Energy Recovery Inc (ERII) 2013 Q3 法說會逐字稿

Ladies and gentlemen thank you for standing by. Welcome to the Energy Recovery third-quarter earnings conference call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session and instructions will be provided at that time. (Operator Instructions) I would like to remind everyone that this conference call is being recorded today, November 7, 2013. I will now turn the conference over to Mr. Alex Buehler, Chief Financial Officer. Please go ahead.

Good morning, everyone, and welcome to Energy Recovery's 2013 third-quarter earnings conference call. My name is Alex Buehler, CFO of Energy Recovery, and I'm here today with our President and Chief Executive Officer, Tom Rooney. In today's call, we will provide you with information about our financial performance in the third quarter of 2013 as well as provide an update on the progress we are achieving in relation to our growth strategy. Consequently, some of our comments and responses to questions may contain forward-looking statements about market trends, future revenue, growth expectations, cost structure, gross profit margins, new products and business strategy.

Such forward-looking statements are based on current expectations about future events and are subject to the Safe Harbor provisions of the US Private Securities Litigation Reform Act. Forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties, and other factors that could cause actual results to differ materially from those discussed. A detailed discussion of these factors and uncertainties is contained in the reports that the Company files with the US Securities and Exchange Commission. The Company assumes no obligation to update any forward-looking statements made during this call, except as required by law.

Let's start with the financial results for the third quarter of 2013. For the current quarter, we reported net revenue of $4.9 million and a net loss of $3.9 million or $0.08 per share, compared to net revenue of $10.5 million and a net loss of $1.8 million, or $0.04 per share in the third quarter of 2012. The decrease in revenue was largely attributable to the timing of mega-project shipments, including one project that shipped during the first week of October. We recognize will revenue from mega-project shipments in the third quarter, whereas the third quarter of 2012 contained over $5 million of revenue associated with mega-project shipments.

Based on the schedule shipment dates for projects currently in backlog, we anticipate extremely strong revenue for the fourth quarter of 2013 which should generate full-year revenue results that are roughly in line with 2012. Beyond 2013, we expect revenue growth in 2014.

Of the $4.9 million in net revenue reported for the third quarter of 2013, products and services related to PX devices comprise 73% while products and services related to pumps and turbochargers represented 27%. Comparatively, for the third quarter of 2012, PX devices comprised 83% of net revenue while pumps and turbochargers represented a balance of 17%. We still managed to increase gross profit margin from 55% in the third quarter of 2012 to 60% in the current quarter, despite lower revenue and a comparatively unfavorable product mix. Importantly, these results reflect the substantial cost reduction efforts over the last two years, including plant consolidation, vertical integration, targeted cost-out and value engineering exercises and efficiency-enhancing initiatives to achieve lower unit costs and better production yields. In short, manufacturing efficiencies and strong pricing allowed us to demonstrate gross profit margin at the 60% level for the second consecutive quarter.

Operating expenses decreased 11% from $7.6 million in the third quarter of 2012 to $6.8 million in the current quarter and were little changed from $6.6 million in the second quarter of this year. We have maintained disciplined cost control, even as we continue funding growth initiatives such as oil and gas.

Specifically, the current quarter benefited from lower R&D expenses which spiked in the prior year period due to the purchase of components to fabricate our oil and gas devices for pilot projects. Research and development resources remain focused on technical validation and commercialization of three oil and gas devices with high-profile companies, all of which are on different continents. Also benefiting operating expenses in the current quarter were decreased sales and marketing expenses caused by lower commissions in light of less NPD revenue.

Our balance sheet and cash position remain healthy. At September 30, 2013, we had unrestricted cash of $15.8 million, short-term investments of $6 million, and long-term investments of $13.1 million, all of which represent a combined total of $34.9 million, an increase from $27.6 million calculated on the same basis at June 30. 2013.

