SYNAGRO TECHNOLOGIES INC - 10-K Annual Report

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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K

[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM TO .

COMMISSION FILE NUMBER 0-21054
SYNAGRO TECHNOLOGIES, INC.
(Exact name of Registrant as Specified in its Charter)

DELAWARE 76-0511324
(State or other jurisdiction (I.R.S. employer
of incorporation or organization) identification no.)

1800 BERING DRIVE, SUITE 1000 77057
HOUSTON, TEXAS (Zip Code)
(Address of principal executive offices)

REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(713) 369-1700

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

Common Stock, $.002 par value
Preferred Stock Purchase Rights
(Title of each class)

Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ].

Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]

The number of shares outstanding of the Registrant's Common Stock as of
March 19, 2002, was 19,476,781. The aggregate market value of the 14,955,502
shares of the registrant's Common Stock held by non-affiliates of the
Registrant, based on the market price of the Common Stock of $2.34 per share as
of March 19, 2002, was approximately $34,995,876.

DOCUMENTS INCORPORATED BY REFERENCE

The Proxy Statement for the 2002 Annual Meeting of Stockholders of the
Registrant (Sections entitled "Synagro Common Stock Beneficially Owned by
Directors, Officers and Five Percent Shareholders", "Compensation Tables",
"Executive Officers" and "Proposal 1 -- Election of Directors", and Subsections
entitled "Section 16(a) Beneficial Ownership Reporting Compliance" and "Certain
Transactions") is incorporated by reference in Part III of this Report.
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PART I

ITEM 1. BUSINESS

BUSINESS OVERVIEW

We are a national wastewater residuals management company serving more than
1,000 municipal and industrial wastewater treatment plants and have operations
in 35 states and the District of Columbia. We offer many services that focus on
the beneficial reuse of organic non-hazardous residuals resulting from the
wastewater treatment process. We believe that the services we offer are
compelling to our customers because they allow our customers to avoid the
significant capital and operating costs that they would have to incur if they
internally managed their wastewater residuals.

We provide a broad range of services, including facility operations,
facility cleanout services, regulatory compliance, dewatering, collection and
transportation, composting, drying and pelletization, product marketing,
incineration, alkaline stabilization, and land application. We currently operate
four heat-drying facilities, four composting facilities, three incineration
facilities, one manure-to-energy facility, 27 permanent and 22 mobile dewatering
units, and more than 250 small wastewater treatment plants (ranging from 500
gallons per day to 500,000 gallons per day).

Approximately 80% of our 2001 revenue was generated through more than 450
contracts that range from one to twenty-five years in length. These contracts
have a backlog of approximately $1.8 billion, which represents more than seven
times our 2001 revenue. In general, our contracts contain provisions for
inflation related annual price increases, renewal provisions, and broad force
majeure clauses. Our top ten customers have an average of 11.3 years remaining
on their current contracts, including renewal options. In 2001, we experienced a
contract retention rate (both renewals and rebids) of approximately 90%.

We benefit from significant customer diversification, with our single
largest customer accounting for 14% of our 2001 annual revenues, and our top ten
customers accounting for approximately 34% of our 2001 annual revenues. For the
year ended December 31, 2001, our municipal and industrial customers accounted
for 84% and 11%, respectively, of our revenues.

INDUSTRY OVERVIEW

HISTORY

Most residential, commercial, and industrial wastewater is collected
through an extensive network of sewers and transported to wastewater treatment
plants, which are known as publicly owned treatment works ("POTWs"). When
wastewater is treated at POTWs or at industrial wastewater pre-treatment
facilities, the process separates the liquid portion of the wastewater from the
solids (or wastewater residuals) portion. The water is treated for ultimate
discharge, typically into a river or other surface water. Prior to the
promulgation of the 40 CFR Part 503 Regulations by the Environmental Protection
Agency ("EPA") pursuant to the Clean Water Act ("Part 503 Regulations") in 1993,
most POTWs simply disposed of untreated wastewater residuals through surface
water dumping, incineration, and landfilling. The Part 503 Regulations began a
phase-out of surface water dumping of wastewater residuals and, after one of the
EPA's most thorough risk assessments, encouraged their beneficial reuse. This
created significant growth for the wastewater residuals management industry. To
establish beneficial reuse as an option for wastewater generators, the EPA
established a classification methodology for the wastewater residuals that is
based on how the wastewater residuals are processed. Now, in most cases, the
POTW further processes the wastewater residuals and produces a semisolid,
nutrient-rich byproduct known as biosolids. We use the term "wastewater
residuals" to include both solids that have been treated pursuant to the Part
503 Regulations and those that have not. Biosolids, as a subset of wastewater
residuals, is intended to refer to wastewater solids that meet either the Class
A or Class B standard as defined in the Part 503 Regulations.

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CLASSES OF BIOSOLIDS

When treated and processed according to the Part 503 Regulations, biosolids
can be beneficially reused and applied to crop land to improve soil quality and
productivity due to the nutrients and organic matter that they contain.
Biosolids applied to agricultural land, forest, public contact sites, or
reclamation sites must meet either Class A or Class B pathogen and vector
attraction reduction requirements contained in the Part 503 Regulations. This
classification is determined by the level of processing the biosolids have
undergone. Pursuant to the Part 503 Regulations, there are specific methods
available to achieve Class A standards and other specific methods available to
achieve Class B standards, otherwise the biosolids are considered Sub-Class B.
Each alternative for Class A requires that the resulting biosolids be
essentially pathogen free. In general, Class A biosolids are generated by more
capital intensive processes, such as composting, heat drying, heat treatment,
high temperature digestion and alkaline stabilization. Class A biosolids have
the highest market value, are sold as fertilizer, and can be applied to any type
of land or crop.

Class B biosolids are treated to a lesser degree by processes such as
digestion or alkaline stabilization. These biosolids are typically land applied
on farmland by professional farmers or agronomists and are monitored to comply
with associated federal and state reporting requirements. The Part 503
Regulations, however, regulate the type of agricultural crops for which Class B
biosolids may be used.

Finally, in some cases, the POTW does not treat its wastewater residuals to
either Class A or Class B standards and such residuals are considered Sub-Class
B. These residuals can either be processed to Class A standards or Class B
standards by an outside service provider or disposed of through incineration or
landfilling.

MARKET SIZE/FRAGMENTATION

According to the EPA's 1999 study entitled Biosolids Generation, Use, and
Disposal in the United States, the quantity of municipal biosolids produced in
the United States was projected to be approximately 7.1 million dry tons in
2000, processed through approximately 16,000 POTWs. It is estimated that 8.2
million dry tons of biosolids will be generated in 2010, and that an additional
3,000 POTWs will be built by 2012. It is also estimated that 63% of these
biosolids volumes are currently beneficially reused, growing to 70% in 2010. An
independent study by the Water Infrastructure Network, entitled Clean & Safe
Water for the 21st Century, estimates that municipalities spend more than $22
billion per year on the operations and maintenance of wastewater treatment
plants. We estimate, based on conversations with consulting engineers, that up
to 40% of those annual costs, or $8.8 billion, are associated with the
management of municipal wastewater residuals.

Industry sources estimate that industrial generators of wastewater (such as
food and beverage processors and pulp and paper manufacturers) spend
approximately $7 billion per year on operations and maintenance. Assuming that,
as is the case with POTWs, 40% of these expenditures are associated with the
management of residuals, annual related costs represent approximately $2.8
billion. Therefore, we estimate the total size of the combined municipal and
industrial wastewater residuals market to be $11.6 billion.

An emerging component of the industrial market with significant potential
that we are monitoring closely involves the residuals generated by large
Concentrated Animal Feeding Operations ("CAFOs"). According to the EPA,
agriculture is a contributor to the pollution found in rivers, streams, and
lakes in the United States. The EPA estimates that 376,000 livestock operations
confine animals and generate approximately 64 million tons of manure annually.
Under proposed federal regulations, the largest CAFOs will be required to apply
waste management practices similar to those currently used by municipal and
industrial wastewater generators. We believe that our wastewater residuals
management capabilities will provide us with significant growth opportunities as
this market develops.

We believe that the management of wastewater residuals is a highly
fragmented industry and that we are the only dedicated provider of a full range
of services on a national scale. Historically, POTWs performed the necessary
wastewater residuals management services, but this function is increasingly
being performed by private contractors in an effort to lower cost, increase
efficiency and comply with stricter regulations.

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MARKET GROWTH

We estimate the $11.6 billion wastewater residuals industry will grow at 4
to 5% annually over the next decade. The growth in the underlying volumes of
wastewater residuals generated by the municipal and industrial markets is driven
by a number of factors. These factors include:

Population Growth and Population Served. As the population grows, the
amount of biosolids produced by municipal POTWs is expected to increase
proportionately. In addition to population growth, the amount of residuals
available for reuse should also grow as more of the population is served by
municipal sewer networks. As urban sprawl continues and cities' desires to
annex surrounding areas increases, POTWs will treat more wastewater. It is
expected that the amount of wastewater managed on a daily basis by
municipal wastewater treatment plants will increase more than 40% by 2012,
which should significantly increase the amount of municipal residuals
generated.

Pressures To Better Manage Wastewater. There is tremendous pressure
from many stakeholders, including environmentalists, land owners, and
politicians, being applied to municipal and industrial wastewater
generators to better manage the wastewater treatment process. The costs
(such as regulatory penalties and litigation exposure) of not applying the
best available technology to properly manage waste streams have now grown
to material levels. This trend should continue to drive the growth of more
wastewater treatment facilities with better separation technologies, which
increase the amount of residuals ultimately produced.

Stricter Regulations. If the trend continues and laws and regulations
that govern the quality of the effluent from wastewater treatment plants
become stricter, POTWs and industrial wastewater treatment facilities will
be forced to remove more and more residuals from the wastewater, thereby
increasing the amount of residuals needing to be properly managed. With
respect to industrial generators in the agricultural sector, such as
livestock growers and processors, the pending CAFO regulations being
promulgated by the EPA will have a material impact on how these operations
manage their large production of wastewater. Under proposed federal
regulations, the largest CAFOs will be required to apply waste management
practices similar to those currently used by municipal and other industrial
wastewater generators, thereby significantly increasing the size of the
industrial residuals market.

