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The following is a piece I wrote last summer in response to a question about what global issue I felt “deserved greater attention.” This correlates perfectly with frontier markets and moreover frontier or emerging market investing, given the issue’s inherent demographic angle (i.e. continued growth, and changes to a more meat-based diet as per capita incomes invariably rise). Diary of a Mad Hedge Fund Trader reminded me just how pressing this problem is when he trotted out the following several weeks back:
“One theory about the endless wars in the Middle East since 1918 is that they have really been over water rights. Although Earth is often referred to as the water planet, only 2.5% is fresh, and three quarters of that is locked up in ice at the North and South poles. In places like China, with a quarter of the world’s population, up to 90% of the fresh water is already polluted, some irretrievably so. Some 18% of the world population lacks access to potable water, and demand is expected to rise by 40% in the next 20 years. Aquifers in the U.S., which took nature millennia to create, are approaching exhaustion. While membrane osmosis technologies exist to convert sea water into fresh, they use ten times more energy than current treatment processes, a real problem if you don’t have any, and will easily double the end cost to consumers. While it may take 16 pounds of grain to produce a pound of beef, it takes a staggering 2,416 gallons of water to do the same. The UN says that $11 billion a year is needed for water infrastructure investment, and $15 billion of last year’s U.S. stimulus package was similarly spent.”
Herewith the piece, which I hope to use as a springboard for a more thorough and bona fide investment thesis going forward:
Global population growth, pollution and climate change are combining with technological advances in medicine, increased migration and concentration of population clusters, and growing demand and changing dietary habits from the world’s emerging middle-classes, to exert unsustainable pressures on scarce resources such as fossil energy, agricultural land, fresh water and even fish. In particular, the dearth of clean water should garner more concern. A few years ago, the International Water Management Institute (IWMI) demonstrated that many countries are facing severe water scarcity, either as a result of a lack of available freshwater, or as a consequence of a lack of investment in infrastructure such as dams and reservoirs. Making matters worse, this scarcity predominantly affects developing countries where the majority of the planet’s 840 million undernourished people live. “Water is the oil of the 21st century,” declared Andrew Liveris, chief executive of Dow, a chemical company. Yes and no. While oil prices are subject to fluctuations in supply and demand, and thus prone to relatively swift and volatile swings in price, the consumption of, and demand for water continues to grow unabated. Goldman Sachs, an investment bank, estimated that global water consumption is doubling every 20 years–an “unsustainable” rate of growth. And The Economist observed that “water, unlike oil, has no substitute.” However, like oil, new supplies of fresh water are harder to find. “It’s increasingly obvious that we’re running up against limits to new [fresh water] supplies,” says Peter Gleick, president of the Pacific Institute for Studies in Development, Environment, and Security. “It’s no longer cheap and easy to drill another well or dam another river.”
The oil analogy also fails because unlike oil, water is never actually used up. It only changes forms. According to NASA the world still has the same 326 quintillion gallons. However, 97 percent of it is salty. The remaining 3 percent of accessible, fresh-water supply is divided among industry (20 percent), agriculture (70 percent), and domestic use (10 percent). Theoretically, there should be enough water, even taking into account a global population increase of 6 to 9 billion by 2050. However, pollution, waste and climate change have left clean water supplies approaching alarmingly low levels. This drives up its cost. In China the overall price of water scarcity is estimated to be 147 billion yuan ($21.4 billion) a year. And in 2007 poor water-quality cost China some $12 billion in lost industrial output alone. Pollution especially is rampant in emerging economies where industrialization is growing but environmental concerns are often ignored. The World Bank stated earlier this year that 90% of the rivers in China near urban areas are seriously polluted because of industrial waste dumping. Waste takes on myriad forms across both developed and developing countries. The Economist noted that “America’s generous subsidies for biofuel have increased the harvest of water-intensive crops that are now used for energy as well as food. And heavy subsidies for water in most parts of the world mean it is often grossly underpriced—and hence squandered.” This is not to mention the growing “legitimate” use by industry, including firms not associated with agriculture. Everything from chipmaking to energy production uses up water. Anheuser-Busch operations suffered in late 2001 from a temporary drought in the Pacific Northwest, which affected not only its barley supplies, but also lowered its stores of aluminum whose production relies on cheap hydroelectric energy. Water scarcity thus affects not only core business operations, but also less obvious areas such as the supply chain. Global climate change is more difficult to evaluate on net, though most pundits argue that its negative effects are already quite explicit. In Kashmir, the Kolahoi glacier, which feeds a fertile Kashmir valley’s abundance in rice, wheat and corn, apple orchards and saffron fields, is melting so rapidly that some expect the glacier to be gone within a decade–an event which would threaten millions.