Strong billing and collection activity, $1.2 million of net proceeds from the sale of our Michigan property and $3.1 million of federal income tax refunds generated cash flow from operations of $2.7 million over the nine-month period of 2013. The quarter's net loss of $3.9 million included approximately $2 million of non-cash items, the largest of which were $1 million of depreciation and amortization and $500,000 of stock-based compensation. We are very pleased by the Company's cash flow in 2013 and we expect this trend of improvement to persist into 2014 and beyond.

We have positioned the Company with a far more efficient cost structure, allowing us to invest in growth opportunities for our energy recovery technologies in new end markets, such as oil and gas. Results in the third quarter continue to demonstrate significant progress achieved towards these strategic initiatives. At the same time, we maintain a highly liquid unlevered financial position and operate with a capital-light strategy. Consequently, we are confident in the earnings power and cash flow generating capabilities of this business over time.

I will now turn the call over to Tom Rooney.

Thank you, Alex, and good morning, everyone. In the third quarter, Energy Recovery continued to make progress improving manufacturing efficiency, driving out costs, and capitalizing on the operating leverage of our business.

Compared to a year ago, third-quarter gross margins were up while operating expenses were down. Just as important, demand for our products remained strong and our share of the global desalination market remained high. We have a large backlog of attractively-priced contracts all scheduled to ship in the fourth quarter which we will expect will be one of the best quarters in the Company's history.

Reducing costs, increasing efficiencies and maintaining a dominant share of the desalination market are key elements of our three-pronged strategy, over which we exercise the greatest control. Consequently, the tremendous progress we have achieved over just the last two years has provided us with the resources to accelerate our diversification into new growth markets, which is the third prong of our strategy.

For the quarter, due to delays in the shipment of certain projects, we did not generate any mega-project revenue. As a result, revenues were down and we experienced an $0.08 per share loss in the quarter. The timing of mega-project shipments continues to create variability in our quarterly results.

For instance, a contract originally scheduled to ship in the third quarter was actually shipped during the first week of October, moving millions in revenues out of the third quarter and into the fourth quarter, but having no bearing on our financial performance for the year. In fact, the fourth quarter could be the best quarter in the Company's history.

The true strength of our organization can be seen in the proportion of major desalination projects we are winning around the world. In the third quarter, we signed a number of new desalination contracts, the majority of them in the Middle East region. In Saudi Arabia, our PX technology is part of ACCIONA Agua's first desalinization contract in the City of Al Jubail. The plant will produce 100,000 cubic meters per day of potable water for residents and industrial uses and our devices will yield over 116,000 kilowatt hours in energy savings.

In Oman, Cadagua and its partners will use our devices to desalinate seawater in the City of Al Ghubrah. This technological first, a desalinization mega-project featuring eight trains, each desalinate in 30,000 cubic meters of seawater per day will produce 50 million gallons of fresh water to supply 800,000 residents.

In the United Arab Emirates, ACCIONA Agua again shows our PX devices for the Fujairah 1 Expansion desalination project. With PXQ technology, the plant will conserve 140 million kilowatt hours of energy and over $14 million annually.

While the Middle East has been a market rich in opportunity for us over the years, further east China, home to approximately 20% of the world's population, the government has formally decreed desalination as an integral part of its long-term water management strategy. China is planning to triple its desalination capacity by 2016 using reverse osmosis technology for which our PX devices are ideally suited.

We are also pleased to report that progress is being made in the US desalination market, most notably with the Carlsbad project which we announced last quarter. We expect shipment of this project in Q4, as recently confirmed by our client. Just last week, I returned from an extended trip throughout China where we have participated in several important industry and thought leadership events. The International Desalination Association World Congress 2013 just wrapped up its six-day event in Tianjin and it was a showcase for the latest desalination scientific research and technology trends and an arena for enterprises such as ours to display advanced technologies and products.

The theme of World Congress 2013 was the vital role that desalination and water reuse play in helping the world meet its water need as we face increased challenges from urbanization, climate change, and economic uncertainties. We spoke with many of our clients and learned that the growth of the desalination requires further research and analysis and that a combined effort by all technology leaders is critical to our industry's success.