Advances in Technology. The total amount of residuals produced
annually continues to increase due to advancements in municipal and
industrial wastewater treatment technology. In addition to improvements in
secondary and tertiary treatment methods, which can increase the quantity
of residuals produced at a wastewater treatment plant, segregation
technologies, such as microfiltration, also result in more residuals being
separated from the wastewater.

MARKET TRENDS

In addition to the growth of the underlying volumes of wastewater
residuals, there is a trend of municipalities converting from Sub-Class B and
Class B processes to Class A processes. There are numerous reasons for this
trend, including:

Decaying Infrastructure. Many municipal POTWs operate aging and
decaying wastewater infrastructure. According to the Water Infrastructure
Network's recent study, municipalities will need to spend more than $900
billion over the next 20 years to upgrade these systems. As this effort is
rolled out and POTWs undergo design changes and new construction,
opportunities will exist to also upgrade wastewater residuals treatment
processes. We expect that the trend toward more facility-based approaches,
such as drying and pelletization, will increase with this infrastructure
spending. In addition, the need to provide capital for these expenditures
should create pressures for more outsourcing opportunities.

Shrinking Agricultural Base and Urbanization. As population density
increases, the availability of nearby farmland for land application of
Class B biosolids becomes diminished. Under these circumstances, the
transportation costs associated with a Class B program may increase to such
an extent that

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the higher upfront processing costs of Class A programs may become
attractive to generators. Production of Class A pellets offer significant
volume reduction, greatly reduced transportation costs, and the enhanced
value of pellets allows, in many cases, revenue realization from product
sales.

Public Sentiment. While the Part 503 Regulations provide equal levels
of public safety in the distribution of Class A and Class B biosolids, the
public sometimes perceives a greater risk from the application of Class B
biosolids. This is particularly true in heavily populated areas.
Municipalities are responding to these public and political pressures by
upgrading their programs to the Class A level. Certain municipalities and
wastewater agencies have industry leadership mindsets where they endeavor
to provide their constituents with the highest level, most advanced
treatment technologies available. These agencies will typically fulfill at
least a portion of their residuals management needs with Class A
technologies.

Regulatory Stringency. With the promulgation of the Part 503
Regulations, the EPA and, subsequently, state regulatory agencies have made
the distribution of Class A biosolids products largely unrestricted.
Utilization requirements for Class B biosolids are significantly more
onerous. Based on this, municipalities are moving to Class A programs to
avoid the governmental permitting, public hearings, compliance and
enforcement bureaucracy associated with Class B programs. This regulatory
support to reduce and recycle residuals, and to increase the quality of the
biosolids, works in our favor.

COMPETITIVE STRENGTHS

We believe that we benefit from the following competitive strengths:

BROAD SERVICE OFFERING

We provide our customers with complete, vertically-integrated services and
capabilities, including facility operations, facility cleanout services,
regulatory compliance, dewatering, collection and transportation, composting,
drying and pelletization, product marketing, incineration, alkaline
stabilization, and land application. Advantages to our customers include:

Significant Land Base. We have a large land base available for the
land application of wastewater residuals. We currently maintain permits and
registration or licensing agreements on more than 950,000 acres of land in
29 states. We feel that this land base provides us with an important
advantage when bidding new work and retaining existing business.

Large Range of Processing Capabilities and Product Marketing
Experience. We are one of the most experienced firms in treating
wastewater residuals to meet the EPA's Class A standards. We have numerous
capabilities to achieve Class A standards, and we currently operate four
heat-drying facilities and four composting facilities. In addition, we are
the leader in marketing Class A biosolids either generated by us or by
others. In 2001, we marketed approximately 64% of the heat dried pellets
produced in the United States, produced either by us or by municipally
owned facilities.

Regulatory Compliance and Reporting. An important element for the
long-term success of a wastewater residuals management program is the
certainty of compliance with local, state and federal regulations. Accurate
and timely documentation of regulatory compliance is mandatory. We provide
this service, as part of our turn-key operations, through a proprietary
integrated data management system (the Residuals Management System) that
has been designed to store, manage and report information about our
clients' wastewater residuals programs. We believe that our regulatory
compliance and reporting capabilities provide us with an important
competitive advantage when presented to the municipal and industrial
wastewater generators.

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LARGEST IN SCALE

We are the only national company focused exclusively on wastewater
residuals management services. We believe that our leading market position
provides us with more operating leverage and a unique competitive advantage in
attracting and retaining customers and employees as compared to our regional and
local competitors. We believe the advantages of scale include:

Knowledgeable Sales Force. We have a large sales force dedicated to
the wastewater residuals market. We market our services via a multi-tiered
sales force, utilizing a combination of more than 60 experienced business
developers, engineering support staff, and seasoned operations directors.
This group of individuals is responsible for maintaining our existing
business and identifying new wastewater residuals management opportunities.
On average, these individuals have in excess of 10 years of industry
experience. We believe that their unique knowledge and longstanding
customer relationships gives us a competitive advantage in identifying and
successfully securing new business.

Bonding Capacity. Commercial, federal, state and municipal projects
often require operators to post performance and, in some cases, payment
bonds at the execution of a contract. The amount of bonding capacity
offered by sureties is a function of financial health of the company
requesting the bonding. Operators without adequate bonding may be
ineligible to bid or negotiate on many projects. We have strong bonding
relationships with large national sureties. As of March 13, 2002, we had a
bonding capacity of approximately $140 million with approximately $115
million utilized as of that date. We believe the existing capacity is
sufficient to meet bonding needs for the foreseeable future. To date, no
payments have been made by any bonding company for bonds issued on our
behalf.

Financial Stability. With assets of $446 million and total
capitalization of $391 million as of December 31, 2001, we believe we have
a degree of financial stability greater than our local and regional
competitors, which makes us an attractive long-term partner for municipal
and industrial customers.

BUSINESS STRATEGY

Our goals are to strengthen our position as the only national company
exclusively focused on wastewater residuals management and to continuously
improve our margins. Components of our strategy to achieve these goals include:

INTERNAL GROWTH BASED ON OUTSOURCING

We believe that we have the opportunity to expand our business by providing
services for new customers who currently perform their own wastewater residuals
management, and by increasing the range of services that our existing customers
outsource to us.

Developing New Customers. We estimate that a majority of the
wastewater treatment facilities located in the United States perform their
own wastewater residuals management services. In many cases, we believe
that we can provide the customer with better service at a cost that is
lower than what it costs to provide the service internally. We take a
collaborative approach with potential customers where our sales force
consults with potential customers and positions us as a solution provider.
For example, at a customer's plant in Illinois we recently took over
responsibility for managing 15,000 dry tons per year of lime residuals. By
saving the customer costs by land applying materials as opposed to
landfilling, the customer has now asked us to offer solutions for their
residuals management needs at three other facilities. In addition, because
we do not manufacture equipment we are able to provide unbiased solutions
to our clients' needs.

Expanding Services to Existing Customers. We have the opportunity to
provide many of our existing customers with additional services as part of
a complete residuals management program. We endeavor to educate these
existing customers about the benefits of a complete residuals management
solution and offer other services where the value is compelling. These
opportunities may provide us with long-term contracts, increased barriers
to entry, and better relationships with our customers. For example, we have
made a concerted effort to provide in-plant dewatering services to our
customers, because we

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believe we can typically provide this necessary service below the
customer's internal operating costs. As a result, we now operate more than
22 mobile and 27 permanent dewatering facilities throughout the United
States.

IMPROVE MARGINS

We actively work to improve our margins by increasing revenues while
leveraging our operating infrastructure in the field and our corporate overhead.
This strategy encompasses increasing revenues by providing additional services
to our existing customer base, targeting new work in specific market segments
that have historically generated the highest returns for us, and prospective
marketing initiatives with both industrial and municipal clients to
strategically position us for success in securing new business. By executing
this strategy, we have improved our Adjusted EBITDA margins from 18.3% in 1999
to 23.3% in 2001.

SELECTIVELY SEEK COMPLEMENTARY ACQUISITIONS

We selectively seek strategic opportunities to acquire businesses that
profitably expand our service offerings, increase our geographic coverage, or
increase our customer base. We believe that strategic acquisitions can enable us
to gain efficiencies in our existing operations.

SERVICES AND OPERATIONS

Today, generators of municipal and industrial residuals must provide sound
environmental management practices with limited economic resources. For help
with these challenges, municipal and industrial generators throughout the United
States have turned to us for solutions.

We partner with our clients to develop cost-effective, environmentally
sound solutions to their residuals processing and beneficial use requirements.
We provide the flexibility and comprehensive services that generators need, with
negotiated pricing, regulatory compliance, and operational performance. We work
with our clients to find new and better solutions to their wastewater residuals
management challenges. In addition, because we do not manufacture equipment, we
are able to provide unbiased solutions to our customers' needs. We provide our
customers with complete, vertically-integrated services and capabilities,
including design/build services, facility operations, facility cleanout
services, regulatory compliance, dewatering, collection and transportation,
composting, drying and pelletization, product marketing, incineration, alkaline
stabilization, and land application.

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(GRAPH)

1. Design and Build Services. We designed, built, and operate four heat
drying and pelletization facilities and four composting facilities. We currently
have a new drying facility under construction, which we will operate when it is
completed. We operate three incineration facilities, two of which we have
significantly upgraded and one of which we built. Lastly we designed, built, and
operate over twenty biosolids dewatering facilities. All of our facility design,
construction and operating experience is with biosolids projects.

2. Facility Operations. Our facility operations and maintenance group
provides contract operations to customers that desire to out-source the overall
management of their wastewater treatment facilities. Our operations and
maintenance personnel are experienced in many different types of treatment
processes. Our staff members have operated wastewater treatment plants ranging
in size from 127 million gallons per day down to facilities that serve
individual homes. They have managed processes including activated sludge,
rotating biological contactors, membrane separation, biological nutrient removal
and chemical precipitation. Our maintenance staff provides maintenance and
repair services to municipal and industrial wastewater treatment systems,
including automated instrumentation and controls. Our certified laboratories
provide analytical data that our customers need for regulatory compliance
monitoring. We currently operate over 250 small wastewater treatment plants
(ranging from 500 gallons per day to over 500,000 gallons per day).

