10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

ý	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the quarterly period ended June 30, 2004
OR
o	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: 0-8176

	Southwest Water Company
	(Exact name of registrant as specified in its charter)

Delaware	95-1840947
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
One Wilshire Building 624 South Grand Avenue, Suite 2900 Los Angeles, California	90017-3782
(Address of principal executive offices)	(Zip Code)

(213) 929-1800
(Registrant’s telephone number, including area code)

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 ý No o

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes ý No o

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. On August 4, 2004, there were 16,568,295 common shares outstanding.

SOUTHWEST WATER COMPANY

INDEX

Part I.	Financial Information:
	Item 1.	Financial Statements:
		Condensed Consolidated Statements of Income (unaudited) –  Three and Six Months Ended June 30, 2004 and 2003
		Condensed Consolidated Balance Sheets– June 30, 2004 (unaudited)  and December 31, 2003
		Condensed Consolidated Statements of Cash Flows (unaudited) –  Six Months Ended June 30, 2004 and 2003
		Notes to Condensed Consolidated Financial Statements (unaudited)
	Item 2.	Management’s Discussion and Analysis of  Financial Condition and Results of Operations
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk
	Item 4.	Controls and Procedures
Part II.	Other Information:
	Item 1.	Legal Proceedings
	Item 4.	Submission of Matters to a Vote of Security Holders
	Item 5.	Other Information
	Item 6.	Exhibits and Reports on Form 8-K
Signatures

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

SOUTHWEST WATER COMPANY AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME (Unaudited)

	Three Months Ended June 30,						Six Months Ended June 30,
	2004			2003			2004			2003
	(in thousands except per share data)
Revenues:
Services group	$	29,118		$	27,702		$	55,782		$	52,890
Utility group	16,576			13,762			29,639			24,688
	45,694			41,464			85,421			77,578
Expenses:
Operating expenses - services group	25,055			24,323			50,126			46,329
Operating expenses - utility group	8,614			8,219			16,232			15,646
Selling, general and administrative expenses	6,857			5,425			12,962			11,185
	40,526			37,967			79,320			73,160
Operating Income	5,168			3,497			6,101			4,418
Other Income (Expense):
Interest expense	(1,076		)	(1,109		)	(2,153		)	(2,306		)
Interest income	188			—			308			49
Gain on sale of land	—			720			—			720
Other	(227		)	(110		)	(174		)	(119		)
	(1,115		)	(499		)	(2,019		)	(1,656		)
Income Before Income Taxes	4,053			2,998			4,082			2,762
Income Tax Provision	1,500			1,109			1,511			1,022
Net Income	2,553			1,889			2,571			1,740
Dividends on Preferred Shares	7			7			14			14
Net Income Available for Common Shareholders	$	2,546		$	1,882		$	2,557		$	1,726
Earnings Per Common Share:
Basic	$	0.15		$	0.14		$	0.16		$	0.13
Diluted	$	0.15		$	0.13		$	0.15		$	0.12
Weighted Average Outstanding Common Shares:
Basic	16,502			13,561			15,637			13,295
Diluted	17,338			14,103			16,517			13,840

See accompanying notes to unaudited condensed consolidated financial statements.

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SOUTHWEST WATER COMPANY AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

	June 30, 2004		December 31, 2003
	(Unaudited)
	(in thousands)
ASSETS
Current Assets:
Cash and cash equivalents	$	1,867	$	2,570
Restricted cash	991		2,806
Trade accounts receivable, less allowance for doubtful accounts	25,475		19,759
Other current assets	10,971		10,259
	39,304		35,394
Property, Plant and Equipment:
Utility property, plant and equipment—at cost	282,129		271,502
Non-regulated operations property, plant and equipment—at cost	17,227		17,485
	299,356		288,987
Less accumulated depreciation and amortization	71,631		67,900
	227,725		221,087
Other Assets:
Goodwill	21,959		21,388
Intangible assets, net	7,141		2,026
Other assets	15,695		16,327
	$	311,824	$	296,222
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Current portion of long-term debt	$	4,125	$	2,697
Accounts payable	8,240		11,448
Other current liabilities	16,992		17,244
	29,357		31,389
Other Liabilities and Deferred Credits:
Long-term debt	53,746		56,493
Bank lines of credit	7,009		16,609
Advances for construction	7,203		7,238
Contributions in aid of construction	84,494		81,556
Deferred income taxes	10,772		10,590
Other liabilities and deferred credits	14,954		12,680
Total Liabilities and Deferred Credits	207,535		216,555
Commitments and Contingencies
Stockholders’ Equity:
Preferred stock	466		507
Common stock	165		147
Paid-in capital	79,631		55,981
Retained earnings	24,027		23,032
Total Stockholders’ Equity	104,289		79,667
	$	311,824	$	296,222

See accompanying notes to unaudited condensed consolidated financial statements.

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SOUTHWEST WATER COMPANY AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

	Six Months Ended June 30,
	2004			2003
	(in thousands)
Cash Flows From Operating Activities:
Net income	$	2,571		$	1,740
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization	3,687			4,003
Stock-based compensation expense	447			467
Gain on sale of land	—			(720		)
Deferred income taxes	181			860
Changes in assets and liabilities, net of effects of acquisitions:
Restricted cash	1,815			—
Trade accounts receivable	(5,716		)	(3,135		)
Other current assets	(712		)	838
Other assets	634			1,137
Accounts payable	(3,210		)	(2,779		)
Other current liabilities	2,647			(1,915		)
Other liabilities	1,484			(1,369		)
Other	(580		)	11
Net cash provided by (used in) operating activities	3,248			(862		)
Cash Flows From Investing Activities:
Additions to property, plant and equipment	(11,217		)	(9,179		)
Proceeds from disposition of assets	—			741
Purchase of minority interest in subsidiary	(2,900		)	—
Cash used to acquire customer units	(4,063		)	—
Net cash used in investing activities	(18,180		)	(8,438		)
Cash Flows From Financing Activities:
Net proceeds from stock offerings	20,573			10,988
Capital improvement reimbursements	169			2,182
Contributions in aid of construction and LUE fees	4,891			1,975
Net repayment of bank notes	(9,622		)	(5,934		)
Proceeds from sale/leaseback of assets	78			1,102
Net proceeds from dividend reinvestment, debenture conversion, employee stock purchase and stock option plans	445			733
Dividends paid	(1,576		)	(1,141		)
Payments of long-term debt	(572		)	(177		)
Payments on advances for construction, net	(157		)	(166		)
Net cash provided by financing activities	14,229			9,562
Net (decrease) increase in cash and cash equivalents	(703		)	262
Cash and cash equivalents at beginning of period	2,570			1,606
Cash and cash equivalents at end of period	$	1,867		$	1,868
Supplemental Disclosure of Cash Flow information
Cash paid during the period for:
Interest	$	2,085		$	2,555
Income taxes	$	125		$	305
Non-cash investing and financing activities:
Purchase of businesses
Fair value of customer units acquired	$	5,502		$	—
Cash used to acquire customer units	(4,063		)	—
Notes issued to acquire customer units	(1,439		)	—
Liabilities assumed	$	—		$	—
Non-cash contributions in aid of construction and advances for construction conveyed to Company by developers	$	2,349		$	3,629

See accompanying notes to unaudited condensed consolidated financial statements.

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SOUTHWEST WATER COMPANY AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

Note 1. – Basis of Presentation

Southwest Water Company was incorporated in California in 1954 and reincorporated in Delaware in 1988. Southwest Water Company and its subsidiaries (collectively referred to in this report as “Southwest Water”, the “Company”, “we”, “us” or “our” except where the context otherwise requires) provide a broad range of water and wastewater services including water production and distribution, wastewater collection and treatment, public works services, water and wastewater infrastructure development, and utility  billing and collecting. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (US GAAP) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X; accordingly, they do not include all information and notes required by US GAAP for complete financial statements. Except as disclosed herein, there have been no material changes in the information disclosed in the notes to the consolidated financial statements contained in our Annual Report on Form 10-K for the year ended December 31, 2003 (the 2003 Annual Report). The unaudited condensed consolidated financial statements reflect all adjustments which, in our opinion, are necessary to present fairly the financial position of Southwest Water as of June 30, 2004, and our results of operations for the three and six months ended June 30, 2004 and 2003 and the results of cashflows for the six months ended June 30, 2004 and 2003. These adjustments are of a normal recurring nature.

Certain reclassifications have been made to the prior period financial statement presentation to conform to the current period presentation.

Note 2. – Earnings Per Share

We record earnings per share (EPS) by computing “basic EPS” and “diluted EPS”. Basic EPS measures our performance over the reporting period by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted EPS measures our performance over the reporting period after giving effect to all potentially dilutive common shares that would have been outstanding if the dilutive common shares had been issued. Stock options, convertible debentures and warrants give rise to potentially dilutive common shares.  In July 2001, we issued $20.0 million of 6.85% fixed-rate convertible subordinate debentures. The debentures are convertible at any time prior to maturity, unless previously redeemed, at a conversion price of $12.148. When our annual diluted earnings exceed $0.53 per share, the debentures will be included in the calculation of diluted earnings per share after adjusting net income for the after-tax effect of the debenture interest expense.

We effected a 4-for-3 stock split in the form of a stock dividend on January 1, 2004. All per share amounts and numbers of shares outstanding reflect this dividend.  The following table is a reconciliation of the numerators (income) and denominators (shares) used in both basic and diluted EPS calculations:

On August 6, 2004 we announced a 10.5 percent increase in our quarterly common share cash dividend, from $.0475 to $.0525 per share. The Company's Board of Directors also declared a quarterly cash dividend of $.65625 per share of Series A preferred stock. The cash dividends will be paid on October 21, 2004, to stockholders of record on September 30, 2004.

Basic EPS

	For the three months ended June 30,						For the six months ended June 30,
	2004			2003			2004			2003
	(in thousands except per share data)
Net income per share
Net income	$	2,553		$	1,889		$	2,571		$	1,740
Less: dividends on preferred shares	(7		)	(7		)	(14		)	(14		)
Net income available for common shares	$	2,546		$	1,882		$	2,557		$	1,726
Weighted average outstanding common shares	16,502			13,561			15,637			13,295
Earnings per common share - basic	$	0.15		$	0.14		$	0.16		$	0.13

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Diluted EPS

	For the three months ended June 30,				For the six months ended June 30,
	2004		2003		2004		2003
	(in thousands except per share data)
Net income per share - assuming dilution
Net income available for common shares	$	2,546	$	1,882	$	2,557	$	1,726
Weighted average outstanding common shares	16,502		13,561		15,637		13,295
Plus:  shares issued on assumed exercise of stock options and warrants	836		541		880		545
Weighted average outstanding common shares	17,338		14,103		16,517		13,840
Earnings per common share - diluted	$	0.15	$	0.13	$	0.15	$	0.12

Note 3. –Stock-Based Compensation

At June 30, 2004, Southwest Water had three stock-based plans: the Stock Option Plan (SOP), the Director Stock Option Plan (DOP), and the Employee Stock Purchase Plan. In accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, the fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions used for grants in 2004 and 2003:

	For the Six Months Ended June 30,
	2004		2003
Dividend yield	1.3	%	1.8	%
Expected volatility	24.4	%	26.6	%
Risk free interest rate	3.7	%	2.7	%
Expected life in years	6.0		5.5

Compensation expense arising from stock option grants as determined using the Black-Scholes fair value option model was approximately as follows:

	Three Months Ended June 30,				Six Months Ended June 30,
	2004		2003		2004		2003
Stock-based compensation expense	$	169,000	$	252,000	$	447,000	$	467,000

Note 4. – Common Stock Issued

On December 29, 2003, we filed a shelf registration statement with the Securities and Exchange Commission for the issuance from time to time of up to $50 million aggregate principal amount of common stock, debt securities and warrants.  In March 2004, we completed a public offering of 1,610,000 shares of our common stock under the shelf registration statement.  These shares were sold at $13.58 per share and our net proceeds were approximately $20.6 million.  We may offer additional securities under this shelf registration.

In May 2003, we completed a private placement of 1,477,377 shares of newly issued common stock to certain institutional investors. Net proceeds from the private placement were approximately $11.0 million.

During the six months ended June 30, 2004, approximately $2.2 million of our 6.85% fixed-rate convertible subordinate debentures were converted into approximately 180,000 shares of our common stock.

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Note 5. –Stock Options and Warrants

A combined summary of shares authorized and available for issuance under the SOP and the DOP as of June 30, 2004 is as follows:

	SOP	DOP	Total
Shares authorized for issuance	4,241,178	687,555	4,928,732
Shares available for issuance	1,074,571	363,830	1,438,401

A combined summary of the status of the SOP, the DOP and warrants as well as changes during the six months ended June 30, 2004 is presented below:

	Stock Options and Warrants		Weighted Average Exercise Price
	(in thousands)
Outstanding at December 31, 2003	2,491		$	6.91
Granted	393		13.88
Exercised	(66	)	4.57
Forfeited	(114	)	7.27
Outstanding at June 30, 2004	2,704		$	8.26
Exercisable at June 30, 2004	1,624		$	6.59

The following table summarizes information about stock options and warrants outstanding at June 30, 2004:

Range of Exercise Prices				Options and Warrants Outstanding				Options and Warrants Exercisable
				Number Outstanding at June 30, 2004	Weighted Average Remaining Contractual Life in Years	Weighted Average Exercise Price
								Number Exercisable at June 30, 2004	Weighted Average Exercise Price
				(in thousands)				(in thousands)
$	1.50	$	3.75	265	0.2	$	2.75	265	$	2.75
3.75		7.50		593	1.5	5.32		575	5.30
7.50		11.25		1,418	5.1	8.85		739	8.66
11.25		15.00		428	6.5	13.78		45	11.70
$	1.50	$	15.00	2,704	4.0	$	8.26	1,624	$	6.59

Employee Stock Purchase Plan (ESPP): We have a stockholder-approved ESPP that allows eligible employees to purchase our common stock through payroll deductions of up to 10% of their salary (not to exceed $25,000 per year). The purchase price of the stock is 90% of the lower of the share price as calculated at the beginning and end of each three-month offering period. Under the ESPP, we issued 8,928 shares to employees during the six months ended June 30, 2004. At June 30, 2004, 1,139,532 shares were reserved for issuance under the ESPP and 861,321 shares were available for issuance.

Note 6. – Operating Segments

Southwest Water has two reportable segments: the Services Group and the Utility Group.  We have not changed the basis of segmentation or measurement of segment profit or loss from that reported in our 2003 Annual Report.

The Services Group operates and manages water and wastewater treatment facilities owned by cities, public agencies, municipal utility districts and private entities. Revenues are earned by providing operations and maintenance services under contracts with municipalities and other clients.  The Services Group also provides construction management and utility billing services.

6

The Utility Group owns regulated water utilities in California, New Mexico and Texas, as well as wastewater facilities in New Mexico and Texas.  State and federal agencies issue regulations regarding standards of water quality, safety, environmental and other matters which affect these operations. In the regulated utility subsidiaries, the rates that we charge for water and wastewater services are established by state authorities.

The following table presents information about the operations of each reported segment for the three and six months ended June 30, 2004 and 2003:

	Services Group (1)			Utility Group			Total Segments Information			Other (2)			Total Consolidated Information
	(in thousands)
For the Three Months Ended June 30, 2004
Total revenues (1)	$	29,118		$	16,576		$	45,694		$	—		$	45,694
Segment operating income (loss)	744			7,702			8,446			(3,278		)	5,168
Interest income	98			83			181			7			188
Interest expense	(126		)	(626		)	(752		)	(324		)	(1,076		)
Other income (expense)	(616		)	(54		)	(670		)	443			(227		)
Income (loss) before income taxes	100			7,105			7,205			(3,152		)	4,053
For the Three Months Ended June 30, 2003
Total revenues (1)	$	27,702		$	13,762		$	41,464		$	—		$	41,464
Segment operating income (loss)	867			4,415			5,282			(1,785		)	3,497
Interest income	(21		)	21			—			—			—
Interest expense	(115		)	(574		)	(689		)	(420		)	(1,109		)
Other income (expense)	(317		)	838			521			89			610
Income (loss) before income taxes	414			4,700			5,114			(2,116		)	2,998

	Services Group (1)			Utility Group			Total Segments Information			Other (2)			Total Consolidated Information
	(in thousands)
For the Six Months Ended June 30, 2004
Total revenues (1)	$	55,782		$	29,639		$	85,421		$	—		$	85,421
Segment operating income (loss)	12			10,713			10,725			(4,624		)	6,101
Interest income	197			83			280			28			308
Interest expense	(233		)	(1,206		)	(1,439		)	(714		)	(2,153		)
Other income (expense)	(968		)	(11		)	(979		)	805			(174		)
Income (loss) before income taxes	(992		)	9,579			8,587			(4,505		)	4,082
For the Six Months Ended June 30, 2003
Total revenues (1)	$	52,890		$	24,688		$	77,578		$	—		$	77,578
Segment operating income (loss)	902			6,614			7,516			(3,098		)	4,418
Interest income	10			39			49			—			49
Interest expense	(233		)	(1,215		)	(1,448		)	(858		)	(2,306		)
Other income (expense)	(642		)	1,058			416			185			601
Income (loss) before income taxes	37			6,496			6,533			(3,771		)	2,762

(1)In addition to services provided to external customers, certain companies in our Services Group provide construction, operations and maintenance services to companies in our Utility Group. In accordance with SFAS No. 71, Accounting for the Effects of Certain Types of Regulation, we do not eliminate the intersegment profit on the work performed when the sales price is reasonable and it is probable that the costs will be recoverable through the rate making process. Intersegment revenue eliminated was approximately $2.3 million and $2.2 million for the three months ended June 30, 2004 and 2003, respectively.  Intersegment revenue eliminated was approximately $3.4 million and $4.2 million for the six months ended June 30, 2004 and 2003, respectively.

(2)“Other” consists primarily of costs that include corporate headquarters expenses and functional departments whose costs are not allocated to the segments.

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The following table presents information about the identifiable assets of each reported segment as of June 30, 2004 and December 31, 2003:

	June 30, 2004		December 31, 2003
	(in thousands)
Services Group	$	73,642	$	67,831
Utility Group	232,496		222,436
Corporate and Other	5,686		5,955
Consolidated	$	311,824	$	296,222

Note 7. – Seasonality

Because our businesses are affected  by weather, the results of operations for one quarter do not indicate results to be expected in another quarter.  Our Services Group operations can be affected by weather and rainfall. In general, heavy rainfall or storm conditions may limit our ability to perform certain billable work such as pipeline maintenance, manhole rehabilitation, construction and other outdoor services. Severe weather conditions may also result in additional labor and material costs to us as we meet the terms of our operations and maintenance contracts. Depending on the specific contractual terms, this additional work may be billable to our various clients.  A significant portion of revenues of our Texas subsidiaries is earned under time and materials contracts where in revenues can be affected by weather and rainfall.  Precipitation in our Texas base of operations was 221% of average and 187% of average during the three and six months ended June 30, 2004, respectively.  Higher than average precipitation has limited or delayed our ability to perform billable services and construction during 2004 as noted above.  Precipitation in the Services Group’s Houston base of operations for the three and six month periods ended June 30, 2004 and 2003 was as follows:

	Three Months Ended June 30,						Six Months Ended June 30,
	2004	% of Average		2003	% of Average		2004	% of Average		2003	% of Average
Actual precipitation inches	31.22	221	%	5.14	36	%	45.04	187	%	13.35	55	%
Average precipitation inches	14.1			14.1			24.12			24.12

Our Utility Group water operations are seasonal, as rainfall and weather conditions affect water consumption.  In our service areas the second and third quarters of each year typically account for the highest volume of water consumption when weather tends to be hot and dry. Drought conditions may result in lower revenue due to consumer conservation efforts and a shortage of water. Drought conditions may also result in increased water costs to us, which could adversely affect our profitability. Conversely, unusually wet conditions may result in decreased customer demand, lower revenues and lower profit in our Utility Group operations.

Note 8. – Commitment, Contingencies and Restrictions

Commitments Under Acquisition Agreements.

We own 90% of the outstanding common stock of Operations Technologies, Inc. (OpTech). We have the right to acquire the remaining 10% of OpTech in August 2006 based on a formula relating to the profitability of OpTech, subject to a minimum price of  $1 million. The minority owner has the option to sell the remaining 10% of OpTech to us using the same formula.

We have an 80% interest in Windermere Utility Company (Windermere) in Texas. We have the right to acquire the remaining 20% ownership in Windermere.  The minority owner of Windermere has the right to require us to purchase the remaining 20% after October 1, 2005, for $6.0 million payable in our common stock, subject to a limitation on the maximum and minimum number of shares issuable.

Commitments Under Long-term Service Contracts

In September 2002, we agreed to facilitate the engineering and construction of a $25.0 million reverse osmosis water treatment system in the city of San Juan Capistrano, California, for the Capistrano Valley Water District (CVWD). The project includes the drilling of new wells and the development of associated water lines. We have entered into subcontractor agreements with an engineering firm and a large construction firm to fulfill significant obligations of this service contract.

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We account for the project under the percentage of completion method. In doing so, we make important judgments in estimating revenue and cost and in measuring progress toward completion. Percentage complete is determined based upon the actual costs incurred compared to the total estimated costs to complete, subject to cash received and milestones accomplished. Milestones include specific construction objectives that must be completed and accepted by the CVWD. These judgments underlie our determinations regarding overall contract value, contract profitability and timing of revenue recognition. Revenue and cost estimates are revised periodically based on changes in circumstances; any expected losses on contracts are recognized immediately upon contract signing or as soon thereafter as identified. During construction of the CVWD plant, we have received payments upon completion of construction milestones and we expect to continue to receive such payments until final completion of the construction. Construction of the plant commenced in December 2002. As of June 30, 2004, the plant was approximately 84% complete. We expect construction to be completed in the latter portion of 2004, at which time we will begin to operate and maintain the facility under the 20-year contract. Upon completion, the plant will have the capacity to treat in excess of 5.0 million gallons of water per day.

On January 8, 2003, we obtained an unsecured line of credit facility from a commercial bank used to issue a $3.4 million standby letter of credit as collateral for performance under a contract with the CVWD to manage the design and construction project. This standby letter of credit is in force for the estimated two-year construction period of the project. Upon final acceptance of the completed project by the CVWD, the standby letter of credit facility will be terminated.

The CVWD service contract contains certain guarantees related to our performance, including certain liquidated damages in the event of our failure to perform not caused by uncontrollable circumstances as defined in the service contract. Among other things, we are obligated to produce from the completed plant a specified volume of treated water by December 4, 2004. In the event of a delay beyond this date, not caused by a defined uncontrollable circumstance, specified delay liquidated damages are to be paid to CVWD. To help mitigate these risks, we have secured from our construction subcontractors both contractual liquidated damage provisions and performance and completion bonds. In addition, we may also be liable for liquidated damages relating to any lost payments from an agreement with a state water agency providing financial assistance to CVWD. During the 20-year operation period, we have made certain other operating guarantees to CVWD.

As part of the financing of this project, the CVWD issued insured municipal bonds. We entered into an agreement with the bond insurer to guarantee our performance under the service contract, subject to certain liability limits to the bond insurer in the event of a default. Such liability limits will not exceed an amount equal to $6.0 million during the construction period of the project, and afterwards, during the 20-year operation of the facility, the liability limits will not exceed an amount equal to $4.0 million plus an amount no greater than the replacement cost of the actual reverse osmosis filtration unit within the facility estimated to be approximately $1.5 million.

Credit Line Expansion

In April 2004, we obtained a firm commitment from two of our commercial banks to expand our lines of credit by an additional $30 million in the aggregate and to extend the maturity of our two existing lines from September 2005 to September 2006.  The line of credit expansions were entered into to provide us with additional funds to facilitate the Monarch acquisition (see note 9 following).

Legal Proceedings

Southwest Water and a subsidiary have been named as defendants in several lawsuits alleging various injuries as a result of water contamination in the San Gabriel Valley Main Basin. The California Supreme Court ruled in February 2002 that the plaintiffs cannot challenge the adequacy of the water quality standards established by California Department of Health Services (DOHS). The plaintiffs may sue and collect damages from CPUC-regulated water companies only by proving that water delivered did not meet these water quality standards. The California Supreme Court directed that the cases be sent to a trial court for further proceedings. A number of cases, including those involving Southwest Water Company, were consolidated before a single judge. Southwest Water Company requested defense and indemnification from its liability insurance carriers for these lawsuits. Several of the liability insurance carriers absorbed the costs of defense of the lawsuits. After discovery, the plaintiffs admitted that they could not prove any violation of DOHS water quality standards by Southwest Water Company. On August 4, 2004 the case against Southwest Water was dismissed.

Southwest Water and its subsidiaries are subject to litigation arising in the ordinary course of operations. We believe the ultimate resolution of such matters will not materially adversely affect our financial position, results of operations or cash flows.

9

Groundwater Settlement

One of the water sources for our California water utility has been affected by the presence of certain groundwater contaminants. These contaminants consist mainly of chemicals disposed of by various industrial companies in the 1940s and 1950s. In 2001 and 2002, this contamination necessitated the shutdown of a number of our wells, and we purchased replacement water at a cost substantially higher than the cost of water pumped from our own wells.

As a result of this contamination, under the terms of an agreement with the responsible parties, we have received payments from these parties, and we expect to continue to receive payments until completion of remediation or until our production capacities have been restored.  These payments represent the incremental cost of purchasing water over the cost that would have been incurred by us to pump water from our wells.  Our agreement with the responsible parties provided for ongoing reimbursement of our excess water costs and as such we bill and collect reimbursements monthly.  These monthly reimbursements are recorded as a reduction to operating expenses – utility group.  During the six months ended June 30, 2004 and 2003 these reimbursements were approximately $1.6 million and $1.9 million, respectively.

The settlement agreement also provides for contributions by the responsible parties to construct new wells and to develop additional interconnections with nearby water sources. Funds from the settlement agreement will also be used to develop long-term solutions that will potentially enable us to use our own less costly groundwater supplies in the future.  These contributions, recorded as contributions in aid of construction (CIAC), were approximately $169,000 and $2.2 million for the six months ended June 30, 2004 and 2003, respectively.

Note 9. – Acquisitions

On July 14, 2004, we acquired a Texas utility consisting of approximately 86 rural regulated water systems and 11 wastewater systems from Tecon Water Holdings, L.P, and renamed the utility, Monarch Utilities Inc. (Monarch).  The acquired water and wastewater systems provide service to approximately 21,000 water and approximately 4,000 wastewater connections in Texas and recorded revenues of approximately $13 million in 2003.  The acquisition will expand our regulated operations in the state of Texas where our Utility Group currently serves approximately 6,000 customers.  We expect the proximity of these new systems to our existing Services Group and Utility Group operations to allow us to obtain operating efficiencies by sharing overhead costs and employee competency in this region.  The aggregate purchase price, which is subject to post-closing adjustment, was approximately $63 million, comprised of approximately $45 million in cash payments and the assumption of approximately $18 million in debt.  Transaction costs incurred in the acquisition are expected to be approximately $1.1 million.  The final purchase price for water and wastewater systems will be adjusted when certain contingencies are resolved. Monarch filed a general rate case with the Texas Commission on Environmental Quality (TCEQ) in June 2003, and put the requested rates into effect in August 2003.  The requested rates would represent an increase of approximately 21% from the rates previously approved by the TCEQ.  Neither the Monarch acquisition nor its operations are reflected in the accompanying financial statements, as the acquisition closed subsequent to June 30, 2004.

In July 2004, we expanded our lines of credit by an additional $30 million to $70 million in the aggregate and extended the maturity of our two lines from September 2005 to September 2006.  The expansions provided us with liquidity to effect the Tecon transaction.  Our balance outstanding on the lines was $57 million immediately after the Tecon transaction.

During 2004, we completed several acquisitions in the utility billing and collection market.  These acquisitions were structured as asset purchases, primarily of account contracts, account lists, software and other assets. Under the purchase agreements we acquired approximately 136,000 active billing and collection units at a cost of approximately $5.5 million.  The aggregate purchase price for the account lists was approximately $4.1 million in cash and approximately $1.4 million in notes payable.  Substantially all of the purchase price was allocated to the account lists and the resulting intangible assets are to be amortized over eight years.

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Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations

The information in this discussion contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended (the”34 Act”). Such statements are based upon current expectations that involve risks and uncertainties including those set forth under “Risk Factors” in this report.  Any statements contained herein that are not statements of historical facts may be deemed to be forward-looking statements. For example, words such as “may”, “will”, “should”, “estimates”, “predicts”, “potential”, “continue”, “strategy”, “believes”, “expects”, “anticipates”, “plans”, “intends”, and similar expressions are intended to identify forward-looking statements. Our actual results and the timing of certain events may differ significantly from the results discussed in the forward-looking statements.

The following discussion should be read in conjunction with the accompanying unaudited condensed consolidated financial statements and related notes thereto and the consolidated financial statements and the notes thereto contained in our Annual Report on Form 10-K for the year ended December 31, 2003.

Overview

Southwest Water Company and subsidiaries (“Southwest”, “we” or the “Company”) provide a broad range of water and waste water services including water production and distribution, wastewater collection and treatment, public works services, utility infrastructure and construction management, and utility billing and collecting. We provide services to more than two million people in 35 states. Our business is segmented into two operating groups: our Services Group and our Utility Group.

Our Services Group operates our contract service businesses in which we operate and maintain water supply and wastewater facilities owned by cities, public agencies, municipal utility districts and private entities primarily in Texas, New Mexico, California, Colorado, Mississippi and Georgia. While state and federal agencies issue regulations regarding standards of water quality, safety, environmental and other matters which affect these operations, our Services Group prices are not subject to regulation. We also provide utility billing and collecting services in numerous states.

Our Utility Group owns and manages rate-regulated public water utilities in California, New Mexico and Texas. We own and manage wastewater facilities in New Mexico and Texas.  State and federal agencies issue regulations regarding standards of water quality, safety, environmental and other matters which affect these operations, as well as establish the rates that we can charge for our water and wastewater services.

On July 14, 2004, we acquired a Texas utility consisting of approximately 86 rural regulated water systems and 11 wastewater systems from Tecon Water Holdings, L.P, and renamed the utility, Monarch Utilities Inc. (Monarch).  The acquired water and wastewater systems provide service to approximately 21,000 water and approximately 4,000 wastewater connections in Texas and generated revenues of approximately $13 million in 2003.  The acquisition will expand our regulated operations in the state of Texas where our Utility Group currently serves approximately 6,000 customers.  We expect the proximity of these new systems to our existing Services Group and Utility Group operations to allow us to obtain operating efficiencies by sharing overhead costs and employee competency in this region.  The aggregate purchase price, which is subject to post-closing adjustment, was approximately $63 million, comprised of approximately $45 million in cash payments and the assumption of approximately $18 million in debt.  Transaction costs incurred in the acquisition are expected to be approximately $1.1 million.  The final purchase price for water and wastewater systems will be adjusted when certain contingencies are resolved. Monarch filed a general rate case with the Texas Commission on Environmental Quality (TCEQ) in June 2003, and put the requested rates into effect in August 2003.  The requested rates would represent an increase of approximately 21% from the rates previously approved by the TCEQ.  Neither the Monarch acquisition nor its operations are reflected in the accompanying financial statements, as the acquisition closed subsequent to June 30, 2004.

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Results of Operations

A summary of our consolidated results for the three and six months ended June 30, 2004 and 2003 is as follows:

	Three Months Ended June 30,								Six Months Ended June 30,
	2004			% of Revenue	2003			% of Revenue	2004			% of Revenue	2003			% of Revenue
	($amounts in millions)
Revenues:
Services group	$	29.1		64	$	27.7		67	$	55.8		65	$	52.9		68
Utility group	16.6			36	13.8			33	29.6			35	24.7			32
	45.7			100	41.5			100	85.4			100	77.6			100
Expenses:
Operating expenses - services group	25.1			55	24.3			59	50.1			59	46.3			60
Operating expenses - utility group	8.6			19	8.2			20	16.2			19	15.7			20
Selling, general and administrative expenses	6.9			15	5.5			13	13.0			15	11.2			14
	40.6			89	38.0			92	79.3			93	73.2			94
Operating Income	5.1			11	3.5			8	6.1			7	4.4			6
Other Income (Expense):
Interest expense	(1.1		)	2	(1.1		)	3	(2.2		)	3	(2.3		)	3
Interest income	0.2			—	—			—	0.3			—	—			—
Gain on sale of land	—			—	0.7			2	—			—	0.7			1
Other	(0.2		)	—	(0.1		)	—	(0.2		)	—	(0.1		)	—
	(1.1		)	2	(0.5		)	1	(2.1		)	2	(1.7		)	2
Income  Before Income Taxes	4.0			9	3.0			7	4.0			5	2.7			3
Income Tax Provision	1.5			3	1.1			3	1.5			2	1.0			1
Net Income	$	2.5		6	$	1.9		4	$	2.5		3	$	1.7		2

Discussion of Results of Operations for Three Months Ended June 30, 2004 and 2003

Revenues

Services group

Services Group revenues represent fees earned for water and wastewater facility operations and maintenance (O&M) services, equipment maintenance and repair, sewer pipeline cleaning, utility billing and collection services, construction management services and state-certified water and wastewater laboratory analysis. Revenues for the three months ended June 30, 2004 increased approximately $1.4 million, or 5%, to $29.1 million from $27.7 million during the same period of the prior year.   Prolonged rainfall may limit our ability to perform certain billable work such as pipeline maintenance, manhole rehabilitation, construction and other outdoor services.

Revenues earned at our Services Group under time and materials contracts were in fact affected by prolonged rainfall in our Texas base of operations. Precipitation was 221% of average during the three months ended June 30, 2004 and 36% of average for the same period of 2003.   The effect of prolonged rainfall was offset by the following:

1.A $0.7 million increase in operations and maintenance revenue under a 10-year, $30 million contract to operate and maintain the public works department of the City of Pascagoula, Mississippi, (the “Pascagoula contract”).  Revenues earned under the Pascagoula contract were $0.7 million and zero for the three months ended June 30, 2004 and 2003, respectively.

2.A $0.7 million increase in revenue earned from utility billing and collection contracts.  This increase was driven by additional multi-family utility metering equipment installations, as well as construction activity revenues earned from approximately 136,000 customer units acquired during the three months ended June 30, 2004.

Utility group

Utility Group revenues result from the production and distribution of water and the collection and treatment of sewage for residential, business, industrial and public authority use. Our Utility Group water operations are seasonal, as rainfall and weather conditions affect

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water consumption.  In our service areas the second and third quarters of each year typically account for the highest volume of water consumption when weather tends to be hot and dry. Drought conditions may result in lower revenue due to consumer conservation efforts and a shortage of water. Drought conditions may also result in increased water costs to us, which could adversely affect our profitability. Conversely, unusually wet conditions may result in decreased customer demand, lower revenues and lower profit in our Utility Group operations.

Revenues in the Utility Group increased approximately $2.8 million, or 20%, to $16.6 million during the three months ended June 30, 2004 from $13.8 million during the same period of the prior year. The increase is in Utility group revenue is primarily due to the favorable effect of rate increases in our California and Texas utilities and increased customer connections in our New Mexico and Texas utilities.  The changes are represented as follows:

	(in millions)
Favorable effect of rate increase in revenues	$	1.4
Favorable effect of increase in connections	0.2
Increase in water consumption	1.2
Net increase in revenues	$	2.8

Expenses

Operating expenses – services group

Operating expenses – services group consist primarily of salaries, wages and employee benefits, fleet expenses, facilities costs, supplies and equipment, repairs and maintenance, professional fees and other costs.  Operating expenses – services group increased approximately $0.8 million, or 3%, to $25.1 million during the three months ended June 30, 2004 from $24.3 million during the same period of 2003.   We have  incurred increased costs in providing services to newer customers and under new contracts.  Costs to provide services under the Pascagoula contract were approximately $0.4 million during the three months ended June 30, 2004.  The contract commenced in the third quarter of 2003.   Operating expenses for multi-family utility billing contracts increased approximately $0.4  million due to the servicing of approximately 136,000 units purchased during the three months ended June 30, 2004 as well as increased installation of utility metering equipment.  Operating expenses for our government services operations were approximately $0.2 million during the three months ended June 30, 2004.  These operations began in the fourth quarter of 2003.

Operating expenses – services group, as a percentage of the related revenues decreased from 88% for the three months ended June 30, 2003 to 86% for the three months ended June 30, 2004 and 2003 due to the following:

1.In the third quarter of 2003, the Services Group instituted certain cost reduction efforts in its utility billing and collection services as well as its operations and maintenance services.  These costs reduction efforts included headcount reductions and better management of overtime.

2.As noted above, prolonged rainfall prevented this group from performing certain pipeline maintenance, manhole rehabilitation, construction services.   These services are “materials intensive” and consequently, provide lower margins than other operations and maintenance services provided by the Services Group.

3.In the second quarter of 2003, the Services Group provided certain services under warranty.  The Services Group did not earn revenue for these services in 2003.

Operating expenses – utility group

Operating expenses—utility group represent the costs of purchasing and producing water, treating wastewater, salaries, wages and employee benefits, facilities costs, power and electricity supplies and equipment, repairs and maintenance, professional fees and other costs. Operating expenses—utility group represented approximately 52% and 59% of revenues from utility operations for the three months ended June 30, 2004 and 2003, respectively.  The decrease in operating expenses as a percentage of revenues was due to the aforementioned increase in Utility Group revenues, which was primarily due to an increase in rates at our California utility.  Operating expenses for our Utility Group increased $0.4 million, or 5%, to $8.6 million during the three months ended June 30, 2004 from $8.2 million during the comparable period of 2003 due to an increase in consumption of water due to weather conditions at our California utility.

Water production costs at our California utility decreased approximately 12% from $225 per acre foot for the three months ended June 30, 2003 to $198 per acre foot for the three months ended June 30, 2004.  This decrease resulted from a shift from higher cost purchased water toward less expensive produced water from our own wells.  This increased water production related to two new wells which were not available during the three months ended June 30, 2003.  The percentage of water used in our operations that was produced from our own wells was 41% and 29% during the three months ended June 30, 2004 and 2003, respectively. Depreciation expense at our California utility decreased $0.2 million to $0.7 million for the three months ended June 30, 2004 from $0.9 million for

13

the three months ended June 30, 2003.  The decrease in depreciation was due to an extension in the estimated useful lives of certain utility assets, this extension was reviewed and accepted by the CPUC in conjunction with the California utility’s June  2003 rate case.

However, the benefit from the change in mix of water produced was partially offset by (i) increased utility plant maintenance and repair costs and (ii) increased energy costs.

Operating expenses at our New Mexico and Texas utilities increased during the three months ended June 30, 2004 as compared to the comparable period of 2003. The increase was primarily due to an increase in volume and in the number of connections served by our New Mexico and Texas utilities.

Selling, general and administrative expenses

Selling, general and administrative expenses consist mainly of personnel, facilities, insurance and professional services costs, which support our sales, marketing, human resources, finance and administration functions.  Selling, general and administrative costs increased $1.4 million, or 25%, to $6.9 million for the three months ended June 30, 2004 from $5.5 million during the same period of the prior year.  Selling, general and administrative expenses increased to 15% of revenues for the three months ended June 30, 2004 from 13% during the three months ended June 30, 2003 due to the increased size and complexity of our operations.  In particular, the change was due to:

1.Increases in insurance costs, audit fees, legal fees, facilities costs and. benefit costs for administrative employees, and

2.Our efforts to prepare for and comply with the Sarbanes Oxley Act of 2002 and related regulations.

