IOUs are safe bet for water systems. Heckmann s power move. Coal crackdown. Metal health. Driving forces

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1 Volume 3/Issue 10/October company news Heckmann s power move Dick Heckmann explains how his company s proposed merger with Power Fuels will help it become the Halliburton of environmental solutions for shale oil & gas drillers. pg8 market analysis Metal health The steel industry is recovering from its postrecession trough, but is it enough to boost the water and wastewater treatment market? Pg14 regulation IOUs are safe bet for water systems A new AWI analysis of EPA Safe Drinking Water Act enforcement data shows investor-owned utilities record on health-related violations is nearly spotless. pg10 market analysis Coal crackdown Regulations could be a blessing and a curse for wastewater treaters serving the coal mining and preparation industries. Pg16 insight Driving forces Water sector leaders explore the effects of dry weather conditions and the recent housing market recovery on the water sector. Pg18 features and commentary tracker updates Detroit Biosolids Facility Dryer, MI: Bids are due Oct. 30 for this $157 million DBOM contract. Dublin Road WTP Expansion Phase I, OH: Bids are due Oct. 18 for this $40 million project. Turn to page 36 for this month s tracker: $353.8 million in new projects and $3.6 billion in updates. American Water Awards shortlist AWI announces the nominees for the first-ever American Water Awards, which will be decided at the American Water Summit in November. pg23 Debra Coy The S&P 500 has risen nearly 15 percent since early June, and small cap and mid-cap stock indexes have been even stronger. Toward the end of September, however, broad market indexes starting giving back some of these gains. pg20 Wes Strickland State courts in Arizona and Texas have issued important decisions regarding water resources, one favoring the successful resolution of water right adjudications and the other potentially harming groundwater storage projects. pg21 Alexander Miles Water is a key risk factor for corporations, governments and investors when contemplating strategic initiatives and assessing risk and stress models. How will we fund demand in a capitalconstrained world? pg22

2 Service value responsibility It s what you expect from the global water industry leader. Get the latest environmental management tips from our Wave

3 CONTENTS Attention current subscribers: If you are not receiving the PDF version of AWI and/ or the project tracker spreadsheet via due to spam filter settings, please add globalwaterintel.com to your safe list or contact Zachary Roesch at globalwaterintel.com. three questions...4 What would a Romney presidency mean for the water sector? Should public safety be a rallying cry for a future one voice for water campaign? Has Heckmann Corp. averted disaster by buying Power Fuels? CHART OF THE MONTH...5 NEED To KNOW...6 Heckmann seeks market dominance with new union...8 The proposed merger between Heckmann Corp. and Power Fuels will create a $700 million juggernaut if approved. Data shows IOUs are cut above in SDWA compliance...10 Investor-owned water utilities have a near-perfect record when it comes to avoiding EPA health-related violations. Water firms benefit from steel industry s rebound...14 Water and wastewater treatment suppliers are ready to capitalize on regulations and demand for reuse. Regs could be a mixed bag for coal wastewater market...16 Market players say they can be helped or harmed by tighter regulations. Who stands to gain and lose from more stringent rules? Water execs debate key business drivers in Hot, dry weather has positively impacted major players in the water sector, while the housing market recovery seems too little, too late. American Water Intelligence A monthly supplement to Global Water Intelligence, available as a standalone subscription. Managing Director Jack Ceadel T: (512) E: Editor: Brady Porche T: (512) E: Senior Reporter: Erich Hiner T: (512) E: Reporter: Fred Badlissi T: (512) E: Project Researcher: Laura Mallonee T: (718) E: Sales & Marketing Manager: Megan Wieding T: (512) E: American Water Intelligence Inc 823 Congress Ave, Suite 1000 Austin, TX Tel: (512) Fax: (512) Web: americanwaterintel.com Registered Company Number: ISSN Number: Media Analytics Ltd. accepts no liability or responsibility whatsoever for any loss or damage suffered by the subscriber or any other user of the information contained in this publication. Unauthorized distribution or reproduction of the contents of American Water Intelligence is strictly prohibited without prior consent of the publisher by Media Analytics Ltd. All rights reserved. No part of this publication may be photocopied, reproduced, retransmitted, put into a computer system or otherwise redistributed without prior authorization from Media Analytics, The Jam Factory, 27 Park End Street, Oxford OX1 1HU, UK This month in Project tracker Top 10 new projects 1. Oneida County WWTP Expansion, NY: $138m 69 updates 2. Corner Brook New STP, NL: CAN$60m 3. Ronceverte New WWTP, WV: $28m 4. Massillon WWTP Upgrades, OH: $18m TOTAL VALUE: more than 5. Chesapeake Beach WWTP Upgrade, MD: $17m 6. Davie County New WWTP, NC: $17m $ Bellingham WTP Upgrade, MA: $15.4m 8. Dos Rios Dewatering System Rehabilitation, TX: $15m billion 9. Acton New WTP, MA: $12m 10. Murfreesboro Headworks Project, TN: $12m No change this month 19 new projects Value of New projects: $353.8 million Value of UPDates: $3.6 billion 3

4 Three Questions American Water Intelligence weighs in on this month s pressing issues. What would a Romney presidency mean for the water sector? The impact of this year s general election on the water sector may be significant, particularly if the winning candidate hews to his party s strict ideological preferences with regard to regulation and taxation. The Republican base, for instance, rarely hides its distaste for regulatory overreach by federal agencies such as the EPA, while the more extreme elements of the Democratic Party feel the government can t tax big business enough. Both candidates will publicly empathize with partisan groups while campaigning, but how they will actually govern is more difficult to predict, particularly in the case of former Massachusetts governor Mitt Romney. Many of the GOP s presidential hopefuls have over the years expressed their desire to abolish the EPA, but it s difficult to view that as anything more than grandstanding. Romney has, however, stated his wish to amend the Clean Water Act, which he called outdated in the economic plan he released last year. If this translates to a significant loosening of the Clean Water Act under a Romney presidency, the municipal and industrial sectors will need to know what that means for big-ticket EPA items like combined sewer overflows and removal of nutrients and heavy metals such as selenium and mercury. Romney s economic plan also appears to seek more lead time for compliance with environmental regulations and aims to take costs into account more during the regulatory process. On the flip side, anyone running a small or large business in today s economy may be encouraged by Romney s stance on taxes, which is mostly in line with the conservative mainstream. Contrast that with President Barack Obama s FY2013 budget proposal, which included a plan to let the 2002 tax cuts on dividends expire. American Water CEO Jeff Sterba took to the media, this magazine included, to express his view that allowing those cuts to expire would have dire consequences for water rates, infrastructure and water companies earnings. If anything, Romney is more likely to extend tax provisions enacted under President George W. Bush than let them sunset, and a Congress likely to remain under GOP control in the next term will give him the ability to do just that. There is no clear answer to the question of which candidate would better for the water sector. From a regulatory perspective, Romney s more lead time proposal suggests permission for municipalities to delay water and sewer projects even further. Additionally, President Obama seems more likely to let infrastructure spending initiatives like WIFIA see the light of day. On the other hand, the president has some wastewater treatment providers who serve industries such as coal preparation deeply concerned by some of his more drastically pro-environment proposals (see story p16). Either way, the water sector will on Nov. 7 have a much clearer picture of the government s hand in the industry s direction over the next four years. Should public safety be a rallying cry for a future one voice for water campaign? The idea of a private-sector-led one voice for water campaign has been talked about for years by company CEOs, industry advocates and academics, but little traction has been gained in actually uniting the industry under one public relations banner. Much of that inertia can be chalked up to differing philosophies, but the real problem is one of communication strategy. The water industry doesn t have a clear, concise message to present to the American public. The rather nebulous idea of promoting the value of water is often invoked at conference podiums, but one has to wonder if such an idea would truly resonate with rank-and-file Americans. The idea relies on creating new perceptions of water rather than using existing ones, and it thus requires more mental flexibility from a largely uninterested populace. In addition, the imagery of such positive campaigns usually involving pictures of unthreatening children frolicking in sprinklers or sipping water from over-sized glasses lacks any real bite. To get the public s attention, the business will need to be more direct. Perhaps water should take a page from another industry s playbook. As the U.S. coal and oil & gas industries have pushed back against increasingly tight EPA regulations, they have managed to distill their hugely complex economic and political message into one word: jobs. America needs them; coal/oil & gas can create them. The message makes for an easy mantra, and it automatically clicks with Americans struggling in a down economy. It s simple, easy to repeat and taps into the existing public consciousness. While the water business might have a hard time convincing people of the economic need for water investment (though that argument could easily be made), there s another issue that could evoke support for the business: public safety. AWI s new survey of Safe Drinking Water Act compliance data (see story p10) shows that only nine facilities run by publicly-traded investor-owned utilities have had health violations in the past five years. Local, state and federally managed systems, meanwhile, have had more than 2,900 systems with health-related violations in the same timeframe. Rather than trying to get ratepayers to appreciate water on a philosophical level, perhaps the industry should point out how much better it is than the public sector at keeping contaminants out of water pipes and homes. Such an approach would not only have a strong emotional appeal to customers. Coupled with hard facts on decaying U.S. infrastructure and the urgent need for investment, the compliance data tell a compelling and easily understood story: Clean water is essential for human health, and the private water industry is the best of the best at what it does. A strategic shift in public outreach to focus on drinking water safety could mean wider support and just maybe a story that the industry and its customers can both agree is important. 4 AWI October 2012

