Ryan M. Connors
Janney Capital Markets
215-665-1359
[email protected]
American Water Works (AWK) reported Q4'13 EPS of $0.47, excluding a $0.14/share one-time charge associated with its completed debt tender offer. This is in line with our estimate of $0.47 and a penny above the Street at $0.46.
Despite challenging winter weather conditions, American Water posted impressive top-line growth of 4.6%, driven by an 8.6% bump in non-regulated revenue and a 4.1% expansion in regulated utility sales.
The operations and maintenance ratio continues its downward march. While the +4.6% top-line growth was marginally below our expectations of +5.3%, O&M expenses came in $14 million below our model due to a 564 basis point (bps) contraction in the O&M ratio (vs. our model at -400 bps).
The company's continued focus on operational execution was again evident in Q4, and management intends to put the freed up funds to work with its five-year capital-expenditure guidance of $5.8 billion, which was revised up from $4.4 billion at AWK's December Analyst Day.
The West Virginia spill impact is estimated at $0.02/share. The Jan. 9 Freedom Industries chemical spill in West Virginia splashed across headlines for the better part of January as AWK saw its water supply infected with a little-known coal-cleaning chemical MCHM. While West Virginia represents less than 5% of AWK's revenue, the company incurred significant costs associated with the event, including (but not limited to) a 1,000-gallon credit to customers.
The company indicates that costs associated with the event should amount to approximately $0.02 per share in Q1'14, and while West Virginia's "state of emergency" designation remains intact, we anticipate that any material operational costs associated with the spill will likely be contained to Q1.
A number of class action lawsuits have named American Water in their filings, but we expect these to result in minimal if any liabilities. In fact, AWK may indeed recoup some of its expenses associated with the spill, as it stands to be one of the largest creditors at Freedom Industries' bankruptcy proceeding.
Management reaffirmed its 2014 EPS guidance of $2.35-$2.45 …, which brackets our 2014 EPS estimate of $2.40. The outlook for American Water regulated ops remains robust, as the company starts '14 with new rates in Pennsylvania (+$26 million annually) and awaits decisions on three others (California, Iowa and Indiana) totaling $58.4 million in additional revenue.
The company has also shown a commitment to build out its market-based ops, winning its 10th contract with the U.S. military at Hill Air Force Base in Utah and expanding its high-margin line protection program with the addition of Maine, Minnesota and Oklahoma offerings in January.
American Water has since closed the gap on a number of key financial metrics that granted it a discount to peers at its IPO in 2008, including O&M ratio and return on equity, and its performance in Q4 highlights it still has room to run in the way of continued structural cost improvements.
The company's continued cost reduction and geographic expansion of market-based operations highlight just two of the number of growth levers American Water can pull to reach its annual EPS growth target of 7-10%, and with shares at 18.3 times 2014 EPS vs. 19.7 times for the peer group, we believe its valuation remains compelling and reiterate our Buy rating.
