Water: Its Value And Risks - Global Finance Magazine

Water is critical to business, and with supplies increasingly at risk, companies cannot take it for granted anymore.

The prospectus for brewing-giant AB InBev’s $5 billion Asian IPO earlier this year included 58 references to water—an acknowledgment, CEO Carlos Brito says, of the commodity’s increasingly tenuous status and its importance to the business. The maker of Budweiser and other brands sources the core ingredient for most of its products locally in plants around the world—including 37 located in high-water-stress areas, where supply often can’t keep pace with demand. That’s made managing potential water risks an increasingly intricate and central part of AB InBev’s broader strategy.

“Water is our business,” Brito told attendees at a September sustainability conference. “We count every drop of it.”

As recently as the late 1990s, few companies considered water a major risk factor to their operations. It was an assumed resource, there for the using, at whatever price (if there was one) the local water utility charged. Today, water quality and quantities are under increasing pressure across the globe, fueled by climate change, urbanization and surging manufacturing and agricultural production volumes.

A color-coded map published by the World Resources Institute’s (WRI’s) Aqueduct initiative shows almost all of India, Western Asia, swaths of Africa and northern China, and parts of the American Southwest bathed in the maroon that designates “extremely high” levels of water stress. Droughts seem more severe today and floods more devastating. Aquifers are being drained and groundwater sources polluted. By one count, 95% of the world’s population lives in a place with less water than 20 years ago. One in 3 people lacks access to safe drinking water, according to a report by the World Health Organization and Unicef.

Water is causing stress for corporate bottom lines, as well. The CDP (formerly the Carbon Disclosure Project), which promotes sustainable business practices, estimates that companies in 2018 lost $38.5 billion in earnings from water-related shutdowns, slowdowns and other operating issues. “Water risks are often about top-line revenues and access to the capital markets,” says Monika Freyman, a Director of Investor Engagement for Ceres, a nonprofit that promotes sustainable practices by companies.

The issue doesn’t impact just beverage makers. Companies in industries as diverse as mining, energy, semiconductors and apparel have been forced to get more serious about managing and incorporating water-related risks into their strategic planning.

“If you don’t manage the risks effectively, you’re not able to expand or move into a market as rapidly as you want to, because of water shortages. You can’t expand production, because the community is concerned about local water impacts,” Freyman says. “Proactively managing water risks is a license to grow.”

External, third-party scrutiny of corporate water-risk management practices has blossomed over the past decade, raising the stakes. NGOs, including the WRI, the World Wildlife Fund, Ceres, and the CEO Water Mandate and China Water Risk, are pushing companies for better disclosure and more action.

“We see corporations as critical levers in flagging the importance of better water governance to local governments and regulators,” says Paul Reig the WRI’s director of corporate water stewardship.

Investors and ratings agencies are paying closer attention. In September, for example, Moody’s Investors Service warned that the mining industry faces increasing risks of facility shutdowns due to water availability and pollution concerns—factors that could affect a company’s ability to fund future growth.

Business is responding. An October study of 35 large publicly traded food companies by Ceres found that “77% now specifically mention water as a risk factor in their financial filings, up from 59% in 2017.” About one-third of them now charge boards and senior management with water-risk oversight and strategy, up from 10% two years ago. In a separate survey by GreenBiz (a business-sustainability media, networking and events company) and Ecolab (a water solutions company), 88% of large firms reported setting some kind of internal water-related targets.

There’s a sense of urgency behind these efforts. Freshwater is vital to all kinds of manufacturing, supply-chain and logistical processes; and it’s used in all sorts of ways—to clean products, heat and cool plants, feed animals and raise crops. For example, it takes nearly 40,000 gallons of water to manufacture a car, according to the US EPA. Various other estimates include 3,000 gallons to make one smartphone and 1,800 gallons to produce one pound of beef. A wafer-fabrication plant can use up to 149 million gallons per month to produce 40,000 30-centimeter (11.8-inch) silicon wafers for semiconductors, according to China Water Risk, a Hong Kong–based nonprofit.

