ITEM 1. BUSINESS
BACKGROUND
Air and Water Technologies Corporation ("AWT" or the "Company"), through its subsidiaries, provides a comprehensive range of services and technologies directed principally at providing complete services for the operation, maintenance and management of water and wastewater treatment systems; engineering, design and construction of water and wastewater facilities; the remediation of hazardous waste; and services and technologies for controlling air pollution. AWT believes it provides a complement of products and services that satisfy the environmental and essential services needs of its targeted client base. AWT markets its products and services through three renowned trade names: Professional Services Group ("PSG") for the operation, maintenance and management of water and wastewater treatment systems; Metcalf & Eddy for water, wastewater-related and hazardous waste products and engineering services; and Research-Cottrell for air pollution control related products and services. PSG provides its clients with complete services for the operation, maintenance and management of treatment systems in various water and wastewater and sludge and biosolid waste management markets. Metcalf & Eddy provides engineering studies and design, project management, regulatory assistance, and site evaluation for clients with needs in the areas of water treatment and conservation, hazardous waste site remediation, solid waste management and wastewater treatment and disposal. Research-Cottrell designs and develops products and technologies targeted at specific client needs such as pollution control equipment and emissions monitoring systems. AWT provides its full complement of products and services to predominantly four major customer sectors consisting of the electric generating industry; the solid waste incineration industry; governmental entities, including municipalities and state and federal agencies; and specific industrial categories, such as petroleum refining, pulp and paper, pharmaceutical, chemical, primary and secondary metals, food processing, printing and furniture manufacture.
PSG provides its clients with complete services for the operation, maintenance and management of treatment systems in the various water and wastewater and sludge and biosolid waste management markets. These services range from assisting owners and operators in addressing individual operating needs to the assumption by PSG of complete responsibility for operating complex treatment systems. PSG provides operation, maintenance and management ("OM&M") services for water supply and wastewater treatment systems, primarily for cities, municipalities and other local governmental entities. PSG also serves the industrial market and federal and state governments by providing OM&M services for wastewater treatment systems and groundwater remediation treatment systems. PSG has significant experience dealing with the planning and implementation of large biosolids management programs. Compared to other OM&M firms, PSG is among the leaders in large, complex biosolids plant operation and management experience. Methods used include landfilling, land application, composting and incineration. PSG also has significant experience in operating and managing composting facilities.
Metcalf & Eddy's services are directed principally at the protection and effective management of water resources, both surface and groundwater as well as the management of its clients' hazardous wastes. These activities include providing services for the management or reduction of pollutants entering the water resource from a variety of natural causes as well as waste disposal practices such as wastewater treatment, solid waste landfilling, industrial wastewater pretreatment and disposal of hazardous waste. These services include management, treatment and distribution of water from surface and groundwater sources; collection, treatment and disposal of wastewater and its associated by-products such as sludge; pretreatment of industrial wastewater prior to discharge into a municipal system or on-site treatment and disposal; remediation of hazardous waste sites involving contaminated soils and groundwater; renovation of groundwater and soil contaminated through improper waste disposal practices; monitoring and closure of sanitary landfills with disposal of associated leachate; and management and transportation of hazardous waste.
Research-Cottrell's air pollution control related technologies and services are directed principally at cost-effectively reducing air pollution, treating thermal discharges, dispersing airborne contaminants, continuously monitoring emissions and providing expertise in regulatory and engineering services for a wide range of industrial processing plants and power generation facilities in the United States and internationally. Research-Cottrell's services include identifying and analyzing air pollution control problems and recommending effective and cost-efficient control options; designing and engineering treatment facilities and equipment; procuring, fabricating, erecting, constructing, and installing air pollution control equipment; and providing overall project management. In addition, Research-Cottrell provides high quality replacement parts and expert maintenance and repair services for its own base of installed equipment as well as equipment provided by others on a routine outage and emergency response basis. Research-Cottrell's wide range of air pollution control technologies includes: electrostatic precipitators; fabric filters, dust collectors, and mechanical collectors; regenerative thermal oxidizers; VOC concentration systems; concrete chimneys and steel stacks; mechanical draft cooling towers; scrubbers; heat exchangers and fired heaters; and continuous emissions monitoring systems. These technologies are provided separately or can be combined into an integrated pollution control system.
OPERATION, MAINTENANCE AND MANAGEMENT OF TREATMENT SYSTEMS--PROFESSIONAL SERVICES GROUP
Prior to its acquisition by AWT from Compagnie Generale des Eaux, a French corporation and AWT's largest shareholder ("CGE") on June 14, 1994 pursuant to the Investment Agreement dated as of March 30, 1994 (the "Investment Agreement") among AWT, CGE and Anjou International Company, a Delaware corporation and a wholly-owned subsidiary of CGE ("Anjou"), PSG had been a wholly-owned subsidiary of Anjou. Since 1978, PSG has been operating, maintaining and managing water and wastewater treatment systems, sludge and biosolid waste disposal programs and public works projects, and providing operations assistance primarily to municipal entities but also to industrial companies. In the following description, references to PSG are intended to include, where appropriate, the operation, maintenance and management services of Metcalf & Eddy Services, Inc, an AWT subsidiary involved in the substantially identical business as PSG that has been integrated with PSG subsequent to June 14, 1994.
Operation and Maintenance Services
PSG provides its clients with complete services for the operation, maintenance and management of treatment systems in the various water and wastewater and sludge and biosolid waste management markets. These services range from assisting owners and operators in addressing individual operating needs to the assumption by PSG of complete responsibility for operating complex treatment systems. PSG does not, however, own any treatment facilities except for a municipal sludge composting facility in Baltimore, Maryland and two wastewater treatment plants in Auburn, Alabama. PSG believes that it is the leader in providing operation, maintenance and management service for water and wastewater treatment systems, and sludge and biosolid waste management services, particularly in the area of large municipal waste treatment systems. PSG operates in 35 states, Canada and Puerto Rico and it provides services to 370 facilities at over 115 locations. PSG on a daily basis treats approximately 430 million gallons of water and 560 million gallons of wastewater. PSG's services reach over 7.5 million people per day.
Water Supply and Wastewater Treatment Services
PSG provides operation, maintenance and management services for water supply and wastewater treatment systems, primarily for cities, municipalities and other local governmental entities. PSG also serves the industrial market and federal and state governments by providing OM&M services for wastewater treatment systems and groundwater remediation treatment systems. Typically, under each of PSG's contracts, the client owns the water supply or wastewater treatment facilities and subcontracts to PSG, for a fixed annual fee, the provision of staff, supervision and management for the operation, maintenance and management of the facilities. In addition, as contract operator, PSG is responsible for the efficient operation and maintenance of the facilities, for maintaining compliance with federal, state and local regulations, and for fulfilling all relevant reporting requirements with respect to the facilities.
Examples of water treatment facilities which PSG operates include Newark, NJ; Brockton, MA; and Alamogordo, NM. PSG's wastewater treatment facility contracts include New Orleans, LA; Oklahoma City, OK; Cranston, RI; West Haven, CT; and Kenner, LA. In addition, PSG operates and manages the water and wastewater systems for the Commonwealth of Puerto Rico. PSG's Puerto Rico contract is one of the largest OM&M contracts in the world. The facilities managed by PSG in Puerto Rico include 69 wastewater plants (capacity 304 mgd), 128 water treatment plants (capacity 318 mgd), and related collection and distribution systems and pumping stations.
Sludge and Biosolid Waste Management Services
PSG has significant experience dealing with the planning and implementation of large biosolids management programs. Compared to other OM&M firms, PSG is among the leaders in large, complex biosolids plant operation and management experience. Methods used by PSG include landfilling, land application, composting and incineration. PSG also has significant experience in operating and managing composting facilities.
Public Works
PSG provides a full range of public works services under contract to small towns, villages and municipalities, including: meter reading, sanitation services, street maintenance, customer billing, and parks and grounds maintenance. These services are typically provided by PSG under operation, maintenance and management contracts with a municipality's public works department for a fixed annual fee. These contracts typically result in lower cost and reduced administrative burdens for a municipality's personnel. Examples of such contracts include Moore, OK; Mustang, OK; and Pikeville, KY.
Composting
PSG has experience in operating and maintaining composting facilities and effectively controlling and reducing offensive odors. Solid waste composting, along with recycling and source reduction, is utilized by local governments as a means of reducing landfills. In a composting facility, the non-decomposable waste is removed, and the organic waste is shredded and then efficiently broken down in the composting process, by naturally occurring micro-organisms, in which moisture content, aeration and temperature of the organic waste is controlled so as to accelerate the biological decomposition. Through further processing, composting produces a fine humus-like soil product which is sold or otherwise disposed of as a soil fertilizer or mulch. In Baltimore, Maryland, PSG currently operates one of the largest facilities that transforms municipal wastewater sludge into a usable compost product. Other examples include Schenectady, NY, Bristol, TN and Hickory, NC. PSG's management believes that composting is a viable market and has positioned PSG to increase its business in this market segment.
WATER AND WASTEWATER TREATMENT/HAZARDOUS WASTE REMEDIATION--METCALF & EDDY
Metcalf & Eddy provides a comprehensive range of environmental treatment services to governmental, commercial and industrial clients directed principally at the protection of the integrity of our nation's water and land resources. Metcalf & Eddy's experience has been directed at managing, protecting and enhancing surface and groundwater supplies through the rational utilization and treatment of water supplies and through the effective management of all related waste disposal practices. Metcalf & Eddy provides a range of services from treatment process design to operation and ownership of facilities, as well as on-site and off-site remediation of environmental contamination. Metcalf & Eddy's services involve the collection, treatment and distribution of drinking water, the collection, treatment and disposal of wastewater and wastewater by-products such as sludge, the treatment and disposal of hazardous and toxic wastes, and the management of non-hazardous solid wastes. In addition to providing individual service components, Metcalf & Eddy offers its clients total project delivery, which includes design, installation, construction and operation of treatment facilities.
Services and Technologies
To address water pollution problems, Metcalf & Eddy provides a full spectrum of services focusing on design, construction, management and operation of complex biological, chemical and physical treatment technologies, as well as waste minimization and alternative disposal techniques; analyzes and assesses complex aquatic and other environments; and prepares specifications and designs for treatment systems. Metcalf & Eddy prepares permit and license applications, manages construction and field installation of treatment facilities, and provides startup, corrective action and rehabilitation services for those facilities. Metcalf & Eddy also develops operations and maintenance manuals for facilities and develops scheduling and maintenance procedures to ensure their efficient operation.
Water Supply and Wastewater Treatment Services
Since 1907, Metcalf & Eddy has conducted extensive hydrologic and geologic evaluations of hundreds of surface and groundwater supplies for governmental and industrial clients in the United States and abroad. Metcalf & Eddy has expertise in analyzing the nature of water resource problems, both in terms of available capacities and the quality of the sources, and in developing and evaluating different types of cost-effective treatment technologies. Metcalf & Eddy's experience includes the design of over 50 water treatment facilities, using technologies ranging from simple extraction and distribution of water to more complex technologies such as ozonation, carbon adsorption, air stripping, desalinization and diatomaceous earth filtration. Metcalf & Eddy has also evaluated and investigated over 250 dams, conducted groundwater contamination studies at over 300 sites and conducted computerized analyses on over 100 water distribution systems.
In the wastewater treatment market, Metcalf & Eddy has conducted evaluations of a broad range of effluents discharged from various municipalities and industries, including the petrochemical, petroleum, chemical, pulp and paper, electroplating, textile, ferrous and non-ferrous industries. Metcalf & Eddy has also conducted numerous studies of controlled and uncontrolled discharges entering on-site and off-site treatment facilities, lagoons and other bodies of water. Metcalf & Eddy has developed and applied various biological, chemical and physical treatment technologies, including activated sludge, trickling filters, nitrification/denitrification, phosphorus removal and land application, to resolve wastewater treatment problems. Metcalf & Eddy has designed over 200 wastewater treatment plants, including some of the largest facilities in the United States, utilizing these technologies.
Since August 1988, Metcalf & Eddy has been serving as lead design engineer for the Massachusetts Water Resources Authority on the Boston Harbor clean-up project. Under this contract, Metcalf & Eddy has primary responsibility for directing the design of the entire primary and secondary treatment facilities, including an inter-island tunnel and a 9.5 mile outfall tunnel/diffuser system. This work includes development of the conceptual design for the entire wastewater treatment system, preparation of a Project Design Manual, including standard specifications, development of the Authority's CADD system, and management of all project design engineers providing final design services. As lead engineer, Metcalf & Eddy has also conducted a number of special investigations, including an air quality/odor control pilot study, a hydroelectric feasibility study, a stacked clarifier hydraulic model, a disinfection study, various hydraulic models of the outfall/diffuser system, and a project-wide geotechnical exploration program. During the construction phase, lead engineer services include coordinating interaction among all construction packages, plantwide technical submittal review and instrumentation and control systems. Metcalf & Eddy is also providing, as a project design engineer, the final design services and engineering services during construction for the entire primary treatment portion of the wastewater plant.
Under a separate contract, Metcalf & Eddy is also performing a master plan and combined sewer overflow ("CSO") facilities plan for the Massachusetts Water Resources Authority. Like many other cities, Boston is faced with optimizing the use of its combined sewers. In one of the largest CSO studies undertaken, Metcalf & Eddy is providing a comprehensive investigation of the Authority's collection systems. The project includes water quality monitoring, strategic system planning, monitoring CSO's and interceptors, and developing CSO management solutions. The Metcalf & Eddy authored plan was awarded the 1995 American Academy of Engineers (AAEE) grand prize.
Metcalf & Eddy is routinely asked to provide hands-on assistance to numerous water and wastewater treatment facilities in such operational areas as maintaining and servicing equipment, mechanical and instrumentation process control, troubleshooting, training of staff, and facility rehabilitation and upgrading.
Hazardous Waste Management and Remediation Services
Metcalf & Eddy provides a full range of services for the identification, characterization, evaluation, design and implementation of cleanup measures for soils and groundwater contaminated with hazardous, toxic and radiological waste. Diagnostic services include geophysical surveys, surface and subsurface sampling, hydrogeological investigations, analytical laboratory services and underground storage tank testing. To evaluate and design remedial measures, Metcalf & Eddy performs feasibility studies, public health and ecological risk assessments, pilot and bench scale treatability studies and groundwater modeling. Metcalf & Eddy applies a broad range of proven and innovative technologies for soil and groundwater cleanup, including soil venting, bioremediation, incineration, air stripping, heavy metals precipitation, soil washing and thermal desorption, activated carbon adsorption, UV-oxidation and ion exchange.
Metcalf & Eddy has been awarded several contracts with the Department of Defense for investigation and remediation of site contamination problems at military installations under the Base Realignment and Closure (BRAC) program, at active installations and formerly-used defense sites under the Defense Environmental Restoration Program, and at Superfund sites administered by the Army Corps of Engineers for the US Environmental Protection Agency ("EPA"). Turnkey design, construct and operate contracts are currently held with the Army Corps of Engineers for groundwater cleanup projects in New Jersey and Utah, respectively. Additional contracts are held for operation of groundwater treatment plants at several military installations. Contracts covering a wide range of hazardous, toxic, and radiological investigation and design services are or were recently held with the Army Corps of Engineers in New England, Savannah, Georgia, Louisville, Kentucky and Fort Worth, Texas, with the Army Environmental Center for Total Environmental Program Support nationwide, and with the Air Force Material Command at Wright Patterson and Kelly Air Force Bases. Metcalf & Eddy is performing nationwide contaminated soil and tank removal assignments under contract to the Air Force Center for Environmental Excellence at Brooks Air Force Base, nationwide remediation of petroleum oils and lubricants under subcontract with the Naval Energy and Environmental Support Activity at Port Hueneme, California, and has been selected for environmental compliance services by both the Naval Facilities Engineering Command's Southern and Western Divisions and by the Air Force Mobility Command for a major nationwide subcontract role. Metcalf & Eddy is also a contractor to the Department of Energy through subcontracts with the Department's Management and Operating contractors at the Savannah River Site, South Carolina, Rocky Flats, Colorado and Oak Ridge, Tennessee.
In recent years, M&E has focused on the in-field remediation portion of the hazardous waste market. To meet client needs for expedited and cost-effective cleanup, Metcalf & Eddy has brought several new technologies to the marketplace, providing its clients with engineered solutions tailored to their site needs. Technologies introduced by M&E include HYDRO-SEP(SM) soil washing system, GEMEP(SM) mercury removal system, ORG-X(SM) solvent extraction technology, and NoVOCs(SM) in-well vapor stripping system. Metcalf & Eddy has taken an active role in the brownfields redevelopment market, partnering with The Galbreath Company, a nationwide real estate management and development firm. The M&E/Galbreath alliance is a result of the firms' collaboration at the Coit Road brownfields site in Cleveland, Ohio.
Metcalf & Eddy is an emergency response contractor for the Commonwealth of Massachusetts, a remedial investigation and feasibility study contractor for the states of Massachusetts and Connecticut, and a contractor to the EPA for a full spectrum of services from investigation to design and implementation of remedial measures in the six New England states, and for technical enforcement support in fifteen Midwestern states. In fiscal 1995, Metcalf & Eddy was selected by the EPA for a Response Action Contract (RAC) covering New England. The maximum value of this contract is approximately $400 million over a ten-year contract term.
In fiscal 1996, M&E was awarded a $60 million, five-year contract to provide remediation, pollution prevention, and BRAC services at McClellan Air Force Base in Sacramento, California.
