Water scarcity is a growing problem in the world as more and more regions lack fresh water. According to the World Economic Forum, this will prove one of the world's largest problems over the coming decades; 700 million people have no access to water and the number is expected to explode to 1.8 billion in only 10 years.
Recently, Cape Town experienced a potential catastrophic water crisis with a Day Zero event previously projected for mid-April when 4 million homes would lose access to water supply. This projection has now been moved forward to mid-July, but the overall problem remains.
The imbalance between supply and demand is expected to get worse over time due to population growth, urbanisation, industrialisation, depletion of groundwater sources, and inefficient water infrastructure.
Water infrastructure is one of SaxoStrats' big themes for the future when we travel around the world talking to clients. The problem for the investor is that investing in water infrastructure is difficult to do in the form of a pure bet... there are several ETF options with the one from Guggenheim being the largest. The problem is that investors often get access to water utilities running on old technology or industrial companies with some water technology exposure.
Water supply is highly regulated as it's perceived as a public good often with a fixed price. In theory it should show very little correlation to economic or market fluctuations, but all of the ETFs tracking water infrastructure have high correlations to the general equity market making water investments mostly an overall equity market play.
Within water infrastructure, desalination technology has the most potential to solve global water scarcity as the technology can tap into the oceans to provide fresh water for the growing population. Desalination is used the most in Saudi Arabia, United States, UAE, Spain, and Kuwait. Most of the current capacity is run in old plants with old technology and is fragmented across many providers.
Recently Israel has had success cutting the cost of desalination with their newest plant (called Sorek), which supplies almost 20 % percent of Israel's water consumption. The plant is the biggest in the world and uses reverse osmosis technology. The RO membrane processes use semipermeable membranes and applied pressure (on the membrane feed side) to preferentially induce water permeation through the membrane while rejecting salts. Reverse osmosis plant membrane systems typically use less energy than thermal desalination processes.
The Sorek plant has been able to cut costs down to $0.58 per cubic metre of water, which is equivalent to one person's consumption in Israel per week.
The most pure play on desalination technology in public markets is AquaVenture which gets 48% of its revenues from operating desalination plants through its Seven Seas Water (SSW) subsidiary, often acquiring old desalination plants and upgrading them to newer technology so as to reduce the cost of producing fresh water.
SSW has long-term contracts ranging from 10-20 years with local authorities in the regions they operate. SSW operates desalination plants mostly in the Caribbean and South America (Peru and Chile), but also has one operation in Saudi Arabia. The remaining revenue comes from the Quench subsidiary which provides bottleless filtered water coolers and other products that use filtered water as an input – such as ice machines, sparkling water dispensers, and coffee brewers – to customers across the US.
Revenue was $121 million in FY2017 and EBITDA was $23.4 million translating into an attractive EBITDA margin of 19.3%. American Water Works, which is the largest US water utility, has an EBITDA margin at around 50.6% so there is upside potential from economic scale and improvements in desalination technology.
While American Water Works grew revenue by 1.7 % in 2017, AquaVenture grew its revenue by 8.4%. We forecast that the growth rate in desalination will be much higher than in traditional water utilities (using traditional groundwater resources) over the coming decades as scarce water will only be resolved through tapping into our ocean.