The demand for fresh water and innovative approaches to solve the world's water and energy issues remain strong. In fact, during the conference, there was a noticeable and compelling interest in renewable energy sources, such as osmotic power, using the latest water technologies for which Energy Recovery is a key player.

Nearby, in Shanghai, I was invited to speak on a panel entitled Beyond Subsidies and Business Unusual in Asia, at the Bloomberg Leadership Forum in Shanghai. This forum brought together 60 of the sector's thought leaders from a diverse mix of Asia's leading firms, including Chinese energy manufacturers, diversified international industrialists and information and communication technology players. We focused on key areas such as business models for an age of clean energy consolidation and the role of international firms to support future large-scale industry demands for water and technology.

While in China, we also took the occasion to visit with the regional leadership and plant management of the Sinopec facility in the Songnan gas plant where we saw firsthand the progress being achieved in one of our oil and gas field trials. We came away very impressed by the progress achieved and even more convinced of the opportunity this new market brings to us. As indicated by the client, lower power consumption is the number one initiative for Sinopec overall. At the plant level, we were told that our energy recovery devices lower the power consumption of the total plant by more than 25%, which equates to a very compelling value proposition.

If you are familiar with gas processing facilities, energy costs are a major portion of total costs. We are confident that our potential to collaborate on future oil and gas projects remains strong. The emphasis on gas exploration is high as China is a net importer.

Sinopec is just one of our oil and gas pilot projects with major players on three continents. Just this week after a full year of testing the system in our facility, we are happy to announce that as we speak, our first IsoGen energy recovery solution is pending shipment to the world's largest oil and gas producer, Aramco, in Saudi Arabia.

And finally, in October, we announced an agreement with Seoul-based GS Engineering and Construction Corporation to explore the potential of osmotic power generation using our PX technology. A pilot program is already underway with a unit anticipated to be operational in 2014. While still in the early stages, the best estimates of global osmotic power production potential exceed 1600 terawatt hours, or the equivalent of half of Europe's entire energy demand.

In recognition of our unique technology, I am pleased that we been chosen as a finalist in two categories for an innovation award from the Institution of Engineering and Technology; one for energy power and the other for sustainability. These innovation awards celebrate the very best innovations in science, engineering, and technology.

We continue to study the long-term growth prospects and the firming of the global desalinization market and we are excited about the commercial introduction of our new oil and gas products. Oil and gas field trials are progressing, providing us with confidence that we will generate meaningful revenue in a market where there are already 1200 eligible facilities.

The innovation, manufacturing efficiencies and disciplined cost control implemented throughout the organization over the past several years provide us with a strong foundation to capitalize on the growing demand for energy recovery equipment in the desalination and other emerging markets, such as oil and gas, to create for our shareholders.

Since Alex and I joined Energy Recovery, we have focused on strengthening and positioning the Company to optimize the value of our proprietary technology and the strong market share enjoyed in the desalination market and the significant improvement in gross profit margin are decisive evidence of success.

As we move into 2014 and beyond, we envision a seminal turning point for Energy Recovery. Everything we've experienced in China confirms that we are focused on the right objective, creating energy conservation solutions that are both clean and economical. Both the water market and industrial manufacturers are clamoring for more green Energy Recovery devices that significantly reduce global energy consumption, lower operating costs, and offset carbon dioxide emissions.

These are exciting times and we are anxious to continue to strengthen the Energy Recovery franchise in the desalination market and to extend that franchise into many other growth markets that can benefit from our technology.

Thank you very much, and that concludes our prepared remarks and we will now open up the call for your questions.

(Operator Instructions) Patrick Jobin, Credit Suisse.

Good morning, thanks for taking the question. First, just on your 2014 outlook, you mentioned some growth. Any way to kind of river-bank what you're expecting in 2014, maybe by region or growth percentage complete? Thanks.

