Is Water the Next Oil?

Oil. When the price of a barrel of oil rises, we shudder. Every time the price of gasoline goes up a few cents, we complain. We hear about the profits of Exxon, Shell, or other oil companies and we curse the ground on which their offices sit. We know nearly every country in the Middle East has their wealth tied to this "Black Gold." We all know there is a finite amount of oil in the world, yet we still take it for granted. There is another finite material on Earth we all take for granted, too - although we don't really track its daily cost fluctuations. That Cmaterial is water. Unlike oil, water is easier to reassemble. Water changes its state from liquid to gas, or is split into its atomic components only to be recombined in animal respiration or by some other process. It is still in finite supply, but unlike oil, it is much easier to return to a usable state. Here in the U.S., most of us are spoiled. Water is usually always there; whether it's a simple walk to the tap, or a stop at the local mini-mart, we have it when we want it. Water.

Of all of the issues in the world today, from the war in Iraq to global warming, there is none more powerful than access to clean, safe drinking water. While our planet may be mostly water, less than 3% of it is fit for human consumption.1 Of that 3%, only about 1% exists outside of glaciers -- although, with the glaciers melting faster than predicted,2 that may not be true in a few decades. Water rights are the fuel for problems in Darfur,3 and it is easy to see similar situations arising elsewhere as the demand for clean water increases.

Drought conditions this summer in the U.S. have taken their toll on multiple communities. The usual spring water source for Orme, a tiny town in Tennessee, dried up early and for a longer time than normal. The residents survived on trucked water from a fire hydrant across the state border and three hours of access to their water tank per night.4 Large metropolitan areas also suffered from drought conditions. Atlanta was been in the news because their reservoirs were at a critical level.5 Conditions such as these could lead to a financial climate that will allow for major players in the water game to profit immensely. Back in 2000, the World Bank estimated the value of the world water market to be $1 trillion, even though only 5% of the world population got water from private companies back then.6 In their words, the potential for profit was "unlimited."

How Do Water Companies Make Money?

Water utilities vary in the U.S. - some are municipal and others private. The largest three private utility companies, listed according to 2005 U.S. revenue, are:7

1. American Water8 - The U.S. stock of RWE Group, American Water's German parent company, has risen nearly 9% in the past year.9
2. United Water10 - The U.S. stock of Suez-Ondeo, United Water's French parent company, has risen more than 30% during the past year.11
3. Aqua America12 - Aqua America U.S. stock has risen 14% in the past year.13

Do we notice a trend here? Of the three water utilities, two are owned by companies not based in the United States. Suez/Ondeo has a presence in 130 countries and serves nearly 117 million people worldwide. RWE intends to spin off American Water as an IPO, but that has been postponed due to the fluctuating market in America.14

In the U.S., the mostly municipally-owned water utilities tend to view water as a birthright rather than as a commodity. Many of these municipal utilities need help with modernization, upgrades and major maintenance. According to the EPA, the cost of needed upgrades and replacements to pipes and infrastructure alone will exceed $500 billion by 2019.15 While rate hikes are frequently granted in exchange for infrastructure improvements, it is always after the fact - which requires an outlay of monies from the water utility or loans to be taken out in order to pay for the improvements. This is often met with opposition from residents who fear the impending water (and sewer, because they are frequently intertwined) rate increase. Mistrust also ensues when water systems are sold private firms who are viewed as less committed to the residents as the municipality. These fears have led to the proposition of a "partnership" in which the private company manages the utility and is responsible for operation and maintenance, and the municipality (public company) retains ownership.

These "public-private partnerships"16 allow both parties to benefit. The municipality contracts out the management and maintenance, often at substantial cost savings because the municipality keeps the revenue generated by the utility, less the amount of the contract. Issues sometimes arise outside of the scope of the contract, but most are handled per an agreed fee schedule. While the private partner has to operate and maintain the facility for the contractual payment amount, the public-private relationship creates greater profit potential for the private management entity than owning the water utility outright, as most states limit the capital expenditure returns for municipalities at or near 10%, and profits upwards of 20% are not uncommon. The managing company is not dependent upon utility rates, nor are they usually governed by utility commissions, who are responsible for rate caps. These public-private partnerships are governed only by the level of savings they are able to generate from cost-saving measures such as automation using SCADA Systems,17 which are used to control, acquire and transmit data back to a central location. Also, many times numerous utilities are owned by one company, so they are able to centralize purchasing and administrative duties, resulting in lower supply cost and simplified administrative operations. This can lead to staff reductions - in many cases consisting of hourly staff (who are paid overtime) as well as union staff (who have more contract negotiating strength at contract time) - and thereby reduce cost.

These public-private partnerships are not without their pitfalls. For example, in Atlanta in 2002, deficiencies were revealed in the public partnership with Suez/United Water.18 These ranged from violations of federal drinking-water standards, to maintenance problems (e.g., broken security cameras, gates, etc.), or even to open manholes and water-main leaks that went un-repaired for weeks. There were numerous instances of residents waiting months for basic repairs, and when repairs were made, water was reported to be brown and dirty for days afterward.19 In fact, United Water failed to complete more than half of all required repairs in 2001. Even worse, collection rates dropped from 98% to 94%, costing the city millions of dollars in revenue. The end result was the dissolving of the contract early in 2003, sixteen years early.20

Atlanta wasn't the only city to have issues with United Water partnerships. Other examples include:21

• Milwaukee - Repeated sewage spills into Lake Michigan and even into residents' homes resulted in Milwaukee recently recommending their wastewater contract be awarded to Veolia Water North America, rather than renew with United.22
• Buenos Aires - Following the Argentina economy collapse, Buenos Aires charged high consumer rates while cutting off citizens who were unable to pay - all while as the utility polluted water sources.
• Jersey City - United Water diverted $1.2 million worth of the Jersey City's water to other communities without paying for it.

RWE has had its problems, as well. Within California cities, ratepayers grappled with large increases and declining service.23 In England, RWE/Thames Water topped the lists of the worst polluters in England and Wales for two of the past three years prior to 2005.24

To be fair, there have been success stories with these same firms. United Water has had a successful contract with the city of Indianapolis for management of their Advanced Wastewater Treatment facility since 1994, and has had their contract extended recently until 2017.25 RWE/American Water Works has been successful with several DBO (Design/Build/Operate) contracts. Overall, however, the success has been marginal at best.

Profits for Investors and Corporations

The regulated water utilities also look for other innovative ways to generate profits outside of the typical contracts and water facility ownership. Water utilities typically generate future net income, rather than a positive cash flow. One way to generate immediate profit, however, is through surcharges some states grant for infrastructure improvements that can be immediately added to the water bill paid by consumers. While there are surcharge caps, it is still money up front.26 Another method used is an IPO, which takes the company public on the U.S. stock market. This is where investors have shown interest, because during the last twenty years the water industry has outperformed Exxon, Wal-Mart and Home Depot.27 Other profit-generating methods include selling service contracts on the consumer's water line running from the street to the home,28 leasing land for cellphone towers, and even by tapping into other lines such as septic treatment and hauling services.29

Other companies that are not principally "water companies" are also getting involved in the water industry. For example, an equity arm of Macquarie Bank purchased Thames Water from RWE in 200630 and AIG's Highstar Equity purchased Utilities, Inc. in 2005.31

Unanswered Questions

Who really profits from these deals, though? Like oil, water may be another "hot commodity" in the early 21st century in terms of profits, but unlike the other "hot commodities", water is absolutely vital for life. Should we trust clean, safe water will continue to be readily available?

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