5 three questions Has Heckmann Corp. averted disaster by merging with Power Fuels? The first eight months of 2012 were unkind to Heckmann Corp. The company s stock fell 59 percent between Jan. 3 and Aug. 31 as drillers scaled back some of their activities in the Haynesville, Barnett and Marcellus shales on weak natural gas prices. Analysts began chopping their target prices in January as other players in Heckmann s peer group saw their multiples erode. When Heckmann Corp. announced in March that it purchased a fuel oil recycling firm for $250 million, confidence was shaken further. In September, however, Heckmann Corp. pulled off a deal that David Rose of Wedbush Securities likened to the company pulling a rabbit out of its hat (see story p8). The announcement that Heckmann Corp. was to merge with Bakken-based shale oil drilling water management services firm Power Fuels impressed investors enough to bring Heckmann Corp. s share price roaring back to upper-$4 territory. With the stroke of a pen, the deal would ostensibly solve Heckmann Corp. s shale gas problem by making shale oil and natural gas liquids a much larger portion of the company s earnings than dry gas. While oil prices have remained fairly stable over the past few years, it appears that prices for natural gas liquids such as pro- pane and ethane are beginning to suffer from a sudden glut brought on by drillers seeking the next best option over dry gas. In recent months, a few major oil and gas producers have blamed the natural gas liquids price swoon for lower quarterly profits. Shale oil, it seems, will be the real saving grace in this deal for Heckmann Corp., and the data there is more encouraging. In its merger presentation, the company shared data from the North Dakota Industrial Commission Department of Mineral Resources that shows oil production in the Bakken Shale shot up from just below 200,000 barrels per day to more than 600,000 barrels per day between January 2009 and early Power Fuels appears to be one of the big dogs in the Bakken, and Dick Heckmann is in awe of what soon-to-be Heckmann Corp. CEO Mark Johnsrud has built there. Heckmann must be very confident in the newest member of his executive team, trusting Johnsrud to build the company s client base while the former USFilter boss is allowed more time to do what he does best buy other companies. With the merger, Heckmann Corp. has stopped the bleeding in its stock price for now. It must prove to investors that its big bet on shale oil and liquids will sustain the growth Heckmann will expect Johnsrud to achieve while he builds up his new empire. Chart of the month This month s chart shows the 10 states with the highest volumes of net virtual water import due to trade in crops, according to Growing Blue. The asterisks indicate which of these states had areas of extreme or exceptional drought as of late September. Although the worst-in-50- years drought the country is experiencing seems to be subsiding to some extent, the impact to agricultural operations has been substantial. While California is the highest net virtual water importer on this list, only a small area of the state was under extreme drought conditions as of Sept. 18. Colorado and Nebraska, meanwhile, had extreme or exceptional drought conditions stretching across larger portions of land. The former is perhaps most striking because the ratio of Colorado s total water withdrawal to its net virtual water import is only 1.5x. The same ratio for Texas, which is in much less severe drought conditions than it was in the summer of 2011, is 4x. AWI spoke to water sector leaders to gauge their opinions on how dry weather conditions will impact the water sector and examined how that impact will ultimately compare to that of the recent recovery in the housing market (see story p18). 10 highest net virtual water importing u.s. states due to trade in crops California* Idaho Colorado* Montana* Arkansas* Nebraska* Texas* Oregon Arizona Utah 0 5,000 10,000 15,000 20,000 (million gallons per day) *Denotes state had areas of extreme or Source: Growing Blue and U.S. Drought Monitor exceptional drought as of Sept. 25,

6 NEED TO KNOW Everything that happened in the U.S. water sector last month in 40 words or less What the HEK? z Heckmann Corp. surprised analysts by merging with Bakken-based produced water treatment and disposal firm Power Fuels, giving Heckmann access to a market less vulnerable to natural gas price volatility. Shares of HEK jumped 38 percent on news of the merger (see story p8). z Wedbush analyst David Rose told AWI that potential integration challenges, foggy details about the companies age of assets and Power Fuels high proportion of operating income from leasing activities are reasons for caution among investors. z Just days after announcing the Power Fuels deal, Heckmann acquired a majority interest in Appalachian Water Services, which operates a wastewater treatment recycling facility in the Marcellus Shale. The facility is located near the operations of some key Heckmann clients. z Pentair s shareholders approved the $4.9 billion merger with Tyco Flow Control the company announced in March. Tyco also raised $900 million in five- and 10-year bonds, the proceeds of which will be used to redeem $500 million of Pentair bonds. z Xylem, which purchased MJK Automation A/S in July for $12.3 million, appears ready to spend significantly more next year. Company CFO Michael Speetzen said at the 2012 Citi Global Industrials Conference Xylem is targeting $ million in acquisitions in z MWH Global bolstered its financial consulting capability by acquiring StepWise Utility Advisors. The acquired company specializes in financial planning and analysis, cost-of-service allocations, rate design, management consulting and utility valuation for water and wastewater utilities. z Engineered water treatment solutions provider AXEON Water Technologies purchased the assets and intellectual property rights of membrane manufacturer Pure-O-Tech. AXEON appears to be making a push to bolster its capabilities in ozone and perchlorate removal systems. Soured on Florida z Aqua America made an offer to sell all of its water and sewer assets in Florida to a state government utility authority for $93 million. Aqua has faced customer backlash and unfavorable rate awards in the state in recent years. z Aqua has improved 83 water and wastewater systems in the state and spent more than $55 million in additional investments. Aqua CEO Nick DeBenedictis said in a statement to AWI that Florida s rate case process has not met reasonable expectations. z Illinois American Water, meanwhile, received just under $18 million with an ROE of 9.34 in its latest rate case. Brean Murray s Michael Gaugler said that while the company received half of its requested amount, it is disappointed in the ROE. z The mayor of Westfield, Ind., agreed to sell the city s water and sewer assets to Citizens Energy Group for $91 million. The city also pursued a 20-year O&M. Citizens Energy beat out American Water and Corix for the outright purchase. z Aquarion completed its $38.5 million purchase of United Water s regulated operations in Connecticut, which served customers in New Milford, Newtown, Brookfield, Bethel and Woodbury. Aquarion has added 56 water systems in Connecticut to its portfolio in the past two years. z Allentown, Pa., officials ruled out selling the local water and sewer systems to a newly created authority. The decision should clear the way for a 50-year O&M of the systems. Nine companies have responded to an RFQ for an O&M. Let the cuts begin z The Detroit Water and Sewerage Department approved a contract with consultancy EMA, Inc. to implement a plan that would cut 81 percent of DWSD s work force. EMA will oversee the outsourcing of non-core functions it recommends cutting from DWSD s payroll. z DWSD was reportedly forced to pay $536 million to Wall Street banks over the past year to end interest-rate swap agreements. That figure is more than the department s entire operating budget for next year, according to a Bloomberg report (see Debra Coy s column, p20). z The city council of Gladewater, Texas, voted to end a 20-year operations and maintenance contract with Veolia Water a full year before it was set to expire. The vote authorized Gladewater s city manager to hire employees to run the system. z Veolia also lost a DBO contract in the Florida Keys after contract negotiations between the Islamorada city council and Veolia and its JV partner AECOM broke down. The JV, Islamorada Water, initially signed the contract in February. z Layne Christensen announced in early September it signed a 20-year, $90.9 million contract to build and operate a wastewater collection system at Islamorada in tandem with its JV partner Reynolds Water. The Reynolds JV was initially the second-ranked bidder. z Shares of Layne fell 5 percent as the company reported a net loss of $1.23 per share in 2QFY2012. The company also said it is moving forward with selling the oil and gas wells owned by Layne Energy. 6 AWI October 2012