Sludge Management Services
Because of Metcalf & Eddy's experience with treatment technologies used for water supply and wastewater disposal, numerous municipal and industrial clients have engaged Metcalf & Eddy to assist in the management and disposal of the sludge generated as a by-product of the treatment process. For these clients, Metcalf & Eddy develops programs to minimize the generation of sludge, to alter it to more environmentally acceptable forms, and to develop and evaluate alternative processing and disposal technologies such as thickening, anaerobic digestion, conditioning, dewatering, incineration, composting and land farming. Metcalf & Eddy has assessed sludge handling and disposal alternatives, designed and assisted in the implementation of treatment technologies and operated sludge management facilities. Working with its clients, Metcalf & Eddy has analyzed and designed innovative technologies and treatment alternatives for over 45 sludge management projects and facilities with over 3 billion gallons per day of treatment capacity.
M&E has designed and is providing construction support services for the San Diego Municipal Biosolids Center (MBC). When completed, the MBC, which represents San Diego's largest-ever infrastructure program, will be one of the largest, most innovative sludge processing systems in the U.S.
Solid Waste Management Services
Metcalf & Eddy has assisted numerous clients in the evaluation of solid waste management needs including quantification of amounts and type, development of waste minimization programs and assessment of needed disposal capacity. Metcalf & Eddy is experienced in planning and implementing alternative technologies and facilities for solid waste management which include landfills, incinerators, resource recovery plants and recycling. Metcalf & Eddy's services for solid waste management facilities include facility planning, siting and permitting, design, construction management, operations and maintenance assistance, closure and post-closure programs for landfills and the collection and treatment of leachate from landfills. Metcalf & Eddy is also experienced in the installation of monitoring wells and related sampling and testing procedures for groundwater protection in or about landfills.
Metcalf & Eddy has been responsible for the final design of nine waste-to-energy facilities, including a major solid waste resource recovery facility located in Chicago, Illinois, and has assisted various communities in activities associated with resource recovery implementation, including evaluating and monitoring air emission control equipment programs. In addition, Metcalf & Eddy has designed landfills and ashfills in accordance with regulatory requirements.
Program Management Services
Metcalf & Eddy has developed extensive program management capabilities through its experience in the program planning and development, scheduling, financial planning, contract administration, procurement, construction management, control and coordination of large and complex projects. These capabilities enable Metcalf & Eddy to effectively manage its own projects as well as to provide program management services to large environmental development and capital expenditure programs of others.
Metcalf & Eddy provides program management services for major national defense programs, which have enabled Metcalf & Eddy to develop further its program management expertise and resources. For example, under contract to the United States Air Force Logistics Command for the Peace Shield project, Metcalf & Eddy has entered into a joint venture with CRSS Inc. to provide program management services to deliver ground based facilities to support a new air defense system that the United States Air Force is delivering to the Royal Saudi Arabian Air Force. Metcalf & Eddy is primarily responsible for applying its geotechnical, hydrological and construction management skills to site and build structures, roads, water and sewage systems and other infrastructure necessary to support the complex defense system. These facilities include underground command and control centers, long range radar sites, a central command center, a central maintenance facility and communications sites. These Peace Shield facilities are located throughout the Kingdom of Saudi Arabia and the joint venture is managing their design, procurement of major pieces of equipment, construction and certain start-up activities. This project began in 1984 and the major facilities are substantially complete.
Design/Build and Design/Build/Operate Services
To expedite project delivery and reduce overall program costs, Metcalf & Eddy offers design/build and, in conjunction with its sister company, PSG, design/build/operate service packages. The design/build market has grown tenfold in the last decade and, because of its many advantages, is expected to be the dominant project delivery method by the year 2000. Metcalf & Eddy was awarded several design/build and design/build/operate contracts in fiscal 1996, including a new wastewater treatment plant in Junction City, Kansas and a water treatment plant upgrade in Danbury, Connecticut.
International Business
Metcalf & Eddy has provided environmental and engineering services to clients in more than 80 nations, spanning all seven continents. Presently, M&E International is providing design, program and construction management services on several large projects in Egypt, Thailand, Latin American, and Eastern Europe. M&E also is providing institutional development and strengthening services to the Alexandria General Organization for Sanitary Drainage in Alexandria, Egypt. In fiscal 1996, M&E International was awarded contracts in Gaza, Bosnia, and Thailand.
AIR POLLUTION CONTROL - RESEARCH-COTTRELL
Research-Cottrell's air pollution control-related technologies and services are directed principally at cost-effectively reducing air pollution, treating thermal discharges, dispersing airborne contaminants, continuously monitoring emissions, and providing expertise in regulatory and engineering services for industrial process plants and power generation facilities throughout the United States and internationally (including Canada, Mexico, Europe, the Middle East, and Asia). Research-Cottrell's services include identifying and analyzing air pollution control problems and recommending effective and cost-efficient control options; designing and engineering treatment facilities and equipment; procuring, fabricating, erecting, constructing, and installing air pollution control and related equipment; and providing overall project management. In addition, Research-Cottrell supplies high quality replacement parts and expert maintenance and repair services for its own base of installed equipment as well as competitor equipment on a routine outage and emergency response basis.
Research-Cottrell markets its air pollution control technologies through some of the oldest and most respected names in the air pollution control industry: RESEARCH-COTTRELL air pollution control systems, including electrostatic precipitators, fabric filters, DOUBLE-LOOP flue gas desulfurization systems (FGD scrubbers), and R-C/TELLER dry emissions control systems; CUSTODIS concrete chimneys and steel stacks; CUSTODIS-ECODYNE cooling towers; FLEX-KLEEN fabric and cartridge dust collectors; KVB continuous emissions monitoring systems; and REECO RE-THERM[Registered] and UNITHERM[Registered] regenerative thermal oxidizers, FluiSorb(TM) adsorber/desorber concentrator systems, and Rotary Bed Protectors for particulate control. Research-Cottrell is licensed to market a number of technologies to its industrial process and utility clients, including the Alcoa A-398 fluoride recovery process; NOxOUT[Registered], Thermal DeNOx[Registered], and SONOX[Registered], products used to reduce NO(x) and SO(2) emissions from boiler exhaust systems; KVB/MIP Laser Opacity Monitor; EPRICON, a flue gas conditioning system used to improve particulate collection efficiency of electrostatic precipitators; and COHPAC (Compact Hybrid Particulate Collector), a retrofit technology used to increase collection efficiency from utility and industrial exhaust streams by adding a fabric filter downstream of an energized electrostatic precipitator ("ESP") or within an existing ESP casing.
Research-Cottrell estimates that it has installed or constructed over 5,200 electrostatic precipitators, over 100,000 Flex-Kleen dust collectors, 10 flue gas desulfurization (FGD) scrubber systems, over 10,000 Custodis concrete and brick chimneys and steel stacks, over 240 REECO RE-THERM regenerative thermal oxidizers, over 7,000 Custodis-Ecodyne cooling towers, over 1,150 KVB continuous emissions monitoring systems, and over 1,750 Thermal Transfer Corp. recuperators and fired heaters. Research-Cottrell believes its installed base of chimneys, electrostatic precipitators, cooling towers, RTOs, fabric filter/baghouse systems, and continuous emissions monitoring systems provides a ready market for its aftermarket parts, maintenance, and repair services.
Demand for Research-Cottrell's air pollution control technologies and services arises principally from the expansion and modification of existing industrial/manufacturing plants and power generation facilities, or the construction of new facilities. These sources, pulp & paper plants, primary and secondary metals refining mills, waste incineration facilities, cement plants, fossil-fueled electric generating plants, and pharmaceutical and petrochemical facilities, among others, are required to comply with existing environmental legislation and regulations. The ability to recover valuable industrial products can also increase demand for Research-Cottrell products, its Flex-Kleen fabric filter systems, for example. In addition, as pollution control systems or major components age or are rendered too small as plant capacity expands, they often require rebuilding, upgrading, and replacement, and Research-Cottrell is highly adept at providing proven aftermarket strategies to meet these needs. As legislation and regulations grow more strict, particularly the 1990 amendments to the Clean Air Act, and associated regulations, many older facilities require significant retrofitting (upgrading control equipment through new or improved components) in order to comply with new or more strictly enforced emissions control standards.
Emission Control Technologies and Services
Research-Cottrell's air emissions control technologies reduce particulate, sulfur oxides, nitrogen oxides, volatile organic compounds, and toxic compounds. Research-Cottrell also provides technologies for the treatment of thermal discharges resulting from the operation of electric generating facilities and industrial boilers.
Particulate Emission Control Technologies. Research-Cottrell has been an innovator in the control of particulate emissions since Frederick Cottrell invented and commercialized the electrostatic precipitator in 1907. An ESP removes particulate matter from the exhaust passing through it, using electrodynamic forces. Current precipitator technologies offered by Research-Cottrell address both traditional particulate control objectives as measured by weight, and the newer objectives measured by removal efficiencies of particulate matter below ten microns in diameter. Research-Cottrell has designed and installed over 5,200 ESPs, which it believes is the largest installed base of ESPs in the United States.
Research-Cottrell offers a wide range of fabric filter systems to control and recover particulate in a variety of power generation and industrial process applications. Research-Cottrell and Flex-Kleen are primary suppliers of fabric filter systems, mechanical collectors, and similarly engineered products and systems for the recovery of valuable product material and the removal of particulate for power generation, chemical and pharmaceutical manufacturing, food processing, and consumer products companies. Research-Cottrell believes it is the market leader in both the number and diversity of fabric filters installed for industrial applications. Research-Cottrell's COHPAC and EPRICON retrofit technologies allow utility and industrial clients to increase particulate control efficiencies for existing equipment.
Sulfur Oxides Emissions Control Technologies. Both sulfur oxide and nitrogen oxide compounds contribute to "acid rain". In addition, nitrogen oxides contribute to smog formation. Industrial and utility fuel combustion remains a principal source of these emissions. Research-Cottrell has designed and installed flue gas desulfurization (FGD) systems, such as its DOUBLE-LOOP scrubbers, to control sulfur oxide emissions at 15 coal burning plants generating an aggregate of over 7,000 megawatts of electricity. The Double-Loop system is capable of removing 95% of the sulfur oxide emissions generated by high sulfur coal. The Double-Loop design allows conversion of the scrubber waste stream to gypsum that can be used to manufacture wallboard.
In February, 1990, Research-Cottrell entered into an agreement (the "Cooperation Agreement") with NOELL GmbH and KRC Umwelttechnik GmbH ("NOELL-KRC") to cooperate on an exclusive basis in the marketing and sale of Research-Cottrell's proprietary wet flue gas desulfurization systems in the United States, Canada, and elsewhere in the world (with the exception of certain central European countries). NOELL-KRC is an environmental engineering and construction company headquartered in Wurzburg, Germany. NOELL-KRC is owned by the Salzgitter Group, a leading European conglomerate.
Under the Cooperation Agreement, Research-Cottrell has licensed NOELL-KRC to make, use, sell, and practice Research-Cottrell's technology, subject to payment to Research-Cottrell of certain license fees, commissions, and royalties. In addition, NOELL-KRC has agreed to make available all of its improvements to Research-Cottrell's underlying technology, including NOELL-KRC flue gas desulfurization patents, trade secrets, and know-how. Research-Cottrell retains exclusive rights to other technologies that often accompany the installation of wet flue gas desulfurization systems.
Under the Cooperation Agreement, Research-Cottrell is responsible for marketing efforts in the United States and Canada. NOELL-KRC is obligated to responsively bid on all projects identified by Research-Cottrell and provide bonding or other financial requirements stipulated in such bids. NOELL-KRC is exclusively responsible for project execution. On a case-by-case basis, Research-Cottrell and NOELL-KRC will agree upon participation by Research-Cottrell in project management, construction, start-up, and other phases of project execution. The Cooperation Agreement has an initial term of ten years, subject to renewal for additional one year periods as mutually agreed by the parties.
Nitrogen Oxide Emissions Control Technologies. Due to the requirements of Title I of the Clean Air Act Amendments of 1990, there is a growing demand for efficient, low-cost nitrogen oxide (NOx) control technologies. Research-Cottrell believes this market will continue to grow through the end of the century and that the majority of these technology purchases will be made by electric utilities, followed by oil and petrochemical industries, the pulp & paper industries, and other industrial customers that operate large boilers or furnaces.
For moderate levels of NOx reduction, Research-Cottrell offers Selective Non-Catalytic Reduction (SNCR) technologies under the trademarks NOxOUT[Registered] and Thermal DeNOx[Registered]. NOxOUT is licensed from Nalco Fuel Tech and Thermal DeNOx[Registered] is licensed from Exxon Research and Engineering. The SNCR technology is a low capital cost method that uses urea (NOxOUT[Registered]) or ammonia (Thermal DeNOx[Registered]) as a chemical reagent to reduce NOx. Research-Cottrell is licensed to implement SONOX[Registered], a technology which provides simultaneous reductions of NOx and SO2. SONOX[Registered] is licensed from Ontario Hydro International.
Selective Catalytic Reduction (SCR) technology, also offered by Research-Cottrell, is a somewhat more expensive technology that can be used alone or in conjunction with an SNCR technology to achieve very high reductions of NOx emissions.
Research-Cottrell offers complete evaluation, design, engineering, equipment, and start-up capabilities associated with the implementation of these NOx-control technologies. With this range of capabilities and its large utility and industrial customer base, Research-Cottrell believes it is well-positioned for growth in this market.
Toxic Compounds Control Technologies. The primary sources of potential toxic air emissions are fossil-fueled power generation plants, industrial facilities, and waste-to-energy facilities. In 1987, Research-Cottrell acquired Teller Environmental Systems, Inc., and gained exclusive rights to market the patented Teller dry emissions control system in the United States. The Teller system is a leading technology in the acid gas abatement market for the control of hydrochloric acid, toxic compounds, heavy metals, and particulate emissions from waste-to-energy facilities, metals refineries, and pulp & paper mills. The Teller technology is widely used in Japan, and there are several commercial resource recovery facilities using the Teller technology in the United States.
In 1990, Research-Cottrell acquired substantially all of the assets of Regenerative Environmental Equipment Co, Inc. ("REECO"). REECO is primarily engaged in the design, manufacture, and installation of its RE-THERM[Registered] regenerative thermal oxidizer systems, which serve as industrial air pollution control and energy recovery systems. REECO also offers an adsorber/desorber concentrator system marketed under the name FluiSorb(TM).
REECO is a market leader in technologies for controlling emissions of volatile organic compounds (VOCs). VOCs contribute to smog formation and comprise about half of the 189 compounds listed as hazardous in the Clean Air Act amendments of 1990. Control of VOCs and air toxics is a major objective of the amended Clean Air Act.
REECO introduced a newly designed RE-THERM product (the VF3), and has taken a leadership position in the wood products market. REECO's development and successful introduction of a new product--the Rotary Bed Protector (RBP), a particulate control device used upstream of VOC control equipment in particulate-laden exhaust streams--played a major role in its ability to compete favorably in the wood products market.
Cooling Towers. Cooling towers are used for compliance with water-side environmental regulations, while enhancing the thermal efficiency of power generation and industrial processes. Mechanical draft cooling towers, typically constructed of wood, are used in most industrial and small power generation applications. Research-Cottrell and its Custodis-Ecodyne subsidiary have designed and installed over 7,000 large mechanical and natural draft cooling towers. Natural draft (hyperbolic concrete design) cooling towers are used almost exclusively by nuclear- and fossil fuel-powered electricity generating plants. Research-Cottrell and Custodis-Ecodyne have constructed 66 of the 110 natural draft cooling towers in the United States. Custodis-Ecodyne's primary focus today is providing aftermarket services, including repairs, thermal upgrades, maintenance, and replacement parts to the many cooling towers supplied by Custodis-Ecodyne as well as for those designed and built by other suppliers. The company also continues to design and build new cooling towers for a variety of power generation and process applications.
Chimneys and Stacks. Tall industrial chimneys and stacks properly disperse air emissions from power generation and industrial process plants. Research-Cottrell's Custodis subsidiary designs and constructs turnkey industrial chimneys and steel stacks to disperse such gases. Custodis has installed over 10,000 chimneys and stacks worldwide, of which many are still in use in a variety of power generating, co-generation, pulp & paper, petroleum, and other industrial applications. Research-Cottrell believes it has the largest installed base of chimneys in the United States. A recognized leader in the design, engineering, and erection of new concrete chimneys and steel stacks, Custodis is also the major provider of repair, maintenance, upgrade, and demolition services for its own chimneys as well as those designed and erected by competitors. Custodis also provides construction services for repair and installation of uptake equipment in support of its customers and sister companies. The company provides its maintenance and repair services through strategically located regional offices throughout North America.
Monitoring Technologies. Research-Cottrell's KVB subsidiary designs, engineers, installs, and services continuous emissions monitoring systems for utility and industrial process clients, including resource recovery facilities, petrochemical plants, and cogeneration facilities. KVB has furnished over 1,150 monitoring systems to measure air emissions.
Parts, Maintenance, and Repair Services. Each of the Research-Cottrell operating groups has developed a robust aftermarket business. The companies provide expert inspections, emergency repairs, preventive maintenance, routine service, upgrades, rebuilds, equipment modernization and expansions, replacement parts, and demolition services. The Research-Cottrell companies provide these services for its own installed base of equipment as well as for equipment designed and installed by other air pollution control equipment vendors. In most cases, these services are available 24 hours per day, 365 days per year to support its customers.
BUSINESS SEGMENTS AND FOREIGN OPERATIONS
Financial information concerning the Company's operations by industry segment and the Company's foreign and domestic operations is set forth in Note 13 to the Company's Consolidated Financial Statements captioned "Business Segments." See ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
MARKETS AND CUSTOMERS
AWT markets its services and technologies to governmental and industrial customers throughout the United States, the Caribbean, Canada and the Pacific Rim. AWT also services customers in Europe, the Middle East, Central and South America and the Far East. A majority of AWT's sales are technical in nature and involve senior technical and management professionals, supported by AWT's marketing groups. AWT uses a coordinated system of in-house sales representatives and marketing managers, organized primarily by business segments and markets served. In fiscal 1996, sales to governmental customers approximated 97%, 81% and 1% of AWT's PSG, Metcalf & Eddy and Research-Cottrell segment sales, respectively.
