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PART I
Item 1. Business
Overview
Energy Recovery, Inc. develops, manufactures and sells high-efficiency energy recovery devices and pumps primarily for use in seawater desalination. Our products make desalination affordable by reducing energy costs. We have one operating segment, which includes the manufacture and sale of high-efficiency energy recovery products and pumps along with related parts and services. Additional information on segment reporting is contained in Note 14 of Notes to the consolidated financial statements in this Form 10-K.
During fiscal year 2011, we completed the consolidation of our two manufacturing plants, closing our facility in Michigan and integrating all production operations at our corporate headquarters and manufacturing center in California. Likewise, we validated internal production capability for all ceramic components used in PX devices, and we expect that such vertical integration will provide increased utilization and cost savings in 2012. We also initiated the development of new centrifugal product lines for applications in the oil and gas processing markets.
In February 2011, we appointed Thomas S. Rooney, Jr. as our chief executive officer, and in April 2011, we appointed Alex J. Buehler as our chief financial officer. Additionally, we appointed three seasoned executives to drive penetration into new markets beyond desalination, with a focus on water market applications outside of desalination, ceramic product development, and products to repurpose pressure energy that is otherwise lost in high-pressure fluid applications in the oil and gas industry. We also successfully launched a new and improved PX device, known as the PX-Q 300. This new development offers customers equipment that enjoys substantial sound reduction compared to previous versions, thereby improving our competitive position. At the same time, we refined our value proposition with messaging that reinforces durability, reliability and efficiency guarantees. Finally, we received three new patents related to the PX technology and received approval for the amendment of a prior patent, further strengthening our intellectual property portfolio.
Our company was incorporated in Virginia in April 1992 and reincorporated in Delaware in March 2001. We became a public company in July 2008. The company has two wholly-owned subsidiaries: Energy Recovery Iberia, S.L., incorporated in September 2006, and ERI Energy Recovery Ireland Ltd., incorporated in November 2009. In December 2011, the company merged three subsidiaries -- Osmotic Power, Inc.; Energy Recovery, Inc. International; and Pump Engineering, Inc. -- into the parent company, Energy Recovery, Inc.
The mailing address of our headquarters is 1717 Doolittle Drive, San Leandro, California 94577. Our main telephone number is (510) 483-7370. Additional information about ERI is available on our website at http://www.energyrecovery.com. Information contained on the website is not part of this report.
Our Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports and the Proxy Statement for our Annual Meeting of Stockholders are made available, free of charge, on our website, http://www.energyrecovery.com, as soon as reasonably practicable after the reports have been filed with or furnished to the Securities and Exchange Commission.
Our Products
We make energy recovery devices and high-pressure and circulation pumps primarily for use in seawater desalination plants that use reverse osmosis technology. Our products are sold under the trademarks AquaBoldTM, AquaSpireTM, ERITM, PXTM, Pressure ExchangerTM, PX Pressure ExchangerTM, PEITM, Pump EngineeringTM and QuadribaricTM. Our energy recovery products reduce plant operating costs by capturing and reusing the otherwise lost pressure energy from the reject stream of the desalination process. Use of energy recovery devices can reduce energy consumption by up to an estimated 60% compared to desalination without energy recovery. By reducing energy costs, our devices increase the cost-competitiveness of reverse osmosis desalination compared to other means of fresh water production, including thermal desalination. Our pumps are designed for high efficiency and complement the operation of our energy recovery devices.
Energy Recovery Devices. We develop and sell two main lines of energy recovery devices: PX Pressure Exchanger devices and turbochargers. Each line includes a range of models and sizes to address the breadth of required process flow rates, plant designs and sizes.
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Our current PX offering includes: the PX-300 and PX-Q300; the 65 series (the PX-260, PX-220 and PX-180); the 4S series (PX-140S, PX-90S, PX-70S, PX-45S and PX-30S) and brackish PX devices (for the desalination of water with a lower concentration of salt than seawater).
Our turbocharger offering includes: the HTCAT series (HTCAT-1800, HTCAT-2400, HTCAT-3600, HTCAT-4800, HTCAT-7200 and HTCAT-9600); the HALO line (HALO-50, HALO-75, HALO-100, HALO-150, HALO-225, HALO-300, HALO-450, HALO-500, HALO-600, HALO-900 and HALO-1200); and the LPT series for brackish water desalination applications (LPT-63, LPT-125, LPT-250, LPT-500, LPT-1000, LPT-2000 and LPT-3200).
High-pressure and Circulation Pumps. We manufacture and sell high-pressure feed, circulation and booster pumps for use with our energy recovery devices in reverse osmosis desalination plants. Our current line of pumps includes the AquaBold series (AquaBold 2x3x5, AquaBold 3x4x7 and AquaBold 4x6x9); the AquaSpire series (AquaSpire-300, AquaSpire-450, AquaSpire-600, AquaSpire-900, AquaSpire-1200, AquaSpire-1800, AaquaSpire-2400, AquaSpire-3600, AquaSpire-4800, AquaSpire-7200 and AquaSpire-9600) and a line of small circulation pumps.
Technical Support and Replacement Parts. We provide engineering and technical support to customers during product installation and plant commissioning. We also offer replacement parts and services for our PX devices and turbochargers . Our PX devices and turbochargers are also used to retrofit or replace older energy recovery devices in existing desalination plants.
