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Environmental Business Journal, Volume XXIV, Number 10, 2011
10
Strategic Information for a Changing Industry
WAER RIGHSMARKES KEEPFORWARD MOIONIN CHALLENGEDECONOMY
W
hen EBJ last reported on wa-ter rights markets in the latterpart o 2008, the sense amongindustry analysts and market players wasthat the U.S. market or water rights trad-ing was not living up to expectations. Per-haps or political reasons, reliance on mar-kets to distribute access to an increasingly over-allocated resource, especially in the American West, simply wasn’t catching onto the extent expected or desired, even asinnovative approaches to resource alloca-tion were sorely needed.Tat was about the time the nancialcrisis struck, taking the U.S. and much o the global economy down with it. Te wa-ter rights market was certainly aected, asthe real estate and land development mar-kets were at the center o the debacle (realestate values being historically linked to water rights values).Te recession didn’t change some un-damental acts about water, however. It re-mains essential to lie, with “no substituteat any price,” as water industry analyst Ste-ven Maxwell, president o
TechKNOWL-EDGEy Strategic Group
(Boulder, CO),puts it. Fixed in quantity even as popula-tions grow, water becomes more scarce andever more precious regardless o economiccycles. What’s happened, then, has been a de-coupling o water right values rom real es-tate values, with the prices o water rightsgenerally increasing, even i not uniormly across all regions, while real estate valuesremain depressed. Indeed, or some prop-erties, the associated water rights are
the
primary source o value in today’s market.Even i deal fow isn’t quite what inves-tors would like it to be, “more and morepeople are realizing they have somethingthat’s increasing in value and ndingmore and more ways to move these sup-plies,” says Maxwell. “Lots o armers aremaking more money in terms o presentvalue by selling the water rights than by actually arming. Teir kids aren’t stayingon the arm, so there’s increasing interestin changing water uses rom agriculturaluse, which commands 80% o use today,to municipal use.“I think we’re beginning to see thesemarkets emerge in a ew select areas,” hecontinues. “Investors, brokers, and nascentbuyers are starting to move in, and that’s aharbinger or the uture. Right now, thereare only six to eight trading regions in theUnited States, as well as an active market in Australia. Te reasons they have emerged isprimarily because there’s a severe imbalancebetween supply and demand, and marketsare a way to correct that eciently.”Te market or water rights is thusgrowing, i not explosively. By its nature,that market is now—and is always likely toremain—a very localized market by states, with their separate legal regimes, and moreprecisely by basin jurisdictions, within which actual transactions take place.Te values o water rights are thus very local. Indeed, comparing water rightsprices across jurisdictions is like compar-ing housing prices, says Maxwell. Accord-ing to Maxwell and other water rightsanalysts and consultants, there is also still asubstantial amount o price discovery thatneeds to take place in order to dene themarket.“It remains a very local business,” saysDisque Deane, Jr., chie investment ocerand co-portolio manager at
Water Asset Management, LLC
(New York, NY). Headds, “you need a lot o discipline, andyou need to be to be able to say no. It’sstill a market that needs capital and intel-lect—intellect to shape policies and op-portunities, and capital to be able to undthose opportunities. Te capital is gettingmore intelligent and is searching or moreanswers.” A small number o investment houses,such as Water Asset Management, San Di-ego-based
Summit Water Development Group
(Maxwell is a partner and advi-sor), and
Blackhawk Partners
(New York,NY) are eying the market potential andare building unds to invest in water rightstransactions. Ziad Abdelnour, Blackhawk’spresident and CEO, has gone on recordseveral times characterizing water as “thenew gold,” claiming in March 2011 thatvarious actors, including climate change,industrial agriculture, and rising popula-tions “have increased the global demandor clean water and in turn have pressuredree market economists to suggest that wealthy market players are the most e-cient solution to addressing water issues”(Water-technology.net). According to Chris Corbin, whose rm
Lotic, LLC
(Missoula, M) is a dedicated water rights consultancy, the water rightsmarket is dominated by three trading in-terests: Agriculture, which as noted aboveaccounts or about 80% o all water rightsin the west; environmental interests, whichpursue deals leading to the preservation o in-stream fows, the establishment o wet-land or “mitigation” banks, and other usesdesigned to keep water bodies intact orhabitat protection purposes; and urban in-terests, including energy production.“Te competition between these threesectors drives the markets,” says Corbin.“I you have one o these sectors and notthe other two in any jurisdiction you don’tsee much market activity. Te markets arein select locations where those three driversare in play, or at least two o them.