Other Income (Expense)

Interest Expense

The major components of interest expense for three months ended June 30, 2004 and 2003 are as follows:

	For the Three Months Ended June 30,
	2004			2003
	(in thousands)
Interest expense - convertible subordinate debentures	$	316		$	335
Interest expense - bank lines of credit	165			124
Interest expense - mortgage bonds and bank term loan	493			579
Interest expense - other	173			187
Total interest expense before capitalized interest	1,147			1,225
Capitalized interest	(71		)	(116		)
Total interest expense	$	1,076		$	1,109

The decrease in total interest expense is primarily due to a reduction in our long-term debt.  Average long-term debt outstanding was $62.6 million and $80.0 million for the three months ended June 30, 2004 and 2003, respectively.  Proceeds from our March 2004 stock offering were used to pay down line of credit balances.  Interest rates on these lines are lower than our other debt and the reduction of the line of credit debt had the effect of increasing the weighted average borrowing rate during the three months ended June 30, 2004. The effect of decrease in average debt outstanding was partially offset by an increase in our weighted average borrowing rate from 5.6% during the three months ended June 30, 2003 to 6.9% during the three months ended June 30, 2004.

In the second quarter of 2003, we recognized a $720,000 pretax gain on the sale of surplus land at our California utility.

Provision for Income Taxes

Our effective income tax rates for the three months ended June 30, 2004 and 2003 were approximately 37%.

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Discussion of Results of Operations for the Six Months Ended June 30, 2004 and 2003

Revenues

Services group

Revenues for the six months ended June 30, 2004 increased approximately $2.9 million, or 5%, to $55.8 million from $52.9 million during the same period of the prior year.   Revenues earned under time and materials contracts were affected by prolonged rainfall in our Texas base of operations.  Actual rainfall exceeded average rainfall by approximately 87% during the six months ended June 30, 2004.  Rainfall was only 55% of average for the six months ended June 30, 2003.  In addition, during the first quarter of 2004, we determined that certain receivables of $0.3 million would not likely be collected.  Accordingly, the receivables and the related revenue were reversed.

The effect of the prolonged rainfall was offset by the following:

1.A $1.2 million dollar increase in revenues earned from our construction management project for the city of San Juan Capistrano, California.  Revenues earned under the construction management contract were approximately $4.5 million and $3.3 million for the six months ended June 30, 2004 and 2003, respectively.

2.A $1.4 million increase in operations and maintenance revenue under a 10-year, $30 million contract to operate and maintain the public works department of the City of Pascagoula, Mississippi.  Revenues earned under the Pascagoula contract were $1.6 million and $0.2 million for the six months ended June 30, 2004 and 2003, respectively.

3.Approximately $1.3 million in revenues earned from utility billing units purchased or subsidiaries acquired subsequent to June 30, 2003.

Utility group

Revenues in the Utility Group increased approximately $4.9 million, or 20%, to $29.6 million during the six months ended June 30, 2004 from $24.7 million during the same period of the prior year. The increase is primarily due to the favorable effect of rate increases in our California and Texas utilities, increased consumption at our California utility due to weather, and increased customer connections in our New Mexico and Texas utilities.  The changes are represented as follows:

	(in millions)
Favorable effect of rate increase in revenues	$	3.0
Favorable effect of increase in connections	0.4
Increase in water consumption	1.5
Net increase in revenues	$	4.9

Expenses

Operating expenses – services group

Our operating expenses in the Services Group increased approximately $3.8 million, or 8%, to $50.1 million during the six months ended June 30, 2004 from $46.3 million during the same period of 2003.   These operating expenses were approximately 90% of Services Group revenues for the six months ended June 30, 2004 and 88% of revenues for the same period of 2003. The increases were due primarily to the following:

1.Approximately $1.2 million of the increase was due to increased activity under our construction management contract with the CVWD.

2.Approximately $0.8 million of the increase was due to costs to provide service under our new contract with the City of Pascagoula, Mississippi.

3.Operating expenses for utility billing and collection contracts increased approximately $0.6 million due to an increase in installation of utility metering equipment and the purchase of approximately 136,000 customer units which were acquired during the second quarter of 2004.

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These increases were partially offset by reductions of operating expenses as the company responded to a general decrease in activity in its Texas base of operations.   Higher than average precipitation has limited or delayed our ability to perform billable services and construction during 2004 as noted above.

Operating expenses – utility group

Operating expenses—utility group represented approximately 55% and 64% of revenues from utility operations for the six months ended June 30, 2004 and 2003, respectively.  The decrease in operating expenses as a percentage of revenue was due to the aforementioned increase in Utility Group revenues, which was primarily due to an increase in rates at our California and Texas utilities. Operating expenses for our Utility Group increased approximately $0.5 million, or 3%, to $16.2 million during the six months ended June 30, 2004 from $15.7 million during the comparable period of 2003.

Water production costs at our California utility decreased approximately 20% from $232 per acre foot for the six months ended June 30, 2003 to $195 per acre foot for the six months ended June 30, 2004.  This decrease resulted from a shift from higher cost purchased water toward less expensive produced water from our own wells.  This increased water production related to two new wells which were not available during the six months ended June 30, 2003.  The percentage of water produced from our own wells was 51% and 29% during the six months ended June 30, 2004 and 2003, respectively. Depreciation expense at our California utility decreased approximately $0.4 million to $1.8 million for the six months ended June 30, 2004 from $1.4 million for the six months ended June 30, 2003.  The decrease was due to an extension in the estimated useful lives of certain utility assets, this extension was reviewed and accepted by the CPUC in conjunction with the California utility’s June  2003 rate case.

However the effects of the change in the mix of water produced versus purchased and the reduction in depreciation expense were partially offset by increased utility plant maintenance and repair costs and increased energy costs.

Operating expenses at our New Mexico and Texas utilities increased during the six months ended June 30, 2004 as compared to the comparable period of 2003. The increase was primarily due to a increase in volume and in the number of connections served by our New Mexico and Texas utilities.

Selling, general and administrative expenses

Selling, general and administrative costs increased approximately $1.8 million, or 16%, to $13.0 million for the six months ended June 30, 2004 from $11.2 million during the same period of the prior year.  Selling, general and administrative expenses as a percentage of revenues increased to 15% for the six months ended June 30, 2004 from 14% during the six months ended June 30, 2003.  The increase was due to the increased size and complexity of our operations.  In particular, the change was due to:

1.Increases in insurance costs, audit fees, legal fees, facilities costs and benefits costs for administrative employees, and

2.Our efforts to prepare for and comply with the Sarbanes Oxley Act of 2002 and related regulations.

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Other Income (Expense)

Interest Expense

The major components of interest expense for six months ended June 30, 2004 and 2003 are as follows:

	For the Six Months Ended June 30,
	2004			2003
	(in thousands)
Interest expense - convertible subordinate debentures	$	642		$	676
Interest expense - bank lines of credit	412			351
Interest expense - mortgage bonds and bank term loan	985			1,161
Interest expense - other	327			316
Total interest expense before capitalized interest	2,366			2,504
Capitalized interest	(213		)	(198		)
Total interest expense	$	2,153		$	2,306

The decrease in total interest expense is primarily due to a reduction in our long-term debt.  Average long-term debt outstanding was $78.2 million and $71.2 million for the six months ended June 30, 2003 and 2004, respectively.  Proceeds from our March 2004 stock offering were used to pay down our line of credit balances.  Interest rates on these lines are significantly lower than our other debt and the reduction of the line of credit debt had the effect of increasing the weighted average interest rate subsequent to the stock offering in the second quarter of 2004.  The effect of the decrease in average debt outstanding was partially offset by an increase in our weighted average interest rate from 5.9% during the six months ended June 30, 2003 to 6.0% during the six months ended June 30, 2004.

In the second quarter of 2003, we recognized a $720,000 pretax gain on the sale of surplus land at our California utility.

Provision for Income Taxes

Our effective income tax rates were approximately 37% for the six months ended June 30, 2004 and 2003.

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Liquidity and Capital Resources

Following is a summary of the primary sources and uses of cash during the six months ended June 30, 2004 and 2003:

	Six Months Ended June 30,
	2004			2003
	(in thousands)
Sources of cash
Net income, net of adjustments to reconcile net income to cash	$	6,886		$	6,350
Net proceeds from public and private sales of stock	20,573			10,988
Contributions in aid of construction, LUE fees and
capital improvement reimbursements	5,060			4,157
Proceeds from sale leaseback transactions	78			1,102
Proceeds from disposition of land	—			741
Net other sources of cash	288			43
	32,885			23,381
Uses of cash
Changes in assets and liabilities, net of effects of acquisitions:	(3,638		)	(7,212		)
Net repayment of lines of credit and long-term debt	(10,194		)	(6,111		)
Additions to property, plant and equipment	(11,217		)	(9,179		)
Purchase of minority interest in subsidiary	(2,900		)	—
Purchase of businesses	(4,063		)	—
Dividends paid	(1,576		)	(1,141		)
	(33,588		)	(23,643		)
Net decrease in cash and cash equivalents	$	(703	)	$	(262	)

In March 2004, we completed a public offering of 1,610,000 shares of our common stock. The 1,610,000 shares were sold at $13.58 per share and our net proceeds were approximately $20.6 million.  We used proceeds from this offering to reduce amounts outstanding under our lines of credit.  In May 2003, we completed a private placement of 1,477,000 shares of newly issued common stock to select institutional investors. Gross proceeds from the private placement were approximately $11 million.

Contributions in Aid of Construction (CIAC) represent contributions in the form of cash, services or property received from developers, governmental agencies, municipalities or individuals for the purpose of constructing utility plant. We collected more CIAC during the six months ended June 30, 2004 than the same period of the previous year due to an increase in the construction of plant equipment during the 2004 period as compared to the 2003 period.  The effect of increased construction was partially offset by a reduction in payments received as part of a settlement agreement relating to ground water contamination at our California utility.  The settlement agreement provided for contributions for the construction of new wells and interconnections with nearby water sources.  These contributions were approximately $0.2 million and $2.2 million during the six month ended June 30, 2004 and 2003, respectively.

Our liquidity is influenced primarily by cash flows from operations and by capital expenditures at our Utility Group for the addition, replacement and renovation of water and wastewater utility facilities. The following table summarizes our activity for additions to property, plant and equipment during the six months ended June 30, 2004 and 2003:

	Six Months Ended June 30,
	2004		2003
	(in thousands)
Company-financed additions	$	6,179	$	5,022
Capital improvement reimbursements	169		2,182
Contributions paid for by developers	4,869		1,975
Net cash used in investing activities	11,217		9,179
Property contributed by developers	2,349		3,629
Total additions to property, plant and equipment	$	13,566	$	12,808

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Our capital resources are used for debt service on our bonds and debentures and are also influenced by investments we make in new business ventures, including the acquisition of companies and acquisition of contract operations. We have historically generated reasonably stable operating cash flows.

In December 2003, we agreed to purchase the minority interest in Master Tek, a subsidiary. The settlement payout of approximately $2.9 million was made in January 2004.   During the six months ended June 30, 2004 we acquired the customer account lists of certain utility billing and collection firms for approximately $5.5 million, consisting of $4.1 million in cash and $1.4 million in notes payable.

We augment our operating cashflow needs with borrowings under our lines of credit.   On June 30, 2004, we had working capital of approximately $9.9 million with available cash and cash-equivalent balances of approximately $1.9 million (excluding restricted cash balances). On June 30, 2004 we had aggregate lines of credit totaling $40.0 million consisting of three separate unsecured lines of credit from three commercial banks. On April 13, 2004, we obtained a firm commitment from two of our commercial banks to expand our lines of credit by an additional $30 million to $70 million in the aggregate and to extend the maturity of our two existing lines from September 2005 to September 2006.  The expansion of our lines of credit was finalized in July 2004.  These increases provided us with additional funds to consummate the Monarch transaction.  Our total borrowing availability under lines of credit was approximately $62.5 million on June 30, 2004 and $12.0 million immediately following the Monarch transaction.  The additional borrowing available under our current commercial lines of credit is limited by financial covenants that restrict additional borrowing to an amount no greater than the remaining unused credit line amount.

We continuously seek opportunities to increase our cash flow through either improving cash flow from operations or reducing our interest cost. We have not historically experienced difficulty in obtaining financing or refinancing existing debt. We expect to continue to seek such opportunities in the future to the extent such opportunities are available to us.

Off-Balance Sheet Arrangements

We do not have any material off-balance sheet arrangements, other than leases that have been treated as operating leases in accordance with U.S. GAAP.

Debt Obligations

Following is a summary of our debt obligations and commitments due in the remaining six months of 2004 and in the following specified periods thereafter.  Amounts represent the expected cash payments (principal and interest) related to our long-term debt and do not include any fair value adjustments or bond premiums or discounts.

			Years Ending December 31,
	2004		2005		2006		2007		2008 and thereafter		Total
	(in thousands)
Long-term debt
Bank lines of credit	$	—	$	—	$	7,009	$	—	$	—	$	7,009
Bank term loan	250		500		500		500		$	7,375	9,125
Economic development revenue bonds	90		95		100		105		1,925		2,315
Mortgage bonds (1)	900		900		13,500		—		$	8,000	23,300
Convertible subordinate debentures (2)	—		—		—		—		17,496		17,496
Notes payable	1,506		1,959		1,378		386		406		5,635
Advances for construction	180		180		180		180		6,483		7,203
	$	2,926	$	3,634	$	22,667	$	1,171	$	41,685	$	72,083

(1)We expect to issue new mortgage backed bonds in the second half of 2004.  The proceeds will be used to repay approximately $7.3 million of bonds due in 2006.  We expect to refinance the remaining $6.2 million of bonds, due in 2006.

(2)The convertible subordinate debentures are due in 2021.  There are no intermediate material put rights attached to the debentures.

In January 2003, we expanded one of our lines of credit from one of our commercial banks by $3.4 million. This facility was utilized to issue a standby letter of credit in that amount as collateral for performance under a contract to design and construct a reverse osmosis water treatment facility and associated wells. This standby letter of credit is in force for the estimated two-year construction period of the project. Upon acceptance of the completed project, expected in the latter portion of this year, the standby letter of credit and the related credit facility will be terminated.

We anticipate that our available lines of credit borrowing capacity and cash flows generated from operations will be sufficient to fund our activities during the next 12 months. If we were unable to renew our existing lines of credit or if we were unable to execute

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additional financing alternatives, our capital spending and any future acquisitions would be reduced, eliminated or delayed.

We expect to maintain our lines of credit in the normal course of business. Each of the line of credit agreements contains certain financial covenants. During the six months ended June 30, 2004, we were in compliance with all applicable covenants under each of the line of credit agreements.

In addition to our lines of credit, we have excess borrowing capacity under our first mortgage bond indentures of approximately $79.2 million as of June 30, 2004.

On December 29, 2003, we filed a shelf registration statement with the Securities and Exchange Commission for the issuance from time to time of up to $50 million aggregate principal amount of common stock, debt securities and warrants.  As of June 30, 2004, we had approximately $28 million available under this shelf registration.  We may offer additional securities under the shelf registration statement at any time.

Critical Accounting Policies

Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). These accounting principles require us to make certain estimates, judgments and assumptions. We believe that the estimates, judgments and assumptions are reasonable based upon information available to us at the time that these estimates, judgments and assumptions are made. These estimates, judgments and assumptions can affect the reported amounts of assets and liabilities as of the date of the financial statements, as well as the reported amounts of revenues and expenses during the periods presented. To the extent there are material differences between these estimates, judgments or assumptions and actual results, our financial statements will be affected. The significant accounting policies that we believe are important to fully understanding and evaluating our reported financial results include the following:

•Revenue recognition,

•Valuation of long-lived and intangible assets,

•Accounting for regulated business in accordance with SFAS 71,

•Stock-based compensation, and

•Deferred costs.

In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management’s judgment in its application. There are also areas in which require management’s judgment in selecting among available GAAP alternatives. Our senior management has reviewed these critical accounting policies and related disclosures with our audit committee.

Revenue recognition

Water utility revenues are recognized when water is delivered to customers. At the end of an accounting period, estimated amounts for unbilled revenues are accrued for water usage since the previous billing period.

Revenues for contract operations are billed based on a monthly fee to provide a specific level of service as outlined in each individual contract. We generally bill for additional services provided beyond the scope of the base contract on a time-and-materials basis as such services are rendered.

Revenues for construction projects are recorded using the percentage-of-completion method of accounting. The percentage of completion method recognizes revenue and income as work progresses on a project based on the expected total project costs and the expected total project revenues. This method is based on an estimate of the revenue and income earned to date, less the revenue and income recognized in earlier periods. If management anticipates we will ultimately suffer a loss on a construction project, the entire estimated loss is recorded in the period such a determination is made.

We provide design, build and operation services under time-and-material and fixed-price contracts, which may extend up to 20 or more years.

Revenues for utility billing and collecting services are recognized and billed at the end of the month in which services are performed. Revenues for installation of utility billing and collection equipment are accounted for using the percentage-of-completion method.

If a contract involves the provision of a single product or service, revenue is generally recognized when the product or service is provided and the amount becomes billable. If services are provided evenly during the contract term but service billings are irregular, revenue is recognized on a straight-line basis over the contract term.

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If a contract involves the provision of multiple products or services (elements), total estimated contract revenue is allocated to each element based on the relative fair value of each service, provided the services qualify for separation under Emerging Issues Task Force (EITF) 00-21, Accounting for Revenue Arrangements with Multiple Deliverables. The amount of revenue allocated to each services is limited to the amount that is not contingent upon the delivery of another element in the future. Revenue is then recognized for each element as described above for single-element contracts, except revenue recognized on a straight-line basis for a non-construction service will not exceed amounts currently billable unless the excess revenue is recoverable from the client upon any contract termination event. If the amount of revenue allocated to a construction service is less than its relative fair value, costs to deliver such service, limited to the difference between allocated revenue and the relative fair value, are deferred and amortized over the contract term. If total construction service costs are estimated to exceed the relative fair value for the construction service contained in a multiple-element arrangement, then a provision for the estimated loss is made in the period in which the loss first becomes apparent.

Valuation of long-lived and intangible assets

Our acquisitions have been accounted for using the purchase method of accounting. In accordance with SFAS No. 144, Accounting for the Impairment of or Disposal of Long-Lived Assets, we assess intangible assets and other long-lived assets for recoverability whenever events or changes in circumstances indicate that their carrying value may not be recoverable through the estimated undiscounted future cash flows resulting from the use of the assets. If we determine that the carrying value of intangible assets or other long-lived assets may not be recoverable, we measure impairment by using the projected discounted cash-flow method in accordance with Statement No. 144.

We have made acquisitions in the past that resulted in recording goodwill and intangible assets. In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives are not amortized, but instead are tested for impairment at least annually. For intangible assets with definite useful lives, SFAS No. 142 requires amortization over their estimated useful lives. SFAS No. 142 became effective for fiscal years beginning after December 15, 2001. At June 30, 2004, other assets include approximately $22.0 million of goodwill, which was no longer subject to amortization beginning in 2002. There were no impairment charges to goodwill as of June 30, 2004 and no events have occurred during the six months ended June 30, 2004 that indicated diminution in the value of recorded goodwill.

Under the provisions of SFAS No. 141, Business Combinations, we identified approximately $0.2 million of intangible contract costs in connection with our acquisition of Aqua Services and approximately $1.1 million of intangible contract costs in connection with our acquisition of OpTech. We are amortizing these intangible contract costs over a period of four years, which is the average estimated life of the contracts.

During 2004, we acquired approximately 136,000 utility billing and collection units at a cost of approximately $5.5 million. Substantially all of the purchase price was allocated to the account lists and the resulting intangible assets will be amortized over eight years.

Accounting for regulated businesses

Our regulated businesses, which include our utilities in California, New Mexico and Texas, are required to be accounted for under the provisions of SFAS No. 71, Accounting for the Effects of Certain Types of Regulation, which specifies certain revenue, expense and balance sheet treatment as required by each state regulatory authority. Each state authority establishes rates which are intended to permit each utility to recover its costs and earn a reasonable rate of return. Each utility may file and process general rate applications on a periodic basis. Since the established rates may be in effect for several years, our utilities attempt to anticipate cost increases and apply for rates sufficient to permit recovery of those cost increases when incurred, where permitted by state law.

Our Services Group has contracted with our utilities in Texas and New Mexico to perform operating services, maintenance, and construction work, and to manage capital projects. These contracts were established utilizing terms and conditions equivalent to prevailing industry rates for similar work performed by our Services Group for non-affiliated customers. In accordance with SFAS No. 71, our Services Group recognizes profit from work performed and does not eliminate the intercompany profit when the contract sales price is reasonable and it is probable that the costs and capital will be recoverable by the utility through the rate-making process. Accordingly, the intercompany profit, for construction as well as operations and maintenance services, and the related receivables and payables, on such work have not been eliminated in the accompanying condensed consolidated financial statements. However, all revenue in excess of profits has been eliminated in consolidation.

Beginning in December 2001, our water utility has recognized all water costs as incurred. Currently the differences between actual and CPUC-adopted water production costs are expensed as incurred. These differences are tracked in a memorandum account and we will attempt to recover these expenses in future rate hearings.

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Our California water utility recorded a balancing account receivable in the amount of approximately $2.3 million, representing the difference between actual water production costs incurred and CPUC-adopted water production costs. Historically, the CPUC allowed such balancing accounts in the income statements of water utilities, with a corresponding liability or asset on the balance sheet.  On July 8, 2004, the CPUC issued a decision that allows our water utility in California to increase rates to collect approximately $3.0 million. We expect this amount will be billed and collected within the next 24 to 36 months.   The $0.7 million increase in the balancing account receivable will be recorded in July 2004.

Stock-Based Compensation

In 2002, we adopted the fair value recognition provisions of SFAS No. 123, Accounting for Stock-Based Compensation, which requires valuation of stock options issued based upon an option pricing model and recognition of this value as an expense over the period in which the options vest. In accordance with the provisions of SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure, an amendment of FASB Statement No. 123, we elected to recognize stock-based compensation using the retroactive restatement method. Under this change in accounting method, we restated our consolidated financial statements for periods prior to 2002 to reflect stock-based compensation expense under a fair value based accounting method for all options granted, modified or settled in fiscal years beginning after December 15, 1994.

We use the Black-Scholes option valuation model to estimate the fair value of our stock options. This option valuation model was developed for use in estimating the fair value of traded options that do not have vesting restrictions and that are fully transferable. Option valuation models require subjective assumptions such as the expected future volatility of the stock price. Because the stock options we grant have characteristics that are significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the calculated results, in management’s opinion, the stock option valuation models, including Black-Scholes, may not necessarily provide an exact measure of the fair value of employee stock options.

Stock Dividends and Splits

We effected a 4-for-3 stock split in the form of a stock dividend on January 1, 2004. All per share amounts and numbers of shares outstanding reflect this dividend.

Deferred Costs

We defer certain costs incurred in anticipation of future contract sales.  These costs include but are not limited to the costs of mobilization, engineering, architectural, or other services incurred on the basis of commitments or other indications of interest in negotiating a contract.  Costs to make, buy or use assets in connection with anticipated contracts are also included.  We subsequently amortize these deferred contract acquisition costs on a straight-line basis over the remaining original contract term unless revenue patterns indicate a more accelerated method is appropriate. Deferred contract costs net of accumulated amortization are included in other assets. The recoverability of all long-lived assets associated with a particular contract, including deferred contract costs, is analyzed on a periodic basis. If long-lived assets are determined to be impaired, impairment is recognized for the amount by which the carrying value of the long-lived assets exceeds the fair value of those assets.  Costs incurred on failed contract proposals are expensed immediately.

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RISK FACTORS

The following factors, which are described more fully in our 2003 Annual Report, represent risks and uncertainties that could cause actual results to differ materially from our historical experience and our present expectations or projections. Factors that could affect forward-looking statements relating to the resolution of the reportable condition with respect to internal controls discussed in Item 4 below and Item 9A of our 2003 Annual Report, include among other things: our ability to fully resolve the deficiencies during 2004; our ability to identify and retain qualified and experienced financial personnel at the Services Group; our ability to design and maintain policies and procedures which enable us to avoid any reoccurrence of the matters which gave rise to the reportable condition; and our ability to implement policies and procedures including documentation that meets the internal control over financial reporting requirements of the rules adopted by the Securities and Exchange Commission pursuant to Section 404 of the Sarbanes-Oxley Act of 2002. See “Risk Factors” in our 2003 Annual Report for further disclosure related to risk factors:

Risks Related to Our Common Stock

•Our outstanding indebtedness may adversely affect our financial condition and the value of our common stock.

•We are a holding company that depends on cash flow from our subsidiaries to meet our obligations.

•The market price of our shares of common stock could be volatile.

•Our results could fall below the expectations of market analysts or investors.

Risks Related to Our Business

Risk factors that affect our Services Group operations

•Weather conditions can affect the financial results of our Services Group.

•We operate in a competitive market with low operating margins.

•Our revenue growth depends on our ability to enter into new, and maintain our existing, operating contracts with cities, agencies and municipal utility districts.

•Our business depends on trained, qualified employees.

•Events such as hurricanes, floods, tornadoes and terrorist activities may adversely affect our results of operations.

•Services Group contracts for the design and construction of water and wastewater projects may expose us to certain completion and performance risks.

•We use third party equipment and subcontractors.

•Our Services Group is subject to environmental and water quality risks.

•We operate a large fleet of vehicles that could expose us to liabilities.

•Our operating costs may rise faster than our revenues.

•Our operating contracts may be canceled, reducing our revenues and backlog.

Risk Factors that affect our Utility Group operations

•Weather conditions can affect the financial results of our Utility Group.

•Changes in the regulatory environment, may adversely affect our results of operations.

•We may discover additional sources of contamination of our water sources which may adversely affect our operations.  We may not recover costs incurred or revenues lost due to such contamination from parties responsible or from rate payers.

•We own assets in areas subject to natural disasters.

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•We are subject to regulatory and environmental risks and may not be able to provide an adequate supply of water to our customers.

•We need access to capital to continue to invest in our utility assets.

Other Risk Factors

•Our capital resources may restrict our ability to operate and expand our business.

•If we continue to grow, we may fail to effectively manage our growth or we may fail to effectively manage the growth we have experienced.

•Our business may be affected by the general economic conditions of real estate development in the United States.

•We are subject to increasing costs of producing products and services.

•Our operations are subject to certain risks due to their location.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

We have certain indebtedness that is subject to variable rate interest. As a result, Southwest Water’s interest expense is affected by changes in the general level of interest rates. The interest expense we pay on our line of credit borrowings and certain term loans is determined based upon a rate formula that fluctuates with short-term LIBOR rates and cannot exceed the banks’ prime rate minus one-quarter percent.

We completed a $20.0 million, 20-year convertible subordinate debenture offering in July 2001, which bears a fixed interest rate of 6.85% per annum. The proceeds were used to pay down certain variable rate indebtedness. Our long-term debentures were sold with a fixed interest rate, and are not subject to market fluctuation of interest rates.

Item 4. Controls and Procedures

We maintain disclosure controls and procedures designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As reported in our 2003 Annual Report, in March 2004, management, in consultation with our independent accountants, identified deficiencies in certain aspects of the monitoring and analysis components of the internal control procedures in our Services Group segment which constituted a reportable condition (as defined in AU 325, Communication of Internal Control Related Matters Noted in An Audit of the AICPA Professional Standards). These identified deficiencies impacted the quality and timeliness of the reporting and reconciliation of certain transactions in the Services Group. The matters involving the reportable condition have been discussed in detail among management, the audit committee of our board of directors, and our independent accountants. The identified deficiencies did not require any restatement of our consolidated financial statements for any prior period.

As discussed in our 2003 Annual Report, management is implementing changes which we expect will rectify the those deficiencies during 2004.  In the quarter ended June 30, 2004 we made changes in our internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting, including:

•We have increased the number and capability of the Services Group accounting staff;

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•We have implemented more formal procedures in our internal review processes;

•Our audit committee approved the engagement of a professional internal audit firm.

We are continuing to identify and implement improvements in our control environment.  We believe the aforementioned changes, implemented during the three months ended June 30, 2004, have enhanced our internal controls over financial reporting.

PART II - OTHER INFORMATION

Item 1. Legal Proceedings

Southwest Water and a subsidiary have been named as defendants in several lawsuits alleging various injuries as a result of water contamination in the San Gabriel Valley Main Basin. The California Supreme Court ruled in February 2002 that the plaintiffs cannot challenge the adequacy of the water quality standards established by California Department of Health Services (DOHS). The plaintiffs may sue and collect damages from CPUC-regulated water companies only by proving that water delivered did not meet these water quality standards. The California Supreme Court directed that the cases be sent to a trial court for further proceedings. At this time a number of cases, including those involving Southwest, have been consolidated before a single judge. Southwest Water requested defense and indemnification from its liability insurance carriers for these lawsuits. Several of the liability insurance carriers have absorbed the costs of defense of the lawsuits. After discovery, the plaintiffs admitted that they could not prove any violation of DOHS water quality standards by Southwest. On August 4, 2004 the case against Southwest Water was dismissed.

Southwest Water and its subsidiaries are subject to litigation arising in the ordinary course of operations. We believe the ultimate resolution of such matters will not materially adversely affect our financial position, results of operations or cash flows.

Item 4. Submission of Matters to a Vote of Security Holders.

Proposal 1.To elect three persons as Class III Directors to a three-year term and until their successors are duly elected and qualified.

	H. Frederick Christie	Anton C. Garnier	Peter J. Moerbeek
Votes “For”	11,823,889	11,977,443	11,977,420
Votes to “Withhold Authority”	565,197	411,643	411,666

Proposal 2.To approve an amendment to the Company’s Amended and Restated Certificate of Incorporation increasing the number of authorized shares of common stock from 25,000,000 shares to 75,000,000 shares.

Votes “For”— 10,205,224 shares

Votes “Against”— 2,013,512 shares

Votes “Abstained”— 170,350 shares

Proposal 3.To approve an amendment to the Amended and Restated Stock Option Plan for Non-Employee Directors, which includes an increase of 250,000 shares authorized for issuance under the plan, an increase of 5,000 shares to the initial and annual stock option grants to non-employee directors (“Non-Employee Directors”) and a four-year extension to the term of the plan.

Votes “For”— 4,775,775 shares

Votes “Against”— 2,570,500 shares

Votes “Abstained”— 397,581 shares

Broker “Non-Vote”— 4,645,230 shares

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Item 5. Other Information

None

Item 6. Exhibits and Reports on Form 8-K

(a)Exhibits:

10.1	Amendment No. 2 to Amended and Restated Bylaws of Southwest Water Company.
10.2	Certificate of Amendment of Restated Certificate of Incorporation of Southwest Water Company.
10.3	Amended and Restated Stock Option Plan for Non-Employee Directors of Southwest Water Company.
10.4	Amendment to the Amended and Restated Stock Option Plan for Non-Employee Directors of Southwest Water Company.
10.5	Amended and Restated Credit Agreement between Southwest Water Company and Bank of America, N.A. July 7, 2004.
10.6	Certificate of Amendment of Restated Certificate of Incorporation of Southwest Water Company and Union Bank of California, N.A. July 7, 2004.
31.1	Certification of Chief Executive Officer pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification of Chief Financial Officer pursuant to Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

(b)Reports on Form 8-K:

On May 11, 2004, we filed a Current Report on Form 8-K furnishing an earnings release with respect to our financial results for the three months ended March 31, 2004.

On May 3, 2004, we filed a Current Report on Form 8-K furnishing a press release announcing our definitive agreement to acquire regulated water and wastewater utility companies from Tecon Water Holdings, L.P.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	SOUTHWEST WATER COMPANY
	(Registrant)
Dated:  August 6, 2004	/s/ RICHARD J. SHIELDS
	Richard J. Shields Chief Financial Officer (Principal Financial Officer)

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EX-10.1

Exhibit 10.1

AMENDMENT NO. 2 TO AMENDED AND RESTATED BYLAWS

OF

SOUTHWEST WATER COMPANY

The following sets forth the second amendment to the Amended and Restated Bylaws (the “Bylaws”) of Southwest Water Company, a Delaware corporation, which amendment shall be effective as of February 12, 2004.

1.Sections 2 and 3 of Article IV of the Bylaws are hereby amended and restated in their entirety to read as follows:

“SECTION 2.Chairman of the Board.  The Chairman of the Board, if such an officer be elected, shall, if present, preside at all meetings of the Board of Directors and exercise and perform such other powers and duties as may be from time to time assigned to him by the Board of Directors or prescribed by these bylaws.  If there is no Chief Executive Officer or President, the Chairman of the Board shall in addition be the Chief Executive Officer of the Corporation and shall have the powers and duties prescribed in Section 3A of this Article IV.

SECTION 3A.Chief Executive Officer.  Subject to such supervisory powers, if any, as may be given by the Board of Directors to the Chairman of the Board, if there is such an officer, the Chief Executive Officer shall, subject to the control of the Board of Directors and these bylaws, have the responsibility for the general management and control of the business and affairs of the Corporation and shall perform all duties and have all powers which are commonly incident to the office of chief executive or which are delegated to him or her by the Board of Directors or prescribed by these bylaws. He or she shall have the power to sign all stock certificates, contracts, and other instruments of the Corporation which are authorized and shall have general supervision and direction of all the other officers, employees and agents of the Corporation.

SECTION 3B.  President.  In the absence or disability of the Chief Executive Officer, if there be such an officer, the President shall perform all the duties of the Chief Executive Officer, and when so acting shall have all the powers of and be subject to all the restrictions upon the Chief Executive Officer.  The President shall have such other duties as from time to time may be prescribed for him by the Board of Directors or the Chief Executive Officer.”

2.Article IV, Section 1 of the Bylaws is hereby amended in its entirety to read as follows:

“SECTION 1.   Generally.  The officers of the Corporation shall consist of a Chief Executive Officer, President, one or more Vice Presidents, a Secretary, a Treasurer, and such other officers as may from time to time be appointed by the Board of Directors.  Officers shall be elected by the Board of Directors, which shall consider that subject at its first meeting after every annual meeting of stockholders.  Each officer shall hold office until his or her successor is elected and qualified or until his or her earlier resignation or removal.  Any number of offices may be held by the same person.”

EX-10.2

Exhibit 10.2

CERTIFICATE OF AMENDMENT
OF
RESTATED CERTIFICATE OF INCORPORATION
OF
SOUTHWEST WATER COMPANY

PETER J. MOERBEEK AND SHELLEY A. FARNHAM certify that:

1.             They are the President and Secretary, respectively, of Southwest Water Company, a Delaware corporation (this “Corporation”).

2.             The following action, setting forth a proposed amendment (the “Amendment”) to the Restated Certificate of Incorporation of this Corporation, was duly approved by the Board of Directors of Southwest Water Company, a Delaware corporation and, at the 2004 Annual Stockholders’ Meeting, by the necessary number of shares as required by statute and the Restated Certificate of Incorporation of this Corporation.

3.             Said Amendment was duly adopted in accordance with the provisions of Section 242 of the General Corporation Law of the State of Delaware.

WHEREAS, Southwest Water Company filed a Certificate of Incorporation with the State of Delaware on February 2, 1988, a Restated Certificate of Incorporation on April 6, 1988, a Certificate of Amendment of Certificate of Incorporation on May 1, 1995, a Certificate of Amendment of Certificate of Incorporation on June 4, 1998, and a Certificate of Correction of Amendment of Restated Certificate of Incorporation on September 14, 1998 (collectively, the “Certificate”);

WHEREAS, the Board of Directors desires to amend and restate Article FOURTH, Paragraph A of the Certificate of this Corporation;

NOW, THEREFORE, IT IS HEREBY RESOLVED, that Article FOURTH, Paragraph A of the Certificate is hereafter amended and restated in its entirety to read:

“A.          The total number of shares of all classes of stock which the Corporation shall have authority to issue is seventy-five million two hundred fifty thousand (75,250,000), consisting of the following:

(1)           two hundred fifty thousand (250,000) shares of Preferred Stock with a par               value of $.01 per share (the “Preferred Stock”); and

(2)           seventy-five million (75,000,000) shares of Common Stock, with a par value of $.01 per share (the “Common Stock”).”

RESOLVED FURTHER, that the Board of Directors hereby authorizes and directs the Secretary of this Corporation to do and perform all acts, to execute and deliver all certificates and to take or cause to be taken all other action as such officer may deem necessary, desirable or appropriate to carry out the full intent and purpose of the foregoing resolution.

IN WITNESS HEREOF, the undersigned have executed this Certificate of Amendment this 17^th day of May, 2004.

SOUTHWEST WATER COMPANY,

a Delaware corporation

Peter J. Moerbeek, President

Shelley A. Farnham, Secretary

EX-10.3

Exhibit 10.3

NONQUALIFIED STOCK OPTION AGREEMENT

FOR NON-EMPLOYEE DIRECTORS

THIS AGREEMENT, dated, is made by and between Southwest Water Company, a Delaware corporation hereinafter referred to as the “Company,” and                                                   , a non-employee director of the Company or Subsidiary of the Company, hereinafter referred to as “Optionee”:

WHEREAS, the Company wishes to afford the Optionee the opportunity to purchase shares of its $.01 par value Common Stock;

WHEREAS, the Company wishes to carry out its Amended and Restated Stock Option Plan for Non-Employee Directors, as amended (the “Plan”) (the terms of which are hereby incorporated by reference and made a part of this Agreement); and

WHEREAS, the Plan provides for the grant of the Non-Qualified Stock Option set forth herein to the Optionee as an inducement to enter into or remain in the service of the Company or its Subsidiaries and as an incentive for increased efforts during such service, and has advised the Company thereof and instructed the undersigned officers to issue said Option;

NOW, THEREFORE, in consideration of the mutual covenants herein contained and other good and valuable consideration, receipt of which is hereby acknowledged, the parties hereto do hereby agree as follows:

ARTICLE I.
DEFINITIONS

Whenever the following terms are used in this Agreement, they shall have the meaning specified below unless the context clearly indicates to the contrary.  The masculine pronoun shall include the feminine and neuter, and the singular the plural, where the context so indicates.

Section 1.1Board

“Board” shall mean the Board of Directors of the Company as constituted from time to time.

Section 1.2Code

“Code” shall mean the Internal Revenue Code of 1986, as amended from time to time.

Section 1.3Common Stock

“Common Stock” shall mean the common stock of the Company, par value $.01 per share, of the Company.

Section 1.4Company

“Company” shall mean Southwest Water Company, a Delaware corporation, or any successor entity.

Section 1.5Director

“Director” shall mean a person who is a member of the Board as constituted at that time.

Section 1.6Employee

“Employee” shall mean any employee (as defined in accordance with the Regulations and Revenue Rulings then applicable under Section 3401(c) of the Code) of the Company, or of any corporation which is then a Subsidiary or a Parent Corporation, whether such employee is so employed at the time the Plan is adopted or becomes so employed subsequent to the adoption of the Plan.

Section 1.7Exchange Act

“Exchange Act” shall mean the Securities Exchange Act of 1934, as amended.

Section 1.8Fair Market Value

“Fair Market Value” of a share of Common Stock as of a given date shall be (i) the closing price of a share of Common Stock on the principal exchange on which shares of Common Stock are then trading, if any (or as reported on any composite index which includes such principal exchange), on the trading day preceding such date, or if shares were not traded on the trading day preceding such date, then on the next preceding trading day during which a sale occurred, or (ii) if the Common Stock is not traded on an exchange (x) the last sales price of a share of the Common Stock on The Nasdaq Stock Market (if the stock is then traded on The Nasdaq Stock Market) on the trading day preceding such date, or, if shares were not traded on the day preceding such date, then on the next preceding trading day during which a sale occurred; or (y) the mean between the closing representative bid and asked prices for the Common Stock on the trading day next preceding such date as reported by the National Association of Securities Dealers, Inc. through NASDAQ or a successor quotation system or, if shares were not quoted on the day immediately preceding such date, then on the next preceding trading day during which a quote occurred, or (iii) if the Common Stock is not publicly traded on an exchange and prices are not provided through The Nasdaq Stock Market, NASDAQ or a successor quotation system, the mean between the closing bid and asked prices for the Common Stock on the trading day next preceding such date as determined in good faith by the Board; or (iv) if the Common Stock is not publicly traded, the fair market value of the Common Stock established by the Board acting in good faith.

