Headwaters Incorporated (HDWR)
Interview with:
Kirk A. Benson, Chairman and CEO
Business News, Financial News, Stocks, Money & Investment Ideas, CEO Interview
and Information on their
technology and services that maximize the value of fossil fuels.

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Strong cash flow and new products generating excitement for Headwaters Incorporated

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Energy
Coal
(HDWR - NASD)

Headwaters Incorporated

10653 S. River Front Parkway, Suite 300
South Jordan, UT 84095
UT 84095
Phone: 801-984-9400


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Kirk A. Benson
Chairman and
Chief Executive Officer

Interview conducted by:
Walter Banks
Co-Publisher

CEOCFOinterviews.com
June 2003

BIO:
Kirk A. Benson has served as a Director of Headwaters since January 1999 and as Chairman and CEO since April 1999. Most recently, Mr. Benson was Senior Vice President of Foundation Health Systems, Inc., one of the nation’s largest publicly traded managed healthcare companies. Mr. Benson was with Foundation Health Systems and its predecessors for approximately ten years, holding various positions including president and chief operating officer for commercial operations, general counsel, and senior vice president for development with responsibility for merger and acquisition activity. Mr. Benson has completed his coursework in a Ph.D. program at the Peter F. Drucker Graduate School of Management at Claremont Graduate University. He also holds a Master of Laws in Taxation from the University of Denver, and a Master of Accountancy and Juris Doctorate from Brigham Young University. Mr. Benson’s term as a director expires in 2005.

Company Profile:
Headwaters Incorporated is a world leader in providing technology and services that maximize the value of fossil fuels. The Company is focused on providing services to energy companies, conversion of fossil fuels into alternative energy products, and generally adding value to energy. Headwaters generates revenue from managing coal combustion products (CCPs) and from licensing its innovative chemical technology to produce an alternative fuel. Through its CCP business and its solid alternative fuels business, the Company earns a growing revenue stream that provides the capital needed to acquire and expand synergistic new business opportunities.

ISG Resources subsidiary:
The Company’s ISG Resources subsidiary is the nation’s largest marketer and manager of coal combustion products and services for the coal-fired electric utility industry. ISG’s primary revenue source is the sale of high quality fly ash, produced from the combustion of coal in the generation of electricity. ISG Resources is the leader in supplying fly ash to the concrete industry. Derived from burning coal, fly ash is a valuable additive that makes concrete stronger, more durable and easier to work with. ISG manages nearly 19 million tons of coal combustion products each year for electric utilities and industrial facilities. Careful management of coal combustion products helps utilities achieve goals of reducing emissions. And use of the products in concrete helps reduce creation of greenhouse gases by displacing the manufacturing of Portland cement.

Fly Ash Based Technologies:
The company is currently commercializing a new technology that promises dramatic improvements for builders and manufacturers in a variety of industries. FlexCrete cellular concrete is a low cost, easy to use building material suitable for a variety of construction applications around the world.

Covol Fuels is a division:
Covol Fuels is solely responsible for all Company activities associated with the Section 29, coal-based synthetic fuel industry, including the commercialization of its proprietary chemical reagent. This reagent is utilized by numerous facilities to transform coal, coal fines, coal refuse and other coal derivatives into a “qualified fuel” within the meaning of Section 29 of the Internal Revenue Code. Covol Fuels is the only full-service, synthetic fuels industry reagent supplier to provide not only competitively priced, safe, odorless and easy to handle reagent products, but also full technical support, R&D, operations management and IRS Section 29 expertise. Covol can tailor the reagents to maintain chemical change across the full FTIR spectrum while enhancing chemical change on specific absorption peaks on high rank coals.

HTI:
Headwaters Technology Innovation Group, (HTI) is a technology-based company focused on developing and commercializing catalysts and catalytic processes for producing chemicals and converting low-value fossil fuels into high-value alternative fuels while improving energy efficiency and reducing environmental risks. HTI's licensed proprietary Controlled Cavitation Technology (CCT) utilizes the intense power created during hydrodynamic cavitation to induce the mixing, heating, and reacting of difficult fluids. "Cavitation" describes the generation and collapsing of bubbles within a liquid, and when these bubbles collapse, they release energy and create extreme, momentary, conditions - e.g., temperatures up to 6,000K and pressures up to 2,000 atmospheres. By harnessing this power, CCT enhances the processing of liquid-liquid, gas-liquid or solid-liquid mixtures through: Intense micro-mixing of dissimilar fluids, Thorough dispersion of gases or solids in liquids, Uniform heating of liquids - without scale buildup, Accelerated reaction rates normally limited by mass transfer.