Solutions to address the scarcity of fresh water supplies will be multi-faceted and must involve both the public and private sectors. They include more water storage, improved management of irrigation systems, increasing water productivity in irrigated and rain-fed farming systems, desalination, the risk-free re-use of wastewater from growing cities, the development of drought-tolerant crops, and the provision of infrastructure and facilities to get fresh food to markets. This is not to mention actually cutting water consumption. Using less water reduces spending on water acquisition and treatment, and on the clean-up of wastewater. Governments must begin to make significant investment in both research and development and water infrastructure development as needed. And water buyback schemes, such as the one recently implemented by Kevin Rudd’s Labor Government in Australia to buy water entitlements from farmers in Queensland, are also necessary, no matter how unpopular they are with farm lobbies. Furthermore, both short and long term measures must be addressed on both regional and national levels. In many African nations there is a need for new large and medium-sized dams to deal with the critical lack of storage, as well as for the construction of small reservoirs, more sustainable use of groundwater systems including artificial groundwater recharge, and for rainwater harvesting of small-holder vegetable gardens. Improved year-round access to water will help farmers maintain their own food security using simple supplementary irrigation techniques. And the redesign of both the physical and institutional arrangements of some large and often dysfunctional irrigation schemes will also bring the required productivity increases. All of these measures, opines Dr. Colin Chartres, director-general of the Sri Lanka-based International Water Management Institute (IWMI), “will require investment in knowledge, infrastructure and human capacity.” To this extent, individual companies in the private sector are already taking strident measures. Dow has continued to reduce the amount of water it uses per ton of output by over a third since 1995. Nestlé slashed its consumption of water by 29% between 1997 and 2006, even while doubling the volume of food it produced. And Coca-Cola is maintaining its commitment to clean all of its wastewater at its various bottling plants by 2010, stating that it is already 84% of the way there. The beverage firm has also initiated programs to monitor water-use efficiency in its plants, improve treatment of wastewater, and engage with stakeholders on water-related issues. According to its own environmental reports, it now saves over 10 billion liters of water annually by improving it water-use efficiency. However, is this enough? Both Coca-Cola and PepsiCo have received the brunt of criticism from activists and NGOs in developing nations concerned that the companies monopolize freshwater in areas where it is scarce. To help assuage such concerns, Coca-Cola is backing schemes like the one in Kaladera (Jaipur, India) where it is teaching villagers how to harvest rainwater and irrigate crops more efficiently. It also speaks of a “social license”–an OK from the community to operate.
