Investing in Smart Water Technology with Xylem
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We recently marveled at the rapid growth of an Internet of Things (IoT) startup called Samsara that went from $0 to $6.3 billion in valuation in just four years, quickly dominating sectors like fleet management and industrial automation. Of course, we live in a fantasy startup world where herds of billion-dollar unicorns roam wild, consuming capital, and leaving fairy-dusted turds in their wake. The quest for profit is more elusive than the Holy Grail for companies like Uber (UBER) and WeWork. That’s why we always preach about Dividend Growth Investing (DGI), a simple strategy of putting your money into companies that have a long history of paying and increasing dividends every year. We introduced you to a water infrastructure superstar, Aqua America (WTR), last year. Now we want to talk about Xylem (XYL), a publicly traded company that is rapidly expanding its footprint into smart water technology across the globe.
What is Smart Water Technology?
First, let’s talk about the value of Xylem’s raison d’être – water. As we’ve noted before, water is poised to become the new gold, as an increasingly scarce commodity, whether due to climate change, pollution, and/or overpopulation. (Take your pick. We favor failing infrastructure ourselves.) Consider a few facts from the United Nations on water scarcity:
- More than two billion people live in countries experiencing high water stress.
- About 700 million people worldwide could be displaced by intense water scarcity by 2030.
- A third of the world’s biggest groundwater systems are already in distress.
This is where smart water technology comes into play, and we’re not talking about the smart marketing behind the Coca-Cola (KO) Company’s Glaceau Smartwater brand. Rather, we’re referring to water technologies that use sensors and analytics to create intelligent systems that help consumers, businesses, farms, or entire cities better manage their water utility usage. The sector can be broken down into three broad categories:
The smart water technology market is particularly ripe for innovation, though the industry is quickly being flooded with new players. In 2018, about 17% of U.S. utilities were using “advanced data-mining and analytics” (meaning IoT and artificial intelligence), according to a report this year from Arcadis, an international design, engineering, and management consulting company. The report claimed that 350 companies currently offer digital solutions in the water sector, with more than 65 new launches since 2015. Widespread adoption of smart water technologies developed by these companies could help U.S. water utilities save $17.6 billion through 2027.
Xylem: A Smart Water Technology Stock
One of the companies that would probably be at the top of anyone’s water-related exchange traded fund (ETF) is Xylem, a $14.5 billion company with a short track record but a long history. That’s because Xylem used to be part of ITT Corporation, a century-old industrial manufacturer that once (maybe twice, maybe more) had dealings with Nazi Germany, as well as a hand in a 1973 Chilean military coup. We’ll skip the company’s 2007 conviction on criminal charges related to handing over military-related technologies to our friends in the UK and China and jump to 2011. That’s when ITT underwent a major fragmentation, creating three different entities to focus on various core components of its business.
Thus was born Xylem, a name derived from classical Greek and refers to the tissue that transports water in plants. The company came on the scene worth about $4 billion in October 2011 and has more than tripled its market cap in the last eight years. In 2018 alone, the company took in about $5.2 billion in revenue and $549 million in net income. Those revenues were broken geographically by three regions: the United States (48%), Europe (26%), and Emerging Markets & Other (26%). Compared to Aqua Water, Xylem offers more international exposure which comes with currency risk that the company hedges against.
Xylem’s business can be broken down into three broad segments:
- Water Infrastructure (42%) – focuses on the transportation and treatment of water, offering a range of products including water and wastewater pumps, treatment equipment, and controls and systems.
- Applied Water (29%) – focuses on the residential, commercial, and industrial markets with major products including pumps, valves, heat exchangers, controls, and dispensing equipment.
- Measurement & Control Solutions (29%) – focuses on developing advanced technology solutions that enable intelligent use and conservation of critical water and energy resources as well as analytical instrumentation used in the testing of water.
The percentages seen above are the revenues based on last quarter’s financial numbers with the last segment – Measurement & Control Solutions – having the lowest margins at the moment.
When it comes to overall performance, Xylem has handily outperformed the NYSE Composite Index (see below) for the last five years while showing dividend growth for six straight years.