7 z Water and sewer pipe and valve distributor HD Supply Waterworks has experienced 12 percent net sales growth so far this year. The company suffered during the recession but is on pace this year to book its highest sales since 2008 (see story p28). The safest drinking water z AWI s new analysis of EPA Safe Drinking Water Act compliance data revealed only nine facilities owned by IOUs have had health violations in the past five years about one tenth of 1 percent of the national total (see story p10). z Non-publicly-traded NAWC members have had only five facilities with health-related violations and only one with public notice violations in the past five years. More than 2,900 public health violations took place at facilities owned by governments or public agencies. z The stark contrast seems to fly in the face of the theory that the private sector s involvement in water supply is not in the best interests of consumers. Will the private sector seize the opportunity to change the conversation? z The Clean Water America Alliance changed its name to the U.S. Water Alliance (see story p13). Alliance President Ben Grumbles insists the move is just a name change and not a game change. High climbers z David Stanton has been appointed president of United Water s regulated business. Stanton has served previously as CEO of APTwater, COO of SouthWest Water and vice president at Earth Tech. z California Water Service Group announced the appointment of CFO Martin Kropelnicki as president and COO. CEO Peter Nelson assumed the role of board chairman in May after the retirement of Robert Foy. Kropelnicki joined Cal Water in z Cal Water also announced Thomas Smegal, who has served as VP for regulatory matters and corporate relations since 2008, will assume Kropelnicki s former role as CFO. Smegal worked for the CPUC before joining Cal Water in z Desal firm IDE Technologies named Mark Lambert CEO of its North American operations. Lambert previously served as vice president of corporate development at Hydration Technology Innovations. IDE said previous North American boss Kent Turner is going into private business. z Ecolab named Thomas Handley as its president and COO. Handley, who previously served as executive VP for Ecolab s global food and beverage unit and its Asia Pacific and Latin America businesses, replaces former Nalco boss J. Erik Fyrwald. z Paul Raymond left his position as head of chemical manufacturer Ashland Inc. s water technology business. Raymond, who had run Ashland Water Technologies since Ashland s purchase of Hercules Inc. in 2008, is a former employee of GE and Honeywell. Growing at a crawl need to know z New housing starts continued to pick up in August, with year-over-year growth of 27 percent. Some in the water industry believe, however, that the housing market is not growing fast enough to create revenue for significant municipal capital expenditure (see story p18). z Dry weather may be the bigger long-term driver of water sector investment. Data from Growing Blue show that of the 10 highest net virtual water importing U.S. states, six had areas of extreme or exceptional drought as of Sept. 25 (see Chart of the Month, p5). z Meanwhile, new data from the U.S. Census Bureau show spending on water and line and plant construction and wastewater plant construction put in place in July 2012 declined slightly from the previous month. Wastewater line and drain spending increased slightly. z Firms that supply water and wastewater treatment equipment and chemicals to steel producers are encouraged by current production trends (see story p14). Steel production has increased steadily since the bottom fell out of the industry in z Tighter coal industry regulations, however, can be both a blessing and a curse for wastewater treatment firms depending on what side of the business they operate in (see story p16). New rules on coal-fired power plant emissions may stifle the coal preparation wastewater market. z The updated Great Lakes Initiative signed by the EPA and the Canadian government set new, stricter phosphorus limits for all five lakes. The new rules will affect all municipal wastewater treatment plants that discharge more than 1MGD into the lakes. Carlsbad a go? z The San Diego County Water Authority released to the public its proposed water purchase agreement with Poseidon Resources, kicking off a 60-day review period. It is thought the deal may close in mid-november or early December. z A California Public Utilities Commission judge issued a proposed decision asserting the CPUC s ultimate authority to approve or reject California American Water s Monterey desal proposal. The proposal appears to pre-empt local control of any desal plant built in Monterey County. z The Texas Court of Appeals decided that underground injection of nonhazardous waste may give a neighboring landowner cause for action of trespass and unjust enrichment (see Wes Strickland s column p21). The decision may hinder the development of groundwater storage projects in Texas. z Meanwhile, the Arizona Supreme Court rejected the state s claim that the federal government granted implied water rights to Arizona in a 1910 trust land grant. The decision preserves the priority of thousands of water rights claims in the state. 7

8 company news Heckmann seeks market dominance with new union The proposed merger of Heckmann Corp. and Power Fuels would create a $700 million environmental solutions powerhouse. Analysts, however, are growing skeptical as more is known about the latter. Heckmann Corporation breathed new life into its total water management solutions business and clarified some confusion over its direction when it announced in September its intention to buy Bakken Shale-based Power Fuels. According to the terms of the deal, Heckmann Corp. will pay $125 million in cash and 95 million shares. It will also refinance $150 million of Power Fuels debt. The move creates an environmental services juggernaut with pro forma revenues of $700 million and a substantial presence in every major shale play in the United States. Heckmann Corp. s stock price, which has languished for most of this year amid economic uncertainty in some of the company s key shale plays, rose 38 percent on news of the merger. Pending shareholder and regulatory approval of the merger, Power Fuels CEO Mark Johnsrud will become CEO of Heckmann Corp. and will own 38 percent of the combined company. Heckmann Corp. founder and CEO Dick Heckmann will serve as chairman of the board, a transition that will allow the former USFilter boss more time to develop strategy and complete more acquisitions. Heckmann Corp., which purchased ThermoFluids Inc. (TFI) in April, showed no signs of acquisition fatigue when it bought a majority stake in Marcellus Shale-based Appalachian Water Services, LLC, just days after announcing the Power Fuels merger. The merger also changes the proportion of Heckmann Corp. s earnings portfolio to 70-percent shale oil and liquids and 30-percent shale gas, adding the oil-rich Bakken territory to Heckmann Corp. s existing shale oil operations. Although the price of natural gas fell dramatically in 2011 and continued to flounder in early 2012, spot market prices showed modest recovery in late summer and early fall. Nevertheless, the portfolio shift appears to have insulated Heckmann Corp. from further volatility. Dick Heckmann himself is quite bullish about the prospects for shale oil development, and Power Fuels strong hold on the Bakken puts the company right in the center of the action. The shale play has made North Dakota the second-largest oil producing state in the nation behind Texas. Heckmann told AWI that his company s existing shale oil and gas operations in other plays will benefit from the knowledge and resources Power Fuels has amassed in the Bakken. Heckmann may very well have seen something of a kindred entrepreneurial spirit in Johnsrud, who grew Power Fuels revenue at a pace akin to what his new boss achieved at USFilter in the 90s. Mark Johnsrud built the business from $7 million in revenues to almost $400 million in revenues in six years with no private equity, no venture capital and no partners, Heckmann told AWI. It s not only that we wanted to be in the Bakken and that we wanted to be in oil, but [Johnsrud] is doing things lots of things up there that we believe are immediately transferrable to what we do in every other shale. We re easily the largest and most diverse and are in more shales than everybody else. Analysts generally lauded the merger when it was announced, but they also expressed concern over the lack of clarity the companies initially provided on the cash flow Power Fuels will generate. In mid-september, Heckmann Corp. filed a proxy statement with the Securities and Exchange Commission that showed Power Fuels held about $3.4 million in cash and cash equivalents as of June 30, though the numbers are unaudited. David Rose of Wedbush Securities said in a Sept. 5 research note that while the merger appeared attractive based on Power Fuels EBITDA margins of 43 percent, his view was tempered after more information about Power Fuels surfaced. Rose told AWI that proxy statements filed by Heckmann Corp. in the weeks after the merger announcement revealed half of Power Fuels operating income is derived from leasing operations 12 trailing months revenues and adjusted ebitda for heckmann Corp. and Power fuels* ($ millions) Revenues Adjusted EBITDA 0 Heckmann Corp. Power Fuels *As of June 30, Source: Company provided data 8 AWI October 2012