Contracts with federal, state, municipal and other governmental agencies generally may be terminated at any time at the option of the customer. In fiscal 1996, sales associated with PSG's contract with the Puerto Rico Aqueduct and Sewer Authority ("PRASA") accounted for 15% of AWT's sales for such period and sales to the Federal government approximated 11% of the Company's consolidated sales for such period. AWT benefits substantially from its long-term relationships with many of its clients which result in a significant amount of repeat business.
AWT has experienced no difficulty in obtaining raw materials used in its operations and relies on a broad range of suppliers, the loss of any of which would not have a material adverse effect on the Company.
BACKLOG
As of October 31, 1996, total backlog for AWT was approximately $1.1 billion as compared to approximately $1.2 billion as of October 31, 1995. AWT estimates that approximately $400 million of the backlog represents work which will be completed in the next 12 months. The total backlog at October 31, 1996 represents work for which AWT has entered into a signed agreement or purchase order with respect thereto or has received an order to proceed with work up to a specified dollar amount and includes approximately $375 million from PSG's contract with PRASA. Backlog amounts have historically resulted in revenues; however, no assurance can be given that all amounts included in backlog will ultimately be realized, even if covered by written contracts or work orders. Most of AWT's long-term contracts contain escalation provisions designed to protect AWT against increases in material and unit labor costs. AWT's total backlog as of October 31, 1996 and 1995 includes approximately 87% and 89%, respectively, of work to be performed for federal, state and municipal governmental agencies.
COMPETITION
AWT faces substantial competition in each market in which it operates. AWT competes primarily on its engineering, scientific and technological expertise. To the extent that non-proprietary or conventional technologies are used, AWT also relies upon its experience and trade names as a basis for competition. Such trade names include: "Professional Services Group" and "Metcalf & Eddy" in the water and wastewater treatment and sludge management markets and "Metcalf & Eddy" in the hazardous waste remediation market;"Research-Cottrell" and "Flex-Kleen" in the air pollution control equipment market; "Custodis" and "Ecodyne" in the chimney and cooling tower markets, respectively; "KVB/Analect" in the market for continuous emission monitors and "REECO" in the market for controlling emissions of volatile organic compounds. Many companies, some of which have greater resources than AWT, participate in AWT's markets and no assurance can be given that such other companies will not enter its markets.
Almost all contracts for AWT's air pollution control services and technologies are obtained through competitive bidding. Electric utilities and industrial customers typically purchase these services and technologies after a thorough evaluation of price, service, experience and quality. Although price is an important factor, it is not necessarily the determining factor, because contracts are often awarded in part on the basis of the efficiency or reliability of products.
Customers for Professional Services Group's and Metcalf & Eddy's water and wastewater services are primarily governmental entities and typically award contracts on the basis of technical qualifications and price. For Metcalf & Eddy's design services contracts, the majority of which are cost-plus-fixed-fee arrangements, technical qualifications are the primary factor followed by price competitiveness. In the hazardous waste clean-up market, Metcalf & Eddy competes with many local, regional and national firms on the basis of experience, reputation and price. For PSG's treatment system OM&M contracts, technical qualification is required; however, price is generally a key determining factor. Treatment system OM&M agreements are generally for three to five-year periods, with various renewal options up to five years in duration, and contain certain escalators for inflation.
REGULATION
Over the past twenty-five years, significant environmental laws at the federal, state and local level have been enacted in response to public concern over the environment. Those laws and their implementation through regulation affect numerous industrial and governmental actions and form a key market driver for AWT's products and services.
The Clean Air Act (CAA), and the federal and state regulations that implement it, play an important role in the size and timing of the investments industrial process and power generation facilities make in the Company's air pollution control technologies. In 1990, Congress substantially amended the CAA, incorporating control standards that would affect thousands of industrial sources that were little touched by the original 1970 CAA. The four primary titles of the amended CAA are:
bullet Title I - covering emission sources in areas of the U.S. designated as being in "non-attainment" (i.e. do not meet specific federal ambient air quality standards);
bullet Title III - covering sources that emit compounds listed as "hazardous air pollutants";
bullet Title IV - covering almost all coal-fired electric generating plants, whose emissions contribute to acid rain; and,
bullet Title V - requiring thousands of sources to obtain federally-enforceable permits in order to continue to operate.
Extensive public attention was given to the CAA's Title IV impact on electric utilities regarding the installation of scrubber systems and other air pollution control technologies to meet new emissions standards, as well as continuous emissions monitoring systems (CEMS) to verify compliance with these standards. EPA established a 10-year implementation schedule, which included the following milestone dates for compliance: 1993 (installation of CEMS), 1995 (Phase I utilities reductions), and 2000 (Phase II utilities reductions). Title IV will continue to play a role in the Company's business opportunities regarding new air pollution control equipment, and upgrades and repairs to existing control and CEM systems.
Title III provisions for controlling Hazardous Air Pollutants (HAPs) also received considerable attention. Title III lists 189 chemical compounds as "hazardous"; all "major" sources that emit these chemicals in amounts from 10 tons per year (tpy) of any one pollutant, or 25 tpy of any combination of these pollutants, must obtain operating permits, even if these sources are not subject--by virtue of their size or location--to other CAA provisions. The CAA requires EPA to regulate all such sources according to their industrial category or process(es), under a statutory schedule that mandates promulgation of HAPs emission standards, defined as Maximum Achievable Control Technology (MACT), for all 189 HAPs in all industrial source categories by the year 2000. Promulgation of these regulations has moved slower than originally expected. However, each MACT regulation designates several control technologies, many of which are offered by AWT.
Title I provisions set deadlines for areas of the country classified as "non-attainment" (i.e. not achieving federal health-related standards for ambient air for specified pollutants). The U.S. is divided into Air Quality Control Regions (AQCRs) that are generally coterminous with Consolidated Metropolitan Statistical Areas in populated areas of the country. Under the CAA, most states have prepared and are implementing State Implementation Plans (SIPs) that mandate source emissions limitations or other control techniques to ensure attainment of the relevant health standards by statutory dates. Sources emitting as little as 5 tpy of regulated pollutants may be required to adopt control techniques. The SIPs provide a method for states to achieve compliance schedules for the AQCR. The SIP programs will in turn require facilities to install air pollution control equipment to achieve attainment. In areas of the country where ambient air quality meets health standards, statutory provisions for Prevention of Significant Deterioration could require new, expanded, or modified facilities to install Best Available Control Technology (BACT). In addition, new or modified sources in certain industrial categories nationwide must comply with New Source Performance Standards, which the EPA is required to update periodically.
Title V provides the vehicle for the EPA--or the States to which the EPA has delegated the authority--to stipulate enforceable permit conditions under which each affected source must conduct its operations. These operating permits generally establish facility-wide emission limits for affected sources and extensive record-keeping and reporting requirements. As new federally-mandated control requirements are promulgated, these operating permits must be periodically revised to incorporate the new regulations.
More than 34,000 "major" sources or facilities in the U.S. are estimated to require operating permits incorporating requirements of one or more CAA titles. With the EPA's streamlined Title V program, affected sources have been provided additional flexibility in their approach to Clean Air Act compliance.
AWT clients affected by the CAA include industries in segments such as: electric generating, petroleum, petrochemical and chemical, pharmaceutical, pulp & paper, cement and rock products, food processing, primary and secondary ferrous and nonferrous metals, coating and printing, waste-to-energy and incineration, and private and governmental facilities such as wastewater treatment plants. For these and other clients, AWT provides consulting services (for designing compliance strategies and obtaining permits); on-line pollution control and monitoring equipment; as well as parts, rebuilds/upgrades, and service and maintenance for its own equipment and that of other suppliers.
The Safe Drinking Water Act of 1974 directs the EPA to set drinking water standards for the estimated 57,561 community water supply systems in the United States. In 1996, Congress reauthorized the act through the Safe Drinking Water Act Amendments of 1996. These amendments will bring substantial changes to the regulation and financing of water systems. The changes focus on four elements:
bullet regulatory improvements, including standards based on better science, risk assessment, and prioritization of efforts;
bullet new, stronger programs to prevent contamination of drinking water sources;
bullet expanded information for water system consumers, including specific "right-to-know" provisions; and
bullet new funding for states and community water systems through a drinking water state revolving fund program.
The new regulatory framework provides a more manageable program for community water systems to monitor and treat drinking water supplies than the previous law. Communities therefore will not be as delayed by uncertainty and will be able to design and install the technologies and systems needed to achieve regulatory compliance.
The amendments maintain the current process and set a schedule for implementation of two far-reaching proposals the EPA made in 1994. The first proposal, the disinfectants and disinfection byproducts rule (D/DBP), establishes disinfectant level goals for chlorination and maximum contaminant level goals for potentially harmful disinfection byproducts, notably trihalomethanes. The second proposal, the enhanced surface water treatment rule (ESWTR), focuses on treatment requirements for waterborne disease-causing organisms (pathogens). Final adoption of these rules under the new schedule will affect the majority of AWT's municipal clients, who will need to study, design, build, and operate more sophisticated facilities.
Congress established for the first time a major federal financial assistance program for community water systems, the drinking water state revolving fund program. The amendments authorize nearly $9.6 billion through 2003 to be allotted based on need to states to create low interest loan funds for installing and upgrading drinking water treatment facilities. Many of AWT's municipal water clients will be in a position to use these funds for needed capital improvements.
The Federal Water Pollution Control Act of 1972 (the "Clean Water Act") established a system of standards, permits and enforcement procedures for the discharge of pollutants from industrial and municipal wastewater sources. The law set treatment standards for industries and wastewater treatment plants and provided federal grants to assist municipalities in complying with the new standards. According to the EPA's survey of wastewater and sewage treatment needs, as much as $137 billion will be needed for construction and upgrade of wastewater treatment facilities by the year 2012. The EPA and/or delegated state agencies are placing some of these non-complying communities under enforcement schedules. In cases of non-compliance, the EPA may petition for court-ordered compliance and penalties. In 1987, the law was amended to phase out federal grants by 1991 and replace them with state revolving funds, with a commitment to provide federal money through 1994. It is presently expected that federal funding will continue to be appropriated for state revolving funds.
Key areas for which regulations have been issued included industrial wastewater pretreatment, surface water toxics control and sewage sludge disposal. The Clean Water Act requires pretreatment of industrial wastewater before discharge into municipal systems and gives the EPA the authority to set pretreatment limits for direct and indirect industrial discharges. These rules issued by the EPA will increase the need for facility upgrading and control of industrial discharges. The revised regulations tighten prohibitions against discharge of toxic wastes, and subject industries, which discharge into public sewers, to stringent controls, inspections, monitoring and testing requirements. The surface water toxics program requires states to identify waters adversely affected by toxics and propose control strategies. Also under the Clean Water Act, the EPA published, in February 1993 and amended in February 1994, a rule setting standards for the use and disposal of sludge when it is applied to land to condition the soil, is disposed on land by placing it in surface disposal sites or is incinerated. Final Stormwater regulations were issued in November 1990 and establish management requirements for municipalities serving populations over 100,000 and industries within specified categories.
In 1994, the EPA signed a final regulation that outlines the national Combined Sewer Overflow (CSO) policy. CSO systems are a combination of rain and sanitary sewage in sewer systems. CSOs contain pollutants that are present in the domestic and industrial wastewaters, as well as those in the urban stormwater runoff that enters the combined sewer system. The CSO plan impacts 1,100 municipalities, mainly in the Northeast and Midwest. The EPA estimates the cost associated with improving and upgrading these sewer-stormwater systems at $41 billion over the next 15 year period.
The Resource Conservation and Recovery Act of 1976 ("RCRA") provides a comprehensive scheme for the regulation of generators and transporters of hazardous waste as well as persons engaged in the treatment, storage and disposal of hazardous waste. The intent of RCRA is to control hazardous wastes from the time they are generated by industry until they are disposed of properly. In addition, RCRA governs the disposal of solid wastes.
Under applicable RCRA regulations, generators who generate more than a certain amount of hazardous waste per month are required to package and label shipments of hazardous waste in accordance with detailed regulations and to prepare a manifest identifying the material and stating its destination before shipment off-site. Every facility that treats, stores or disposes of hazardous waste must obtain a RCRA permit from the EPA, or a state agency which has been authorized by the EPA to administer its state program, and must comply with certain operating, financial responsibility and closure requirements. RCRA also provides for corrective actions to remediate contamination resulting from the disposal of hazardous waste.
Regulations issued pursuant to RCRA significantly affect the need for environmental treatment and services in the following areas: municipal solid waste disposal, land disposal of hazardous waste, remediation of environmental contamination, and management of underground storage tanks. Regulations establishing land disposal restrictions for hazardous wastes are being published in serial form.
In December, 1995 the EPA proposed a new system for exempting high-volume, low-risk wastes from RCRA hazardous waste management rules. This new rule, part of the Hazardous Waste Identification Rule, would establish a risk-based "floor" for these wastes, encouraging the use of innovative waste treatment technologies. The EPA is also promoting a program that encourages RCRA corrective action facilities to meet performance standards through self-implementing programs. AWT expects that both of these programs will hasten the pace of cleanups and encourage the use of on-site engineered systems, benefitting the Company.
The Comprehensive Environmental Response, Compensation and Liability Act of 1980 ("Superfund") established the Superfund program to clean up hazardous waste sites and provides for penalties for noncompliance. Superfund has been interpreted to impose strict, joint and several liability on owners and operators of facilities, transporters, and persons who arrange for the disposal or treatment of hazardous substances for the costs of removal and remediation, other necessary response costs and damages for injury to natural resources. Where potentially responsible parties cannot be identified, are without resources or are unresponsive, federal funds may be used. In addition, the Superfund Amendments and Reauthorization Act of 1986 established more stringent cleanup standards and accelerated mandatory schedules to ensure rapid and permanent solutions in cleaning up sites. Superfund was slated for reauthorization , and possible substantial revision, in 1994, 1995 and again in 1996. It will be reconsidered in 1997, although it is unclear whether reauthorization will occur due to the very controversial issues surrounding retroactive liability and natural resource damage evaluation.
Brownfields Initiative. The exodus of U.S. industry from our inner-city or other industrial locations during the past thirty years has left behind thousands of former manufacturing and commercial sites, many of which have been abandoned because of contamination and associated liability to owners and/or operators. These sites, known as "brownfields", number more than 500,000 nationwide.
In 1995, the Clinton Administration introduced the Brownfields Initiative, which was designed to encourage inner-city economic development and property reuse by resolving the cleanup and liability issues associated with contaminated industrial properties. To date, the EPA and state agencies in 35 states have initiated targeted efforts under this Initiative. These efforts have included funding for pilot programs, legislation geared at limiting owner and lender liability, and relaxed cleanup standards that balance potential environmental and public health risk with future site use. Brownfields continue to be a high priority for the Administration and this initiative is being expanded in scope and funding. AWT is well-positioned to serve the market, which includes current property owners and potential buyers, through its management and cleanup capabilities and its long-term relationships with both governmental and industrial clients.
In addition to federal environmental regulations, most states and many local authorities have enacted laws regulating activities affecting the environment. Many of these state and local laws have imposed similar stricter standards and regulations than their federal counterparts, and as a result are also an important market driver for AWT's products and services.
BONDING
AWT is often required to procure bid and performance bonds from surety companies, particularly for clients in the public sector. A bid bond guarantees that AWT will enter into the contract under consideration at the price bid and a performance bond guarantees performance of the contract. AWT is required to indemnify surety companies providing bid and performance bonds for any payments the sureties are required to make under the bonds.
AWT and its subsidiaries obtain bid and performance bonds pursuant to a Master Surety Agreement with United States Fidelity and Guaranty Company, Fidelity and Guaranty Insurance Underwriters, Inc., Fidelity and Guaranty Insurance Company and USF&G Insurance Company of Mississippi (collectively, "USF&G"). AWT also has outstanding bid and performance bonds pursuant to agreements with Reliance Insurance Company, United Pacific Insurance Company and Planet Insurance Company of Federal Way, Washington, although no bonds have been obtained under this agreement since June 27, 1995, and AWT anticipates that all of its foreseeable future bonding requirements will be provided by USF&G. In addition, AWT's credit facility (see Note 7 to the Company's Consolidated Financial Statements captioned "Financing Arrangements") with the First National Bank of Chicago and Societe Generale, New York Branch, as arranging agents, provides for issuance of letters of credit for purposes which include direct or indirect fulfillment of bid and performance bond requirements by AWT and its subsidiaries. AWT has never forfeited a bid or a performance bond and no project sponsor has ever called and drawn upon a bond issued in support of AWT's contract obligations.
INSURANCE
AWT currently maintains various types of insurance, including workers' compensation, general and professional liability and property coverages. AWT believes that it presently maintains adequate insurance coverages for all of its present operational activities. It has been both an AWT policy and a requirement of many of its clients that AWT maintain certain types and limits of insurance coverage for the services and products it offers, provided that such types and limits can be obtained on commercially reasonable terms. In addition to existing coverages, AWT has been successful in obtaining commercially reasonable coverage for certain pollution risks, though coverage has been on a claims made rather than occurrence basis due to the professional nature of some of AWT's exposures. Claims made policies provide coverage to AWT only for claims reported during the policy period. AWT's general liability and other insurance policies have historically contained absolute pollution exclusions, brought about in large measure because of the insurance industry's adverse claims experience with environmental exposures. Accordingly, there can be no assurance that environmental exposures that may be incurred by AWT and its subsidiaries will continue to be covered by insurance, or that the limits currently provided or that may be obtained in the future will be sufficient to cover such exposures. A successful claim or claims in an amount in excess of AWT's insurance coverage or for which there is no coverage could have a material adverse effect on AWT.
