The Economics of Industrial Outsourcing

July 15, 2003
To better focus on cost containment and core competencies, many manufacturers are outsourcing their water and wastewater treatment to experts

We all remember the campaign motto: "It's the economy, dummy." It not only is a good example of a political hot button, but also might be a good way to understand the concepts and consequences of industrial outsourcing.

Just as politicians must successfully navigate turbulent economic waters, so must manufacturers.

So, at its most basic level, what helps drive the industrial economy? It is water. Practically every manufacturing process requires it.

Overall, American manufacturers use more than 9 trillion gallons of fresh water each year, according to the U.S. Environmental Protection Agency. But the inevitable water or wastewater byproduct from an industrial process must be treated.

To keep costs down and focus on core competencies, many companies such as ConocoPhillips and General Motors are outsourcing water and wastewater treatment services to water experts.

These companies opt to invest in the production side of their businesses, not the utility side. Water companies inject both expertise and technology into a water or utility facility, routinely making that facility more cost-effective.

Oil and water do mix

Whoever said, "Oil and water don't mix," was incorrect. They do. Look at the initial production of petroleum carried through the refining process. Natural reservoir "water drive" is responsible for much primary crude production ," and secondary recovery techniques called "waterflood" and "steamflood" force hundreds of thousands of barrels of water underground to flush millions of barrels to the surface.

Once the crude is obtained, it takes tons of water and steam to run a refinery. It begins in vast crude units, where water-driven desalting removes corrosive impurities from the crude oil and steam-driven distillation breaks down petroleum molecules into useful product fractions.

It extends to propelling feedstocks through a web of pipes to various process units. Behind the millions of gallons of gasoline, diesel fuel, heating oil and other petroleum products that pour out of refineries daily are millions of gallons of water.

In addition, refineries require sophisticated waste and wastewater treatment, plus such services as solids handling, oil recovery, residuals management, containment/treatment and wastewater reuse. Even more water will be needed for the sulfur removal mandated by new federal regulations.

Outsourcing defined

The definition of outsourcing often depends on the industry in which you work. However, a more general explanation of the term describes a reliance on an outside vendor to provide its core-competency services at a predetermined and guaranteed cost, typically through a long-term partnership.

The outsourcing of water and wastewater services requires teamwork and input from both companies. Typically, the companies must take the following five-step approach:

1. Study and agree on the scope of work. Both companies review current operation of water and wastewater assets. Depending on the customer's goals, the facility might need some physical changes or expansions.

The companies will discuss near- and long-term goals and operations from technical, operational and financial perspectives. What process or technology modifications would work? What are the ramifications of selling existing water-related assets? How will human resources issues be managed? What safety and compliance requirements must be met?

2. Develop a budget proposal. The outsourcing company provides a conceptual estimate based on a mutually agreed-on set of objectives.

3. Sign a memorandum of understanding or another document that outlines the responsibilities of both parties as the scope of the project is finalized. The agreement details a course of action for determining project feasibility.

4. Execute a due diligence phase, validating the preliminary financial and operational model created in Step 2. For instance, when agreeing to operate, maintain and warranty the performance of a facility on a fixed-price basis over a long-term period, the outsourcing team must verify operational information, including equipment integrity and costs for items such as chemicals, maintenance, labor, sludge disposal and utilities. At the same time, the customer must evaluate the financial and operational issues included in the final proposal.

5. Both companies then enter into a definitive agreement.

Outsourcing advantages

Outsourcing expenditures by U.S. companies currently exceed $100 billion annually. As a tool for businesses and manufacturers that use water or steam in their operations or generate wastewater, outsourcing can eliminate operating and expense risks, ensure safe and compliant operations, improve cash flow and maximize the life and efficiency of noncore operating facilities.

Moreover, companies that transition to outsourcing keep a firm, strategic grip on their operations, both now and in the years ahead.

An outsourcing company also can provide vital assistance to a manufacturing company that is considering new or existing high-purity process water systems, wastewater facilities, cooling tower operations, boiler feedwater units, steam systems or related utilities.

At the same time, an outsourcing partner can demonstrate to a company how to monetize certain water-related assets to improve the balance sheet ," while accepting the risk for facility operation. Capital is freed for other uses, while a company's financial position is bolstered. Operationally, lower costs are made possible through an outsourcing partner's blend of experience in operations, maintenance, equipment and treatment technologies.

Outsourcing credentials

An outsourcing company should have the capabilities to design, build, operate, supply, maintain, acquire and own water and wastewater treatment plants, as well as related plant utilities and assets. Services could include engineering and design, project management, construction management, equipment supply, operations and maintenance, financing and ownership, regulatory compliance and permitting, employee training and safety programs.

Agreements vary, depending on the needs of the company. In some cases, an agreement might focus strictly on operations and maintenance issues. In other cases, new capital might be required to provide new or additional processing technologies.

What's the price tag?

Water/wastewater and general utility management is part of a company's operating and/or manufacturing cost structure, and that cost depends on myriad variables. An immediate contract goal typically is to reduce a company's operating and administrative costs. The determination of ongoing costs needs to be collaborative and framed within a company's corporate strategy.

Outsourcing evidence for you

Does industrial outsourcing work in the oil and chemical industries? Consider these partnering successes:

Sunoco Refinery in Toledo, Ohio, has a $100-million, 20-year outsourcing contract for its 140,000 barrel-per-day facility. The outsourcing partner purchased the 8.0-million-gallon-per-day (mgd) wastewater treatment plant and recycles 3.25 mgd to the cooling towers.

Westlake Chemical in Westlake, La., boasts one of the chemical industry's largest outsourcing projects for operations and capital improvements to water and wastewater treatment units. Westlake is saving approximately $1 million a year.

ATOFINA Petrochemicals in Port Arthur, Texas, has an outsourcing contract that calls for processing oily waste into a fuel for a cement kiln and dewatering caustic waste into a byproduct used by a chemical firm.

Stewart works for USFilter Services Group in Houston. Contact him at [email protected].

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