Gradual Growth and
17 Long-Term Deals
Mark 1997 Water & Wastewater
by Paul Eisenhardt & Andrew Stocking
with William G. Reinhardt
(reprinted, with permission, from Public
WARNING: slow loading many graphs
|The second annual survey of the major companies and contracts for the
private sector contract operation of municipal water and wastewater facilities in 1997,
shows only gradual market growth in the number of new municipal clients and treatment
By one estimate, as many as 200 new municipal and industrial clients in the U.S. issued requests for proposals (RFPs) for contract operations in 1997. About half of them were for systems of less than 1 million gal per day (mgd), however.
For systems larger than 1 mgd, industry sources say that there were about 110 new business opportunities (RFPs) offered during the year. Of those procurementsabout 15% of which were for industrial plant O&M servicesover 40% are still pending and 14 were aborted. The roughly 55 RFPs that resulted in signed municipal contracts in 1997 added $50 million a year in gross revenues to the annual con-ops base of about $1.1 billion to $1.2 billion, they say.
PWF's most recent survey confirms those estimates. The 13 firms that responded in January, 1998, reported signing contracts in 1997 for 46 new facilities or systems comprising about 467 mgd of new capacity in 60 water and/or wastewater treatment plants. Adding CDM Philips 120-mgd Tolt River water filtration D-B- O project in Seattle to the list increases the design flow added last year to 587 mgd.
Given the low rate of reversion to municipal operations reported by the private operators, the new clients added in 1997 represent about 6% growth in the market based on facilities and about 12% based on design flow. About half of that capacity increase is represented in two water plants, Tolt River and American Anglians contract to operate Buffalo, N.Y.s 160-mgd treatment facility.
The low gains in the con-ops market last year are due partly to the diversion of private resources to compete for more riskyand more profitablelong-term contracts allowed under IRS Rev. Proc. 97-13 (PWF 1/97 p. 1). Hoping to grab an early edge, many of the major industry players devoted substantial effort to complex procurements in Seattle, Buffalo, N.Y., Taunton, Mass., Franklin, Ohio, Evansville, Ind., Cranston, R.I., Wilmington, plus New Haven, Bridgeport and Danbury, Conn. Many also stretched marketing budgets to prospect in Canada, with little to show so far.
Many procurements started in 1997 are still undecided. Where it used to take six months to complete a five-year con-ops bidding process, it now can take 18 monthsor much longerto compete, negotiate and gain political and regulatory approval for the full-service management contracts being offered. That is especially true for large utility systems and for those governments seeking to include capital investment, private operation of underground infrastructure, and billing/customer service in traditional O&M service contracts.
|A number of governmentsFranklin, Ohio, wastewater, Cranston, R.I.,
Fairbanks, Alaska, and Danbury, Conn.successfully navigated the lease transaction
reviews required by the U.S. Environ-mental Protection Agency and Office of Management and
Budget under Executive Order 12803.
The early efforts to push the con-ops envelope paid off handsomely, however. The PWF survey shows that nine different firms signed fixed-price contracts with 17 new municipal clients in 1997 for long-term management and operation of publicly owned facilities (see p. 5). Most of those contracts move the risk of O&M, repair and rehabilitation and, in fewer cases, capital upgrades or expansion, from the public to private sector.
The longer amortization periods and greater control given to the private sector allowed a total of $73.45 million to be paid upfront to municipal governments (i.e., concession fees and reimbursements) and $55.45 million of new investment capital to be committed as part of these 17 new service agreements in 1997.
|Market growth prospects appear to be improving as public and private
participants move up the learning curve on long-term contracts.
New business revenues industry-wide are likely to start ramping up in 1998 toward a steady state of $150 million to $200 million in annual revenue growth sometime after 2000. Part of that gain will be due to growth in industrial contract operations. Less burdened by red tape, industrial outsourcing of water/wastewater operations is likely to grow quicklyand quietlyduring the next few years, adding momentum and stable growth to the municipal contract operations market.
Fueling new business prospects on the municipal side are a steep rise in the rate of RFP issuanceabout twice last year's first-quarter paceplus scope and term increases in existing and new contracts, inflation, and the entry of larger cities in the market.