EMPLOYEES
At October 31, 1996, AWT had approximately 3,200 full-time employees, of which approximately 1,500 are employed in Professional Services Group, 1,100 are employed in Metcalf & Eddy and 600 are employed in Research-Cottrell.
ITEM 2.
ITEM 2. PROPERTIES
AWT believes that its facilities are suitable and adequate for its current and foreseeable operational and administrative needs. The principal physical properties of AWT are as follows:
In addition, AWT leases or owns space at approximately 58 other domestic locations and nine locations in Canada, Europe and the Middle East. AWT has no current plans or requirements for additional space. Also, AWT operates and provides services from approximately 100 treatment facilities, two of which it owns. Since June 14, 1994, AWT has been reducing its real estate holdings and associated costs through a program of selling surplus owned real estate, subleasing surplus rented space and renegotiation of all of its principal leases.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
In connection with a broad investigation by the U.S. Department of Justice into alleged illegal payments by various persons to members of the Houston City Council, the Company's subsidiary, PSG, received a federal grand jury subpoena on May 31, 1996 requesting documents regarding certain PSG consultants and representatives that had been retained by PSG to assist it in advising the City of Houston regarding the benefits that could result from the privatization of Houston's water and wastewater system. PSG has cooperated and continues to cooperate with the Justice Department which has informed the Company that it is reviewing transactions among PSG and its consultants. The Company promptly initiated its own independent investigation into these matters and placed PSG's chief executive officer, Michael M. Stump, on administrative leave of absence with pay. Mr. Stump, who has denied any wrongdoing, resigned from PSG on December 4, 1996. In the course of its ongoing investigation, the Company became aware of questionable financial transactions with third parties and payments to certain PSG consultants and other individuals, the nature of which requires further investigation. The Company has brought these matters to the attention of the Department of Justice and continues to cooperate fully with its investigation.
No charges of wrongdoing have been brought against PSG or any PSG executive or employee by any grand jury or other government authority. However, since the government's investigation is still underway and is conducted largely in secret, no assurance can be given as to whether the government authorities will ultimately determine to bring charges or assert claims resulting from this investigation that could implicate or reflect adversely upon or otherwise have a material adverse effect on the financial position or results of operations of PSG or the Company taken as a whole.
AWT and its subsidiaries are parties to various other legal actions arising in the normal course of their businesses, some of which involve claims for substantial sums. AWT believes that the disposition of such various actions, individually or in the aggregate, will not have a material adverse effect on the consolidated financial position or results of operations of AWT taken as a whole.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
Part II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
AWT's Class A Common stock began trading publicly on August 10, 1989 at an initial public offering price of $17.00 per share and is traded on the American Stock Exchange under the symbol AWT. On December 31, 1996, there were 586 holders of record of AWT's Class A Common Stock.
The following table sets forth, for the fiscal periods shown, the high and low sales price for AWT's Class A Common Stock as reported on the American Stock Exchange.
High Low ------ ------- Fiscal 1995 First Quarter $6.875 $5.875 Second Quarter $5.625 $4.3125 Third Quarter $6.625 $4.125 Fourth Quarter $6.375 $5.00
Fiscal 1996 First Quarter $8.125 $4.00 Second Quarter $7.00 $5.25 Third Quarter $6.75 $4.969 Fourth Quarter $9.50 $5.50
On December 31, 1996, the closing price per share on the American Stock Exchange for AWT's Class A Common Stock was $5.75.
AWT did not declare any cash dividends on its Class A Common stock during fiscal 1995 and fiscal 1996. Pursuant to the credit facility with The First National Bank of Chicago and Societe Generale, New York Branch, as arranging agents, AWT is prohibited from declaring or paying cash dividends on its Class A Common stock or other restricted payments, as defined (See Note 7 to the Company's Consolidated Financial Statements captioned "Financing Arrangements"). AWT currently intends to retain its earnings to finance the growth and development of its business and to repay outstanding indebtedness and does not anticipate paying cash dividends on its Class A Common stock in the foreseeable future.
ITEM 6.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following table presents selected historical financial data for AWT. The information contained herein should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations," and the Consolidated Financial Statements and Notes thereto of AWT.
AIR & WATER TECHNOLOGIES CORPORATION SELECTED CONSOLIDATED FINANCIAL DATA (in thousands, except share data)
See Notes 3, 4 and 5 of the Notes to Consolidated Financial Statements of the Company.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
BACKGROUND
AWT was organized by an investment group including Odyssey Partners, L.P., Allen & Company Incorporated ("Allen & Company") and affiliates of First Chicago Corporation to make a cash tender offer to purchase all of the outstanding shares of capital stock of Research-Cottrell, Inc. and its various subsidiaries, including Metcalf & Eddy, Inc. The Research-Cottrell acquisition was completed on July 13, 1987 ("the Acquisition"). As a result of the Acquisition, AWT incurred approximately $250,000,000 in debt and recorded approximately $200,000,000 in goodwill. AWT's results of operations since the Acquisition have been adversely affected by the interest expense related to the Acquisition debt, which was refinanced in 1990, and the amortization of goodwill. See Financial Condition and the notes to the accompanying AWT Consolidated Financial Statements.
RESULTS OF OPERATIONS
AWT operates principally in three segments: Professional Services Group focused on the operation of water and wastewater treatment facilities; Metcalf & Eddy focused on engineering consulting in the areas of water/wastewater and hazardous waste remediation; and Research-Cottrell focused on designing, supplying and servicing air pollution treatment and control equipment. The "other" segment primarily represents the Company's activities related to a hazardous waste transfer station which was sold on October 27, 1995.
DEMAND FOR THE COMPANY'S SERVICES AND TECHNOLOGIES
Demand for the Company's services and technologies arises principally from four sources:
- need for governmental agencies to reduce costs through productivity improvements and improve the quality of services;
- upgrade of existing facilities and the need for new capacity at electric generating facilities, water and wastewater treatment facilities and various industrial pollution sources, such as waste incineration and industrial process plants, which must comply with existing environmental legislation and regulations;
- regulations mandating new or increased levels of air and water pollution control, water supply and solid waste management as well as remediation of contaminated sites; and
- need for maintenance, repair, rebuilding and upgrading of existing pollution control equipment and facilities.
Summarized below is certain financial information relating to the business segments of the Company.
DEPENDENCE ON KEY PROJECTS/GOVERNMENT CONTRACTS
In any given period, a substantial percentage of the Company's sales is dependent upon several large projects. To the extent that these projects are canceled or substantially delayed and not replaced, it could have a material adverse impact on the Company's sales and earnings.
Approximately 62% of the Company's 1996 gross revenues were derived from contracts with federal, state, municipal and other governmental agencies. The termination of any of the Company's significant contracts with such governmental agencies, or the failure to obtain either extensions or renewals of certain existing contracts or additional contracts with such governmental agencies, could have a material adverse effect on the Company's earnings and business.
FISCAL YEAR ENDED OCTOBER 31, 1996 COMPARED TO FISCAL YEAR ENDED OCTOBER 31,
Overview
As discussed in more detail with the comparison of each segment's results, the Company's net loss decreased from $8.0 million during the year ended October 31, 1995 to $5.3 million during the year ended October 31, 1996. The results for the year reflect decreases in operating margins (primarily in PSG and Research-Cottrell) due to the highly competitive marketplace and increases in selling and marketing expenses (primarily PSG) which have been partially offset by overhead reductions within Metcalf & Eddy, Research-Cottrell and Corporate. Sales increased from $618.9 million to $701.1 million primarily due to increased service revenues associated with PSG's contract with PRASA. At October 31, 1996, the Company's backlog was approximately $1.1 billion and consisted of PSG (75%), Metcalf & Eddy (19%) and Research-Cottrell (6%).
Comparable operating results in the next fiscal year are contingent upon the level and timing of additional contracts in each segment, the achievement of the expected sales level increases, cost control, the execution of expected new projects and those projects in the backlog within the most recent cost estimates as well as the favorable resolution of claims arising in the ordinary course of business.
Professional Services Group
Operating income was $7.4 million for the year ended October 31, 1996 and reflects a $2.2 million decrease from the comparable prior period due to additional selling, general and administrative expenses as well as depreciation and amortization related to growth initiatives which were partially off-set by higher gross margins. The increase in PSG's sales is a result of the PRASA contract which began September 1, 1995 and has not had a proportional impact on operating income. Although negotiations are progressing slower than previously expected, PSG continues to pursue new business opportunities and currently has several proposals pending or under negotiation which if obtained, would significantly increase future sales.
Metcalf & Eddy
Although sales have remained comparable to the prior year, Metcalf & Eddy's operating income increased by $2.4 million during the year ended October 31, 1996. The higher operating income was attributable primarily to personnel, facilities and insurance cost reductions which resulted in a decrease in selling, general and administrative expenses of $2.1 million. In addition, estimated favorable pricing adjustments partially offset the impact of unfavorable sales mix to more design-build and construction type projects.
Research-Cottrell
Operating income decreased by $.6 million during the year ended October 31, 1996 from the comparable prior period. The changes in operating income reflects the decreases in margin rates in most business units caused by price pressures from highly competitive markets, unfavorable product line mix and project execution. Partially off-setting the reduced margins are lower selling, general and administrative expenses of $3.2 million during the year ended October 31, 1996 (primarily at its APCD and KVB operations). International sales volume has continued to increase by $10.7 million due to improved market penetration during the aforementioned period, however the higher sales related to international activities were more than off-set by lower sales volume in KVB of $11.0 million during the year ended October 31, 1996. KVB's lower volume, compared with the prior period, is due to the fulfillment of orders for equipment required by utility customers to comply with the Clean Air Act Amendments of 1990.
Corporate and Other
The corporate (unallocated) selling, general and administrative expenses decreased by $.9 million during the year ended October 31, 1996 due to cost reduction efforts, including personnel related costs and professional fees. The results for the year compared to the prior year were also favorably impacted by slightly lower financing costs and the favorable resolution of several pending tax issues.
FISCAL YEAR ENDED OCTOBER 31, 1995 COMPARED TO FISCAL YEAR ENDED OCTOBER 31,
Overview
As discussed in more detail with the comparison of each segment's results, the net loss was reduced by $253.8 million to $8.0 million during the year ended October 31, 1995. Excluding the $196.0 million impact of unusual charges, losses from discontinued operations and the extraordinary loss, the $57.8 million improvement of results reflects primarily a $54.1 million increase in operating income. This was achieved through better project execution resulting in higher gross margins on stable sales levels within the Metcalf & Eddy and Research-Cottrell segments. In addition, the June 1994 acquisition of PSG, CGE's water/wastewater management subsidiary, and new contract awards resulted in a $96.0 million sales increase generating higher operating income in the PSG segment. Various cost reduction efforts also improved results which are reflected in a $1.0 million reduction in selling, general and administrative expenses despite the effects of the PSG acquisition and providing for improved employee fringe benefits including retirement and incentive plans. Backlog levels also increased to over $1.2 billion due to the $450 million five-year contract with PRASA to operate, maintain and manage Puerto Rico's water and wastewater treatment facilities.
Professional Services Group
Excluding the impact of the $5.3 million prior period unusual charges and the $1.5 million proforma operating income impact assuming the June 1994 PSG acquisition occurred on November 1, 1993, operating income increased during the year ended October 31, 1995 by $6.7 million. The increase in operating income during the year was primarily due to new business development which resulted in additional service contracts and cost reductions attained in connection with the consolidation of the Metcalf & Eddy Services and Professional Services Group operations.
Sales increased by $96.0 million during the year ended October 31, 1995. The increase during the year is attributable to the proforma sales impact of the PSG acquisition ($55.6 million) and new business development which resulted in additional service contract revenues ($40.4 million), including revenues of $15.7 million related to the new PRASA contract.
On September 1, 1995, PSG initiated operations under its five-year contract with PRASA to operate, maintain and manage Puerto Rico's water and wastewater treatment facilities. This contract is expected to generate annual revenues in excess of $90 million and its profitability thereunder is contingent upon achieving certain incentive revenues and operating efficiencies in which a significant amount is expected to be realized during the later years of the contract. PRASA has the right to cancel the contract after three years.
Metcalf & Eddy
Excluding the impact of the $38.7 million prior period unusual charges, operating income increased by $8.9 million during the year ended October 31, 1995. The improved performance resulted from higher margin sales related to work executed directly by Metcalf & Eddy excluding its sub-contractors and other favorable mix impacts as well as improved execution on several projects as a result of obtaining contractual amendments and lower than previously anticipated direct project costs. Selling, general and administrative expenses decreased by $1.6 million primarily due to various cost reductions including facility, insurance and administrative overhead related costs partially off-set by increased bid and proposal and other related selling costs as well as higher employee fringe benefits.
Sales decreased by $2.3 million during the year ended October 31, 1995 primarily due to changes in pass-through sales volume, including its Peace Shield project, representing direct project costs passed through to the client. The higher margin sales related to work executed directly by Metcalf & Eddy excluding its sub-contractors increased by $9.1 million during the year.
Research-Cottrell
Excluding the impact of the $81.8 million prior period unusual charges, operating income increased by $34.8 million during the year ended October 31, 1995. The increase resulted from higher gross margins of $30.2 million primarily due to better execution resulting in the avoidance of additional costs required in the prior year to complete particulate and acid gas control systems, chimneys and emissions monitoring systems ($21.5 million) as well as higher gross margins within the international and cooling tower operations primarily due to higher sales volumes and to a lesser extent improved execution ($7.5 million). Also impacting the favorable results were lower selling, general and administrative expenses ($2.9 million) due to cost reductions in substantially all product lines primarily within the particulate and acid gas control equipment, emissions monitoring systems and cooling tower product lines which were partially off-set with higher international selling activities.
Sales increased by $7.0 million during the year ended October 31, 1995. The increase resulted from higher international sales of particulate and acid gas control systems due to better geographical market penetration in Europe and the Far East ($21.0 million) and higher sales from the cooling tower operations driven by higher orders ($9.4 million). Also contributing to the increase were higher sales of VOC control systems due to higher demands driven by the requirements under the 1990 Clean Air Act Amendments ($12.3 million). Partially offsetting these increases were lower sales of emission monitors ($19.1 million) and chimney products and services ($12.3 million) primarily due to the timing of the demand requirements under the 1990 Clean Air Act Amendments.
In light of improvements in its current market climate and anticipated financial performance, management has decided to retain the Company's cooling tower, heat transfer and certain service operations. The Company had previously contemplated selling these businesses and had recorded a charge for the difference between their net carrying value and management's estimate of the anticipated net sales proceeds. The Company is making progress in resolving software issues related to its emissions monitoring systems previously shipped to certain utilities. The software issues have created problems in collecting receivables due to claims and back-charges from certain utilities. Also, the Company will continue to incur additional software, warranty and project close-out costs in resolving this situation. Management believes that the previously provided reserves for the contemplated divestitures and emissions monitoring operations are adequate in the aggregate, therefore these issues have not had a significant effect on the Company's consolidated financial position or results of its operations, taken as a whole as of October 31, 1995 and for the year then ended.
Corporate and Other
The corporate (unallocated) selling, general and administrative expenses and depreciation and amortization decreased by $1.7 million during the year ended October 31, 1995 due to cost reduction efforts, including reductions in unallocated promotional and facility related costs. The Company sold its hazardous waste transfer station operations during October 1995 and as a result a $1.4 million gain was recognized and included in other expense, net.
Additional charges reflected in the prior year include unusual charges of $19.4 million, losses from the discontinued asbestos abatement operations ($38.2 million) and PAMCO operations ($4.6 million) and an $8.0 million extraordinary loss on the early retirement of the 11.18% Senior Notes with the Prudential Insurance Company of America.
Financial Condition
Cash provided by operations for the year ended October 31, 1996 amounted to $.9 million and was unfavorably impacted by the cash outlays of $13.1 million for the previously established unusual charge reserves. The Company also utilized $18.1 million of cash for capital expenditures, investments in environmental treatment facilities and other investment activities including start up costs during the period. These cash requirements were funded principally through borrowings under the Company's credit facilities discussed below and proceeds from the prior year sale of its hazardous waste transfer station operations and one of its emissions monitoring operations. As a result of the above, net financial debt (debt less cash) increased by $16.0 million during the year ended October 31, 1996.
During August, 1996 the Company entered into a seven year $60 million unsecured revolving credit facility with Anjou International Company ("Anjou Credit Facility"), an affiliated company. The borrowings under the facility bear interest at LIBOR plus .6%. In conjunction with this new financing the Company reduced its more expensive $130 million Senior Secured Credit Facility ("Bank Credit Facility") to $50 million. As of October 31, 1996, the Company's outstanding borrowings under the Anjou Credit Facility totaled $60 million.
The Bank Credit Facility is primarily designed to finance working capital requirements and provide for the issuance of letters of credit, both subject to limitations and secured by a first security interest in substantially all of the assets of the Company. Of the total commitment, borrowings are limited to the sum of a percentage of certain eligible receivables, inventories, net property, plant and equipment and costs and estimated earnings in excess of billings, and bear interest at LIBOR (5.4% at October 31, 1996), as defined, plus .725% or at a defined bank rate approximating prime (8.25% at October 31, 1996). The Bank Credit Facility also allows for certain additional borrowings, including, among other things, project financing and foreign borrowing facilities, subject to limitations and contains certain financial and other restrictive covenants , including, among other things, the maintenance of certain financial ratios, and restrictions on the incurrence of additional indebtedness, acquisitions, the sale of assets, the payment of dividends and the repurchase of subordinated debt. In addition, the related agreement requires CGE to maintain its support of the Company, including, a minimum 40% ownership interest in the Company and its right to designate its proportionate share of the Company's Board of Directors as well as the Chief Executive Officer and Chief Financial Officer. The Company compensates CGE for its support in an amount equal to .95% per annum of the outstanding commitment of its credit facilities ($1.2 million and $.8 million for the years ended October 31, 1996 and 1995). Under the Bank Credit Facility at October 31, 1996, the Company had no outstanding borrowings (capacity of $22.2 million) and outstanding letters of credit of $27.8 million.