Section 1.9Non-Employee Director

“Non-Employee Director” shall mean any Director who is not at the same time an Employee.

Section 1.10Option

“Option” shall mean a non-qualified stock option to purchase Common Stock of the Company granted under this Agreement and Article 3 of the Plan.

Section 1.11Optionee

“Optionee” shall mean a Non-Employee Director to whom an Option is granted under this Agreement and the Plan.

Section 1.12Parent Corporation

“Parent Corporation” shall have the meaning given in Section 424(e) of the Code.

Section 1.13Plan

“Plan” shall mean the Amended and Restated Stock Option Plan for Non-Employee Directors of Southwest Water Company, as the same may be amended or restated from time to time.

Section 1.14Rule 16b-3

“Rule 16b-3” shall mean that certain Rule 16b-3 under the Exchange Act, as such Rule may be amended from time to time.

Section 1.15Secretary

“Secretary” shall mean the Secretary of the Company.

Section 1.16Securities Act

“Securities Act” shall mean the Securities Act of 1933, as amended.

Section 1.17Subsidiary

“Subsidiary” shall mean any corporation in an unbroken chain of corporations beginning with the Company if each of the corporations other than the last corporation in the unbroken chain then owns stock possessing 50% or more of the total combined voting power of all classes of stock in one of the other corporations in such chain.

Section 1.18Termination as a Non-Employee Director

“Termination as a Non-Employee Director” shall mean the time when the Optionee who is a Non-Employee Director ceases to be a member of the Board by reason of such Optionee’s death or disability (within the meaning of Section 22(e)(3) of the Code), retirement, resignation or for any other reason.

ARTICLE II.
GRANT OF OPTION

Section 2.1Grant of Option

In consideration of the Optionee’s agreement to serve as a Non-Employee Director of the Company or its Subsidiaries until the next annual meeting of stockholders of the Company and for other good and valuable consideration, effective as of May 13, 2004, the Company irrevocably grants to the Optionee the option to purchase any part or all of an aggregate of 10,000 shares of its $.01 par value Common Stock upon the terms and conditions set forth in this Agreement.

Section 2.2Purchase Price

The price per share of the Common Stock subject to each Option shall be $           per share (which is the Fair Market Value of a share of Common Stock on the date of the granting of this Option) without commission or other charge.

Section 2.3Consideration to Company

In consideration of the granting of this Option by the Company, the Optionee agrees to render faithful and efficient services to the Company until the next annual meeting of stockholders of the Company.  Nothing in the Plan or this Agreement shall confer upon any Optionee any right to continue as a director of the Company, or shall interfere with or restrict in any way the rights of the Company, which are hereby expressly reserved, to discharge the Optionee at any time for any reason whatsoever, with or without good cause.

Section 2.4Adjustments in Option

In the event that the outstanding shares of the Common Stock subject to the Option are changed into or exchanged for a different number or kind of shares of the Company or other securities of the Company by reason of merger (including reincorporation by means of merger), consolidation, recapitalization, reclassification, stock split-up, stock dividend or combination of shares (a “Recapitalization”), the Board shall make an appropriate and equitable adjustment in the number and kind of shares as to which the Option, or portions thereof then unexercised, shall be exercisable, to the end that after such event the Optionee’s proportionate interest shall be maintained as before the occurrence of such event.  Such adjustment in the Option may include any necessary corresponding adjustment in the Option price per share, but shall be made without change in the total price applicable to the Option or the unexercised portion of the Option (except for any change in the aggregate price resulting from rounding-off of share quantities or prices).  Any such adjustment made by the Board shall be final and binding upon the Optionee, the Company and all other interested persons.

Section 2.5Merger, Consolidation, Exchange, Acquisition, Liquidation or Dissolution

The Board may, in its absolute discretion and upon such terms and conditions as it deems appropriate, provided by resolution adopted prior to the occurrence of any merger or consolidation of the Company into another corporation, the exchange of all or substantially all of

the assets of the Company for the securities of another corporation, the acquisition by another corporation of 80% or more of the Company’s then outstanding voting stock or the liquidation or dissolution of the Company provide that, for some period of time prior to such event, that such Option shall be exercisable as to all shares covered thereby, notwithstanding anything to the contrary in Sections 3.1(a) or 3.1(b) below.  Any determinations made by the Board pursuant to this Section shall be applied uniformly to all Options granted hereby and outstanding on the date of such determination.

ARTICLE III.
PERIOD OF EXERCISABILITY

Section 3.1Commencement of Exercisability

(a)The Option may not be exercised in whole or in part during the first year after the date of grant of the Option.

(b)Subject to the provisions of Sections 3.1(a) and 3.1(c), the Option shall become exercisable in two (2) cumulative installments as follows:

(i)The first installment shall consist of fifty percent (50%) of the shares covered by the Option and shall become exercisable on the first anniversary of the date the Option is granted.

(ii)The second installment shall consist of fifty percent (50%) of the shares covered by the Option and shall become exercisable on the second anniversary of the date the Option is granted.

(c)Subject to Section 3.1(a), the portion, if any, of an Option which is unexercisable on the date of Termination as a Non-Employee Director shall become immediately exercisable.

Section 3.2Duration of Exercisability

The installments provided for in Section 3.1 are cumulative.  Each such installment which becomes exercisable pursuant to Section 3.1 shall remain exercisable until it becomes unexercisable under Section 3.3.

Section 3.3Expiration of Option

The Option may not be exercised to any extent by anyone after the first to occur of the following events:

(a)The expiration of a period of seven years and one day from the date the Option was granted; or

(b)The expiration of one year from the date of the Optionee’s Termination as a Non-Employee Director for any reason, unless the Optionee dies within said one year period; or

(c)The expiration of one year from the date of the Optionee’s death.

ARTICLE IV.
EXERCISE OF OPTION

Section 4.1Person Eligible to Exercise

During the lifetime of the Optionee, only the Optionee may exercise the Option or any portion thereof; provided, however, that nothing in this Section 4.1 shall prevent the exercise of the Option by a person to whom the Option was lawfully transferred, in whole or in part, pursuant to a qualified domestic relations order (as defined in the Code) or pursuant to a transfer permitted by the Board pursuant to Section 5.2(ii) hereof and Section 7.1 of the Plan.  After the death of the Optionee, any exercisable portion of the Option may, prior to the time when the Option becomes unexercisable under Section 3.3, be exercised by his personal representative or by any person empowered to do so under the Optionee’s will or under the then applicable laws of descent and distribution.

Section 4.2Partial Exercise

Any exercisable portion of the Option or the entire Option, if then wholly exercisable, may be exercised in whole or in part at any time and from time to time prior to the time when the Option or portion thereof becomes unexercisable under Section 3.3; provided, however, that each partial exercise shall be for not less than one hundred (100) shares or, if less, the number of shares remaining to be exercised, and shall be for whole shares only.

Section 4.3Manner of Exercise

The Option, or any exercisable portion thereof, shall be exercised solely by delivery to the Secretary or his office of all of the following prior to the time when the Option or such portion becomes unexercisable under Section 3.3:

(a)Notice in writing signed by the Optionee or the other person then entitled to exercise the Option or portion, stating that the Option or portion is thereby exercised, such notice complying with all applicable rules established by the Board;

(b)The payment to the Company of the aggregate Option exercise price for the shares with respect to which such Option or portion is exercised in:

(i)Cash;

(ii)With the consent of the Board, (A) certain shares of the Company’s Common Stock owned by the Optionee duly endorsed for transfer to the Company or (B) shares of the Company’s Common Stock issuable to the Optionee upon exercise of the Option, with a Fair Market Value on the date of Option exercise equal to the aggregate purchase price of the shares with respect to which such Option or portion is exercised;

(iii)With the consent of the Board, a full recourse promissory note bearing interest (at no less than such rate as shall then preclude the imputation of interest under the Code or successor provision) and payable upon such terms as may be prescribed by the Board.  The Board may also prescribe the form of such note and the security to be given for such note.  The Option may not be exercised, however, by delivery of a promissory note or by a loan from the Company when or where such loan or other extension of credit is prohibited by law; or

(iv)With the consent of the Board, any combination of the consideration provided in the foregoing subparagraphs (i), (ii) and (iii);

(c)Full payment to the Company (or other employer corporation) of all amounts which, under federal, state or local law, it is required to withhold in connection with the exercise of the Option or a portion thereof; all or any part of such payment may be made, with the consent of the Board, (i) with certain shares of the Company’s Common Stock owned by the Optionee duly endorsed for transfer, or (ii) with shares of the Company’s Common Stock issuable to the Optionee upon exercise of the Option, in each case, having a Fair Market Value at the date of Option exercise equal to the sums required to be withheld;

(d)Such representations and documents as the Board, in its absolute discretion, deems necessary or advisable to effect compliance with all applicable provisions of the Securities Act and any other Federal or state securities laws or regulations.  The Board may, in its absolute discretion, also take whatever additional actions it deems appropriate to effect such compliance including, without limitation, placing legends on share certificates and issuing stop-transfer orders to transfer agents and registrars; and

(e)In the event the Option or portion thereof shall be exercised pursuant to Section 4.1 by any person or persons other than the Optionee, appropriate proof of the right of such person or persons to exercise the Option.

(f)Notwithstanding anything herein to the contrary, the Optionee may satisfy the requirements of subsections (b) and (c) of this Section 4.3 concerning payment for the shares and all applicable withholding taxes, with the consent of the Board, through the delivery to the Secretary or his office of (i) an irrevocable written exercise notice containing instructions to the Company to deliver to Optionee’s broker the certificate(s) representing the shares with respect to which the Option or portion is thereby exercised and (ii) timely full payment (in cash or by check) for the shares with respect to which such Option or portion is thereby exercised and all amounts which the Company is required to withhold under federal, state or local law in connection with the exercise of the Option or portion thereof.  Notwithstanding anything to the contrary in this Section 4.3, the Board shall not take any discretionary action which will result in the failure of the Plan to satisfy any exemptive condition imposed by Rule 16b-3 of the code with respect to the effected Option or which would be in violation of any applicable law.

Section 4.4Conditions to Issuance of Stock Certificates

The shares of stock issuable and deliverable upon the exercise of the Option, or any portion thereof, may be either previously authorized but unissued shares or issued shares

which have then been reacquired by the Company.  Such shares shall be fully paid and nonassessable.  The Company shall not be required to issue or deliver any certificate or certificates for shares of stock purchased upon the exercise of the Option or portion thereof prior to fulfillment of all of the following conditions:

(a)The admission of such shares to listing on all stock exchanges on which such class of stock is then listed;

(b)The completion of any registration or other qualification of such shares under any state or federal law or under rulings or regulations of the Securities and Exchange Commission or of any other governmental regulatory body, which the Board shall, in its absolute discretion, deem necessary or advisable;

(c)The obtaining of any approval or other clearance from any state or federal governmental agency which the Board shall, in its absolute discretion, determine to be necessary or advisable;

(d)The receipt by the Company of full payment for such shares, including payment of all amounts which, under federal, state or local tax law, it is required to withhold upon exercise of the Option; and

(e)The lapse of such reasonable period of time following the exercise of the Option as the Board may establish from time to time for reasons of administrative convenience.

Section 4.5Rights as Stockholder

The holder of the Option shall not be, nor have any of the rights or privileges of, a stockholder of the Company in respect of any shares purchasable upon the exercise of any part of the Option unless and until certificates representing such shares shall have been issued by the Company to such holder.

ARTICLE V.
OTHER PROVISIONS

Section 5.1Administration

With respect to this Option, the full Board, acting by a majority of its members in office, shall have the power to interpret the Plan and this Agreement and to adopt such rules for the administration, interpretation and application of the Plan as are consistent therewith and to interpret or revoke any such rules.  All actions taken and all interpretations and determinations made by the Board in good faith shall be final and binding upon the Optionee, the Company and all other interested persons.  No member of the Board shall be personally liable for any action, determination or interpretation made in good faith with respect to the Plan or the Option.

Section 5.2Option Generally Not Transferable

Neither the Option nor any interest or right therein or part thereof shall be liable for the debts, contracts or engagements of the Optionee or his successors in interest or shall be

subject to disposition by transfer, alienation, anticipation, pledge, encumbrance, assignment or any other means whether such disposition be voluntary or involuntary or by operation of law by judgment, levy, attachment, garnishment or any other legal or equitable proceedings (including bankruptcy), and any attempted disposition thereof shall be null and void and of no effect; provided, however, that nothing in this Section 5.2 shall prevent (i) transfers by will or by the applicable laws of descent and distribution, or, to the extent not prohibited by the Code, pursuant to a qualified domestic relations order (as defined in the Code) or (ii) with the prior written consent of the Board, by gift or as a contribution, to a family member of the Optionee, (as defined under the instructions to use of Form S-8), provided, that an Option that has been so transferred shall continue to be subject to all of the terms and conditions as applicable to the original Optionee, and the transferee shall execute any and all such documents requested by the Board in connection with the transfer, including without limitation to evidence the transfer and to satisfy any requirements for an exemption for the transfer under applicable federal and state securities laws.

Section 5.3Shares to Be Reserved

The Company shall at all times during the term of the Option reserve and keep available such number of shares of stock as will be sufficient to satisfy the requirements of this Agreement.

Section 5.4Notices

Any notice to be given under the terms of this Agreement to the Company shall be addressed to the Company in care of its Secretary, and any notice to be given to the Optionee shall be addressed to him at the address given beneath his signature hereto.  By a notice given pursuant to this Section 5.4, either party may hereafter designate a different address for notices to be given to him.  Any notice which is required to be given to the Optionee shall, if the Optionee is then deceased, be given to the Optionee’s personal representative if such representative has previously informed the Company of his status and address by written notice under this Section 5.4.  Any notice shall be deemed duly given when enclosed in a properly sealed envelope or wrapper addressed as aforesaid, deposited (with postage prepaid) in a post office or branch post office regularly maintained by the United States Postal Service.

Section 5.5Titles

Titles are provided herein for convenience only and are not to serve as a basis for interpretation or construction of this Agreement.

Section 5.6Construction

This Agreement shall be administered, interpreted and enforced under the laws of the State of California.

Section 5.7Conformity to Securities Laws

The Optionee acknowledges that the Plan and this Option grant are intended to conform to the extent necessary with all provisions of the Securities Act and the Exchange Act

and any and all regulations and rules promulgated by the Securities and Exchange Commission thereunder, including without limitation Rule 16b-3.  Notwithstanding anything herein to the contrary, the Plan shall be administered, and the Option is granted and may be exercised, only in such a manner as to conform to such laws, rules and regulations.  To the extent permitted by applicable law, the Plan and this Agreement shall be deemed amended to the extent necessary to conform to such laws, rules and regulations.

IN WITNESS WHEREOF, this Agreement has been executed and delivered by the parties hereto.

	SOUTHWEST WATER COMPANY,
	a Delaware corporation
	By:
		Anton C. Garnier, CEO & Chairman
	By:
		Peter J. Moerbeek, President and COO
Optionee
Address
Optionee’s Taxpayer
Identification Number:

EX-10.4

Exhibit 10.4

AMENDMENT TO THE

AMENDED AND RESTATED STOCK OPTION PLAN

FOR NON-EMPLOYEE DIRECTORS

OF

SOUTHWEST WATER COMPANY

This Amendment (“Amendment”) to the Amended and Restated Stock Option Plan for Non-Employee Directors of Southwest Water Company (the “Plan”) is adopted by Southwest Water Company, a Delaware corporation (the “Company”), effective as of May 13, 2004.

RECITALS

WHEREAS, the Board of Directors (the “Board”) originally adopted the Stock Option Plan for Non-Employee Directors on March 27, 1996 and the Plan, as amended, was approved by the stockholders on May 23, 2000;

WHEREAS, Section 7.2 of the Plan provides that the Plan may be amended from time to time by the Board, subject in certain circumstances to stockholder approval of such amendment; and

WHEREAS, the Board believes it is in the best interests of the stockholders to: (i) increase the number of shares issuable under the Plan by an additional 250,000 shares, (ii) increase the number of options to purchase shares automatically granted to Non-Employee Directors upon initial election or appointment and annually (subject to continued service on the Board) to 10,000 shares, subject to adjustment in the event of future stock splits, stock dividends or stock combinations, and (iii) extend the Plan’s termination date to May 13, 2014.

NOW, THEREFORE, the following amendments to the Plan are adopted by the Company.

AMENDMENTS

Effective as of May 13, 2004, Section 2.1 of the Plan is hereby amended and replaced in its entirety as follows:

Section 2.1“Shares Subject to Restated Director Option Plan.

Subject to Section 4.6 (relating to adjustments in shares upon a Recapitalization, as defined therein), the shares of stock subject to Options shall be shares of Common Stock.  The aggregate number of shares of Common Stock which may be issued upon exercise of Options shall not exceed Six Hundred Eighty Seven Thousand Five Hundred Fifty Five (687,555).  The foregoing gives effect to stock splits and stock dividends through February 12, 2004.

Effective as of May 13, 2004, the Section 3.2 of the Plan is hereby amended and replaced in its entirety as follows:

“Subject to Section 3.3 below, effective as of the 2004 Annual Meeting of Stockholders, each person who is a Non-Employee Director immediately as of and following the 2004 Annual Meeting of Stockholders shall be granted automatically on the date of the 2004 Annual Meeting of Stockholders an additional option to purchase 10,000 of Common Stock.  Each person who first becomes a Non-Employee Director after the 2004 Annual Meeting of Stockholders by election or appointment to the Board shall be granted automatically on the date of such person’s election or appointment to the Board, an initial Option to purchase 10,000 shares of Common Stock. Each Non-Employee Director shall thereafter be automatically granted on the date of each subsequent Company Annual Meeting of Stockholders as of and following which such person continues as a Non-Employee Director, an additional option to purchase 10,000 shares of Common Stock.  The 10,000 share option grants provided by this paragraph are subject to anti-dilution adjustments in connection with any stock split, stock dividend, or stock combination as governed by Section 4.6 hereof.”

Effective as of May 13, 2004, Section 4.6 of the Plan is hereby amended and replaced in its entirety as follows:

“Section 4.6 – Adjustments in Outstanding Securities

In the event that the outstanding shares of the Common Stock subject to Options are changed into or exchanged for a different number or kind of shares of the Company or other securities of the Company by reason of merger (including reincorporation by means of merger), consolidation, recapitalization, reclassification, stock split-up, stock dividend or combination of shares (a “Recapitalization”), the Board shall make an appropriate and equitable adjustment in (i) the number and kind of shares as to which all outstanding Options, or portions thereof then unexercised, shall be exercisable, to the end that after such event the Optionee’s proportionate interest shall be maintained as before the occurrence of such event; (ii) the limitations Section 2.1 above on the maximum number and kind of shares which may be issued under this Plan; and (iii) the number of options specified in Section 3.2 automatically granted to Directors.  Any adjustment in an outstanding Option shall be made without change in the total price applicable to the Option or the unexercised portion of the Option (except for any change in the aggregate price resulting from rounding-off of share quantities or prices) and with any necessary corresponding adjustment in option price per share.  Any such adjustment made by the Board shall be final and binding upon all Optionees, the Company and all other interested persons.”

Effective as of May 13, 2004, the last sentence of Section 7.2 of the Plan is hereby amended and replaced in its entirety as follows:

“No Option may be granted during any period of suspension nor after termination of the Restated Director Option Plan, and in no event may any Option be granted under this Restated Director Option Plan after May 13, 2014.”

*  *  *  *  *

The undersigned, Shelley A. Farnham, Secretary of the Company, hereby certifies that amendments described above were adopted by the Board on February 12, 2004, and that the amendment increasing the number of shares authorized under the Plan was approved by the Company’s stockholders on May 13, 2004.

Executed at Los Angeles, California this 13^th day of May, 2004.

Southwest Water Company,
a Delaware corporation
By:
	Shelley A. Farnham
	Secretary

EX-10.5

Exhibit 10.5

AMENDED AND RESTATED CREDIT AGREEMENT

between

SOUTHWEST WATER COMPANY

and

BANK OF AMERICA, N.A.

July 7, 2004

TABLE OF CONTENTS

ARTICLE I DEFINITIONS
SECTION 1.01. Defined Terms.
SECTION 1.02. Other Definitional Provisions.
ARTICLE II THE CREDIT
SECTION 2.01. The Revolving Loans.
(a)	The Revolving Commitment.
(b)	Making the Revolving Loans.
(c)	Reduction of the Revolving Commitment.
(d)	Revolving Note.
(e)	Standby Letters of Credit.
SECTION 2.02. Mandatory Repayment.
SECTION 2.03. Interest Computation and Payment; Fee Computation.
SECTION 2.04. Unused Commitment Fee.
SECTION 2.05. Annual Credit Facility Fee.
SECTION 2.06. The Additional Revolving Loans.
SECTION 2.07. Mandatory Repayment.
SECTION 2.08. Interest Computation and Payment; Fee Computation
SECTION 2.09. Unused Commitment Fee.
SECTION 2.10. Annual Additional Credit Facility Fee.
SECTION 2.11. Collateral.
ARTICLE III GENERAL PROVISIONS CONCERNING THE LOANS
SECTION 3.01. Use of Proceeds.
SECTION 3.02. Payment on Non-Business Days.
SECTION 3.03. Reduced Return.
SECTION 3.04. Indemnities.
SECTION 3.05. Funding Sources.
ARTICLE IV CONDITIONS OF LENDING
SECTION 4.01. Conditions Precedent to Initial Revolving Loan and Initial Additional Revolving Loan
SECTION 4.02. Conditions Precedent to Each Revolving Loan.
SECTION 4.03. Conditions Precedent to Each Revolving Loan and each Additional Revolving Loan.
ARTICLE V REPRESENTATIONS AND WARRANTIES
SECTION 5.01. Representations and Warranties.
(a)	Organization.
(b)	Authorization; No Conflict.
(c)	Governmental Consents.
(d)	Validity.
(e)	Financial Condition.
(f)	Litigation.
(g)	Employee Benefit Plans.
(h)	Disclosure.
(i)	Environmental Matters.
(j)	Employee Matters.

i

(k)	Solvency.
(l)	Title to Properties.
(m)	Tax Returns.
(n)	Compliance with Other Agreements and Applicable Laws.
(o)	No Default.
(p)	Regulation U; Investment Company Act.
(q)	Intangible Assets.
ARTICLE VI COVENANTS
SECTION 6.01. Affirmative Covenants.
(a)	Financial Information.
(b)	Notices and Information.
(c)	Corporate Existence, Etc.
(d)	Payment of Taxes and Claims.
(e)	Maintenance of Properties; Insurance.
(f)	Inspection.
(g)	Compliance with Laws Etc.
(h)	Hazardous Waste Studies.
SECTION 6.02. Negative Covenants.
(a)	Consolidated Tangible Net Worth.
(b)	Consolidated Net Profit.
(c)	EBITDA Coverage Ratio.
(d)	Liens Etc.
(e)	Debt.
(f)	Consolidation, Merger or Dissolution.
(g)	Loans, Investments, Acquisitions, Secondary Liabilities.
(h)	Asset Sales.
(i)	Hostile Tender Offers.
(j)	Distributions.
(k)	Transactions with Affiliates.
(l)	Books and Records.
(m)	Restructure.
ARTICLE VII EVENTS OF DEFAULT
SECTION 7.01. Events of Default.
ARTICLE VIII MISCELLANEOUS
SECTION 8.01. Amendments, Etc.
SECTION 8.02. Notices, Etc.
SECTION 8.03. Right of Setoff:  Security Interest in Deposit Accounts.
SECTION 8.04. No Waiver; Remedies.
SECTION 8.05. Costs and Expenses.
SECTION 8.06. Participations.
SECTION 8.07. Effectiveness: Binding Effect.
SECTION 8.08. Governing Law.
SECTION 8.09. Arbitration and Waiver of Jury Trial.
SECTION 8.10. Waiver of Notices.
SECTION 8.11. Entire Agreement.
SECTION 8.12. Severability of Provisions.

ii

Schedules

5.01(f) - Litigation

5.01(i) - Environmental Matters

6.02(d) - Liens

6.02(e) – Other secured debt

Exhibits

A - Form of Note

B – Form of Note

iii

AMENDED AND RESTATED CREDIT AGREEMENT

This Amended and Restated Credit Agreement (“Agreement”) dated as of July 7, 2004 is entered into between SOUTHWEST WATER COMPANY, a Delaware corporation (the “Borrower”) and BANK OF AMERICA, N.A. (the “Bank”).

RECITALS

A.WHEREAS, Borrower and Bank have previously entered into that certain Credit Agreement dated as of October 6, 2003 and that certain Amendment No. 1 to Credit Agreement dated as of March 17, 2004 (collectively “Credit Agreement”).

B.WHEREAS, Bank and Borrower wish to amend and completely restate the Credit Agreement under the terms and conditions set forth in this Agreement.

NOW THEREFORE, in consideration of the premises and of the mutual covenants and agreements contained herein, the parties hereto agree as follows:

ARTICLE I
DEFINITIONS

SECTION 1.01.  Defined Terms.  As used in this Agreement, the following terms have the following meanings:

“Acquisition”: Any transaction, or any series of related transactions, by which Borrower and/or any of its Subsidiaries directly or indirectly (a) acquires the ongoing business or all or substantially all of the assets of any firm, partnership, joint venture, limited liability company, corporation or division thereof, (b) acquires in one transaction or as the most recent transaction in a series of transactions control of securities of a Person engaged in an ongoing business representing more than 50% of the ordinary voting power for the election of directors or other governing position if the business affairs of such Person are managed by a board of directors or other governing body or (c) acquires control of more than 50% of the ownership interest in any partnership, joint venture, limited liability company, business trust or other Person that is not managed by a board of directors or other governing body.

“Additional Revolving Commitment”:  The amount of $15,000,000, as such amount may be reduced pursuant to Section 2.06(c).

“Additional Revolving Loans”:  As defined in Section 2.06(a).

“Additional Revolving Note”:  As defined in Section 2.06(d).

“Agreement”:  This Agreement, as amended, supplemented or modified from time to time.

“Aqua”: Aqua Services LP, a Texas limited partnership.

“Bank”:  As set forth in the introductory paragraph of this Agreement.

1

“Borrower”:  As set forth in the introductory paragraph of this Agreement.

“Business Day”:  Has the meaning set forth in the Revolving Note and the Additional Revolving Note.

“Capistrano Letter of Credit”: The standby letter of credit issued by Bank of America, N.A., for the account of Borrower in the face amount of $3,430,000 for the benefit of Capistrano Valley Water District.

“Capital Leases”:  As applied to any Person, any lease of any property (whether real, personal or mixed) by that Person as lessee which would, in accordance with GAAP, be required to be accounted for as a capital lease on the balance sheet of that Person.

“CDC”: CDC Maintenance, Inc., a Texas corporation.

“Change of Control”:  Shall be deemed to have occurred at such times as:  (a) a “person” or “group” (within the meaning of Sections 13(d) and 14(d)(2) of the Securities Act of 1934), becomes the “beneficial owner” (as defined in Rule 13d-3 under the Securities Exchange Act of 1934), directly or indirectly, of more than thirty percent (30%) of the total voting power of all classes of stock then outstanding of Borrower normally entitled to vote in the election of directors; or (b)the Borrower shall fail to own directly one hundred percent (100%) of the issued and outstanding common stock or other equity interest of Aqua, Suburban, SWUC, TECON, NMUI or ECO or shall lose voting control of Aqua’s, Suburban’s, SWUC’s, TECON’S, NMUI’s or ECO’s issued and outstanding common stock or other equity interest; or (c) the Borrower shall fail to own directly 50.1% of the issued and outstanding common stock or other equity interest of Metro or OpTech or shall lose voting control of 50.1% of the issued and outstanding common stock or other equity interest of Metro or OpTech; or (d) the Borrower shall fail to own directly 67% of the issued and outstanding common stock of WRI or shall lose voting control of 67% of the issued and outstanding common stock of WRI; or (e) ECO shall fail to own directly one hundred percent (100%) of the issued and outstanding common stock of CDC or shall lose voting control of CDC’s issued and outstanding common stock; or (f) SWUC shall fail to own directly one hundred percent (100%) of the issued and outstanding common stock of Hornsby or shall lose voting control of Hornsby’s issued and outstanding common stock; or (g) SWUC shall fail to own directly 80% of the issued and outstanding common stock of Windermere or shall lose voting control of 80% of the issued and outstanding common stock of Windermere.  A change of control shall not include a transfer of NMUI’s operating assets through a condemnation or sale in lieu of condemnation.

“Closing Date”:  The Business Day on which the conditions set forth in Section 4.01 are satisfied or waived.

“Commitment”:  The Bank’s obligation to make Revolving Loans and Additional Revolving Loans to the Borrower pursuant to Article II in the amount or amounts referred to therein.

“Consolidated EBITDA” means, for any period of Borrower and its Subsidiaries on a consolidated basis, Consolidated Net Profit for such period, plus interest expense (net of capitalized interest expense) and provision for income taxes for such period, plus depreciation

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and amortization for such period, plus the non-cash expense of Borrower and its Subsidiaries recognized during such period for any stock options granted by Borrower and its Subsidiaries permitted hereunder.

“Consolidated Net Profit” means, in respect of any period of the Borrower and its Subsidiaries, the consolidated net profit after taxes of the Borrower and its Subsidiaries as such would appear on the consolidated statement of earnings of Borrower and its Subsidiaries prepared in accordance with GAAP, consistently applied, minus nonrecurring or extraordinary income.

“Consolidated Tangible Net Worth”:  At any date of determination, the sum of the capital stock and additional paid-in capital plus retained earnings (or minus accumulated deficit) of the Borrower and its consolidated Subsidiaries plus the outstanding principal amount of the Convertible Subordinate Debentures Due 2021 of Borrower (the “Convertible Debentures”) minus (i) treasury stock, (ii) intangible assets (including, without limitation, franchises, patents, patent applications, trademarks, brand names, goodwill, purchased contracts, deferred charges (including unamortized debt discount and expense and organization costs) and research and development expenses, provided, however that water rights shall not be considered an intangible asset) and (iii) receivables, advances, loans and all other amounts due from employees, officers, shareholders and/or affiliates (excluding those Subsidiaries of which Borrower owns at least 80% of the outstanding equity), on a consolidated basis determined in conformity with GAAP.

“Convertible Debentures”:  The Borrower’s 6.85% Convertible Subordinate Debentures due 2021.

“Debt”:  As applied to any Person, (i) all indebtedness for borrowed money, (ii) that portion of obligations with respect to Capital Leases which is properly classified as a liability on a balance sheet in conformity with GAAP, (iii) notes payable and drafts accepted representing extensions of credit whether or not representing obligations for borrowed money, (iv) any obligation owed for all or any part of the deferred purchase price of property or services which purchase price is (y) due more than six months from the date of incurrence of the obligation in respect thereof, or (z) evidenced by a note or similar written instrument; (v) all indebtedness secured by any Lien on any property or asset owned or held by that Person regardless of whether the indebtedness secured thereby shall have been assumed by that Person or is non-recourse to the credit of that person; (vi) reimbursement obligations under letters of credit; and (vii) other contingent liabilities.

“Default Rate”:  As defined in the Revolving Note and the Additional Revolving Note.

“Distribution”:  With respect to any Person shall mean that such Person has paid any dividend or returned any capital to its stockholders or equity holders as such or authorized or made any other distribution, payment or delivery of property or cash to its stockholders or equity holders as such, or redeemed, retired, purchased, or otherwise acquired, directly or indirectly, for consideration, any shares of any class of its capital stock or equity interests (or any options, warrants or rights issued by such Person with respect to its capital stock or equity interests), or set aside any funds for any of the foregoing purposes, or shall have permitted any of its

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Subsidiaries to purchase or otherwise acquire for a consideration any shares of any class of the capital stock or any equity interests of such Person (or any options, warrants or rights issued by such Person with respect to its capital stock or equity interests). Without limiting the foregoing, “Distributions” with respect to any Person shall also include all payments made or required to be made by such Person with respect to any stock appreciation rights plans, equity incentive or the setting aside of any funds for the foregoing purposes.

“Dividend Reinvestment Plan”:  Borrower’s Dividend Reinvestment and Stock Purchase Plan dated September 26, 2001.

“Dollars and $”:  Dollars in lawful currency of the United States of America.

“EBITDA Coverage Ratio”:  For any period of Borrower and its Subsidiaries on a consolidated basis, Consolidated EBITDA divided by the sum of the total interest expense plus current portion of long-term Debtplus current portion of advances for construction plus cash Distributions.

“ECO”:  ECO Resources, Inc., a Texas corporation.

“Employee Benefit Plan”:  Any Pension Plan, any employee welfare benefit plan, or any other employee benefit plan which is described in Section 3(3) of ERISA and which is maintained for employees of the Borrower or any ERISA Affiliate of the Borrower.

“Employee Stock Purchase Plan”:  Borrower’s Amended and Restated Employee Stock Purchase Plan dated May 28, 1998.

“ERISA”:  The Employee Retirement Income Security Act of 1974, as amended to the date hereof and from time to time hereafter.

“ERISA Affiliate”:  As applied to any Person, any trade or business (whether or not incorporated) which is a member of a group of which that Person is a member and which is under common control within the meaning of Section 414(b) and (c) of the Internal Revenue Code.

“Event of Default”: As defined in Section 7.01.

“GAAP”:  Generally accepted accounting principles set forth in the opinions and pronouncements of the Accounting Principles Board of the American Institute of Certified Public Accountants and statements and pronouncements of the Financial Accounting Standards Board or in such other statements by such other entity as may be approved by a significant segment of the accounting profession or any public commission having regulatory responsibility over the Borrower or any Subsidiary.

“Hornsby”:  Hornsby Bend Utility Company, a Texas corporation.

“Intercreditor Agreement”:  That certain Intercreditor Agreement to be entered into among Bank, Union and Union as Collateral Agent.

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“Internal Revenue Code”:  The Internal Revenue Code of 1986, as amended to the date hereof and from time to time hereafter and any successor statute.

“Lien”:  Any lien, mortgage, deed of trust, pledge, security interest, charge or encumbrance of any kind (including any conditional sale or other title retention agreement, any lease in the nature thereof, and any agreement to give any security interest).

“Loan Documents”:  This Agreement, the Revolving Note, the Additional Revolving Note, the Pledge and Collateral Agency Agreement, the Intercreditor Agreement, each alternative dispute resolution agreement entered into by Borrower and Bank in connection with this Agreement, and each other agreement, document, instrument and guarantee required by the Bank in connection with this Agreement and/or the credit extended hereunder.

“Maturity Date”:  September 30, 2006.

“Metro”: Metro-H20 Utilities, Limited, a Texas limited partnership.

“MTI”:  Master Tek International, Inc., a Colorado corporation.

“Multiemployer Plan”:  A “multiemployer plan” as defined in Section 4001(a)(3) of ERISA which is maintained for employees of the Borrower or any ERISA Affiliate of the Borrower.

“Net Cash Proceeds” means the cash proceeds received by the Borrower or any of its Subsidiaries from the issuance of any capital stock or Debt securities of the Borrower or any of its Subsidiaries after the date hereof net of (i) underwriting discounts and commissions, professional fees and disbursements in each case not paid to an affiliate of the Borrower or a Subsidiary of the Borrower and (ii) that portion of the cash proceeds of any new Debt securities issued by a Subsidiary of the Borrower which are used to refinance existing Debt of such Subsidiary (other than any such proceeds received by the Borrower in connection with the Employee Stock Purchase Plan or the Dividend Reinvestment Plan).

“NMUI”: New Mexico Utilities, Inc., a New Mexico corporation.

“OpTech”: Operations Technologies, Inc., a Georgia corporation.

“Pension Plan”: any employee plan which is subject to Section 412 of the Internal Revenue Code and which is maintained for employees of the Borrower or any ERISA Affiliate of the Borrower, other than a Multiemployer Plan.

“Permitted Acquisition”:  An Acquisition by Borrower or any of its Subsidiaries of all or substantially all of the assets of, or 80% or more of the capital stock or other equity interests of, a Person (the “Acquired Person”) engaged in the same line of business as Borrower or such Subsidiary, provided that (a) if such Acquisition is of all of the capital stock or other equity interests of the Acquired Person, such Acquired Person is merged with and into Borrower or such Subsidiary substantially simultaneously with Borrower’s or such Subsidiary’s acquisition of such capital stock or other equity interests or becomes a wholly-owned Subsidiary, (b) no Potential Event of Default or Event of Default shall have occurred or be continuing or would

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result after giving effect to such Permitted Acquisition, (c) the Acquisition shall have been consummated in compliance with all applicable laws, and (d) Borrower shall be in compliance with all covenants on a pro forma basis having given effect to the Acquisition both prior to and upon consummation of such Acquisition.

“Person”:  An individual, partnership, corporation, limited liability company, business trust, joint stock company, trust, unincorporated association, joint venture, governmental authority or other entity of whatever nature.

“Pledge and Collateral Agency Agreement”:  That certain Pledge and Collateral Agency Agreement to be entered into among Borrower, Bank, Union and Union as Collateral Agent.

“Potential Event of Default”:  A condition or event which, after notice or lapse of time or both, would constitute an Event of Default if that condition or event were not cured or removed within any applicable grace or cure period.

“Regulations T, U and X”:  Regulations T, U and X, respectively, promulgated by the Board of Governors of the Federal Reserve System, as amended from time to time, and any successors thereto.

“Revolving Commitment”: The amount of $20,000,000, as such amount may be reduced pursuant to Section 2.01(c).

“Revolving Loans”:  As defined in Section 2.01(a).

“Revolving Note”:  As defined in Section 2.01(d).

“S.E.C.”:  The United States Securities and Exchange Commission and any successor institution or body which performs the functions or substantially all of the functions thereof.

“Solvent”:  When used with respect to any Person, that as of the date as to which the Person’s solvency is to be measured:

(i)the fair saleable value of its assets is in excess of the total amount of its liabilities (including contingent liabilities) as they become absolute and matured;

(ii)it has sufficient capital to conduct its business; and

(iii)it is able to meet its debts as they mature.

“Subsidiary”:  Any corporation, limited liability company or partnership (whether or not, in any case, characterized as such or as a “joint venture”): (i) in the case of a corporation or limited liability company, of which a majority of the securities having ordinary voting power for the election of directors or other governing body (other than securities having such power only by reason of the happening of a contingency) are at the time owned directly, or indirectly through one or more intermediaries, or both, by the Borrower, or (ii) in the case of a partnership

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or limited liability company, of which a majority of the partnership or limited liability company or other ownership interest are at the time owned directly, or indirectly through one or more intermediaries, or both, by the Borrower.

“Suburban”:  Suburban Water Systems, a California corporation.

“Suburban Loan Documents”:  That Credit Agreement dated as of July 30, 1999 between Bank and Suburban, and each agreement, document, instrument and guarantee required by Bank in connection with such Credit Agreement and/or the credit extended thereunder, in each case as amended.

“SWUC”:   SW Utility Company, a Texas corporation.

“TECON”:  Collectively, Tecon Water Companies, Inc., a Texas corporation and TENKILLER UTILITY COMPANY, an Oklahoma corporation.