The fast start this year by United Water Services in signing long-term contracts with Milwaukee ($30 million/year) and Gary, Ind. ($10 million/year), and PSG's expected signing of an extended contract with Taunton, Mass., assures a growth spurt in 1998. Next up is Atlanta, which is seeking an operator for its entire water system now. If it is successful, that could add another $70 million to $80 million to the 1998 total. (Marketing costs also appear to be on the rise. Atlanta is charging $50,000 for its RFP and insists on a $1-million bid bond from each finalist.)
Among other cities, at least five in New Jersey, one in Pennsylvania, and half a dozen in New England are now or soon will be seeking proposals for long-term private operation and capital investment in their utility systems. In Texas, Galveston, Laredo, San Antonio and others are close on their heels with similar plans.
To meet current demand, Florida must improve its water management which bodes well for outsourcing and more innovative private-sector services to governments there. And it's possible that military base commanders will find a way to get the Pentagon to move this year on the dozens of utility privatization projects backing up now.
|As before, this year's survey focuses only on the major contract
operations firms and their facilities. It does not capture industrial O&M contracts,
groundwater remediation nor the segment of the market characterized by local contract
operators who most frequently are operating smaller systemsless than 1 million gal
per day (mgd)for municipalities or private developers.
Those smaller contract operators are addressed in the second segment of this special report starting on page 14. It describes in detail the municipal water/wastewater O&M markets in New Jersey, New York and Connecticut, including the local firms operating in those states.
Three regional firms in strong markets were added to the national survey this yearElizabethtown Water in New Jersey., Alliance Water Resources in Missouri, and Woodard & Curran in New England. In addition, consolidation and acquisitions have altered the composition of two major companies that were covered in last year's survey (PWF 1/97 p. 254).
These changes plus the different methods of data collection between 1996 and 1997 make valid year-to-year comparisons impossible. Comparable data on contracts and flow, plus additional information on long-term contractual arrangements, will be collected as part of the January 1999 survey of the 1998 market.
The charts and discussion here are based on full or partial responses from 13 companies to a PWF survey in January, 1998. U.S. Water LLC, owned by Bechtel Enterprises and United Utilities, declined to participate. Its 1997 U.S. municipal O&M contracts are reported from an October 1997 response by U.S. Water to a call for qualifications.
To the extent possible, the market information supplied by other vendors has been verified based on contracts data obtained from qualification statements supplied to municipalities. The data on plant or system size is based on mgd of design capacity, not average daily flows, which are often lower than installed capacity.
A $1-Billion Business
|Based on this research, the 14 O&M firms provide contract operation services to a universe of over 1,200 facilities for 775 different municipalities in 44 states and Puerto Rico. In addition to pipes and pumps, private firms operate 736 wastewater treatment plants and 464 drinking water plants totaling 4,673 mgd of design capacity (2,947 mgd wastewater, 1,726 mgd water).|
(Including Canadian operator Philip Utilities Management Corp.s 80-20 operating partnership with Camp, Dresser & McKee Inc. for the 120-mgd Tolt River water filtration plant D-B-O contract, signed May 1997 with Seattle Public Utilities [PWF 12/97 p.15], increases the water plant total to 1,846 mgd.)
Using the "rule of thumb" that contract operation of 5 mgd facilities (without ownership charges) represents $1 million of annual revenues, the municipal O&M market, as represented by this survey, adds up to $934 million of contract revenues in 1997. That is almost 5% of the $20 billion a year spent by U.S. municipalities to operate and maintain all publicly owned treatment works for water and wastewater.
Including the smaller municipal systems and package plants operated by local O&M firms, plus industrial outsourcing contracts (neither of which is covered in this survey) could add $200 million a year or more to the overall market for private operations.
These contract operations programs are represented throughout the United States, with the notable exception of the Rocky Mountain States and the Dakota's.
Significantly different strategies are demonstrated by the firms surveyed. For example, after a difficult management transition, industry leader PSG successfully focused on achieving renewals of its existing contracts while competing aggressively to expand its national base. It won renewals on 53 of 58 of its municipal O&M contracts that expired last year and signed service contracts worth about $20 million a year with 10 new municipal clients.