Customers
Our customers include a limited number of major international engineering, procurement and construction firms which design and build large desalination plants, and a number of original equipment manufacturers (OEMs), which are companies that supply equipment and packaged solutions for small to medium-sized desalination plants.
Large engineering, procurement and construction firms. A significant portion of our revenue typically has come from sales of products to large engineering, procurement and construction firms worldwide that have the required desalination expertise to engineer, undertake procurement for, construct and sometimes own and operate large desalination plants or mega-projects. We work with these firms to specify our products for their plants. The time between project tender to product shipment can range from six to 16 months. Each mega-project typically represents a revenue opportunity of between $2 million to $10 million.
A limited number of these engineering, procurement and construction firms account for 10% or more of our net revenue. Revenue from customers representing 10% or more of total revenue varies from year to year. For the year ended December 31, 2011, one customer, IDE Technologies Ltd., accounted for approximately 14% of our net revenue. For the year ended December 31, 2010, two customers — Thiess Degremont J.V. (a joint venture of Thiess Pty Ltd. and Degremont S.A.) and Hydrochem (S) Pte Ltd (a Hyflux company) — accounted for approximately 23% and 12% of our net revenue, respectively. For the year ended December 31, 2009, IDE Technologies, Ltd., Acciona Agua, and UTE Mostaganem — a consortium of Inima (Grupo OHL) and Aqualia (Grupo FCC) — accounted for approximately 20%, 11%, and 11% of our net revenue, respectively. No other customer accounted for more than 10% of our net revenue during any of these periods.
Original Equipment Manufacturers. We also sell our products and services to suppliers of pumps and other water-related equipment for assembly and use in small to medium-sized desalination plants located in hotels, power plants, cruise ships, farm operations, island bottlers, and small municipalities. These original equipment manufacturers also purchase our products for “quick water” or emergency water solutions. In this market, the time from project tender to shipment ranges from one to three months.
Competition
The market for energy recovery devices and pumps in desalination plants is competitive. As the demand for fresh water increases and the market expands, we expect competition to persist and intensify.
We have two main competitors for our energy recovery devices: Flowserve Corporation (Flowserve) based in Irving, Texas and Fluid Equipment Development Company (FEDCO) based in Monroe, Michigan. We compete with these companies on the basis of price, technology, materials, efficiency and life cycle maintenance costs. We believe that our products have a competitive advantage, even though these companies may offer competing products at prices lower than ours, because we believe that our products are the most cost-effective energy recovery devices for reverse osmosis desalination over time.
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In the market for large desalination projects, our PX devices and large turbochargers compete primarily with Flowserve’s DWEER product. We believe that our PX devices have a competitive advantage over the DWEER devices because they are made with highly durable and corrosion-proof ceramic parts that indicate a design life of 25 years, are warranted for high efficiencies, and offer low life cycle costs. The PX devices offer maximum plant uptime, optimum scalability with a quick startup, and no required maintenance. We believe that our large turbocharger products have a competitive advantage over the DWEER product, particularly in countries where energy costs are low and upfront capital costs are a key factor in purchase decisions, because our turbocharger products have lower upfront capital costs, a simple design with one moving part, a small physical footprint and a long operating life which leads to low total life cycle costs.
In the market for small to medium-sized desalination plants, our products compete with Flowserve’s Pelton turbines and FEDCO turbochargers. We believe that our PX devices have a competitive advantage over these products because our devices provide up to 98% energy transfer efficiency, have lower life cycle maintenance costs, and are made of highly durable and corrosion-proof ceramic parts. We believe that our turbochargers compete favorably with Pelton turbines on the basis of efficiency and price, and that our turbochargers have design advantages over competing turbochargers that enhance efficiency and serviceability.
In the market for high-pressure pumps, our products compete with pumps manufactured by Clyde Union Ltd. based in Glasgow, Scotland; FEDCO; Flowserve; Duchting Pumpen Maschinenfabrik GmbH & Co KG based in Witten, Germany; KSB Aktiengesellschaft based in Frankenthal, Germany; Torishima Pump Mfg. Co., Ltd. based in Osaka, Japan; and Sulzer Pumps, Ltd. based in Winterthur, Switzerland and other companies. We believe that our pump products are competitive with these products because our pumps are developed specifically for reverse osmosis desalination, are highly efficient and feature product-lubricated bearings.
Sales and Marketing
We market and sell our products directly to customers through our sales organization and, in some countries, through authorized, independent sales agents. In 2010, we integrated our PEI and ERI sales operations. Our current sales organization now has two groups, the Mega-Projects Group, which is responsible for sales of our PX devices and large turbochargers for desalination projects exceeding 50,000 cubic meters per day; and our OEM Group, which is responsible for sales of PX devices, turbochargers and pumps for plants designed to produce less than 50,000 cubic meters per day.
A significant portion of our revenue is from outside of the United States. Sales in the United States represented 10%, 7%, and 6% of our net revenue for the fiscal years 2011, 2010, and 2009, respectively. Additional geographical information regarding our net revenues is included in Note 14 to the consolidated financial statements in this Form 10-K.