Water Rights Prcing Trends
Agriculture-to-UrbanLeasesAgriculture-to-AgricultureLeasesAgriculture-to-UrbanSalesAgriculture-to-AgricultureSalesMedian price $74 $19 $295 $144Average price$190 $56 $437 $248Number o trades2042071,140215
Source: Gary Libecap, “Water Woes,” The Milken Institute Review, Q4 2010; Units in 2008 dollars per acre-foot (12Western states)
Environmental Business Journal, Volume XXIV, Number 10, 2011
11
Strategic Information for a Changing Industry
“Colorado, or example, is primarily an agriculture-to-urban market, and willlargely stay that way,” he observes. “Envi-ronmental players have been priced out o that market. Tey don’t have that kind o nancial clout. Te more active marketshave been historically driven by urbangrowth. And since the mid-2000s, thosemarkets have cooled o.”In act, says Clay Landry, managing di-rector and principal o the water rights andadvisory services rm
WestWater Research
(Boise, ID), the recession turned the marketon its head to some degree. With the “massexodus” o real-estate developers rom any actual development, these interests “havebecome a source o supply o rights to themarket, whereas they had previously beenseeking them out,” says Landry. Water Asset Management’s Deane re-calls that, in 2008 and 2009, “we werebeing contacted by real-estate developers who didn’t have much going on in devel-opment, they needed cash, and banks werenot lending—but they had water rights.”One caller, Deane recalls, had ve-year -nancing that he wanted to roll over, with abuilding in a western city that was ully let with good tenants. His note was comingdue, he couldn’t get nancing, he neededto raise cash, so he considered the value o his water rights and called Deane’s rm toexplore a valuation. “Tis happened to usat least a hal a dozen times.”Te market is starting to come back,Deane remarks. “We’re about ready tocome into the marketplace next year witha private equity und. We recently closed aco-acquisition o a 35,000 acre-oot prop-erty that we’re developing or alternativeenergy—or pumped storage. We think there are growing opportunities aroundthat type o development, as part o thesolution to enable alternative energy to bedispatchable.”Corbin believes one hopeul sign is theact that several jurisdictions have put inplace the legislative ramework that willmake the market ready or recovery. Inthese jurisdictions, “they’ve allocated all o the water rights, so as development picksback up, the market will ollow.’Depending on geography, says Landry,“a number o municipalities remain activeas buyers in the market, or the purpose o securing long-term water supplies. Tereare some places where that’s true, and oth-ers where the cities are cash-strapped andunable to spend, and are looking to sell o some o their assets.”Landry arms that the Rocky Moun-tain Front Range is one o the more es-tablished markets, rom Colorado Springsthrough Denver to Fort Collins. “Tereyou see ranches that price the value o theranch based on the water values—some-times accurately and sometimes not,” henotes. “I’ll come in and do that pricing orthem.”
PRICE DISCOVERY NEEDED
He cites as an example o just howmuch price discovery there is to do in themarketplace an instance when one clientthought its water rights were worth a to-tal o $1.2 million.“I did an analysis andound out that the value was closer to$150,000 because there was a limited pe-riod o use.” Although Maxwell sees water rightsprices as going up generally, there’s a loto volatility and variability on a region-by-region basis. “Some asset classes in someareas have shited signicantly,” Landry points out. “Reno prices have dropped pre-cipitously. By contrast, North Platte River water rights have showed steady apprecia-tion over the last ew years. Similarly, someo the supply contracts in Caliornia havecontinued to appreciate. Some have lost30 to 40% o value in a two to three-yeartimerame, while others are appreciating.” According to Disque Deane, “there’s ahuge delta between the industrial and ag-ricultural valuations o water. Industrialinterests can spend $2,000 per acre-oot, while the agricultural interest can spendonly $100 or $200. How do you buy at$500 i you don’t know where you are go-ing to sell it? Tat’s a challenge. I you aregoing to hold or 25 years, you’re okay, butit depends on those types o economics.”Chris Corbin reports that, in Montana’surban market in 2008, which was the mostactively traded permitted market then, “thespread ranged rom a low o $133 per acre-oot to a high o $7,000 per acre-oot.”He adds that “Colorado was the highesttraded market at about $6,000, and Idaho was the lowest, down around $100. Gen-erally speaking, urban use drives the high-est values.”Corbin cites a 2010 paper in whichGary Libecap, an economics proessor inthe University o Caliornia-Santa Barba-ra’s Bren School o Environmental Scienceand Management, suggests that the marketaces signicant challenges in determiningconsistent pricing or water rights.“For a whole host o reasons—every-thing rom the act that it is a both a pri-vate and public good to the reality thatit can be consumed by multiple partiessimultaneously—water ts uneasily intextbook models o market allocation,” Li-becap wrote in “Water Woes” (
Te MilkenInstitute Review
, Fourth Quarter 2010).“Indeed, the interconnected, overlappingnature o water demands and uses explainsin part why various stakeholders have re-sisted letting markets work their magic.”
POSITIONING FOR REBOUND WHEN THE MARKET PICKS UP
Corbin reports that a lot o his work isinvolved with positioning water assets inthe marketplace. “When the market picksback up, people are going to need therights. You don’t want to go through all o the administrative bottlenecks then. You want to position the asset.”He notes that when he launched Lo-tic in 2009, he’d thought that most o his work would have been in deals. In act, hesays, “most o the work has been ocusedon getting the rights positioned.”Corbin has private-equity clients andlarge landowners with portolios o waterrights, “and their question is, what do Ihave, and how should I use it? Should Imarket these rights, perhaps change themto in-stream fows? Other clients may bebuying a property, and they’ll call me in toassess their assets.”Tere appear to be ew companies, likeLotic and WestWater, that are dedicated water rights consultancies. According toCorbin, water rights attorneys dabblein the deal side, while larger engineeringrms might explore water rights trading
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