Japan holds the key for a revitalised Hydrodec

Three weeks ago the tide turned decisively in favour of green-tech minnow Hydrodec (LON:HYR), after it successfully completed a £3 million placement of new shares.
The cash injection should provide the group with the financial headroom to pick up the pace of its growth after two years of grind.
Its main markets are also recovering (and growing) and it has signed a joint venture

deal in Japan that could utterly transform its prospects.

That partnership – with an off-shoot of the Kobe Steel Company no less – is down to the firm’s pioneering technology.

It has invented a way of re-cycling oil used in electricity transformers that removes cancer causing PCBs (proper name polychlorinated biphenyls), used for their coolant properties.
Although PCB’s were banned under UN laws in the 1980s, billions of barrels of  PCB-laced  oil are thought to be stockpiled worldwide  because it is very expensive to dispose of or hard to degrade.
However Hydrodec’s alchemy not only provides a practical solution for this legacy environmental problem but has also opened a global market for it to refine both non-PCB and ordinary, used transformer oils.
Moreover, the process is already being applied at commercial scale in its two operating refineries in Australia and America.
Investor attention is likely to perk up soon if, as expected, the US Environmental Protection Agency approves its unique process to recycle toxic transformer oil in the US.  
Meanwhile, in Japan, there is a massive clean-out going on where these PCBs are being removed from all areas of industry and it is backed by strict government enforced regulation. But we will talk more about this later.
Let’s take a step back and look at the fundraising of September 24. It removes the shackles from Hydrodec, which has struggled through the global financial meltdown, but is now starting to gain a bit of traction.
It placed 50 million shares at a price of 6p each. The injection of funds will see the company through to a position where it is generating a sustainable flow of cash from its operations – which should happen in the first part of next year - and also to profitability, which ought to occur at the same time.
A number of factors, including a US supplier withdrawing credit, meant the company was “cash tight”, chief executive Mark McNamara says.
He told Proactive Investors: “Although we are trading at an acceptable level, and we are gradually going into profit as we speak, the rate of cash generation is still a constraint on the company.
“We have a lot of growth ahead of us. Things are starting to come up good and we need to unlock the company.”
The proceeds from the fundraiser will do just that. At the same time demand from is very definitely turning in favour of Hydrodec, which began building its US  refinery  in September 2008,  just as  the economic cycle was peaking.
“We couldn’t have timed it worse to the day,” admits McNamara, although things are shaping up quite nicely now.
The group’s profit margins from the US and its first plant in Australia are shaping to surpass the 60 cents-a-litre needed to break even.
In the States, the group is now seeing demand outstripping the supply of its branded, re-processed transformer oil.
This means it can replace lower margin customers with ones who will pay a more economic rate for the product and order more regularly.
The upturn in trading conditions were reflected by strong first half results reported last month.
Crucially,  EPA approval  would  for the first time also enable it to source PCB-contaminated oils as feedstock , providing a further fillip for margins. (At present its US refinery is only allowed to handle non PCB waste oil)
McNamara admits the  upgrade of  its customer list  may take “six months, a year or even longer” to complete. “But we are now in a progressive margin improvement phase,” he adds.
The recovery story is an interesting one, but the growth potential lies in Japan, although the agreement with Kobe also covers South Korea, India, China, Taiwan and Vietnam.
As I said earlier, the Japanese lead the way in eradicating PCBs to the point there is strict regulation and legislation that governs the removal of these man-made carcinogens. In March 2010, its process received exclusive approval by the Japanese environmental ministry, effectively  giving  the joint venture a monopoly to recycle PCB toxic oil for the local electricity generation sector.
Hyrdrodec’s technology, the result of an eight-year research and development project between Australia’s Commonwealth Scientific Industrial Research Organisation and the nation’s power industry, is the only re-processing technique in the world that removes PCBs from transformer fluid.
There is  little risk to this 50-50 partnership with Kobe. Hydrodec provides the scientific and technical know-how to build a refinery and the steel giant stumps up the cash to build the plants, which cost around US$20 million to construct.
The partners have identified two sites in Japan, with a third under consideration. First revenues from the partnership are expected to materialise in the second part of 2011.
“We have been given quite a substantial red carpet run in to the market,” McNamara says.
“We allow them to achieve a regulatory objective that can’t be reached without our technology.
“We have a regulated market that coincidentally is designed for our technology. And we have a partner in the Kobe Steel Group that has the resources and capacity to deliver that Japanese marketplace.”