3. Facility Cleanout Services. Our facility cleanout services focus on
the cleaning and maintenance of the digesters at municipal and industrial
wastewater facilities. Digester cleaning involves complex operational and safety
considerations. Our self-contained pumping systems and agitation equipment
remove a high percentage of biosolids without the addition of large quantities
of dilution water. This method provides our customers a low bottom-line cost per
dry ton of solids removed. Solids removed from the digesters can either be
recycled through our ongoing agricultural land application programs or
landfilled.

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4. Regulatory Compliance. An important element for the long-term success
of a wastewater residuals management program is the certainty of compliance with
local, state and federal regulations. Accurate and timely documentation of
regulatory compliance is mandatory. We provide this service through our
proprietary Residuals Management System (RMS).

RMS is an integrated data management system that has been designed to
store, manage and report information about our clients' wastewater residuals
programs. Every time our professional operations or technical staff perform
activities relating to a particular project, RMS is updated to record the
characteristics of the material, how much material was moved, when it was moved,
who moved it and where it went. In addition to basic operational information,
laboratory analyses are input in order to monitor both annual and cumulative
loading rates for metals and nutrients. This loading information is coupled with
field identification to provide current information for agronomic application
rate computations.

This information is used in two ways. First and foremost, it provides a
database for regulatory reporting and provides the information required for
monthly and annual technical reports that are sent to the EPA and state
regulatory agencies. Second, information entered into RMS is used as an
important part of the invoicing process. This check and balance system provides
a link between our operational, technical and accounting departments to ensure
correct accounting and regulatory compliance.

RMS is a tool that gives our clients timely access to information regarding
their wastewater residuals management program. We continue to dedicate resources
to the continuous improvement of RMS. We believe that our regulatory compliance
and reporting capabilities provide us with a competitive advantage when
presented to the municipal and industrial wastewater generators.

5. Dewatering. We provide residuals dewatering services for wastewater
treatment facilities on either a permanent, temporary or emergency basis. These
services include design, procurement, and operations. We provide the staffing to
operate and maintain these facilities to ensure satisfactory operation and
regulatory compliance of the residuals management program. We currently operate
27 permanent and 22 mobile dewatering facilities.

6. Collection and Transportation. For our liquid residuals operations, a
combination of mixers, dredges and/or pumps are used to load our tanker
trailers. These tankers transport the residuals to either a land application
site or one of our residuals processing facilities. For our dewatered residuals
operations, the dewatered residuals are loaded into trailers by either front end
loaders or conveyors. These trailers are then transported to either land
application sites or to one of our residuals processing facilities.

7. Composting. For composting projects, we provide a comprehensive range
of technologies, operations services and end product marketing through our
various divisions and regional offices. All of our composting alternatives
provide high-quality Class A products that we market to landscapers, nurseries,
farms and fertilizer companies through our Organic Product Marketing Group
described below. In some cases, fertilizer companies package the product and
resell it for home consumer use. We utilize three different types of composting
methodologies: aerated static pile, in-vessel, and open windrow. Aerated static
pile composting offers economic advantages when a totally enclosed facility is
not required. In-vessel composting uses an automated, enclosed system that
mechanically agitates and aerates blended organic materials in concrete bays. We
also offer the windrow method of composting to clients with favorable climatic
conditions. In areas with a hot, dry climate, the windrow method lends itself to
the efficient evaporation of excess water from dewatered residuals. This makes
it possible to minimize or eliminate any need for bulking agents other than
recycled compost. We currently operate four composting facilities and one
manure-to-energy facility.

8. Drying and Pelletizing. The heat drying process utilizes a
recirculating system to evaporate water from wastewater residuals and create
pea-sized pellets. A critical aspect of any drying technology is its ability to
produce a consistent and high quality Class A end product that is marketable to
identified end-users. This requires the system to manufacture pellets that meet
certain criteria with respect to size, dryness, dust elimination,
microbiological cleanliness, and durability. We market heat dried biosolids
products to the agricultural and fertilizer industries through our Organic
Product Marketing Group described below.

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We built and currently operate four drying and pelletization facilities
with municipalities including Baltimore, Maryland; Hagerstown, Maryland; and New
York, New York. We are currently in the construction phase of a drying and
pelletization facility for Pinellas County, Florida, which we will operate when
it is completed.

9. Product Marketing. In 1992, we formed the Organic Product Marketing
Group (OPMG) to market composted and pelletized biosolids from our own
facilities as well as municipally owned facilities. OPMG currently markets in
excess of 500,000 yards of compost and 155,000 tons of pelletized biosolids
annually. OPMG markets a majority of its biosolids products under the trade
names Granulite(TM) and AllGro(TM). Based on our experience, OPMG is capable of
marketing biosolids products to the highest paying markets. We are the leader in
marketing end use wastewater residuals products, such as compost and heat dried
pellets used for fertilizers, and in 2001 we marketed approximately 64% of the
heat dried pellets produced in the United States.

10. Incineration. In the Northeast, we economically and effectively
process wastewater residuals through the utilization of the proven thermal
processing technologies of multiple-hearth and fluid bed incineration. In
multiple-hearth processing, residuals are fed into the top of the incinerator
and then mechanically passed down to the hearths below. The heat from the
burning residuals in the middle of the incinerator dries the residuals coming
down from the top until they begin to burn. Since residuals have approximately
the same British thermal unit value as wood chips, very little additional fuel
is needed to make the residuals start to burn. The resulting ash by-product is
non-toxic and inert, and can be beneficially used as alternative daily cover for
landfills. In fluid bed processing, residuals are pumped directly into a boiling
mass of super heated sand and air (the fluid bed) that vaporizes the residuals
on contact. The top of the fluid bed burns off any remaining compounds resulting
in very low air emissions and very little ash by-product. Computerized control
of the entire process makes this modern technology fuel efficient, easy to
operate, and an environmentally friendly disposal method. We currently operate
three incineration facilities.

11. Alkaline Stabilization. We provide alkaline stabilization services by
using lime to treat Sub-Class B biosolids to Class-B standards. Lime chemically
reacts with the residuals and creates a Class B product. We offer this treatment
process through our BIO*FIX process. Due to its very low capital cost, BIO*FIX
is used in interim and emergency applications as well as long-term programs. The
BIO*FIX process is designed to effectively inactivate pathogenic microorganisms
and to prevent vector attraction and odor. The BIO*FIX process combines specific
high-alkalinity materials with residuals at minimal cost. During the past
several years, our engineers have developed and improved the BIO*FIX chemical
formulations, material handling and instrumentation and control systems in
concert with clients, federal and state regulators, consulting engineers and
academic researchers.

12. Land Application. The beneficial reuse of municipal and industrial
biosolids through land application has been successfully performed in the United
States for more than 100 years. Direct agricultural land application has the
proven benefits of fertilization and organic matter addition to the soil.
Agricultural communities throughout the country are well acquainted with the
practice of land application of biosolids and have first hand experience with
the associated agricultural and environmental benefits. Currently, we recycle
Class B biosolids through agricultural land application programs in 29 states.
Our revenues from land application services are the highest among our service
offerings.

CONTRACTS

Approximately 80% of our annual revenue is generated through more than 450
contracts with original terms that range from one to twenty-five years in
length. These contracts have a backlog of approximately $1.8 billion, of which
we estimate approximately $200 million will be realized in 2002. Our December
31, 2001 backlog represents more than seven times our 2001 revenue. In general,
our contracts contain provisions for inflation related annual price increases,
renewal provisions, and broad force majeure clauses. Our top ten customers have
an average of 11.3 years remaining on their current contracts, including renewal
options. In addition, we have experienced a historical contract renewal rate
greater than 90%.

9

Although we have a standard form of agreement, terms may vary depending
upon the customer's service requirements and the volume of residuals generated
and, in some situations, requirements imposed by statute or regulation.
Contracts associated with our land application business are typically two to
four year exclusive arrangements excluding renewal options. Contracts associated
with drying and pelletizing, incineration or composting are typically longer
term contracts, from five to 20 years, excluding renewal options, and typically
include provisions such as put-or-pay arrangements and estimated changes in the
consumer price index for contracts that contain price indexing. Other services
such as cleanout and dewatering typically may or may not be under long-term
contract depending on the circumstances.

The majority of our contracts are with municipal entities. Typically a
municipality will advertise a request for proposal, and numerous entities will
bid to perform the services requested. Often the municipality will choose the
best qualified bid, weighing multiple factors including range of services
provided, experience, financial capability and lowest cost. The successful
bidder then enters into contract negotiations with the municipality.

Contracts typically include provisions relating to the allocation of risk,
insurance, certification of the material, force majeure conditions, change of
law situations, frequency of collection, pricing, form and extent of treatment,
and documentation for tracking purposes. Many of our agreements with
municipalities and water districts provide options for extension without the
necessity of going to bid. In addition, many contracts have termination
provisions that the customer can exercise; however, in most cases, such
terminations create obligations to our customers to compensate us for lost
profits.

BACKLOG

At December 31, 2001, our estimated remaining contract value, which we call
backlog, was $1.8 billion. In determining backlog, we calculate the expected
payments remaining under the current terms of our contracts, assuming the
renewal of contracts in accordance with their renewal provisions, no increase in
the level of services during the remaining term, and estimated adjustments for
changes in the consumer price index for contracts that contain price indexing.
However, on the same basis, except assuming the renewal provisions are not
exercised, we estimate our backlog at December 31, 2001 would have been $1.2
billion. These estimates are based on our operating experience, and we believe
them to be reasonable. However, there can be no assurance that our backlog will
be realized as contract revenue or earnings.

SALES AND MARKETING

We have a sales and marketing group which has developed and is implementing
a comprehensive internal growth strategy which is to expand our business by
providing services for new customers who currently perform their own wastewater
residuals management, and by increasing the range of services that our existing
customers outsource to us.

In addition, to maintain our existing market base, we endeavor to achieve a
100% renewal rate on expiring service contracts. For 2001, we achieved
approximately a 90% renewal rate. We believe that the ability to renew existing
contracts is a direct indication of the level of customer satisfaction with our
operations. Although we value our current customer base, our focus is to
increase revenues that generate long-term, stable income at acceptable margins
rather than simply increasing market share.