“Termination Event”:  (i) a “Reportable Event” described in Section 4043 of ERISA and the regulations issued thereunder (other than a “Reportable Event” not subject to the provision for 30-day notice to the Pension Benefit Guaranty Corporation under such regulations) with respect to any Pension Plan, or (ii) the withdrawal of the Borrower or any of its ERISA Affiliates from a Pension Plan during a plan year in which it was a “substantial employer” as defined in Section 4001(a)(2) of ERISA, or (iii) the filing of a notice of intent to terminate a Pension Plan or the treatment of a Pension Plan amendment as a termination under Section 4041 of ERISA, or (iv) the institution of proceedings to terminate a Pension Plan by the Pension Benefit Guaranty Corporation under Section 4042 of ERISA, or (v) any other event or condition which might constitute grounds under ERISA for the termination of, or the appointment of a trustee to administer, any Pension Plan under Section 4042 of ERISA, or (vi) the imposition of a lien with respect to any Pension Plan pursuant to Section 412(n) of the Internal Revenue Code.

“Union”:  Union Bank of California.

“Union Loan Documents”:  That certain Amended and Restated Credit Agreement dated as of July 7, 2004 between Union Bank of California, N.A. and Borrower, and each agreement, document, instrument and guarantee required by Union Bank of California, N.A., in connection with such Credit Agreement and/or the credit extended thereunder, in each case as amended.

“Windermere”: Windermere Utility Co., Inc., a Texas corporation.

“WRI”: Wastewater Rehabilitation, Inc., a Texas corporation.

SECTION 1.02.  Other Definitional Provisions.  All terms defined in this Agreement shall have the defined meanings when used in the Revolving Note, the Additional Revolving Note, or any certificate or other document made or delivered pursuant hereto.

(b)As used herein and in the Revolving Note, the Additional Revolving Note and any certificate or other document made or delivered pursuant hereto, accounting terms not

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defined in Section 1.01, and accounting terms partly defined in Section 1.01 to the extent not defined, shall have the respective meanings given to them under GAAP.

(c)The words “hereof”, “herein” and “hereunder” and words of similar import when used in this Agreement shall refer to this Agreement as a whole and not to any particular provision of this Agreement, and section, subsection, schedule and exhibit references are to this Agreement unless otherwise specified.

(d)So long as the Borrower does not have any Subsidiaries, references to a Subsidiary or Subsidiaries in this Agreement shall be deemed to be deleted.

ARTICLE II
THE CREDIT

SECTION 2.01.  The Revolving Loans.

(a)The Revolving Commitment.  The Bank agrees, on the terms and conditions hereinafter set forth, to make loans (“Revolving Loans”) to the Borrower from time to time during the period from the date hereof to and including the Maturity Date in an aggregate amount not to exceed the Revolving Commitment, as such amount may be reduced pursuant to Section 2.01(c).  Within the limits of the Revolving Commitment and prior to the Maturity Date, the Borrower may borrow, repay, and reborrow subject to the terms of this Agreement and the Revolving Note.

(b)Making the Revolving Loans.  The Borrower may borrow under the Revolving Commitment on any Business Day, provided that the Borrower shall give the Bank notice pursuant to the terms of the Revolving Note specifying (i) the amount of the proposed Revolving Loan and (ii) the requested date of the Revolving Loan.  Upon satisfaction of the applicable conditions set forth in Article IV, the proceeds of all such Revolving Loans will then be made available to the Borrower by the Bank by crediting the account of the Borrower on the books of the Bank, or as otherwise directed by the Borrower.

(c)Reduction of the Revolving Commitment.  The Borrower shall have the right, upon at least two Business Days’ notice to the Bank, to terminate in whole or reduce in part the unused portion of the Revolving Commitment, without premium or penalty, provided that each partial reduction shall be in the aggregate amount of $100,000 or an integral multiple thereof and that such reduction shall not reduce the Revolving Commitment to an amount less than the amount outstanding hereunder on the effective date of the reduction.  Such notice shall be irrevocable and such reduction shall not be reinstated.

(d)Revolving Note.  The Revolving Loans made by the Bank pursuant hereto shall be evidenced by a promissory note of the Borrower, substantially in the form of Exhibit A, with any appropriate insertions (as amended from time to time, the “Revolving Note”), payable to the order of the Bank and representing the obligation of the Borrower to pay the aggregate unpaid principal amount of all Revolving Loans made by the Bank, with interest thereon as prescribed in Section 2.03. The Bank is hereby authorized to record in its books and records and on any schedule annexed to the Revolving Note, the date and amount of each Revolving Loan made by the Bank, the date and amount of each payment of principal thereof, and the applicable

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interest rate, and any such recordation shall constitute prima facie evidence of the accuracy of the information so recorded; provided that failure by the Bank to effect such recordation shall not affect the Borrower’s obligations hereunder.  Prior to the transfer of the Revolving Note, the Bank shall record such information on any schedule annexed to and forming a part of the Revolving Note.

(e)Standby Letters of Credit.  The Revolving Commitment may be used for financing standby letters of credit with a maximum maturity of 365 days but not to extend more than 365 days beyond the Maturity Date. The standby letters of credit may include a provision providing that the maturity date will be automatically extended each year for an additional year unless the Bank gives written notice to the contrary. The amount of standby letters of credit outstanding at any one time (including amounts drawn on letters of credit and not yet reimbursed) may not exceed Three Million Dollars($3,000,000). Each standby letter of credit must be requested by the Borrower at least three (3) Business Days prior to the proposed date of issuance of such standby letter of credit, and any such request may be submitted by telecopy, rapidfax or other telecommunication method (other than telephonic or oral advice).  The Borrower agrees:

(i)to pay the Bank an amount equal to any payment made by the Bank with respect to each letter of credit within one (1) Business Day after demand made by the Bank therefor, together with interest on such amount from the date of any payment made by the Bank at the rate applicable to advances bearing interest with reference to the Prime Rate for the period commencing on the date of any such payment and continuing through the first Business Day following such demand and thereafter at the Default Rate.  The Borrower also agrees that any sum drawn under a letter of credit may, without further action of the Bank, upon the Borrower’s failure to make the payment referred to in the preceding sentence, be added to the principal amount outstanding under the Revolving Commitment. The amount will bear interest and be due as described elsewhere in this Agreement.

(ii)if there is an Event of Default under this Agreement, to immediately prepay and make the Bank whole for any outstanding letters of credit.

(iii)the issuance of any letter of credit and any amendment to a letter of credit is subject to the Bank’s written approval and must be in form and content satisfactory to the Bank and in favor of a beneficiary acceptable to the Bank.

(iv)to sign the Bank’s form application and agreement for standby letters of credit with respect to each letter of credit, which must be submitted to the Bank concurrently with the Borrower’s request for any standby letter of credit.

(v)to pay any issuance and/or other fees that the Bank notifies the Borrower will be charged for issuing and processing letters of credit for the Borrower.

(vi)to allow the Bank to automatically charge its checking account for applicable fees, discounts, and other charges.

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(vii)to pay the Bank a non-refundable fee equal to 1.25% per annum of the outstanding undrawn amount of each standby letter of credit, provided that the minimum amount per annum of such fee with respect to each standby letter of credit shall be $500.  This fee shall be calculated in advance as of the first day of each calendar quarter on the basis of such amount in effect on the day the fee is calculated, and is payable on the 14^th day after each such date of calculation. If there is a default under this Agreement, at the Bank’s option, the amount of the fee shall be increased to 3.25% per annum, effective starting on the day the Bank provides notice of the increase to the Borrower.

SECTION 2.02.  Mandatory Repayment.  The aggregate principal amount of the Revolving Loans outstanding on the Maturity Date, together with accrued and unpaid interest thereon, shall be due and payable in full on the Maturity Date.  If at any time the aggregate outstanding Revolving Loans exceed the Revolving Commitment then in effect, the Borrower shall immediately repay the excess to the Bank without penalty or premium.

SECTION 2.03.  Interest Computation and Payment; Fee Computation.  The outstanding principal balance of the Revolving Loans shall bear interest as set forth in the Revolving Note.  Interest shall be computed on the basis of a 360-day year, actual days elapsed.  Interest shall be payable at the times and place set forth in the Revolving Note.  All fees under this Agreement shall be computed on the basis of a 360-day year, actual days elapsed.

SECTION 2.04.  Unused Commitment Fee.  The Borrower agrees to pay a fee on any difference between the Revolving Commitment and the amount of credit it actually uses, determined by the weighted average credit outstanding during the specified period. The fee will be calculated at 0.25% per year. The calculation of credit outstanding shall include the Revolving Loans and the undrawn amount of outstanding letters of credit. This fee shall be calculated in arrears as of the end of each calendar quarter, and is payable on the 15^th day of the calendar month beginning immediately after each calendar quarter end.  Each such fee shall be fully earned when paid and shall be non-refundable.

SECTION 2.05.  Annual Credit Facility Fee.  The Borrower agrees to pay on September 30^th of each year that this Agreement is in effect, an annual credit facility fee in the amount of                                                ($            ).  Each such fee shall be fully earned when paid and shall be non-refundable.  The payment due, pursuant to this paragraph 2.05, on September 30, 2004, shall be due and payable on the date of execution by Borrower of this Agreement.

SECTION 2.06  The Additional Revolving Loans.

(a)The Additional Revolving Commitment.  The Bank agrees, on terms and conditions hereinafter set forth, to make additional loans (“Additional Revolving Loans”) to the Borrower from time to time during the period from the date hereof and including the Maturity Date in an aggregate amount not to exceed the Additional Revolving Commitment.  Within the limits of the Additional Revolving Commitment and prior to the Maturity Date, the Borrower may borrow, repay, and reborrow subject to the terms of this Agreement and the Additional Revolving Note.

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(b)Making the Additional Revolving Loans.  The Borrower may borrow under the Additional Revolving Commitment on any Business Day, provided that the Borrower shall give the Bank notice pursuant to the terms of the Additional Revolving Note specifying (i) the amount of the proposed Additional Revolving Loan and (ii) the requested date of the Additional Revolving Loan.  Upon satisfaction of the applicable conditions set forth in Article IV, the proceeds of all such Additional Revolving Loans will then be made available to the Borrower by the Bank by crediting the account of the Borrower on the books of the Bank, or as otherwise directed by the Borrower.

(c)Reduction of the Additional Revolving Commitment.  The Borrower shall have the right, upon at least two Business Days’ notice to the Bank, to terminate in whole or reduce in part the unused portion of the Additional Revolving Commitment, without premium or penalty, provided that each partial reduction shall be in the aggregate amount of $100,000 or an integral multiple thereof and that such reduction shall not reduce the Additional Revolving Commitment to an amount less than the amount outstanding hereunder on the effective date of the reduction.  Such notice shall be irrevocable and such reduction shall not be reinstated.

(d)Additional Revolving Note.  The Additional Revolving Loans made by the Bank pursuant hereto shall be evidenced by a promissory note of the Borrower, substantially in the form of Exhibit B, with any appropriate insertions (as amended from time to time, the “Additional Revolving Note”), payable to the order of the Bank and representing the obligation of the Borrower to pay the aggregate unpaid principal amount of all Additional Revolving Loans made by the Bank, with the interest thereon as prescribed in Section 2.08.  The Bank is hereby authorized to record in its books and records and on any schedule annexed to the Additional Revolving Note, the date and amount of each Additional Revolving Loan made by the Bank, the date and amount of each payment of principal thereof, and the applicable interest rate, and any such recordation shall constitute prima facie evidence of the accuracy of the information so recorded; provided that failure by the Bank to effect such recordation shall not affect the Borrower’s obligations hereunder.

SECTION 2.07  Mandatory Repayment.  The aggregate principal amount of the Additional Revolving Loans outstanding on the Maturity Date, together with accrued and unpaid interest thereon, shall be due and payable in full on the Maturity Date.  If at any time the aggregate outstanding Additional Revolving Loans exceed the Additional Revolving Commitment then in effect, the Borrower shall immediately repay the excess to the Bank without penalty or premium.

SECTION 2.08  Interest Computation and Payment; Fee Computation.  The outstanding principal balance of the Additional Revolving Loans shall bear interest as set forth in the Additional Revolving Note.  Interest shall be computed on the basis of a 360-day year, actual days elapsed.  Interest shall be payable at the times and place set forth in the Additional Revolving Note.  All fees under this Agreement shall be computed on the basis of a 360-day year, actual days elapsed.

SECTION 2.09  Unused Commitment Fee.  The Borrower agrees to pay a fee on any difference between the Additional Revolving Commitment and the amount of credit it actually uses, determined by the weighted average credit outstanding during the specified period.  The fee

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will be calculated at 0.25% per year.  This fee shall be calculated in arrears as of the end of each calendar quarter, and is payable on the 15^th day of the calendar month beginning immediately after each calendar quarter end.  Each such fee shall be fully earned when paid and shall be non-refundable.

SECTION 2.10  Front End Fee.  The Borrower agrees to pay, on the Closing Date, a front end fee (“Front End Fee”) in the amount of $                  .  The Bank acknowledges and agrees that it received $               in connection with its issuance of a commitment letter to the Borrower and will credit such amount toward payment of the Front End Fee on the Closing Date.  The Front End Fee shall be fully earned when paid and shall be non-refundable.

SECTION 2.11  Collateral.  The stock of TECON owned by Borrower will secure the Additional Revolving Note.  The collateral is further defined in the Pledge and Collateral Agency Agreement.

ARTICLE III
GENERAL PROVISIONS CONCERNING THE LOANS

SECTION 3.01.  Use of Proceeds.  The proceeds of Revolving Loans hereunder shall be used by the Borrower (i) for general corporate purposes, working capital and acquisitions permitted hereunder of the Borrower and those Subsidiaries of Borrower as to which Borrower owns at least 80% of the outstanding equity, and (ii) to finance capital additions to the water utility and other operations of the Borrower and those Subsidiaries of Borrower as to which Borrower owns at least 80% of the outstanding equity.  The proceeds of the Additional Revolving Loans hereunder shall be used by Borrower for the acquisition of TECON (the “TECON Acquisition”).

SECTION 3.02.  Payment on Non-Business Days.  Whenever any payment to be made hereunder or under the Revolving Note or Additional Revolving Note shall be stated to be due on a day which is not a Business Day, such payment may be made on the next succeeding Business Day, and with respect to payments of principal, interest thereon shall be payable at the then applicable rate during such extension.

SECTION 3.03.  Reduced Return.  If the Bank shall have determined that any applicable law, regulation, rule or regulatory requirement generally applicable to banks located in California and (collectively in this Section 3.03, “Requirement”) regarding capital adequacy, or any change therein, or any change in the interpretation or administration thereof by any United States federal or state governmental authority, central bank or comparable agency charged with the interpretation or administration thereof, or compliance by the Bank with any request or directive regarding capital adequacy (whether or not having the force of law) of any such authority, central bank or comparable agency, has or would have the effect of reducing the rate of return on the Bank’s capital as a consequence of its Commitment and obligations hereunder to a level below that which would have been achieved but for such Requirement, change or compliance (taking into consideration the Bank’s policies with respect to capital adequacy) by an amount deemed by the Bank to be material (which amount shall be determined by the Bank’s reasonable allocation of the aggregate of such reductions resulting from such events), then from time to time, within five (5) Business Days after demand by the Bank, the Borrower shall pay to the Bank such

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additional amount or amounts as will compensate the Bank for such reduction.  The Bank does not presently have knowledge of any new Requirement or any pending change in any existing Requirement which would result in such additional amounts being owed.

SECTION 3.04.  Indemnities.  The Borrower agrees to indemnify, pay and hold the Bank, and the shareholders, officers, directors, employees and agents of the Bank (“Indemnified Persons”), harmless from and against any and all claims, liabilities, losses, damages, costs and expenses (whether or not any of the foregoing Indemnified Persons is a party to any litigation), including, without limitation, reasonable attorneys’ fees and costs (including, without limitation, the reasonable estimate of the allocated cost of in-house legal counsel and staff) and costs of investigation, document production, attendance at a deposition, or other discovery, prior to the assumption of defense by the Borrower, with respect to or arising out of any proposed acquisition by the Borrower or any of its Subsidiaries of any Person or any securities (including a self-tender), this Agreement or any use of proceeds hereunder, or any claim, demand, action or cause of action being asserted against the Borrower or any of its Subsidiaries (collectively, the “Indemnified Liabilities”), provided that the Borrower shall have no obligation hereunder with respect to Indemnified Liabilities arising from the gross negligence or willful misconduct of any such Indemnified Persons. If any claim is made, or any action, suit or proceeding is brought, against any Indemnified Person with respect to Indemnified Liabilities, the Indemnified Person shall notify the Borrower within thirty (30) days of the Bank being notified in writing of any such claim or the commencement of such action, suit or proceeding, and the Borrower will assume the defense of such action, suit or proceeding, employing counsel selected by Borrower’s insurance carrier, or selected by the Borrower and reasonably satisfactory to the Indemnified Person, and pay the fees and expenses of such counsel. This covenant shall survive termination of this Agreement and payment of the amounts outstanding under the Revolving Note and Additional Revolving Note for a period of six (6) years.

SECTION 3.05.  Funding Sources.  Nothing in this Agreement shall be deemed to obligate the Bank to obtain the funds for any Revolving Loan or Additional Revolving Loan in any particular place or manner or to constitute a representation by the Bank that it has obtained or will obtain the funds for any Revolving Loan or Additional Revolving Loan in any particular place or manner.

ARTICLE IV
CONDITIONS OF LENDING

SECTION 4.01.  Conditions Precedent to Initial Revolving Loan.  The obligation of the Bank to make its initial Revolving Loan is subject to the conditions precedent that:

(a)The Bank shall have received on or before the day of the initial Revolving Loan the following, each dated prior to or as of such day, in form and substance satisfactory to the Bank:

(i)The Revolving Note issued by the Borrower to the order of the Bank;

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(ii)Copies of the Articles of Incorporation or Certificate of Incorporation of the Borrower, certified as of a recent date by the Secretary of State of Delaware;

(iii)Copies of the Bylaws, if any, of the Borrower, certified by the Secretary or an Assistant Secretary of the Borrower;

(iv)Copies of resolutions of the Board of Directors or other authorizing documents of the Borrower, in form and substance satisfactory to the Bank, approving the Loan Documents and Revolving Loans hereunder;

(v)An incumbency certificate executed by the Secretary or an Assistant Secretary of the Borrower or equivalent document, certifying the names and signatures of the officers of the Borrower or other Persons authorized to sign the Loan Documents and the other documents to be delivered hereunder;

(vi)Executed copies of all other Loan Documents;

(vii)Executed copies of the Union Loan Documents;

(b)The Bank shall have completed its due diligence review of the Borrower, and the scope and results thereof shall be satisfactory to Bank in its discretion;

(c)All information previously furnished by Borrower to Bank shall be true and correct in all material respects;

(d)All fees and expenses required to be paid on the Closing Date shall have been paid or arrangements satisfactory to Bank shall have been made with respect to the payment thereof;

(e)Borrower shall be in compliance with the Loan Documents, and after giving effect to the initial Revolving Loan, no Potential Event of Default or Event of Default shall have occurred and be continuing;

(f)The representations and warranties of Borrower contained in Article V shall be true and correct in all respects;

(g)Bank shall have received evidence of the insurance policies required by Section 6.01(e);

(h)All corporate and legal proceedings and all instruments and documents in connection with the transactions contemplated by this Agreement shall be reasonably satisfactory in content, form and substance to the Bank and its counsel, and the Bank and such counsel shall have received any and all further information and documents which the Bank or such counsel may reasonably have requested in connection therewith, such documents where appropriate to be certified by proper corporate or governmental authorities;

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(i)Nothing shall have occurred and the Bank shall not have become aware of any fact or condition not previously known, which the Bank shall determine has, or could reasonably be expected to have, a material adverse effect on the rights or remedies of the Bank, or on the ability of the Borrower to perform its obligations to the Bank or which has, or could reasonably be expected to have, a materially adverse effect on the performance, business, property, assets, condition (financial or otherwise) or prospects of Borrower and its Subsidiaries taken as a whole;

SECTION 4.02.  Conditions Precedent to Initial Additional Revolving Loan.  The obligation of the Bank to make its initial Additional Revolving Loan is subject to the conditions precedent that:

(a)  All of the conditions set forth in Section 4.01 shall have been satisfied;

(b)  The Bank shall have received on or before the day of the initial Additional Revolving Loan the following, each dated prior to or as of such day, in form and substance to the Bank:

(i)  The Additional Revolving Note issued by the Borrower to the order of the Bank;

(ii)  A copy of the executed purchase and sale documents relating to the Tecon Acquisition.

(iii)  The Pledge and Collateral Agency Agreement and the Intercreditor Agreement.

(iv)  An executed opinion from Akin, Gump, Strauss, Hauer & Feld, LLP, on behalf of Borrower, in form and substance reasonably satisfactory to the Collateral Agent under the Intercreditor Agreement.

SECTION 4.03.  Conditions Precedent to Each Revolving Loan and each Additional Revolving Loan.

The obligation of the Bank to make a Revolving Loan or Additional Revolving Loan on the occasion of each Revolving Loan or Additional Revolving Loan (including the initial Revolving Loan and initial Additional Revolving Loan) shall be subject to the further conditions precedent that on the date of such Revolving Loan and Additional Revolving Loan (a) the following statements shall be true and the Bank shall have received the notice required by Section 2.01(b) or 2.06(b), which notice shall be deemed to be a certification by the Borrower that:

(i)The representations and warranties contained in Section 5.01 are correct in all material respects on and as of the date of such Revolving Loan and Additional Revolving Loan as though made on and as of such date;

(ii)No event has occurred and is continuing, or would result from such Revolving Loan or Additional Revolving Loan, which constitutes an Event of Default or Potential Event of Default; and

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(iii)Nothing shall have occurred and the Bank shall not have become aware of any fact or condition not previously known, which the Bank shall determine has, or could reasonably be expected to have, a material adverse effect on the rights or remedies of the Bank, or on the ability of the Borrower to perform its obligations to the Bank or which has, or could reasonably be expected to have, a material adverse effect on the performance, business, property, assets, condition (financial or otherwise) or prospects of Borrower and its Subsidiaries taken as a whole; and

(iv)All Loan Documents are in full force and effect, and (b) the Bank shall have received such other approvals, opinions or documents as the Bank may reasonably request.

ARTICLE V
REPRESENTATIONS AND WARRANTIES

SECTION 5.01.  Representations and Warranties.  The Borrower represents and warrants as follows:

(a)Organization.  The Borrower and each of its Subsidiaries is duly organized, validly existing and in good standing under the laws of the state of its orgainzation. The Borrower and each of its Subsidiaries is also duly authorized, qualified and licensed in all applicable jurisdictions, and under all applicable laws, regulations, ordinances or orders of public authorities, to carry on its business in the locations and in the manner presently conducted, and the Borrower and each of its Subsidiaries has all requisite power and authority to conduct its business and to own and lease its properties.  Schedule 5.01(a) attached hereto correctly sets forth the names, form of legal entity, number of shares of capital stock or membership or other equity interests, as applicable, issued and outstanding, number of shares of capital stock or membership or other equity interests, as applicable, owned by the Borrower or any of its Subsidiaries (specifying such owner) and jurisdictions of organization of all Subsidiaries of the Borrower.  Except as set forth on Schedule 5.01(a), there are no outstanding options, warrants or other rights to purchase any capital stock, membership interests or units of other equity interest of any Subsidiary other than in favor of the Borrower, and all shares, membership interests or other equity interests issued by the Subsidiaries arefree and clear of all liens, except for liens permitted under Section 6.02(d).

(b)Authorization; No Conflict.  The execution, delivery and performance by the Borrower of the Loan Documents, and the borrowing of Revolving Loans and Additional Revolving Loans hereunder, are within the Borrower’s corporate powers, have been duly authorized by all necessary corporate action, do not contravene (i) the Borrower’s charter, by-laws or other organizational document or (ii) any law or regulation (including, without limitation, Regulations T, U and X and regulations of public utility commissions or similar regulatory authorities) binding on or affecting the Borrower or its properties, and will not constitute an event of default under any material agreement to which Borrower is a party or by which its assets or properties may be bound.

(c)Governmental Consents.  No authorization or approval or other action by, and no notice to or filing with, any governmental authority or regulatory body (except routine reports

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required pursuant to the Securities Exchange Act of 1934, as amended (if such act is applicable to the Borrower), which reports will be made in the ordinary course of business) is required for the due execution, delivery and performance by the Borrower of the Loan Documents.

(d)Validity.  The Loan Documents are the binding obligations of the Borrower or other executing Person, if any, enforceable in accordance with their respective terms; except in each case as such enforceability may be limited by bankruptcy, insolvency, reorganization, liquidation, moratorium or other similar laws of general application and equitable principles relating to or affecting creditors’ rights.

(e)Financial Condition.  The balance sheets of the Borrower and its consolidated Subsidiaries as of December 31, 2003, and the related consolidated statements of income and changes in common stockholders’ equity of the Borrower and its consolidated Subsidiaries for the fiscal twelve months then ended, copies of which have been furnished to the Bank, fairly present in all material respects the financial condition of the Borrower and its consolidated Subsidiaries as at such dates and the results of the operations of the Borrower and its consolidated Subsidiaries for the period ended on such date, all in accordance with GAAP, consistently applied, and since December 31, 2003 there has been no material adverse change in the business, operations, properties, assets or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole.

(f)Litigation.  Except as set forth in the Form 10-K dated December 31, 2003, and on Schedule 5.01(f) hereto, there is no known pending or threatened action or proceeding affecting the Borrower or any of its Subsidiaries before any court, governmental agency or arbitrator, which may materially adversely affect the consolidated financial condition or operations of the Borrower or which may have a material adverse effect on the Borrower’s ability to perform its obligations under the Loan Documents, having regard for its other financial obligations.

(g)Employee Benefit Plans.  The Borrower and each of its ERISA Affiliates is in compliance in all material respects with any applicable provisions of ERISA and the regulations and published interpretations thereunder with respect to all Employee Benefit Plans.  No Termination Event has occurred with respect to any Pension Plan.  The excess of the actuarial present value of all benefit liabilities under all Pension Plans (excluding in such computation Pension Plans with assets greater than benefit liabilities) over the fair market value of the assets allocable to such benefit liabilities are not greater than five percent (5%) of Consolidated Tangible Net Worth.  For purposes of the preceding sentence, the term “benefit liabilities” shall have the meaning specified in Section 4001 of ERISA.

(h)Disclosure.  No representation or warranty of the Borrower contained in this Agreement or any other document, certificate or written statement furnished to the Bank by or on behalf of the Borrower for use in connection with the transactions contemplated by this Agreement contains any known untrue statement of a material fact or omits to state a known material fact (known to the Borrower in the case of any document not furnished by it) necessary in order to make the statements contained herein or therein not misleading. There is no fact known to the Borrower (other than matters of a general economic nature) which materially adversely affects the business, operations, property, assets or condition (financial or otherwise)

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of the Borrower and its Subsidiaries, taken as a whole, which has not been disclosed herein or in such other documents, certificates and statements furnished to the Bank for use in connection with the transactions contemplated hereby.

(i)Environmental Matters.  Except as set forth in Schedule 5.01(i) hereto, neither the Borrower nor any Subsidiary, nor any of their respective officers, employees, representatives or agents, nor, to the best of their knowledge, any other person, has treated, stored, processed, discharged, spilled, or otherwise disposed of any substance defined as hazardous or toxic by any applicable federal, state or local law, rule, regulation, order or directive, or any waste or by-product thereof, at any real property or any other facility owned, leased or used by the Borrower or any Subsidiary, in violation of any applicable statutes, regulations, ordinances or directives of any governmental authority or court, which violations may result in liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $500,000 for all such violations; and the unresolved violations set forth in said Schedule 5.01(i) will not result in liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $500,000 for all such unresolved violations. Except as set forth in said Schedule, no employee or other person has made a claim or demand against the Borrower or any Subsidiary based on alleged damage to health caused by any such hazardous or toxic substance or by any waste or by-product thereof; and the unsatisfied claims or demands against the Borrower or any Subsidiary set forth in said Schedule 5.01(i) will not result in uninsured liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $250,000 in excess of reserves on the books of the Borrower for all such unsatisfied claims or demands. Except as set forth in said Schedule 5.01(i), neither the Borrower nor any Subsidiary has been charged by any governmental authority with improperly using, handling, storing, discharging or disposing of any such hazardous or toxic substance or waste or by-product thereof or with causing or permitting any pollution of any body of water; and the outstanding related charges set forth in said Schedule 5.01(i) will not result in liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $500,000 for all such outstanding charges.

(j)Employee Matters.  There is no known strike or work stoppage in existence or threatened involving the Borrower or its Subsidiaries that may materially adversely affect the consolidated financial condition or operations of the Borrower or that may have a material adverse effect on the Borrower’s ability to perform its obligations under the Loan Documents, having regard for its other financial obligations.

(k)Solvency.  Borrower and each of its Subsidiaries is Solvent.

(l)Title to Properties.  Borrower and each of its Subsidiaries has good and marketable title to or interests in all of its properties and assets subject to no liens, mortgages, pledges, security interests, encumbrances or charges of any kind, except those granted to Bank and such others as are permitted under Section 6.02(d) hereof.

(m)Tax Returns.  Borrower and each of its Subsidiaries has filed, or caused to be filed, in a timely manner all tax returns, reports and declarations which are required to be filed by

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it (without requests for extension (other than automatic extensions provided by law) except as previously disclosed in writing to Bank).  All information in such tax returns, reports and declarations is complete and accurate in all material respects.  Borrower and each of its Subsidiaries has paid or caused to be paid all taxes due and payable or claimed due and payable in any assessment received by it, except taxes the validity of which are being contested in good faith by appropriate proceedings diligently pursued and available to Borrower or its Subsidiaries and with respect to which adequate reserves have been set aside on its books.  Adequate provision has been made for the payment of all accrued and unpaid Federal, State, county, local, foreign and other taxes whether or not yet due and payable and whether or not disputed.

(n)Compliance with Other Agreements and Applicable Laws.  Neither Borrower nor any of its Subsidiaries is in default in any material respect under, or in violation in any material respect of any of the terms of, any agreement, contract, instrument, lease or other commitment (including, but not limited to any such agreement involving the debts or investments of Borrower or liens upon its assets) to which it is a party or by which it or any of its assets are bound and Borrower and each of its Subsidiaries is in compliance in all material respects with all applicable provisions of laws, rules, regulations, licenses, permits, approvals and orders of any foreign, Federal, State or local governmental authority.  Such compliance shall be deemed to comprehend the transaction represented by the Acquisition.

(o)No Default.  No event has occurred and is continuing that is a Potential Event of Default or an Event of Default.

(p)Regulation U; Investment Company Act.  No part of the proceeds of any Revolving Loan or Additional Revolving Loan hereunder will be used to purchase or carry, or to extend credit to others for the purpose of purchasing or carrying, any “margin stock” (as defined in Regulation U) in violation of Regulation U.  Borrower is not required to be registered as an “investment company” under the Investment Company Act of 1940.

(q)Intangible Assets.  Borrower owns, or possesses the right to use to the extent necessary in its business, all trademarks, trade names, copyrights, patents, patent rights, computer software, licenses and other intangible assets that are used in the conduct of its business as now operated, and no such intangible asset, to Borrower’s actual knowledge, conflicts with the valid trademark, trade name, copyright, patent, patent right or intangible asset of any other Person.

ARTICLE VI
COVENANTS

SECTION 6.01.  Affirmative Covenants.  So long as any Revolving Loan or Additional Revolving Loan shall remain unpaid or the Bank shall have any Commitment hereunder, the Borrower will, unless the Bank shall otherwise consent in writing:

(a)Financial Information.  Furnish to the Bank:

(i)as soon as available, but in any event within 120 days after the end of each fiscal year of the Borrower, (1) a copy of the Borrower’s annual report to shareholders containing the audited consolidated balance sheets of itself and its

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consolidated Subsidiaries as at the end of each fiscal year and the related consolidated statements of income and changes in common stockholders’ equity (or comparable statement) employed in the business and changes in financial position and cash flow for such year, in each case prepared in accordance with GAAP, setting forth in each case in comparative form the figures for the previous year, accompanied by an unqualified report and opinion thereon of independent certified public accountants acceptable to the Bank and, if prepared, such accountants’ letter to management, and (2) a copy of the Borrower-prepared consolidating balance sheets and statements of income prepared in connection with each of the statements provided in subpart (1) above; and

(ii)as soon as available, but in any event within forty-five (45) days after the end of each fiscal quarter, the Borrower’s unaudited consolidated and consolidating balance sheets of itself and its consolidated Subsidiaries as at the end of such period and the related unaudited consolidated and consolidating statements of income and the related unaudited consolidated statement of changes in common stockholders’ equity (or comparable statement) and changes in financial position and cash flow for such period and year to date, setting forth in each case in comparative form the figures as at the end of the previous fiscal year as to the balance sheet and the figures for the previous corresponding period as to the other statements, certified by a duly authorized officer of the Borrower as being fairly stated in all material respects subject to year end adjustments; all such financial statements to be complete and correct in all material respects and to be prepared in reasonable detail acceptable to the Bank and in accordance with GAAP applied consistently throughout the periods reflected therein (except as approved by such accountants and disclosed therein and except for the exclusion of certain information and footnote disclosures omitted pursuant to the rules and regulations of the S.E.C.); and

(iii)as soon as available, copies of all reports which the Borrower sends to any of its security holders, and copies of all reports and registration statements which the Borrower or any Subsidiary files with the S.E.C. or any national securities exchange; and

(iv)(a) together with each delivery of financial statements of Borrower and its Subsidiaries pursuant to subdivision (i) above, a certificate, executed by the Borrower’s chairman of the board (if an officer) or its president or one of its vice presidents or by its chief financial officer stating that the signers have reviewed the terms of this Agreement and have made, or caused to be made under their supervision, a review in reasonable detail of the transactions and condition of Borrower and its Subsidiaries during the accounting period covered by such financial statements and that such review has not disclosed the existence during or at the end of such accounting period, and that the signers do not have knowledge of the existence as at the date of such certificate, of any condition or event that constitutes an Event of Default or Potential Event of Default, or, if any such condition or event existed or exists, specifying the nature and period of existence thereof and what action Borrower has taken, is taking and proposes to take with respect thereto; and (b) together with each delivery of financial statements of Borrower and its Subsidiaries pursuant to subdivision (i) and (ii) above, a certificate demonstrating

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in reasonable detail compliance during and at the end of the applicable accounting periods with the restrictions contained in Section 6.02 hereof.

(b)Notices and Information.  Deliver to the Bank:

(i)promptly upon any officer of the Borrower obtaining knowledge (a) of any condition or event which constitutes an Event of Default or Potential Event of Default, (b) that any Person has given any notice to the Borrower or any Subsidiary of the Borrower or taken any other action with respect to a claimed default or event or condition of the type referred to in Section 7.01(e) or Section 7.01(f), (c) of the institution of any litigation involving an alleged liability (including possible forfeiture of property) of the Borrower or any of its Subsidiaries equal to or greater than $500,000 which is not, except for deductibles and self insurance reserves, fully covered by insurance maintained by Borrower or any adverse determination in any litigation involving a potential liability of the Borrower or any of its Subsidiaries equal to or greater than $500,000 which is not, except for deductibles and self insurance reserves, fully covered by insurance maintained by Borrower or (d) of a material adverse change in the business, operations, properties, assets or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole, an officers’ certificate specifying the nature and period of existence of any such condition or event, or specifying the notice given or action taken by such holder or Person and the nature of such claimed default, Event of Default, Potential Event of Default, event or condition, and what action the Borrower has taken, is taking and proposes to take with respect thereto;

(ii)promptly upon becoming aware of the occurrence of any (a) Termination Event, or (b) non-exempt “prohibited transaction”, as such term is defined in Section 4975 of the Internal Revenue Code or a transaction prohibited by Section 406 of ERISA, in connection with any Employee Benefit Plan or any trust created thereunder, a written notice specifying the nature thereof, what action the Borrower has taken, is taking or proposes to take with respect thereto, and, when known, any action taken or threatened by the Internal Revenue Service, the Department of Labor, or the Pension Benefit Guaranty Corporation with respect thereto;

(iii)with reasonable promptness copies of (a) all notices received by the Borrower or any of its ERISA Affiliates of the Pension Benefit Guaranty Corporation’s intent to terminate any Pension Plan or to have a trustee appointed to administer any Pension Plan and (b) all notices received by the Borrower or any of its ERISA Affiliates from a Multiemployer Plan sponsor concerning the imposition or amount of withdrawal liability pursuant to Section 4202 of ERISA;

(iv)promptly, and in any event within 10 days after the effective date thereof, a copy of all amendments to any of the loan documents governing any of the debt permitted by Section 6.02(e)(iv) (including, without limitation, the Union Loan Documents);

(v)promptly, and in any event within 30 days after receipt thereof, a copy of any notice, summons, citation, directive, letter or other form of communication

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from any governmental authority or court in any way concerning any action or omission on the part of the Borrower or any of its Subsidiaries in connection with any substance defined as toxic or hazardous by any applicable federal, state or local law, rule, regulation, order or directive or any waste or byproduct thereof, or concerning the filing of a lien upon, against or in connection with the Borrower, its Subsidiaries, or any of their leased or owned real or personal property, in connection with a Hazardous Substance Superfund or a Post-Closure Liability Fund as maintained pursuant to § 9507 of the Internal Revenue Code; and

(vi)promptly, and in any event within 30 days after request, such other information and data with respect to the Borrower or any of its Subsidiaries as from time to time may be reasonably requested by the Bank and is reasonably available to Borrower.

(c)Corporate Existence, Etc.  At all times preserve and keep in full force and effect its and its Subsidiaries’ corporate existence and rights, licenses and franchises material to its business and those of each of its Subsidiaries; provided, however, that the corporate existence of any such Subsidiary may be terminated if such termination is in the best interest of Borrower and does not result in a Change of Control.

(d)Payment of Taxes and Claims.  Pay, and cause each of its Subsidiaries to pay, all taxes, assessments and other governmental charges imposed upon it or any of its properties or assets or in respect of any of its franchises, business, income or property before any penalty which would exceed the Penalty Cap (as defined below) or interest accrues thereon, and all claims (including, without limitation, claims for labor, services, materials and supplies) for sums which have become due and payable and which by law have or may become a lien upon any of its properties or assets, prior to the time when any penalty or fine shall be incurred with respect thereto; provided that no such charge or claim need be paid if being contested in good faith by appropriate proceedings promptly instituted and diligently conducted and if such reserve or other appropriate provision, if any, as shall be required in conformity with GAAP shall have been made therefor.  As used herein, the term “Penalty Cap” means an amount equal to $10,000 in the aggregate for the Borrower and its Subsidiaries for each calendar year.

(e)Maintenance of Properties; Insurance.  Maintain or cause to be maintained in good repair, working order and condition all material properties used or useful in the business of the Borrower and its Subsidiaries and from time to time will make or cause to be made all appropriate repairs, renewals and replacements thereof. The Borrower will maintain or cause to be maintained, with financially sound and reputable insurers, insurance with respect to its properties and business and the properties and business of its Subsidiaries against loss or damage of the kinds customarily insured against by corporations of established reputation engaged in the same or similar businesses and similarly situated, of such types and in such amounts as are customarily carried under similar circumstances by such other corporations.  The Borrower will comply with any other insurance requirement set forth in any other Loan Document.

(f)Inspection.  Permit any authorized representatives designated by the Bank to visit and inspect any of the properties of the Borrower or any of its Subsidiaries, including its and their financial and accounting records, and to make copies and take extracts therefrom, and to

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discuss its and their affairs, finances and accounts with its and their officers and independent public accountants, all at such reasonable times during normal business hours and as often as may be reasonably requested.