NANOTECHNOLOGY:
The term "nanocatalyst" is derived from "nanometer", meaning one-billionth of a meter, and is used by industry to describe catalysts, which are engineered at nanometer-scale precision. Headwaters’ NanoKinetix Inc. (HKI) works at an even smaller scale, actually at the atomic level, to control the exact geometry of a catalyst's structure. Instead of the more common practice of allowing catalyst atoms to naturally form random geometric patterns on a support material, the HKI method guides these individual atoms (often expensive, precious metals such as platinum or palladium) into orderly/predictable arrangements and anchors them to the support material so that they stay in place. The result is significantly enhanced catalyst performance and longer catalyst life with less precious metal required - in other words, more catalytic activity with less catalyst material. HKI's catalysts can also be engineered to perform multiple reaction steps, which can be another source of significant cost-savings.

CEOCFOinterviews: Mr. Benson, please tell us a little about Headwaters.

Mr. Benson: “Headwaters is an energy technology company that commenced its business operations in the early 1990s, and has developed some technologies that add value to energy, and have had success in commercializing these technologies over the last couple of years.”

CEOCFOinterviews: What would you say is your most recent and exciting news?

Mr. Benson: “The most recent news that has had the most impact on the company is the recent acquisition of the company called ISG Resources. It is a company, which is involved in the post-combustion management of the products produced, when coal is burned to produce electrical energy.”

CEOCFOinterviews: Is it incorporated into your business as a subsidiary?

Mr. Benson: “ISG Resources is a 100% owned subsidiary. We have two operating business units; one is a pre-combustion business unit called Covol Fuels and the other one is ISG, which is a post-combustion business unit.”

CEOCFOinterviews: Which one generates the most revenue for you?

Mr. Benson: “The greatest revenue generator is the ISG business.  ISG is probably going to continue to generate more revenues than Covol Fuels. Last year ISG generated on a Proforma basis, $225,000,000.00 dollars of revenue and Covol Fuels generated a $108.000,000.00 dollars of revenue. Covol Fuels is growing more rapidly than ISG but ISG had more revenue to start with.”

CEOCFOinterviews: Is Covol Fuels something that you developed or did that come through an acquisition as well?

Mr. Benson: “Covol Fuels has commercialized a technology that was developed in-house by Headwaters in the early 1990s. It is our legacy business. I am happy with the performance of both the business units.”

CEOCFOinterviews: Have you been with the company since its inception?

Mr. Benson: “I joined the company in April of 1999, so I actually have come late to the company.”

CEOCFOinterviews: What kind of changes have you seen since you have been there?

Mr. Benson: “There have been significant changes since I arrived at Headwaters. When I came in 1999, we had about six million dollars of revenue and this year we will finish out somewhere between three hundred and sixty to three hundred and seventy million. That is a significant change.”

CEOCFOinterviews: How large are the markets?

Mr. Benson: “Some of the markets that we are participating in are quite large, The markets for Covol Fuels and ISG businesses are probably in the range of  $750,000,000.00 dollars. Some of the other products that we are just starting to commercialize are markets of several billion dollars in size.”

CEOCFOinterviews: Where are you positioned?

Mr. Benson: “In our ISG business, which is the post-combustion business, we are the largest company in that business managing the coal combustion products that are produced when coal is burned. In the pre-combustion business, we are the largest company as well. We have significant market positions in both of these strategic business units.”

CEOCFOinterviews: How do you differ from your competition?

Mr. Benson: “In the ISG business, we have three competitive advantages one is that we have long-term exclusive contracts for the supply of the coal combustion products. We have contracts that are 20-25 years in length and they are exclusive, which gives us access to the supply of these materials that other companies do not have. Secondly, we are the only company with a national distribution system for these coal combustion products. We have over thirty terminals that are strategically located throughout the United States that allows us to distribute the materials directly to our customers. Thirdly, we have a proprietary chemical reagent that improves the quality of the fly ash that we distribute. In our other business, we have intellectual property that covers a unique chemical reagent that is used to treat coal before it is burned and over 50% of the people in this business, use our chemical reagent, and it provides us with a unique and exclusive technology that we apply to coal before it is consumed at the electric utilities.”