9 company news and that a large chunk of its business comes from only two key clients. Traditionally you don t value a leasing business based on multiples to EBITDA, Rose said. As investors are going through the proxy of the merger, it s been getting a bit clearer that it may not be as attractive as it might have first appeared. Rose also said Heckmann s disappointing results in recent quarters, a lack of information on the age of its assets and the potential for integration challenges on the heels of the TFI purchase should give investors pause. Indeed, Heckmann Corp. reported operating losses of $8.9 million in 4QFY2011 and $1.3 million in 1QFY2012 after posting $3.7 million in income from continuing operations in 3QFY2011. The company reported income from operations of $143,000 in 2QFY2012, but it remains to be seen whether it has gained any additional momentum in the third quarter. The initial congratulatory tone from analysts was a stark contrast to the reaction to the company s March acquisition of TFI, which specializes in used oil recycling. At the time, the move appeared as a slight pivot away from the water management solutions strategy Heckmann Corp. seemed so bullish about during its rapid run of acquisitions in 2010 and Heckmann maintains that what appeared to be mixed messaging was merely a factor of the timing of the acquisitions. TFI will now be re-christened as the company s Fluids Management division, led by TFI CEO James Devlin. When we bought [TFI], people didn t listen to me and tried to say that we were diversifying and getting away from our core business, Heckmann said. We were meeting with Johnsrud long before I ever bought TFI because we saw this as a package. Heckmann said he believes recycling of skim oil will become more important to shale oil drillers as production levels increase and new regulations eliminate the ability to use reserve pits for oil disposal. There s been precious little removal of oil from sand, mud and cuttings because there wasn t that much of it, Heckmann said. These were little problems two years ago. They re significant problems now and they re going to be big problems two years from now. Heckmann has a firm idea of how he wants the new-look Heckmann Corp. to be perceived in the market as a nationallyknown one-stop shop for environmental solutions with consistency in service and safety. Heckmann related the story of a key client who recently expressed his desire to see Heckmann Corp. evolve into something of a Halliburton for water management in the shale oil and gas industry. He said, How fast can you get bigger? Heckmann said. They want a big, well-financed, public company that they can turn this over to. If you think about this business, up until now you ve got a bunch of little independents or you ve got a bunch of small public companies, but you don t have anybody who s got exactly the same process for everything they do so that the producer can count on it. Instead of going into the shale and qualifying trucking companies, disposal companies and recycling companies, we re already qualified. They know that we know the regs, we know the state... and we re compliant. Boost Your Productivity in Sludge Dewatering Dehydris Twist Boosted Sludge Dewatering Using Piston Press Technology Combines plate filter press efficiency and centrifugal productivity Easy operation and high performance Achieve up to 40% dry content through an entirely automated process from mixed digested sludge Up to 30% reduction in sludge bulk compared to conventional dewatering INFILCO Infilco Degremont, Inc Discovery Drive, Richmond, Virginia (800) A partnership with Bucher Unipektin HEADWORKS BIOLOGICAL SEPARATIONS MEMBRANES OXIDATION DISINFECTION BIOSOLIDS INDUSTRIAL SYSTEMS 9

10 regulation Data show IOUs are cut above in SDWA compliance EPA records show that investor-owned water utilities have a near-perfect record when it comes to avoiding health-related violations of the federal Safe Drinking Water Act. A comprehensive historical analysis by AWI of U.S. community water systems has shown that the Safe Drinking Water Act (SDWA) compliance record of major companies in the private water utility sector has remained nearly spotless for the past several years, and investor-owned water firms have consistently been head-and-shoulders above municipal utilities and smaller, local water companies when it comes to avoiding health-related drinking water violations. According to EPA records analyzed by AWI, there have been 5,808 public health-related SDWA violations, which include illegally high contaminant levels or the failure to treat water properly, at U.S. community water systems in the past five years. Only nine of those violations took place at facilities owned by investorowned utility companies about one tenth of 1 percent of the national total. More than 2,900 took place at facilities owned by governments or public agencies. Investor-owned water utilities also maintained that positive record for public notice violations, which a facility receives if customers are not informed properly or quickly enough of a potential drinking water problem. Of the 2,627 public notice violations that have occurred at community sdwa ENFORCEMENT ACTIONS PER MILLION CUSTOMERS (LAST five YEARS) 1,000 Formal enforcements Informal enforcements water systems in the past five years, only 10 have taken place at facilities owned by investor-owned utility companies. Other large, private water companies that are not owned by investors also have done well in avoiding health-related and public notice infractions. To separate top-tier water companies from the thousands of other small, privately run companies and non-utilities, AWI assembled an inventory of the largest privately held water companies using the membership list of the National Association of Water Companies (NAWC). The NAWC represents about 150 of the country s preeminent private water firms. NAWC members that are not investor-owned have had five health-related violations and only one public notice violation in the past five years. Furthermore, the vast majority of violations that have occurred at facilities owned by NAWC member companies (including IOUS and non-ious) have been relatively minor or have been quickly fixed. The EPA enforces the SDWA with formal and informal enforcement actions. Formal enforcement actions are taken when a violation is serious enough to warrant a fine or lawsuit, and such actions can come with mandatory remedia- systems with health violations by owner/operator (last five years) NAWC members companies: 14 (5 non-investor-owned, 9 investor-owned) (Number of enforcement actions) Other private companies: 2,637 State/local governments: 2,911 Total number of community water systems with healthbased violations: 5, Systems owned/operated by NAWC member companies 45.1 All other water systems Source: EPA Mixed public/ private: 185 Federal government: 61 Source: EPA 10 AWI October 2012

11 regulation tion projects that can cost violators millions. Informal enforcement actions generally take the form of written or verbal warnings, and a facility usually is not fined if the issue is minor or quickly addressed. Seventy-seven facilities owned by 25 different NAWC member companies have had SDWA violations in the past five years. Most of those violations, however, have not led to formal enforcements. Only four facilities owned by NAWC member companies have had formal enforcement actions against them in the past five years, and none of them has been fined. NAWC Executive Director Michael Deane said private water companies near-spotless record is in part the result of how they must be run as businesses. NAWC members companies consider compliance to be an integral part of their business, and any violations are quickly noticed by clients, investors or industry analysts. Private water firms simply cannot afford to let their records slip, he said. We hold a public trust when we are responsible for delivering safe water, and we take it very seriously, Deane said. If we re not providing that safe, reliable water as an essential service and product, then it s not a sustainable business in the long run. AWI s analysis included all community water systems in the EPA s SDWA database. The agency tracks roughly 155,000 public water systems in the U.S., but that total includes many nonutility facilities (such as schools or office buildings) that provide water to an ever-changing population. AWI s sample was limited to community water systems, which are systems that supply water to the same population year-round. For the purposes of AWI s research, utility management companies that are traded on overseas stock markets were considered investor-owned utilities (IOUs). Large private firms that are not publicly traded, such as Aquarion and SouthWest Water, were not considered IOUs. AWI used the NAWC membership list to analyze its findings to represent noteworthy but privately held companies. AWI conducted a similar analysis of EPA data in September That sample, however, was limited to serious violators, which is an EPA designation given to facilities that have especially egregious infractions or an ongoing history of non-compliance. AWI s 2012 survey included all violators in the EPA s databases. AWI s 2011 sample was also limited to water systems that serve more than 500 individuals. The 2012 sample, however, includes all community water systems of all sizes. Many facilities that were left out of last year s sample were included in this year s review because of the broadened scope. According to EPA records dated October 2011, there are 51,226 community water systems in the U.S. (23,996 privately owned, 25,188 publicly owned, 1,317 with mixed ownership and 725 owned by Native American tribes). Community water systems including utilities serve more than 299 million individuals in the U.S. EPA records show that 19,257 community water systems 37 percent of all such systems in the U.S. have had SDWA violations in the past five years. The majority of facilities with violations have had minor monitoring or reporting violations related to misfiled paperwork or late reports. More serious violations, such as health-based and public notice violations, are far less common but often occur in tandem with other infractions at the same facilities. The public and private water sectors have had SDWA violations at similar rates for the past several years. Privately owned facilities of all kinds collectively have had 9,365 analysis of privately owned/operated water systems safe drinking water act (SDWA) compliance (Last five years)* Mixed public/ private Federal systems Other private water systems Total number of community water systems in U.S.: 55,126 Systems with violations: 19,257 Total number of community water systems with violations: 19,257 State/local systems Private water systems with violations: 9,365 Total number of private water systems with violations: 9,365 Systems in violation owned/operated by NAWC member companies: 77 Total number of NAWC memberowned facilities with violations: 77 Systems in violation owned/operated by publicly traded investorowned utilities (IOUs): 36 Total number of IOU-owned facilities with violations: 36 Other violations IOU-owned/ operated systems with health violations: 9 *Includes all violations recorded by U.S. EPA, including those disputed by alleged violators Source: EPA 11