In its core business, PSG's most difficult loss last year was to Severn Trent Environmental Services, also based in Houston. Plaquemine Parish, south of Baton Rouge in Louisiana, recompeted PSG's expiring contract and awarded STES the operation of its 20-mgd system (five water plants with a daily flow of 12 mgd, and six wastewater plants totaling 7.5 mgd). The STES annual fee was $60,000 less than PSG's for the five-year contract.
United Water Services (JMM) took away PSG's Houston wastewater O&M contract last year, but by a much larger margin that STES's win in Louisiana.
French-owned PSG also went head-to-head at every opportunity with its arch competitor United Water Services in pursuit of new long-term contracts. Teamed with its sister company, Metcalf & Eddy Inc., and with Poseidon Resources Corp. as its capital financing partner, PSG won Cranston and Taunton. But it lost Houston and Milwaukee to United Water Services, which is controlled by Suez Lyonnaise des Eaux.
Cut out of the big-plant market in the U.S. by its French competitors, OMI aggressively pursued the Canadian market and urban systems in Latin America and Asia.
United Water Services and U.S. Filter Operating Services (USFOS) focused on larger facilities and longer-term contracts (average of 11 mgd and 7 mgd, respectively). Both USFOS and Earth Tech provided corporate financing for their capital leases last year.
Earth Tech aims to be where PSG and United Water are not. In addition to expanding the scope and duration of its existing O&M contracts, largely in Michigan, Earth Tech signed two new long-term D-B-O contracts for small systems last year and is negotiating terms for two larger projects now, in Franklin County, Pa., and Blair Township, N.J.
STES seeks to cluster its large number of small facilities into an integrated operation and offer expanded services to existing clients on a negotiated basis. For example, STES recently announced the formation of a non-profit '63-20' corporation which will employ nonrecourse public sector borrowings to finance the acquisition of a private utility near Fort Meyers, Fla., for contract operation by STES as part of its work for Lee County, Fla.
Environmental Management Corp. successfully continues with its central region focus on small and mid-size communities. It also teams with American Anglian to pursue larger projects on a D-B-O-O basis in the same region around St. Louis. In Evansville, Ind., the two partners have teamed with the local electric utility to offer billing and other customer services.
Ownership of the Major Firms
While familiar names continue to dominate the list of firms, changes of ownership and acquisitions occurred during 1997 as summarized in the chart below.
Of the 14 companies listed, four remain privately held with 10 firms owned by publicly-traded companies. Of those 10 firms, five have participation from major European municipal service companies (Suez Lyonnaise, Compagnie Générale des Eaux, Yorkshire Water, Anglian Water, and Severn Trent, Plc). Significantly, nine of the 14 firms are owned by parent companies with annual revenues or assets exceeding $1 billion.
Reversions, Contract RenewalsOf the 13 firms reporting information, each had an average of one facility revert to municipal operations in 1997, suggesting that the performance of private sector firms is favorably viewed by their clients.
The survey also showed that the large majority of the 1,200 facilities under contract operation in 775 municipalities are renewed via sole-source negotiations with the incumbent operator. That is largely due to the high cost of re-procurements and the political risk of switching to a new customer- service provider.
The survey showed:
1) Firms report a high degree of success in renewing existing programs and contracts. Some report a 100% success rate.
2) Sole source, negotiated renewals are the dominant approach for achieving renewals by these private sector firms.
3) Some municipal clients are turning to formalized "re-procurements" of services. Often these municipalities are using outside consultants to augment staff expertise in an apparent attempt to level the playing field with the contract operation firms. Re-procurements by Taunton, New Bedford, and Lynn, Mass., plus Fairfield-Suisun, Calif.; Oklahoma City, Okla.; and Houston, Tex., illustrate this approach.
The 1997 contracts survey did not address topics such as the pricing of the renewal contract, the bundling of additional services and/or concession fees or capital usage to successfully gain renewals. Additional focus and analysis of these areas will be attempted with next year's survey of 1998 results.
