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Be Patient With Mueller Water

Posted: Jul 10, 2009 10:46 AM by Sham Gad

Tickers in this Article: MWA, WLT, HD, LOW

Any successful investing endeavor requires an element of patience. And Mr. Market's emotional tendencies can be exploited if one is patient. Companies that are hurting in the market today may have a bright future ahead of them. That seems to be the case with Mueller Water.

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Boring Is Good
Mueller Water Products (NYSE:MWA) is a leading provider of water infrastructure products in the U.S. It supplies the boring but necessary water infrastructure products we can't live without. The company's three business segments - Mueller Co., U.S. Pipe, and Anvil - have been in business in one form or another for over 100 years.

The company's products include fire hydrants, iron gate valves, iron pipes and cast iron fittings.

All Alone
Mueller's businesses have top market shares. It has the number one market position for fire hydrants, gate valves and ductile iron pipe. And 75% of the company's sales come from products that have number one or two market shares. Its products can be found at home improvement retailers like Home Depot (NYSE:HD) and Lowe's (NYSE:LOW).

The company was spun out from Walter Energy Inc (NYSE:WLT) a couple of years ago. The shares trade for less than $3 down from its all-time high of $19 back in July of 2007. A bulk of Mueller's business comes from the residential side so it's easy to see why the business has been suffering.

In addition, the levered balance sheet along with the intangibles and goodwill on the balance sheet leave the company with a negative tangible book value. But last month the company amended its credit facility, so for now, all covenants are being met. According to the company, the credit amendment was solely to meet debt covenants and not for liquidity purposes. (For more, see Digging Into Book Value)

Patience Is An Investor Virtue
The fundamental economic outlook for the water infrastructure industry is good but it's a long-term play. Nationwide water infrastructure systems are overused. According to the EPA, by 2020 45% of all pipes in the U.S. will be deemed poor. And the American Society of Civil Engineers grades U.S. water infrastructure a "D-". The recent stimulus bill allocates $2 billion for drinking water and $4 billion for clean water.

To be sure, 2009 will likely be a slow year for Mueller. With the residential construction market still sour, don't count on a meaningful recovery until next year. However this is a $300 million company that does nearly $2 billion in annual sales. A realistic profit margin of 2% to 4% implies net income of $40 to $80 million, an attractive valuation for a business with leading market share.

The Bottom Line
The incremental benefit to patient investors is huge. Of course a quality investment that can improve itself also matters. Mueller Water has such a business and at $2.60 a share today, the company may offer riches on tap to investors who can wait out the storm. (For further reading, see Water: The Ultimate Commodity.)

By Sham Gad

Sham Gad is the Managing Partner of Gad Partners Fund's, value inspired investment partnerships modeled after the Buffett Partnerships of the 1950's. Previously, Gad ran the Gad Investment Group and delivered annualized returns of 22% from 2002 to 2005. Gad is also the author of "The Business of Value Investing" which will be out in the fall of 2009. Gad earned his MBA at the University of Georgia in May of 2007. Gad runs a value investing blog. He can also be reached by visiting the Gad Partners Funds site. When not writing or analyzing businesses, Gad enjoys hanging out with his wife Maggie, reading, golf, and yoga

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