The businesses of the Company have not historically required significant ongoing capital expenditures. For the year ended October 31, 1996, 1995 and 1994 total capital expenditures were $7.5 million, $7.9 million and $5.5 million, respectively. At October 31, 1996, the Company had no material outstanding purchase commitments for capital expenditures. The company has obtained waivers relating to violations of certain financial covenants under the Bank Credit Facility and other contractual agreements (see Note 8). As of January 28, 1997, the Company has borrowed an additional $16 million during fiscal 1997 under its credit facilities. Management believes that it will be able to manage its near-term cash requirements through its remaining Bank Credit Facility capacity ($10 million), current cash balances and working capital reductions.
Statement Regarding Forward Looking Disclosures
Statements contained in this report, including Management's Discussion and Analysis, are forward looking statements that involve a number of risks and uncertainties which may cause the Company's actual operating results to differ materially from the projected amounts. Among the factors that could cause actual results to differ materially are risk factors listed from time to time in the Company's SEC reports including:
- the Company's highly competitive marketplace,
- changes in as well as enforcement levels of federal, state and local environmental legislation and regulations that change demand for a significant portion of the Company's services,
- the ability to obtain new contracts (some of which are significant) from existing and new clients,
- the execution of the expected new projects and those projects in backlog within the most recent cost estimates and
- the favorable resolution of existing claims arising in the ordinary course of business.
INFLATION
The Company believes that inflation and changing prices have not had, and are not expected in the near term to have, a material adverse effect on its results of operations. Significant portions of the Company's sales and the related costs result from contracts that provide for escalation recovery on labor and material costs. Many other contracts are "cost-plus" government contracts. Both types of contracts reduce the Company's exposure to the adverse effects of inflation.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEPENDENT AUDITOR'S REPORT
To the Stockholders and Board of Directors of Air & Water Technologies Corporation:
We have audited the accompanying consolidated balance sheet of Air & Water Technologies Corporation and its Subsidiaries as of October 31, 1996, and the related consolidated statements of operations, stockholders' equity and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Air & Water Technologies Corporation and its Subsidiaries as of October 31, 1996, and the results of their operations and their cash flows for the year then ended in conformity with generally accepted accounting principles.
McGladrey & Pullen, LLP
New York, New York January 8, 1997, except for the first paragraph of Note 8 as to which the date is January 24, 1997
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Air & Water Technologies Corporation:
We have audited the accompanying consolidated balance sheet of Air & Water Technologies Corporation (a Delaware corporation) and subsidiaries as of October 31, 1995 and the related consolidated statements of operations, stockholders' equity and cash flows for each of the two years in the period ended October 31, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Air & Water Technologies Corporation and subsidiaries as of October 31, 1995 and the results of their operations and their cash flows for each of the two years in the period ended October 31, 1995, in conformity with generally accepted accounting principles.
Arthur Andersen LLP
Roseland, New Jersey December 8, 1995
The accompanying notes to consolidated financial statements are an integral part of these financial statements.
The accompanying notes to consolidated financial statements are an integral part of these financial statements.
AIR & WATER TECHNOLOGIES CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS OCTOBER 31, 1996
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Consolidation
The consolidated financial statements include the accounts of Air & Water Technologies Corporation ("AWT" or the "Company") and all majority-owned subsidiaries. All significant intercompany transactions have been eliminated. Investments in joint ventures, which are 50% or less owned, are accounted for using the equity method, while the Company's share of joint venture results of operations are included pro rata in "sales", "cost of sales" and "selling, general and administrative expenses" in the accompanying consolidated statements of operations.
Use of accounting estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Cash equivalents
Cash equivalents consist of investments in short-term highly liquid securities having an original maturity of three months or less and primarily include investments in bank time deposits.
Revenue recognition
The Company follows the practice of accruing income from long-term contracts using the percentage-of-completion method. Under this method, the Company primarily recognizes as profit that proportion of the total anticipated profit which the cost of work completed bears to the estimated total cost of the work covered by the contract, including estimated warranty and performance guarantee costs. As contracts extend over one or more years, revisions of cost and profit estimates are made periodically and are reflected in the accounting period in which they are determined. If the estimate of total costs on a contract indicates a loss, the total anticipated loss is recognized immediately. Estimated warranty and performance guarantee costs on completed contracts are included in accrued expenses and amounted to $4,300,000 and $11,400,000 at October 31, 1996 and 1995.
The asset, "Costs and estimated earnings in excess of billings on uncompleted contracts," represents contract costs incurred plus earned margin in excess of amounts billed and includes unbilled retentions which result from performance of work on contracts in progress in advance of billings pursuant to certain contract terms. Approximately $45,100,000 of costs and estimated earnings in excess of billings on uncompleted contracts is expected to be collected in fiscal year 1997. The liability, "Billings in excess of costs and estimated earnings on uncompleted contracts," represents billings in excess of contract costs incurred plus earned margin.
Inventories
Inventories are stated principally at the lower of weighted average cost or market. Inventories at October 31 consist of the following (in thousands):
1996 1995 ---- ----
Raw materials $ 5,207 $4,270 Work in process 869 449 Components and parts 5,243 8,328 ------- ------- $11,319 $13,047 ======= =======
Property, plant and equipment
Property, plant and equipment is stated at cost. Depreciation and amortization of property, plant and equipment is primarily computed on the straight-line method over the estimated useful lives of the assets. The estimated useful lives are generally 20 to 30 years for buildings and improvements and 3 to 12 years for machinery, equipment and fixtures. Repair and maintenance costs are expensed as incurred; major renewals and betterments are capitalized. Property, plant and equipment at October 31 consist of the following (in thousands):
1996 1995 ---- ----
Land and land improvements $ 4,836 $ 5,080 Buildings and improvements 15,423 17,099 Machinery, equipment and fixtures 45,098 49,789 ------- ------- 65,357 71,968 Less accumulated depreciation and (29,925) (34,470) amortization ------- ------- $35,432 $37,498
Goodwill and long-lived assets
Goodwill is being amortized over 40 years under the straight-line method. The Company continually evaluates whether events and circumstances have occurred that indicate the remaining estimated useful life of goodwill and other long-lived assets may warrant revision or the remaining balance of goodwill and other long-lived assets may not be recoverable. When factors indicate that goodwill and other long-lived assets should be evaluated for possible impairment, the Company uses an estimate of the related business segment's undiscounted operating income over the remaining life of the assets in measuring whether the assets are impaired. The realizability of goodwill and other long-lived assets associated with a business segment might be significantly impacted if that business were to be divested. Goodwill amortization was $8,266,000, $8,233,000 and $7,738,000 for the years ended October 31, 1996, 1995 and 1994. Accumulated amortization of goodwill was $60,578,000 and $52,881,000 at October 31, 1996 and 1995.
Deferred costs
Certain direct costs which are incurred for new projects, primarily related to the start up of the operations, maintenance and management of treatment facilities within the PSG operating segment are deferred and amortized over the terms of the specific new contract using the straight-line method. These unamortized deferred charges are included in other assets and amounted to $13,767,000 and $7,494,000 at October 31, 1996 and 1995. Deferred debt issuance costs are amortized over the life of the related debt utilizing the effective interest method. The unamortized costs were included in other assets and amounted to $3,147,000 and $3,334,000 at October 31, 1996 and 1995.
Earnings (loss) per share
The earnings (loss) per share was computed by dividing the net income (loss) after preferred stock dividends by the weighted average number of common shares outstanding each period. The weighted average number of shares outstanding were 32,018,000 in 1996 and 1995 and 27,632,000 in 1994. Common stock equivalents (stock options) and the Company's 8% Convertible Notes have not been included in the earnings (loss) per share calculation since the effect is antidilutive.
Income taxes
Deferred taxes are provided on a liability method whereby deferred tax assets are recognized for deductible temporary differences and operating loss and tax credit carryforwards and deferred tax liabilities are recognized for taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax bases. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment.
Reclassifications
Certain reclassifications have been made to the 1995 and 1994 consolidated financial statements to conform to the 1996 presentation.
(2) CGE TRANSACTION
On June 14, 1994, the stockholders of the Company approved the issuance of Company securities pursuant to an investment agreement dated as of March 30, 1994 (the "Investment Agreement"), among AWT, Compagnie Generale des Eaux, a French corporation and AWT's largest shareholder ("CGE"), and Anjou International Company, a Delaware corporation and a wholly-owned subsidiary of CGE ("Anjou"), pursuant to which, among other things, AWT (i) issued to CGE 1,200,000 shares of a newly designated series of Preferred Stock, designated as 5 1/2% Series A Convertible Exchangeable Preferred Stock, convertible into 4,800,000 shares of Class A Common Stock, for cash consideration of $60,000,000, and (ii) issued to Anjou an aggregate of 6,701,500 shares of Class A Common Stock in connection with the acquisition from Anjou of Professional Services Group, Inc., a Minnesota corporation, and 2815869 Canada, Inc., a Canadian corporation (hereinafter collectively "Professional Services Group" or "PSG"). As a result, CGE increased its ownership interest in AWT to approximately 48% of the total voting power of the Company's voting securities. In addition, AWT benefitted from certain financial undertakings from CGE, including a $125,000,000 loan from CGE and became CGE's exclusive vehicle in the United States, its possessions and its territories for CGE's water and wastewater management and air pollution activities. CGE also has representation on AWT's Board of Directors and has designated AWT's Chief Executive Officer and Chief Financial Officer.
In connection with the Investment Agreement, the Company incurred fees and expenses of approximately $9,800,000, including $7,750,000 payable to Allen & Company (a related party) for financial advisory services. The estimated fees and expenses have been allocated to the PSG acquisition ($4,875,000), preferred stock issuance ($4,475,000), common stock issuance ($400,000) and a term loan from CGE ($50,000).
(3) UNUSUAL CHARGES
During 1994, the Company recorded unusual charges of approximately $145,200,000. These charges related to various cost reduction programs, new management's de-emphasis of certain product lines which provided the opportunity for a sharper focus on the Company's three core competency areas; engineering consulting, contract operations and air pollution control and to costs directly attributable to the transactions contemplated by the Investment Agreement (as discussed more fully in Note 2).
Included in the unusual charges are (a) a $42,500,000 valuation charge which primarily relates to certain businesses that were initially believed to no longer meet strategic objectives and were anticipated to be divested. These businesses primarily consisted of the Company's cooling tower product line, and certain manufacturing and service operations and properties which diverted management attention from the Company's core products and services provided by Research-Cottrell, Metcalf & Eddy and PSG; (b) various termination benefits of $10,200,000 of which $4,600,000 relates to the Company's former Chairman under the terms of an employment contract which were triggered by the CGE Transaction and include a $2,300,000 loan forgiveness, certain tax payments and other payments; (c) approximately $8,000,000 of costs associated with the termination of certain leases and the closing of certain facilities; (d) approximately $11,200,000 related to the PRASA litigation which reflects revised estimates of the expenses required to pursue, through trial, the Company's belief that substantially all of the billings questioned by PRASA represent appropriate charges and revised estimates of collectibility given the complexity of the litigation and the continuing deferral of a trial date (see Note 15); (e) approximately $18,500,000 of estimated costs to settle pending litigation primarily within the Metcalf & Eddy segment; (f) approximately $9,700,000 primarily to write-off substantially all of the Company's capitalized software costs reflecting a shift in focus to a standard industrial continuous emission monitor; (g) approximately $37,400,000 of costs and asset write-downs associated primarily with warranty and other claims in the Company's electrostatic precipitator and continuous emission monitor product lines; (h) approximately $7,700,000 for other items primarily representing revised estimates for potential insurance claims.
During 1995, in light of improvements in its current market climate and anticipated financial performance, management decided to retain the Company's cooling tower, heat transfer and certain service operations. The Company had previously contemplated selling these businesses and had recorded a charge for the difference between their net carrying value and management's estimate of the anticipated net sales proceeds during fiscal 1994. The Company also had significant software issues related to its emissions monitoring systems previously shipped to certain utilities which had created problems in collecting receivables due to claims and back- charges and resulted in the incurrence of additional software, warranty and project close-out costs in resolving this situation. The previously provided reserves for the Company's contemplated divestitures and emissions monitoring operations were adequate in the aggregate, therefore these issues have not had a significant effect on the Company's consolidated financial position or results of its operations, taken as a whole as of October 31, 1996 and 1995 and for the years then ended.
During 1996, the reserves to be utilized in future periods decreased to $18,100,000 as a result of asset write-offs of $13,100,000 and cash outlays of $13,100,000 and are included in the allowance for doubtful accounts ($2,700,000), inventory ($200,000) and accrued expenses ($15,200,000) at October 31, 1996. These related reserves are included in the allowance for doubtful accounts ($5,900,000), costs and estimated earnings in excess of billings on uncompleted contracts ($3,400,000), inventory ($600,000) and accrued expenses ($34,400,000) at October 31, 1995.
(4) ACQUISITIONS
In connection with the transactions contemplated by the Investment Agreement, the Company on June 14, 1994 acquired CGE's PSG water/wastewater management subsidiary. The acquisition was accounted for under the purchase method and, accordingly, the operating results of PSG have been included in the consolidated operating results since the date of acquisition. The purchase price of $70,215,000 is based upon 6,701,500 shares of common stock issued in exchange for PSG valued at the quoted market price at the date of issuance ($65,340,000) plus $4,875,000 of direct acquisition costs. The purchase price was assigned to tangible assets of $26,072,000 and liabilities of $13,607,000 acquired at an estimate of their fair value. The excess of purchase price over PSG's tangible net assets acquired of $57,750,000 has been recorded as goodwill and is being amortized over 40 years.
The following summary, prepared on a pro forma basis, combines the consolidated results of operations as if PSG had been acquired as of the beginning of the period presented, after including the impact of certain adjustments such as: amortization of goodwill and the related income tax effects (in thousands, except per share data):
Year Ended October 31, 1994 ---------------- (unaudited) Sales $578,178 Loss from continuing operations (209,146) Net loss (260,737) Loss per share: Continuing operations (6.53) Net loss $(8.14)
The pro forma results are not necessarily indicative of what actually would have occurred if the acquisition had been in effect for the period presented. In addition, they are not intended to be a projection of future results and do not reflect any synergy that might be achieved from combined operations.
(5) DISCONTINUED OPERATIONS
Asbestos Abatement
The Company on May 13, 1994 announced that it had decided to liquidate its asbestos abatement business. The remaining net assets from this business were $1,669,000 and $1,609,000 as of October 31, 1996 and 1995. Sales applicable to this business were $1,658,000 and $48,696,000 for the periods ended October 31, 1995 and 1994. Other selected financial data from this business are as follows (in thousands) :
1995 1994 ---- ----
Operating loss $ -- $(15,988) Loss on disposition -- (22,241) -------- -------- Total loss -- (38,229) Depreciation and amortization -- 716 Changes in working capital 2,416 15,627 Goodwill write-off -- 4,425 Capital expenditures -- -- Payment of long-term debt (38) (367) Other, net -- 368 --------- -------- Net cash flow $2,378 $(17,460) ========= ========
Pamco
On November 18, 1994, the Company sold substantially all of the net assets of its natural gas compressor and power generation systems operations ("Pamco") for cash of $12,962,000. Sales applicable to this business were $1,364,000 and $40,025,000 for the periods ended October 31, 1995 and 1994. Other selected financial data from this business are as follows (in thousands):
1995 1994 ---- ---- Operating loss $ -- $(1,758) Loss on disposition -- (2,800) ------- ------- Total loss -- (4,558) Depreciation and amortization -- 430 Changes in working capital (799) 4,881 Capital expenditures -- (209) Payment of long-term debt -- (369) Other, net -- (9) ------- ------- Net cash flow $ (799) $ 166 ======= =======
(6) INVESTMENTS IN ENVIRONMENTAL TREATMENT FACILITIES
The Company designed and constructed environmental treatment facilities for certain governmental entities (the "entities"). The cost of these facilities was primarily funded through the issuance of tax-exempt Industrial Revenue Bonds by the entities, the proceeds of which were loaned to the Company. The entities have entered into long-term service agreements with the Company which transfers to them substantially all risks of ownership and which will generate sufficient revenues to service the debt and return the Company's investment. Accordingly, these transactions have been accounted for as sales-type leases. Consistent with the definition of a legal right of offset (the related agreements provide for a net settlement of the obligations between the parties, and the revenues referred to above are legally assigned to payment of debt service), neither the facilities nor the associated debt (approximately $29,925,000 and $31,185,000 at October 31, 1996 and 1995) are reflected in the accompanying consolidated balance sheets. These agreements provide for various performance guarantees by the Company. Management believes that the Company will continue to maintain the stipulated performance guarantees.
The net investment in these sales-type leases consists of the following at October 31 (in millions):
1996 1995 ---- ----
Future minimum lease payments $ 38.1 $ 39.5 Expected residual value (unguaranteed) 9.3 9.3 Unearned income (5.5) (5.6) ------- ------- Net investment in leases 41.9 43.2 Offset-nonrecourse debt of $29.9 million and $31.2 million, respectively, in 1996 and 1995, net of available funds in hands of trustee (25.6) (26.8) ------- ------- Net investment in leases 16.3 16.4 Facility enhancements, net of depreciation 5.7 6.1 Investments in environmental $22.0 $22.5 ======= =======
At October 31, 1996, minimum lease payments to be received, net of executory costs for each of the five succeeding fiscal years, are $1,941,000, $1,961,000, $2,069,000, $2,216,000 and $2,306,000.