(g)Compliance with Laws Etc.  Exercise, and cause each of its Subsidiaries to exercise, all due diligence in order to comply with the requirements of all applicable laws, rules, regulations and orders of any governmental authority, including, without limitation, all rules and regulations of public utility commissions or similar regulatory authorities, and all environmental laws, rules, regulations and orders, noncompliance with which would materially adversely affect the business, properties, assets, operations or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole.

(h)Hazardous Waste Studies.  Promptly, and in any event within thirty (30) days after submission, provide the Bank with copies of all such investigations, studies, samplings and testings as may be requested by any governmental or regulatory authority relative to any substance defined as hazardous or toxic by any applicable federal, state or local law, rule, regulation, order or directive, or any waste or by-product thereof, at or affecting any real property or any facility owned, leased or used by the Borrower or any Subsidiary.  The foregoing shall not include sampling and testing of water, waste water and effluent conducted by the Subsidiaries of Borrower on periodic bases as a normal part of their water delivery and wastewater treatment businesses.

(i)         Use of Proceeds of New Debt or Equity.  Promptly remit to Bank no less than fifty percent (50%) of the Net Cash Proceeds of any new debt or equity obtained by Borrower which Net Cash Proceeds shall be applied pro rata to the reduction of any Additional Revolving Loans and to the reduction of that certain credit facility extended to Borrower by Union to facilitate the TECON Acquisition.  All such applications to the Additional Revolving Loans shall represent permanent reductions to the Additional Revolving Commitment.

SECTION 6.02.  Negative Covenants.  So long as any Revolving Loan or Additional Revolving Loan shall remain unpaid or the Bank shall have any Commitment hereunder, the Borrower will not, without the written consent of the Bank:

(a)Consolidated Tangible Net Worth.  At any time, permit Consolidated Tangible Net Worth to be less than the sum of (i) $70,000,000 plus (ii) fifty percent (50%) of the cash proceeds received by Borrower or any of its Subsidiaries from the issuance of any capital stock of Borrower or any of its Subsidiaries after the date hereof (net of underwriting discounts and commissions, professional fees and disbursements in each case not paid to an affiliate of Borrower or a Subsidiary of Borrower) (other than any such proceeds received by Borrower in connection with the Employee Stock Purchase Plan or the Dividend Reinvestment Plan).

(b)Consolidated Net Profit.  At the end of any fiscal quarter of the Borrower, permit Consolidated Net Profit, determined on a four quarter rolling basis, to be less than $1.00.

(c)EBITDA Coverage Ratio.  At the end of any fiscal quarter of Borrower, permit the EBITDA Coverage Ratio, determined on a four quarter rolling basis, to be less than 1.50:1.00.

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(d)Liens Etc.  Create or suffer to exist, or permit any of its Subsidiaries to create or suffer to exist, any Lien upon or with respect to any of its properties, whether now owned or hereafter acquired, or assign, or permit any of its Subsidiaries to assign, any right to receive income, in each case to secure any Debt of any Person other than (i) Liens in favor of the Bank; (ii) Liens existing on the date hereof and set forth in Schedule 6.02(d) hereto; (iii) Liens securing the indebtedness of TECON referred to in, and permitted under clause (iv) of Section 6.02(e) below; (iv) purchase money Liens upon or in any equipment acquired or held by the Borrower or any Subsidiary in the ordinary course of business with respect to principal indebtedness up to a maximum of $2,000,000 to secure the purchase price of such equipment or to secure indebtedness incurred solely for the purpose of financing the acquisition of such equipment; (v) Liens existing on property acquired by the Borrower or any Subsidiary, and all refundings and extensions of any such Liens; (vi) Liens, deposits and/or pledges made to secure the performance of operating leases; provided that the principal amount of Debt secured by any such Lien permitted hereunder shall not exceed an amount equal to (x) one hundred percent (100%) of the cost of the real property subject to such lien or security interest or (y) one hundred percent (100%) of the cost of the personal property subject to such lien or security interest, and further provided that none of such liens or security interests shall extend to other assets of the Borrower or its Subsidiaries, (vii) Liens for taxes, assessments or other governmental charges which are not delinquent, and (viii) materialmen’s, mechanics’ or other similar liens arising in the ordinary course of business the underlying claim with respect to which is not delinquent or is being contested in good faith.

(e)Debt.  Create, incur, assume or permit to exist, or permit any Subsidiary to create, incur, assume or permit to exist, any indebtedness or liabilities resulting from borrowings, loans or advances, whether matured or unmatured, liquidated or unliquidated, joint or several, secured or unsecured, except for (i) Debt incurred pursuant to the Convertible Debentures in a principal amount not to exceed $20,000,000 outstanding at any time, (ii) secured indebtedness for purchase money financing of equipment which is permitted under Section 6.02(d)(iv) in a principal amount not to exceed an aggregate of $2,000,000 outstanding at any time, (v) other secured Debt identified on Schedule 6.02(e) not to exceed the applicable amount indicated on such schedule, (vi) unsecured senior funded bank debt in a principal amount not to exceed $40,500,000 outstanding at any time in the aggregate for the Borrower and its Subsidiaries (including, without limitation, unsecured senior funded bank debt incurred pursuant to the Loan Documents and the Union Loan Documents, and excluding the undrawn face amount of the Capistrano Letter of Credit); provided that the only unsecured senior funded debt of the Subsidiaries which may be outstanding shall be (I) unsecured bank indebtedness of NMUI in an aggregate principal amount not to exceed at any one time $4,000,000; (II) secured debt of TECON not to exceed $15,000,000; and (III) other unsecured senior funded debt in a principal amount not to exceed $500,000 outstanding at any time in the aggregate for all Subsidiaries,and (IV) intercompany Debt between Borrower and its majority-owned Subsidiaries.  In no event shall funded debt at Suburban exceed Suburban’s bondable capacity at any time, and any and all mortgage bonds issued by Suburban and/or NMUI subsequent to the date of this Agreement shall have an NAIC rating of “1” or “2”.

(f)Consolidation, Merger or Dissolution.  (i) Consolidate with or merge into any other Person, or permit any Subsidiary to consolidate with or merge into any other Person, unless Borrower or the applicable Subsidiary is the surviving entity and no event has occurred and is

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continuing, or would result from such consolidation or merger, which constitutes an Event of Default or Potential Event of Default, (ii) wind up, liquidate or dissolve (provided, however, that the corporate existence of any Subsidiary may be terminated if such termination is in the best interest of Borrower and does not result in a Change of Control) or (iii) agree to do any of the foregoing or permit any Subsidiary to agree to do any of the foregoing.

(g)Loans, Investments, Acquisitions, Secondary Liabilities.  Make or permit to remain outstanding, or permit any Subsidiary to make or permit to remain outstanding, any loan or advance to, or guarantee, induce or otherwise become contingently liable, directly or indirectly, in connection with the obligations, stock or dividends of, or own, purchase or acquire any stock, obligations or securities of or any other interest in, or make any capital contribution to, any other Person, or make any Acquisition or enter into any agreement to make any Acquisition, except that the Borrower and its Subsidiaries may:

(i)own, purchase or acquire certificates of deposit issued by a bank, commercial paper rated Moody’s P-1, municipal bonds rated Moody’s AA or better, direct obligations of the United States of America or its agencies, obligations guaranteed by the United States of America, and “money market preferred stock” issued by a corporation incorporated under the laws of the United States of America or any state thereof given on the date of such investment a credit rating of at least Moody’s Aa (and having an investment period not exceeding 50 days);

(ii)make Permitted Acquisitions, provided that the aggregate consideration paid or payable by Borrower and its Subsidiaries in connection with all Permitted Acquisitions consummated in any fiscal year of Borrower shall not exceed $5,000,000, provided further that such limit on consideration shall be increased to $10,000,000 with respect to each fiscal year of Borrower if all Permitted Acquisitions are made by Borrower in such fiscal year and all purchase price payments to be made by Borrower in connection with such Permitted Acquisitions are payable only in stock of Borrower.  Notwithstanding the foregoing, Borrower may undertake and conclude the Permitted Acquisition of TECON Water Companies, Inc., and Tenkiller Utility Company, with a total purchase price not to exceed $71,000,000 (including transaction fees and expenses);

(iii)continue to own the existing capital stock of the Borrower’s Subsidiaries;

(iv)endorse negotiable instruments for deposit or collection or similar transactions in the ordinary course of business;

(v)allow the Borrower’s Subsidiaries to make or permit to remain outstanding advances from the Borrower’s Subsidiaries to the Borrower;

(vi)make or permit to remain outstanding loans or advances to those Subsidiaries of Borrower as to which Borrower owns at least 80% of the outstanding equity;

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(vii)with respect to the Borrower only, enter into or permit to remain outstanding (a) a guaranty of the unsecured bank indebtedness of NMUI in an amount not to exceed at any one time $4,000,000 for principal, plus all interest thereon and all costs and expenses pertaining to the enforcement of the guaranty and/or the collection of such indebtedness, (b) a guaranty of the senior secured bank indebtedness provided by Bank of the West to Windermere in an amount not to exceed at any one time $10,000,000 for principal, plus all interest thereon and all costs and expenses pertaining to the enforcement of the guaranty and/or the collection of such indebtedness; and (c) guaranties of the obligations of ECO under that certain Service Contract for the Design, Construction, Financing and Operation of the San Juan Basin Desalter Project dated as of September 3, 2002 between the Capistrano Valley Water District and ECO and associated project agreements,and

(viii)make or permit to remain outstanding loans and advances to any of its officers, shareholders or affiliates or enter into or permit to remain outstanding guarantees in connection with the obligations of its officers, shareholders or affiliates, in an aggregate amount for all such loans, advances and guarantees not exceeding $100,000 in addition to the loans outstanding and reflected on the Borrower’s financial statements dated March 31, 2004.

(h)Asset Sales.  Convey, sell, lease, transfer or otherwise dispose of, or permit any Subsidiary to convey, sell, lease, transfer or otherwise dispose of, in one transaction or a series of transactions, all or any part of its or its Subsidiary’s business, property or fixed assets outside the ordinary course of business, whether now owned or hereafter acquired, except that the Borrower and its Subsidiaries may convey, sell, lease, transfer or otherwise dispose of business, property or fixed assets for consideration which in the aggregate does not exceed $1,000,000 per year.  The foregoing covenant shall not extend to any property taken by eminent domain by any governmental authority or other person or entity having the power of eminent domain or to any sale in lieu of condemnation to a governmental authority or other person or entity having the power of eminent domain made after threat of condemnation by such governmental authority or other person or entity.

(i)Hostile Tender Offers.  Make any offer to purchase or acquire, or consummate a purchase or acquisition of, five percent (5%) or more of the capital stock of any publicly held corporation or other publicly held business entity, unless the board of directors of such corporation or business entity has notified the Borrower that it invites or does not oppose such offer or purchase.

(j)Distributions.  Upon the occurrence and during the continuance of an Event of Default or Potential Event of Default, authorize, declare or pay, or permit any of its Subsidiaries to authorize, declare or pay, any Distributions.

(k)Transactions with Affiliates.  Neither Borrower nor any of its Subsidiaries shall enter into any transaction for the purchase, sale or exchange of property or the rendering of any service to or by any affiliate, except in the ordinary course of and pursuant to the reasonable requirements of Borrower’s or its Subsidiary’s business and upon fair and reasonable terms no

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less favorable to the Borrower or its Subsidiary than Borrower or its Subsidiary would obtain in a comparable arm’s length transaction with an unaffiliated person.

(l)Books and Records.  Borrower will, and will cause each of its Subsidiaries to, keep proper books of record and account in which full, true and correct entries in conformity with GAAP and all requirements of applicable law shall be made of all dealings and transactions in relation to its business and activities.

(m)Restructure.  Make any change in the principal nature of Borrower’s and its Subsidiaries’ business operations (taken as a whole) or the date of its fiscal year.

ARTICLE VII
EVENTS OF DEFAULT

SECTION 7.01.  Events of Default.  If any of the following events (“Events of Default”) shall occur and be continuing:

(a)Borrower shall fail to pay within three (3) days of the date when due, any principal, interest, fees or other amounts payable under any of the Loan Documents; or

(b)Any representation or warranty made by the Borrower herein or by the Borrower (or any of its officers) in connection with the Loan Documents shall prove to have been incorrect in any material respect when made; or

(c)Borrower shall fail to perform or observe any term, any affirmative or negative covenant, including, but not limited to, those covenants set forth in Sections 6.01 and 6.02 hereof, or any other agreement contained in this Agreement on its part to be performed or observed (other than those referred to in subsections (a) and (b) above); and with respect to any such default which by its nature can be cured, such default shall continue for a period of twenty (20) days from its occurrence; or

(d)The Borrower or any of its Subsidiaries shall default in the performance of or compliance with any term contained in any Loan Document other than this Agreement and such default shall not have been remedied or waived within any applicable grace period in such Loan Document or in (c) above; or

(e)The Borrower shall default in the performance of or compliance with any term contained in any Union Loan Document, and such default shall continue after the applicable grace period, if any, specified in the applicable Union Loan Document; or

(f)to the extent not already addressed in this Section 7.01, (i) the Borrower or any of its Subsidiaries shall (A) fail to pay any principal of, or premium or interest on, any Debt the aggregate outstanding principal amount of which is at least $500,000 (excluding Debt evidenced by the Revolving Note and Additional Revolving Note), when due (whether by scheduled maturity, required prepayment, acceleration, demand or otherwise) and such failure shall continue after the applicable grace period, if any, specified in the agreement or instrument relating to such Debt, or (B) fail to perform or observe any term, covenant or condition on its part to be performed or observed under any agreement or instrument relating to any such Debt or

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material to the performance, business, property, assets, condition (financial or otherwise) or prospects of the Borrower and its Subsidiaries taken as a whole, when required to be performed or observed, and such failure shall continue after the applicable grace period, if any, specified in such agreement or instrument; or

(g)(i) The Borrower or any of its Subsidiaries shall commence any case, proceeding or other action (A) under any existing or future law of any jurisdiction, domestic or foreign, relating to bankruptcy, insolvency, reorganization or relief of debtors, seeking to have an order for relief entered with respect to it, or seeking to adjudicate it a bankrupt or insolvent, or seeking reorganization, arrangement, adjustment, winding-up, liquidation, dissolution, composition or other relief with respect to it or its debts, or (B) seeking appointment of a receiver, trustee, custodian or other similar official for it or for all or any substantial part of its assets, or the Borrower or any of its Subsidiaries shall make a general assignment for the benefit of its creditors; or (ii) there shall be commenced against the Borrower or any of its Subsidiaries any case, proceeding or other action of a nature referred to in clause (i) above which (A) results in the entry of an order for relief or any such adjudication or appointment or (B) remains undismissed, undischarged or unbonded for a period of sixty (60) days (Bank may, in its discretion, cease making Revolving Loans and Additional Revolving Loans during the pendency of such action or proceeding); or (iii) there shall be commenced against the Borrower or any of its Subsidiaries any case, proceeding or other action seeking issuance of a warrant of attachment, execution, distraint or similar process against all or any substantial part of its assets which results in the entry of an order for any such relief which shall not have been vacated, discharged, or stayed or bonded pending appeal within sixty (60) days from the entry thereof (Bank may, in its discretion, cease making Revolving Loans or Additional Revolving Loans during the pendency of such action or proceeding); or (iv) the Borrower or any of its Subsidiaries shall take any action in furtherance of, or indicating its consent to, approval of, or acquiescence in, any of the acts set forth in clauses (i), (ii) and (iii) above; or (v) the Borrower or any of its Subsidiaries shall generally not, or shall be unable to, or shall admit in writing its inability to, pay its debts as they become due; or

(h)One or more judgments or decrees shall be entered against the Borrower or any of its Subsidiaries involving in the aggregate a liability (not paid or fully covered by insurance or reserves) equal to or greater than $500,000 and all such judgments or decrees shall not have been vacated, discharged, or stayed or bonded pending appeal within thirty (30) days from the entry thereof; or

(i)(i)The Borrower or any of its ERISA Affiliates fails to make full payment when due of all material amounts which, under the provisions of any Pension Plan or Section 412 of the Internal Revenue Code, the Borrower or any of its ERISA Affiliates is required to pay as contributions thereto and such development is not remedied or reversed within fifteen (15) days after the Borrower knows of such development;

(ii)any material accumulated funding deficiency occurs or exists, whether or not waived, with respect to any Pension Plan and such development is not remedied or reversed within fifteen (15) days after the Borrower knows of such development;

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(iii)the excess of the actuarial present value of all benefit liabilities under all Pension Plans over the fair market value of the assets of such Pension Plans (excluding in such computation Pension Plans with assets greater than benefit liabilities)  allocable to such benefit liabilities are greater than five percent (5%) of Consolidated Tangible Net Worth and such development is not remedied or reversed within fifteen (15)  days after the Borrower knows of such development;

(iv)the Borrower or any of its ERISA Affiliates enters into any transaction which has as its principal purpose the evasion of liability under Subtitle D of Title IV of ERISA;

(v)(A) Any Pension Plan maintained by the Borrower or any of its ERISA Affiliates shall be terminated within the meaning of Title IV of ERISA in a distress termination, or (B) a trustee shall be appointed by an appropriate United States district court in accordance with Section 4042 of ERISA to administer any Pension Plan, or (C) the Pension Benefit Guaranty Corporation (or any successor thereto) shall institute proceedings to terminate any Pension Plan or to appoint a trustee to administer any Pension Plan in accordance with Section 4042 of ERISA, or (D) the Borrower or any of its ERISA Affiliates shall withdraw (under Section 4063 of ERISA) from a Pension Plan, if as of the date of the event listed in subclauses (A)-(D) above or any subsequent date, either the Borrower or its ERISA Affiliates has any material liability (such liability to include, without limitation, any liability to the Pension Benefit Guaranty Corporation, or any successor thereto, or to any other party under Sections 4062, 4063 or 4064 of ERISA or any other provision of law) resulting from or otherwise associated with the events listed in subclauses (A)-(D) above;

(vi)As used in this subsection 7.01(i) the term “accumulated funding deficiency” has the meaning specified in Section 412 of the Internal Revenue Code, and the term “benefit liabilities” has the meaning specified in Section 4001 of ERISA;

(j)There shall be instituted against the Borrower or any Subsidiary, or against any guarantor, any proceeding for which forfeiture of any property with a value of $500,000 or more is a potential penalty and such proceeding remains undismissed, undischarged or unbonded for a period of thirty (30) days from the date the Borrower knows of such proceeding; or

(k)A Change of Control shall have occurred.

Then, (i) upon the occurrence and continuation of any Event of Default described in clause 7.01(g) above, the Commitment shall immediately terminate and all Revolving Loans and Additional Revolving Loans hereunder with accrued interest thereon, and all other amounts owing under the Loan Documents shall automatically become due and payable, and (ii) upon the occurrence of any other Event of Default, the Bank may, by notice to the Borrower, declare the Commitment to be terminated forthwith, whereupon the Commitment shall immediately terminate; and, by notice to the Borrower, declare the Revolving Loans and Additional Revolving Loans hereunder, with accrued interest thereon, and all other amounts owing under the Loan Documents to be due and payable forthwith, whereupon the same shall immediately become due and payable.  Bank shall have all rights, powers and remedies available under each

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of the Loan Documents, or accorded by law, including, without limitation, the right to resort to any or all security for any credit accommodation from the Bank subject hereto and to exercise any or all of the rights of a beneficiary or secured party pursuant to applicable law.  All rights, powers and remedies of Bank in connection with each of the Loan Documents may be exercised at any time by Bank and from time to time after the occurrence of an Event of Default, are cumulative and not exclusive, and shall be in addition to any other rights, powers or remedies provided by law or equity.  Except as expressly provided above in this Section, presentment, demand, protest and all other notices of any kind are hereby expressly waived. Notwithstanding any other provision of this Agreement, including Section 8.02, notices to the Borrower under this Section shall be communicated in writing (including telex or facsimile transmissions).

ARTICLE VIII
MISCELLANEOUS

SECTION 8.01.  Amendments, Etc.  No amendment or waiver of any provision of the Loan Documents nor consent to any departure by the Borrower therefrom, shall in any event be effective unless the same shall be in writing and signed by the Bank, and then such waiver or consent shall be effective only in the specific instance and for the specific purpose for which given.

SECTION 8.02.  Notices, Etc.  Except as otherwise set forth in this Agreement, all notices and other communications provided for hereunder shall be in writing (including facsimile communication) and mailed certified mail, return receipt requested or sent by facsimile or delivered, if to the Borrower, at its address set forth on the signature page hereof; and if to the Bank, at its address set forth on the signature page hereof; or, as to each party, at such other address as shall be designated by such party in a written notice to the other parties. All such notices and communications shall be effective upon personal delivery or upon receipt when sent by facsimile, or on the date of receipt or refusal indicated on the return receipt if sent by certified mail, except that notices and communications to the Bank pursuant to Article II or VII shall not be effective until received by the Bank.

SECTION 8.03.  Right of Setoff:  Security Interest in Deposit Accounts.  Upon and only after the occurrence of any Event of Default not cured within any applicable grace period, the Bank is hereby authorized by the Borrower, at any time and from time to time, without notice, (a) to set off against, and to appropriate and apply to the payment of, the obligations and liabilities of the Borrower under the Loan Documents (whether matured or unmatured, fixed or contingent or liquidated or unliquidated) any and all amounts owing by the Bank to the Borrower (whether payable in Dollars or any other currency, whether matured or unmatured, and, in the case of deposits, whether general or special, time or demand and however evidenced) and (b) pending any such action, to the extent necessary, to hold such amounts as collateral to secure such obligations and liabilities and to return as unpaid for insufficient funds any and all checks and other items drawn against any deposits so held as the Bank in its sole discretion may elect. The Borrower hereby grants to the Bank a security interest in all deposits and accounts maintained with the Bank and with any other financial institution. The Bank is authorized to debit any account maintained with it by the Borrower for any amount of principal, interest or fees which are then due and owing to the Bank.

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SECTION 8.04.  No Waiver; Remedies.  No failure on the part of either party hereto to exercise, and no delay in exercising, any right under any of the Loan Documents shall operate as a waiver thereof; nor shall any single or partial exercise of any right under any of the Loan Documents preclude any other or further exercise thereof or the exercise of any other right. The remedies herein provided are cumulative and not exclusive of any remedies provided by law.

SECTION 8.05.  Costs and Expenses.  Borrower shall pay to Bank immediately upon demand the full amount of all costs and expenses, including reasonable attorneys’ fees (to include outside counsel fees and all allocated costs of Bank’s in-house counsel), incurred by Bank in connection with (a) the negotiation and preparation of this Agreement and each other of the Loan Documents, and the preparation of any amendments and waivers hereto and thereto, (b) the enforcement of Bank’s rights and/or the collection of any amounts which become due to Bank under any of the Loan Documents (including, without limitation, in appellate, bankruptcy, insolvency, liquidation, reorganization, moratorium or other similar proceedings) or the restructuring of the Loan Documents, and (c) the prosecution or defense of any action in any way related to any of the Loan Documents, including, without limitation, any action for declaratory relief.

SECTION 8.06.  Participations.  The Bank may sell, assign, transfer, negotiate or grant participations to other financial institutions in all or part of the obligations of the Borrower outstanding under the Loan Documents, provided that any such sale, assignment, transfer, negotiation or participation shall be in compliance with the applicable federal and state securities laws; and provided further that any assignee or transferee agrees to be bound by the terms and conditions of this Agreement. The Bank may, in connection with any actual or proposed assignment or participation, disclose to the actual or proposed assignee or participant, any information relating to the Borrower or any of its Subsidiaries.

SECTION 8.07.  Effectiveness: Binding Effect.  This Agreement shall become effective when it shall have been executed by the Borrower and the Bank and thereafter shall be binding upon and inure to the benefit of the Borrower, the Bank and their respective successors and assigns, except that the Borrower shall not have the right to assign its rights hereunder or any interest herein without the prior written consent of the Bank.

SECTION 8.08.  Governing Law.  The validity, interpretation and enforcement of this Agreement and the other Loan Documents (except to the extent otherwise provided in any such Loan Document) and any dispute arising out of the relationship between the parties hereto or thereto, whether in contract, tort, equity or otherwise, shall be governed by the internal laws of the State of California (without giving effect to principles of conflicts of law).

SECTION 8.09.  Arbitration and Waiver of Jury Trial.

(a)This paragraph concerns the resolution of any controversies or claims between Bank and Borrower, whether arising in contract, tort or by statute, including but not limited to controversies or claims that arise out of or relate to: (i) this Agreement (including any renewals, extensions or modifications); or (ii) any of the Loan Documents (collectively a “Claim”).

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(b)At the request of any party to this Agreement, any Claim shall be resolved by binding arbitration in accordance with the Federal Arbitration Act (Title 9, U.S. Code) (the “Act”).  The Act will apply even though this Agreement provides that it is governed by the law of the State of California.

(c)Arbitration proceedings will be determined in accordance with the Act, the applicable rules and procedures for the arbitration of disputes of JAMS or any successor thereof (“JAMS”), and the terms of this paragraph.  In the event of any inconsistency, the terms of this paragraph shall control.

(d)The arbitration shall be administered by JAMS and conducted in the State of California.  All Claims shall be determined by one arbitrator; however, if Claims exceed Five Million Dollars ($5,000,000), upon the request of any party, the Claims shall be decided by three arbitrators.  All arbitration hearings shall commence within ninety (90) days of the demand for arbitration and close within ninety (90) days of commencement and the award of the arbitrator(s) shall be issued within thirty (30) days of the close of the hearing.  However, the arbitrator(s), upon a showing of good cause, may extend the commencement of the hearing for up to an additional sixty (60) days.  The arbitrator(s) shall provide a concise written statement of reasons for the award.  The arbitration award may be submitted to any court having jurisdiction to be confirmed, judgment entered and enforced.

(e)The arbitrator(s) will have the authority to decide whether any Claim is barred by the statute of limitations and, if so, to dismiss the arbitration on that basis. For purposes of the application of the statute of limitations, the service on JAMS under applicable JAMS rules of a notice of Claim is the equivalent of the filing of a lawsuit.  Any dispute concerning this arbitration provision or whether a Claim is arbitrable shall be determined by the arbitrator(s).  The arbitrator(s) shall have the power to award legal fees pursuant to the terms of this Agreement.

(f)This paragraph does not limit the right of any party to: (i) exercise self-help remedies, such as but not limited to, setoff; (ii) initiate judicial or non-judicial foreclosure against any real or personal property collateral; (iii) exercise any judicial or power of sale rights, or (iv) act in a court of law to obtain an interim remedy, such as but not limited to, injunctive relief, writ of possession or appointment of a receiver, or additional or supplementary remedies.

(g)The filing of a court action is not intended to constitute a waiver of the right of any party, including the suing party, thereafter to require submittal of the Claim to arbitration.

(h)By agreeing to binding arbitration, the parties irrevocably and voluntarily waive any right they may have to a trial by jury in respect of any Claim.  Furthermore, without intending in any way to limit this agreement to arbitrate, to the extent any Claim is not arbitrated, the parties irrevocably and voluntarily waive any right they may have to a trial by jury in respect of such Claim.  This provision is a material inducement for the parties entering into this Agreement.

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SECTION 8.10.  Waiver of Notices.  Borrower hereby expressly waives demand, presentment, protest and notice of protest and notice of dishonor with respect to any and all instruments, included in or evidencing any of the obligations, and any and all other demands and notices of any kind or nature whatsoever with respect to the obligations and this Agreement, except such as are expressly provided for herein.  No notice to or demand on Borrower which Bank may elect to give shall entitle Borrower to any other or further notice or demand in the same, similar or other circumstances.

SECTION 8.11.  Entire Agreement.  This Agreement with Exhibits and Schedules and the other Loan Documents embody the entire agreement and understanding between the parties hereto and supersede all prior agreements and understandings relating to the subject matter hereof.  In the event of any conflict between the provisions of this Agreement and those of any other Loan Document, the provisions of this Agreement shall control and govern; provided that the inclusion of supplemental rights or remedies in favor of Bank in any other Loan Document shall not be deemed a conflict with this Agreement.

SECTION 8.12.  Severability of Provisions.  In case any one or more of the provisions contained in this Agreement should be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby.

SECTION 8.13.  Execution in Counterparts.  This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute one and the same agreement.

SECTION 8.14.  Further Assurances.  Without limiting in any manner any other obligation, requirement or agreement hereunder or under any of the other Loan Documents or otherwise, Borrower shall, at its expense and without expense to Bank, do, execute and deliver such further acts and documents as Bank from time to time reasonably requires for the assuring and confirming unto Bank of the rights hereby created or intended now or hereafter so to be, or for carrying out the intention or facilitating the performance of the terms of any Loan Document.

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IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed by their respective officers thereunto duly authorized, as of the date first above written.

BANK OF AMERICA, N.A.	SOUTHWEST WATER COMPANY
By:	By:
Name:  Jamie L. Freeman	Name: Peter J. Moerbeek
Title:   Vice President	Title:   President and Chief Operating Officer
Address:	Address:
Bank of America 675 Anton Boulevard, 2nd Floor Costa Mesa, California 92626 Attention: Jamie L. Freeman Title: Vice President Facsimile: (714) 850-6586	One Wilshire Building 624 S. Grand Avenue, Suite 2900 Los Angeles, California 90017 Attention: Thomas C. Tekulve Vice President and Treasurer Facsimile: (213) 929-1888

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SCHEDULE 5.01(f) - LITIGATION

None other than as reported on Form 10-Q of Borrower for the quarter ended March 31, 2004 and Form 10-K of Borrower for the year ended December 31, 2003.

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SCHEDULE 5.01(i) - ENVIRONMENTAL MATTERS

See Form 10-Q of Borrower for the quarter ended March 31, 2004 and Form 10-K of Borrower for the year ended December 31, 2003.

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SCHEDULE 6.02(d) - LIENS

None except as disclosed in the audited consolidated financial statements of Borrower for the fiscal year ended 2003, and as described in Section 6.02(d)(i) through (viii) of this Agreement.

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SCHEDULE 6.02(e) – OTHER SECURED DEBT

Secured bank debt not to exceed $30,000,000 and no other secured Debt except as reported on Form 10-K of Borrower for the year ended December 31, 2003.

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EXHIBIT A

REVOLVING NOTE

$20,000,000 July           , 2004

FOR VALUE RECEIVED, the undersigned SOUTHWEST WATER COMPANY, a Delaware corporation (“Borrower”) promises to pay to the order of BANK OF AMERICA, N.A. (“Bank”) at its office at 675 Anton Boulevard, 2^nd Floor, Costa Mesa, California 92626, or at such other place as the holder hereof may designate, in lawful money of the United States of America and in immediately available funds, the principal sum of Twenty Million Dollars ($20,000,000), or so much thereof as may be advanced and be outstanding, with interest thereon, to be computed on each advance from the date of its disbursement (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) at a rate per annum equal to the applicable LIBOR Rate plus one and one-quarter percent (1.25%) or the Prime Rate minus one-quarter of one percent (0.25%) with respect to all principal sums of less than Fifteen Million Dollars ($15,000,000).  When the aggregate principal sums outstanding are equal to or greater than Fifteen Million Dollars ($15,000,000), the interest thereon shall be computed at a rate per annum equal to the applicable LIBOR Rate plus one and one-half percent (1.50%) or the Prime Rate with respect to the entire principal sums outstanding (to be computed on each advance from the date of its disbursement).  When interest is determined in relation to the Prime Rate, each change in the rate of interest hereunder shall become effective on the opening of business on the day specified in the public announcement of a change in Bank’s Prime Rate. With respect to each LIBOR option selected hereunder, Bank is hereby authorized to note the date, principal amount, interest rate and applicable LIBOR Rate Term thereto and any payments made thereon on Bank’s books and records (either manually or by electronic entry) and/or on any schedule attached to this Note, which notations shall be prima facie evidence of the accuracy of the information noted.

A.DEFINITIONS:

Capitalized terms used and not otherwise defined herein shall have the meanings given such terms in the Credit Agreement referred to below.  As used herein, the following terms shall have the meanings set forth after each:

1.“Agreement” means that certain Credit Agreement between Borrower and Bank dated as of October 6, 2003, as amended from time to time, including, without limitation, those terms relating to arbitration of disputes.

2.“Amended and Restated Credit Agreement” means that certain Amended and Restated Credit Agreement entered into between Borrower and Bank on or about July         , 2004.

3.“Business Day” means any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation, or for amounts bearing interest based on the LIBOR Rate, any Business Day is any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation

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on which dealings in Dollar deposits are conducted by and among banks in the Designated LIBOR Market.

4.“Designated LIBOR Market” means the regular established market located in London by and among banks for the solicitation, offer and acceptance of Dollar deposits in such banks.

5.“Dollars” means United States of America dollars.

6.“LIBOR Rate” means the interest rate determined by the following formula, rounded upward, if necessary, to the nearest 1/100 of one percent. (All amounts in the calculation will be determined by Bank as of the first day of the interest period.)

LIBOR Rate =	LIBOR	Base	Rate
	(1.00 - Reserve Percentage)

(a)“LIBOR Base Rate” means, with respect to any Revolving Loan to be made by Bank which is to bear interest in relation to the LIBOR Rate, the interest rate per annum (rounded upward, if necessary, to the nearest 1/100^th of 1%) at which deposits in Dollars are offered by Bank through its London Banking Center, London, Great Britain to prime banks in the Designated LIBOR Market on the first day of the applicable LIBOR Rate Term in an aggregate amount approximately equal to the amount of the Revolving Loan to be made by Bank and for a period of time comparable to the number of days in the applicable LIBOR Rate Term.  The determination of the LIBOR Base Rate by Bank shall be conclusive in the absence of manifest error.

(b)“Reserve Percentage” means, with respect to any Revolving Loan to be made by Bank which is to bear interest in relation to the LIBOR Rate, the maximum reserve percentage (expressed as a decimal, rounded upward, if necessary, to the nearest 1/100 of one percent) in effect on the date the LIBOR Base Rate for the Revolving Loan is determined (whether or not such reserve percentage is applicable to Bank) under regulations issued from time to time by the Federal Reserve Board for determining the maximum reserve requirement (including any emergency, supplemental or other marginal reserve requirement) with respect to eurocurrency funding (currently referred to as “eurocurrency liabilities”) having a term comparable to the LIBOR Rate Term for such Revolving Loan.  The determination by Bank of any applicable Reserve Percentage shall be conclusive in the absence of manifest error.

7.“LIBOR Rate Portion” means a portion of the principal amount outstanding under this Note which is bearing interest at a rate related to LIBOR. No LIBOR Rate Portion shall be less than Two Hundred Fifty Thousand Dollars ($250,000).

8.“LIBOR Rate Term” means a period commencing on a Business Day and continuing for one (1) month, two (2) months, three (3) months, six (6) months or twelve (12) months, as designated by Borrower, during which all or a portion of the outstanding principal balance of this Note bears interest determined in relation to Bank’s LIBOR; provided however, that no LIBOR Rate Term shall extend beyond the scheduled maturity date hereof. The last day of the interest period will be determined by Bank using the Designated LIBOR Market. If any

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LIBOR Rate Term would end on a day which is not a Business Day, then such LIBOR Rate Term shall be extended to the next succeeding Business Day.

9.“Prime Rate” means the rate of interest publicly announced from time to time by the Bank as its Prime Rate.  The Prime Rate is set by the Bank based on various factors, including the Bank’s costs and desired return, general economic conditions and other factors, and is used as a reference point for pricing some loans.  The Bank may price loans to its customers at, above or below the Prime Rate.  Any change in the Prime Rate will take effect at the opening of business on the day specified in the public announcement of a change in the Bank’s Prime Rate.

B.INTEREST:

1.Payment of Interest. Interest accrued on this Note shall be payable on the fifteenth (15^th) day of each month for the prior month or portion thereof, commencing June 15, 2004.

2.Selection of Interest Rate Options. At any time any portion of this Note bears interest determined in relation to the LIBOR Rate, it may be continued by Borrower at the end of the LIBOR Rate Term applicable thereto so that all or a portion thereof bears interest determined in relation to the Prime Rate or in relation to the LIBOR Rate for a new LIBOR Rate Term designated by Borrower. At any time any portion of this Note bears interest determined in relation to the Prime Rate, Borrower may convert all or a portion thereof so that it bears interest determined in relation to the LIBOR Rate for a LIBOR Rate Term designated by Borrower. At the time each advance is requested hereunder or Borrower wishes to select the LIBOR option for all or a portion of the outstanding principal balance hereof, and at the end of each LIBOR Rate Term, Borrower shall give Bank notice specifying (a) the interest rate option selected by Borrower, (b) the principal amount subject thereto, and (c) if the LIBOR option is selected, the length of the applicable LIBOR Rate Term. Any such notice may be given by telephone so long as, with respect to each LIBOR selection, such notice is given to Bank prior to 10:00 a.m., California time, on the third Business Day prior to the commencement of the LIBOR Rate Term and, with respect to each Prime Rate selection, such notice is given to Bank prior to 11:00 a.m., California time, on the day of the requested advance. For each LIBOR option requested hereunder, Bank will quote the applicable LIBOR Rate to Borrower at approximately 10:00 a.m., California time, on the second Business Day prior to the LIBOR Rate Term. If Borrower does not immediately accept the rate quoted by Bank, any subsequent acceptance by Borrower shall be subject to a re-determination by Bank of the applicable LIBOR Rate; provided however, that if Borrower fails to accept any such rate by 11:00 a.m., California time, on the Business Day such quotation is given, then the quoted rate shall expire and Bank shall have no obligation to permit a LIBOR option to be selected on such day. If no specific designation of interest is made at the time any advance is requested hereunder or at the end of any LIBOR Rate Term, Borrower shall be deemed to have made a Prime Rate interest selection for such advance or the principal amount to which such LIBOR Rate Term applied.

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3.Additional LIBOR Provisions.

(a)If Bank at any time shall determine that for any reason adequate and reasonable means do not exist for ascertaining the LIBOR Rate, then Bank shall promptly give notice thereof to Borrower. If such notice is given and until such notice has been withdrawn by Bank, then (i) no new LIBOR option may be selected by Borrower, and (ii) any portion of the outstanding principal balance hereof which bears interest determined in relation to the LIBOR Rate, subsequent to the end of the LIBOR Rate Term applicable thereto, shall bear interest determined in relation to the Prime Rate.

