Mueller Water Products rides climbing stock price

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Mueller Water seems to be on a winning streak after divesting U.S. Pipe and inking a potentially gamechanging metering deal with American Water. How far will this previously sluggish stock go?

Mueller Water Products is enjoying a bit of a rebirth. Following a contract win with American Water and the divestiture of U.S. Pipe, analysts now see Mueller stock well within reach of $5 per share. Following the release of its 3QFY2012 results, Mueller’s stock rose from $3.57 to as high as $3.90, closing at $3.65 per share on Aug. 1. Earnings per share also beat many analysts’ expectations. Based on these recent wins and a nascent economic recovery, Mueller looks poised for continued growth. But what can it do to sustain that growth, and how much of it will depend on indicators beyond the company’s control?

Following the divestiture of U.S. Pipe, Mueller has seen increases in sales and operating income, with net income of $9.8 million in 3QFY2012 – the first positive net income result of the fiscal year. Earlier losses cast a long shadow. The company has faced a historically slumped market as it has incurred debt from expanding production capacity at subsidiaries Mueller Systems and Echologics. In its fiscal second quarter, however, Mueller made an effort to address this, paying down $48 million in debt.

Mueller CEO Greg Hyland is optimistic. In a conference call following the release of Mueller’s 2QFY2012 results, he pointed to rising construction activity. “The signs we are seeing are the most positive ones we have seen in the last couple of years,” Hyland remarked.

Michael Gaugler, senior vice president at Brean Murray Carret & Co., affirmed that assessment, and thinks Mueller has a bright future.

“You’ve got the improving balance sheet. You’ve got better nonresidential construction market, where margins are better than in the municipal business,” Gaugler said. He also cited slowly rising real estate prices, which will boost tax revenues collected by municipalities.

On the industrial side, Mueller Systems recently won a contract to supply American Water with its water meters/metering systems. An exact dollar amount, contract length and unit amount have been kept under wraps. Gaugler estimated in a recent research note that Mueller could provide the majority of the 300,000 meters that American Water replaces annually, and an option exists to postpone the contract’s expiration date as late as 2016.

“[The contract] increases capacity utilization,” Gaugler said. “They have the capacity now to meet what they would consider the maximum value of the contract.”

Mueller is banking on using that extra capacity to fuel more contracts. During the May conference call, Hyland said he believes that Mueller Systems and Echologics’ revenue could account for up to 30 percent of Mueller’s entire sales in four to five years, but that the projection is “entirely dependent on the timing of anticipated orders.”

Those anticipated orders will depend on overall market conditions, economic indicators and commodity pricing, noted Brent Thielman, senior analyst with DA Davidson.

“If you think about the pressure on earnings from the past few years, we saw a crash in commodities, and then acceleration to almost historical highs and one of the worst construction markets we’ve seen in decades. That puts a huge burden on any supplier, and Mueller falls into that camp,” Thielman said. Copper, a critical commodity for Mueller, hit a 2011 high of $4.61 per pound but trades at an average of $3.40 today.

Even with past challenges, Thielman and Gaugler think that Mueller’s stock can hit $5. Thielman said new demand and more contracts will get them there.

Gaugler’s sentiment was similar. “They’ve got the wind at their back. They ought to put up some decent numbers,” he said.