(7) FINANCING ARRANGEMENTS
During August 1996, the Company entered into a seven year $60 million unsecured revolving credit facility with Anjou ("Anjou Credit Facility"). The borrowings under the facility bear interest at LIBOR plus .6% (6% at October 31, 1996). In conjunction with this new financing the Company reduced its more expensive $130 million Senior Secured Credit Facility ("Bank Credit Facility") to $50 million. As of October 31, 1996, the Company's outstanding borrowings under the Anjou Credit Facility totaled $60 million.
On March 10, 1995, the Company entered into the three-year Bank Credit Facility with First Chicago and Societe Generale acting as co-agents for a syndicate which includes seven additional banks. The Bank Credit Facility replaced at a reduced cost the previous $70 million credit agreement and the $20 million Accounts Receivable Purchase Agreement (which was fully utilized at October 31, 1994). It is primarily designed to finance working capital requirements and allow for the issuance of letters of credit, both subject to limitations and secured by a first security interest in substantially all of the assets of the Company. Of the total commitment under the terms of the Bank Credit Facility, borrowings are limited to the sum of a percentage of certain eligible receivables, inventories, net property, plant and equipment and costs and estimated earnings in excess of billings, and bear interest at LIBOR (5.4% at October 31, 1996), as defined, plus .725% or at a defined bank rate approximating prime (8.25% at October 31, 1996). The Bank Credit Facility also allows for certain additional borrowings, including, among other things, project financing and foreign borrowing facilities, subject to limitations. The Bank Credit Facility contains certain financial and other restrictive covenants , including, among other things, the maintenance of certain financial ratios, and restrictions on the incurrence of additional indebtedness, acquisitions, the sale of assets, the payment of dividends and the repurchase of subordinated debt. In addition, the agreement requires CGE to maintain its support of the Company, including, a minimum 40% ownership interest in the Company and its right to designate its proportionate share of the Company's Board of Directors as well as the Chief Executive Officer and Chief Financial Officer. The Company compensates CGE for its support in an amount equal to .95% per annum of the outstanding commitment of its credit facilities ($1.2 million and $.8 million for the years ended October 31, 1996 and 1995). Under the Bank Credit Facility at October 31, 1996, the Company had no outstanding borrowings (capacity of $22.2 million) and outstanding letters of credit of $27.8 million. The gross amount of proceeds from and repayments of working capital borrowings under these credit facilities consists of the following (in thousands):
1996 1995 1994 -------- -------- -------- Borrowings $728,900 $509,000 $213,535 Repayments (711,100) (494,500) (212,565) -------- -------- -------- Net $ 17,800 $ 14,500 $ 970 ======== ======== ========
(8)LONG-TERM DEBT
The Company's long-term debt consists of the following at October 31 (in thousands):
1996 1995 -------- -------- Term loan from CGE $125,000 $125,000 Convertible Subordinated Debentures due May 15, 2015 115,000 115,000 Anjou Credit Facility 60,000 -- Bank Credit Facility -- 43,500 Note due July 1, 2007 at 8.5% 3,200 3,300 Real estate mortgage loans at 8.75% 2,420 2,670 Other 1,300 16 -------- -------- 306,920 289,486 Less current installments of long-term debt (378) (366) -------- -------- Long-term debt $306,542 $289,120 ======== ========
The $125,000,000 term loan from CGE is an unsecured facility bearing interest at a rate based upon one, two, three or six-month LIBOR, as selected by AWT, plus 125 basis points (6.88% at October 31, 1996), as defined, and has a final maturity of June 15, 2001. The term loan contains certain financial and other restrictive covenants with respect to the Company relating to, among other things, the maintenance of certain financial ratios, and restrictions on the sale of assets and the payment of dividends on or the redemption, repurchase, acquisition or retirement of securities of the Company or its subsidiaries. Interest expense related to this term loan was $8,884,000, $9,142,000 and $2,887,000 during the years ended October 31, 1996, 1995 and 1994. The Company has obtained waivers relating to violations of certain financial covenants under the CGE term loan, Bank Credit Facility and the bonding agreement with "Reliance" (see Note 15) through November 1, 1997.
On June 14, 1994 the Company utilized a portion of the proceeds from the $125,000,000 CGE term loan to retire its 11.18% Senior Notes with The Prudential Insurance Company of America. The difference between the redemption price of $107,500,000 in cash plus unamortized debt issuance costs of $500,000 and the $100,000,000 carrying value of the debt has been recorded as an extraordinary loss.
During 1990, the Company completed the public offering of $115,000,000 of 8% Convertible Subordinated Debentures. Interest on the debentures is payable semiannually. The debentures are redeemable in whole or in part at the option of the Company at any time on or after May 15, 1993, at a redemption price of 104.8% of the principal amount in 1994 reducing to 100% of the principal amount in 2000, together with accrued interest to the redemption date. The debentures require equal annual sinking fund payments beginning May 15, 2000, which are calculated to retire 75% of the debentures prior to maturity. The debentures are convertible into shares of Class A Common Stock at a conversion price of $30.00 per share.
At October 31, 1996, the aggregate maturities of long-term debt for each of the five succeeding fiscal years and thereafter are approximately $.4 million, $1.7 million, $.4 million, $6.2 million, $131.3 million and $166.9 million.
(9) COMMON AND PREFERRED STOCK
The Company has authorized 2,500,000 shares of Preferred Stock which the Board of Directors may allocate to any class or series of preferred stock and determine the relative rights and preferences for each class or series designated.
As discussed in Note 2, the Company issued 1,200,000 shares of its 5.5% Series A Convertible Exchangeable Preferred Stock for $60,000,000. At the option of the Company, this Preferred Stock is exchangeable for the Company's 5.5% Convertible Subordinated Notes with a maturity of 10 years from the date of issuance of such notes at $50 per share. Such notes and Preferred Stock are convertible at $12.50 per share into shares of Class A Common Stock, subject to adjustments as defined.
Each holder of outstanding shares of Common Stock at the date of the Company's initial public stock offering in August 1989 is subject to an Amended and Restated Stockholder Agreement dated June 13, 1989 (the "Stockholder Agreement"), by and among the Company and such stockholders. This agreement grants certain demand registration rights to Institutional Investors (as defined) and certain piggy-back registration rights to all stockholders with respect to the Common Stock. Unless terminated earlier by the written consent of at least 70% of the stockholders, the Stockholder Agreement expires on July 13, 1997.
(10) STOCK OPTION AND PURCHASE PLANS
Under the Company's employee stock purchase plan (the "Stock Purchase Plan"), officers and other key employees may be granted the right to purchase up to 1,000,000 shares of the Company's Class A Common Stock. The Compensation Committee of the Board of Directors determines the purchase price of shares issuable under the Stock Purchase Plan. At October 31, 1996 and 1995, approximately 232,000 shares of Class A Common Stock were available for grant under the Stock Purchase Plan.
The Company established a stock incentive plan (the "Plan") in 1996 under which stock options and awards may be granted to purchase shares of Common Stock of the Company. The Plan authorizes the granting of stock options and restricted stock awards for up to an aggregate of 1,000,000 shares of Class A Common Stock of the Company plus shares remaining available for award under the prior plan established in 1989. In addition, the Company instituted a fresh start option program, under which employees could relinquish their rights under outstanding options (at exercise prices ranging from $11.75 to $29.43) and receive a new option at $8.00 per share as adjusted using a Black-Scholes pricing model. Under this program, options to purchase 996,737 shares were forfeited and options to purchase 447,291 shares were granted. The following is a summary of certain information pertaining to options under the Plan, all of which were granted at the fair market value.
(14)INCOME TAXES
At October 31, 1996, the Company has a net deferred tax asset of $115,400,000 which has been fully reserved by a valuation allowance. The deferred tax asset is comprised of the tax effects of net operating losses ($105,100,000), receivable reserves ($1,800,000), inventory reserves ($900,000), other assets ($2,400,000) and accruals not yet deductible ($11,800,000). A deferred tax liability of $6,600,000 is comprised of fixed assets depreciation. At October 31, 1996, the Company had tax loss carryforwards of approximately $300,000,000. Such carryforwards expire through 2011.
Income (loss) from continuing operations before income taxes, minority interest and extraordinary item for the years ended October 31 was (in thousands):
1996 1995 1994 - ------------------------------------------------------------------ United States $ (4,289) $ (9,154) $ (206,191) Foreign (1,397) 2,382 (3,996) - ------------------------------------------------------------------ $ (5,686) $ (6,772) $ (210,187) ==========================================
Provision (benefit) for income taxes for the years ended October 31 includes the following (in thousands):
1996 1995 1994 - -------------------------------------------------------------- US Federal: Currently payable $ -- $ -- $ -- Deferred -- -- -- Foreign (662) 543 (274) State 244 572 1,272 - -------------------------------------------------------------- $ (418) $ 1,115 $ 998 ================================
The difference between the income tax provision (benefit) computed by applying the statutory federal income tax rate to pretax income (loss) and the actual tax provision (benefit) is as follows (in thousands):
1996 1995 1994 - ----------------------------------------------------------------------------- Statutory provision (benefit) $ (1,990) $ (2,370) $ (73,565) State income taxes 159 372 827 Goodwill and other 3,768 2,882 2,708 Impact of net operating loss (2,182) 522 69,903 Impact of foreign operations (173) (291) 1,125 - ----------------------------------------------------------------------------- $ (418) $ 1,115 $ 998 ======================================
(15)COMMITMENTS AND CONTINGENCIES
In connection with a broad investigation by the U.S. Department of Justice into alleged illegal payments by various persons to members of the Houston City Council, the Company's subsidiary, PSG, received a federal grand jury subpoena on May 31, 1996 requesting documents regarding certain PSG consultants and representatives that had been retained by PSG to assist it in advising the City of Houston regarding the benefits that could result from the privatization of Houston's water and wastewater system. PSG has cooperated and continues to cooperate with the Justice Department which has informed the Company that it is reviewing transactions among PSG and its consultants. The Company promptly initiated its own independent investigation into these matters and placed PSG's chief executive officer, Michael M. Stump, on administrative leave of absence with pay. Mr. Stump, who has denied any wrongdoing, resigned from PSG on December 4, 1996. In the course of its ongoing investigation, the Company became aware of questionable financial transactions with third parties and payments to certain PSG consultants and other individuals, the nature of which requires further investigation. The Company has brought these matters to the attention of the Department of Justice and continues to cooperate fully with its investigation.
No charges of wrongdoing have been brought against PSG or any PSG executive or employee by any grand jury or other government authority. However, since the government's investigation is still underway and is conducted largely in secret, no assurance can be given as to whether the government authorities will ultimately determine to bring charges or assert claims resulting from this investigation that could implicate or reflect adversely upon or otherwise have a material adverse effect on the financial position or results of operations of PSG or the Company taken as a whole.
The Company and its subsidiaries are parties to various other legal actions arising in the normal course of their businesses, some of which involve claims for substantial sums. The Company believes that the disposition of such actions, individually or in the aggregate, will not have a material adverse effect on the consolidated financial position or results of operations of the Company taken as a whole.
The Company and its subsidiaries are obligated under various leases for office and manufacturing facilities and certain machinery, equipment and fixtures. Lease terms range from under one year to ten years. Certain leases have renewal or escalation clauses or both. Certain equipment leases have purchase options. During December 1996, the Company exercised a cancellation clause for one of its leased facilities. This transaction required an immediate cash payment of approximately $2.2 million and will be reflected in the operating results during the three month period ended January 31, 1997. Total rent expense in the periods ended October 31, 1996, 1995 and 1994, was $26.5 million, $21.2 million and $21.2 million, respectively. At October 31, 1996, minimum rental commitments under all noncancellable leases for the five succeeding fiscal years, and thereafter, are $12.6 million, $10.0 million, $8.6 million, $6.8 million, $5.7 million and $17.8 million. These minimal rental commitments are net of non-cancellable sub-leases of approximately $1.0 million for each of the five succeeding fiscal years.
AWT currently maintains various types of insurance, including workers' compensation, general and professional liability and property coverages. AWT believes that it presently maintains adequate insurance coverages for all of its present operational activities. It has been both an AWT policy and a requirement of many of its clients that AWT maintain certain types and limits of insurance coverage for the services and products it offers, provided that such types and limits can be obtained on commercially reasonable terms. In addition to existing coverages, AWT has been successful in obtaining commercially reasonable coverage for certain pollution risks, though coverage has been on a claims made rather than occurrence basis due to the professional nature of some of AWT's exposures. Claims made policies provide coverage to AWT only for claims reported during the policy period. AWT's general liability and other insurance policies have historically contained absolute pollution exclusions, brought about in large measure because of the insurance industry's adverse claims experience with environmental exposures. Accordingly, there can be no assurance that environmental exposures that may be incurred by AWT and its subsidiaries will continue to be covered by insurance, or that the limits currently provided or that may be obtained in the future will be sufficient to cover such exposures. A successful claim or claims in an amount in excess of AWT's insurance coverage or for which there is no coverage could have a material adverse effect on AWT.
In connection with the sale of two manufacturing facilities in prior years, the Company remains contingently liable as guarantor under $3,195,000 of Industrial Revenue Bond financing.
Until June 27, 1995, AWT and its subsidiaries obtained bid and performance bonds pursuant to agreements with Reliance Insurance Company and certain of its affiliates (collectively, "Reliance"). Subsequently, AWT and its subsidiaries entered into an agreement with United States Fidelity and Guaranty Company and certain of its affiliates (collectively, "USF&G") pursuant to which USF&G also agreed to issue bid and performance bonds on behalf of AWT and its subsidiaries.
On May 26, 1995, Metcalf & Eddy settled litigation with the Puerto Rico Aqueduct and Sewer Authority (PRASA) that was initiated in September 1990. Pursuant to the terms of the settlement, Metcalf & Eddy was to receive aggregate payments of $17.5 million, plus interest. Metcalf & Eddy received payment of $4.5 million on June 26, 1995, at which time a Stipulation of Dismissal with Prejudice was filed with the United States District Court for the District of Puerto Rico formally terminating the lawsuit. Metcalf & Eddy also received two $6.5 million negotiable promissory notes bearing interest at market rates and maturing in May 1998 and August 2000, respectively. On September 1, 1995, Metcalf & Eddy sold the two notes and received net proceeds of $12.8 million of cash, after applicable fees and expenses.
On August 20, 1990, the Board of Directors of the Company made a one-year, interest-free, unsecured loan of $2,300,000 to its then Chief Executive Officer of the Company, so that he could satisfy certain personal financial obligations without having to sell a substantial portion of his equity investment in the Company. During 1991, the terms and conditions of this loan were amended, among other things, to extend the term of the loan. Interest has been imputed on the loan at approximately 8%. Subsequent to the termination of such officer's employment with the Company as of June 14, 1994 as a result of the transactions contemplated by the Investment Agreement, the Company and such officer entered into an agreement dated November 21, 1994 (the "Termination Agreement") relating to all aspects of their relationship following such termination of employment (see Note 3).
(16) QUARTERLY FINANCIAL DATA (UNAUDITED)
Summarized quarterly financial data for 1996 and 1995 are as follows (in thousands, except per share data):
*Earnings (loss) per share for the full year is not necessarily the sum of the four quarters due to different average shares outstanding for each discrete period.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURES
Not applicable.
Part III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF AWT; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
Set forth below are the names, ages and principal occupations of the directors and executive officers of AWT:
Mr. Sheh was elected Chairman of the Board, President and Chief Executive Officer of AWT in November 1996. Prior to joining AWT, Mr. Sheh served from 1992 to July 1996 as Chief Executive Officer and President of International Technology Corporation, a publicly-traded engineering services firm. From 1971-1992, Mr. Sheh served as a senior executive in various capacities with The Parsons Corporation, a leading engineering and construction firm, including as President of Ralph M. Parsons Company from 1989-1992. Mr. Sheh has been designated by CGE as Chief Executive Officer and a director of AWT under the Investment Agreement.
Mr. Brunais was elected Vice President and Chief Financial Officer of AWT in September 1994 and a director in November 1996. Prior to joining AWT, Mr. Brunais was responsible since 1990 for foreign investment, primarily in the United Kingdom under the direction of the Finance Director of CGE. From 1983 to 1989 he was responsible for corporate development for Ciments Francais in the U.S. and Canada. Prior thereto, Mr. Brunais organized a sales and services network for Aerospatiale General Aviation line of aircraft in Europe, Africa and North America. Mr. Brunais has been designated by CGE as Chief Financial Officer and a director of AWT under the Investment Agreement.
Mr. Mavet was elected Vice President, Organization and Corporate Development in November 1994 with responsibility for overseeing the restructuring and reorganization of AWT. In this capacity, he serves as senior managerial liaison with CGE and coordinates and plans the exchanges between both entities and sees that they are made through the right channels. He serves as the secretary of the Municipal Committee, created to enhance the synergies between CGE, Metcalf & Eddy and PSG. Prior to joining AWT, Mr. Mavet served in management positions in the French government Ministry of Finance where he was Commercial Counselor, responsible for promoting French business in the northeast U.S. for the French Trade Office in New York.
Mr. Satzger joined AWT in June 1991 as Deputy General Counsel. He was elected Senior Vice President, General Counsel and Secretary in July 1993. Prior to joining AWT, Mr. Satzger was a partner in the law firm Richards & O'Neil, New York, New York, from April 1985 to June 1991.
Mr. Volland was elected Vice President and Chief Administrative Officer of AWT in June 1994 with oversight responsibility for real estate, facilities management, procurement, and insurance and management information systems. Mr. Volland has over 25 years of experience in finance, administration, asset management, cost control and organizational efficiencies. From 1973 to 1986, Mr. Volland served as Vice President and Treasurer for Commercial Credit Company. From 1986 to 1993 he served as Vice President and Treasurer, and Vice President, Corporate Assets, for Primerica Corp. Prior thereto, he was Senior Vice President of Real Estate for Paine Webber.