(b)If any law, treaty, rule, regulation or determination of a court or governmental authority or any change therein or in the interpretation or application thereof (each, a “Change in Law”) shall make it unlawful for Bank (i) to make LIBOR options available hereunder, or (ii) to maintain interest rates based on the LIBOR Rate, then in the former event, any obligation of Bank to make available such unlawful LIBOR options shall immediately be cancelled, and in the latter event, any such unlawful LIBOR-based interest rates then outstanding shall be converted, at Bank’s option, so that interest on the portion of the outstanding principal balance subject thereto is determined in relation to the Prime Rate; provided however, that if any such Change in Law shall permit any LIBOR-based interest rates to remain in effect until the expiration of the LIBOR Rate Term applicable thereto, then such permitted LIBOR-based interest rates shall continue in effect until the expiration of such LIBOR Rate Term. Upon the occurrence of any of the foregoing events, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any fines, fees, charges, penalties or other costs incurred or payable by Bank as a result thereof and which are attributable to any LIBOR options made available to Borrower hereunder, and any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(c)If any Change in Law or compliance by Bank with any request or directive (whether or not having the force of law) from any central bank or other governmental authority shall:

(i)subject Bank to any tax, duty or other charge with respect to any LIBOR options, or change the basis of taxation of payments to Bank of principal, interest, fees or any other amount payable hereunder (except for changes in the rate of tax on the overall net income of Bank); or

(ii)impose, modify or hold applicable any reserve, special deposit, compulsory loan or similar requirement against assets held by, deposits or other liabilities in or for the account of advances or loans by, or any other acquisition of funds by any office of Bank; or

(iii)impose on Bank any other condition; and the result of any of the foregoing is to increase the cost to Bank of making, renewing or maintaining any LIBOR options hereunder and/or to reduce any amount receivable by Bank in connection therewith, then in any such case, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any additional costs incurred by Bank and/or reductions in amounts received by Bank which are attributable to such LIBOR options. In determining which

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costs incurred by Bank and/or reductions in amounts received by Bank are attributable to any LIBOR options made available to Borrower hereunder, any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(d)Bank will have no obligation to accept an election of Borrower for the LIBOR option if any of the following described events has occurred and is continuing:

(i)Dollar deposits in the principal amount, and for periods equal to the LIBOR Rate Term, of any Revolving Loan which bears interest in relation to the LIBOR Rate are not available in the Designated LIBOR Market; or

 (ii)an Event of Default has occurred and is continuing; or

 (iii)the LIBOR Rate does not accurately reflect the cost of any Revolving Loan which bears interest in relation to the LIBOR Rate.

4.Default Interest. During the continuance of an Event of Default, the outstanding principal balance of this Note shall bear interest until paid in full at an increased rate per annum (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) equal to two percent (2.00%) above the rate of interest from time to time applicable to this Note (the “Default Rate”).

C.BORROWING AND REPAYMENT:

1.Loan and Repayment. Borrower may from time to time during the term of this Note borrow, partially or wholly repay its outstanding borrowings, and re-borrow, subject to all of the limitations, terms and conditions of this Note and of any document executed in connection with or governing this Note, including the Amended and Restated Credit Agreement; provided however, that the total outstanding borrowings under this Note shall not at any time exceed the principal amount stated above. The unpaid principal balance of this obligation at any time shall be the total amounts advanced hereunder by the holder hereof less the amount of principal payments made hereon by or for Borrower, which balance may be endorsed hereon from time to time by the holder.  The outstanding principal balance of this Note shall be due and payable in full on the “Maturity Date” (as defined in the Amended and Restated Credit Agreement).

2.Advances. Advances hereunder, to the total amount of the principal sum stated above, may be made by the holder at the oral or written request of (a) Thomas C. Tekulve or Richard Shields any one acting alone, who are authorized to request advances and direct the disposition of any advances until written notice of the revocation of such authority is received by the holder at the office designated above, or (b) any person, with respect to advances deposited to the credit of any account of Borrower with the holder, which advances, when so deposited, shall be conclusively presumed to have been made to or for the benefit of Borrower regardless of the fact that persons other than those authorized to request advances may have authority to draw against such account. The holder shall have no obligation to determine whether any person requesting an advance is or has been authorized by Borrower.

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3.Application of Payments. Each payment made on this Note shall be credited first, to any interest then due and second, to the outstanding principal balance hereof. Unless instructed otherwise by Borrower, all payments credited to principal shall be applied first, to the outstanding principal balance of this Note which bears interest determined in relation to the Prime Rate, if any, and second, to the outstanding principal balance of this Note which bears interest determined in relation to the LIBOR Rate, with such payments applied to the oldest LIBOR Rate Term first.

4.Prepayment.

(a)Prime Rate. Borrower may prepay principal on any portion of this Note which bears interest determined in relation to the Prime Rate at any time, in any amount and without penalty.

(b)LIBOR. Each prepayment of a LIBOR Rate Portion shall be not less than $250,000 and shall be in an integral multiple of $100,000, and Bank shall have received notice of each such prepayment on the date that is five (5) Business Days before the date of such prepayment (which notice shall identify the date and amount of the prepayment).  Each prepayment of a LIBOR Rate Portion, whether voluntary, by reason of acceleration or otherwise, will be accompanied by the amount of accrued interest on the amount prepaid, and a prepayment fee as described below. A “prepayment” is a payment on a date earlier than the last day of the applicable LIBOR Rate Term. The prepayment fee shall be equal to the amount (if any) by which:

(i)the additional interest which would have been payable during the applicable LIBOR Rate Term on the amount prepaid had it not been prepaid, exceeds

(ii)the interest which would have been recoverable by Bank by placing the amount prepaid on deposit in the domestic certificate of deposit market, the eurodollar deposit market, or other appropriate money market selected by Bank for a period starting on the date on which it was prepaid and ending on the last day of the applicable LIBOR Rate Term.

Borrower acknowledges that prepayment of such amount may result in Bank incurring additional costs, expenses and/or liabilities, and that it is difficult to ascertain the full extent of such costs, expenses and/or liabilities. Borrower, therefore, agrees to pay the above-described prepayment fee and agrees that said amount represents a reasonable estimate of the prepayment costs, expenses and/or liabilities of Bank. If Borrower fails to pay any prepayment fee when due, the amount of such prepayment fee shall thereafter bear interest until paid at a rate per annum two percent (2.00%)above the Prime Rate in effect from time to time (computed on the basis of a 360-day year, actual days elapsed).

D.EVENTS OF DEFAULT:

This Note is made pursuant to and is subject to the terms and conditions of the Amended and Restated Credit Agreement.  Any default in the payment or performance of any obligation under this Note, or any defined event of default under the Amended and Restated Credit Agreement, shall constitute an “Event of Default” under this Note.

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E.MISCELLANEOUS:

1.Remedies.  Upon the occurrence of any Event of Default, the holder of this Note, at the holder’s option, without notice upon the occurrence of an Event of Default pursuant to Section 7.01(g) of the Amended and Restated Credit Agreement, and with notice upon the occurrence of any other Event of Default, may declare all sums of principal and interest outstanding hereunder to be immediately due and payable without presentment, demand, protest or notice of dishonor, all of which are expressly waived by Borrower, and the obligation, if any, of the holder to extend any further credit hereunder shall immediately cease and terminate. Borrower shall pay to the holder immediately upon demand the full amount of all payments, advances, charges, costs and expenses, including reasonable attorneys’ fees (to include outside counsel fees and all allocated costs of the holder’s in-house counsel), incurred by the holder in connection with the enforcement of the holder’s rights and/or the collection of any amounts which become due to the holder under this Note, and the prosecution or defense of any action in any way related to this Note, including without limitation, any action for declaratory relief, and including any of the foregoing incurred in connection with any bankruptcy proceeding relating to Borrower.

2.Obligations Joint and Several. Should more than one person or entity sign this Note as a Borrower, the obligations of each such Borrower shall be joint and several.

3.Governing Law. This Note shall be governed by and construed in accordance with the laws of the State of California, except to the extent Bank has greater rights or remedies under Federal law, whether as a national bank or otherwise, in which case such choice of California law shall not be deemed to deprive Bank of any such rights and remedies as may be available under Federal law.

“Borrower”

SOUTHWEST WATER COMPANY,

a Delaware corporation

By:

Name:

Title:

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EXHIBIT B

REVOLVING NOTE

$15,000,000 July           , 2004

FOR VALUE RECEIVED, the undersigned SOUTHWEST WATER COMPANY, a Delaware corporation (“Borrower”) promises to pay to the order of BANK OF AMERICA, N.A. (“Bank”) at its office at 675 Anton Boulevard, 2^nd Floor, Costa Mesa, California 92626, or at such other place as the holder hereof may designate, in lawful money of the United States of America and in immediately available funds, the principal sum of Fifteen Million Dollars ($15,000,000), or so much thereof as may be advanced and be outstanding, with interest thereon, to be computed on each advance from the date of its disbursement (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) at a rate per annum equal to the applicable LIBOR Rate plus two and one-half percent (2.5%) or the Prime Rate.  When interest is determined in relation to the Prime Rate, each change in the rate of interest hereunder shall become effective on the opening of business on the day specified in the public announcement of a change in Bank’s Prime Rate. With respect to each LIBOR option selected hereunder, Bank is hereby authorized to note the date, principal amount, interest rate and applicable LIBOR Rate Term thereto and any payments made thereon on Bank’s books and records (either manually or by electronic entry) and/or on any schedule attached to this Note, which notations shall be prima facie evidence of the accuracy of the information noted.

A.DEFINITIONS:

Capitalized terms used and not otherwise defined herein shall have the meanings given such terms in the Credit Agreement referred to below.  As used herein, the following terms shall have the meanings set forth after each:

1.“Amended and Restated Credit Agreement” means that certain Amended and Restated Credit Agreement entered into between Borrower and Bank on or about July         , 2004.

2.“Business Day” means any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation, or for amounts bearing interest based on the LIBOR Rate, any Business Day is any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation on which dealings in Dollar deposits are conducted by and among banks in the Designated LIBOR Market.

3.“Designated LIBOR Market” means the regular established market located in London by and among banks for the solicitation, offer and acceptance of Dollar deposits in such banks.

4.“Dollars” means United States of America dollars.

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5.“LIBOR Rate” means the interest rate determined by the following formula, rounded upward, if necessary, to the nearest 1/100 of one percent. (All amounts in the calculation will be determined by Bank as of the first day of the interest period.)

LIBOR Rate =	LIBOR	Base	Rate
	(1.00 - Reserve Percentage)

(a)“LIBOR Base Rate” means, with respect to any Additional Revolving Loan to be made by Bank which is to bear interest in relation to the LIBOR Rate, the interest rate per annum (rounded upward, if necessary, to the nearest 1/100^th of 1%) at which deposits in Dollars are offered by Bank through its London Banking Center, London, Great Britain to prime banks in the Designated LIBOR Market on the first day of the applicable LIBOR Rate Term in an aggregate amount approximately equal to the amount of the Revolving Loan to be made by Bank and for a period of time comparable to the number of days in the applicable LIBOR Rate Term.  The determination of the LIBOR Base Rate by Bank shall be conclusive in the absence of manifest error.

(b)“Reserve Percentage” means, with respect to any Additional Revolving Loan to be made by Bank which is to bear interest in relation to the LIBOR Rate, the maximum reserve percentage (expressed as a decimal, rounded upward, if necessary, to the nearest 1/100 of one percent) in effect on the date the LIBOR Base Rate for the Revolving Loan is determined (whether or not such reserve percentage is applicable to Bank) under regulations issued from time to time by the Federal Reserve Board for determining the maximum reserve requirement (including any emergency, supplemental or other marginal reserve requirement) with respect to eurocurrency funding (currently referred to as “eurocurrency liabilities”) having a term comparable to the LIBOR Rate Term for such Revolving Loan.  The determination by Bank of any applicable Reserve Percentage shall be conclusive in the absence of manifest error.

6.“LIBOR Rate Portion” means a portion of the principal amount outstanding under this Note which is bearing interest at a rate related to LIBOR. No LIBOR Rate Portion shall be less than Two Hundred Fifty Thousand Dollars ($250,000).

7.“LIBOR Rate Term” means a period commencing on a Business Day and continuing for one (1) month, two (2) months, three (3) months, six (6) months or twelve (12) months, as designated by Borrower, during which all or a portion of the outstanding principal balance of this Note bears interest determined in relation to Bank’s LIBOR; provided however, that no LIBOR Rate Term shall extend beyond the scheduled maturity date hereof. The last day of the interest period will be determined by Bank using the Designated LIBOR Market. If any LIBOR Rate Term would end on a day which is not a Business Day, then such LIBOR Rate Term shall be extended to the next succeeding Business Day.

8.“Prime Rate” means the rate of interest publicly announced from time to time by the Bank as its Prime Rate.  The Prime Rate is set by the Bank based on various factors, including the Bank’s costs and desired return, general economic conditions and other factors, and is used as a reference point for pricing some loans.  The Bank may price loans to its customers at, above or below the Prime Rate.  Any change in the Prime Rate will take effect at the opening

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of business on the day specified in the public announcement of a change in the Bank’s Prime Rate.

B.INTEREST:

1.Payment of Interest. Interest accrued on this Note shall be payable on the fifteenth (15^th) day of each month for the prior month or portion thereof, commencing August 15, 2004.

2.Selection of Interest Rate Options. At any time any portion of this Note bears interest determined in relation to the LIBOR Rate, it may be continued by Borrower at the end of the LIBOR Rate Term applicable thereto so that all or a portion thereof bears interest determined in relation to the Prime Rate or in relation to the LIBOR Rate for a new LIBOR Rate Term designated by Borrower. At any time any portion of this Note bears interest determined in relation to the Prime Rate, Borrower may convert all or a portion thereof so that it bears interest determined in relation to the LIBOR Rate for a LIBOR Rate Term designated by Borrower. At the time each advance is requested hereunder or Borrower wishes to select the LIBOR option for all or a portion of the outstanding principal balance hereof, and at the end of each LIBOR Rate Term, Borrower shall give Bank notice specifying (a) the interest rate option selected by Borrower, (b) the principal amount subject thereto, and (c) if the LIBOR option is selected, the length of the applicable LIBOR Rate Term. Any such notice may be given by telephone so long as, with respect to each LIBOR selection, such notice is given to Bank prior to 10:00 a.m., California time, on the third Business Day prior to the commencement of the LIBOR Rate Term and, with respect to each Prime Rate selection, such notice is given to Bank prior to 11:00 a.m., California time, on the day of the requested advance. For each LIBOR option requested hereunder, Bank will quote the applicable LIBOR Rate to Borrower at approximately 10:00 a.m., California time, on the second Business Day prior to the LIBOR Rate Term. If Borrower does not immediately accept the rate quoted by Bank, any subsequent acceptance by Borrower shall be subject to a re-determination by Bank of the applicable LIBOR Rate; provided however, that if Borrower fails to accept any such rate by 11:00 a.m., California time, on the Business Day such quotation is given, then the quoted rate shall expire and Bank shall have no obligation to permit a LIBOR option to be selected on such day. If no specific designation of interest is made at the time any advance is requested hereunder or at the end of any LIBOR Rate Term, Borrower shall be deemed to have made a Prime Rate interest selection for such advance or the principal amount to which such LIBOR Rate Term applied.

3.Additional LIBOR Provisions.

(a)If Bank at any time shall determine that for any reason adequate and reasonable means do not exist for ascertaining the LIBOR Rate, then Bank shall promptly give notice thereof to Borrower. If such notice is given and until such notice has been withdrawn by Bank, then (i) no new LIBOR option may be selected by Borrower, and (ii) any portion of the outstanding principal balance hereof which bears interest determined in relation to the LIBOR Rate, subsequent to the end of the LIBOR Rate Term applicable thereto, shall bear interest determined in relation to the Prime Rate.

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(b)If any law, treaty, rule, regulation or determination of a court or governmental authority or any change therein or in the interpretation or application thereof (each, a “Change in Law”) shall make it unlawful for Bank (i) to make LIBOR options available hereunder, or (ii) to maintain interest rates based on the LIBOR Rate, then in the former event, any obligation of Bank to make available such unlawful LIBOR options shall immediately be cancelled, and in the latter event, any such unlawful LIBOR-based interest rates then outstanding shall be converted, at Bank’s option, so that interest on the portion of the outstanding principal balance subject thereto is determined in relation to the Prime Rate; provided however, that if any such Change in Law shall permit any LIBOR-based interest rates to remain in effect until the expiration of the LIBOR Rate Term applicable thereto, then such permitted LIBOR-based interest rates shall continue in effect until the expiration of such LIBOR Rate Term. Upon the occurrence of any of the foregoing events, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any fines, fees, charges, penalties or other costs incurred or payable by Bank as a result thereof and which are attributable to any LIBOR options made available to Borrower hereunder, and any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(c)If any Change in Law or compliance by Bank with any request or directive (whether or not having the force of law) from any central bank or other governmental authority shall:

(i)subject Bank to any tax, duty or other charge with respect to any LIBOR options, or change the basis of taxation of payments to Bank of principal, interest, fees or any other amount payable hereunder (except for changes in the rate of tax on the overall net income of Bank); or

(ii)impose, modify or hold applicable any reserve, special deposit, compulsory loan or similar requirement against assets held by, deposits or other liabilities in or for the account of advances or loans by, or any other acquisition of funds by any office of Bank; or

(iii)impose on Bank any other condition; and the result of any of the foregoing is to increase the cost to Bank of making, renewing or maintaining any LIBOR options hereunder and/or to reduce any amount receivable by Bank in connection therewith, then in any such case, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any additional costs incurred by Bank and/or reductions in amounts received by Bank which are attributable to such LIBOR options. In determining which costs incurred by Bank and/or reductions in amounts received by Bank are attributable to any LIBOR options made available to Borrower hereunder, any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(d)Bank will have no obligation to accept an election of Borrower for the LIBOR option if any of the following described events has occurred and is continuing:

(i)Dollar deposits in the principal amount, and for periods equal to the LIBOR Rate Term, of any Revolving Loan which bears interest in relation to the LIBOR Rate are not available in the Designated LIBOR Market; or

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(ii)   an Event of Default has occurred and is continuing; or

(iii)  the LIBOR Rate does not accurately reflect the cost of any Revolving Loan which bears interest in relation to the LIBOR Rate.

4.Default Interest. During the continuance of an Event of Default, the outstanding principal balance of this Note shall bear interest until paid in full at an increased rate per annum (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) equal to two percent (2.00%) above the rate of interest from time to time applicable to this Note (the “Default Rate”).

C.BORROWING AND REPAYMENT:

1.Loan and Repayment. Borrower may from time to time during the term of this Note borrow, partially or wholly repay its outstanding borrowings, and re-borrow, subject to all of the limitations, terms and conditions of this Note and of any document executed in connection with or governing this Note, including the Amended and Restated Credit Agreement; provided however, that the total outstanding borrowings under this Note shall not at any time exceed the principal amount stated above. The unpaid principal balance of this obligation at any time shall be the total amounts advanced hereunder by the holder hereof less the amount of principal payments made hereon by or for Borrower, which balance may be endorsed hereon from time to time by the holder.  The outstanding principal balance of this Note shall be due and payable in full on the “Maturity Date” (as defined in the Amended and Restated Credit Agreement).

2.Advances. Advances hereunder, to the total amount of the principal sum stated above, may be made by the holder at the oral or written request of (a) Thomas C. Tekulve or Richard Shields, any one acting alone, who are authorized to request advances and direct the disposition of any advances until written notice of the revocation of such authority is received by the holder at the office designated above, or (b) any person, with respect to advances deposited to the credit of any account of Borrower with the holder, which advances, when so deposited, shall be conclusively presumed to have been made to or for the benefit of Borrower regardless of the fact that persons other than those authorized to request advances may have authority to draw against such account. The holder shall have no obligation to determine whether any person requesting an advance is or has been authorized by Borrower.

3.Application of Payments. Each payment made on this Note shall be credited first, to any interest then due and second, to the outstanding principal balance hereof. Unless instructed otherwise by Borrower, all payments credited to principal shall be applied first, to the outstanding principal balance of this Note which bears interest determined in relation to the Prime Rate, if any, and second, to the outstanding principal balance of this Note which bears interest determined in relation to the LIBOR Rate, with such payments applied to the oldest LIBOR Rate Term first.

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4.Prepayment.

(a)Prime Rate. Borrower may prepay principal on any portion of this Note which bears interest determined in relation to the Prime Rate at any time, in any amount and without penalty.

(b)LIBOR. Each prepayment of a LIBOR Rate Portion shall be not less than $250,000 and shall be in an integral multiple of $100,000, and Bank shall have received notice of each such prepayment on the date that is five (5) Business Days before the date of such prepayment (which notice shall identify the date and amount of the prepayment).  Each prepayment of a LIBOR Rate Portion, whether voluntary, by reason of acceleration or otherwise, will be accompanied by the amount of accrued interest on the amount prepaid, and a prepayment fee as described below. A “prepayment” is a payment on a date earlier than the last day of the applicable LIBOR Rate Term. The prepayment fee shall be equal to the amount (if any) by which:

(i)the additional interest which would have been payable during the applicable LIBOR Rate Term on the amount prepaid had it not been prepaid, exceeds

(ii)the interest which would have been recoverable by Bank by placing the amount prepaid on deposit in the domestic certificate of deposit market, the eurodollar deposit market, or other appropriate money market selected by Bank for a period starting on the date on which it was prepaid and ending on the last day of the applicable LIBOR Rate Term.

Borrower acknowledges that prepayment of such amount may result in Bank incurring additional costs, expenses and/or liabilities, and that it is difficult to ascertain the full extent of such costs, expenses and/or liabilities. Borrower, therefore, agrees to pay the above-described prepayment fee and agrees that said amount represents a reasonable estimate of the prepayment costs, expenses and/or liabilities of Bank. If Borrower fails to pay any prepayment fee when due, the amount of such prepayment fee shall thereafter bear interest until paid at a rate per annum two percent (2.00%)above the Prime Rate in effect from time to time (computed on the basis of a 360-day year, actual days elapsed).

D.EVENTS OF DEFAULT:

This Note is made pursuant to and is subject to the terms and conditions of the Amended and Restated Credit Agreement.  Any default in the payment or performance of any obligation under this Note, or any defined event of default under the Amended and Restated Credit Agreement, shall constitute an “Event of Default” under this Note.

E.MISCELLANEOUS:

1.Remedies.  Upon the occurrence of any Event of Default, the holder of this Note, at the holder’s option, without notice upon the occurrence of an Event of Default pursuant to Section 7.01(g) of the Amended and Restated Credit Agreement, and with notice upon the occurrence of any other Event of Default, may declare all sums of principal and interest outstanding hereunder to be immediately due and payable without presentment, demand, protest

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or notice of dishonor, all of which are expressly waived by Borrower, and the obligation, if any, of the holder to extend any further credit hereunder shall immediately cease and terminate. Borrower shall pay to the holder immediately upon demand the full amount of all payments, advances, charges, costs and expenses, including reasonable attorneys’ fees (to include outside counsel fees and all allocated costs of the holder’s in-house counsel), incurred by the holder in connection with the enforcement of the holder’s rights and/or the collection of any amounts which become due to the holder under this Note, and the prosecution or defense of any action in any way related to this Note, including without limitation, any action for declaratory relief, and including any of the foregoing incurred in connection with any bankruptcy proceeding relating to Borrower.

2.Obligations Joint and Several. Should more than one person or entity sign this Note as a Borrower, the obligations of each such Borrower shall be joint and several.

3.Governing Law. This Note shall be governed by and construed in accordance with the laws of the State of California, except to the extent Bank has greater rights or remedies under Federal law, whether as a national bank or otherwise, in which case such choice of California law shall not be deemed to deprive Bank of any such rights and remedies as may be available under Federal law.

“Borrower”

SOUTHWEST WATER COMPANY,

a Delaware corporation

By:

Name:

Title:

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EX-10.6

Exhibit 10.6

AMENDED AND RESTATED CREDIT AGREEMENT
between
SOUTHWEST WATER COMPANY
and
UNION BANK OF CALIFORNIA, N.A.
July 7, 2004

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TABLE OF CONTENTS

ARTICLE I DEFINITIONS
SECTION 1.01.			Defined Terms
SECTION 1.02.			Other Definitional Provisions
ARTICLE II THE CREDIT
SECTION 2.01.			The Revolving Loans
	(a)	The Revolving Commitment
	(b)	Making the Revolving Loans
	(c)	Reduction of the Revolving Commitment
	(d)	Revolving Note
	(e)	Standby Letters of Credit.
SECTION 2.02.			The Term Loan
	(a)	Term Loan Advance
	(b)	Term Note
SECTION 2.03.			Mandatory Repayment
SECTION 2.04.			Interest Computation and Payment; Fee Computation
SECTION 2.05.			Unused commitment fee
SECTION 2.06.			Annual Credit Facility Fee
SECTION 2.07.			Front End Fee
ARTICLE III GENERAL PROVISIONS CONCERNING THE LOANS
SECTION 3.01.			Use of Proceeds
SECTION 3.02.			Payment on Non-Business Days
SECTION 3.03.			Reduced Return
SECTION 3.04.			Indemnities
SECTION 3.05.			Funding Sources
ARTICLE IV CONDITIONS OF LENDING
SECTION 4.01.			Conditions Precedent to Initial Revolving Loan
SECTION 4.02.			Conditions Precedent to the Term Advance
SECTION 4.03.			Conditions Precedent to Each Revolving Loan
ARTICLE V REPRESENTATIONS AND WARRANTIES
SECTION 5.01.			Representations and Warranties
	(a)	Organization
	(b)	Authorization; No Conflict
	(c)	Governmental Consents
	(d)	Validity
	(e)	Financial Condition
	(f)	Litigation
	(g)	Employee Benefit Plans
	(h)	Disclosure
	(i)	Environmental Matters
	(j)	Employee Matters

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	(k)	Solvency
	(l)	Title to Properties
	(m)	Tax Returns
	(n)	Compliance with Other Agreements and Applicable Laws
	(o)	No Default
	(p)	Regulation U; Investment Company Act
	(q)	Intangible Assets
ARTICLE VI COVENANTS
SECTION 6.01.			Affirmative Covenants
	(a)	Financial Information
	(b)	Notices and Information
	(c)	Corporate Existence, Etc.
	(d)	Payment of Taxes and Claims
	(e)	Maintenance of Properties; Insurance
	(f)	Inspection
	(g)	Compliance with Laws Etc.
	(h)	Hazardous Waste Studies
	(i)	Equity Offering
SECTION 6.02.			Negative Covenants
	(a)	Consolidated Tangible Net Worth
	(b)	Consolidated Net Profit
	(c)	EBITDA Coverage Ratio
	(d)	Liens Etc.
	(e)	Debt
	(f)	Consolidation, Merger or Dissolution
	(g)	Loans, Investments, Acquisitions, Secondary Liabilities
	(h)	Asset Sales
	(i)	Hostile Tender Offers
	(j)	Distributions
	(k)	Transactions with Affiliates
	(l)	Books and Records
	(m)	Restructure
ARTICLE VII EVENTS OF DEFAULT
SECTION 7.01.			Events of Default
ARTICLE VIII MISCELLANEOUS
SECTION 8.01.			Amendments, Etc.
SECTION 8.02.			Notices, Etc.
SECTION 8.03.			Right of Setoff:  Security Interest in Deposit Accounts
SECTION 8.04.			No Waiver; Remedies
SECTION 8.05.			Costs and Expenses
SECTION 8.06.			Participations
SECTION 8.07.			Effectiveness: Binding Effect
SECTION 8.08.			Governing Law
SECTION 8.09.			Dispute Resolution

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SECTION 8.10.	Waiver of Notices
SECTION 8.11.	Entire Agreement
SECTION 8.12.	Severability of Provisions
SECTION 8.13.	Execution in Counterparts
SECTION 8.14.	Further Assurances

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Schedules

Exhibits

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AMENDED AND RESTATED CREDIT AGREEMENT

This Amended and Restated Credit Agreement dated as of July 7, 2004 is entered into between SOUTHWEST WATER COMPANY, a Delaware corporation (the “Borrower”), and UNION BANK OF CALIFORNIA, N.A., a national banking association (the “Bank”), with reference to the following facts:

RECITALS

A.The Borrower and the Bank are parties to the Credit Agreement dated as of June 6, 2003, as amended (collectively, the “Old Credit Agreement”).

B.The Borrower and the Bank wish to amend, restate, replace and supercede the Old Credit Agreement on the terms and conditions set forth herein.

NOW THEREFORE, in consideration of the premises and of the mutual covenants and agreements contained herein, the parties hereto agree as follows:

ARTICLE I
DEFINITIONS

SECTION 1.01.Defined Terms .  As used in this Agreement, the following terms have the following meanings:

“Acquisition”: Any transaction, or any series of related transactions, by which the Borrower and/or any of its Subsidiaries directly or indirectly (a) acquires the ongoing business or all or substantially all of the assets of any firm, partnership, joint venture, limited liability company, corporation or division thereof, (b) acquires in one transaction or as the most recent transaction in a series of transactions control of securities of a Person engaged in an ongoing business representing more than 50% of the ordinary voting power for the election of directors or other governing position if the business affairs of such Person are managed by a board of directors or other governing body or (c) acquires control of more than 50% of the ownership interest in any partnership, joint venture, limited liability company, business trust or other Person that is not managed by a board of directors or other governing body.

“Agreement”:  This Amended and Restated Credit Agreement, as amended, supplemented or modified from time to time.

“Aqua”: Aqua Services LP, a Texas limited partnership.

“Bank”:  As set forth in the introductory paragraph of this Agreement.

“Bank of America”:  Bank of America, N.A., a national banking association.

“BofA Loan Documents”:  That certain Amended and Restated Credit Agreement dated as of July 7, 2004, between Bank of America and Borrower, and each agreement, document, instrument and guarantee required by Bank of America in connection with such

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Amended and Restated Credit Agreement and/or the credit extended thereunder, in each case as amended, supplemented or modified from time to time.

“Borrower”:  As set forth in the introductory paragraph of this Agreement.

“Business Day”:  Has the meaning set forth in the Revolving Note.

“Capistrano Letter of Credit”: The standby letter of credit issued by Bank of America, N.A., for the account of the Borrower in the face amount of $3,430,000 for the benefit of Capistrano Valley Water District.

“Capital Leases”:  As applied to any Person, any lease of any property (whether real, personal or mixed) by that Person as lessee which would, in accordance with GAAP, be required to be accounted for as a capital lease on the balance sheet of that Person.

“CDC”: CDC Maintenance, Inc., a Texas corporation.

“Change of Control”:  Shall be deemed to have occurred at such times as:  (a) a “person” or “group” (within the meaning of Sections 13(d) and 14(d)(2) of the Securities Act of 1934), becomes the “beneficial owner” (as defined in Rule 13d-3 under the Securities Exchange Act of 1934), directly or indirectly, of more than thirty percent (30%) of the total voting power of all classes of stock then outstanding of the Borrower normally entitled to vote in the election of directors; or (b) the Borrower shall fail to own directly one hundred percent (100%) of the issued and outstanding common stock or other equity interest of Aqua, Suburban, SWUC, NMUI, ECO, MTI or, following the Tecon Acquisition, Tecon, or shall lose voting control of Aqua’s, Suburban’s, SWUC’s, NMUI’s, ECO’s, MTI’s or, following the Tecon Acquisition, Tecon’s issued and outstanding common stock or other equity interest; or (c) the Borrower shall fail to own directly 50.1% of the issued and outstanding common stock or other equity interest of Metro or OpTech or shall lose voting control of 50.1% of the issued and outstanding common stock or other equity interest of Metro or OpTech; or (d) the Borrower shall fail to own directly 67% of the issued and outstanding common stock of WRI or shall lose voting control of 67% of the issued and outstanding common stock of WRI; or (e) ECO shall fail to own directly one hundred percent (100%) of the issued and outstanding common stock of CDC or shall lose voting control of CDC’s issued and outstanding common stock; or (f) SWUC shall fail to own directly one hundred percent (100%) of the issued and outstanding common stock of Hornsby or shall lose voting control of Hornsby’s issued and outstanding common stock; or (g) SWUC shall fail to own directly 80% of the issued and outstanding common stock of Windermere or shall lose voting control of 80% of the issued and outstanding common stock of Windermere.  A change of control shall not include a transfer of NMUI’s operating assets through a condemnation or sale in lieu of condemnation.

“Closing Date”:  The Business Day on which the conditions set forth in Section 4.01 are satisfied or waived.

“Collateral Agent”:  The Bank acting in its capacity as collateral agent under the Pledge Agreement and its successors in such capacity.

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“Commitment”:  The Bank’s obligation to make Revolving Loans and the Term Loan to the Borrower pursuant to Article II in the amounts referred to therein.

“Consolidated EBITDA”:  For any period of the Borrower and its Subsidiaries on a consolidated basis, Consolidated Net Profit for such period, plus interest expense (net of capitalized interest expense) and provision for income taxes for such period, plus depreciation and amortization for such period, plus the non-cash expense of the Borrower and its Subsidiaries recognized during such period for any stock options granted by the Borrower and its Subsidiaries permitted hereunder.

“Consolidated Net Profit”:  In respect of any period of the Borrower and its Subsidiaries, the consolidated net profit after taxes of the Borrower and its Subsidiaries as such would appear on the consolidated statement of earnings of the Borrower and its Subsidiaries prepared in accordance with GAAP, consistently applied, minus nonrecurring or extraordinary income.

“Consolidated Tangible Net Worth”:  At any date of determination, the sum of the capital stock and additional paid-in capital plus retained earnings (or minus accumulated deficit) of the Borrower and its consolidated Subsidiaries plus the outstanding principal amount of the Convertible Debentures minus (i) treasury stock, (ii) intangible assets (including, without limitation, franchises, patents, patent applications, trademarks, brand names, goodwill, purchased contracts, deferred charges (including unamortized debt discount and expense and organization costs) and research and development expenses, provided, however that water rights shall not be considered an intangible asset) and (iii) receivables, advances, loans and all other amounts due from employees, officers, shareholders and/or affiliates (excluding those Subsidiaries of which the Borrower owns at least 80% of the outstanding equity), on a consolidated basis determined in conformity with GAAP.

“Convertible Debentures”:  The Borrower’s 6.85% Convertible Subordinate Debentures due 2021.

“Debt”:  As applied to any Person, (i) all indebtedness for borrowed money, (ii) that portion of obligations with respect to Capital Leases which is properly classified as a liability on a balance sheet in conformity with GAAP, (iii) notes payable and drafts accepted representing extensions of credit whether or not representing obligations for borrowed money, (iv) any obligation owed for all or any part of the deferred purchase price of property or services which purchase price is (y) due more than six months from the date of incurrence of the obligation in respect thereof, or (z) evidenced by a note or similar written instrument; (v) all indebtedness secured by any Lien on any property or asset owned or held by that Person regardless of whether the indebtedness secured thereby shall have been assumed by that Person or is non-recourse to the credit of that person; (vi) reimbursement obligations under letters of credit; and (vii) other contingent liabilities.

“Default Rate”:  As defined in the Revolving Note.

“Distribution”:  With respect to any Person shall mean that such Person has paid any dividend or returned any capital to its stockholders or equity holders as such or authorized or

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made any other distribution, payment or delivery of property or cash to its stockholders or equity holders as such, or redeemed, retired, purchased, or otherwise acquired, directly or indirectly, for consideration, any shares of any class of its capital stock or equity interests (or any options, warrants or rights issued by such Person with respect to its capital stock or equity interests), or set aside any funds for any of the foregoing purposes, or shall have permitted any of its Subsidiaries to purchase or otherwise acquire for a consideration any shares of any class of the capital stock or any equity interests of such Person (or any options, warrants or rights issued by such Person with respect to its capital stock or equity interests). Without limiting the foregoing, “Distributions” with respect to any Person shall also include all payments made or required to be made by such Person with respect to any stock appreciation rights plans, equity incentive or the setting aside of any funds for the foregoing purposes.

“Dividend Reinvestment Plan”:  Borrower’s Dividend Reinvestment and Stock Purchase Plan dated September 26, 2001.

“Dollars and $”:  Dollars in lawful currency of the United States of America.

“EBITDA Coverage Ratio”: For any period of the Borrower and its Subsidiaries on a consolidated basis, Consolidated EBITDA divided by the sum of the total interest expense plus current portion of long-term Debtplus current portion of advances for construction plus cash Distributions.

“ECO”:  ECO Resources, Inc., a Texas corporation.

“Employee Benefit Plan”:  Any Pension Plan, any employee welfare benefit plan, or any other employee benefit plan which is described in Section 3(3) of ERISA and which is maintained for employees of the Borrower or any ERISA Affiliate of the Borrower.

“Employee Stock Purchase Plan”:  Borrower’s Amended and Restated Employee Stock Purchase Plan dated May 28, 1998.

“ERISA”:  The Employee Retirement Income Security Act of 1974, as amended to the date hereof and from time to time hereafter.

“ERISA Affiliate”:  As applied to any Person, any trade or business (whether or not incorporated) which is a member of a group of which that Person is a member and which is under common control within the meaning of Section 414(b) and (c) of the Internal Revenue Code.

“Event of Default”: As defined in Section 7.01.

“GAAP”:  Generally accepted accounting principles set forth in the opinions and pronouncements of the Accounting Principles Board of the American Institute of Certified Public Accountants and statements and pronouncements of the Financial Accounting Standards Board or in such other statements by such other entity as may be approved by a significant segment of the accounting profession or any public commission having regulatory responsibility over the Borrower or any Subsidiary.

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“Hornsby”:  Hornsby Bend Utility Company, a Texas corporation.

“Intercreditor Agreement”:  That certain Intercreditor Agreement to be entered into by and among the Bank, Bank of America and the Collateral Agent, as amended, supplemented or modified from time to time.

“Internal Revenue Code”:  The Internal Revenue Code of 1986, as amended to the date hereof and from time to time hereafter and any successor statute.

“Lien”:  Any lien, mortgage, deed of trust, pledge, security interest, charge or encumbrance of any kind (including any conditional sale or other title retention agreement, any lease in the nature thereof, and any agreement to give any security interest).

“Loan Documents”:  This Agreement, the Revolving Note, the Term Note, the Pledge Agreement, the Intercreditor Agreement, each alternative dispute resolution agreement entered into by Borrower and Bank in connection with this Agreement, and each other agreement, document, instrument and guarantee required by the Bank in connection with this Agreement and/or the credit extended hereunder.

“Loans”:  Collectively, the Revolving Loans and the Term Loan.

“Maturity Date”:  September 30, 2006.

“Metro”: Metro-H20 Utilities, Limited., a Texas limited partnership.

“MTI”:  Master Tek International, Inc., a Colorado corporation.

“Multiemployer Plan”:  A “multiemployer plan” as defined in Section 4001(a)(3) of ERISA which is maintained for employees of the Borrower or any ERISA Affiliate of the Borrower.

“Net Cash Proceeds” means the cash proceeds received by the Borrower or any of its Subsidiaries from the issuance of any capital stock or Debt securities of the Borrower or any of its Subsidiaries after the date hereof net of (i) underwriting discounts and commissions, professional fees and disbursements in each case not paid to an affiliate of the Borrower or a Subsidiary of the Borrower and (ii) that portion of the cash proceeds of any new Debt securities issued by a Subsidiary of the Borrower which are used to refinance existing Debt of such Subsidiary (other than any such proceeds received by the Borrower in connection with the Employee Stock Purchase Plan or the Dividend Reinvestment Plan).

“NMUI”: New Mexico Utilities, Inc., a New Mexico corporation.

“OpTech”: Operations Technologies, Inc., a Georgia corporation.

“Pension Plan”: any employee plan which is subject to Section 412 of the Internal Revenue Code and which is maintained for employees of the Borrower or any ERISA Affiliate of the Borrower, other than a Multiemployer Plan.

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“Permitted Acquisition”:  An Acquisition by the Borrower or any of its Subsidiaries of all or substantially all of the assets of, or 80% or more of the capital stock or other equity interests of, a Person (the “Acquired Person”) engaged in the same line of business as the Borrower or such Subsidiary, provided that (a) if such Acquisition is of all of the capital stock or other equity interests of the Acquired Person, such Acquired Person is merged with and into the Borrower or such Subsidiary substantially simultaneously with the Borrower’s or such Subsidiary’s acquisition of such capital stock or other equity interests or becomes a wholly-owned Subsidiary, (b) no Potential Event of Default or Event of Default shall have occurred or be continuing or would result after giving effect to such Permitted Acquisition, and (c) the Acquisition shall have been consummated in compliance with all applicable laws.

“Person”:  An individual, partnership, corporation, limited liability company, business trust, joint stock company, trust, unincorporated association, joint venture, governmental authority or other entity of whatever nature.