So, Patrick, at this time of the year, it's a great question because it's one that we're working on very hard. We just got back from the industry conference last week that happens once every two years, the desalination industry conference. So we're poring over a lot of data, and as we're coincidentally also putting our business plan together, our internal business plan. So I'm going to hold off on making any -- or giving any guidance or making any forecasts for 2014 at this point. We are doing it segment by segment, China, Middle East and so on. But at this stage, we're not in a position to give any kind of guidance or updates on 2014.

Okay, that make sense. We appreciate it certainly can be a lumpy business. On the oil and gas opportunity, you mentioned meaningful revenue in 1200 eligible facilities. I guess can you update us on the timing of when you expect field trials convert to commercial shipments, and maybe what the revenue opportunity might be for an average facility?

Sure. The revenue opportunity at an average facility is on the order of about $1 million if you think about the 1200 plants that exist. So about $1 billion of one-time TAM, so that's the first one.

What we see happening right now is we are now starting to line up second and third clients to visit some of these plant facilities, and so we expect that in 2014, we will start to ink contracts, commercial contracts for the next wave of projects predicated on the field trials that are going on. Of course, revenue recognition requires us to actually sign contracts, manufacture products and ship. So the big question for us would be, as we -- and we see the year 2014 as a year when we ink contracts with clients. So contracts that are inked in the first three or four months of the year can be turned into revenue in the first year. So we have to be a bit cautious.

The one thing that we've learned about the oil and gas industry is that it has its own pace, and we've been working through things at the oil and gas industry pace. But we are convinced that we want to be moving now to contracts. We are lining up a series of clients that we'll start to visit, the other plants, and subsequently negotiate contracts with us, commercial contracts. All of that will take place in 2014.

Great. Last question for me, I was just looking at the inventory balance, and I guess it's a question for Alex, and a housekeeping item. But I was surprised to not see a larger build of inventory given the Q4 shipments and the multimillion project push out to Q4.

Well, it was a predictable inventory build. It was large from my vantage point, and we are building up finished goods inventory which should facilitate all of the NPD shipments that are scheduled to go out in the fourth quarter.

Right, okay. So it's just from a manufacturing time standpoint, there's nothing to become concerned with there?

No, I mean we do level-load our production for manufacturing efficiency purposes, and because our MPD revenue was so uneven this year we've been building finished goods inventory for the first three quarters, and that's going to come down dramatically in Q4 with shipments.

Okay. Thanks very much.

Keep in mind, you could go back 10 months; we've known that the fourth quarter was going to be a substantial revenue quarter, so we actually started building inventory even in January in expectation of the shipments in the fourth quarter. So our inventory buildup has been going on all year in expectation of this. We've known that this fourth quarter was going to be at or near record levels for the Company, so our inventory buildup has been done pragmatically over a long period of time.

Thank you.

Laurence Alexander, Jefferies.

Hi, good morning. This is actually George D'Angelo on for Lawrence. I have a question on M&A. What kind of M&A would you consider, and what financial hurdles would you guys apply?

We have an aggressive corporate development program underway and have for the last two to three months. The focus of that -- of those acquisition targeting is strategic acquisitions that would enable speed to market in some of our new diversification areas. So, obviously, oil and gas fits into that, but some of the other areas where we're focused in future generations, in areas like chemical processing.

We are not particularly focused at doing any acquisitions in the direct water or desalination market because, in fact, the primary strategy for us in terms of acquisitions is to speed our entry into other markets. You may recall from previous conversations, we have mapped out a long series of addressable markets in chemical processing, mining and a number of other areas. To date, organically, we've been focused on penetrating the oil and gas industry and specifically penetrating the gas processing part of the oil and gas industry.

We're a 115-person firm, so we are limited as to the number of markets that we can organically attack, but the opportunity to make acquisitions to penetrate some of those others will help to accelerate what is otherwise a 12-year roadmap to address several billion dollars worth of addressable markets.

So to simplify it, our entire focus for acquisition is around entry into markets that will get us faster entry where we would otherwise have to take several years to get to. The size of those acquisitions would depend on the level of strategic value that the Company would give to us. But what is obvious is we have a very strong balance sheet, no debt, and as the Company now transitions to profitability into profitability, into cash flow- positive, we feel far more confident in terms of using our balance sheet to make a handful of very smart acquisitions.