Our sales and marketing group also works with our operations staff which
typically respond to requests to proposals for routine work that is awarded to
the lowest cost bidder. This allows our sales and marketing group to focus on
prospective rather than reactive marketing activities. Our sales and marketing
group is focused on developing new business from specific market segments that
have historically netted the highest returns. These are segments where we
believe we should have an enhanced competitive advantage due to the complexity
of the job, the proximity of the work to our existing business, or a unique
technology or facility that we are able to offer. We seek to maximize profit
potential by focusing on negotiated versus low-bid procurements, long versus
short-term contracts and projects with multiple services. In addition, we are
focusing on the rapidly growing Class A market. Our sales incentive program is
designed to reward the sales force for success in these target markets.
10

We proactively approach municipal market segments, as well as new
industrial segments, through professional services contracts. We are in a unique
industry position to successfully market through professional services
contracts, because we are an operations company that is solution and technology
neutral as we offer virtually every type of proven service category marketed in
the industry today. This means we can customize a wastewater residuals
management program for a client with no technology or service category bias.

ACQUISITIONS HISTORY

Historically, acquisitions have been an important part of our growth
strategy. We completed a total of 16 acquisitions from 1998 through 2000,
highlighted by our last acquisition in August 2000 of Waste Management's Bio Gro
Division. Bio Gro had been the one of the largest providers of wastewater
residuals management services in the United States, with 1999 annual revenues of
$118 million and EBITDA of $27 million. Bio Gro provided wastewater residuals
management services in 24 states and was the market leader in thermal drying and
pelletization. Other acquisitions from 1998 to the present include the
following:

With the Bio Gro acquisition in August 2000, we substantially grew our service
offerings and geographic coverage. As a result, we have shifted our focus to
internal growth. We will continue to selectively seek acquisitions if
strategically and economically attractive.

COMPETITION

We provide a variety of services relating to the transportation and
treatment of wastewater residuals. We are not aware of another company focused
exclusively on the management of wastewater residuals from a national
perspective. We have several types of direct competitors. These include small
local companies, regional residuals management companies and national and
international water and wastewater operations/ privatization companies.

We compete with these competitors through several mechanisms including
providing quality services at competitive prices, partnering with technology
providers to offer proprietary processing systems, and utilizing strategic land
application sites. Municipalities often structure bids for large projects based
on the best qualified bid, weighing multiple factors, including experience,
financial capability and lowest cost. We also believe that the full range of
wastewater residuals management services we offer provide a competitive
advantage over other entities offering a lesser complement of services.

11

In many cases, municipalities and industries choose not to outsource their
residuals management needs. In the municipal market, we estimate that up to 60%
of the POTW plants are not privatized. We are actively reaching out to this
segment to persuade them to explore the benefits of outsourcing these services
to us. For these generators we can offer increased value through numerous areas,
including lower cost, ease of management, technical expertise, liability
assumption/risk management, access to capital or technology and performance
guarantees.

FEDERAL, STATE AND LOCAL GOVERNMENT REGULATION

Federal and state environmental authorities regulate the activities of the
municipal and industrial wastewater generators and enforce standards for the
discharge from wastewater treatment plants (effluent wastewater) with permits
issued under the authority of the Clean Water Act, as amended, and state water
quality control acts. The treatment of wastewater produces an effluent and
wastewater solids. The treatment of these solids produces biosolids. To the
extent demand for our residuals treatment methods is created by the need to
comply with the environmental laws and regulations, any modification of the
standards created by such laws and regulations may reduce the demand for our
residuals treatment methods. Changes in these laws or regulations, or in their
enforcement, may also adversely affect our operations by imposing additional
regulatory compliance costs on us, requiring the modification of and/or
adversely affecting the market for our wastewater residuals management services.

The Comprehensive Environmental Response, Compensation and Liability Act
("CERCLA") generally imposes strict joint and several liability for cleanup
costs upon: (1) present owners and operators of facilities at which hazardous
substances were disposed; (2) past owners and operators at the time of disposal;
(3) generators of hazardous substances that were disposed at such facilities;
and (4) parties who arranged for the disposal of hazardous substances at such
facilities. CERCLA Section 107 liability extends to cleanup costs necessitated
by a release or threat of release of a hazardous substance. However, the
definition of "release" under CERCLA excludes the "normal application of
fertilizer." The EPA regulations regard biosolids applied to land as a
fertilizer substitute or soil conditioner. The EPA has indicated in a published
document that it considers biosolids applied to land in compliance with the
applicable regulations not to constitute a "release." However, the land
application of biosolids that do not comply with Part 503 Regulations could be
considered a release and lead to CERCLA liability. Monitoring as required under
Part 503 Regulations is thus very important. Although the biosolids and alkaline
waste products may contain limited quantities or concentrations of hazardous
substances (as defined under CERCLA), we have developed plans to manage the risk
of CERCLA liability, including training of operators, regular testing of the
biosolids and the alkaline admixtures to be used in treatment methods and
reviewing incineration and other permits held by the entities from which
alkaline admixtures are obtained.

PERMITTING PROCESS

We operate in a highly regulated environment and the wastewater treatment
plants and other plants at which our biosolids management services may be
provided are usually required to have permits, registrations and/or approvals
from federal, state and/or local governments for the operation of such
facilities.

Many states, municipalities and counties have regulations, guidelines or
ordinances covering the land application of Class B biosolids, many of which set
either a maximum allowable concentration or maximum pollutant-loading rate for
at least one pollutant. The Part 503 Regulations also require monitoring Class B
biosolids to ensure that certain pollutants or pathogens are below thresholds.
The EPA has considered increasing these thresholds or adding new thresholds for
different substances, which could increase our compliance costs. In addition,
some states have established management practices for land application of Class
B biosolids. In some jurisdictions, state and/or local authorities have imposed
permit requirements for, or have prohibited, the land application or
agricultural use of Class B biosolids. There can be no assurance that any such
permits will be issued or that any further attempts to require permits for, or
to prohibit, the land application or agricultural use of Class B biosolids
products will not be successful.

12

Any of the permits, registrations or approvals noted above, or applications
therefore may be subject to denial, revocation or modification under various
circumstances. In addition, if new environmental legislation or regulations are
enacted or existing legislation or regulations are amended or are enforced
differently, we may be required to obtain additional, or modify existing,
operating permits, registrations or approvals. The process of obtaining or
renewing a required permit, registration or approval can be lengthy and
expensive and the issuance of such permit or the obtaining of such approval may
be subject to public opposition or challenge. Much of this public opposition or
challenge, as well as related complaints, relates to odor issues, even when we
are in compliance with odor requirements and even though we have worked hard to
minimize odor from our operations. There can be no assurances that we will be
able to meet applicable regulatory requirements or that further attempts by
state or local authorities to prohibit, or public opposition or challenge to,
the land application, agricultural use of biosolids, thermal processing or
biosolids composting will not be successful.

PATENTS AND PROPRIETARY RIGHTS

We have several patents and licenses relating to the treatment and
processing of biosolids. We believe that our patents are important to our
prospects for future success. However, we cannot be certain that future patent
applications will issue as patents or that any issued patents will give us a
competitive advantage. It is also possible that our patents could be
successfully challenged or circumvented by competition or other parties. In
addition, we cannot assure that our treatment processes do not infringe patents
or other proprietary rights of other parties.

In addition, we make use of our trade secrets or "know-how" developed in
the course of our experience in the marketing of our services. To the extent
that we rely upon trade secrets, unpatented know-how and the development of
improvements in establishing and maintaining a competitive advantage in the
market for our services, we can provide no assurances that such proprietary
technology will remain a trade secret or that others will not develop
substantially equivalent or superior technologies to compete with our services.

EMPLOYEES

As of March 13, 2002, we had approximately 906 full-time employees. These
employees include: eight executive officers, 15 non-executive officers, 116
operations managers, 57 environmental specialists, 64 maintenance personnel, 179
drivers and transportation personnel, 99 land application specialists, 101
general operation specialists, 29 sales employees and 86 financial and
administrative employees. Additionally, we use contract labor for various
operating functions, including hauling and spreading services, when it is
economically advantageous.

Although we have 39 union employees, our employees are generally not
represented by a labor union or covered by a collective bargaining agreement. We
believe we have good relations with our employees. We provide our employees with
certain benefits, including health, life, dental, and accidental death and
disability insurance and 401(k) benefits.

POTENTIAL LIABILITY AND INSURANCE

The wastewater residuals management industry involves potential liability
risks of statutory, contractual, tort, environmental and common law liability
claims. Potential liability claims could involve, for example:

- personal injury;

- damage to the environment;

- violations of environmental permits;

- transportation matters;

- employee matters;

- contractual matters;

13

- property damage; or

- alleged negligence or professional errors or omissions in the planning or
performance of work.

We could also be subject to fines or penalties in connection with
violations of regulatory requirements.

We carry $51 million of liability insurance (including umbrella coverage),
and under a separate policy, $10 million of aggregate pollution and legal
liability insurance ($10 million each loss) subject to retroactive dates, which
we consider sufficient to meet regulatory and customer requirements and to
protect our employees, assets and operations. There can be no assurance that we
will not face claims under CERCLA or similar state laws resulting in substantial
liability for which we are uninsured and which could have a material adverse
effect on our business.

Our insurance programs utilize large deductible/self-insured retention
plans offered by a commercial insurance company. Large deductible/self-insured
retention plans allow us the benefits of cost-effective risk financing while
protecting us from catastrophic risk with specific stop loss insurance limiting
the amount of self-funded exposure for any one loss and aggregate stop loss
insurance limiting the self-funding exposure for any one year.

ITEM 2. PROPERTIES

We currently lease approximately 11,300 square feet of office space at our
principal place of business located in Houston, Texas. We also lease regional
operational facilities in: Houston, Texas; Corona, California; Advance, North
Carolina; Millersville, Maryland; Baltimore, Maryland; and Miamisburg, Ohio, and
have 11 district offices throughout the United States.

We own and operate four drying and pelletization facilities; one located in
New York, New York, two in Baltimore, Maryland and one in Hagerstown, Maryland.
We also operate three incineration facilities located in Woonsocket, Rhode
Island; Waterbury, Connecticut; and New Haven, Connecticut. Additionally, we own
property in Salome, Arizona, Maysville, Arkansas, Lancaster, California, King
George, Virginia, and Wicomico County, Maryland. These properties are utilized
for composting, storage or land application.