12 regulation 10 most formally cited facilities for sdwa violations (last five years) Facility Name Population Served Informal Enforcements Formal Enforcements Management Entity Waukesha Water Utility, WI 70, State or local government/agency Moore County Public Utilities - Seven Lakes, NC 6, State or local government/agency Hillcrest Water District, MA 1, State or local government/agency Anson County Water System, NC 13, State or local government/agency Town of Walnut Cove, NC 1, State or local government/agency Lake Meadows Water Trust, WI Private Fond du Lac Waterworks, WI 42, State or local government/agency Goldston-Gulf Sanitary District, NC 1, State or local government/agency Southern Oklahoma Water Corporation, OK 11, State or local government/agency Leicester Water Supply District, MA 3, State or local government/agency violations in the past five years, 2,651 of which were health-related. Facilities run by local or state authorities and the federal government have had 9,010 violations in that time, including 2,972 health-related infractions. However, the overall compliance record of the private sector is hugely inflated given that small, non-utility systems are placed in the same category as private water companies. Many of the violations attributed to privatesector actors in the EPA s databases have not taken place at true utility systems. Mobile home parks, incorporated subdivisions and apartment complexes are listed as private owners and operators, and those non-utilities make up a large piece of the private sector s non-compliance record. Moreover, the private water sector s compliance history may be even better than records suggest. The monitoring and reporting violations recorded at many privately run water systems may be data errors or misfilings by the EPA, and several companies told AWI that such violations noted at their facilities were the result of miscommunications with regulatory agencies or a failure on the EPA s part to update its records. For example, six New Jersey American Water systems were listed in the EPA s database; one for a health-related violation and five for monitoring or reporting infractions. Matt Corson, manager of environmental compliance and stewardship for American Water, told AWI that each of the reporting violations has been the result of an EPA error. EPA records are updated electronically, but reports and samples sometimes get lost, delayed or misfiled once they are in the EPA s hands, Corson said. Even if a utility conducts all necessary tests and sends its data to regulators, a violation might result for a guiltless utility if the data arrive after the EPA chooses to update its records. Once a violation is listed, it often sticks regardless of whether the violation actually took place. When made aware of the mishap, state regulators will often update the data as opposed to deleting incorrect entries, Corson said. The best thing to do is delete the violation because it never actually happened, Corson told AWI. The easier thing to do is mark it returned to compliance, and a lot of times that will be what happens. Historically, private water companies have maintained a nearperfect track record, and such firms are virtually absent from the EPA s list of historical enforcement actions. AWI s analysis shows that 7,441 facilities have been subject to EPA enforcement since FY2001, and only 18 facilities owned by major investorowned utilities have made that list. SDWA-related enforcements Source: EPA cost water suppliers a combined $20.8 million from FY2001 to FY2012, and the only piece of that paid by a NAWC member company was a $6,000 federal penalty paid by California Water Service Company (CalWater) in The fine, which was accompanied by a $11,000 remediation project, was levied because of an administrative issue related to the Unregulated Contaminant Monitoring Regulation (UCMR). CalWater took a well out of service for necessary rehabilitation, and the well was tested too late to meet the UCMR reporting deadline. The necessary tests were conducted, however, and none of the UCMRrelated contaminants were detected in the well s water. As in CalWater s case, most violations that have occurred at professionally managed private water utilities are largely minor and typically do not result in fines. Aqua America had 22 systems with violations in the past five years, but most of those infractions were for minor reporting problems. Five of Aqua s systems have had health-related violations, but none of those was serious enough for the EPA to issue a formal enforcement action. Five of the 22 systems had violations even before Aqua acquired them. Artesian Water has had one facility with health violations a large, integrated system in New Castle County, Del., that includes 19 treatment facilities. Artesian acknowledged that the facility had two radium exceedances in 2011, but the company said it reacted swiftly and shut down the offending water wells. The infractions did not result in fines. The privately held Aquarion Water Company has had 20 facilities with monitoring or reporting violations, but the company has paid no fines as a result. The majority of those systems were also recently purchased, and Aquarion was not the owner of note when most of the violations took place. The only NAWC member-owned facility with a formal enforcement action related to health-based violations was United Water s Greenridge system in New Milford, Conn. The system had violations between 2009 and 2011 related to high uranium levels, but the company said the system s compliance issues are in the past. The Connecticut PUC ordered United Water to take over the system in 2009 to get it back into compliance, and the contaminated source wells were shut down. Clean water is now being supplied through an interconnection with another system, a company spokesman told AWI. It should be noted that EPA records are often outdated or incomplete. Systems change hands over time, and a company that was cited several years ago may have sold the facility at which violations took place. Furthermore, a history of non-compliance should not suggest that a facility still has SDWA violations. 12 AWI October 2012

13 CWAA re-christened U.S. Water Alliance The Clean Water America Alliance has changed its name to the U.S. Water Alliance. The 4-year-old, 80-member organization said the name change will better reflect the group s stated mission of bringing together varied interests across the water industry. The group will be still headed by EPA veteran Ben Grumbles, who said the name change is not a re-branding. Initiatives started under the old name will continue unchanged, Grumbles told AWI. That s not changing, Grumbles said. That s been a part of our original charter, to advance integrated one water management. The Alliance s One Water Management (OWM) initiative, which has the support of 14 water trade and industry groups including the National Association of Water Companies (NAWC) and the National Association of Clean Water Agencies (NACWA), aims to provide a unified voice for the water industry across its many fields. That effort will continue unchanged as well, Grumbles said. The need for such a forum has been brought up recently in discussions among stakeholders large and small. But how does the newly re-minted group plan to address this need? Grumbles said the organization can provide a forum for stakeholders to develop a consensus, and he pointed to his group s 2010 report titled What s Water Worth?, in which 42 participants from the across the industrial, municipal and academic circles took part, as an example of such forum-building. regulation Alliance President Ben Grumbles says new the name better reflects the organization s core mission. Our vision is a broad one, and our mission is to unite people and policy for one water sustainability, Grumbles said. That broad vision is not without challenges. Paradoxically, the path to one water voice will probably have to respect fragmentation. Grumbles noted that the Alliance is just one of many water groups, and that they all must talk to one another to reach any agreement. He was clear that the re-naming is in no way meant as a step to consolidate the long list of water industry groups. We re not trying to out-compete or swallow up organizations. What we re hoping to do is create a forum for constructive collaboration on the most difficult and urgent issues, he said. Though the group s name has changed, the problems it will face have not. Grumbles said that institutions may be complicit in the way they conduct business, and consequently avoid changing the status quo. The water sector can become very conservative and fixated on current practice, he said. This makes Grumbles realistic about the present, but hopeful that the Alliance can provide a launching pad for change. A diverse organization such as ours can promote water progress by helping to harmonize the many voices on the most important issues and also advance integrated water resources management. INVESTINGPARTNER BUILDINGPARTNER PLANNINGPARTNER NGP GLOBAL ADAPTATION PARTNERS Capital and Sponsorship for the Agriculture and Water Industry 125 E. John CarpEntEr FrEEway SuitE 600 irving, texas (972) IrvIng Houston santa Fe stamford ADVISINGPARTNER FINANCINGPARTNER 13

