Big Spender: Buying Up Water

By Debra Tan 10 December, 2012

Debra Tan on big spenders in the water space - are the savvy investors or villain in the making

Almost every investor I speak to about water risks asks me … “where should I invest?” and then tells me “I’ve not been impressed with the performance of water stocks in the past”. I wish I had a crystal-ball answer; if I did, I would not be writing this article! And yes, stocks did perform miserably in the past (you can read about that here ). But whilst there are those that are umming and ahhing about investing in the sector, there are others who have spent some serious money in this space in the past two years.

According to Global Water Intelligence, 27 deals had been completed by 1Q12 and an expected 75 scheduled to close before the year-end, but none were big-ticket landmark transactions like those closed in 2011. Global water acquisitions totaled US$12.7 billion in 55 deals in 2011. Forbes says this is significantly up from around US$900 million in 2010 but cautioned in the same article that it is hard to tell whether this was a trend or a blip as just two of the 55 deals amounting to US$9.3 billion, made up the lion-share (73%).

Nevertheless, this means that the remaining 53 deals therefore only averaged US$61million each.  So I guess the big spenders Ecolab (US$5.4 billion for Nalco) and Cheung Kong Infrastructure (US3.9 billion for Northumbrian Water) must really know what they are doing…

HK tycoons in the water space

HK tycoons are often considered savvy investors. Li Ka Shing sets the standard here – investing in telecoms before it was even hip, as well as tech investments including Facebook, Siri, Skype and Spotify. So is water the next big thing?

Northumbrian Water supplies clean drinking water to 4.5 million people in England and sewerage services to another 2.7 million. So are municipal water and wastewater treatment the only areas to focus on in the water investment space? Apparently not…

“Hutchison Water is a new operation at Hutchison Whampoa, established in 2008 … offering excellence in execution of a wide range of projects in key strategic areas in the water business”

Hutchison website

Li’s flagship company Hutchison Whampoa Limited, which describes itself as “a leading international corporation committed to innovation and technology” has started a new division …. Hutchison Water. According to its website, “Hutchison Water is a new operation at Hutchison Whampoa, established in 2008 … offering excellence in execution of a wide range of projects in key strategic areas in the water business”.

These key areas are desalination, water treatment, wastewater treatment, water re-use and water tech; basically, the stuff that will contribute to solving China’s water crisis (or the world’s freshwater issues in the future). I read somewhere that Li Ka Shing sees the world as it should be and not as it is …  so it’s hard to believe he has no grand plan here to monetize opportunities arising from a changing waterscape.

New World Development, another well-established HK conglomerate is also focused on water through Sino French Water Development, a partnership between Suez Environnement and NWS Holdings Limited. To date, the company operates 24 contracts in 17 Chinese municipalities serving over 15 million municipal and industrial customers in China. When we spoke with the company in February this year, they only operated 20 contracts. Expansion is not surprising, given executive director, Steve Clark’s view on water tariffs (read this here),

“we see huge potential in China’s water management sector. Every year we have two to three new joint ventures formed in China”

Jean-Louis Chaussade, CEO Suez Environnement

The group appears to also be bullish in the future of water in China. Just last month, Suez, Sino French Water, and strategic partner Chongqing Water Group, agreed to establish the first Environmental Excellence R&D centre in Chongqing, a city of 28 million. The R&D centre will start with a staff of 20 researchers and will focus on innovation in Chongqing’s water, sewage and waste management services. Suez thinks so too: Jean-Louis Chaussade, CEO of the group was quoted in China Daily saying “we see huge potential in China’s water management sector. Every year we have two to three new joint ventures formed in China”.

CIC’s investment in Thames Water, the first of many?

It’s not just the private sector gushing about water, it appears that investment funds are also flowing in. CIC’s (Chinese Investment Corporation’s) investment into Thames Water made headlines earlier this year. The 8.68% stake costing an estimated GBP500 million stirred up nationalistic feelings about UK’s largest water and sewerage company being “taken over” by the Chinese. In reality, most of UK water utilities are already owned/ controlled/ operated by foreign companies from Veolia of France to Singapore’s Sembcorp or Malaysia’s YTL, and of course HK’s Cheung Kong Infrastructure.

So will this trend persist with Chinese water utilities? Unlikely, the probability of Chinese water utilities privatized to the extent of the UK is low. It is difficult to see China’s central governent giving up control over such a strategic asset. Note that watershed sharing agreements with neighbouring countries on transboundary rivers are not even in place (read more here). Which brings me to the topic of water rights…

Buying up water rights for US$100 million – James Bond villain or smart move?

Remember Quantum of Solace when James Bond clashes with businessman Dominic Greene (of the shadowy Quantum organization) who is secretly planning coup d’état in Bolivia by buying up the rights to nation’s water supply? Well, it’s not just a movie plot, it has been and is still happening right now … and not in some far off lawless nation, but in the US where businessmen in Texas have thrown USD100 million into buying up water rights (See 2008 Business Week article “There Will be Water”).

