York Water has not missed a dividend payment to its shareholders since at least 1819. As of May 7, 2019, the water utility company went on record with its 594th consecutive dividend payment, a quarterly dividend of $0.1733 that was paid to shareholders on June 28, 2019.
For people who picked up the investing bug, companies like York Water were traditionally great investments because they performed in lockstep with the S&P 500 but were an incredible source of regular income to boot.
People tend to discount it during periods of peace and prosperity, but an investment is only as good as it will be during the worst economic conditions that it will face during your holding period. If a risk manifests capable of bringing down a business, it doesn’t matter how many years of compounding you receive if you end up multiplying by 0.
The history of water utility investing has been inherently stable not only because of the obvious everlasting demand for water, but also because the principal risk to the solvency of any company (overleveraging) has not manifested itself due to regulatory limits imposed by public utility commissions that keep debt amounts in check. When you sell an indispensable product, maintain a reasonable balance sheet, and achieve inflation-matching or slightly exceeding inflation earnings growth, you will build wealth.
From a valuation perspective, York Water has typically enjoyed a P/E ratio between 16-20x earnings. This was always a reflection of the company’s earnings quality rather than its earnings growth characteristics. It has grown profits over the past thirty years at a 7% annual rate, over the past twenty years at a 6.3% rate, and over the past ten years at a 5.5% rate. You get a high assurance of wealth protection, and a little bit of growth, from this small company with only a market cap of several hundred million. Considering the dividend usually hovered around 3%, buyers could typically count on investment returns that approximately matched the S&P 500.
But if you learn nothing else from reading this site, you should know that overpaying for stocks with growth rates in the 5-8% range usually leads to disappointment because there is no reasonable possibility of a few years of high growth to bail you out, like you might find with someone who overpays for shares of Disney, Brown Forman, Nike, or Alphabet.
York Water serves 69,000 customers in Pennsylvania and earns a $14.5 million profit while carrying $94 million in debt. This works out to $1.10 per share in profits. At a market cap of $463 million, the stock is currently valued at 31x earnings.
Based upon past trends, I expect that York Water will be earning around $1.50 per share in profits between 2024-2026 and around $2 per share during the 2028-2030 push. If the stock reverts to its fair valuation of 20x earnings, we are looking at a valuation of $30 per share five years from now and $40 per share about a decade from now. Right now, York Water stock is at $35 per share.
Worst of all, it is a moderate growth and high debt company. Half of York Water’s $94 million debt burden will be due within the next five years. Its interest expenses are $5.5 million. If interest rates rise a bit, and the debt gets refinanced at a higher rate, the higher debt payments stand a fair chance of consuming whatever rate increase the Pennsylvania Public Utility Commission permits it to impose upon its customers.
My view is that York Water is the type of income stock that has been purchased by retirees and in some cases, even institutional funds, as a result of the 10+ year stretch without bank accounts and certificates of deposit providing real, meaningful income to its holders. People turn to certain “safe” dividend stocks, utility stocks chief among them, in search of the higher income. The problem is that York Water only gives you 1.9% in dividends while exposing you to all the inherent risks that are inherent in owning shares in a stock compared to a FDIC-guaranteed certificate of deposition, and lower returns are being earned while assuming a higher risk.
When 2030 rolls around, I think the July 2019 investors in York Water (and some similarly-situated utility stocks) will be quite disappointed with their long-term returns because the valuations were elevated above what future growth can bear and future interest rate hikes would both compress the P/E ratio of the stock and also make the refinancing of the debt on its books unattractive for delivering growth in earnings per share. York Water stock is a nice, boutique holding for those who appreciate market history and want reliable income from an unexpected source, but the investors today will earn total returns that dramatically underperform the traditional bargain facing prospective purchasers of this stock.