“Certain industries have larger water footprints; but no industry can survive and thrive without a clean, sustainable supply of water,” says Kirsten James, water program director for Ceres.

The Triple Threat

Water risks are often divided into three broad categories: the physical (quality and quantity), regulatory (local officials imposing limitations or changing the price) and reputational. In an environmentally sensitive world, no company wants to be labeled as a water scofflaw.

But make no mistake: It’s mostly about quality and quantity. Water is a global issue that, by its nature, is intensely local. If there’s enough freshwater to go around in a given geography, then there likely won’t be much risk of any kind. If not, all bets are off.

In the worst case, corporate water-related risks can snowball—quality and quantity concerns sparking community pushback and regulatory consequences. In some cases, public outcries can force a company to shutter entire operations. It happened to Coca-Cola in Plachimada, India, where groundwater shortages and pollution near its bottling plant sparked protests and led government regulators to revoke the $25 million plant’s operating license. Newmont Goldcorp, currently the world’s largest gold miner, was forced to halt gold- and copper-mining operations at its Conga project in northern Peru in 2011 for similar reasons and has yet to gain approval to reopen the facility.

Often, the threats are more insidious, touching corporate supply and logistical chains in ways that can dent profitability and threaten growth. Olam International, a global commodity trader, saw second-quarter profits decline 36% year-on-year due, in part, to a drought in Argentina that hurt peanut suppliers. In 2018, and again in the summer of 2019, low water levels on the Rhine River slowed ship traffic to a trickle, causing shipping bottlenecks for chemical companies and other industries in the region and dampening growth for Germany’s entire economy.

“There was no water to ship their goods, so they had to shut down production,” explains Peter Adriaens, CEO and co-founder of Equarius Risk Analytics, a Michigan startup that is fine-tuning an algorithm to help investors gauge a company’s water risk. “That’s a real water risk with a significant bottom-line impact.”

Water risks are often governed by a company’s overall enterprise-risk-management framework. It’s part art, part science—driven by numbers and an intimate understanding of individual operations and their water appetites. At General Mills, a packaged-foods company, water risk is studied intently, but as a triggering event for bigger-picture risks like commodity pricing volatility and business interruption, not a standalone endeavor.

“If a plant gets shut down, it could be caused by water, political instability or trade [conflicts]. They all create the same risk,” says Jeff Hanratty, the company’s Applied Sustainability manager. “We’ve assessed the impact of that end result in advance.”

Water-risk management is increasingly becoming its own discipline, with its own distinct characteristics, measurements and lingo. Done well, it can be a full-out financial calculation, filled with complicated variables (like the weather and local politics). Commitments set at the enterprise level can influence plant-siting decisions, facility acquisitions, supplier choices, technology investments and even product-development and marketing strategies.

“Water scarcity can be a great driver for innovation,” said Virginie Helias, Procter & Gamble’s chief Sustainability officer, at the Aquanomics: Water, Wall Street & Climate Change conference in New York. After studying water-stressed Cape Town—where local residents were limited to 50 liters (13.2 gallons) of water per day over an eight-month period in 2018—P&G, the global consumer goods company, developed shampoos that don’t require water, and aims to market them in other countries.

For most, however, managing water risk is about avoiding trouble—things like business continuity, profits and maintaining access to the capital markets. Big corporate initiatives often must cascade down to business-unit level and then local geographies, facility-by-facility, to inform action plans and goals. The process often starts by simply overlaying publicly available water-stress maps with those of the company’s operations, and then digging deeper on the facilities that appear to present the greatest risks.

Nick Martin, a Colorado-based senior consultant with Dutch environment, health, safety and sustainability consulting firm Antea Group, helps companies set up water-risk management programs. He likes to visit high-risk facilities in person, to get a feel for plant management’s understanding of the issue and the local dynamics. “We look at the hydrology of the area. What is the structure of the aquifer? What’s the condition of the lakes and rivers? How much demand is there versus precipitation levels? What are the demographics of other users? What’s the regulatory environment?” he says.

Pricing is a key challenge. While there’s a global market for carbon emissions, no such thing exists for water. The water bill a company gets from the local utility never comes close to reflecting the commodity’s true value or cost.