“Pledge Agreement” That certain Pledge and Collateral Agency Agreement to be entered into by and among the Borrower, the Bank, Bank of America and the Collateral Agent, as amended, supplemented or modified from time to time.

“Potential Event of Default”:  A condition or event which, after notice or lapse of time or both, would constitute an Event of Default if that condition or event were not cured or removed within any applicable grace or cure period.

“Reference Rate”:  The variable per annum rate of interest most recently announced by the Bank at its corporate headquarters as the “Union Bank of California, N.A. Reference Rate,” with the understanding that the “Union Bank of California, N.A. Reference Rate” is one of the Bank’s index rates and merely serves as a basis upon which effective rates of interest are calculated for loans making reference thereto and may not be the lowest or best rate at which the Bank calculates interest or extends credit.  Any change in the Reference Rate announced by the Bank shall take effect at the opening of business on the day specified in the announcement of such change.

“Regulations T, U and X”:  Regulations T, U and X, respectively, promulgated by the Board of Governors of the Federal Reserve System, as amended from time to time, and any successors thereto.

“Revolving Commitment”: The amount of $20,000,000, as such amount may be reduced pursuant to Section 2.01(c).

“Revolving Loans”:  As defined in Section 2.01(a).

“Revolving Note”:  As defined in Section 2.01(d).

“S.E.C.”:  The United States Securities and Exchange Commission and any successor institution or body which performs the functions or substantially all of the functions thereof.

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“Solvent”:  When used with respect to any Person, that as of the date as to which the Person’s solvency is to be measured:

(i)the fair saleable value of its assets is in excess of the total amount of its liabilities (including contingent liabilities) as they become absolute and matured;

(ii)it has sufficient capital to conduct its business; and

(iii)it is able to meet its debts as they mature.

“Subsidiary”:  Any corporation, limited liability company or partnership (whether or not, in any case, characterized as such or as a “joint venture”): (i) in the case of a corporation or limited liability company, of which a majority of the securities having ordinary voting power for the election of directors or other governing body (other than securities having such power only by reason of the happening of a contingency) are at the time owned directly, or indirectly through one or more intermediaries, or both, by the Borrower, or (ii) in the case of a partnership or limited liability company, of which a majority of the partnership or limited liability company or other ownership interest are at the time owned directly, or indirectly through one or more intermediaries, or both, by the Borrower.

“Suburban”:  Suburban Water Systems, a California corporation.

“SWUC”: SW Utility Company, a Texas corporation.

“Tecon”: Collectively, Tecon Water Companies, Inc., a Texas corporation, and Tenkiller Utility Company, an Oklahoma corporation.

“Tecon Acquisition”: The acquisition by the Borrower of all of the issued and outstanding capital stock of Tecon.

“Term Loan”: as defined in Section 2.02.

“Termination Event”:  (i) a “Reportable Event” described in Section 4043 of ERISA and the regulations issued thereunder (other than a “Reportable Event” not subject to the provision for 30-day notice to the Pension Benefit Guaranty Corporation under such regulations) with respect to any Pension Plan, or (ii) the withdrawal of the Borrower or any of its ERISA Affiliates from a Pension Plan during a plan year in which it was a “substantial employer” as defined in Section 4001(a)(2) of ERISA, or (iii) the filing of a notice of intent to terminate a Pension Plan or the treatment of a Pension Plan amendment as a termination under Section 4041 of ERISA, or (iv) the institution of proceedings to terminate a Pension Plan by the Pension Benefit Guaranty Corporation under Section 4042 of ERISA, or (v) any other event or condition which might constitute grounds under ERISA for the termination of, or the appointment of a trustee to administer, any Pension Plan under Section 4042 of ERISA, or (vi) the imposition of a lien with respect to any Pension Plan pursuant to Section 412(n) of the Internal Revenue Code.

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“Unfunded Term Commitment”: $15,000,000; provided that the Unfunded Term Commitment will be reduced to $0 upon the earlier of (a) December 31, 2004 and (b) such time as the Bank makes the Term Loan.

“Windermere”: Windermere Utility Co., Inc., a Texas corporation.

“WRI”: Wastewater Rehabilitation, Inc., a Texas corporation.

SECTION 1.02.Other Definitional Provisions.

(a)All terms defined in this Agreement shall have the defined meanings when used in the Revolving Note or any certificate or other document made or delivered pursuant hereto.

(b)As used herein and in the Revolving Note, and any certificate or other document made or delivered pursuant hereto, accounting terms not defined in Section 1.01, and accounting terms partly defined in Section 1.01 to the extent not defined, shall have the respective meanings given to them under GAAP.

(c)The words “hereof”, “herein” and “hereunder” and words of similar import when used in this Agreement shall refer to this Agreement as a whole and not to any particular provision of this Agreement, and section, subsection, schedule and exhibit references are to this Agreement unless otherwise specified.

(d)So long as the Borrower does not have any Subsidiaries, references to a Subsidiary or Subsidiaries in this Agreement shall be deemed to be deleted.

ARTICLE II
THE CREDIT

SECTION 2.01.The Revolving Loans.

(a)The Revolving Commitment.  The Bank agrees, on the terms and conditions hereinafter set forth, to make loans (“Revolving Loans”) to the Borrower from time to time during the period from the date hereof to and including the Maturity Date in an aggregate amount not to exceed the Revolving Commitment, as such amount may be reduced pursuant to Section 2.01(c).  Within the limits of the Revolving Commitment and prior to the Maturity Date, the Borrower may borrow, repay, and reborrow subject to the terms of this Agreement and the Revolving Note.

(b)Making the Revolving Loans .  The Borrower may borrow under the Revolving Commitment on any Business Day, provided that the Borrower shall give the Bank notice pursuant to the terms of the Revolving Note specifying (i) the amount of the proposed Revolving Loan and (ii) the requested date of the Revolving Loan.  Upon satisfaction of the applicable conditions set forth in Article IV, the proceeds of all such Revolving Loans will then be made available to the Borrower by the Bank by crediting the account of the Borrower on the books of the Bank, or as otherwise directed by the Borrower.

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(c)Reduction of the Revolving Commitment.  The Borrower shall have the right, upon at least two Business Days’ notice to the Bank, to terminate in whole or reduce in part the unused portion of the Revolving Commitment, without premium or penalty, provided that each partial reduction shall be in the aggregate amount of $100,000 or an integral multiple thereof and that such reduction shall not reduce the Revolving Commitment to an amount less than the amount outstanding hereunder on the effective date of the reduction.  Such notice shall be irrevocable and such reduction shall not be reinstated.

(d)Revolving Note.  The Revolving Loans made by the Bank pursuant hereto shall be evidenced by a promissory note of the Borrower, substantially in the form of Exhibit A, with any appropriate insertions (as amended from time to time, the “Revolving Note”), payable to the order of the Bank and representing the obligation of the Borrower to pay the aggregate unpaid principal amount of all Revolving Loans made by the Bank, with interest thereon as prescribed in Section 2.04. The Bank is hereby authorized to record in its books and records and on any schedule annexed to the Revolving Note, the date and amount of each Revolving Loan made by the Bank, the date and amount of each payment of principal thereof, and the applicable interest rate, and any such recordation shall constitute prima facie evidence of the accuracy of the information so recorded; provided that failure by the Bank to effect such recordation shall not affect the Borrower’s obligations hereunder.  Prior to the transfer of the Revolving Note, the Bank shall record such information on any schedule annexed to and forming a part of the Revolving Note.

(e)Standby Letters of Credit.  The Revolving Commitment may be used for financing standby letters of credit with a maximum maturity of 365 days but not to extend more than 365 days beyond the Maturity Date. The standby letters of credit may include a provision providing that the maturity date will be automatically extended each year for an additional year unless the Bank gives written notice to the contrary. The amount of standby letters of credit outstanding at any one time (including amounts drawn on letters of credit and not yet reimbursed) may not exceed Three Million Dollars($3,000,000). Each standby letter of credit must be requested by the Borrower at least three (3) Business Days prior to the proposed date of issuance of such standby letter of credit, and any such request may be submitted by telecopy, rapidfax or other telecommunication method (other than telephonic or oral advice).  The Borrower agrees:

(i)to pay the Bank an amount equal to any payment made by the Bank with respect to each letter of credit within one (1) Business Day after demand made by the Bank therefor, together with interest on such amount from the date of any payment made by the Bank at the rate applicable to advances bearing interest with reference to the Reference Rate for the period commencing on the date of any such payment and continuing through the first Business Day following such demand and thereafter at the Default Rate.  The Borrower also agrees that any sum drawn under a letter of credit may, without further action of the Bank, upon the Borrower’s failure to make the payment referred to in the preceding sentence, be added to the principal amount outstanding under the

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Revolving Commitment. The amount will bear interest and be due as described elsewhere in this Agreement.

(ii)if there is an Event of Default under this Agreement, to immediately prepay and make the Bank whole for any outstanding letters of credit.

(iii)the issuance of any letter of credit and any amendment to a letter of credit is subject to the Bank’s written approval and must be in form and content satisfactory to the Bank and in favor of a beneficiary acceptable to the Bank.

(iv)to sign the Bank’s form application and agreement for standby letters of credit with respect to each letter of credit, which must be submitted to the Bank concurrently with the Borrower’s request for any standby letter of credit.

(v)to pay any issuance and/or other fees that the Bank notifies the Borrower will be charged for issuing and processing letters of credit for the Borrower.

(vi)to allow the Bank to automatically charge its checking account for applicable fees, discounts, and other charges.

(vii)to pay the Bank a non-refundable fee equal to 1.25% per annum of the outstanding undrawn amount of each standby letter of credit, provided that the minimum amount per annum of such fee with respect to each standby letter of credit shall be $500.  This fee shall be calculated in advance as of the first day of each calendar quarter on the basis of such amount in effect on the day the fee is calculated, and is payable on the 14^th day after each such date of calculation. If there is a default under this Agreement, at the Bank’s option, the amount of the fee shall be increased to 3.25% per annum, effective starting on the day the Bank provides notice of the increase to the Borrower.

SECTION 2.02.The Term Loan.

(a)Term Loan Advance.  At the request of the Borrower, the Bank will make a single non-revolving advance in an amount up to $15,000,000 on or before December 31, 2004 (the “Term Loan”).  The Term Loan must be drawn in a single advance.  Any amounts not drawn during the initial Term Loan advance may not be borrowed, and any amounts repaid may not be reborrowed.

(b)Term Note.  The Term Loan made by the Bank pursuant hereto shall be evidenced by a promissory note of the Borrower, substantially in the form of Exhibit B, with any appropriate insertions (as amended from time to time, the “Term Note”), payable to the order of the Bank and representing the obligation of the Borrower to pay the aggregate unpaid principal amount of the Term Loan made by the Bank, with interest thereon as prescribed in Section 2.04.

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SECTION 2.03.Mandatory Repayment.  The aggregate principal amount of the Revolving Loans outstanding on the Maturity Date, together with accrued interest thereon, shall be due and payable in full on the Maturity Date.  On or before September 30, 2005, the Borrower shall make a payment that will reduce the outstanding principal balance of the Term Loan to no more than $10,000,000; provided, however, if the outstanding principal balance of the Term Loan on September 30, 2005 is equal to or less than $10,000,000, whether as a result of a payment or payments pursuant to Section 6.01(i) or otherwise, then no principal payment on the Term Loan shall be required.  The remaining principal balance of the Term Loan, together with accrued and unpaid interest thereon, shall be due and payable in full on September 30, 2006.  If at any time the aggregate outstanding Revolving Loans exceed the Revolving Commitment then in effect, the Borrower shall immediately repay the excess to the Bank without penalty or premium.

SECTION 2.04.Interest Computation and Payment; Fee Computation.  The outstanding principal balance of the Revolving Loans shall bear interest as set forth in the Revolving Note. The outstanding principal balance of the Term Loan shall bear interest as set forth in the Term Note.   Interest on all Loans shall be computed on the basis of a 360-day year, actual days elapsed.  Interest shall be payable at the times and place set forth in the Revolving Note and the Term Note.  All fees under this Agreement shall be computed on the basis of a 360-day year, actual days elapsed.

SECTION 2.05.Unused commitment fee.  The Borrower agrees to pay a fee calculated at 0.25% per year times the sum of (a) any difference between (i) the Revolving Commitment and (ii) the amount of Revolving Loans it actually borrows, determined by the weighted average credit outstanding during the specified period and (b) the Unfunded Term Commitment. The calculation of credit outstanding shall include the Revolving Loans and the undrawn amount of outstanding letters of credit. This fee shall be calculated in arrears as of the end of each calendar quarter, and is payable on the 15^th day of the calendar month beginning immediately after each calendar quarter end.  Each such fee shall be fully earned when paid and shall be non-refundable.

SECTION 2.06.Annual Credit Facility Fee.  The Borrower agrees to pay, on the Closing Date and on each September 30 (commencing with September 30, 2005), an annual credit facility fee in the amount of $                   .  Each such fee shall be fully earned when paid and shall be non-refundable.

SECTION 2.07.Front End Fee.  The Borrower agrees to pay, on the Closing Date a front end fee in the amount of $                        .  The Bank acknowledges and agrees that it received $                 in connection with its issuance of a commitment letter to the Borrower and will credit such amount toward payment of the front end fee on the Closing Date. The front end fee shall be fully earned when paid and shall be non-refundable.

ARTICLE III
GENERAL PROVISIONS CONCERNING THE LOANS

SECTION 3.01.Use of Proceeds.  The proceeds of Revolving Loans hereunder shall be used by the Borrower (i) for general corporate purposes, working capital and

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acquisitions permitted hereunder of the Borrower and those Subsidiaries of the Borrower as to which the Borrower owns at least 80% of the outstanding equity, and (ii) to finance capital additions to the water utility and other operations of the Borrower and those Subsidiaries of the Borrower as to which the Borrower owns at least 80% of the outstanding equity. The Proceeds of the Term Loan shall be used for the Tecon Acquisition.

SECTION 3.02.Payment on Non-Business Days.  Whenever any payment to be made hereunder or under the Revolving Note shall be stated to be due on a day which is not a Business Day, such payment may be made on the next succeeding Business Day, and with respect to payments of principal, interest thereon shall be payable at the then applicable rate during such extension.

SECTION 3.03.Reduced Return.  If the Bank shall have determined that any applicable law, regulation, rule or regulatory requirement generally applicable to banks located in California and (collectively in this Section 3.03, “Requirement”) regarding capital adequacy, or any change therein, or any change in the interpretation or administration thereof by any United States federal or state governmental authority, central bank or comparable agency charged with the interpretation or administration thereof, or compliance by the Bank with any request or directive regarding capital adequacy (whether or not having the force of law) of any such authority, central bank or comparable agency, has or would have the effect of reducing the rate of return on the Bank’s capital as a consequence of its Commitment and obligations hereunder to a level below that which would have been achieved but for such Requirement, change or compliance (taking into consideration the Bank’s policies with respect to capital adequacy) by an amount deemed by the Bank to be material (which amount shall be determined by the Bank’s reasonable allocation of the aggregate of such reductions resulting from such events), then from time to time, within five (5) Business Days after demand by the Bank, the Borrower shall pay to the Bank such additional amount or amounts as will compensate the Bank for such reduction.  The Bank does not presently have knowledge of any new Requirement or any pending change in any existing Requirement which would result in such additional amounts being owed.

SECTION 3.04.Indemnities.  The Borrower agrees to indemnify, pay and hold the Bank, and the shareholders, officers, directors, employees and agents of the Bank (“Indemnified Persons”), harmless from and against any and all claims, liabilities, losses, damages, costs and expenses (whether or not any of the foregoing Indemnified Persons is a party to any litigation), including, without limitation, reasonable attorneys’ fees and costs (including, without limitation, the reasonable estimate of the allocated cost of in-house legal counsel and staff) and costs of investigation, document production, attendance at a deposition, or other discovery, prior to the assumption of defense by the Borrower, with respect to or arising out of any proposed acquisition by the Borrower or any of its Subsidiaries of any Person or any securities (including a self-tender), this Agreement or any use of proceeds hereunder, or any claim, demand, action or cause of action being asserted against the Borrower or any of its Subsidiaries (collectively, the “Indemnified Liabilities”), provided that the Borrower shall have no obligation hereunder with respect to Indemnified Liabilities arising from the gross negligence or willful misconduct of any such Indemnified Persons. If any claim is made, or any action, suit or proceeding is brought, against any Indemnified Person with respect to Indemnified Liabilities, the Indemnified Person shall notify the Borrower within thirty (30) days of the Bank being notified in writing of any such claim or the commencement of such action, suit or proceeding, and the Borrower will

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assume the defense of such action, suit or proceeding, employing counsel selected by Borrower’s insurance carrier, or selected by the Borrower and reasonably satisfactory to the Indemnified Person, and pay the fees and expenses of such counsel. This covenant shall survive termination of this Agreement and payment of the amounts outstanding under the Revolving Note for a period of six (6) years.

SECTION 3.05.Funding Sources.  Nothing in this Agreement shall be deemed to obligate the Bank to obtain the funds for any Revolving Loan in any particular place or manner or to constitute a representation by the Bank that it has obtained or will obtain the funds for any Revolving Loan in any particular place or manner.

ARTICLE IV
CONDITIONS OF LENDING

SECTION 4.01.Conditions Precedent to Initial Revolving Loan.  The obligation of the Bank to make its initial Revolving Loan is subject to the conditions precedent that:

(a)The Bank shall have received on or before the day of the initial Revolving  Loan the following, each dated prior to or as of such day, in form and substance satisfactory to the Bank:

(i)The Revolving Note issued by the Borrower to the order of the Bank;

(ii)Copies of the Certificate of Incorporation of the Borrower, certified as of a recent date by the Secretary of State of Delaware;

(iii)Copies of the Bylaws, if any, of the Borrower, certified by the Secretary or an Assistant Secretary of the Borrower;

(iv)Copies of resolutions of the Board of Directors or other authorizing documents of the Borrower, in form and substance satisfactory to the Bank, approving the Loan Documents and the Loans hereunder;

(v)An incumbency certificate executed by the Secretary or an Assistant Secretary of the Borrower or equivalent document, certifying the names and signatures of the officers of the Borrower or other Persons authorized to sign the Loan Documents and the other documents to be delivered hereunder;

(vi)Executed copies of all other Loan Documents;

(vii)Opinion from Latham & Watkins LLP, on behalf of the Borrower, substantially in the form of Exhibit D hereto; and

(viii)Executed copies of the amended BofA Loan Documents.

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(b)The Bank shall have completed its due diligence review of the Borrower, and the scope and results thereof shall be satisfactory to the Bank in its discretion;

(c)All information previously furnished by the Borrower to the Bank shall be true and correct in all material respects;

(d)All fees and expenses required to be paid on the Closing Date shall have been paid or arrangements satisfactory to the Bank shall have been made with respect to the payment thereof;

(e)The Borrower shall be in compliance with the Loan Documents, and after giving effect to the initial Revolving Loan, no Potential Event of Default or Event of Default shall have occurred and be continuing;

(f)The representations and warranties of the Borrower contained in Article V shall be true and correct in all respects;

(g)The Bank shall have received evidence of the insurance policies required by Section 6.01(e);

(h)All corporate and legal proceedings and all instruments and documents in connection with the transactions contemplated by this Agreement shall be reasonably satisfactory in content, form and substance to the Bank and its counsel, and the Bank and such counsel shall have received any and all further information and documents which the Bank or such counsel may reasonably have requested in connection therewith, such documents where appropriate to be certified by proper corporate or governmental authorities;

(i)Nothing shall have occurred and the Bank shall not have become aware of any fact or condition not previously known, which the Bank shall determine has, or could reasonably be expected to have, a material adverse effect on the rights or remedies of the Bank, or on the ability of the Borrower to perform its obligations to the Bank or which has, or could reasonably be expected to have, a materially adverse effect on the performance, business, property, assets, condition (financial or otherwise) or prospects of the Borrower and its Subsidiaries taken as a whole;

SECTION 4.02.Conditions Precedent to the Term Advance. The obligation of the Bank to make the Term Loan is subject to the satisfaction on or before December 31, 2004 of each of the following conditions:

(a)All of the conditions set forth in Section 4.01 shall have been satisfied.

(b)The Bank shall have received on or before the day of the Term Loan the following, each dated prior to or as of such day, in form and substance satisfactory to the Bank:

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(i)The Term Note issued by the Borrower to the order of the Bank;

(ii)A copy of the executed purchase and sale documents relating to the Tecon Acquisition;

(iii)The Pledge Agreement set forth as Exhibit C, duly executed by the Borrower, together with delivery to the Collateral Agent of the stock certificates evidencing the shares of Tecon’s capital stock pledged thereunder, duly endorsed in blank;

(iv)The Intercreditor Agreement, duly executed by the Bank, Bank of America, and the Collateral Agent, and duly acknowledged by the Borrower; and

(v)An executed opinion from Akin, Gump, Strauss, Hauer & Feld, LLP, on behalf of the Borrower, in form and substance reasonably satisfactory to the Collateral Agent, to counsel to the Bank, and to counsel to Bank of America.

SECTION 4.03.Conditions Precedent to Each Revolving Loan.  The obligation of the Bank to make a Revolving Loan on the occasion of each Revolving Loan (including the initial Revolving Loan) shall be subject to the further conditions precedent that on the date of such Revolving Loan (a) the following statements shall be true and the Bank shall have received the notice required by Section 2.01(b), which notice shall be deemed to be a certification by the Borrower that:

(i)The representations and warranties contained in Section 5.01 are correct in all material respects on and as of the date of such Revolving Loan as though made on and as of such date,

(ii)No event has occurred and is continuing, or would result from such Revolving Loan, which constitutes an Event of Default or Potential Event of Default; and

(iii)Nothing shall have occurred and the Bank shall not have become aware of any fact or condition not previously known, which the Bank shall determine has, or could reasonably be expected to have, a material adverse effect on the rights or remedies of the Bank, or on the ability of the Borrower to perform its obligations to the Bank or which has, or could reasonably be expected to have, a material adverse effect on the performance, business, property, assets, condition (financial or otherwise) or prospects of the Borrower and its Subsidiaries taken as a whole; and

(iv)All Loan Documents are in full force and effect,

and (b) the Bank shall have received such other approvals, opinions or documents as the Bank may reasonably request.

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ARTICLE V
REPRESENTATIONS AND WARRANTIES

SECTION 5.01.Representations and Warranties.  The Borrower represents and warrants as follows:

(a)Organization.  The Borrower and each of its Subsidiaries is duly organized, validly existing and in good standing under the laws of the state of its organization. The Borrower and each of its Subsidiaries is also duly authorized, qualified and licensed in all applicable jurisdictions, and under all applicable laws, regulations, ordinances or orders of public authorities, to carry on its business in the locations and in the manner presently conducted, except to the extent that the failure to be so authorized, qualified or licensed would not have a material adverse effect on the Borrower’s business, and the Borrower and each of its Subsidiaries has all requisite power and authority to conduct its business and to own and lease its properties.  Schedule 5.01(a) attached hereto correctly sets forth the names, form of legal entity, number of shares of capital stock or membership or other equity interests, as applicable, issued and outstanding, number of shares of capital stock or membership or other equity interests, as applicable, owned by the Borrower or any of its Subsidiaries (specifying such owner) and jurisdictions of organization of all Subsidiaries of the Borrower.  Except as set forth on Schedule 5.01(a), there are no outstanding options, warrants or other rights to purchase any capital stock, membership interests or units of other equity interest of any Subsidiary other than in favor of the Borrower, and all shares, membership interests or other equity interests issued by the Subsidiaries arefree and clear of all liens, except for liens permitted under Section 6.02(d).

(b)Authorization; No Conflict.  The execution, delivery and performance by the Borrower of the Loan Documents, and the borrowing of Revolving Loans hereunder, are within the Borrower’s corporate powers, have been duly authorized by all necessary corporate action, do not contravene (i) the Borrower’s charter, by-laws or other organizational document or (ii) any law or regulation (including, without limitation, Regulations T, U and X and regulations of public utility commissions or similar regulatory authorities) binding on or affecting the Borrower or its properties, and will not constitute an event of default under any material agreement to which the Borrower is a party or by which its assets or properties may be bound.

(c)Governmental Consents.  No authorization or approval or other action by, and no notice to or filing with, any governmental authority or regulatory body (except routine reports required pursuant to the Securities Exchange Act of 1934, as amended (if such act is applicable to the Borrower), which reports will be made in the ordinary course of business) is required for the due execution, delivery and performance by the Borrower of the Loan Documents.

(d)Validity.  The Loan Documents are the binding obligations of the Borrower or other executing Person, if any, enforceable in accordance with their respective terms; except in each case as such enforceability may be limited by

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bankruptcy, insolvency, reorganization, liquidation, moratorium or other similar laws of general application and equitable principles relating to or affecting creditors’ rights.

(e)Financial Condition.  The balance sheets of the Borrower and its consolidated Subsidiaries as at December 31, 2003, and the related consolidated statements of income and changes in common stockholders’ equity of the Borrower and its consolidated Subsidiaries for the fiscal twelve months then ended, copies of which have been furnished to the Bank, fairly present in all material respects the financial condition of the Borrower and its consolidated Subsidiaries as at such dates and the results of the operations of the Borrower and its consolidated Subsidiaries for the period ended on such date, all in accordance with GAAP, consistently applied, and since December 31, 2003 there has been no material adverse change in the business, operations, properties, assets or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole.

(f)Litigation.  Except as set forth in the Form 10-K dated December 31, 2003, and on Schedule 5.01(f) hereto, there is no known pending or threatened action or proceeding affecting the Borrower or any of its Subsidiaries before any court, governmental agency or arbitrator, which may materially adversely affect the consolidated financial condition or operations of the Borrower or which may have a material adverse effect on the Borrower’s ability to perform its obligations under the Loan Documents, having regard for its other financial obligations.

(g)Employee Benefit Plans.  The Borrower and each of its ERISA Affiliates is in compliance in all material respects with any applicable provisions of ERISA and the regulations and published interpretations thereunder with respect to all Employee Benefit Plans.  No Termination Event has occurred with respect to any Pension Plan.  The excess of the actuarial present value of all benefit liabilities under all Pension Plans (excluding in such computation Pension Plans with assets greater than benefit liabilities) over the fair market value of the assets allocable to such benefit liabilities are not greater than five percent (5%) of Consolidated Tangible Net Worth.  For purposes of the preceding sentence, the term “benefit liabilities” shall have the meaning specified in Section 4001 of ERISA.

(h)Disclosure.  No representation or warranty of the Borrower contained in this Agreement or any other document, certificate or written statement furnished to the Bank by or on behalf of the Borrower for use in connection with the transactions contemplated by this Agreement contains any known untrue statement of a material fact or omits to state a known material fact (known to the Borrower in the case of any document not furnished by it) necessary in order to make the statements contained herein or therein not misleading when taken as a whole. There is no fact known to the Borrower (other than matters of a general economic nature) which materially adversely affects the business, operations, property, assets or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole, which has not been disclosed herein or in such other documents, certificates and statements furnished to the Bank for use in connection with the transactions contemplated hereby.

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(i)Environmental Matters.  Except as set forth in Schedule 5.01(i) hereto, neither the Borrower nor any Subsidiary, nor any of their respective officers, employees, representatives or agents, nor, to the best of their knowledge, any other person, has treated, stored, processed, discharged, spilled, or otherwise disposed of any substance defined as hazardous or toxic by any applicable federal, state or local law, rule, regulation, order or directive, or any waste or by-product thereof, at any real property or any other facility owned, leased or used by the Borrower or any Subsidiary, in violation of any applicable statutes, regulations, ordinances or directives of any governmental authority or court, which violations may result in liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $500,000 for all such violations; and the unresolved violations set forth in said Schedule 5.01(i) will not result in liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $500,000 for all such unresolved violations. Except as set forth in said Schedule, no employee or other person has made a claim or demand against the Borrower or any Subsidiary based on alleged damage to health caused by any such hazardous or toxic substance or by any waste or by-product thereof; and the unsatisfied claims or demands against the Borrower or any Subsidiary set forth in said Schedule 5.01(i) will not result in uninsured liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $250,000 in excess of reserves on the books of the Borrower for all such unsatisfied claims or demands. Except as set forth in said Schedule 5.01(i), neither the Borrower nor any Subsidiary has been charged by any governmental authority with improperly using, handling, storing, discharging or disposing of any such hazardous or toxic substance or waste or by-product thereof or with causing or permitting any pollution of any body of water; and the outstanding related charges set forth in said Schedule 5.01(i) will not result in liability to the Borrower or any Subsidiary or any of their respective officers, employees, representatives, agents or shareholders in an amount exceeding $500,000 for all such outstanding charges.

(j)Employee Matters.  There is no known strike or work stoppage in existence or threatened involving the Borrower or its Subsidiaries that may materially adversely affect the consolidated financial condition or operations of the Borrower or that may have a material adverse effect on the Borrower’s ability to perform its obligations under the Loan Documents, having regard for its other financial obligations.

(k)Solvency.  The Borrower and each of its Subsidiaries is Solvent.

(l)Title to Properties.  The Borrower and each of its Subsidiaries has good and marketable title to or interests in all of its properties and assets subject to no liens, mortgages, pledges, security interests, encumbrances or charges of any kind, except those granted to the Bank and such others as are permitted under Section 6.02(d) hereof.

(m)Tax Returns.  The Borrower and each of its Subsidiaries has filed, or caused to be filed, in a timely manner all tax returns, reports and declarations which are required to be filed by it (without requests for extension (other than automatic

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extensions provided by law) except as previously disclosed in writing to the Bank).  All information in such tax returns, reports and declarations is complete and accurate in all material respects.  The Borrower and each of its Subsidiaries has paid or caused to be paid all taxes due and payable or claimed due and payable in any assessment received by it, except taxes the validity of which are being contested in good faith by appropriate proceedings diligently pursued and available to the Borrower or its Subsidiaries and with respect to which adequate reserves have been set aside on its books.  Adequate provision has been made for the payment of all accrued and unpaid Federal, State, county, local, foreign and other taxes whether or not yet due and payable and whether or not disputed.

(n)Compliance with Other Agreements and Applicable Laws.  Neither the Borrower nor any of its Subsidiaries is in default in any material respect under, or in violation in any material respect of any of the terms of, any agreement, contract, instrument, lease or other commitment (including, but not limited to any such agreement involving the debts or investments of the Borrower or liens upon its assets) to which it is a party or by which it or any of its assets are bound and the Borrower and each of its Subsidiaries is in compliance in all material respects with all applicable provisions of laws, rules, regulations, licenses, permits, approvals and orders of any foreign, Federal, State or local governmental authority.

(o)No Default.  No event has occurred and is continuing that is a Potential Event of Default or an Event of Default.

(p)Regulation U; Investment Company Act.  No part of the proceeds of any Revolving Loan hereunder will be used to purchase or carry, or to extend credit to others for the purpose of purchasing or carrying, any “margin stock” (as defined in Regulation U) in violation of Regulation U.  The Borrower is not required to be registered as an “investment company” under the Investment Company Act of 1940.

(q)Intangible Assets.  The Borrower owns, or possesses the right to use to the extent necessary in its business, all trademarks, trade names, copyrights, patents, patent rights, computer software, licenses and other intangible assets that are used in the conduct of its business as now operated, and no such intangible asset, to the Borrower’s actual knowledge, conflicts with the valid trademark, trade name, copyright, patent, patent right or intangible asset of any other Person.

ARTICLE VI
COVENANTS

SECTION 6.01.Affirmative Covenants.  So long as any Loan shall remain unpaid or the Bank shall have any Commitment hereunder, the Borrower will, unless the Bank shall otherwise consent in writing:

(a)Financial Information.  Furnish to the Bank:

(i)as soon as available, but in any event within 120 days after the end of each fiscal year of the Borrower, (1) a copy of the Borrower’s annual report to shareholders containing the audited consolidated balance sheets of itself

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and its consolidated Subsidiaries as at the end of each fiscal year and the related consolidated statements of income and changes in common stockholders’ equity (or comparable statement) employed in the business and changes in financial position and cash flow for such year, in each case prepared in accordance with GAAP, setting forth in each case in comparative form the figures for the previous year, accompanied by an unqualified report and opinion thereon of independent certified public accountants acceptable to the Bank and, if prepared, such accountants’ letter to management, and (2) a copy of the Borrower-prepared consolidating balance sheets and statements of income prepared in connection with each of the statements provided in subpart (1) above; and

(ii)as soon as available, but in any event within forty-five (45) days after the end of each fiscal quarter other than the fourth fiscal quarter of any fiscal year, the Borrower’s unaudited consolidated and consolidating balance sheets of itself and its consolidated Subsidiaries as at the end of such period and the related unaudited consolidated and consolidating statements of income and the related unaudited consolidated statement of changes in common stockholders’ equity (or comparable statement) and changes in financial position and cash flow for such period and year to date, setting forth in each case in comparative form the figures as at the end of the previous fiscal year as to the balance sheet and the figures for the previous corresponding period as to the other statements, certified by a duly authorized officer of the Borrower as being fairly stated in all material respects subject to year end adjustments; all such financial statements to be complete and correct in all material respects and to be prepared in reasonable detail acceptable to the Bank and in accordance with GAAP applied consistently throughout the periods reflected therein (except as approved by such accountants and disclosed therein and except for the exclusion of certain information and footnote disclosures omitted pursuant to the rules and regulations of the S.E.C.); and

(iii)as soon as available, copies of all reports which the Borrower sends to any of its security holders, and copies of all reports and registration statements which the Borrower or any Subsidiary files with the S.E.C. or any national securities exchange; and

(iv)(a) together with each delivery of financial statements of the Borrower and its Subsidiaries pursuant to subdivision (i) above, a certificate, executed by the Borrower’s chairman of the board (if an officer) or its president or one of its vice presidents or by its chief financial officer stating that the signers have reviewed the terms of this Agreement and have made, or caused to be made under their supervision, a review in reasonable detail of the transactions and condition of the Borrower and its Subsidiaries during the accounting period covered by such financial statements and that such review has not disclosed the existence during or at the end of such accounting period, and that the signers do not have knowledge of the existence as at the date of such certificate, of any condition or event that constitutes an Event of Default or Potential Event of Default, or, if any such condition or event existed or exists, specifying the nature

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and period of existence thereof and what action the Borrower has taken, is taking and proposes to take with respect thereto; and (b) together with each delivery of financial statements of the Borrower and its Subsidiaries pursuant to subdivision (i) and (ii) above, a certificate demonstrating in reasonable detail compliance during and at the end of the applicable accounting periods with the restrictions contained in Section 6.02 hereof.

(b)Notices and Information.  Deliver to the Bank:

(i)promptly upon any officer of the Borrower obtaining knowledge (a) of any condition or event which constitutes an Event of Default or Potential Event of Default, (b) that any Person has given any notice to the Borrower or any Subsidiary of the Borrower or taken any other action with respect to a claimed default or event or condition of the type referred to in Section 7.01(e) or Section 7.01(f), (c) of the institution of any litigation involving an alleged liability (including possible forfeiture of property) of the Borrower or any of its Subsidiaries equal to or greater than $500,000 which is not, except for deductibles and self insurance reserves, fully covered by insurance maintained by the Borrower or any adverse determination in any litigation involving a potential liability of the Borrower or any of its Subsidiaries equal to or greater than $500,000 which is not, except for deductibles and self insurance reserves, fully covered by insurance maintained by the Borrower or (d) of a material adverse change in the business, operations, properties, assets or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole, an officers’ certificate specifying the nature and period of existence of any such condition or event, or specifying the notice given or action taken by such holder or Person and the nature of such claimed default, Event of Default, Potential Event of Default, event or condition, and what action the Borrower has taken, is taking and proposes to take with respect thereto;

(ii)promptly upon becoming aware of the occurrence of any (a) Termination Event, or (b) non-exempt “prohibited transaction”, as such term is defined in Section 4975 of the Internal Revenue Code or a transaction prohibited by Section 406 of ERISA, in connection with any Employee Benefit Plan or any trust created thereunder, a written notice specifying the nature thereof, what action the Borrower has taken, is taking or proposes to take with respect thereto, and, when known, any action taken or threatened by the Internal Revenue Service, the Department of Labor, or the Pension Benefit Guaranty Corporation with respect thereto;

(iii)with reasonable promptness copies of (a) all notices received by the Borrower or any of its ERISA Affiliates of the Pension Benefit Guaranty Corporation’s intent to terminate any Pension Plan or to have a trustee appointed to administer any Pension Plan and (b) all notices received by the Borrower or any of its ERISA Affiliates from a Multiemployer Plan sponsor concerning the imposition or amount of withdrawal liability pursuant to Section 4202 of ERISA;

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(iv)promptly, and in any event within 10 days after the effective date thereof, a copy of all amendments to any of the loan documents governing any of the debt permitted by Section 6.02(e)(iv) (including, without limitation, the BofA Loan Documents);

(v)promptly, and in any event within 30 days after receipt thereof, a copy of any notice, summons, citation, directive, letter or other form of communication from any governmental authority or court in any way concerning any action or omission on the part of the Borrower or any of its Subsidiaries in connection with any substance defined as toxic or hazardous by any applicable federal, state or local law, rule, regulation, order or directive or any waste or byproduct thereof, or concerning the filing of a lien upon, against or in connection with the Borrower, its Subsidiaries, or any of their leased or owned real or personal property, in connection with a Hazardous Substance Superfund or a Post-Closure Liability Fund as maintained pursuant to § 9507 of the Internal Revenue Code; and

(vi)promptly, and in any event within 30 days after request, such other information and data with respect to the Borrower or any of its Subsidiaries as from time to time may be reasonably requested by the Bank and is reasonably available to the Borrower.

(c)Corporate Existence, Etc.  At all times preserve and keep in full force and effect its and its Subsidiaries’ corporate existence and rights, licenses and franchises material to its business and those of each of its Subsidiaries; provided, however, that the corporate existence of any such Subsidiary may be terminated if such termination is in the best interest of the Borrower and does not result in a Change of Control.

(d)Payment of Taxes and Claims.  Pay, and cause each of its Subsidiaries to pay, all taxes, assessments and other governmental charges imposed upon it or any of its properties or assets or in respect of any of its franchises, business, income or property before any penalty which would exceed the Penalty Cap (as defined below) or interest accrues thereon, and all claims (including, without limitation, claims for labor, services, materials and supplies) for sums which have become due and payable and which by law have or may become a lien upon any of its properties or assets, prior to the time when any penalty or fine shall be incurred with respect thereto; provided that no such charge or claim need be paid if being contested in good faith by appropriate proceedings promptly instituted and diligently conducted and if such reserve or other appropriate provision, if any, as shall be required in conformity with GAAP shall have been made therefor.  As used herein, the term “Penalty Cap” means an amount equal to $10,000 in the aggregate for the Borrower and its Subsidiaries for each calendar year.

(e)Maintenance of Properties; Insurance.  Maintain or cause to be maintained in good repair, working order and condition (ordinary wear and tear excepted) all material properties used or useful in the business of the Borrower and its Subsidiaries and from time to time will make or cause to be made all appropriate repairs, renewals and

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replacements thereof. The Borrower will maintain or cause to be maintained, with financially sound and reputable insurers, insurance with respect to its properties and business and the properties and business of its Subsidiaries against loss or damage of the kinds customarily insured against by corporations of established reputation engaged in the same or similar businesses and similarly situated, of such types and in such amounts as are customarily carried under similar circumstances by such other corporations.  The Borrower will comply with any other insurance requirement set forth in any other Loan Document.