But it is not just individuals, oil companies in Colorado have been doing it too. The Wall Street Journal reported in 2009 that energy companies have acquired the rights to divert over 6.5billion gallons of water a day during peak flow period as they prepare to extract massive quantities of oil from shale deposits under the Rockies. In addition, the companies have acquired the rights to store in dozens of reservoirs, enough water to supply the whole city of Denver for six years. Is this hoarding or is it a smart move to ensure they can extract oil from their shale deposits?

Water rights are also fought over at a state level. This year, the US Supreme Court handed Georgia a win in the tri-state water wars against Alabama and Florida securing the state’s claim to water from Lake Lanier without which Atlanta would be left high and dry. Alabama and Florida (the downstream states) argued that Atlanta was consuming far too much water and leaving too little for them (read more here).

Peter R. Orszag, vice chairman of global banking at Citigroup, and former director of the Office of Management and Budget in the Obama administration, thinks that this is a first in a gathering flood (read his opinion here). We agree – a Supreme Court judgment doesn’t solve the issue. Downstream states will continue to fight  for their allocation of the shared water resource and this fight will accelerate as population and demand for water grows.

Is this likely to happen in China? More on this next year!

Or is being magnanimous with US$100 million a better investment?

HSBC seems to think so. This year they launched a five-year programme to invest US$100million to help transform the lives of more than one million people by providing access to safe water and spearheading water protection projects. Why? Because an HSBC commissioned report by Frontier Economics showed that five out of the world’s ten most populated river basins, which share of global GDP is forecast to rise from 10% today to 25% by 2050, are experiencing water withdrawals that are already above sustainability thresholds.

“without  investment  in  both  water  efficiency  and  water resource management  this  situation  will  deteriorate  further  in  the  decades  ahead, potentially straitjacketing growth in these areas”

Douglas Flint, Chairman, HSBC

HSBC’s chairman, Douglas Flint says in his forward: “without  investment  in  both  water  efficiency  and  water resource management  this  situation  will  deteriorate  further  in  the  decades  ahead, potentially straitjacketing growth in these areas”. So development of such corporate water strategy is not just to demonstrate corporate social responsibility; it is to ensure economic growth and stability in areas of the world where the company operates, where water scarcity and pollution could be a risk to operations. Killing two birds with one stone is always a shrewd strategy. But then again, I seem to remember the villain in Quantum Solace masquerading as a philanthropic environmentalist.

Can’t afford to buy a water utility? Try venture capital

Ok, I am guessing that most of you cannot afford to buy a water utility or have villainous aspirations… you can take solace in the water value-add space which is touted to grow to US$450 million according to Citibank. Venture capital (VC) investment in water amounted to US$224 million in 2011 with an average deal size of US$5.6 million. More affordable but still boring? Someone reminded me recently that water innovation is incremental – “there is no big bang, no home-run” – so if you are looking for big fast returns, water is not the space for you. But that’s not to say there’s no return, otherwise there wouldn’t be XPV Capital, often touted as the first VC firm in the world to focus exclusively on water.

According to Cleantech Group CEO Sheeraz Haji cites companies such as APT Water and Filterboxx as prime acquisition targets to Forbes (see article here). Both companies are backed by XPV Capital, so check out what David Henderson, managing director of XPV Capital has to say about investing in water here. Does he think China’s an important market going forward? Well, China Water Risk spoke at their AGM in Toronto in October.

Listed stocks buoyed by drought

Seems like a paradox, but not… London based, Impax Asset Management Group managing US$2.8 billion in clean energy funds has seen a 44% return in the three years to 31 July 2012, thanks to their water strategy. Bloomberg quotes CEO Ian Simm as saying “we are particularly interested in the water sector … over the past decade, we’ve seen a steady increase in the number of drought-related events around the world, and have been building up our water exposure accordingly”.

The time to shop is now?

Identify a scarce resource; buy it and then figure out how to exploit it – business strategy 101, applicable for both villains and savvy investors. Look what happened to oil … only that water is not like oil. It is a must-have commodity: at 2% water shortage we feel thirsty and a loss of 10-15% of water could kill us. How much will you pay for water then? Suddenly the billions of dollars spent today seem insignificant.

So maybe the time has finally come to “buy water”. Tycoons in Hong Kong, water hoarding oil companies in the US and the world’s local bank, all appear to think so. Plus VC firms like XPV Capital and funds like Impax are all making significant returns so maybe water is finally “sexy”. Indeed, the The HSBC-Frontier Economic report shows that every $1 invested in water infrastructure can deliver nearly $5 of wider economic benefits over the long term, in addition to the social and environmental benefits… now who wouldn’t want to make that kind of investment in this kind of market?