14 market analysis Water firms benefit from steel industry s rebound Steel production in the United States is bouncing back from the recession. Water and wastewater treatment suppliers are ready to capitalize on opportunities created by regulations and demand for reuse. The steel industry appears to be on the rebound from a lull in production it experienced in the wake of the economic crisis, giving companies that supply water and wastewater treatment equipment and chemicals to steel makers reason for optimism. Although the technologies used to treat process water for different stages of steel production and the wastewater streams that production creates have not changed much, impending regulations on heavy metals discharge could create opportunities for increased uptake of advanced biological treatment. In addition, the demand for cogeneration facilities at steel plants has augmented an already growing demand for reuse and recycling in the industry. According to data from the World Steel Association, steel production in the United States peaked in 2006 and 2007 with annual production at 98.6 million tons and 98.1 million tons, respectively (see chart below). In 2009, however, steel production fell off a cliff with a decrease of 36 percent from the previous year. Over the next two years, the partial resurrection of the American auto industry helped drive recovery, but production did not reach the levels experienced before the recession. As of August 2012, production had reached 53.6 million tons, suggesting the industry may be building some momentum as producers restart mothballed plants and invest more in recycled steel facilities, also known as mini-mills. The process water requirements of the steel industry are similar to those of other heavy industries that employ boilers and cooling towers. GE Power & Water s water and process technologies business global product manager for primary metals Robert Russell told AWI that manufacturers can use filtration technologies such as reverse osmosis to reduce water hardness and prevent corrosion of process equipment. Farther down the line of production, however, a certain amount of cooling water comes into contact with the steel. This part of the process is known as continuous casting, in which molten metal is solidified and then reheated prior to being sent to various finishing mills. Russell said the cooling water that comes into contact with the steel during continuous casting contains metal fines that are collected in a scale pit and are removed with a clarification system. The primary wastewater challenges of the steel industry also vary according to which stage in the process the wastewater stream is created. Si Givens, vice president of industrial water at CH2M Hill, told AWI that wastewater produced during the making of coke is perhaps the most challenging and complex wastewater stream created by any industry. Givens said coke making yields various soluble organic compounds that get dissolved in water, many of which are toxic. Those organic compounds intermingle with other constituents like cyanide, thiocyanate, ammonia and selenium to create a poisonous broth that typically must be treated with biological systems. You can remove all those things biologically, but different microorganisms remove different components, so you need complex and often multi-staged biological treatment systems to do that, Givens said. It s nothing new, but it s a thing that continues to this day to be a challenge. Givens said the challenges associated with coke making wastewater have fueled the rise of membrane bioreactors in lieu of clarifiers in activated sludge systems over the past 10 years. Membranes allow you to have longer biological solids retention times to improve pollutant removal and they have greatly improved liquid/solids separation, Givens said. Both allow the biological process to work better. I think that s probably the biggest advent. Primary steel making creates wastewater streams that contain certain amounts of oil and metals such as iron and sludge. Givens said treatment of oily wastewater, which is typically generated during the process of turning crude steel into rolled steel, depends upon the state of the oil. Free oil is extracted using gravity separation and emulsified oil can be removed either by chemical coagulation coupled with flotation or with ultrafiltration membranes, Givens said. Surface coating processes produce wastewaters with more toxic metals like chromium, nickel and zinc, which are typically treated by chemical precipitation (million tonnes) u.s. steel production, * *As of August * Source: World Steel Association 14 AWI October 2012

15 market analysis processes. Russell said imminent federal regulations on the discharge of heavy metals such as selenium are forcing steel producers to invest in new technologies. Facilities that discharge treated wastewater into the Great Lakes have been subject to tighter regulations at the state and local levels, placing the onus on producers located in states like Ohio, Indiana and Michigan to adapt their wastewater treatment strategies accordingly. Russell said the need for metals removal has helped GE s Advanced Biological Metals Removal (ABMet) system, which the company claims can achieve up to 99 percent removal of selenium, gain traction in the industry. Russell acknowledged that the age of most fully integrated steel plants means much of the wastewater treatment market in the steel industry is driven by retrofitting rather than re-vamping of outdated systems. The uptake of new and innovative technologies among older facilities may be slow in the years to come, but Russell said there is opportunity to introduce more cutting-edge processes in the growing mini-mills segment. In the past 20 years, a number of these facilities, which use scrap steel from automobiles, appliances and other sources and melt it in electric arc furnaces to produce new steel, have sprung up in the Southeast. Any time new mills are coming online, they re looking to implement 21st-century technology, Russell said. That often leads to more equipment-chemical combinations for solving issues related to scaling, corrosion and deposition that we deal with all the time, as well as meeting tighter regs. A number of these mills have come online in the last 20 years in the southeast portion of the United States, where water is not as plentiful as it is in the Great Lakes area. The need for water reuse and recycling becomes more important. Source water availability concerns will not be the only driver of reuse and recycling in the steel industry. Russell said steel plants have in recent years begun to build cogeneration facilities in order to reduce their reliance on local electrical utilities. Since cogeneration facilities require high-purity boiler feed water, owners must purchase water from municipalities or invest in technology to treat their own wastewater streams for reuse. Russell cited the story of a recent GE customer that saved money by installing an ultrafiltration system to reuse plant service water in lieu of purchasing water from a local municipality. That cogeneration facility has now been online for several years, and the ultrafiltration system was able to be paid out in nine months, Russell said. Steel producers are very high electrical consumers, so to reduce that pressure from higher prices from the power companies, more of these steel producers are turning to cogeneration. In doing so, they re going to want to utilize as much of their current service water and in-plant capabilities to meet that demand. Equipment like UF and RO can allow them to do that economically. 15

16 market analysis New regs could be mixed bag for coal wastewater market Market players say the business of treating wastewater from the coal industry could be both helped and harmed by tighter environmental regulations. Who stands to gain and lose from more stringent rules? The U.S. market for wastewater treatment in the coal industry has long relied on environmental regulations to drive demand, but some market players believe that the sector s historical driver could soon become a double-edged sword, propelling one market segment while hamstringing another. Water factors into coal production in numerous places, but coal s primary need for water treatment lies in two distinct but closely related wastewater streams: acidic mine drainage and used coal preparation process water. An emboldened EPA under the Obama administration has tightened regulations on certain contaminants for water released from coal mining sites, and the regulation-driven market for coal mine drainage could soon reach new heights as mines cope with new rules. However, the sales market for equipment that treats and recycles coal-processing water could be set for a slump. The coal process water market s size is a function of coal consumption, and some equipment suppliers worry that lower consumption at coal-fired power plants because of tighter air regulations will lessen treatment demand. Mine drainage or seepage is water that has interacted with the natural compounds in a coal mine to create highly acidic, high- TDS solution. Water in the mine oxidizes with naturally occurring iron, touching off a chemical reaction that results in diluted sulfuric acid. The acidic water mixture also picks up dust and other particles, resulting in a solution that is high in metals, total dissolved solids (TDS) and total suspended solids (TSS). The acidic water, referred to as acid mine drainage (AMD), can have a ph as low as two or three. Before new EPA guidelines were proposed, AMD water could be discharged if it met federal guidelines for metals. With new regulations on chlorides and sulfates now in place, however, AMD water often needs to be passed through a completely separate treatment train after its metal content has already been reduced. In certain cases, AMD can also be combined with used preparation plant process water and treated for reuse. More advanced systems are now required, and they may include pre-treatment, settling, softening, metals removal, reverse osmosis, evaporation and crystallization. The second wastewater stream comes from the coal preparation process itself. Mining companies wash their coal to remove impurities. Though the process allows the product to burn cleaner, the used process water contains many of the contaminants the coal s surface. The water is usually allowed to settle to remove solids before being passed through various treatment components to recover its water content for use in the next coal wash. Depending on the location of a preparation plant, the contaminated water may also be mixed with partially treated AMD in a retention basin before both are treated for reuse in the prep plant. Equipment sales to coal wash plants is multi-million-dollar market, said Rick Szilagyi, regional sales manager for WesTech Engineering, which designs and supplies coal preparation equipment. The U.S. prep plant market yields between $2 million and $4 million per year for WesTech, Szilagyi told AWI. Of the two wastewater streams, mine drainage treatment seems most likely to benefit from increased regulation, Szilagyi said. Though coal mining companies have long been required to remove metals from AMD and prep plant effluent before releasing it, recently imposed limits on emerging contaminants could require more advanced water treatment, said Robert Zick, mining market director for Veolia Water Solutions & Technologies. It s evolved in the last few years. If you go back three, four, five years, all that they were treating for were metals. They were treating for iron, for manganese, for aluminum your primary metals that showed up in the water, Zick told AWI. Now what you re seeing is that regulations are calling for removal of some of the TDS components, typically sulfates and chlorides. A typical mine that produces 5 million tons of coal per year will have drainage flows of about 2,000 gallons per minute, Zick said. Larger mines or mining complexes that include more than one mine will often produce more sometimes as much as 4,000 gallons per minute, or roughly 5.7 MGD. In July 2011, Veolia signed a 10-year design-build-operate agreement with CONSOL Energy for a large mine water treatment plant in West (millions of tons of coal) total U.S. coal production and consumption at power plants 1,200 1, Total U.S. coal production Electric power plant consumption Source: U.S. Energy Information Administration 16 AWI October Retail and general industry consumption