Mr. Vidal was elected Treasurer of AWT in January 1995. Prior to joining AWT, Mr. Vidal had broad experience in both international and domestic treasury operations, most recently with American Cyanamid Company from 1982 to 1995 and prior thereto with Bristol-Myers Squibb. Mr. Vidal has also had experience as a controller and auditor and began his professional career with the accounting firm of Arthur Andersen LLP.
Mr. Deieso has served as President and Chief Executive Officer of Metcalf & Eddy, Inc. since October 1993. Prior to joining Metcalf & Eddy, Inc., he served as President and Chief Executive Officer of Research-Cottrell from 1989 to 1993. Previously, he served the New Jersey Department of Environmental Protection as both Assistant Commissioner of Environmental Management and Control and Director of the Division of Environmental Quality from 1985 to 1989. Prior thereto, he served as Chief Chemical Engineer and Manager of Environmental Engineering for Consolidated Edison Company of New York. Prior thereto, he served as director of the U.S. EPA Region II Superfund program.
Mr. Mammola has been the President and Chief Executive Officer of Research-Cottrell since December 1994. From 1992 to 1994, he served in various senior management positions for Research-Cottrell. From 1989 to 1992 he served as Executive Vice President and General Manager of REECO. Prior to joining REECO, Mr. Mammola served as Executive Vice President of PPS Inc., an industrial distributor of fluid and air handling systems. Prior to this, he served in various positions for Interpace Corporation, a manufacturer and provider of products and services domestically and internationally to the water and wastewater and utility industries.
Mr. McMahon joined PSG in May 1995 as Senior Vice President and Chief Operating Officer. He served as President and CEO on an interim basis from August 1996 to December 1996, whereupon he was named President and CEO by AWT. During the nine month period immediately prior to joining PSG, Mr. McMahon served as Vice President of National Accounts at International Technology Corporation. Before joining PSG, Mr. McMahon spent 23 years in a number of management positions at Brown & Root, Inc., where his responsibilities included strategic planning, international business development and operations.
Mr. DeBenedictis was elected as a director of AWT on June 14, 1994. Mr. DeBenedictis has been Chairman of Philadelphia Suburban Corporation ("PSC") (the parent company of Philadelphia Suburban Water Company, one of America's leading investor-owned water utilities) since May 1993. Mr. DeBenedictis joined PSC in July 1992 as its President and Chief Executive Officer, and from July 1992 to May 1993 also served as Chairman of PSC's principal subsidiary, Philadelphia Suburban Water Company. From 1989 to 1992, Mr. DeBenedictis was Senior Vice President of Corporate and Public Affairs for Philadelphia Electric Company. Prior thereto, he served as President of the Greater Philadelphia Chamber of Commerce. Mr. DeBenedictis also formerly served as Secretary for the Department of Environmental Resources (1983 to 1986) and Director of the Office of Economic Development (1981 to 1983) for the Commonwealth of Pennsylvania. He serves on the Board of Directors of the PNC East Bank Advisory Board, the Provident National Life Insurance Company, the P.H. Glatfelter Company, the Greater Philadelphia Chamber of Commerce, the Philadelphia Convention and Visitors Bureau, the Pennsylvania Environmental Council, and the Board of Drexel University.
Ms. Green was elected as a director of AWT on June 14, 1994. Ms. Green is a Partner in the Washington, DC law office of Bryan Cave LLP where she has practiced environmental law since 1986. Prior thereto, Ms. Green served at the United States Department of Justice from 1980 to 1986 as the first Assistant Chief of the Environmental Enforcement Section. At the Justice Department, Ms. Green was liaison with the EPA on Clean Water Act enforcement and worked with the EPA in developing the First Superfund settlement policy and designing some of the early Superfund generator settlements. She currently serves on the National Environmental Policy Institute's panel to reinvent the EPA's enforcement and compliance programs.
Mr. Kriegel was elected as a director of AWT on June 14, 1994. Mr. Kriegel is Chairman of the Board, President, Chief Executive Officer and a Director of Sithe Energies, Inc. and all of its subsidiaries since 1981. Prior to coming to the United States in 1984, Mr. Kriegel co-founded an unaffiliated French energy company that within three years of its formation in 1980 became France's largest privately-owned company engaged in the development of small hydro-electric projects. In 1978, he co-founded S.I.I.F., an unaffiliated company specializing in the purchase and rehabilitation of residential buildings and historical properties in France. Mr. Kriegel has been designated by CGE as a Director of AWT under the Investment Agreement.
General John W. Morris became a director of AWT in June 1992. From 1988 to October 1992, General Morris served as a director of Metcalf & Eddy Companies Inc. General Morris has been President of JW Morris Ltd., an engineering consulting firm, for more than five years. In addition, he presently serves as President of the National Waterways Foundation, Chairman of the Water Resources Congress and Chairman of the Environmental Effects Committee of the U.S. Committee on Large Dams. From 1986 to 1987 he served as President and Chairman of the Engineering Group of Planning Research Corporations. General Morris served as the Chief of Engineers, U.S. Army Corps of Engineers, from 1976 to 1980.
* * * *
Directors are elected annually and executive officers hold office for such terms as may be determined by the Board of Directors. The Board of Directors of AWT has an Executive Committee, an Audit Committee and a Compensation and Stock Option Committee.
DIRECTORS' COMPENSATION
Directors who are not employees of AWT or any of its affiliated companies receive an annual fee of $18,000 for service on the Board of Directors and an additional $7,500 per annum for service on each Committee thereof. In addition, directors are reimbursed for out-of-pocket expenses of attending Board and Committee meetings.
COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES EXCHANGE ACT OF 1934
Based solely upon a review of Forms 3 and 4 and amendments thereto furnished to AWT under Rule 16a-3(d) of the Exchange Act during the fiscal year ended October 31, 1996 and Form 5 and amendments thereto furnished to AWT with respect to the fiscal year ended October 31, 1996, the Company has not identified any persons as having filed a late report under Section 16(a) of the Securities Exchange Act of 1934.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION AND OTHER INFORMATION
SUMMARY COMPENSATION TABLE
The following table shows, for the fiscal years ended October 31, 1996, 1995 and 1994, the cash compensation paid by AWT, as well as certain other compensation paid or accrued for those years, to each of the five most highly compensated executive officers of AWT in all capacities in which they served.
EMPLOYMENT CONTRACTS
On December 4, 1996, Mr. Stump resigned as President and Chief Executive Officer of PSG. PSG and Mr. Stump have entered into an agreement dated December 16, 1996 (the "Separation Agreement") relating to their relationship following the termination of his employment, which supersedes all rights and obligations (other than obligations imposed upon Mr. Stump pertaining to confidentiality, non-compete, and intellectual property) outstanding pursuant to the Employment Agreement with Mr. Stump. Under the terms of the Separation Agreement: (a) Mr. Stump agreed not to compete with PSG and Metcalf & Eddy during the period beginning on December 4, 1996 and ending on December 31, 1997; (b) Mr. Stump released the Company, all of its affiliated entities (including PSG, Metcalf & Eddy, and Research-Cottrell), and others (collectively the "Releasees") from any and all claims which he has or had against each or any of the Releasees regarding all events that have occurred through and including December 16, 1996; (c) PSG agreed to pay Mr. Stump $269,175.20 prior to January 4, 1997; (d) PSG agreed to pay $9,381.25 to Mr. Stump's lawyers; (e) all stock options held by Mr. Stump at the time of the termination of his employment were canceled; (f) PSG agreed to forgive a loan to Mr. Stump in the amount of $90,375.19 (including accrued interest) and an advance of $20,000.00; (g) Mr. Stump agreed to cooperate fully with the Company and PSG with respect to any civil litigation, civil investigation, or civil governmental proceeding now pending or hereafter instituted; and (h) Mr. Stump agreed to indemnify and hold each and all of the Releasees harmless from and against any and all claims arising out of any breach of the Separation Agreement by Mr. Stump.
On November 7, 1996 the Company entered into an employment agreement (the "Employment Agreement") with Robert B. Sheh, pursuant to which Mr. Sheh serves as Chief Executive Officer and President of the Company. The Employment Agreement provides for an annual base salary of $400,000, with such increases as determined by the Board of Directors of the Company from time to time in its sole discretion. In addition, the Employment Agreement provides that Mr. Sheh will be eligible to receive a supplemental bonus of up to 60% of Mr. Sheh's base salary in each fiscal year, which bonus shall be determined by the Board of Directors of the Company in its sole discretion. Mr. Sheh was awarded 50,000 fully vested options upon commencement of employment, with 50,000 options to be awarded each year at the beginning of the second, third, fourth and fifth fiscal year (if Mr. Sheh is still employed by the Company under the terms of the Employment Agreement). If Mr. Sheh's employment is terminated by the Company for cause, the Company shall pay to Mr. Sheh only his base salary through the date of termination. If Mr. Sheh's employment shall terminate upon death or Disability (as defined), the Company shall pay Mr. Sheh his Contract Payments (as defined) for a period of twelve months. If the Company terminates Mr. Sheh's employment without cause, the Company shall pay Mr. Sheh the Contract Payments for a period of two years. If Mr. Sheh terminates his employment with the Company for any reason (other than a Change of Control, as defined), Mr. Sheh shall receive only his base salary through the date of termination. If Mr. Sheh's employment is terminated by a Change of Control, Mr. Sheh shall receive the Contract Payments for a period of two years.
Options
AWT's Long-Term Incentive Compensation Plan provides that, upon a "change-in-control" of the Company (as determined by the Board of Directors), any outstanding options not theretofore fully exercisable shall immediately become exercisable in their entirety. The Board of Directors has determined that the consummation of the transactions contemplated by the Investment Agreement constituted a "change-in-control" for purposes of such plan.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
On and prior to August 12, 1996, the Compensation and Stock Option Committee (the "Compensation Committee") of the Board of Directors consisted of Messrs. Deschamps, Senior, Morris and Ms. Green. Mr. Senior resigned from the Board of Directors of AWT on August 12, 1996. Mr. Deschamps resigned from the Board of Directors of AWT on January 21, 1997. Since January 21, 1997, the Compensation Committee consists of Mr. Morris and Ms. Green. Mr. Deschamps is Adjunct Director General of CGE. Mr. Senior is a Managing Director of Allen & Company, which has performed investment banking and other services for the Company from time to time including serving as financial advisor to the Company in connection with the transactions contemplated by the Investment Agreement. Ms. Green is a partner at the law firm of Bryan Cave LLP, which has performed various legal services for the Company from time to time.
SUPPLEMENTAL PENSION PLAN
The following table shows the estimated annual benefits payable upon retirement to participants in AWT's Supplemental Pension Plan.
Estimated Annual Retirement Benefits Years of Service Bonus Remuneration 15 20 25 30 35 - ------------- ------ ------ ------ ------- ------- $25,000 $5,625 $7,500 $9,375 $11,250 $13,125 50,000 11,250 15,000 18,750 22,500 26,250 75,000 16,875 22,500 28,125 33,750 39,375 100,000 22,500 30,000 37,500 45,000 52,500 125,000 28,125 37,500 46,875 56,250 65,625
At the present time, Donald A. Deieso, who is named in the Summary Compensation Table, is the only participant in an unfunded supplemental pension plan which provides additional annual retirement benefits equal to 1.5% of the average of the participant's final five bonuses multiplied by the participant's years of service, up to a maximum of 35 years. No separate accounts are maintained and no amounts are vested until a participant reaches retirement in the employ of AWT. Mr. Deieso, who is named in the Summary Compensation Table, has been credited with 7 years of service. The benefit amounts set forth in the Table above are not subject to reduction for social security benefits or for other offsets.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR, AND FY-END OPTION VALUES
The following table sets forth information with respect to the named executives concerning unexercised options, held as of October 31, 1996. No options were exercised during fiscal 1996 by any of the named executive officers.
- ------------
(1) The value of unexercised in-the-money options at fiscal year end assumes a fair market value for the Class A Common Stock of $6.375, the closing sale price per share of the Class A Common as reported on the American Stock Exchange Composite Tape for October 31, 1996.
(2) The exercisable and unexercisable options held by Messrs. Elia, Brunais, Deieso, Mammola, Stump and McMahon were not in-the-money as of October 31, 1996.
(3) The exercise price of the options held by Mr. Elia is (i) $6.563 per share in the case of his option to purchase 60,000 shares granted in March 1996 or (ii) $8.00 pershare in the case of his option to purchase 100,000 shares granted in August 1994.
(4) The exercise price of the options held by Mr. Brunais is (i) $6.563 per share in the case of his option to purchase 18,000 shares granted in March 1996 or (ii) $8.00 per share in the case of his option to purchase 50,000 shares granted in August 1994.
(5) The exercise price of the options held by Mr. Deieso is (i) $6.563 per share in the case of his option to purchase 20,129 shares granted in March 1996 or (ii) $8.00 per share in the case of his option to purchase 26,371 shares granted in January 1996.
(6) The exercise price of the options held by Mr. Mammola is (i) $6.563 per share in the case of his option to purchase 20,157 shares granted in March 1996 or (ii) $8.00 per share in the case of his option to purchase 15,343 shares granted in January 1996.
(7) The exercise price of the options held by Mr. Stump is (i) $6.563 per share in the case of his option to purchase 20,000 shares granted in March 1996 or (ii) $8.00 per share in the case of his option to purchase 40,000 shares granted in August 1994.
(8) The exercise price of the options held by Mr. McMahon is (i) $6.563 per share in the case of his option to purchase 12,000 shares granted in March 1996 or (ii) $5.75 per share in the case of his option to purchase 10,000 shares granted in August 1994.
REPORT OF THE COMPENSATION AND STOCK OPTION COMMITTEE OF THE BOARD OF DIRECTORS
Decisions on compensation of the Company's executives generally are made by the four-member Compensation and Stock Option Committee of the Board of Directors (the "Compensation Committee" or "Committee"). Prior to August 12, 1996, the Compensation and Stock Option Committee (the "Compensation Committee") of the Board of Directors consisted of Messrs. Deschamps, Senior, Morris and Ms. Green. Mr. Senior resigned from the Board of Directors of AWT on August 12, 1996. Mr. Deschamps resigned from the Board of Directors of AWT on January 21, 1997. Since January 21, 1997, the Compensation Committee consists of Mr. Morris and Ms. Green. The Compensation Committee, as constituted prior to August 12, 1996, among other things, approved (i) Mr. Elia's salary and bonus for fiscal 1996 and (ii) approved the salary and bonuses of Messrs. Brunais, Deieso, Mammola and Stump.
Compensation Policy for Executive Officers
Under the supervision of the Compensation Committee, the Company has developed and implemented compensation policies and programs that seek to retain and motivate employees of the Company whose performance contributes to the Company's goal of maximizing shareholder value in an industry that continues to experience sluggish growth, overcapacity, intense competition and marginal profitability. The Compensation Committee is of the opinion that managing through a depressed market, such as the environmental markets of the last few years, requires dedicated employees who can keep the Company on track and position it for future competitive advantage. Historically, the Company has sought to combine salaries with stock option awards, restricted stock awards and, when appropriate, selected cash bonuses to provide a balanced compensation package for its executives. The balance established by the Committee is designed to reward past performance, retain key employees and encourage future performance. Under this structure, long-term incentives are based upon the value of the Company's Class A Common Stock in order to more closely align executives' interests with those of shareholders. Compensation decisions are made by the Compensation Committee after reviewing recommendations prepared by the Company's Chief Executive Officer, with the assistance of other Company personnel.
Beginning with fiscal 1995, the Company, with the guidance and approval of the Compensation Committee, developed and implemented a revised, variable management incentive compensation strategy that is designed to recognize both short-term and longer term performance, attract and retain the high quality executive and management talent that is necessary to continue the Company's positive trends and to remain competitive. In developing this incentive compensation strategy, which is comprised of an Annual Management Bonus Plan and a Long Term Incentive Plan, emphasis was placed on improving shareholder value. The strategy was developed based upon the recommendations of a leading executive compensation consulting firm.
The Annual Management Bonus Plan is designed to reward business unit management teams for achieving or exceeding their specific fiscal year operating objectives and has relatively broad management participation. Annual management bonus potential for AWT's executives is determined based upon the overall consolidated results of the Company. A portion of the annual bonus is discretionary and is awarded based upon the quality of the individual participant's performance.
A small number of the most senior executives are also participants in the Long Term Incentive Plan. This Plan, which has a portion of its potential value directly linked to AWT stock price performance, is based upon the Company achieving its longer term objectives. The Long Term Incentive Plan features a series of overlapping three-year performance periods, commencing with 1995 through 1997. The first potential payment to eligible executives under the terms of the Long Term Incentive Plan will not be made until after 1997.
Discussion of 1996 Compensation for the Chairman and Executive Officer
Mr. Elia died in April of 1996 while serving as Chairman of the Board of Directors and Chief Executive Officer of the Company. The Compensation Committee, in determining Mr. Elia's 1996 bonus, carefully reviewed Mr. Elia's service to the Company.
In November 1996, the Company elected Robert B. Sheh as Chairman of the Board of Directors, President and Chief Executive Officer. The employment agreement with Mr. Sheh was approved by the Compensation Committee.
COMPENSATION AND STOCK OPTION COMMITTEE
John W. Morris Carol Lynn Green
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STOCK PERFORMANCE GRAPH
AIR & WATER TECHNOLOGIES CORPORATION
Notwithstanding anything to the contrary set forth in any of the Company's previous filings under the Securities Act of 1993, as amended, or the Securities Exchange Act of 1934, as amended, that might incorporate future filings, including this Report on Form 10-K, in whole or in part, the preceding report and the Performance Graph below shall not be incorporated by reference into any such filings.