Okay. Thanks. And just one more, following up on the inventory balance. Could you guys give a little more color on risks of orders slipping into Q1 and Q2 of this year from Q4?

Sure. I think we have five MPD projects, and each one being $ million to $4 million or thereabouts. One of the five has already shipped. In fact, we got -- released to ship the project in the last hours of Q3, which was disappointing to us.

Nonetheless, one of the five has already shipped and we've gotten confirmations in the last two weeks from three of the other four that they what shipments by the middle of December. So I would tell you that I feel confident, but having watched 2 1/2 years of revenue move out the door, this is a business where you don't count your chickens -- in this case, until they move off the loading dock.

So we are and will always be vulnerable to last-minute casual delays by our clients, but we have actually proactively called all of our clients. And I'll give you an example. There's been a lot of written concern that the Carlsbad project clearly doesn't need or want our projects this quarter. We have in fact confirmed with the client that they fully expect to have this ship that product and project in the middle of December. And they have confirmed that in writing to us in the last two weeks.

So with all of the data that we have in front of us, we feel good, we feel confident. But history has shown that these long large MPD projects have an ability to surprise at any time. So until we get to December 31, I can't give you 100% certainty. But I can tell you that we have communicated with those clients and we feel strong, and we feel good about it.

Okay. Thanks guys. Thanks for taking the question.

Robert Smith, Center for Performance Investing.

Good morning. The 1200-unit addressable market in oil and gas, gas processing, of the three field tests that you're running with those organizations, how many of the 1200 are accounted by those three?

In other words, if I took those three clients and asked how many locations they have?

Yes.

It would be a very small portion of the 1200. Having said that, one of the largest oil and gas producers in China, the largest oil and gas producer in the world and one of the more prolific oil and gas producers in North America. So our pilots are not being done for second- or third-tier players. We are fortunate enough and intended to get out of the starting block with big-name players so that we would be able to address their individual needs, but also so that the reputational effects would be stronger for followers.

But in terms of a number count, I guess -- first of all there are 1800 gas processing plant in the world. We believe that 1200 of 1800 are large enough for us to be able to easily bring a return on investment to those clients. There are, therefore, about 600 gas processing plant around the world that are small and interesting but maybe too small for our devices.

By the way, gas, shale gas is being found all over the world now. It's one of the great phenomena that is going on. And so the 1200 that we mentioned does not even contemplate the new plants that are going to be and are being built over the next 2 to 3 years. So, who knows where 1200 goes to?

Do you To have an idea for the growth rate in the area, what it might be?

There's the growth rate for that industry, gas processing, and I will not claim to be an expert on that. But then there's the growth rate for us into that industry. For the next two or three years, or maybe the next 5 to 10 years, we have a mountain to climb, if you will, in terms of addressing just the 1200 plants that currently exist around the world.

And so our growth rate into the existing 1200 is very enticing to us, extremely enticing. That's why we targeted that. How much that grows, how much the 1200 grows -- is I guess I'd call it icing on the cake, to be frank with you.

Okay. And the field tests that you're running now, that's going to be expanded by welcoming others near-term. What might that move to? How many more might you put in place in the near term?

In many cases, because of the locations where we've done field tests and the names of our clients for whom we're doing field tests, in a number of cases, in many cases other national oil companies have said if I see what you're doing is successful there, then I would be ready to go to commercial deployment at my location.

I think the reason for that is that these gas processing plants are very, very similar, using very similar technologies around the world. And if you've proven yourself successful with Aramco in one of the world's largest gas processing plants, in many cases -- not all -- but in many cases, that is sufficient in terms of piloting for a gas processor in South America, as an example, or certainly in other regions of the Middle East.

There will be other clients that want to pilot devices inside of their own plants. And to be frank, we will do some of those, but we will pick the low-hanging fruit first, which is clients that readily accept proof points at other gas processing plants.

So would these three companies permit or prospective other companies from seeing their installations? Is that how it works?