CEOCFOinterviews: Is this strictly a U.S. market?

Mr. Benson: “Most of our revenue is generated in the U.S. The third activity that we are involved in is with the development of new technologies. We have a business unit that has a core competency in what is called nanocatalyst. We are able to make catalyst, which are required in many chemical reactions and many energy reactions. We can make these catalysts as small as a single atom, so we can make them the thickness of one atom, and that is why they are called nanocatalyst. We have some business outside of the U.S. that relates to some of our catalyst technologies.”

CEOCFOinterviews: When do you think that will develop?

Mr. Benson: “Last year we entered into a license agreement with a company in China called Shenhua Group Corporation, Ltd. who used one of our technologies to convert coal into an ultra clean diesel fuel. We have a few things that we are working on outside of the United States that hopefully will generate some revenue. We are excited about the future potential. One of our business strategies is to have a pipeline of new products that we are continually developing and commercializing.”

CEOCFOinterviews: Do you see growth in your company coming through new clients, products or both?

Mr. Benson: “Probably both. There are three new products that we are in the process of commercializing; one is a building product that we call FlexCrete it is made from 70% fly ash, which is one of the coal combustion product. It is a building material developed internally and we have applied for patents to protect our intellectual property. This building product weighs about 25% of concrete materials, yet it is actually stronger and more durable. It is fireproof and soundproof. It is something that we believe could be compatible with wood materials for construction. We got another product that upgrades heavy oils, it is a catalyst product and we think that the market for that product is quite significant; we are in the process of starting the commercialization of that product. Finally, we have developed another technology that we are in the process of selling to utilities right now that is part of the clean-coal initiatives; it is related to the control of nitrogen oxide, so it blocks emission from coal power plants.”

CEOCFOinterviews: How do you bring in potential customers?

Mr. Benson: “We have thirty to forty people that are directly involved in sales and we have some technical sales people, primarily engineers that are involved in the technical aspects of the sales opportunity.”

CEOCFOinterviews: It sounds like you put quite a bit into your R&D.

Mr. Benson: “Our R&D line on our income statement will show about four-and-a-half million dollars for the year. We also invest in the commercialization of these technologies, which is not reflected in the R&D line but it is directly related because we need to convert our R&D efforts into businesses and positive cash flow.”

CEOCFOinterviews: Can you give us a picture of your revenue model?

Mr. Benson: “Revenue from our post-combustion business is made up primarily from the sale of post-combustion products. We are purchasing those products from electric utilities so we have revenue from those products and the cost of goods sold as we purchase those materials and then we have some transportation cost associated with those materials and then just regular SG&A to support that business activity. Our pre-combustion business has two revenue lines, one is the sale of chemical reagents, we purchased those reagents from DOW RICHOLD, and then SG&A to support that revenue line. Finally, we receive a fairly-significant amount of license fees from the license of our technologies. Those are the revenue and expense lines for our income statement.”

CEOCFOinterviews: What is your current cash and credit position?

Mr. Benson: “At the end of the quarter, we had cash and short-term investments of approximately $10,000,000.00 dollars. Today we have a long-term debt of about $150,000,000,00 dollars; our debt to EBIDA (Earnings before interest, depreciation and amortization) ratio is approximately 1.8. Our interest and expense coverage ratios are between five and six. We have been rapidly paying our debt down and feel very comfortable about our balance sheet and our cash flow.”

CEOCFOinterviews: It sounds like you have your industry knowledge down, to where you can be successful!

Mr. Benson: “We have very good visibility in our businesses and feel very comfortable about hitting our earnings expectations. We shared a $1.32 as our goal for the current fiscal year and feel very comfortable that we are on track to achieve those earnings.”

CEOCFOinterviews: In closing, what would you like current shareholders and potential investors to remember about Headwaters?

Mr. Benson: “We have two very strong cash flow generating businesses, and we are very excited about the new products, particularly the nanocatalyst that we are developing and the potential for continued growth and continued positive cash flows in the future.”

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