US outsourcing activity picks up
- From: Vol 10, Issue 4 (April 2009)
- Category: General
- Region: Americas
- Country: United States
- Related Companies: American Water, Aquarion, CH2M Hill, Earth Tech, Severn Trent Services, South West Water, United Water, Veolia Water North America and Veolia Water Solution & Technologies
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An up-tick in contract ops revenues in 2008 reversed the declines of the previous year. Restructuring efforts should enable the larger firms to make the most of a burgeoning pipeline of opportunities.
The US contract operations market increased by 8% in 2008, after slipping backwards by 2% in 2007. The six biggest firms in the sector posted revenues of $1.53 billion last year, versus $1.42 billion in 2007, with the biggest rises coming from American Water and United Water.
Not all companies boosted their revenues – CH2M Hill OMI’s turnover in this segment slipped by 16%, as the company’s contract in Stockton, CA, came to an end, and business development activities focused more on broader municipal services and public works contracts.
As the economic crisis eats into municipal budgets across America, there is increasing evidence that more municipalities are entertaining the idea of outsourcing the operation of their water and wastewater systems. While it is too early to tell whether these discussions will result in a tangible pick-up in activity, potential landmark deals in New York and Milwaukee are creating a definite buzz amongst the bigger players (see boxes pp8 and 11).
The design-build-operate (DBO) calendar is also gathering pace after a frustratingly slow year in 2008. The big prize will be the upcoming $260 million contract to build a 32MGD (121,000m3/d) water reclamation facility in Pima County, AZ, and although an award is not expected until late 2010, Veolia, American Water and CH2M Hill are already putting together proposals, while United Water is in negotiations with a construction firm ahead of putting in a joint bid.
Meanwhile, communities in East Providence, RI, Wilsonville, OR, and Ridgecrest, CA are also actively considering the DBO approach for the procurement and rehabilitation of water treatment assets (see PPP tracker pxx).
Given the collapse of the municipal bond market and the sharp rise in borrowing costs, however, the key question now is whether voters – and investors – will accept the terms of the bonds needed to fund this infrastructure.
Aggressive compliance deadlines may ultimately force some communities to consider private finance to fund water and wastewater infrastructure upgrades, as was the case in Santa Paula, California in 2008.
Veolia Water North America
Veolia’s US contract operations revenues advanced by 11% in 2008, as the company reaped the benefits of the Milwaukee wastewater deal that it won off United Water at the end of 2007.
Both the company’s government and industrial revenues received a boost (from $438 million to $490 million, and from $127 million to $138 million, respectively), although big municipal DBO wins eluded the market leader last year (see table pxx).
The big O&M wins in New London, CT and Hardin County, KY came at the start of the year, and although much of Veolia’s business in the past has traditionally focussed on pure plant operations, the 10-year O&M arrangement in New London also involves a customer service and asset management role.
“New London is interesting for us because it’s broad scope, and that’s definitely something we would like to see more in the US,” said Laurent Auguste, CEO of Veolia Water Americas. “Our focus is to cover the full scope as far as water is concerned,” he told GWI. “Underground asset management is a big topic for us, and that has been a strong element in terms of developing our capabilities in 2008 – there’s definitely a big need there.”
Perhaps the most pleasing win for Veolia last year was a 10-year industrial DBO for steelmaker ThyssenKrupp. The plant, currently in the construction phase, will provide process water to TK’s new carbon and stainless steel processing facility in Calvert, AL. “It was a very important win for us, and a very interesting one in terms of us being able to show our capabilities when teaming up with Veolia Water Solutions & Technologies,” Auguste asserts.
Auguste also sees VWST’s technological solutions boosting his company’s value proposition on the municipal DBO side. He is open about Veolia’s failure to capitalise on opportunities in this segment of the market in 2008: “It has been disappointing – we were going after Spokane and Santa Paula, and unfortunately we lost these two opportunities. I think we probably could have approached these projects with a better strategy,” he acknowledges.
Although Veolia suffered at the hands of its competitors last year, Auguste believes the firm is now better positioned to take advantage of the pipeline of DBO opportunities in 2009 and beyond. “I think we are well prepared for that. 2008 and 2009 are the preparation years for us, and beyond 2009, we are really geared for growth,” he told GWI.
One of the unforeseen consequences of Veolia Water North America moving its headquarters from Houston to Chicago in 2008 was the number of staff who were unprepared to make the move from South to North. This surprises Auguste, who re-located from Japan last spring to take over Joe Burgess’s role heading up Veolia Water North America. He is undaunted by the staff losses: “We are staffing up – we have a renewed team and we’ve been able to reshape to some extent – this is still a work in progress, because if we want to have the ambition to grow, we need to have a very strong support team.”