We maintain permits, registrations or licensing agreements on more than
950,000 acres of land in 29 states for applications of biosolids.

ITEM 3. LEGAL PROCEEDINGS

Our business activities are subject to environmental regulation under
federal, state and local laws and regulations. In the ordinary course of
conducting our business activities, we become involved in judicial and
administrative proceedings involving governmental authorities at the federal,
state and local levels. We believe that these matters will not have a material
adverse effect on our business, financial condition and results of operations.
However, the outcome of any particular proceeding cannot be predicted with
certainty. We are required, under various regulations, to procure licenses and
permits to conduct our operations. These licenses and permits are subject to
periodic renewal without which our operations could be adversely affected. There
can be no assurance that regulatory requirements will not change to the extent
that it would materially affect our consolidated financial statements.

MARSHALL CASE

In January 2002, we settled a lawsuit that was filed in Rockingham County
Superior Court, New Hampshire in November 1998. The plaintiff claimed that the
death of an individual was allegedly caused by exposure to certain biosolids
land applied by one of our wholly owned subsidiaries. The plaintiff in the
settlement represented that there was no scientific support to the allegations
as previously alleged.

RIVERSIDE COUNTY

We operate a composting facility in Riverside County, California, under a
conditional use permit ("CUP") that expires January 1, 2010. The CUP allows for
a reduction in material intake and CUP term in

14

the event of noncompliance with the CUP's terms and conditions. In response to
alleged noncompliance due to excessive odor, on or about June 22, 1999, the
Riverside County Board of Supervisors attempted to reduce our intake of
biosolids from 500 tons per day to 250 tons per day. We believe that this was
not an authorized action for the Board of Supervisors. On September 15, 1999, we
were granted a preliminary injunction restraining and enjoining the County of
Riverside ("County") from restricting our intake of biosolids at our Riverside
composting facility.

In the lawsuit that we filed in the Superior Court of California, County of
Riverside, we have also complained that the County's treatment of us is in
violation of our civil rights under U.S.C. Section 1983 and that our due process
rights were being affected because the County was improperly administering the
odor protocol in the CUP. The County alleges that the odor "violations," as well
as our actions in not reducing intake, could reduce the term of the CUP to
January 2002. We disagree and are challenging the County's position in the
lawsuit.

No trial date has been set at this time. The case is currently subject to
an agreed stay and we continue to operate under the existing CUP while the
parties explore settlement. The parties have executed a Memorandum of
Understanding signed by the Board of Supervisors of the County which provides
for a plan to relocate the compost facility to a piece of land owned by the
County.

Whether or not the parties reach settlement based on the terms of the
Memorandum of Understanding, the site may be closed, we may incur additional
costs related to contractual agreements, relocation and site closure, as well as
the need to obtain new permits (including some from the County) at a new site.
If the Company is unsuccessful in its efforts, goodwill and certain assets may
be impaired. Total goodwill associated with the operations is approximately
$13,843,000 at December 31, 2001. The financial impact associated with a site
closure cannot be reasonably estimated at this time. Although we feel that our
case is meritorious, the ultimate outcome cannot be determined at this time.

RELIANCE INSURANCE

For the 24 months ended October 31, 2000 (the "Reliance Coverage Period"),
we insured certain risks, including automobile, general liability, and worker's
compensation, with Reliance National Indemnity Company ("Reliance") through
policies totaling $26 million in annual coverage. On May 29, 2001, the
Commonwealth Court of Pennsylvania entered an order appointing the Pennsylvania
Insurance Commissioner as Rehabilitator and directing the Rehabilitator to take
immediate possession of Reliance's assets and business. On June 11, 2001,
Reliance's ultimate parent, Reliance Group Holdings, Inc., filed for bankruptcy
under Chapter 11 of the United States Bankruptcy Code of 1978, as amended. On
October 3, 2001, the Pennsylvania Insurance Commissioner removed Reliance from
rehabilitation and placed it into liquidation.

On January 21, 2000, several plaintiffs filed suit in the District Court of
Jackson County, Texas (the "Lopez Suit") against our wholly owned subsidiary,
Synagro of Texas-CDR, Inc. The Lopez Suit was later amended to name us as an
additional defendant. The suit arises out of an automobile accident involving a
vehicle operated by Synagro of Texas-CDR, Inc., in which one person was killed
and two others were injured. The Lopez Suit was set for trial in November 2001;
however, on October 16, 2001, as a result of the Texas Insurance Commissioner's
finding that Reliance was impaired, a notice of an automatic 180-day stay was
filed in the Lopez Suit. The stay will expire April 5, 2002, and the Lopez Suit
is set for trial on May 13, 2002, with a backup trial setting of June 17, 2002.
The Lopez plaintiffs are seeking unspecified damages from us and our affiliates.
On November 13, 2001, we filed a petition for intervention in the Pennsylvania
Court requesting that the Court approve and order Reliance to fund an $11.9
million settlement that Reliance had proposed regarding the Lopez Suit (the
"Intervention Action").

We are vigorously defending ourselves against this lawsuit. In addition,
other third parties have asserted claims and/or brought suit against us and our
affiliates related to alleged acts or omissions occurring during the Reliance
Coverage Period. It is possible, depending on the outcome of the AON Suit
(discussed below) and the Intervention Action, and possible claims made with the
Texas Property and Casualty Insurance Guaranty Association, that we will have no
(or insufficient) insurance funds available to pay any potential losses. There
are uncertainties relating to: (1) our ultimate liability, if any, for damages
in the Lopez Suit or

15

the other cases arising during the covered period; (2) the availability of the
insurance coverage; (3) the potential for recovery from the AON Suit; (4) the
Intervention Action; and (5) possible recovery from the Texas Property and
Casualty Insurance Guaranty Association.

Based upon information available as of March 13, 2002, we have estimated
that our net probable exposure for unpaid insurance claims and other costs for
which coverage may not be available due to the pending liquidation of Reliance
is $1.9 million and, accordingly, have recorded a special charge of $2.2 million
in our December 31, 2001, financial statements to record the estimated exposure
for this matter and related legal expenses. Although we believe $1.9 million of
the charge represents our current probable exposure related to the Reliance
matter, the final resolution could be substantially different from the amount
recorded.

AON

On October 4, 2001, we filed suit in the 24th Judicial District Court of
Jackson County, Texas, against our insurance broker, AON Risk Services of Texas,
Inc. ("AON"), and the several insurance companies that reinsured the policies
issued by Reliance (the "Reinsurers") (the "AON Suit"). In the AON Suit, we are
seeking a judgment against AON for any and all sums that we may become liable
for as a result of any settlement of, or the entry of any judgment in, the Lopez
Suit, and any and all costs associated with defense thereof, as a result of our
assertion of negligence by AON in placing the entirety of our insurance coverage
with Reliance and AON's failure to obtain "cut through endorsements" to the
Reliance policies which would enable us to proceed directly against the
Reinsurers. We are also seeking a declaratory judgment against the Reinsurers
declaring that the Reinsurers owe us a duty of defense and indemnity in the
Lopez Suit as a result of the Reinsurers' participation in the investigation,
evaluation, and handling of the Lopez Suit, as a result of any "cut through
endorsements" that may have been obtained by AON, and by virtue of a "fronting
arrangement" whereby most or all of certain Reliance policies were reinsured.
The AON Suit is at an early stage, and the ultimate outcome of this litigation,
including amounts, if any, that may be recovered by us, cannot be determined at
this time.

OTHER

There are various other lawsuits and claims pending against us that have
arisen in the normal course of our business and relate mainly to matters of
environmental, personal injury and property damage. The outcome of these matters
is not presently determinable but, in the opinion of our management, the
ultimate resolution of these matters will not have a material adverse effect on
our consolidated financial condition or results of operations.

16

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

COMMON STOCK PRICE RANGE

The Company's Common Stock is listed on the Nasdaq SmallCap Market
("Nasdaq"), and trades under the symbol "SYGR." The following table presents the
high and low closing prices for the Company's Common Stock for each fiscal
quarter of the Company's fiscal years ended 2001 and 2000, as reported by the
Nasdaq.

As of March 19, 2002, the Company had 19,476,781 shares of Common Stock
issued and outstanding. On that date, there were 254 holders of record of the
Company's Common Stock.

DIVIDEND POLICY

Historically, the Company has reinvested earnings available for
distribution to holders of Common Stock, and accordingly, the Company has not
paid any cash dividends on its Common Stock. Although the Company intends to
continue to invest future earnings in its business, it may determine at some
future date that payment of cash dividends on Common Stock would be desirable.
The payment of any such dividends would depend, among other things, upon the
earnings and financial condition of the Company. Further, the Company has bank
and preferred stock covenants restricting dividend payments.

17

ITEM 6. SELECTED FINANCIAL DATA

The following table summarizes selected consolidated financial data of the
Company for each fiscal year of the five-year period ended December 31, 2001.
The following selected consolidated financial data has been restated for the
acquisition of National Resource Recovery, Inc. in 1999, which was accounted for
as a pooling-of-interests and should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the Consolidated Financial Statements, including the notes thereto, included
elsewhere herein.

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

OVERVIEW

The following is a discussion of our results of operations and financial
position for the periods described below. This discussion should be read in
conjunction with the consolidated financial statements included herein. Our
discussion of our results of operations and financial condition includes various
forward-looking statements about our markets, the demand for our products and
services and our future results. These statements are based on certain
assumptions that we consider reasonable. Our actual results may differ
materially from these indicated forward-looking statements. For information
about these assumptions and other risks and exposures relating to our business
and our company, you should refer to the section entitled "Risks Relating to
Forward-Looking Statements."

RECENT DEVELOPMENTS

On March 22, 2002, we announced that we intend to sell up to $150,000,000
in principal amount of Senior Subordinated Notes due 2009. We plan to use the
net proceeds from the sale of the notes, along with approximately $71 million we
plan to borrow under a proposed $150 million senior credit facility, to pay off
approximately $162 million of outstanding indebtedness under our existing credit
facility and approximately $53 million of our 12% subordinated debt.

