amount in the future.

Now that we know how each company makes their money, we look at a head-to-head comparison in the next article.



Removing Middlesex Water Company
February 15, 2007, 7:59 am
Filed under: Water Utilities

There are positive things to be said about Middlesex Water Company, and I can understand one’s decision to add it to their portfolio. I wish that Investor Relations had responded to my request for information, as the possibility of a 5% break on the stock price, combined with a 3.6% dividend yield, is quite appealing. “Back in the day” when I was writing for The Motley Fool, I wrote about companies that offered a discount on purchases through their DRiP. When used as the sole criteria for selection, this worked as a poor idea, but for an excellent company it was icing on the cake.

For me, the primary component that discourages me from selecting the company comes from its capitalization. Unlike American States Water, which noted in their 10-Q that their revenue was not going to keep up with their expenditures, Middlesex Water Company does not state this, but implies it in their latest filing. Their request to issue an additional one and a half million shares of stock acts as a dilution to current shareholders, and their application for an additional five million dollars of debt only serves to increase their Debt to Equity ratio (currently at 1.4, which is higher than I would like to see).

Their stock price has stagnated over time, and we are looking to make purchases over time. Although it has had its ups and downs, the price is essentially the same now as it was five years ago (the 52 week change at this point is 0.2%). This is why the question surrounding the possible break on purchase price through their Dividend Reinvestment Plan was so important. A negative Leveraged Free Cash Flow, which is the free cash flow following payment for the interest on debt and the dividends to shareholders, does not help its case.

Nor does current litigation against the company help its case. All companies have to deal with litigation as part of their operations, but there is a potential that 68 community systems which Middlesex Water Company serves may be forced into corrective action, which would require the issuance of even more debt and or stock.

These concerns combine with the fact that this is a small ($220 million Market Cap) company, and that is the rub. The smaller the company, the bigger deal concerns of this nature becomes.

So for these reasons, I am removing Middlesex Water Company from my list of consideration.

This narrows the initial group of ten down to two companies, California Water Service Group and SJW Corp. Next week I look a little more closely at these two companies in an attempt to decide which will be selected for a multiple long-term purchases.



Removing American States Water Company From Consideration
February 13, 2007, 9:47 am
Filed under: Water Utilities

It is not possible for me to emphasize how important it is to understand what is going on in a company. A case in point is Enron. We all know what befell Enron, but let me take you back to a time when it actually was an excellent company.

I made my first purchase of Enron in 1997 when I was looking to purchase a utility company. I looked at their annual report and understood how they made their money, and quickly understood why they had become the largest supplier of natural gas in North America. I did have some concerns, however, and wrote Investor Relations. I received a prompt answer from them. They addressed those thoughts and I opened a Dividend Reinvestment Plan.We all know what happened later. It became much more difficult to understand where their money was coming from (or at least where their reported money was coming from), as the information they offered in their quarterly and annual reports were broken apart to the extent where it was no longer understandable. I again contacted Investor Relations and the information I received did not give me comfort. If I had been a little more experienced, I would have sold at that point. However, I waited until the price dropped and resulted in a small loss for me (fortunately, I did not wait until it plummeted towards its bottom).

So what had actually been an excellent company turned into the disaster we know Enron today. As an investor, the difference in my feelings about the company came when I began to lose confidence due to legitimate concerns I had identified, and had I acted on those concerns then I would not have seen a gain turn into a loss.

This is why knowledge and comfort are essential to me in the selection of a non-speculative stock. My concern with American States Water Company has to do with the numerous Form 4 filings indicating officers selling their shares, and the numerous Form 4-A filings, which are adjustments to previous Form 4 filings.

An officer selling shares of their company does not necessarily constitute a negative event. An example can be seen with the many Form 4 sellings of SJW Corp., which are probably due to the incredible increase in stock price it has seen over the past year – I would also be taking profits. Also, Form 4-A corrections are not necessarily a negative thing – mistakes can be made, and corrections are necessary.