STOCK PERFORMANCE GRAPH
Oct. 91 Oct. 92 Oct. 93 Oct. 94 Oct. 95 Oct. 96 - ---------------------------------------------------------------------- AWT 100 60 65 33 23 28 S&P 100 110 126 132 166 206 Fidelity 100 96 103 95 112 131
The above chart shows a comparison of the cumulative total return for the period from November 1, 1991 through October 31, 1996, in (i) the Company's Class A Common Stock, (ii) the S&P 500 Composite Stock Price Index, and (iii) the Fidelity Select Environmental Services Fund. The stock price performance shown on the graph above is not necessarily indicative of future performance.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
(a)The following table sets forth information as of December 31, 1996 (unless otherwise noted in the notes following the table), as to the beneficial ownership of AWT's capital stock by (i) each person owning beneficially more than five percent of the outstanding shares of its Class A Common Stock, (ii) each director of AWT and (iii) all officers and directors of AWT as a group. The persons named in the table have sole voting and dispositive power with respect to all shares of Class A Common Stock unless otherwise noted in the notes following the table.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On June 14, 1994, the stockholders of AWT approved the issuance of Company securities pursuant to an Investment Agreement dated as of March 30, 1994 (the "Investment Agreement"), among AWT, CGE, and Anjou pursuant to which, among other things, AWT (i) issued to CGE 1,200,000 shares of a newly designated series of Preferred Stock, designated as 5 1/2% Series A Convertible Exchangeable Preferred Stock, convertible into 4,800,000 shares of Class A Common Stock, for cash consideration of $60,000,000, and (ii) issued to Anjou an aggregate of 6,701,500 shares of Class A Common Stock in connection with the acquisition from Anjou of PSG and PSG Canada. As a result, CGE increased its ownership interest in AWT to approximately 48% of the total voting power of the Company's voting securities. In addition, AWT benefitted from certain financial undertakings from CGE, including a $125,000,000 loan from CGE and became CGE's exclusive vehicle in the United States, its possessions and its territories for CGE's water and wastewater management and air pollution activities. CGE also has representation on AWT's Board of Directors and the right to designate AWT's Chief Executive Officer and Chief Financial Officer all as further described below. In August 1996, the Company entered into a seven year, $60 million unsecured revolving credit facility with Anjou.
CERTAIN COVENANTS OF THE COMPANY
Representation on the Board of Directors; Management
Under the terms of the Investment Agreement, the Company has agreed that CGE will have the right to cause the Company to include, as nominees for the Company's Board of Directors recommended by the Board for election by the shareholders, a number of directors (rounded down to the next whole number if CGE owns in the aggregate less than one-half of the outstanding shares, treating the shares of Series A Preferred Stock owned by CGE as having been converted into shares of Class A Common Stock, or, if otherwise, rounded up to the next whole number) that is equal to the product of the total number of directors on the Board times a fraction the numerator of which is the aggregate number of shares of Class A Common Stock owned by CGE and its Affiliates (assuming conversion of the Series A Preferred Stock (or other securities convertible into or exercisable or exchangeable for shares of Class A Common Stock) held by CGE or its Affiliates) and the denominator of which is the total number of shares of Class A Common Stock outstanding (assuming conversion of the Series A Preferred Stock (or other securities convertible into or exercisable or exchangeable for Shares of Class A Common Stock) held by CGE or its affiliates). The Company has further agreed that CGE will have proportionate representation on all Committees of the Board (other than any Special Committee of Independent Directors) to the same extent as CGE is entitled to representation on the Board of Directors. "Independent Director" is defined for purposes of the Investment Agreement as any director who is not an employee, agent or representative of the Company, CGE or any of their respective Affiliates or Associates (as defined in the Investment Agreement) and may include any person acting as outside counsel or financial advisor for either the Company or CGE or any of their respective Affiliates or Associates. All Independent Directors must be satisfactory to CGE.
AWT has also agreed in the Investment Agreement that CGE shall have the right to designate the Chief Executive Officer and the Chief Financial Officer of the Company.
At the Annual Meeting held on April 29, 1996, shareholders of the Company elected four directors who were designated by CGE (Messrs. Deschamps, Houdaille, Messier and Kriegel). Also in accordance with the terms of the Investment Agreement, the Board of Directors appointed as designees of CGE Mr. Alain Houdaille as Chief Executive Officer and Mr. Alain Brunais as Chief Financial Officer.
Registration Rights
Pursuant to the terms of the Investment Agreement, CGE and Anjou will have the right to require on up to four occasions that the Company register all shares of Class A Common Stock, Series A Preferred Stock or Convertible Debt owned from time to time by CGE and its Affiliates for sale to the public under the Securities Act (a "Demand Registration"), provided that the Company is not obligated (i) to effect more than one Demand Registration in any six-month period, (ii) to effect a Demand Registration for less than five percent of the outstanding Class A Common Stock or (iii) to effect a Demand Registration within six months of CGE or Anjou selling any shares pursuant to a Piggyback Registration (as defined below). In addition, CGE and Anjou will have the right to participate in registrations by the Company of its Class A Common Stock (a "Piggyback Registration"). The Company will pay all registration expenses on behalf of CGE and Anjou, including certain related fees and expenses, other than underwriting fees and discounts.
Access to Books and Records
The Company has agreed that for so long as CGE beneficially owns directly or indirectly at least 26% of the outstanding shares of Class A Common Stock on a fully-diluted basis, CGE will have access on reasonable terms to the books, records and employees of the Company and its subsidiaries and to the provision by the Company of all information reasonably requested by CGE, subject to confidentiality obligations that may be owed at the time by the Company to third parties and to appropriate confidentiality arrangements and requirements of law.
CERTAIN COVENANTS OF CGE
Exclusivity
CGE has agreed in the Investment Agreement that, for so long as CGE (with its affiliates) is the largest shareholder of the Company, AWT will be CGE's exclusive vehicle in the United States, its possessions and its territories for CGE's water and waste water management and air pollution activities. CGE also agreed to assist the Company in developing its water and waste water management and air pollution activities in both Canada and Mexico, subject to certain limitations, and CGE and the Company agreed to establish a privileged commercial relationship for the development of air pollution activities in Europe.
Affiliate Transactions
CGE has agreed on behalf of itself and its affiliates that any transactions (or series of related transactions) between the Company and any of its affiliates and CGE or any of its affiliates will be on an arm's length basis. Any such transaction (or series of related transactions) having an aggregate value in excess of $1,000,000 must be approved by a majority of the Independent Directors or a special committee thereof. The Company, CGE and Anjou have further agreed that all claims by the Company against CGE or its Affiliates under the Investment Agreement may be taken only by majority approval of such Independent Directors on Special Committee.
Sales of Shares
CGE has also agreed to give the Company one day's prior written notice of any sale of Company securities by CGE if, to the knowledge of CGE, such sale would result in any party's beneficially owning more than 15% of the outstanding shares of Class A Common Stock.
Letter Agreement
Pursuant to a letter agreement dated March 18, 1994 between the Company and CGE, CGE purchased 500,000 shares of the Company's Class A Common Stock at $10 a share for a total purchase price of $5,000,000. CGE also agreed in the letter agreement that, subject to approval by CGE, CGE would co-sign on a case-by-case basis with the Company applications for letters of credit with respect to the Company's water and waste water management and air pollution projects, which CGE acknowledged could reach or exceed the level of letters of credit carried by the Company at March 18, 1994.
ISSUANCE OF SERIES A PREFERRED STOCK
General
Pursuant to the terms of the Investment Agreement, AWT issued to CGE, 1,200,000 shares of its 5 1/2% Series A Convertible Exchangeable Preferred Stock, $.01 par value per share (the "Series A Preferred Stock"), convertible into 4,800,000 shares of Class A Common Stock, for an aggregate cash purchase price of $60,000,000. The Series A Preferred Stock is exchangeable at the option of the Company for the Company's 5 1/2% Convertible Subordinated Notes with a maturity of 10 years from the date of issuance of such notes (the "Convertible Debt").
Dividends
The holders of shares of Series A Preferred Stock are entitled to receive, when, as and if declared by the Board of Directors, out of funds legally available therefor, cumulative dividends at an annual rate of $2.75 per share, payable in cash quarterly in arrears in equal amounts on March 31, June 30, September 30 and December 31 of each year (each a "Dividend Payment Date"), commencing on June 30, 1994. Dividends other than for a fully quarterly period accrue on the basis of the actual number of days elapsed in a 365-day year. Quarterly dividends which are not paid in full in cash cumulate without interest until declared and paid by the Board of Directors. Holders of the Series A Preferred Stock entitled to receive all accrued dividends in preference to and priority over dividends on the Company's Class A Common Stock, and no distribution in respect of the Class A Common Stock and no redemption, purchase, retirement or acquisition for value of Class A Common Stock may occur, or money be set apart therefor, unless all dividends accrued on the Series A Preferred Stock through the immediately preceding Dividend Payment Date have been declared and paid. If the Series A Preferred Stock is exchanged into Convertible Debt, the interest rate will be 5 1/2% per annum. The Company paid approximately $3,300,000 to CGE as dividends on the Series A Preferred Stock during fiscal 1996.
Liquidation Preference
In the event of any voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Company, holders of shares of Series A Preferred Stock will be entitled to be paid out of the assets of the Company available for distribution to its shareholders an amount in cash equal to $50 for each share outstanding, plus accrued and unpaid dividends thereon to the date fixed for liquidation, dissolution or winding up, whether or not declared to the date of such payment, before any payment shall be made or any assets distributed to the holders of the Class A Common Stock. Neither a voluntary sale, lease, or other transfer of all or substantially all of the assets of the Company, nor a consolidation or merger of the Company with or into another person, will be considered a liquidation, dissolution or winding up of the Company for these purposes.
Exchange
Commencing June 30, 1997, the Series A Preferred Stock is exchangeable, in whole and not in part, at the sole option of the Company, at any time, for the Company's 5 1/2% Convertible Subordinated Notes, having a maturity of ten years from the date of issuance of the Series A Preferred Stock, on not less than 30 nor more than 60 days' prior written notice. Each share of Series A Preferred Stock is exchangeable for $50 principal amount of Convertible Debt.
Conversion
The Series A Preferred Stock and Convertible Debt are convertible, in whole or in part, at the option of the holder, at any time and from time to time, into shares of Class A Common Stock at a conversion price equal to $12.50 per share of Class A Common Stock. The ratio at which the Series A Preferred Stock and Convertible Debt are convertible into shares of Class A Common Stock is subject to adjustment (using a weighted average in the case of items (iii), (iv), (v) and (vi) below so as to preserve the fully diluted percentage of Class A Common Stock into which the Series A Preferred Stock and Convertible Debt are convertible) in the event of: (i) stock dividends, stock reclassifications or recapitalizations, stock splits, reverse splits and the like; (ii) dividends or other distributions of cash or assets or evidence of indebtedness; (iii) dividends or other distributions of securities or rights convertible into or exercisable for shares of any class of common stock of the Company at a price less than the then conversion price per common share of the Series A Preferred Stock; (iv) issuance of shares of any class of common stock of the Company (other than common stock issued upon conversion of the Series A Preferred Stock, the Convertible Debt or the Company's 8% Convertible Subordinated Debentures due May 15, 2015, or pursuant to the Company's stock option plans or other stock related employee compensation plans approved by the Board of Directors) at a price less than the then conversion price per common share of the Series A Preferred Stock; (v) issuance of securities or rights convertible into or exercisable for shares of any class of common stock of the Company at a purchase price less than the then conversion price per common share of the Series A Preferred Stock; and (vi) repurchase by the Company, directly or indirectly, of shares of any class of common stock at a price in excess of the then conversion price per common share of the Series A Preferred Stock.
Redemption
The Series A Preferred Stock is not redeemable before June 30, 1997. Between June 30, 1997 and June 30, 2000, the Series A Preferred Stock will be redeemable, in whole or in part, at the option of the Company on not less than 30 or more than 60 days' prior written notice. The Company may exercise this option during such time period only if for 20 trading days within any period of 30 consecutive trading days, including the last trading day of such period, the closing price of the Class A Common Stock exceeds $18.75, subject to adjustments. After June 30, 2000, the Series A Preferred Stock will be redeemable by the Company at any time. The same redemption provisions apply to the Convertible Debt. The redemption price is 103.85% of the liquidation preference, plus accrued and unpaid dividends to the date of redemption, after June 30, 1997 and will decrease by .55% each year until it reaches 100% of the liquidation preference, plus accrued and unpaid dividends to the date of redemption, whereupon it will remain fixed. The Series A Preferred Stock is perpetual preferred stock.
Voting
Holders of Series A Preferred Stock and Convertible Debt are entitled to vote with the holders of Class A Common Stock on all matters submitted for a vote of holders of Class A Common Stock, and are entitled to that number of votes equal to the number of votes to which the shares of Class A Common stock issuable upon conversion of such shares of Series A Preferred Stock and Convertible Debt would have been entitled if such shares of Class A Common Stock had been outstanding at the time of the applicable vote and related record date. In addition, the Series A Preferred stock and Convertible Debt will vote separately as a class on any amendments to the Restated Certificate of Incorporation or By-Laws of the Company, whether by merger, consolidation, combination, reclassification or otherwise, which would alter or circumvent the voting powers, rights and preferences of the Series A Preferred Stock or Convertible Debt. No amendment or alteration of the dividends payable, liquidation preference or par value of the Series A Preferred Stock, or interest rate and principal amount of the Convertible Debt, may be effected without the consent of each holder of Series A Preferred Stock or Convertible Debt, respectively.
Ranking
The Series A Preferred Stock with respect to dividend rights and rights on liquidation, winding up and dissolution, ranks prior to all classes of the Company's equity securities, including the Class A Common Stock. The Convertible Debt will be subordinated to the Company's senior debt and senior subordinated debt.
Restrictions on Resale; Registration Rights
The Series A Preferred Stock and the Class A Common Stock held by CGE are each a "restricted security" as that term is defined in Rule 144 under the Securities Act of 1933, as amended (the "Securities Act"). Consequently, resales of such shares by CGE, unless registered under the Securities Act, are subject to the timing, volume and other limitations of Rule 144. Under the Investment Agreement, CGE has certain registration rights with respect to such shares. See "-Certain Covenants of the Company-Registration Rights" above.
CGE CREDIT AGREEMENT
In connection with the Investment Agreement, the Company and CGE entered into a Credit Agreement dated as of June 14, 1994 pursuant to which the Company received a $125,000,000 term loan from CGE. The term loan is an unsecured facility bearing interest at a rate based upon one, two, three or six-month LIBOR, as selected by AWT, plus 125 basis points and has a final maturity of June 15, 2001. The term loan contains certain financial and other restrictive covenants with respect to the Company relating to, among other things, the maintenance of certain financial ratios, and restrictions on the sale of assets and the payment of dividends on or the redemption, repurchase, acquisition or retirement of securities of the Company or its subsidiaries. On June 14, 1994, the Company utilized a substantial portion of the proceeds from the term loan to retire its 11.18% Senior Notes with The Prudential Insurance Company of America. The Company paid approximately $8.5 million to CGE as interest on the term loan during fiscal 1996.
In August 1996, the Company entered into a $60 million unsecured revolving credit facility with Anjou ("Anjou Credit Facility"). The facility matures in August 2003. The borrowings under the facility bear interest at LIBOR plus .6% (6% at October 31, 1996). In conjunction with this new financing the Company reduced its more expensive $130 million Senior Secured Credit Facility ("Bank Credit Facility") to $50 million. As of October 31, 1996, the Company's outstanding borrowings under the Anjou Credit Facility totaled $60 million. The Company paid $584,246.90 to Anjou as interest on this loan during fiscal 1996.
OTHER RELATED TRANSACTIONS
Mr. Senior, a Director of the Company from October 1987 to August 1996, is a Managing Director of Allen & Company, which has performed investment banking and other services for the Company from time to time. Allen & Company served as a financial advisor to the Company in connection with the transactions contemplated by the Investment Agreement. Pursuant to this work, the Company agreed to pay certain fees to Allen & Company, including a final payment of $2.5 million in fiscal 1996. Ms. Green, a Director of the Company since June 1994, is a partner at the law firm of Bryan Cave. Bryan Cave has performed various legal services for the Company from time to time.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORT ON FORM 8-K
a(1). Financial Statements and Supplementary Data.
See, "Index to Financial Statements" included in Part II, Item 8 of this Annual Report on Form 10-K.
a(2). Financial Statement Schedule.
See, "Index to Financial Statements" included in Part II, Item 8 of this Annual Report on Form 10-K.
a(3). Exhibits:
(b) Reports on Form 8-K.
Not Applicable.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, Air & Water Technologies Corporation has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
AIR & WATER TECHNOLOGIES CORPORATION
Dated: January 29, 1997 By: /s/ Robert B. Sheh ------------------------------------------- Robert B. Sheh Chairman of the Board of Directors, President and Chief Executive Officer(Principal Executive Officer)
Dated: January 29, 1997 By: /s/ Alain Brunais ------------------------------------------- Alain Brunais Vice President, Chief Financial Officer and Director (Principal Accounting Officer) (Principal Financial Officer)
Dated: January 29, 1997 By: /s/ Nicholas DeBenedictis ------------------------------------------- Nicholas DeBenedictis Director
Dated: January 29, 1997 By: /s/ William Kriegel ------------------------------------------- William Kriegel Director
Dated: January 29, 1997 By: /s/ Carol Lynn Green ------------------------------------------- Carol Lynn Green Director
Dated: January 29, 1997 By: /s/ John. W. Morris ------------------------------------------- John W. Morris Director
EXHIBIT INDEX