BACKGROUND

We generate substantially all of our revenue by providing wastewater
residuals management services to municipal and industrial customers. We provide
our customers with complete, vertically-integrated services and capabilities,
including facility operations, facility cleanout services, regulatory
compliance, dewatering, collection and transportation, composting, drying and
pelletization, product marketing, incineration, alkaline stabilization, and land
application. We currently serve more than 1,000 customers in 35 states and the
District of Columbia. Our contracts typically have inflation price adjustments,
renewal clauses and broad force majeure provisions. In 2001, we experienced a
contract retention rate (both renewals and rebids) of approximately 90%.

Revenues under our facilities operations and maintenance contracts are
recognized either when wastewater residuals enter the facilities or when the
residuals have been processed, depending on the contract terms. All other
revenues under service contracts are recognized when the service is performed.
We provide for losses in connection with long-term contracts where an obligation
exists to perform services and it becomes evident that the projected contract
costs will exceed the related revenue.

Our costs relating to service contracts include processing, transportation,
spreading and disposal costs, and depreciation of operating assets. Our costs
relating to construction contracts primarily include subcontractor costs related
to design, permit and general construction. Our selling, general and
administrative expenses are comprised of accounting, information systems,
marketing, legal, human resources, regulatory compliance, and regional and
executive management costs. Historically, we have included amortization of
goodwill resulting from acquisitions as a separate line item in our income
statement. Beginning January 1, 2002, goodwill will no longer be amortized in
accordance with SFAS No. 142, "Goodwill and Other Intangible Assets."

19

RESULTS OF OPERATIONS

The following table sets forth certain items included in the Selected
Financial Data as a percentage of revenue for the periods indicated:

RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2001 AND 2000

For the year ended December 31, 2001, revenue was approximately
$260,196,000 compared to approximately $163,098,000 for the same period in 2000,
an increase of approximately $97,098,000, or 59.5%. The increase primarily
relates to the full year effect on revenues from our acquisitions in 2000 and
internal growth.

Cost of services and gross profit for the year ended December 31, 2001,
were approximately $192,919,000 and $67,277,000, respectively, compared to
approximately $119,900,000 and $43,198,000, respectively, for the year ended
2000, resulting in a decrease in gross profit as a percentage of revenue from
26.5% in 2000 to 25.9% in 2001. The decrease in gross profit as a percentage of
revenue is primarily attributable to pass through construction revenue on a
$4,500,000 contract to design and build a manure-to-energy anaerobic digester
facility for the Inland Empire Utilities Agency and lower margins on another
contract that is incurring startup expenses.

Selling, general and administrative expenses were approximately $20,786,000
for the year ended December 31, 2001, compared to approximately $14,337,000 for
2000, an increase of approximately $6,449,000 or 45.0%. The increase relates
primarily to personnel added as a result of our acquisitions in 2000. Selling,
general and administrative expenses decreased from 8.8% of revenue in 2000 to
8.0% of revenue in 2001. The decrease relates to leverage of certain fixed
administrative costs and cost savings resulting from the integration of our
acquisitions in 2000.

Amortization of goodwill increased from approximately $3,516,000 in 2000 to
approximately $4,489,000 in 2001 due to full year amortization on our
acquisitions in 2000.

Special (credits) charges, net totaling approximately $4,982,000 in 2001
included an approximately $6,043,000 nonrecurring gain from a litigation
settlement related to claims between us and Azurix Corp. arising from financing
and merger discussions between the companies that were terminated in October
1999 and settled in September 2001, an approximately $1,100,000 gain resulting
from the settlement of other litigation, partially offset by a $2,161,000 charge
for our estimated net exposure for unpaid insurance claims and other costs
related to our 1998 and 1999 policy periods with our previous underwriter,
Reliance Insurance Company, which is in insolvency proceedings. There were no
special charges or credits in 2000.

As a result of the foregoing, income from operations for the year ended
December 31, 2001, was approximately $46,984,000 compared to approximately
$25,345,000 for the same period in 2000, an increase

20

of approximately $21,639,000 or 85.4%. Income from operations, excluding the
special (credit) charges, net, as a percentage of revenue increased from 15.5%
in 2000 to 16.2% in 2001.

Interest expense for the year ended December 31, 2001, was approximately
$26,969,000 compared to approximately $18,908,000 for the same period in 2000.
Interest expense as a percent of revenue decreased from 11.6% in 2000 to 10.4%
in 2001. The increase in interest expense is related to the additional debt
incurred to finance our acquisitions in 2000 partially offset by interest
savings due to approximately $27,000,000 of principle payments made in 2001 from
cash generated from operations and lower market interest rates on our floating
rate debt.

Other income for the year ended December 31, 2001, was approximately
$221,000 compared to approximately $114,000 for the same period in 2000. The
increase relates primarily to gains on sale of assets.

For the year ended December 31, 2001, we recorded a provision for income
taxes of approximately $573,000 as the prior year valuation allowance related to
certain deferred tax assets no longer offset deferred tax provision
requirements. See Note 7 in the accompanying notes to consolidated financial
statements.

As a result of the foregoing, net income before cumulative effect of change
in accounting for derivatives, preferred stock dividends, and noncash beneficial
conversion charges of approximately $19,664,000 was reported for the year ended
December 31, 2001, compared to approximately $6,551,000 for the same period in
2000.

RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2000 AND 1999

For the year ended December 31, 2000, revenue was approximately
$163,098,000 compared to approximately $56,463,000 for the same period in 1999,
an increase of approximately $106,635,000, or 188.9%. The increase relates
primarily to additional revenue from our acquisitions in 2000 and 1999.

Cost of operations and gross profit for the year ended December 31, 2000,
were approximately $119,900,000 and $43,198,000, respectively, compared to
approximately $42,471,000 and $13,992,000, respectively, for the year ended
1999, resulting in an increase in gross profit as a percentage of revenue to
26.5% in 2000 from 24.8% in 1999. The increase in gross profit as a percentage
of revenue is primarily attributable to the addition of higher margin drying and
pelletization, and incineration services resulting from certain acquisitions
completed in 2000.

Selling, general and administrative expenses were approximately $14,337,000
for the year ended December 31, 2000, compared to approximately $6,876,000 for
1999, an increase of approximately $7,461,000 or 108.5%. The increase relates
primarily to increased corporate staffing and expense to implement and manage
our acquisitions and additional selling, general and administrative costs
associated with the businesses acquired. Selling, general and administrative
expenses decreased from 12.2% of revenue in 1999 to 8.8% of revenue in 2000 due
to cost savings resulting from integration of acquired operations and leverage
of certain fixed administrative costs on significantly higher revenue.

Amortization of goodwill increased from approximately $1,527,000 in 1999 to
approximately $3,516,000 in 2000 due to our acquisitions in 2000 and 1999.

Special (credits) charges, net, were approximately $1,500,000 in 1999. The
charges related to approximately $1,500,000 in charges for legal, accounting and
financing costs related to the proposed preferred stock and merger discussions
with Azurix, both of which were terminated in October 1999, and several other
legal matters. There were no special charges or credits in 2000.

As a result of the foregoing, income from operations for the year ended
December 31, 2000 was approximately $25,345,000 compared to approximately
$4,090,000 for the same period in 1999, an increase of approximately $21,255,000
or 519.7%. Income from operations, excluding the special (credit) charges, net,
as a percentage of revenue increased from 9.9% in 1999 to 15.5% in 2000.

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Interest expense for the year ended December 31, 2000, was approximately
$18,908,000 compared to approximately $3,236,000 for the same period in 1999.
The increase in interest expense is related to the additional debt incurred to
finance acquisitions.

Other income for the year ended December 31, 2000, was approximately
$114,000 compared to approximately $294,000 for the same period in 1999. The
decrease relates primarily to a reduction of gains on sale of assets.

As a result of the foregoing, net income before preferred stock dividends
and noncash beneficial conversion charges of approximately $6,551,000 was
reported for the year ended December 31, 2000, compared to approximately
$1,148,000 for the same period in 1999.

During the twelve months ended December 31, 2000, we issued approximately
$65,100,000 of preferred stock in connection with refinancing our debt and
completing eight acquisitions. This preferred stock is convertible into common
stock at $2.50 per share, which was below the market price of our stock at the
time of issuance. Financial accounting rules require that we record a noncash
beneficial conversion charge for the difference between the market price and the
conversion price at the date of issuance of this preferred stock. Accordingly,
we recorded a noncash beneficial conversion charge of approximately $37,045,000
in fiscal 2000. There were no noncash beneficial conversion charges in 1999.

LIQUIDITY AND CAPITAL RESOURCES

OVERVIEW

During the past three years, our principal sources of funds were cash
generated from our operating activities and long-term borrowings. We use cash
mainly for capital expenditures, working capital and debt service. In the
future, we expect that we will use cash principally to fund working capital, our
debt service and repayment obligations and capital expenditures. In addition, we
may use cash to pay dividends on our preferred stock and potential earnout
payments resulting from prior acquisitions. We have historically financed our
acquisitions principally through the issuance of equity and debt securities, our
credit facility, and funds provided by operating activities.

HISTORICAL CASH FLOWS

Cash Flows from Operating Activities. For the year ended December 31,
2001, cash flows from operating activities were approximately $38,208,000
compared to approximately $19,620,000 for the same period in 2000, an increase
of approximately $18,588,000, or 94.7%. The increase primarily relates to the
full year effect on cash flows from operating activities of our acquisitions in
2000, and internal growth and decreases from changes in working capital between
periods.

Cash Flows from Investing Activities. For the year ended December 31,
2001, cash flows used for investing activities were approximately $14,049,000
compared to approximately $250,946,000 for the same period in 2000, a decrease
of approximately $236,897,000. The decrease primarily relates to a decrease in
cash paid for acquisitions from approximately $245,386,000 in 2000 to
approximately $1,709,000 in 2001.

Cash Flows from Financing Activities. For the year ended December 31,
2001, cash flows used for financing activities were approximately $28,505,000
compared to cash flows generated by financing activities of approximately
$235,743,000 for the same period in 2000, a decrease of approximately
$264,248,000. The decrease primarily relates to net debt borrowings and
preferred stock issuances to fund the cash paid for acquisitions in 2000 and
cash used to repay debt in 2001.