On the question of profitability, he acknowledges that there is room for improvement, and his strategy is disarmingly straightforward. “It’s very simple. Be efficient – not only in terms of trying to squeeze costs, but by working to optimise plants. That influences the bottom line, and it also enables us to be stronger from a business development capability perspective.”
Auguste is hoping to post double-digit revenue growth again in 2009, but he is at pains to stress that this is not his sole raison d’être. “For us, growth is definitely part of our strategy, but that’s not an ego thing. Operational excellence has to be the key for us, and part of our ambition is to be the most attractive company in the water business in North America.”
Despite not winning any new contracts in 2008, United Water’s contract operations revenues rose by 22%, taking it into second place behind Veolia.
The company’s acquisition activity was the major driver behind the sales advance, and the hole left by the loss of the flagship Milwaukee wastewater contract was plugged by the first full year of revenues from the 2007 acquisition of Aquarion Operating Services (AOS), and by around $20 million of revenues from the purchase of Earth Tech’s North American contract ops business (NACO) last summer.
The most significant boost, however, came through the purchase of Utility Service Company, a Georgia-based provider of asset management services for water storage tanks and related water treatment process solutions.
“There wasn’t a tremendous effort last year pitching new contract business,” admits Dan Sugarman, vice president for marketing and strategy at United Water. “We were going through quite a bit of integration, but we are now at a point where we have an integrated business development team.”
Given that USC’s business model is clearly different from the bread-andbutter O&M business, is United justified in including USC’s revenues on its contract ops P&L? Patrick Cairo, EVP for commercial development, believes it is.
“We’re expanding our business outlook to look at the whole value chain of water, and we’re looking at complementing their core business, which is water tank maintenance, with some associated services in asset management related to treatment plant maintenance. From a synergy point of view, we’re excited because their strongest area is where we want to grow.”
He believes USC’s regional sales network will open up new opportunities for United Water to expand its contract operations footprint in key growth regions such as the Southeast and Southwestern United States.
Like its competitors, United Water is also excited by developments in the DBO sector. The issue of parent guarantees has to some extent kept the company out of the DBO market in the past, but this is changing.
“One of the pre-requisites in the US is that you need to provide the wrap-around guarantee for the design-build and the operating aspects of a contract. We’re more apt to take that now, as long as we’ve got a DB partner and we can shed the entire DB responsibility,” Cairo told GWI. United has teaming arrangements in place on some of the larger upcoming projects, including the Pima County deal in Arizona, and the hope is that United can leverage this strategy to increase its presence in this segment of the market.
While the diverse nature of United’s enlarged contract portfolio arguably lessens the overall risk profile of the business, it also means more work in terms of renewals. United successfully renegotiated 25 contracts last year, including the $130 million 10-year agreement in Jersey City, NJ and the $54 million wastewater O&M deal in Gary, Indiana. It was not all plain sailing, however.
“Now that we have a portfolio of small and mid-sized regional contracts, we’re seeing localised firms showing up that we hadn’t seen before when we’re going after renewals. It’s presenting a dilemma, because they’re putting in some pretty competitive offers,” Cairo explains. “As the technical requirement becomes more complex, our value proposition gets stronger, but that value proposition has a higher overhead.”
Full-year revenues from the NACO and USC acquisitions should allow United to report further revenue growth this year – the company is currently reckoning with a figure of around $350 million in 2009. For the growth to continue, however, the company’s business development machine will have to crank up its efforts to generate new business.
CH2M Hill OMI
The Denver-based company was the only one of the big six to report a reduction in contract operations revenues in 2008 – its government income dropped from $193 million to $168 million, while industrial revenues slumped from $42 million to $30 million.
A large chunk of the decline on the municipal side came about as a result of losing the ill-fated Stockton contract, which reverted back to municipal operation on 1st March 2008, though the company did pick up a number of new deals, chiefly in the Southwest (see table pxx).
While water is still a core part of CH2M Hill OMI’s business offering, the firm’s business development activities have concentrated more on broader public works and municipal services contracts over the past couple of years.
It has also had some difficulty retaining contracts – away from Stockton, a number of other plants reverted to municipal operation in 2008, and the company will have to fight to keep a hold of its wastewater contract in LeHigh County, PA, which is currently up for renewal through a competitive bidding process.
CH2M Hill’s biggest win last year was a DBO contract to build a wastewater treatment plant in Spokane County, WA – the O&M part of the deal alone is worth $120 million over 20 years. The operator is forecasting 5% top line growth this year, though this will still leave it well below the $235 million figure it generated in 2007.
American Water notched up the biggest year-on-year revenue gain of any of the major contract operations firms, posting $170 million in 2008 against $139 million the previous year. Design-build revenues from the wastewater DBO in Fillmore, California combined with higher cashflows from the military side to ensure American emerged from its spring IPO with a strong non-regulated business to complement its utility operations.