It does. And so 10 days ago or so, I was physically at the plant in China with Sinopec, and they are and were effusive in their praise, sharing with us their economics, specifically named individuals at the plant level and at the corporate level that stand ready to give references and also open the door to plant visits from friendly countries, but open the door to plant visits with open arms. Including, by the way, to other oil and gas players in inside of China, so we feel very, very good about that, and we expect the same thing.

I can say that firsthand, having physically been at the plant and dealt with my counterpart at Sinopec and also at the plant-level management. The relationship is very, very high. The feedback is very, very strong and the willingness to collaborate with us and to allow others to see what's going on at their plant is absolute at this stage.

So we feel very good about opening the floodgates now and bringing in sort of second- and third-round clients to see and witness what's going on.

At the time of the next conference call, would you say you have a very clear indication about how much business might come in the -- as you mentioned, the first 3 or 12 months of the new year?

Yes, I think what you'll probably see in the first and second quarter of next year is press releases around contracts and new deals and so on. Our Q4 earnings call I think takes place in the middle of March, so it would be more or less at that point in time that we would expect to be doing deals with clients.

You know, it takes -- the one thing that I'm learning about the oil and gas industry is that, at points in time, they move with incredible speed, and then there are aspects of the process that take a long time. With one of the three clients that we had, we were two years into the relationship and it took us almost a year to finalize the written contract documentation.

So -- and we do not issue press releases about new projects until we have finally and formally inked and signed the finalized deals. We don't typically make press releases about tentative handshake agreements. So I'm a little bit cautious about whether or not I'll be able to say, we will have press releases issued around formal finalized contracts in January, February, March. But that process I'm convinced will be going on in the first and second quarter after people have visited plants and lined up deals.

Do you guys have on-site Energy Recovery personnel at these places?

We have what's called a commissioning period, which might be 3 weeks; it might be 9 weeks, depending on the complexity. So we have entire teams on-site during those commissioning periods.

We then assign individuals in close proximity. So in the case of the Sinopec plant, we have a full-time Energy Recovery technician who lives and works in Beijing who supports the Sinopec plant on an as-needed basis, can get there in 8 or 10 hours. And the same thing is true in the Middle East, and certainly in North America.

So, the answer to your question is, in the very earliest stages, we have full-time on-site people, and then that transitions over to normal service and aftermarket.

Thanks very much. Good luck going forward.

(Operator Instructions) John Rosenberg, Loughlin Water Partners.

Yes, good morning. Thanks for taking my question. A couple of things. Tom, and Alex, you mentioned that next quarter will be the best in the Company's history, amongst the best. Then one of the other questioners went on and talked about some of the projects, mega-project revenue that you may well book. Could you be a bit more specific in terms of margin profile? When you say best, I think I can get an idea of the revenue, but are you also talking about revenue and margin or -- and gross margin, operating margin; what, more precisely?

We're talking precisely about revenue.

Okay.

And to put that in context, the Company's best revenue historically was in the fourth quarter of 2008 --

2008, yes.

-- And it was about [$23] million.

Okay. Great. Thanks. I thought we were going there. But we can expect, with puts and takes, similar gross margins to what we've seen now.

It's very clear that our gross margins have moved up dramatically in the last 2 or 3 years. I think we were at -- what were we at, Alex, for gross margins in 2011?

It was 28%.

We were at 28% margin to 47% margin. Last quarter, I believe we were at 62%; this year, we are at 60%. So what we have been describing and guiding to is the fact that, certainly last quarter when we hit 62 and this quarter we hit 60, that those are not aberrations. And we predicted a year or two ago that we would re-attain the historic high levels of gross margins. I think the highest gross margins ever achieved were on the order of 63% or 64%.

And so we continue that trajectory, so we're guiding, if you will, to one of the highest levels of revenue the Company has ever seen, and we'll just leave it there. The gross margins will continue to improve. Exactly what our gross margins will be in the fourth quarter is probably not something we want to guide to at this point, but 60% and 62% are not aberrations. We continue to see a firming up of the profit potential of the Company, but there are aberrations on any one quarter.