17 market analysis Virginia. The zero-liquid-waste facility will treat water from three mines, and the flows will consist of partially treated AMD water mixed with prep plant effluent. The plant will be Veolia s first such facility in the U.S. Zick said the treatment market for removing TDS, sulfates and chlorides from mine water is just beginning to develop. It s just in its blooming phase, so to speak, Zick said. That s because the regulations are just starting to take effect since they have now been in place for a couple of years. WesTech s Szilagyi said coal mine drainage treatment could also see a spike as mining companies embrace synergies with the frac ing industry. Gas drillers need water, and using treated mine drainage can be an alternative to using surface water. Regulators have also begun to crack down on certain metals in coal mine discharge, and specialized firms have raced to the new market. In August 2011, Texas-based Envirogen Technologies announced its entrance into the selenium treatment market with its purpose-built line of fluidized bed reactors (FBRs). Envirogen Senior Vice President Dave Enegess told AWI that the market for selenium removal in coal mine drainage didn t exist a couple of years ago. U.S. federal guidelines for selenium recommend levels no higher than five mircograms per liter, and selenium guidelines in Canada can be as low as one or two micrograms per liter in some provinces. Of particular significance was a 2010 federal court ruling in West Virginia that enforced a treatment level for selenium of 4.7 micrograms per liter. They said BANNERAD3.pdf thou shalt 1 8/18/2011 put in a 9:43:04 treatment AM system, Enegess said. For selenium specifically, that s really what kicked it off. Enegess said selenium removal systems for mining have received pilot testing only in the last 18 months. Full-scale systems can vary in size from 100 gallons per minute to roughly 3,000 gallons per minute, and Envirogen has completed six pilot programs at coal mining sites. The company expects plenty of growth in demand for selenium removal, and large technology firms such as GE have begun to chase the market. Enegess said Envirogen has a head start, but he added that competition will likely increase. The market is not a secret anymore, he said. The market picture might be less bullish for the treatment of coal process water. The same wave of regulations that has led to lower AMD limits has meant tighter emissions standards at coalfired power plants. WesTech does business in AMD and prep plant refuse, but Szilagyi said the regulations that drive the former seem to be stifling the latter. Under the current administration, AMD will probably flourish. But coal prep is going to die. On [the drainage] side there seems to be a lot of talk, on the other side there s a lot more action, he said. We re not seeing the corresponding jump in acid mine drainage plants as we re seeing decline in coal prep plants. However, Zick said the need for prep plant effluent treatment might increase in the future. In many cases, pre-treated AMD water is stored in the same retention ponds as prep plant slurry, and the two are effectively treated as one waste stream at certain sites. The new regulations on general mine site discharges could increase treatment demand for effluent ponds as mining companies balance their on-site water use, Zick said. C M Y CM MY CY CMY K Innovative Water Treatment Solutions for Enhanced Oil Recovery and Produced Water WATER STANDARD is a global water treatment company setting the standard in mobile water treatment, desalination, enhanced oil recovery (EOR) and produced water solutions for the onshore and offshore oil and gas industries. WATER STANDARD has developed proprietary systems and designs to consistently deliver customized low-salinity and low-sulfate water for EOR and treated water for chemical EOR. WATER STANDARD was recently awarded the engineering of a full-scale, first of its kind vessel-based system for a chemical EOR project offshore Malaysia. WATERSTANDARD.COM 17

18 insight Water execs debate key business drivers in 2012 Hot, dry conditions across much of the United States positively impacted major players in the water sector. Meanwhile, gains in new residential construction may be too little, too late to be a big factor. hold occupants. She cited her company s most recent 10-K, in which American Water said its regulated businesses saw water usage per residential customer decline 2.1 percent over the past five years, ranging between 1.3 percent and 3.42 annually. Aqua America CEO Nick DeBenedictis told AWI his company s normal volume decreases by about half a percent each year, due in part to less water use among households. DeBenedictis, however, said low consumption can often help investor-owned utilities yield more positive results from rate cases. I look at it in the long run as a positive in the regulated business, DeBenedictis said. If you re going in for rate relief every couple of years, which most of us have to because we re putting so much pipe in the ground, then you take the new volume because of the more efficient washing machine and you bracket that into your requirement. DeBenedictis acknowledged that new housing starts would have to eclipse 800,000 per year in order to offset the decrease in volume and increases in operating and maintenance costs, according to Aqua s estimates. The Census data, however, shows housing starts were barely above 500,000 as recently as July Dry weather conditions may be the only driver of demand that can offset low consumption made possible by the evolution of household appliances and water fixtures. American Water s FY2011 filing also acknowledged that usage volumes increased from 2009 to 2010, perhaps due in part to the California drought of (American Water s California customers represented 5.2 percent of its entire regulated operations (new starts in thousands) Two of the most important drivers of investment in the water sector the weather and the housing market have trended favorably for companies providing water supply and related equipment and infrastructure during the course of the year. While the impact of the former seems to be waning in the wake of a dissipating but still severe drought gripping much of the Midwest, new residential construction is clearly growing. Nevertheless, many observers believe consistently hot, dry weather will in the long run have a more significant impact on the water industry as events like the current drought shock municipalities and agricultural operations into investing in infrastructure and new technology. Conversely, growth in new residential construction is not likely to move quickly enough to flood the municipal market with cash to spend on much-needed capital improvements, and household water usage appears to be on a downward trend. The U.S. Census Bureau reported in September that new single-unit housing starts had grown 27 percent year-over-year in August (see chart below). The trend is encouraging, but the number of single-family housing starts recorded year-to-date in August 2012 represents only 31 percent of the all-time high achieved in The tepid growth figures suggest new home construction is sporadic, which may be a factor of suburban sprawl. When new residential developments are built far distances from centralized water systems, municipalities are less able to justify providing water from systems that they operate within or near city limits to those communities. Dennis Wierzbicki, president of Grundfos USA, told AWI that much of the new water systems being built in the future will be small and thus will not generate enough capital to solve the financial problems of their respective municipal governments. I don t think new home construction is going to be what we ve seen in the past, Wierzbicki said. There s lots of dialogue about new home construction in the future, and these large residential communities that are very remote are going to be few and far between because municipalities aren t going to want to run pipes to those. They won t be able to maintain them unless somebody will pay for it. When you see the cost to run those systems out there, they won t do it. Any growth in the housing market suggests an increase in overall household water consumption, but water use in existing homes appears to be decreasing. American Water Chief Financial Officer Ellen Wolf told AWI this is a factor of innovations in appliances and water fixtures and declining numbers of housenew u.s. housing starts (singlefamily units), Aug Aug A S O N D J F M A M J J A Source: U.S. Census Bureau 18 AWI October 2012