“Water is underpriced everywhere,” WRI’s Reig says. “Underinvestment by local utilities is a root cause of the problem.”

Many companies consider finding a risk-adjusted “internal price” for water—one that reflects its true value and costs by location—crucial to the risk-management process. This can take many forms. In some facilities, for example, water’s primary purpose is heating or cooling. Understanding the energy and other costs associated with those activities can lead to technology investments that generate significant expense savings.

When Microsoft built a new data center in San Antonio, Texas, water risk was a big concern. Data centers use a lot of water for cooling, and the local watershed is stressed.

The company, using an Ecolab tool called the Water Risk Monetizer, analyzed water stress in the area, groundwater recharge levels, energy costs, social impacts like biodiversity, other corporate water users and other externalities to derive a risk-adjusted internal price more than 11 times greater than what it actually pays for water.

While such risk-adjusted numbers don’t actually make it onto an income statement, they provide a construct for management to compare and contrast against other facilities and prioritize investments and other actions. In this case, Microsoft concluded it would save $140,000 per year by investing in technology that uses recycled “graywater” for cooling, as opposed to freshwater. “If a business can monetize the risk, it can measure and manage it proactively,” says Emilio Tenuta, Vice President of Sustainability for Ecolab, which worked with Microsoft on the project. “You can’t make decisions based simply on current market price.”

Internal pricing can help set what are called “context-based water targets” that can bring clarity as to which water-risk mitigation efforts to prioritize. In simple terms, a company with 100 plants around the world facing some kind of water risk might choose to invest in only the 10 plants where mitigation efforts carry the biggest financial benefit.

But while internal-pricing exercises are common, they’re not universally acclaimed. Equarius’ Adriaens views them as off-balance-sheet mental exercises that fail to value water in the context of core business operations. “The question has to be, ‘If we don’t have water, how will it affect our operations?’” he says.

General Mills’ water-risk management program doesn’t devote much time to internal prices; because 99% of the company’s water risk comes from outside of its plants, on the farms that supply grains and other inputs for its products. “Trying to reduce water impacts in our plants is important, but it’s not going to move the needle,” Hanratty says. Instead, the company screens local watersheds and consults with outside experts to gain insights on factors like farm irrigation intensities and rainfall levels.

It also performs full-out water-risk assessments of its entire network every three years to identify areas where key ingredients, such as oats, cocoa or almonds are most vulnerable to water risks. The process has led to General Mills designating eight “priority areas”—four in the US, three in China and one in India’s Ganges River valley—where it engages with other companies and local officials to address water-related issues. In California, home to the world’s largest almond crop, it has joined with NGOs and other companies, including MillerCoors, to figure out how to recharge aquifers without disrupting local farms.

“If we lost the almond crop in California, it would seriously impact our Nature Valley [granola bars and cereal] business,” Hanratty says. “You can’t buy all those almonds someplace else.”

Such efforts can sound soft; but for companies wanting to build local water sustainability, there aren’t many alternatives. At apparel maker Levi Strauss & Co., a recent in-house assessment concluded that a pair of jeans uses about 1,000 gallons of water over its entire life cycle—from crop production to end-user laundering—68% of which involves growing the cotton. Levi makes much of its apparel in “high water-risk areas” like China, Pakistan and Mexico. Assessment in hand, it is now pressing farmers and other suppliers to become more water-efficient or risk losing its business—an effort to make its own supply chain more sustainable.

“What we’ve said to our suppliers is that if you’re in a high-risk water location, by 2025 you need to reduce your absolute water use by 50%,” said Michael Kobori, Levi’s Vice President of Sustainability, at the Aquanomics conference.

In this water-stressed world, anticipating and managing such risks is viewed not only as a sign that the company is thoughtful about the community and environment, but as a point of strategic differentiation, a competitive advantage and even a social license to operate.

Adriaens predicts that the scrutiny will only increase. “These are still early days,” he says. “I’m convinced that it won’t be long before water is priced into a company’s share price.”

Corporate water stresses and risks promise to intensify in the years and decades ahead. That alone is reason for financial executives to pay attention.