Of course, it's a lumpy business; understood, thank you. Also, so, again, early in the game, but for the your two next initiatives, the oil and gas, and then the osmotic power; oil and gas, you're not going to be producing hopefully as you get started early next year or middle of next year to actually produce and ship. You're not going to be producing the same volume as PX devices. Do you guys have a sense of where your margins is going to be on those projects?

For oil and gas, and for osmotic power?

Yes. Osmotic is, admittedly, very early. But for oil and gas, do you guys have some sense of where your margins might be in that product line?

Well, we're targeting 50% gross margins, so it's a -- I'll give you a two-step answer to that.

We think when we get to steady-state, we think that the gross margins in oil and gas will be similar to, possibly higher than desalination. The reason for that is we are disruptive. We are to some extent without any competition. We have a strong value proposition.

So you might ask, well, why do we target 50%? Well, where we sit right now moving quickly and capturing the market, first mover advantage is all important to us. So we are not as aggressive on pricing and won't be for the next 18 months or so until we get a real foothold into that market.

So, frankly, I'd be happy with anything from 30% to 50% gross margins as we make our first steps into oil and gas. But all the modeling that we have done suggests that we could see 60%-plus gross margins in oil and gas as we mature ourselves into that.

Osmotic power, same thing. Although osmotic power -- our technology advantages are so profound that -- and it's a nascent industry, we would probably start out of the blocks with strong gross margins in osmotic power.

By the way, I should say that osmotic power, 2, 3, 4 years ago was a long-term concept or dream, if you will. It is much more than that today. We have inked a collaboration agreement with a very large Korean conglomerate funded by Korean money to move that forward. We are in close negotiations with a European enterprise to do just the same, and we also have been approached recently by a large Japanese player and a large Spanish player, all of whom want to move forward in osmotic power.

And the orders of magnitude here are very interesting. Just a pilot plant regarding osmotic power could and would generate $5 million-plus of revenue for us. And these pilot plants could hit us, from a revenue standpoint, as early as 2016.

So this is no longer a long-range pipe dream, largely predicated on the fact that membrane technology for osmotic power has really leaped forward in terms of the watt per meter production capability that they have. So that's a core enabling technology, and that has seen tremendous advancement in the last two years and we are also an enabling technology.

So osmotic power, I believe, in the next two years will go from a fanciful concept to something of real revenue for us, and that's very exciting. So, the first wave of growth for us is this oil and gas that you're likely to see 30% to 60% gross margins in the next two years, and then osmotic power shortly thereafter.

Great, thanks very much. I appreciate the color. Best of luck, and Tom, I suggest you could also always go back to Chicago. They're at the forefront of pricing strategy at Booth, I believe these days. Thanks.

JinMing Liu, Ardour Capital.

Good morning. Thanks for taking my question. First, in terms of potential acquisitions, can you give us more color, say what type of companies you guys are interested in? Whether you are just interested in some sales channels in newer applications, like chemical processing, or you still need some technology to complement which are complementary to your existing technology.

Can you ask me that again? You're saying that the technologies that we've developed --

What I'm trying to ask is the potential future acquisition targets, regarding the potential future target, are you simply going after those companies for their channels into the new market, like chemical processing? Or, do you need some complementary technology from those acquisition targets potentially?

It's primarily -- JinMing, it's primarily about penetrating markets. As we step into the oil and gas industry, or when we stepped into the oil and gas industry a year and half, two years ago, our brand was a complete unknown to that industry. We're not much further ahead in terms of that brand, other than with the three clients that we're working with.

So, entering and playing big in the oil and gas industry some extent requires having a known brand name. But also, there are certain methodologies used in the oil and gas industry.

So, as an example, our core technology is a pressure exchanger device, or a turbocharger. But to sell those core technologies to the oil and gas industry, you have to embed it in a skid, an entire assembly. So we are very interested in potentially acquiring a company that can do that lesser technology of skid design and development. That would speed us to market. It's not so much that we can't manufacture it, but it would make us faster into the market to be able to do that sort of rudimentary thing. An analogy might be if Intel, while trying to sell a microprocessor had to package it with the balance of what makes up a computer in order to sell their devices.