As evidenced by the results of the 1997 survey, the private sector service providers continue to increase their marketplace presence. At the same time, the imperative for change and competition for providing services continues to accelerate in the U.S. marketplace. The deregulation of electric utility services and the new ability to "wheel" water through another water utility's conveyance system are but the most recent examples.
Public sector utilities have also awakened to the challenge of providing efficient and effective services using a customer-centered approach. Examples abound of significant improvement in service quality and cost of service by these public utilities. Equally significant, public sector water and wastewater utility directors now openly share benchmarking and cost comparison information as part of their self-improvement efforts. Vehicles for the transfer not only of technologies but also management techniques and systems are being established by these utilities. Potentially, one of the private sectors most effective advantages, the ability to assimilate technologies and cost-effectively employ expertise at multiple facilities, may be shrinking as a result of these cooperative public sector efforts.
Interestingly, some public sector utility managers are now developing plans and programs which manage the "revenue generation" side of their budgets. This expanded focus no longer accepts that the only source for a utility's budget is revenue directly generated through provision of water and wastewater services to the utility's service area customers. Whether the public sector can indeed market their capabilities and services to additional customers remains to be seen. However, this "entrepreneurial" spirit will challenge the private sector to be even more innovative and creative in their service offerings. Perhaps, the next service areas may even be identified by these public-sector "entrepreneurs."
Another area emerging as a significant opportunity for all water and wastewater utility managers is the management (operations, maintenance, and capital replacement) of the underground collection and distribution system assets of the utility. With significant progress already demonstrated in providing more efficient and effective treatment plant operations, the underground plant (often the largest capital investment) may represent a significant opportunity. Long viewed by the private sector as primarily a capital project, these collection and distribution systems may involve line maintenance and repair functions; meter installation, maintenance and replacement; customer service interfaces and functions; development of maintenance and replacement plans; and management of significant workforce numbers. Time will tell whether the private sector views these service areas as attractive augments to the contract operation of larger sized water and wastewater facilities. Future PWF surveys will attempt to pursue this area.
Encouraging for the development of the private sector marketplace is the new ability to enter into long term (up to 20-year contracts) and to provide private sector capital for capital improvements, upgrades and expansions at municipal facilities. Many of the firms participating in this year's survey are well positioned by their size and balance sheets to provide this financial component, either directly or through the partnering with third party financial sources, for their projects. The need for significant capital expenditures for new facilities and to meet new regulations is well documented. So is the lack of sufficient federal government funding programs and the inability of many municipalities to incur additional debt or convince voters of the desirability of raising rates to finance the needed expenditures.
The use of upfront concession fee payments by the private sector is another example of creating financial incentives (although perhaps at high repayment costs in future years) for the acceptance of a private sector program. Designed to fit specific local needs, the upfront concession fee payment, as illustrated by Cranston, Danbury, Wilmington, and others, represents an attractive near term source of capital for the local municipality. In the future, perhaps cost-effective public sector utilities will also be able to "monetize" annual savings into an upfront payment. These annual savings would then be used to repay such borrowings through future years. Until such capability is developed, the upfront concession fee remains a distinctive private sector capability.
Taken together, these trends and opportunities provide significant opportunities for the private sector. Working with PWF, we intend to jointly conduct a new survey in early 1999 to ascertain what changes and trends emerged during 1998. We envision the next survey will attempt to add more regional firms and to expand its look into contract renewals, use of capital as part of the contract service, and better understand the mix of longer-term contracts and the reasons such contracts were adopted by the municipal client.
About the authors: Paul Eisenhardt is a Vice President of Malcolm Pirnie, Inc. where he leads the firm's National Utility Management Consulting practice. From 1976-86 he was the President of Envirotech Operating Services (EOS). Andrew Stocking is a project engineer at Malcolm Pirnie, Inc. Both are located in the firm's Northern California (Oakland) office and thank Marian McLeod, project assistant, for her support in the preparation of this article.
For a subscription to PWF and get the latest information on long-term contracts in the water/wastewater industry contact Bill Reinhardt at Public Works Financing: (908) 654-0397, or email the WIC.