However, never receiving an answer from the company’s Investor Relations department is a real concern. Were they to give me an explanation as to what is happening then it would not be difficult to give me comfort. However, without this information, I can only envision a disaster befalling the company, and wishing that I had had knowledge of the reason at a time when I could have had this knowledge.

The thing that forced me into the decision to remove it from the list came from a re-reading of the 10-Q, where they state that their future expenditures will exceed their cash. They will cover this through the accumulation of more debt and the issuance of more stock, thus diluting the currently outstanding shares.

So these concerns force me to remove American States Water Company from my list of considerations.

On Thursday I am going to remove one more company.



Another Look At SJW Corp.
February 8, 2007, 11:26 am
Filed under: Water Utilities

SJW Corp’s website is located at sjwater.com. Its beginnings date back to a time just after the Civil War, so this is a company that has been around for a while. Their 10-Q was filed early in November, so I expect to see another one soon.

Unfortunately, SJW does not have a Dividend Reinvestment Plan (DRiP), but they do allow employees to make purchases at a discount (not that this helps me). These shares have been set aside and the program will continue until the shares are exhausted. I mention this because this is markedly different from Middlesex’s plan to continually issue shares in their DRiP. SJW Corp. has stated that it does not anticipate the issuance of equity to finance capital expenditures.

I was initially concerned to see a great many Form 4 filings where officers were selling their stock. However, when one looks at the company’s stock price, which has gone from around $25 to about $40 in the past year, this is quite understandable.

SJW Corp. is a holding company with four subsidiaries. The major portion of the company involves itself in water distribution; the other segments are involved in the ownership of land, the sale and rental of water conditioning and purification equipment, and even a 6% ownership of California Water Service Group, another company currently under consideration.

The only real concern I have at this time is that the company’s price may have risen too far too quickly. That said, if I was looking to make a single purchase then this would be a major concern. However, I am considering making numerous purchased over a long period of time, so the current valuation is not as much of a concern in this instance.

Next week I am going to further narrow things down to allow me to come to a decision as to which company is going to act as the first company in this portfolio.



Another Look At Middlesex Water Company
February 6, 2007, 9:36 am
Filed under: Water Utilities

The Middlesex Water Company’s website is located at middlesexwater.com. Having worked as a Webmaster for the past seven years, I promise to keep my opinion of the company separate from my feelings of the company’s Webmaster – when I visit a website that resizes and repositions my browser I get a sickening feeling in my stomach. The website importantly displays its Mission Statement on the home page, and I would copy and paste it here except that they decided to display it as a picture, for some reason.

The latest quarterly report filing dates back to October 2006, so I would like to know why a more recent filing is not available. In the management’s discussion they spend time talking about how they will be raising capital to cover numerous costs for upgrades and maintenance. As the company maintains a 1.4 ratio of debt to equity, it is not comforting to see such a small company decide to take on more debt. One of the means by which they raise capital is by issuing stock through their Dividend Reinvestment Plan (DRiP) (more on this in a moment). This is a negative to the holder of the company’s equities because it dilutes the value of the stock, which is probably one reason why the stock price is currently the same as it was a year ago.

Speaking of their DRiP, I was initially interested because they noted that it was their discretion to offer stock through the plan at a 5% discount. Back in 2000 I wrote a weekly column for The Motley Fool, and one of my articles dealt with purchasing stock at a discount through a DRiP. I found this to not be a good idea when the basis for the company’s selection was this discount – after all, there is a reason why the company does this in the first place (if the company issues stock in this manner then they are getting a cheap loan). On the other hand, if the company is selected for other reasons and this discount is the icing on the cake, then it could be a nice present. I wrote Middlesex to clarify this a week ago. When they talk about their “discretion” I am wondering exactly what that means – does it mean that they did it once, they always do it but may end the practice, or something in between. Unfortunately, I have yet to receive an answer from them.

So whereas I am not going to toss the company from consideration, there are several concerns that need to be addressed before I seriously consider purchasing this company.

I will finish this section of examination next article with a look at SJW Corp.