CAPITAL EXPENDITURE REQUIREMENTS

Capital expenditures for the year ended December 31, 2001, totaled
approximately $13,313,000 compared to approximately $5,805,000 in 2000. Our
ongoing capital expenditure program consists of expenditures for replacement
equipment, betterments, and growth. We expect our capital expenditures for 2002
to be approximately $14,300,000.

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DEBT SERVICE REQUIREMENTS

On January 27, 2000, we entered into a $110,000,000 senior credit facility
to fund working capital for acquisitions, to refinance existing debt, to provide
working capital for operations, to fund capital expenditures and for other
general corporate purposes. On February 25, 2002, the existing credit facility
was amended to, among other things, increase the revolving loan from $30,000,000
to approximately $51,330,000, increase sublimits for letters of credit from
$20,000,000 to $50,000,000, provide limitations for restricted payments and
investments, and increase the permitted amounts of nonrecourse financing and
operating lease obligations. The senior credit agreement contains standard
covenants including compliance with laws, limitations on capital expenditures,
restrictions on dividend payments, limitations on mergers and compliance with
certain financial covenants.

Our new credit facility is anticipated to be a senior credit facility
providing for loans of up to $150,000,000, consisting of a $80,000,000 revolving
loan and a $70,000,000 term loan. This new credit facility will be secured by
substantially all of our assets and those of our subsidiaries (other than assets
securing nonrecourse debt) and will include covenants restricting the incurrence
of additional indebtedness, liens, certain payments, and sale of assets.

At December 31, 2001, we had working capital of approximately $7,315,000.
Accounts receivable and prepaid expenses and other current assets increased by
approximately $1,097,000 during fiscal 2001. We evaluate the collectibility of
these receivables on a specific account-by-account review. We had allowances of
approximately $2,165,000 and $1,701,000 at December 31, 2001 and 2000,
respectively, and write-offs of approximately $-0- and $45,000 in 2001 and 2000,
respectively. Accounts payable and accrued expenses increased by approximately
$4,637,000 during fiscal 2001 primarily as a result of additional trade
payables.

In 1996, the Maryland Energy Financing Administration issued non-recourse
tax-exempt project revenue bonds (the "Nonrecourse Project Revenue Bonds") in
the aggregate amount of $58,550,000. The Administration loaned the proceeds of
the Nonrecourse Project Revenue Bonds to Wheelabrator Water Technologies
Baltimore L.L.C., now our wholly owned subsidiary and known as
Synagro - Baltimore, L.L.C., pursuant to a June 1996 loan agreement, and the
terms of the loan mirror the terms of the Nonrecourse Project Revenue Bonds. The
loan financed a portion of the costs of constructing thermal facilities located
in Baltimore County, Maryland, at the site of its Back River Wastewater
Treatment Plant, and in the City of Baltimore, Maryland, at the site of its
Patapsco Wastewater Treatment Plant. We assumed all obligations associated with
the Nonrecourse Project Revenue Bonds in connection with our acquisition of Bio
Gro in 2000. Nonrecourse Project Revenue Bonds in the aggregate amount of
$9,885,000 have already been paid, and the remaining Nonrecourse Project Revenue
Bonds bear interest at annual rates between 5.45% and 6.45% and mature on dates
between December 1, 2002 and December 1, 2016.

At December 31, 2001, future minimum principal payments of long-term debt
and Nonrecourse Project Revenue Bonds are as follows:

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We lease certain facilities and equipment under noncancelable, long-term
lease agreements. Minimum annual rental commitments under these leases are as
follows:

In January 2000, we entered into an agreement with GTCR Capital Partners,
L.P. which agreed to provide up to $125 million in subordinated debt financing
to fund acquisitions and for certain other uses, in each case as approved by our
Board of Directors and the Board of Directors of GTCR Capital Partners, L.P.
GTCR Capital Partners, L.P. is an affiliate of GTCR Golder Rauner, LLC
("GTCR;"), our majority stockholder. The agreement was amended in August 2000,
allowing, among other things, for GTCR Capital Partners, L.P. to syndicate a
portion of the commitment. The loans bear interest at an annual rate of 12% paid
quarterly and provided warrants that were convertible into preferred stock at
$.01 per share. The unpaid principal plus unpaid and accrued interest must be
paid in full by January 27, 2008. The agreement contains general and financial
covenants. As of December 31, 2001, we have borrowed approximately $52,760,000
of indebtedness under the terms of the agreement, which was used to partially
fund our acquisitions in 2000.

We believe we will have sufficient cash generated by our operations and
available through our existing credit facility to provide for future working
capital and capital expenditure requirements that will be adequate to meet our
liquidity needs for the foreseeable future, payment of interest on our existing
credit facility and payments on the Nonrecourse Project Revenue Bonds. We cannot
assure you, however, that our business will generate sufficient cash flow from
operations, that any cost savings and any operating improvements will be
realized or that future borrowings will be available to us under our existing
credit facility in an amount sufficient to enable us to pay our indebtedness or
to fund our other liquidity needs. We may need to refinance all or a portion of
our indebtedness on or before maturity. We cannot assure you that we will be
able to refinance any of our indebtedness, including our existing credit
facility, on commercially reasonable terms or at all.

SERIES D REDEEMABLE PREFERRED STOCK

We have authorized 32,000 shares of Series D Preferred Stock, par value
$.002 per share. In 2000, we issued a total of 25,033.601 shares of the Series D
Preferred Stock to GTCR Fund VII, L.P. and its affiliates which is convertible
by the holders into a number of shares of our common stock computed by dividing
(i) the sum of (a) the number of shares to be converted multiplied by the
liquidation value and (b) the amount of accrued and unpaid dividends by (ii) the
conversion price then in effect. The initial conversion price is $2.50 per
share, provided that in order to prevent dilution, the conversion price may be
adjusted. The Series D Preferred Stock is senior to our common stock or any
other of our equity securities. The liquidation value of each share of Series D
Preferred Stock is $1,000 per share. Dividends on each share of Series D
Preferred Stock accrue daily at the rate of eight percent per annum on the
aggregate liquidation value and may be paid in cash or in kind, at our option.
The Series D Preferred Stock is entitled to one vote per share. Shares of Series
D Preferred Stock are subject to mandatory redemption by us on January 26, 2010,
at a price per share equal to the liquidation value plus accrued and unpaid
dividends. If the Series D Preferred Stock were converted, they would represent
10,013,441 shares of common stock.

SERIES E REDEEMABLE PREFERRED STOCK

We have authorized 55,000 shares of Series E Preferred Stock, par value
$.002 per share. GTCR Fund VII, L.P. and its affiliates own 37,504.229 shares of
Series E Preferred Stock and certain affiliates of The

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TCW Group, Inc. own 7,024.58 shares. The Series E Preferred Stock is convertible
by the holders into a number of shares of our common stock computed by dividing
(i) the sum of (a) the number of shares to be converted multiplied by the
liquidation value and (b) the amount of accrued and unpaid dividends by (ii) the
conversion price then in effect. The initial conversion price is $2.50 per
share, provided that in order to prevent dilution, the conversion price may be
adjusted. The Series E Preferred Stock is senior to our common stock or any
other of our equity securities. The liquidation value of each share of Series E
Preferred Stock is $1,000 per share. Dividends on each share of Series E
Preferred Stock accrue daily at the rate of eight percent per annum on the
aggregate liquidation value and may be paid in cash or in kind, at our option.
The Series E Preferred Stock is entitled to one vote per share. Shares of Series
E Preferred Stock are subject to mandatory redemption by us on January 26, 2010,
at a price per share equal to the liquidation value plus accrued and unpaid
dividends. If the Series E Preferred Stock were converted, they would represent
17,903,475 shares of common stock.

The Series D and Series E Preferred Stock may result in noncash beneficial
conversions valued in future periods recognized as preferred stock dividends if
the market value is higher than the conversion price. See Note 8 in the
accompanying Notes to the Consolidated Financial Statements.

RECENT ACCOUNTING PRONOUNCEMENTS

Effective January 1, 2001, we adopted Statement of Financial Accounting
Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended by SFAS 138, "Accounting for Certain Derivative
Instruments and Hedging Activities," which requires that we recognize all
derivative instruments as assets or liabilities in our balance sheet and measure
them at their fair value. Changes in the fair value of a derivative are recorded
in income or directly to equity, depending on the instrument's designed use. For
derivative instruments that are designated and qualify as a cash flow hedge, the
effective portion of the gain or loss on the derivative instrument is reported
as a component of other comprehensive income and reclassified into income when
the hedged transaction affects income, while the ineffective portion of the gain
or loss on the derivative instrument is recognized currently in earnings. For
derivative instruments that are designated and qualify as a fair value hedge,
the gain or loss on the derivative instrument as well as the offsetting loss or
gain on the hedged item attributable to the hedged risk are recognized in
current income during the period of the change in fair values. The noncash
transition adjustment related to the adoption of this statement has been
reflected as a "cumulative effect of change in accounting for derivatives" of
approximately $1,861,000 charged to net income and approximately $2,058,000
charged to other comprehensive income included in stockholders' equity as of
January 1, 2001. See Note (5) to the consolidated financial statements for
discussion of our current derivative contracts and hedging activities.

In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 141, "Business Combinations," and No. 142, "Goodwill and Other Intangible
Assets." SFAS 141 requires all business combinations initiated after June 30,
2001, to be accounted for using the purchase method. Under SFAS 142, goodwill
and intangible assets with indefinite lives are no longer amortized but are
reviewed annually (or more frequently if impairment indicators arise) for
impairment. Separable intangible assets that are not deemed to have indefinite
lives will be amortized over their useful lives. Management has completed the
initial impairment test required by the provisions of SFAS 142 as of January 1,
2002, and determined that there has not been an impairment of our goodwill.
Beginning January 1, 2002, we will no longer amortize goodwill. During 2001, we
recorded goodwill amortization of approximately $4.5 million.

In June 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 covers all legally enforceable obligations associated
with the retirement of tangible long-lived assets and provides the accounting
and reporting requirements for such obligations. SFAS No. 143 is effective for
us beginning January 1, 2003. Management has yet to determine the impact that
the adoption of SFAS No. 143 will have on our consolidated financial statements.