So part of our acquisition strategy is to enhance our brand in the oil and gas the street by acquiring a brand, if you will. Part of it is to look at the companion skills and technologies that would enable us to sell our core devices.

Then there are other areas inside of oil and gas that are of interest to us because our energy efficiency proposition to clients is so significant that in some cases it downgrades the pump that exists there to an extent to where the client is asking us -- can we include a small API pump on our skid? And the answer is, of course we can.

So what we're actually looking at is whether we would organically design and develop our own API pump, or acquire a small API pump manufacturer so that we would have the benefit of having our own branded API pump on our skid capture more of the revenue, capture more of the margin and profit potential. That's primarily what we're looking at.

There really isn't or aren't enabling technologies. I think we are fully enabled to do what we want to. It's more about speeding market entry, and so on, in these markets. And when we think about chemical processing, by the way, it would be very much the same story.

Probably the most interesting chemical process that we want to enter in terms of pure chemical processing is ammonia production. Ammonia production uses an almost identical absorption fluid process as does sour gas. It's almost identical. It looks like the same process map. Therefore, the nodes that we would implement ourselves in are nearly identical. So our technology would apply almost immediately, that which we've proven at, say, Sinopec could apply in an ammonia processing facility.

So technologically, we wouldn't need anything, but there again, we would be entering an industry that would not know who we are. And if there was an opportunity to acquire a company to speed us to market, that would be very enticing to us.

So we have some very highly refined strategic imperatives around our acquisitions, but I don't think technology-enabling is really one of our core concepts.

Okay. That's helpful. My second question is, as you get into different markets and the different applications at different markets, how will you, or are you going to make changes from your corporate level, like setting up different offices in different regions or realigning your corporate structure to support your growth in the future?

Well, clearly we will continue to make adjustments in the corporate structure as the emphasis of the Company -- I think it's fair to say that five years from now when we look back, we won't think of ourselves primarily as a water company with all of our assets deployed primarily at water. So we will morph, if you will, over time.

It does not at this stage look like we have to make a major shift. Having said that, our manufacturing capabilities are primarily aimed at the manufacture of pressure exchangers. So as it was mentioned earlier, the entire assembly that we referred to as the skid requires other manufacturing capabilities and competencies. So if in fact we make an acquisition in that area, it would change the way we operate manufacturing. It could well put us overseas for a portion of our manufacturing.

So some of those things will drive change, along with the incremental revenue shift from pure water, to water plus industrials.

Okay, got that, thanks a lot.

Gentlemen, there are no further questions at this time. I'd like to hand the call back over to Mr. Tom Rooney for closing remarks.

Great. Well, thank you very much. As Alex had mentioned, we feel very, very good about where the Company is in terms of efficient operations, strong balance sheet. Notably, our gross margins are performing exceptionally well; our manufacturing efficiencies are way up. We've maintained OpEx control. We're running the Company right now in a CapEx-light mode and not having to compromise to do so, all of which puts us in a fantastic position to continue to press ahead with our growth initiatives.

The work and the progress made in oil and gas has put us in a very nice position for 2014. The notion that osmotic power is coming alive is very enticing to us. And we're even working on other products that could have exciting opportunities for us in other industries, all of which positions us nicely.

Like everyone else, I never like the shift of revenue that takes place, but that's a historic norm for this industry and for this Company. So we continue ahead looking at long-term growth drivers for the Company. That's where the value is in this Company. We're very, very excited about what's happening right now in the fourth quarter. The activity level inside the Company in terms of having and producing one of our largest revenue quarters in history is fun, it's exciting, and we look forward to our fourth quarter earnings results and to 2014.

So, thank you, everybody, for being involved today.

Ladies and gentlemen, this concludes the conference call for today. Thank you for participating and please disconnect your lines.