Albeit, DGI champions boast at least 25 years of continuous dividend growth. Speaking of which, Xylem has a pretty modest dividend yield at 1.22% and low payout ratio of 30.45%. That’s because, at least in part, the company is focused on growing the business, and based on its acquisitions of recent years, its strategy is to be at the forefront of the digitization of the water economy.
Building a Pipeline of Smart Water Tech
The company’s stock started going gangbusters in 2016. That just happens to be the same year that it announced a $1.7 billion acquisition of Sensus, an IoT company that peddles smart solutions in water, energy and related industries, especially in the smart meter category. Another big-ticket pickup was Pure Technologies in December 2017. The nearly $400 million exit gave Xylem a company with some really cool toys that help map and maintain pipeline infrastructure, including a robotic crawler that looks like it’s armed and ready to do battle with your hot water heater:
Last year, Xylem snatched up two more startups. In February, it picked up EmNet, which designs and builds real-time monitoring systems – in other words, IoT networks – for smart water utilities. That same month Xylem also absorbed Valor Water Analytics, which reputedly uses machine learning to analyze water metering systems to find hidden sources of income that might have been missed due to meter-read errors or a little meter tampering. That brings total acquisitions to 11 since Xylem bought its first smart water IoT company, MJK Automation out of the Netherlands, for $12.3 million in 2012.
Making the Case for Smart Water Technology
The New Yawk-based company, which itself builds smart meters among other manufacturing products, has said more than once that the future is in digitization, even producing a white paper on the topic of smart water technology and Xylem’s own strategies and solutions:
The paper also details some case studies from the company’s operations in Europe and the United States to illustrate the utility of smart water tech. Here are a few real-world examples of Xylem helping its customers reap the benefits of intelligent water systems:
- Installed a smart network for Thames Water, a utility that serves London and the surrounding area, with 15 million customers. The system improved network efficiency, identified leaks and ruptures more quickly, and monitored changes in pressure and temperature. The average customer experienced 13% in savings thanks to the added efficiencies.
- In a Pennsylvania town, a newly installed smart network helped discover that what was believed to be a natural underground spring was, in fact, a long-standing rupture in the pipeline that leaked more than 200,000 gallons of water per day, probably costing the city 1.46 billion gallons of water over 20 years. The new network should save the town $2.6 million through 2026.
- The city of Milan installed a smart water leak detection tool along 5.5 miles of the main artery of its water delivery system. The tool found a number of previously undetected leaks that could be indicative of a major failure, catching the problem before it worsened.
Xylem is expected to continue its aggressive push into smart water tech IoT. While the company has not explicitly detailed any additional acquisitions, we thought we’d take a look at a couple of smart water tech startups that recently took funding to illustrate the types of companies that might make interesting additions to Xylem’s portfolio.
Smart Water Technology Startups
Founded in 2012, Apana out of Bellingham, Washington, took in $11 million in April, bringing total funding to $14.5 million. Its low-power wide-area network technology can be retrofitted for any water management system, sending real-time water use data to the cloud where its algorithms analyze patterns and send alerts about water waste. The company reportedly makes money in three ways: selling its IoT and sensor equipment; ongoing revenue from managing the automated service; and licensing fees from partnerships with water meter manufacturers. Customers include the Bellagio in Las Vegas and Costco, which has saved water by 22% using Apana’s smart water IoT solutions.
Founded in 2016, Indiana’s 120WaterAudit just took in $7 million in a Series A last month. The company is focused on helping public utilities, including school districts, detect problems, particularly for identifying areas where lead may be an issue. 120WaterAudit recently announced the addition of a service called Lead Service Line Probability Finder, a predictive intelligence platform that analyzes geographic, demographic, and customer data to pinpoint properties that need to be addressed. Its software and kits are used in more than 150,000 locations in 12 states, representing more than 4.5 million customers.
Conclusion
In a previous article on water tech, we noted that funding was slowly dripping into the space. Fast forward a couple of years and we are seeing more cash being poured into the emerging category, especially with Xylem spending some big bucks to solidify its place in smart water technology, and offering the retail investor an interesting way to play both water and IoT. While investing in socially responsible causes may not always outperform, it’s companies like Xylem that offer investors the sort of return potential that makes investing in ESG themes like clean water as beneficial to your wallet as they are to our planet.
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