19 insight revenue base in 2010.) In the second quarter of 2012, American Water raised its EPS guidance due in part to the effect of increased pumpage in its service territories. In addition, analysts are forecasting strong third quarter results for American Water s closest competitor, Aqua America, as hot weather persisted in Pennsylvania and New Jersey. The dry weather also provided a boost for some equipment suppliers with footholds in the agricultural supply market. Pentair saw revenues from its agricultural segment jump 17 percent in 2QFY2012. Pentair COO Mike Schrock told AWI the growth in that segment, which accounts for about 5-6 percent of Pentair s overall revenues, has tapered somewhat due to an early harvest in some regions and water restrictions by municipalities and regulatory bodies in other areas. With or without the drought, the agricultural sector is a fertile market for Pentair s pumps, but severe conditions can necessitate a strategy shift, Schrock said. [The drought] has caused us to invest even more strongly in agricultural as a market, Schrock said. There was a water shortage prior to the drought, so water scarcity has always been an area we ve sought to address through our business, and so it s caused us to reinforce the need for more efficient water delivery systems and better ways of improving crop yield. Wierzbicki said Grundfos, like Pentair, saw its agricultural business positively impacted by the drought at the beginning of the year, but the momentum waned in later months due to watering restrictions and crop damage, which reduces the need for irrigation. Grundfos is, however, investing in solar-powered technology that will allow wells to be drilled in areas located far away from surface water sources and electrical utility infrastructure. It seems as though investments in technology designed to protect farmers from periods of extreme scarcity will continue even as the drought of 2012 fades. Suppliers opinions vary on whether or not the market for such technologies may potentially crater due to complacency among potential customers. I don t think there will be complacency because water scarcity had been such an issue prior to the drought, Schrock said. If you look at some of the core drivers in the market, you see declining water tables, you see increased need for irrigation to improve crop yields, you see regulation of water sources and you see issues around either pollution or potential disease control related to crops. I think the market drivers will continue to accelerate and the drought was more of an additional blip in demand on top of that. Wierzbicki said that although farmers tend to re-think their water management strategies during times of increased scarcity, the cyclical nature of the weather can sometimes lure them into a false sense of security. Honestly, in the past we haven t seen them make any significant changes, but maybe with the severity this time we re going to see people pay a little more attention to the scarcity of water and access to water in the ag markets, Wierzbicki said. On the municipal side, a lack of funding options will make the decision to defer changes to water supply planning easy. Increased consumption, however, will eventually bring greater attention to what Wolf believes will be the biggest business driver of the water sector in the years to come rehabilitation and replacement of aging infrastructure. When consumption increases, water mains that are already in bad shape are taxed even more than usual. Wolf said events like the drought provide the private sector with opportunities to educate municipalities on the importance of repairing these assets while water consumption issues are fresh on people s minds. Without adequate financing, however, communication can only go so far. The agricultural sector seems in a better position to invest in more effective and efficient water management technology as long as crops continue to be sold at adequate prices. Meanwhile, an incremental housing recovery can only provide a minor boost that is not likely to hold the municipal sector over until more creative options for financing capital investment are embraced. u.s. states with areas of extreme or exceptional drought as of sept. 25, 2012 WA CA OR NV ID UT MT WY CO ND SD NE KS MN IA MO WI MI NY PA IL IN OH MD WV VA KY TN NC SC MS AL GA NJ DE ME VTNH MA CT RI AZ NM OK TX AR LA AK HI DC FL Source: U.S. Drought Monitor 19

20 off wall street Stocks, swaps and swindles It seems as if the stock market starts falling every time I sit down to write this column. his month is no exception, though we re still perched near the top of a rally that has seen the S&P 500 index rise nearly 15 percent since its early June lows. Small cap and mid-cap stock indexes, made up of the shares of smaller companies, have been even stronger, recently posting new all-time highs surpassing their 2007 peaks. Toward the end of September, however, broad market indexes started giving back some of these gains, as European debt worries ratcheted up once again. The latest violent riots in Greece and Spain are becoming like a sick version of Groundhog Day, revisited over and over as citizens keep lashing out at the pain inflicted by government austerity measures mandated by global lenders. It s widely expected that the European Central Bank will step up again to avert disaster. In early September, the ECB introduced an aggressive and potentially unlimited program to buy debt of Eurozone nations to keep debt service costs from spiraling out of control. Our central bank has largely done the same, with the Federal Reserve unveiling QE3 in mid- September, a promise to keep buying U.S. bonds until the cows come home, or it sees a clear improvement in the jobs situation. The problem is that markets are starting to worry that even trillions of dollars in monetary stimulus won t be enough to jolt the economy out of its doldrums, leaving debt-laden governments with no other options. Amid election volatility and nervousness about how a lame-duck Congress will avoid plunging over its fast-approaching fiscal cliff, this all sounds like a market correction in the making. A bright spot continues to be housing, still climbing slowly out of the ditch. Housing starts held up in July and August and are running 25 percent above 2011 levels year-to-date. We note that water utilities which benefit from new home connections have underperformed the S&P 500 index in the past couple of months, excluding strong runs for shares of American States Water and San Jose Water. Better housing data, and a new round of market nervousness, may give this defensive sector a new boost. Simmering municipal risks So far muni bond trading prices have held steady, though tracking well behind stocks recent rally. However, unfunded pension liabilities remain a big overhang. The Wall Street Journal recently calculated that even after 45 states have enacted legislation to roll back pension benefits, states still face an $800 billion funding gap. At the local level, city officials have rallied desperately to oppose Moody s recently proposed Debra Coy, leading financial analyst emeritus in the water sector, gives her take on this month s developments. changes to pension fund calculations, which, mainly by taking a more conservative, aka realistic, view on investment growth rates, would imply shortfalls of more than $2 trillion, three times what is currently reported. About a month ago, the financial press was atwitter over Berkshire Hathaway s early termination of $8.25 billion in credit default swaps issued as insurance for municipal bond debt. (Swaps are a financial derivative used as a risk management hedge or to speculate on market changes.) Bond market bears said this meant that the great Warren Buffett was getting cautious on munis, while the ever-present bulls said no, this was just a smart investor taking profits on a good trade. Hard to say, but it does give one pause. Postcard from the edge Speaking of swaps, beleaguered Detroit may be the new poster child for swaps gone bad. A Bloomberg story recently detailed how the Detroit Water & Sewerage Department (DWSD) had to pay a shocking $536 million to Wall Street banks in the past year to unwind interest rate swaps under contract terms. This is more than the entire fiscal 2013 operating budget for DWSD, according to Bloomberg, and nearly as much as its 3-year capex budget. Annual payments on new debt issued to cover these swaps payouts and other costs are now 40 percent of revenues (by comparison, American Water Works, the most levered of the investor-owned water utilities, has interest payments that run about 11 percent of annual revenues). Meanwhile, Detroit is suffering through the corruption trial of former mayor Kwame Kilpatrick, who the prosecution says treated DWSD like his personal piggy bank, among other sewer-worthy behaviors. DWSD itself is undergoing a massive restructuring that will cut the number of employees by 80 percent this is not a typo over the next five years, upgrade IT systems and outsource non-core administrative services. Of course union employees are outraged. This reduction in staff will cause the complete failure of our sewage system, one told the press, and workers have signaled their intent to strike (before they are laid off). However, the reductions are the result of an extensive review and have been approved by the DWSD board. This bizarre juxtaposition of events says volumes about municipal business models gone wrong years of naivety, greed and inertia that are finally no longer viable. The tired old public vs. private debate is sorely outdated, and completely misses the point. Debra G. Coy is a principal with Svanda & Coy Consulting, which serves customers in the water sector. 20 AWI October 2012

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