The company’s two major wins last year were both on the military side (see table pxx), and this market will continue to feature heavily on the group’s radar. “We believe that the federal government’s military-based privatisation facility is a key market that we play well in,” said Mark Strauss, president of American Water Enterprises. “We are going to continue to be very focused on military contracts, and the government seems to be continuing their fairly robust tempo of bids,” he indicated to GWI. “We have several pending proposals on the military side, and hope to be able to land our share of those.”
Despite a quiet year in 2008, American is also very much focused on the DBO market, and Strauss attributes the fact that his firm was not in the latter stages of the Spokane and Santa Paula deals to the timing of the company’s IPO in April. “In the run-up to the IPO, we were deliberately not in the market as actively as we might otherwise have been,” he admits.
Nevertheless, he refutes the fact that American’s decision to keep out of the limelight after the takeover by RWE in 2003 is indicative of a period of inactivity. “The Azurix acquisition [in 2001] brought with it a number of O&M contracts, and what we tried to do over the last few years was to rationalise where we could bring the best value, and which contracts were best to keep in the portfolio.
“There was a period of time when our O&Ms and DBOs were managed regionally along with the regulated water companies, and that strategy was reversed shortly after Don Correll came on board. To position ourselves to grow this part of the business, we re-assembled our O&M and DBO efforts back into centralised management, and we have really focused on service delivery under those contracts.”
American notched up impressive DBO wins in Lake Pleasant, Fillmore and Tampa Bay under RWE’s period of ownership, and is one of only three bidders to have prequalified for the upcoming $130 million desalination DBO in Hialeah, Florida. The firm is also interested in the upcoming wastewater DBO in Pima County, AZ.
“I think the stress of the fiscal challenges that municipalities face might have a profound effect on them being willing to take a look at design-buildoperate. People seem to be trying to think creatively on how to deliver projects,” Strauss told GWI.
The emphasis on military contracts and DBOs does not mean that American will shy away from traditional operating contracts, although the company’s approach is likely to be much more opportunistic here. “Our philosophy is to bid for value. I’m not saying that we’re running away from O&M – we’re just very deliberate about going after the types of projects where we think we can add value,” he told us.
Although American is definitely back as a major force in the market, there has not been a rush to staff up to address the natural attrition which took place in the lead-up to the IPO.
“Part of our re-organisation involved us trying to be focussed on our business development activities, and I can’t say that we’ve substantially increased the number of people,” Strauss notes. “It’s more about focus, quality, and looking where we can bring value-added. That’s how we hope to increase our activity in the market.”
Severn Trent Services
Despite more than 15% of its US contract operations portfolio coming up for renewal in 2008, Severn Trent Services managed to maintain a healthy renewal rate of over 90%.
Most importantly, it succeeded in retaining its long-term wastewater O&M contract in Jackson, MS, worth $34.5 million over five years. With so many contracts being rolled over, the company was perhaps better placed than most to observe what it saw as a greater degree of competition from its rivals. “We had a tough year in terms of the competitive aspect of renewals,” concedes Dana Kaas, vice president of operating services.
“In Jackson, for example, we saw heavy competition from United, as well as Southwest, which surprised us.”
Although the retention of the Jackson contract will help to maintain Severn Trent’s revenue stream going forward, its main achievement in terms of generating new business was the scoop a $6 million three-year wastewater operating contract in Danville, VA from American Water.
“Our natural tendency is to want to bid everything that we can find. When it comes to competing for a project in which the incumbent is on good terms with the client, though, we have to have a pretty strong reason why we think we can upset that,” Kaas explains. Part of the attraction of Danville for Severn Trent is the proximity factor – the city lies just across the border from Bristol, TN, where the company already has a wastewater operating contract.
After a 5.4% rise in revenues in 2008, Kaas believes the firm is on track to at least maintain this growth rate over the course of 2009. The regional nature of the company’s business development efforts mean that it has eyes and ears in many parts of the country, and as well as upcoming business in New England, Kaas is also excited about a West Coast opportunity with the Department of Defense.
This would mark a new direction for STS in the contract ops market, and although Kaas is coy about giving away too many details, he is confident that his joint bid with a developer could ultimately have the edge.
We have had to estimate Southwest Water’s contract operations revenues for 2008 due to the pending restatement of the company’s results, which has delayed the release of a 10-K for the year ended 31 December 2008. The slowdown in the construction of new housing in Texas is likely to have impacted SWWC’s non-regulated revenue base in the state, where it has a number of municipal utility district (MUD) contracts.
Increased competition is also understood to have hit Southwest’s non-regulated cash inflows in 2008, and although the company secured some new contracts, it also purposely got out of some which were not working financially. Overall, we estimate that Southwest’s 2008 revenues remained more or less equal to 2007, and we have factored that into our calculations.