Watts Water Systems (WTS) is a provider of market-leading brands in water solutions, with annual sales of $1.8 billion in 2021, explains Gavin Graham, contributing editor to The Income Investor.
Its divisions provide the highest level of performance in the safeguarding of water systems, driven by code and certification, address energy efficiency needs by offering the most efficient conversion of energy sources into heat and hot water, and deliver drainage and pre-treatment systems that help with water conservation projects.
North America recently accounted for 67% of sales, with 29% in Europe, and the remaining 4% in Asia Pacific and the Middle East.
Watts is an excellent play on the continued growth of infrastructure spending on water projects, which was the first area to be mentioned in the infrastructure bill. Watts estimates the market opportunity could be as large as $15 billion, of which it only has 12% at present, and the opportunities are well diversified by both geography and type of end market.
Commercial systems make up 55% of revenues include restrooms, irrigation, water quality and safety, drainage systems, fire protection systems, commercial kitchens, and boiler and mechanical rooms which are more complex and larger.
Watts has an unmatched range of products for the 45% of revenues derived from residential, which include, driveways and irrigation, bathrooms, laundry rooms, kitchens and boiler rooms with such brands as Watts, Tekmar, Suntouch, Dormont, and Febco.
Watts is strongly positioned in a very stable industry in pumps, valves, and water systems, which are hardware that must be maintained and replaced on a regular basis.
Watts has been a strong cash generator, with no net debt, a 14.3% operating margin, up 2.4% in the last five years, and a 16% return on invested capital, which has doubled in the same period.
Watts reported record fourth-quarter and full-year results as of Dec. 31. Revenue was up 20%, to $1.81 billion, for the year, and net income was up 45%, to $165.7 million. Adjusted earnings per share were up 42%, to $5.52.
The company has forecast 3%-8% organic revenue growth for 2022, with operating margins of 14.3%-14.7% and free cash flow equivalent to 90% of net income.
Watts has tended to reinvest heavily in its business, with dividends of $0.26 a quarter representing a yield of 0.7%. This has grown 7.3% annually over the last five years. It has repurchased $108 million of its shares over the same period.
While its valuation is in line with the market, with a price/earnings ratio of 26, it has demonstrated an ability to consistently grow its revenues and earnings over 15% annually. While relatively small, with a market capitalization of $4.9 billion, it has no debt and a strong record of cash generation, which it uses to fund its growth.
Action now: Buy at current prices for a low-risk way to play the coming wave of infrastructure spending in the US and Canada.
