Wednesday, February 20, 2002

The Water Business Boils Down

NEW YORK - Consolidation was kind to shareholders of American Water Works. Last September, the company announced an offer from Germany's RWE to purchase outstanding American Water shares at $46 each, a 35% premium to their closing price just prior to the offer.

Are more such acquisitions in store for the U.S. water business? Yes, according to Hans Peter Portner, manager of the Pictet Global Water Fund. The fund invests in companies with at least 20% of revenue derived from water activities: production, services and related technologies.

Portner sees two forms of consolidation on the horizon. The first is a trend toward privatization of America's 55,000 community water systems. The most likely model, he contends, will be "public-private" partnerships between municipalities and leading water companies such as Suez (nyse: SZE - news - people ) and Vivendi Environnement (nyse: VE - news - people ).

This model has taken hold in Europe, and Portner sees a fit for the United States. He argues that municipalities will need private water companies' financial muscle to upgrade community water infrastructure. His assertion finds support in estimates by the American Water Works Association, which foresees a need for $325 billion in capital spending on water distribution over the next 20 years.

Second, Portner thinks water giants will also snap up midsized companies that provide water-related technologies such as membrane filtration, ultraviolet-light disinfection systems, and consulting and engineering services.

So how to spot the likely targets? One means is the enterprise multiple, or the ratio of a company's enterprise value divided by its earnings before interest, taxes, depreciation and amortization. Enterprise value--the sum of a company's market capitalization and total debt, minus cash and marketable securities--makes a good proxy for the minimum price an acquirer must pay.

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