Long-term solutions can afford to be a bit more grandiose. Desalination, for example, is currently an expensive process that removes dissolved salts from sea and brackish water. But economies of scale, better membranes and improved energy-recovery have helped to bring down the cost of reverse-osmosis seawater-desalination. In Kumasi, Ghana, GE installed several water scarcity solutions to assist a local hospital. The new equipment included reverse osmosis filtration technology, which removed impurities from the hospital’s water supply and also created an ultra-pure water source–a critical element in the hospital’s dialysis machines. GE’s actions are hopefully the start of a trend. Individual companies should implement strategies that not only make sense to them on a cost-basis, but also ones that utilize technologies and means already at their disposal. They should also be mindful of working with communities, activists and NGOs alike to develop shared visions. There are enough possible strategies listed above for a variety of industries to do just that, and given the global spread and influence of multinational firms, reaching even the most obscure and impoverished communities should not be out of the question. Procter & Gamble is constantly reminding its product development teams that as they improve current products, or develop new-to-the-world products and services, they should think about how one could apply technologies to use less water, use water differently, or use no water at all. Companies should also consult with organizations like the Pacific Institute, a nonpartisan environmental think tank, which regularly publishes reports identifying the main water-related issues facing business, as well as offers steps companies can take to help solve water-related issues, including measuring current water use; establishing water policies with specific goals and performance targets; improving water efficiency and conservation efforts; and engaging suppliers, community groups, and outside partners in an open dialogue. Finally, one solution to the water problem may involve first tackling another issue: energy. “Water and energy are linked,” observed one commentator. “Water can be used to generate electricity and energy can be used to convert contaminated water into fresh water. Solve the energy problem and you also solve the water problem, provided a reliable source of contaminated water exists.”
Kuwait-based NBK Capital’s recent commitment of $20 million in mezzanine financing to Metito Utilities, a water and wastewater treatment solution provider with over 50 years operating history in the water industry and a wholly owned subsidiary of Sharjah, UAE-based Metito Holdings Limited (MHL), comes less than one month after the International Finance Corporation (IFC), a member of the World Bank Group, agreed to invest $20 million in the firm in order to “support access to basic water supply and sanitation services in water-stressed regions of China and the Middle East and North Africa.” Per Rami Ghandour, Executive Director of Metito Utilities, “This unique deal confirms the strength of Metito’s business model and supports our progress toward becoming a listed company, demonstrating the expansion of our investor base.” MHL operates in over 22 countries and is the largest privately owned water treatment company in the region. Its portfolio of wastewater treatment and desalination projects consists of nine concession-based projects and nine plants across the UAE, Bahrain, Egypt and China. Meanwhile, the Middle East, which has roughly five percent of the global population, has just one percent of the world’s accessible fresh water and thus Gulf countries have hitherto relied on desalination, which provides almost 80 percent of the region’s potable water.
While the IFC, per reports, has sought to extend reach and access while reducing scarcity in the water sector since 1993, MHL began its operations in 1958 in Beirut and now works across the Middle East with clients ranging from Saudi Basic Industries to Emaar Properties. In the past several years it has increasingly talked about going public against the backdrop of not only rising demand for its desalination, water and wastewater treatment services, but also its own technological breakthroughs. In July 2008, for instance, the firm announced the completion of an advanced, international-standard reverse osmosis polishing plant that it said would process 18,000 cubic metres of treated sewage effluent (TSE) every day and drastically reduce the water requirements of the UAE’s Palm Jumeirah’s cooling system. The plant takes treated effluent and converts it into high quality, organics-free industrial water that is suitable for feeding the district cooling system and per officials would reduce district cooling water requirements by around 6.5 million cubic metres per year.
MHL realized doubled revenue and EBITDA during 2008-2009, and the future looks even brighter per some analysts, if for no other reason than burgeoning population increases across the Middle East and North Africa (MENA) region. In particular, said its Managing Director, Fady Juez, “Libya has been closed to new projects for a long time – especially due to the Lockerbie incident. But Tripoli is now opening up. It has huge amount of projects and Libya has one of the best beaches in the world. So there will be a need for more projects such as in real estate.” Moreover, “Algeria has a very large population and it is expected to build the highest number of desalination and water treatment plants in the near and medium term. They have the money and they have the stability now. Egypt on the other hand is stable and it has a high population as well.” Investors keen on the firm will have to wait, however, as a public launch is not expected until sometime in 2011 at the earliest (Gulf Capital currently owns around 56 percent of shares, and the IFC/World Bank around 7 percent). But water may indeed be a low-beta proxy on frontier population growth, and the firm’s geographical diversification into China and Indonesia as well as its expertise across the Gulf is also attractive as both a growth and a value holding.