In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," which supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed Of." SFAS No. 144 establishes a single accounting method for long-

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lived assets to be disposed of by sale, whether previously held and used or
newly acquired, and extends the presentation of discontinued operations to
include more disposal transactions. SFAS No. 144 also requires that an
impairment loss be recognized for assets held-for-use when the carrying amount
of an asset (group) is not recoverable. The carrying amount of an asset (group)
is not recoverable if it exceeds the sum of the undiscounted cash flows expected
to result from the use and eventual disposition of the asset (group), excluding
interest charges. Estimates of future cash flows used to test the recoverability
of a long-lived asset (group) must incorporate the entity's own assumptions
about its use of the asset (group) and must factor in all available evidence.
SFAS No. 144 is effective for us for the quarter ending March 31, 2002.
Management believes the impact of the adoption of SFAS No. 144 is not material
to our results of operations and financial position.

CRITICAL ACCOUNTING ESTIMATES AND ASSUMPTIONS

In preparing financial statements in conformity with accounting principles
generally accepted in the United States, management makes estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements, as well as the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. The
following are our significant estimates and assumptions made in preparation of
its financial statements:

Allowance for Doubtful Accounts -- We estimate losses for uncollectible
accounts based on the aging of the accounts receivable and the evaluation and
the likelihood of success in collecting the receivable.

Loss Contracts -- We evaluate our revenue producing contracts to determine
whether the projected revenues of such contracts exceed the direct cost to
service such contracts. These evaluations include estimates of the future
revenues and expenses. Accruals for loss contracts are adjusted based on these
evaluations.

Purchase Accounting -- We estimate the fair value of assets, including
property, machinery and equipment and its related useful lives and salvage
values, and liabilities when allocating the purchase price of an acquisition.

Income Taxes -- We assume the deductibility of certain costs in our income
tax filings and estimates the recovery of deferred income tax assets.

Legal and Contingency Accruals -- We estimate and accrue the amount of
probable exposure we may have with respect to litigation, claims and
assessments.

Self Insurance Reserves -- Through the use of actuarial calculations, we
estimate the amounts required to settle insurance claims.

Actual results could differ materially from the estimates and assumptions
that we use in the preparation of our financial statements.

OTHER

We also maintain two leases with James A. Jalovec, a stockholder of the
Company, or one of his affiliates. The first lease has an initial term through
July 31, 2004 with an option to renew for an additional five-year period. Rental
payments made under this lease in 2001 totaled approximately $97,000. The second
lease has an initial term through December 31, 2013. Rental payments made under
the second lease in 2001 totaled approximately $110,000.

As of December 31, 2001, we had generated net operating loss ("NOL")
carryforwards of approximately $67,209,000 available to reduce future income
taxes. These carryforwards begin to expire in 2008. A change in ownership, as
defined by federal income tax regulations, could significantly limit our ability
to utilize its carryforwards. Accordingly, our ability to utilize our NOLs to
reduce future taxable income and tax liabilities may be limited. Additionally,
because federal tax laws limit the time during which these carryforwards may be
applied against future taxes, we may not be able to take full advantage of these
attributes for federal income tax purposes. As we have incurred losses in recent
years and the utilization of these carryforwards could be limited as discussed
above, a valuation allowance has been established to partially offset the
deferred tax asset at December 31, 2001 and 2000. We estimate that our effective
tax rate in 2002 will approximate 38% of

26

pretax income. Substantially all of our tax provision over the next several
years is expected to be deferred in nature due to significant tax deductions in
excess of book deductions for goodwill and depreciation.

RISKS RELATING TO FORWARD-LOOKING STATEMENTS

We are including the following cautionary statements to secure the
protection of the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995 for all forward-looking statements made by us in this Annual
Report on Form 10-K. Forward-looking statements include, without limitation, any
statement that may predict, forecast, indicate, or imply future results,
performance, or trends, and may contain the words "believe," "anticipate,"
"expect," "estimate," "project," "will be," "will continue," "will likely
result," or words or phrases of similar meaning. In addition, from time to time,
we (or our representatives) may make forward-looking statements of this nature
in its annual report to shareholders, proxy statement, quarterly reports on Form
10-Q, current reports on Form 8-K, press releases or in oral or written
presentations to shareholders, securities analysts, members of the financial
press or others. All such forward-looking statements, whether written or oral,
and whether made by or on our behalf, are expressly qualified by these
cautionary statements and any other cautionary statements which may accompany
the forward-looking statements. In addition, the forward-looking statements
speak only of the Company's views as of the date the statement was made, and we
disclaim any obligation to update any forward-looking statements to reflect
events or circumstances after the date thereof.

Forward-looking statements involve risks and uncertainties which could
cause actual results, performance or trends to differ materially from those
expressed in the forward-looking statements. We believe that all forward-looking
statements made by us have a reasonable basis, but there can be no assurance
that management's expectations, beliefs or projections as expressed in the
forward-looking statements will actually occur or prove to be correct. Factors
that could cause actual results to differ materially from those discussed in the
forward-looking statements include, but are not limited to, the factors
discussed below.

FEDERAL WASTEWATER TREATMENT AND BIOSOLID REGULATIONS MAY RESTRICT OUR
OPERATIONS OR INCREASE OUR COSTS OF OPERATIONS.

Federal wastewater treatment and biosolid laws and regulations impose
substantial costs on us and affect our business in many ways. If we are not able
to comply with the governmental regulations and requirements that apply to our
operations, we could be subject to fines and penalties, and we may be required
to spend large amounts to bring operations into compliance or to temporarily or
permanently stop operations that are not permitted under the law. Those costs or
actions could have a material adverse effect on our business, financial
condition and results of operations.

Federal environmental authorities regulate the activities of the municipal
and industrial wastewater generators and enforce standards for the discharge
from wastewater treatment plants (effluent wastewater) with permits issued under
the authority of the Clean Water Act, as amended. The treatment of wastewater
produces an effluent and wastewater solids. The treatment of these solids
produces biosolids. The Part 503 Regulations regulate the use and disposal of
biosolids and wastewater residuals and establish use and disposal standards for
biosolids and wastewater residuals that are applicable to publicly and privately
owned wastewater treatment plants in the United States. Biosolids may be surface
disposed in landfills, incinerated, or applied to land for beneficial use in
accordance with the requirements established by the regulations. To the extent
demand for our residuals treatment methods is created by the need to comply with
the environmental laws and regulations, any modification of the standards
created by such laws and regulations, or in their enforcement, may reduce the
demand for our residuals treatment methods. Changes in these laws or regulations
and/or changes in the enforcement of these laws or regulations may also
adversely affect our operations by imposing additional regulatory compliance
costs on us, and requiring the modification of and/or adversely affecting the
market for our wastewater residuals management services.

27

WE ARE SUBJECT TO EXTENSIVE FEDERAL, STATE AND LOCAL ENVIRONMENTAL REGULATION
AND PERMITTING.

Our operations are subject to increasingly strict environmental laws and
regulations, including laws and regulations governing the emission, discharge,
disposal and transportation of certain substances and related odor. Wastewater
treatment plants and other plants at which our biosolids management services may
be implemented are usually required to have permits, registrations and/or
approvals from state and/or local governments for the operation of such
facilities. Some of our facilities require air, wastewater, storm water,
composting, use or siting permits, registrations or approvals. We may not be
able to maintain or renew our current permits, registrations or licensing
agreements or to obtain new permits, registrations or licensing agreements,
including for the land application of biosolids when necessary. The process of
obtaining a required permit, registration or license agreements can be lengthy
and expensive. Furthermore, there can be no assurances that we will be able to
meet applicable regulatory or permit requirements. We may therefore be subject
to related legal or judicial proceedings.

Many states, municipalities and counties have regulations, guidelines or
ordinances covering the land application of biosolids, many of which set either
a maximum allowable concentration or maximum pollutant-loading rate for at least
one pollutant. The Part 503 Regulations also require certain monitoring to
ensure that certain pollutants or pathogens are below thresholds. The EPA has
considered increasing these thresholds or adding new thresholds for different
substances, which could increase our compliance costs. In addition, some states
have established management practices for land application of biosolids. Some
members of Congress, some state or local authorities, and some private parties,
have sought to prohibit or limit the land application, agricultural use, thermal
processing or composting of biosolids. There can be no assurance that further
such prohibition or limitation efforts will not be successful and have a
material adverse effect on our business, financial condition and results of
operations. In addition, many states enforce landfill restrictions for
nonhazardous biosolids and some states have site restrictions or other
management practices governing lands. These regulations typically require a
permit to use biosolid products (including incineration ash) as landfill daily
cover material or for disposal in the landfill. There can be no assurance that
landfill operators will be able to obtain or maintain such required permits.

Any of the permits, registrations or approvals noted above, or related
applications may be subject to denial, revocation or modification, or challenge
by a third party, under various circumstances. In addition, if new environmental
legislation or regulations are enacted or existing legislation or regulations
are amended or are enforced differently, we may be required to obtain
additional, or modify existing, operating permits, registrations or approvals.

Maintaining, modifying or renewing our current permits, registrations or
licensing agreements or obtaining new permits, registrations or licensing
agreements after new environmental legislation or regulations are enacted or
existing legislation or regulations are amended or enforced differently may be
subject to public opposition or challenge. Much of this public opposition and
challenge, as well as related complaints, relates to odor issues, even when we
are in compliance with odor requirements and even though we have worked hard to
minimize odor from our operations. Public misperceptions about our business and
any related odor could influence the governmental process for issuing such
permits, registrations and licensing agreements or for responding to any such
public opposition or challenge. Community groups could pressure local
municipalities or state governments to implement laws and regulations which
could increase our costs of our operations.

OUR ABILITY TO GROW MAY BE LIMITED BY COMPETITION.

We provide a variety of services relating to the transportation and
treatment of wastewater residuals. We are in direct and indirect competition
with other businesses that provide some or all of the same services including
small local companies, regional residuals management companies and national and
international water and wastewater operations/privatization companies,
technology suppliers, municipal solid waste companies, farming operations and,
most significantly, municipalities and industries who choose not to outsource
their residuals management needs. Some of these competitors are larger, more
firmly established and have greater capital resources than we do.

28

We derive a substantial portion of our revenue from services provided under
municipal con