Thinking of getting into ASX water stocks? Here's what the experts think

Water is an absolute essential for life. Yet, only 1 per cent of the world’s water is clean and accessible.

It comes as no surprise that clean drinking water is one of the United Nation’s 17 sustainable development goals to be achieved by 2030. Clean water, or lack of it, has also been named by the World Economic Forum as a driver of global risk that causes conflicts and mass migrations globally.

Against this backdrop, the water treatment business has grown from something that was meant to help the poor in developing countries, to a genuine investable asset class. And investing in water is no longer about putting money into low growth utility stocks, because the sector is now studded with state-of-the-art technology companies.

It’s also made clean water tech a critical part of the trillion dollar ESG industry.

Financial advisor Geoff Foley of Ord Minnet, who spoke exclusively with Stockhead, believes that water is a space within the ESG sector that will boom over the coming years.

“ESG used to be more of an ethical thing, now we’re talking more about a return on investment. I believe this is going to get more and more traction,” he said.

Best of the bunch

Fortunately, there are more than enough stocks to choose from in the ASX clean water tech sector.

Stockhead spoke exclusively with Hamesh Sharma, a portfolio manager at Pathfinder, based in Auckland. The company actively manages a portfolio of ethically-focused funds that include a Global Water Fund it set up 10 years ago.

For Sharma, his pick of the bunch is a company called De.Mem (ASX:DEM), a stock that’s part of the fund’s portfolio. De.Mem is short for Decentralised Membranes, and is an Australian-Singaporean technology company focusing on decentralised water treatment using membrane technology. The company’s IP-protected technology essentially filters and blocks unwanted constituents from water by using nano-sized pores in the membranes’ structures.

Sharma thinks there are untapped industries that De.Mem could potentially take advantage of.

“In New Zealand, with the big dairy industry, there are a lot issues with lakes and rivers being polluted. So we believe there is an untapped market in this space for someone like De.Mem to enter.”

He also believes that geographically speaking, being next door, New Zealand is the obvious next frontier for De.Mem when it’s done with gaining market share in Australia.

Analysing other water tech stocks

But it’s not just De.Mem stock he’s looked at in this segment. Sharma says his team has analysed other comparable stocks, but still thinks that De.Mem is the most well-run business of the lot.

“We’ve looked at Fluence (ASX:FLC), and they deal with the larger-scale industrial water treatment contracts, which means they’re exposed to large contract wins and losses. They’re also exposed to geopolitical risks.”

Fluence does most of its business in developing countries like China, Southeast Asia, and a current project under way in the Ivory Coast to treat water sources in its largest city, Abidjan.

“De.Mem meanwhile deals in smaller, decentralised, turnkey solutions, so we think that Fluence doesn’t have the same ability as De.Mem to scale up,” Sharma added.

He’s also looked at Purifloh (ASX:PO3) as a possible investment, but thinks there is some difficulty attached to valuing the company at this stage.

“Purifloh currently has no revenue, so it’s hard to compare them with other stocks. I think the stock has been traded like a very early stage technology company. One way you could value it is by looking at money invested by the original shareholders versus current market cap, and work out the multiples.”

Purifloh caught the market by surprise in 2018 when American billionaire Bill Parfet pumped $9.6 million into the company – buying the shares at $2.40 each, when it was trading at 50c in the market. The shares are trading at $1.17 today.

Another water tech stock that Pathfinder has looked at is SciDev(ASX:SDV), a more established company that has more recurring revenues than other players, given that it specialises within the consumable chemical segment.

But Sharma believes that with the recent Capic acquisition, De.Mem has added recurring revenue to the mix, complementing its core single-contract membrane tech business. Having recurring revenue is obviously important for investors, as it represents money already in the bag.

De.Mem made three strategic acquisitions over the last two years – buying German industrial waste water treatment firm Geutec Umwelt-und Abwassertechnik, Tasmania-based Pumptech, and most recently, chemical specialist Capic in WA.

Asked about the current valuation gap between SciDev and De.Mem, Sharma said that it’s natural for SciDev to trade at higher revenue multiples, given its higher recurring revenue base, and the fact that SciDev is a bigger company.

But he reckons this pricing gap will close over time, when De.Mem proves to the market that it can execute on the cross-selling opportunities brought about by the Capic acquisition, but concedes it will take some time.

Foley agrees, saying that the De.Mem’s patented technology hasn’t been priced in by the market.

“The market is only valuing De.Mem’s engineering and chemicals business at the moment, with no value given to the IP component. But what De.Mem has been doing over the last few years is reinvesting cashflow back into its R&D”, he said.

Other water stocks worth considering in the sector include Clean Teq (ASX:CLQ), a water purification company that undertakes significant research and development into the new graphene oxide technology.

Duxton Water (ASX:D20), meanwhile, operates a slightly different business model, owning and managing a portfolio of water rights in Australia, and providing the irrigation community with a broad range of water supply solutions.

Impressive management

Valuations aside, another thing that Pathfinder looks at before investing into small caps is the management, especially those at helm.

Sharma is especially impressed with De.Mem CEO Andreas Kroell, and considers him to be a solid, conservative manager with a strong background in the water industry. He’s also impressed by the fact that Kroell has skin in the game, adding that his fund would never invest in a small cap stock unless the CEO or founder had significant personal shareholding.

That sentiment is also shared by Foley, who thinks that Kroell has executed well on his strategies over the past three years.

“In terms of execution, Kroell has done what he said he was going to do over the past three years, and he’s achieved the revenues consistent with what his targets were,” Foley said.

So, is it good time to jump into De.Mem now?

Sharma thinks so, saying the inflection point happened when De.Mem reached positive cashflow for the first time in the last quarter, but acknowledged that cashflow will still fluctuate over the short term.

“Once it becomes consistently positive, the bigger investors will start to get in. There’s an opportunity now, because we’re still waiting for those bigger investors.”

At Stockhead we tell it like it is. While De.Mem is a Stockhead advertiser, it did not sponsor this article.