(f)Inspection.  Permit any authorized representatives designated by the Bank to visit and inspect any of the properties of the Borrower or any of its Subsidiaries, including its and their financial and accounting records, and to make copies and take extracts therefrom, and to discuss its and their affairs, finances and accounts with its and their officers and independent public accountants, all at such reasonable times during normal business hours and as often as may be reasonably requested.

(g)Compliance with Laws Etc.  Exercise, and cause each of its Subsidiaries to exercise, all due diligence in order to comply with the requirements of all applicable laws, rules, regulations and orders of any governmental authority, including, without limitation, all rules and regulations of public utility commissions or similar regulatory authorities, and all environmental laws, rules, regulations and orders, noncompliance with which would materially adversely affect the business, properties, assets, operations or condition (financial or otherwise) of the Borrower and its Subsidiaries, taken as a whole.

(h)Hazardous Waste Studies.  Promptly, and in any event within thirty (30) days after submission, provide the Bank with copies of all such investigations, studies, samplings and testings as may be requested by any governmental or regulatory authority relative to any substance defined as hazardous or toxic by any applicable federal, state or local law, rule, regulation, order or directive, or any waste or by-product thereof, at or affecting any real property or any facility owned, leased or used by the Borrower or any Subsidiary.  The foregoing shall not include sampling and testing of water, waste water and effluent conducted by the Subsidiaries of the Borrower on periodic bases as a normal part of their water delivery and wastewater treatment businesses.

(i)Securities Offerings.  While the Term Loan is outstanding, the Borrower shall use 50% of any Net Cash Proceeds to repay the Term Loan and 50% of any Net Cash Proceeds to repay the Additional Revolving Loans (as defined in the BofA Loan Documents) made to the Borrower by Bank of America under the BofA Loan Documents.

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SECTION 6.02.Negative Covenants.  So long as any Revolving Loan shall remain unpaid or the Bank shall have any Commitment hereunder, the Borrower will not, without the written consent of the Bank:

(a)Consolidated Tangible Net Worth.  At any time, permit Consolidated Tangible Net Worth to be less than the sum of (i) $70,000,000 plus (ii) fifty percent (50%) of the cash proceeds received by the Borrower or any of its Subsidiaries from the issuance of any capital stock of the Borrower or any of its Subsidiaries after the date hereof (net of underwriting discounts and commissions, professional fees and disbursements in each case not paid to an affiliate of the Borrower or a Subsidiary of the Borrower) other than any such proceeds received by the Borrower in connection with the Employee Stock Purchase Plan or the Dividend Reinvestment Plan.

(b)Consolidated Net Profit.  At the end of any fiscal quarter of the Borrower, permit Consolidated Net Profit, determined on a four quarter rolling basis, to be less than $1.00.

(c)EBITDA Coverage Ratio.  At the end of any fiscal quarter of the Borrower, permit the EBITDA Coverage Ratio, determined on a four quarter rolling basis, to be less than 1.50:1.00.

(d)Liens Etc.  Create or suffer to exist, or permit any of its Subsidiaries to create or suffer to exist, any Lien upon or with respect to any of its properties, whether now owned or hereafter acquired, or assign, or permit any of its Subsidiaries to assign, any right to receive income, in each case to secure any Debt of any Person other than (i) Liens in favor of the Bank; (ii) Liens on the capital stock of Tecon in favor of Bank of America, N.A, under the BofA Loan Documents; (iii) following the closing of the Tecon Acquisition, Liens on the assets of Tecon in existence on the closing date of the Tecon Acquisition which secure the bond indebtedness of Tecon referred to in, and permitted under, clause (ii) of Section 6.02(e) below; (iv) Liens existing on the date hereof and set forth in Schedule 6.02(d) hereto; (v) purchase money Liens upon or in any equipment acquired or held by the Borrower or any Subsidiary in the ordinary course of business with respect to principal indebtedness up to a maximum of $2,000,000 to secure the purchase price of such equipment or to secure indebtedness incurred solely for the purpose of financing the acquisition of such equipment; (vi) Liens existing on property acquired by the Borrower or any Subsidiary, and all refundings and extensions of any such Liens; (vii) Liens, deposits and/or pledges made to secure the performance of operating leases; provided that the principal amount of Debt secured by any such Lien permitted hereunder shall not exceed an amount equal to (x) one hundred percent (100%) of the cost of the real property subject to such lien or security interest or (y) one hundred percent (100%) of the cost of the personal property subject to such lien or security interest, and further provided that none of such liens or security interests shall extend to other assets of the Borrower or its Subsidiaries; (viii) Liens for taxes, assessments or other governmental charges which are not delinquent; and (ix) materialmen’s, mechanics’ or other similar liens arising in the ordinary course of business the underlying claim with respect to which is not delinquent or is being contested in good faith.

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(e)Debt.  Create, incur, assume or permit to exist, or permit any Subsidiary to create, incur, assume or permit to exist, any indebtedness or liabilities resulting from borrowings, loans or advances, whether matured or unmatured, liquidated or unliquidated, joint or several, secured or unsecured, except for (i) Debt incurred pursuant to the Convertible Debentures in a principal amount not to exceed $18,000,000 outstanding at any time, (ii) following the closing of the Tecon Acquisition, the secured bond indebtedness of Tecon which as of the closing of the Tecon Acquisition shall be in an aggregate outstanding principal balance not exceeding $14,674,649.36 and which when repaid may not be reborrowed, (iii) secured indebtedness for purchase money financing of equipment which is permitted under Section 6.02(d)(iv) in a principal amount not to exceed an aggregate of $2,000,000 outstanding at any time, (iv) other secured Debt identified on Schedule 6.02(e) not to exceed the applicable amount indicated on such schedule, (v) the Term Loan, (vi) the Additional Revolving Loan (as defined in the BofA Loan Documents), (vii) unsecured senior funded bank debt in a principal amount not to exceed $40,000,000 outstanding at any time in the aggregate for the Borrower and its Subsidiaries (including, without limitation, unsecured senior funded bank debt incurred pursuant to the Loan Documents and the BofA Loan Documents, and excluding the undrawn face amount of the Capistrano Letter of Credit); provided that the only unsecured senior funded debt of the Subsidiaries which may be outstanding shall be (i) unsecured bank indebtedness of NMUI in an aggregate principal amount not to exceed at any one time $4,000,000 and (ii) other unsecured senior funded debt in a principal amount not to exceed $500,000 outstanding at any time in the aggregate for all Subsidiaries,and (vi) intercompany Debt between the Borrower and its majority-owned Subsidiaries.

(f)Consolidation, Merger or Dissolution.  (i) Consolidate with or merge into any other Person, or permit any Subsidiary to consolidate with or merge into any other Person, unless the Borrower or the applicable Subsidiary is the surviving entity and no event has occurred and is continuing, or would result from such consolidation or merger, which constitutes an Event of Default or Potential Event of Default, (ii) wind up, liquidate or dissolve (provided, however, that the corporate existence of any Subsidiary may be terminated if such termination is in the best interest of the Borrower and does not result in a Change of Control) or (iii) agree to do any of the foregoing or permit any Subsidiary to agree to do any of the foregoing.

(g)Loans, Investments, Acquisitions, Secondary Liabilities.  Make or permit to remain outstanding, or permit any Subsidiary to make or permit to remain outstanding, any loan or advance to, or guarantee, induce or otherwise become contingently liable, directly or indirectly, in connection with the obligations, stock or dividends of, or own, purchase or acquire any stock, obligations or securities of or any other interest in, or make any capital contribution to, any other Person, or make any Acquisition or enter into any agreement to make any Acquisition, except that the Borrower and its Subsidiaries may:

(i)own, purchase or acquire certificates of deposit issued by a bank, commercial paper rated Moody’s P-1, municipal bonds rated Moody’s AA or better, direct obligations of the United States of America or its agencies,

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obligations guaranteed by the United States of America, and “money market preferred stock” issued by a corporation incorporated under the laws of the United States of America or any state thereof given on the date of such investment a credit rating of at least Moody’s Aa (and having an investment period not exceeding 50 days);

(ii)make Permitted Acquisitions (including the Tecon Acquisition), provided that the aggregate consideration paid or payable by the Borrower and its Subsidiaries in connection with all Permitted Acquisitions consummated in any fiscal year of the Borrower shall not exceed $5,000,000 (excluding the cost of the Tecon Acquisition), provided further that such limit on consideration shall be increased to $10,000,000 (excluding the cost of the Tecon Acquisition) with respect to each fiscal year of the Borrower if all Permitted Acquisitions are made by the Borrower in such fiscal year and all purchase price payments to be made by the Borrower in connection with such Permitted Acquisitions are payable only in stock of the Borrower;

(iii)continue to own the existing capital stock of the Borrower’s Subsidiaries;

(iv)endorse negotiable instruments for deposit or collection or similar transactions in the ordinary course of business;

(v)allow the Borrower’s Subsidiaries to make or permit to remain outstanding advances from the Borrower’s Subsidiaries to the Borrower;

(vi)make or permit to remain outstanding loans or advances to those Subsidiaries of the Borrower as to which the Borrower owns at least 80% of the outstanding equity;

(vii)with respect to the Borrower only, enter into or permit to remain outstanding (a) a guaranty of the unsecured bank indebtedness of NMUI in an amount  not to exceed at any one time $4,000,000 for principal, plus all interest thereon and all costs and expenses pertaining to the enforcement of the guaranty and/or the collection of such indebtedness, (b) a guaranty of the senior secured bank indebtedness provided by Bank of the West to Windermere in an amount not to exceed at any one time $10,000,000 for principal, plus all interest thereon and all costs and expenses pertaining to the enforcement of the guaranty and/or the collection of such indebtedness, (c) guaranties of the obligations of ECO under that certain Service Contract for the Design, Construction, Financing and Operation of the San Juan Basin Desalter Project dated as of September 3, 2002 between the Capistrano Valley Water District and ECO and associated project agreements;and

(viii)make or permit to remain outstanding loans and advances to any of its officers, shareholders or affiliates or enter into or permit to remain outstanding guarantees in connection with the obligations of its officers,

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shareholders or affiliates, in an aggregate amount for all such loans, advances and guarantees not exceeding $100,000 in addition to the loans outstanding and reflected on the Borrower’s financial statements dated March 31, 2004.

(h)Asset Sales.  Convey, sell, lease, transfer or otherwise dispose of, or permit any Subsidiary to convey, sell, lease, transfer or otherwise dispose of, in one transaction or a series of transactions, all or any part of its or its Subsidiary’s business, property or fixed assets outside the ordinary course of business, whether now owned or hereafter acquired, except that the Borrower and its Subsidiaries may convey, sell, lease, transfer or otherwise dispose of business, property or fixed assets for consideration which in the aggregate does not exceed $1,000,000 per year.  The foregoing covenant shall not extend to any property taken by eminent domain by any governmental authority or other person or entity having the power of eminent domain or to any sale in lieu of condemnation to a governmental authority or other person or entity having the power of eminent domain made after threat of condemnation by such governmental authority or other person or entity.

(i)Hostile Tender Offers.  Make any offer to purchase or acquire, or consummate a purchase or acquisition of, five percent (5%) or more of the capital stock of any publicly held corporation or other publicly held business entity, unless the board of directors of such corporation or business entity has notified the Borrower that it invites or does not oppose such offer or purchase.

(j)Distributions.  Upon the occurrence and during the continuance of an Event of Default, authorize, declare or pay, or permit any of its Subsidiaries to authorize, declare or pay, any Distributions other than Distributions to the Borrower made by a Subsidiary of the Borrower.

(k)Transactions with Affiliates.  Neither the Borrower nor any of its Subsidiaries shall enter into any transaction for the purchase, sale or exchange of property or the rendering of any service to or by any affiliate, except in the ordinary course of and pursuant to the reasonable requirements of the Borrower’s or its Subsidiary’s business and upon fair and reasonable terms no less favorable to the Borrower or its Subsidiary than the Borrower or its Subsidiary would obtain in a comparable arm’s length transaction with an unaffiliated person.

(l)Books and Records.  The Borrower will, and will cause each of its Subsidiaries to, keep proper books of record and account in which full, true and correct entries in conformity with GAAP and all requirements of applicable law shall be made of all dealings and transactions in relation to its business and activities.

(m)Restructure.  Make any change in the principal nature of the Borrower’s and its Subsidiaries’ business operations (taken as a whole) or the date of its fiscal year.

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ARTICLE VII
EVENTS OF DEFAULT

SECTION 7.01.Events of Default.  If any of the following events (“Events of Default”) shall occur and be continuing:

(a)The Borrower shall fail to pay within three (3) days of the date when due, any principal, interest, fees or other amounts payable under any of the Loan Documents; or

(b)Any representation or warranty made by the Borrower herein or by the Borrower (or any of its officers)  in connection with the Loan Documents shall prove to have been incorrect in any material respect when made; or

(c)The Borrower shall fail to perform or observe any term, any affirmative or negative covenant, including, but not limited to, those covenants set forth in Sections 6.01 and 6.02 hereof, or any other agreement contained in this Agreement on its part to be performed or observed (other than those referred to in subsections (a) and (b) above); and with respect to any such default which by its nature can be cured, such default shall continue for a period of twenty (20) days from its occurrence; or

(d)The Borrower or any of its Subsidiaries shall default in the performance of or compliance with any term contained in any Loan Document other than this Agreement and such default shall not have been remedied or waived within any applicable grace period in such Loan Document or in (c) above; or

(e)The Borrower shall default in the performance of or compliance with any term contained in any BofA Loan Document, and such default shall continue after the applicable grace period, if any, specified in the applicable BofA Loan Document; or

(f)to the extent not already addressed in this Section 7.01, the Borrower or any of its Subsidiaries shall (a) fail to pay any principal of, or premium or interest on, any Debt the aggregate outstanding principal amount of which is at least $500,000 (excluding Debt evidenced by the Revolving Note or the Term Note), when due (whether by scheduled maturity, required prepayment, acceleration, demand or otherwise) and such failure shall continue after the applicable grace period, if any, specified in the agreement or instrument relating to such Debt, or (b) fail to perform or observe any term, covenant or condition on its part to be performed or observed under any agreement or instrument relating to any such Debt or material to the performance, business, property, assets, condition (financial or otherwise) or prospects of the Borrower and its Subsidiaries taken as a whole, when required to be performed or observed, and such failure shall continue after the applicable grace period, if any, specified in such agreement or instrument; or

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(g)(i) The Borrower or any of its Subsidiaries shall commence any case, proceeding or other action (a) under any existing or future law of any jurisdiction, domestic or foreign, relating to bankruptcy, insolvency, reorganization or relief of debtors, seeking to have an order for relief entered with respect to it, or seeking to adjudicate it a bankrupt or insolvent, or seeking reorganization, arrangement, adjustment, winding-up, liquidation, dissolution, composition or other relief with respect to it or its debts, or (b) seeking appointment of a receiver, trustee, custodian or other similar official for it or for all or any substantial part of its assets, or the Borrower or any of its Subsidiaries shall make a general assignment for the benefit of its creditors; or (ii) there shall be commenced against the Borrower or any of its Subsidiaries any case, proceeding or other action of a nature referred to in clause (i) above which (a) results in the entry of an order for relief or any such adjudication or appointment or (b) remains undismissed, undischarged or unbonded for a period of sixty (60) days the (the Bank may, in its discretion, cease making Revolving Loans during the pendency of such action or proceeding); or (iii) there shall be commenced against the Borrower or any of its Subsidiaries any case, proceeding or other action seeking issuance of a warrant of attachment, execution, distraint or similar process against all or any substantial part of its assets which results in the entry of an order for any such relief which shall not have been vacated, discharged, or stayed or bonded pending appeal within sixty (60) days from the entry thereof (the Bank may, in its discretion, cease making Revolving Loans during the pendency of such action or proceeding); or (iv) the Borrower or any of its Subsidiaries shall take any action in furtherance of, or indicating its consent to, approval of, or acquiescence in, any of the acts set forth in clauses (i), (ii) and (iii) above; or (v) the Borrower or any of its Subsidiaries shall generally not, or shall be unable to, or shall admit in writing its inability to, pay its debts as they become due; or

(h)One or more judgments or decrees shall be entered against the Borrower or any of its Subsidiaries involving in the aggregate a liability (not paid or fully covered by insurance or reserves)  equal to or greater than $500,000 and all such judgments or decrees shall not have been vacated, discharged, or stayed or bonded pending appeal within thirty (30) days from the entry thereof; or

(i)The Borrower or any of its ERISA Affiliates fails to make full payment when due of all material amounts which, under the provisions of any Pension Plan or Section 412 of the Internal Revenue Code, the Borrower or any of its ERISA Affiliates is required to pay as contributions thereto and such development is not remedied or reversed within fifteen (15) days after the Borrower knows of such development;

(i)any material accumulated funding deficiency occurs or exists, whether or not waived, with respect to any Pension Plan and such development is not remedied or reversed within fifteen (15) days after the Borrower knows of such development;

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(ii)the excess of the actuarial present value of all benefit liabilities under all Pension Plans over the fair market value of the assets of such Pension Plans (excluding in such computation Pension Plans with assets greater than benefit liabilities)  allocable to such benefit liabilities are greater than five percent (5%) of Consolidated Tangible Net Worth and such development is not remedied or reversed within fifteen (15)  days after the Borrower knows of such development;

(iii)the Borrower or any of its ERISA Affiliates enters into any transaction which has as its principal purpose the evasion of liability under Subtitle D of Title IV of ERISA;

(iv)(a) Any Pension Plan maintained by the Borrower or any of its ERISA Affiliates shall be terminated within the meaning of Title IV of ERISA in a distress termination, or (b) a trustee shall be appointed by an appropriate United States district court in accordance with Section 4042 of ERISA to administer any Pension Plan, or (c) the Pension Benefit Guaranty Corporation (or any successor thereto) shall institute proceedings to terminate any Pension Plan or to appoint a trustee to administer any Pension Plan in accordance with Section 4042 of ERISA, or (d) the Borrower or any of its ERISA Affiliates shall withdraw (under Section 4063 of ERISA) from a Pension Plan, if as of the date of the event listed in subclauses (A)-(d) above or any subsequent date, either the Borrower or its ERISA Affiliates has any material liability (such liability to include, without limitation, any liability to the Pension Benefit Guaranty Corporation, or any successor thereto, or to any other party under Sections 4062, 4063 or 4064 of ERISA or any other provision of law) resulting from or otherwise associated with the events listed in subclauses (A)-(d) above;

(v)As used in this Subsection 7.01(i) the term “accumulated funding deficiency” has the meaning specified in Section 412 of the Internal Revenue Code, and the term “benefit liabilities” has the meaning specified in Section 4001 of ERISA;

(j)There shall be instituted against the Borrower or any Subsidiary, or against any guarantor, any proceeding for which forfeiture of any property with a value of $500,000 or more is a potential penalty and such proceeding remains undismissed, undischarged or unbonded for a period of thirty (30) days from the date the Borrower knows of such proceeding; or

(k)A Change of Control shall have occurred.

Then, (i) upon the occurrence and during the continuation of any Event of Default described in clause 7.01(g) above, the Commitment shall immediately terminate and all Revolving Loans hereunder with accrued interest thereon, and all other amounts owing under the Loan Documents shall automatically become due and payable, and (ii) upon the occurrence of any other Event of Default, the Bank may, by notice to the Borrower, declare the Commitment to be terminated forthwith, whereupon the Commitment shall immediately terminate; and, by notice

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to the Borrower, declare the Revolving Loans hereunder, with accrued interest thereon, and all other amounts owing under the Loan Documents to be due and payable forthwith, whereupon the same shall immediately become due and payable.  The Bank shall have all rights, powers and remedies available under each of the Loan Documents, or accorded by law, including, without limitation, the right to resort to any or all security for any credit accommodation from the Bank subject hereto and to exercise any or all of the rights of a beneficiary or secured party pursuant to applicable law.  All rights, powers and remedies of the Bank in connection with each of the Loan Documents may be exercised at any time by the Bank and from time to time after the occurrence of an Event of Default, are cumulative and not exclusive, and shall be in addition to any other rights, powers or remedies provided by law or equity.  Except as expressly provided above in this Section, presentment, demand, protest and all other notices of any kind are hereby expressly waived. Notwithstanding any other provision of this Agreement, including Section 8.02, notices to the Borrower under this Section shall be communicated in writing (including telex or facsimile transmissions).

ARTICLE VIII
MISCELLANEOUS

SECTION 8.01.Amendments, Etc.  No amendment or waiver of any provision of the Loan Documents nor consent to any departure by the Borrower therefrom, shall in any event be effective unless the same shall be in writing and signed by the Bank, and then such waiver or consent shall be effective only in the specific instance and for the specific purpose for which given.

SECTION 8.02.Notices, Etc. Except as otherwise set forth in this Agreement, all notices and other communications provided for hereunder shall be in writing (including facsimile communication) and mailed certified mail, return receipt requested or sent by facsimile or delivered, if to the Borrower, at its address set forth on the signature page hereof; and if to the Bank, at its address set forth on the signature page hereof; or, as to each party, at such other address as shall be designated by such party in a written notice to the other parties. All such notices and communications shall be effective upon personal delivery or upon receipt when sent by facsimile, or on the date of receipt or refusal indicated on the return receipt if sent by certified mail, except that notices and communications to the Bank pursuant to Article II or VII shall not be effective until received by the Bank.

SECTION 8.03.Right of Setoff:  Security Interest in Deposit Accounts.  Upon and only after the occurrence and during the continuation of any Event of Default not cured within any applicable grace period, the Bank is hereby authorized by the Borrower, at any time and from time to time, without notice, (a) to set off against, and to appropriate and apply to the payment of, the obligations and liabilities of the Borrower under the Loan Documents (whether matured or unmatured, fixed or contingent or liquidated or unliquidated) any and all amounts owing by the Bank to the Borrower (whether payable in Dollars or any other currency, whether matured or unmatured, and, in the case of deposits, whether general or special, time or demand and however evidenced) and (b) pending any such action, to the extent necessary, to hold such amounts as collateral to secure such obligations and liabilities and to return as unpaid for insufficient funds any and all checks and other items drawn against any deposits so held as the Bank in its sole discretion may elect. The Borrower hereby grants to the Bank a security interest

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in all deposits and accounts maintained with the Bank. The Bank is authorized to debit any account maintained with it by the Borrower for any amount of principal, interest or fees which are then due and owing to the Bank.

SECTION 8.04.No Waiver; Remedies.  No failure on the part of either party hereto to exercise, and no delay in exercising, any right under any of the Loan Documents shall operate as a waiver thereof; nor shall any single or partial exercise of any right under any of the Loan Documents preclude any other or further exercise thereof or the exercise of any other right. The remedies herein provided are cumulative and not exclusive of any remedies provided by law.

SECTION 8.05.Costs and Expenses.  The Borrower shall pay to the Bank immediately upon demand the full amount of all reasonable costs and expenses, including reasonable attorneys’ fees (to include outside counsel fees and all allocated costs of the Bank’s in-house counsel), incurred by the Bank in connection with (a) the negotiation and preparation of this Agreement and each other of the Loan Documents, and the preparation of any amendments and waivers hereto and thereto, (b) the enforcement of the Bank’s rights and/or the collection of any amounts which become due to the Bank under any of the Loan Documents (including, without limitation, in appellate, bankruptcy, insolvency, liquidation, reorganization, moratorium or other similar proceedings) or the restructuring of the Loan Documents, and (c) the prosecution or defense of any action in any way related to any of the Loan Documents, including, without limitation, any action for declaratory relief.

SECTION 8.06.Participations.  The Bank may sell, assign, transfer, negotiate or grant participations to other financial institutions in all or part of the obligations of the Borrower outstanding under the Loan Documents, provided that: (i) if no Event of Default has occurred and is continuing, the Bank shall obtain the Borrower’s prior written consent to any such sale, assignment, transfer, negotiation or participation, which consent shall not be unreasonably withheld; (ii) any such sale, assignment, transfer, negotiation or participation shall be in compliance with the applicable federal and state securities laws; and (iii) any assignee or transferee agrees to be bound by the terms and conditions of this Agreement. The Bank may, in connection with any actual or proposed assignment or participation, disclose to the actual or proposed assignee or participant, any information relating to the Borrower or any of its Subsidiaries.

SECTION 8.07.Effectiveness: Binding Effect .  This Agreement shall become effective when it shall have been executed by the Borrower and the Bank and thereafter shall be binding upon and inure to the benefit of the Borrower, the Bank and their respective successors and assigns, except that the Borrower shall not have the right to assign its rights hereunder or any interest herein without the prior written consent of the Bank.

SECTION 8.08.Governing Law.  The validity, interpretation and enforcement of this Agreement and the other Loan Documents (except to the extent otherwise provided in any such Loan Document) and any dispute arising out of the relationship between the parties hereto or thereto, whether in contract, tort, equity or otherwise, shall be governed by the internal laws of the State of California (without giving effect to principles of conflicts of law).

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SECTION 8.09.Dispute Resolution.  This Agreement hereby incorporates any alternative dispute resolution agreement previously, concurrently or hereafter executed between the Borrower and the Bank.

SECTION 8.10.Waiver of Notices.  The Borrower hereby expressly waives demand, presentment, protest and notice of protest and notice of dishonor with respect to any and all instruments, included in or evidencing any of the obligations, and any and all other demands and notices of any kind or nature whatsoever with respect to the obligations and this Agreement, except such as are expressly provided for herein.  No notice to or demand on the Borrower which the Bank may elect to give shall entitle the Borrower to any other or further notice or demand in the same, similar or other circumstances.

SECTION 8.11.Entire Agreement.  This Agreement with Exhibits and Schedules and the other Loan Documents embody the entire agreement and understanding between the parties hereto and supersede all prior agreements and understandings relating to the subject matter hereof.  In the event of any conflict between the provisions of this Agreement and those of any other Loan Document, the provisions of this Agreement shall control and govern; provided that the inclusion of supplemental rights or remedies in favor of the Bank in any other Loan Document shall not be deemed a conflict with this Agreement.

SECTION 8.12.Severability of Provisions.  In case any one or more of the provisions contained in this Agreement should be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby.

SECTION 8.13.Execution in Counterparts.  This Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute one and the same agreement.

SECTION 8.14.Further Assurances.  Without limiting in any manner any other obligation, requirement or agreement hereunder or under any of the other Loan Documents or otherwise, the Borrower shall, at its expense and without expense to the Bank, do, execute and deliver such further acts and documents as the Bank from time to time reasonably requires for the assuring and confirming unto the Bank of the rights hereby created or intended now or hereafter so to be, or for carrying out the intention or facilitating the performance of the terms of any Loan Document.

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IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed by their respective officers thereunto duly authorized, as of the date first above written.

UNION BANK OF CALIFORNIA, N.A.		SOUTHWEST WATER COMPANY
By:		By:
	Richard Madsen		Peter J. Moerbeek
	Regional Vice President		President and Chief Operating Officer
Address:		Address:
Metro Los Angeles Commercial Banking		624 South Grand Avenue, Suite 2900
445 South Figueroa Street, 10th Floor		Los Angeles, California 90017
Los Angeles, California  90071-1602		Attention: Thomas C. Tekulve
Attention: Richard Madsen		Vice President — Finance
Title: Regional Vice President		Facsimile: (213) 929-1800
Facsimile: (213) 236-4013

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SCHEDULE 5.01(a)

Southwest Water Company

Subsidiaries as of July 2004

Subsidiary Name	Entity	State	Parent Company	Percent Owned By Parent	Operating Group
Aqua Services LP	Partnership	Texas	SWC	100%	Services
CDC Maintenance, Inc.	Corp	Texas	ECO	100%	Services
ECO Capistrano Valley, Inc.	Corp	Delaware	ECO	100%	Services
ECO Southern California, Inc.-INACTIVE	Corp	California	ECO	100%	NA
ECO Resources, Inc.	Corp	Texas	SWC	100%	Services
Hornsby Bend Utility Company	Corp	Texas	SW Utility Company	100%	Utility
Lab-tech Corporation	Corp	Texas	SWC	100%	Services
Master Tek International, Inc.	Corp	Colorado	SWC	100%	Services
Metro H2O Utilities, Limited	Partnership	Texas	SWC	51%	Services
New Mexico Utilities, Inc.	Corp	New Mexico	SWC	100%	Utility
Operations Technologies, Inc.	Corp	Georgia	SWC	90%	Services
SOCI, Inc. – INACTIVE	Corp	Delaware	SWC	100%	NA
Southwest Environmental Labs	Corp	Texas	SWC	100%	Services
Southwest Resource Management	Corp	California	Suburban Water Systems	100%	Utility
Suburban Water Systems	Corp	California	SWC	100%	Utility
SW-NM, Inc.	Corp	New Mexico	SWC	100%	Utility
SW Operating Services Co.-INACTIVE	Corp	Delaware	SWC	100%	NA
SW Resource Management Company	Corp	Delaware	SWC	100%	Utility
SW Utility Company	Corp	Texas	SWC	100%	Utility
Wastewater Rehabilitation, Inc.	Corp	Texas	SWC	67%	Services
Water Suppliers Mobile Communication Service	Corp	California	Suburban Water Systems	100%	Utility
Windermere Utility Co., Inc.	Corp.	Texas	SW Utility Company	80%	Utility

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SCHEDULE 5.01(f) - LITIGATION

None other than as reported on Form 10-Q of Borrower for the quarter ended March 31, 2004, and Form 10-K of Borrower for the year ended December 31, 2003.

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SCHEDULE 5.01(i) - ENVIRONMENTAL MATTERS

See Form 10-Q of Borrower for the quarter ended March 31, 2004, and Form 10-K of Borrower for the year ended December 31, 2003.

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SCHEDULE 6.02(d) - LIENS

None except as disclosed in the audited consolidated financial statements of Borrower for the fiscal year ended 2003.

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SCHEDULE 6.02(e) – OTHER SECURED DEBT

None other than as reported on Form 10-K of Borrower for the year ended December 31, 2003.

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EXHIBIT A

REVOLVING NOTE

$20,000,000 July 7, 2004

FOR VALUE RECEIVED, the undersigned SOUTHWEST WATER COMPANY, a Delaware corporation (“Borrower”), promises to pay to the order of UNION BANK OF CALIFORNIA, N.A. (“Bank”) at its office at 445 South Figueroa Street, 10^th Floor, Los Angeles, California  90071-1602, or at such other place as the holder hereof may designate, in lawful money of the United States of America and in immediately available funds, the principal sum of Twenty Million Dollars ($20,000,000), or so much thereof as may be advanced and be outstanding, with interest thereon, to be computed on each advance from the date of its disbursement (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) at a rate per annum equal to the applicable LIBOR Rate plus one and one-quarter percent (1.25%) or the Reference Rate minus one-quarter of one percent (0.25%). When interest is determined in relation to the Reference Rate, each change in the rate of interest hereunder shall become effective on the opening of business on the day specified in the public announcement of a change in Bank’s Reference Rate. With respect to each LIBOR option selected hereunder, Bank is hereby authorized to note the date, principal amount, interest rate and applicable LIBOR Rate Term thereto and any payments made thereon on Bank’s books and records (either manually or by electronic entry) and/or on any schedule attached to this Note, which notations shall be prima facie evidence of the accuracy of the information noted.

A.DEFINITIONS:

Capitalized terms used and not otherwise defined herein shall have the meanings given such terms in the Credit Agreement referred to below.  As used herein, the following terms shall have the meanings set forth after each:

1.“Business Day” means any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation, or for amounts bearing interest based on the LIBOR Rate, any Business Day is any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation on which dealings in Dollar deposits are conducted by and among banks in the Designated LIBOR Market.

2.“Credit Agreement” means that certain Amended and Restated Credit Agreement between Borrower and Bank dated as of July 7, 2004, as amended from time to time, including, without limitation, those terms relating to arbitration of disputes.

3.“Designated LIBOR Market” means the regular established market located in London by and among banks for the solicitation, offer and acceptance of Dollar deposits in such banks.

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4.“Dollars” means United States of America dollars.

5.“LIBOR Rate Portion” means a portion of the principal amount outstanding under this Note which is bearing interest at a rate related to LIBOR. No LIBOR Rate Portion shall be less than Two Hundred Fifty Thousand Dollars ($250,000).

6.“LIBOR Rate Term” means a period commencing on a Business Day and continuing for one (1) month, two (2) months, three (3) months, six (6) months or twelve (12) months, as designated by Borrower, during which all or a portion of the outstanding principal balance of this Note bears interest determined in relation to Bank’s LIBOR; provided however, that no LIBOR Rate Term shall extend beyond the scheduled maturity date hereof. The last day of the interest period will be determined by Bank using the Designated LIBOR Market. If any LIBOR Rate Term would end on a day which is not a Business Day, then such LIBOR Rate Term shall be extended to the next succeeding Business Day.

7.“LIBOR Rate” means the interest rate determined by the following formula, rounded upward, if necessary, to the nearest 1/100 of one percent. (All amounts in the calculation will be determined by Bank as of the first day of the interest period.)

LIBOR Rate =	LIBOR Base Rate
	(1.00 - Reserve Percentage)

(a)“LIBOR Base Rate” means, with respect to any Revolving Loan to be made by Bank which is to bear interest in relation to the LIBOR Rate, the interest rate per annum (rounded upward, if necessary, to the nearest 1/100^th of 1%) at which deposits in Dollars are offered by Bank through its Los Angeles office to prime banks in the Designated LIBOR Market on the first day of the applicable LIBOR Rate Term in an aggregate amount approximately equal to the amount of the Revolving Loan to be made by Bank and for a period of time comparable to the number of days in the applicable LIBOR Rate Term.  The determination of the LIBOR Base Rate by Bank shall be conclusive in the absence of manifest error.

(b)“Reserve Percentage” means, with respect to any Revolving Loan to be made by Bank which is to bear interest in relation to the LIBOR Rate, the maximum reserve percentage (expressed as a decimal, rounded upward, if necessary, to the nearest 1/100 of one percent) in effect on the date the LIBOR Base Rate for the Revolving Loan is determined (whether or not such reserve percentage is applicable to Bank) under regulations issued from time to time by the Federal Reserve Board for determining the maximum reserve requirement (including any emergency, supplemental or other marginal reserve requirement) with respect to eurocurrency funding (currently referred to as “eurocurrency liabilities”) having a term comparable to the LIBOR Rate Term for such Revolving Loan.  The determination by Bank of any applicable Reserve Percentage shall be conclusive in the absence of manifest error.

8.“Reference Rate” means the variable per annum rate of interest most recently announced by Bank at its corporate headquarters as the “Union Bank of California, N.A. Reference Rate,” with the understanding that the “Union Bank of California, N.A. Reference Rate” is one of Bank’s index rates and merely serves as a basis upon which effective rates of

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interest are calculated for loans making reference thereto and may not be the lowest or best rate at which Bank calculates interest or extends credit.  Any change in the Reference Rate announced by Bank shall take effect at the opening of business on the day specified in the announcement of such change.

B.INTEREST:

1.Payment of Interest. Interest accrued on this Note shall be payable on the fifteenth (15^th) day of each month for the prior month or portion thereof, commencing July 15, 2004.

2.Selection of Interest Rate Options. At any time any portion of this Note bears interest determined in relation to the LIBOR Rate, it may be continued by Borrower at the end of the LIBOR Rate Term applicable thereto so that all or a portion thereof bears interest determined in relation to the Reference Rate or in relation to the LIBOR Rate for a new LIBOR Rate Term designated by Borrower. At any time any portion of this Note bears interest determined in relation to the Reference Rate, Borrower may convert all or a portion thereof so that it bears interest determined in relation to the LIBOR Rate for a LIBOR Rate Term designated by Borrower. At the time each advance is requested hereunder or Borrower wishes to select the LIBOR option for all or a portion of the outstanding principal balance hereof, and at the end of each LIBOR Rate Term, Borrower shall give Bank notice specifying (a) the interest rate option selected by Borrower, (b) the principal amount subject thereto, and (c) if the LIBOR option is selected, the length of the applicable LIBOR Rate Term. Any such notice may be given by telephone so long as, with respect to each LIBOR selection, such notice is given to Bank prior to 10:00 a.m., California time, on the third Business Day prior to the commencement of the LIBOR Rate Term and, with respect to each Reference Rate selection, such notice is given to Bank prior to 11:00 a.m., California time, on the day of the requested advance. For each LIBOR option requested hereunder, Bank will quote the applicable LIBOR Rate to Borrower at approximately 10:00 a.m., California time, on the second Business Day prior to the LIBOR Rate Term. If Borrower does not immediately accept the rate quoted by Bank, any subsequent acceptance by Borrower shall be subject to a re-determination by Bank of the applicable LIBOR Rate; provided however, that if Borrower fails to accept any such rate by 11:00 a.m., California time, on the Business Day such quotation is given, then the quoted rate shall expire and Bank shall have no obligation to permit a LIBOR option to be selected on such day. If no specific designation of interest is made at the time any advance is requested hereunder or at the end of any LIBOR Rate Term, Borrower shall be deemed to have made a Reference Rate interest selection for such advance or the principal amount to which such LIBOR Rate Term applied.

3.Additional LIBOR Provisions.

(a)If Bank at any time shall determine that for any reason adequate and reasonable means do not exist for ascertaining the LIBOR Rate, then Bank shall promptly give notice thereof to Borrower. If such notice is given and until such notice has been withdrawn by Bank, than (i) no new LIBOR option may be selected by Borrower, and (ii) any portion of the outstanding principal balance hereof which bears interest determined in relation to the LIBOR Rate, subsequent to the end of the LIBOR Rate Term applicable thereto, shall bear interest determined in relation to the Reference Rate.

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(b)If any law, treaty, rule, regulation or determination of a court or governmental authority or any change therein or in the interpretation or application thereof (each, a “Change in Law”) shall make it unlawful for Bank (i) to make LIBOR options available hereunder, or (ii) to maintain interest rates based on the LIBOR Rate, then in the former event, any obligation of Bank to make available such unlawful LIBOR options shall immediately be cancelled, and in the latter event, any such unlawful LIBOR-based interest rates then outstanding shall be converted, at Bank’s option, so that interest on the portion of the outstanding principal balance subject thereto is determined in relation to the Reference Rate; provided however, that if any such Change in Law shall permit any LIBOR-based interest rates to remain in effect until the expiration of the LIBOR Rate Term applicable thereto, then such permitted LIBOR-based interest rates shall continue in effect until the expiration of such LIBOR Rate Term. Upon the occurrence of any of the foregoing events, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any fines, fees, charges, penalties or other costs incurred or payable by Bank as a result thereof and which are attributable to any LIBOR options made available to Borrower hereunder, and any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(c)If any Change in Law or compliance by Bank with any request or directive (whether or not having the force of law) from any central bank or other governmental authority shall:

(i)subject Bank to any tax, duty or other charge with respect to any LIBOR options, or change the basis of taxation of payments to Bank of principal, interest, fees or any other amount payable hereunder (except for changes in the rate of tax on the overall net income of Bank); or

(ii)impose, modify or hold applicable any reserve, special deposit, compulsory loan or similar requirement against assets held by, deposits or other liabilities in or for the account of advances or loans by, or any other acquisition of funds by any office of Bank; or

(iii)impose on Bank any other condition; and the result of any of the foregoing is to increase the cost to Bank of making, renewing or maintaining any LIBOR options hereunder and/or to reduce any amount receivable by Bank in connection therewith, then in any such case, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any additional costs incurred by Bank and/or reductions in amounts received by Bank which are attributable to such LIBOR options. In determining which costs incurred by Bank and/or reductions in amounts received by Bank are attributable to any LIBOR options made available to Borrower hereunder, any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(d)Bank will have no obligation to accept an election of Borrower for the LIBOR option if any of the following described events has occurred and is continuing:

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(i)Dollar deposits in the principal amount, and for periods equal to the LIBOR Rate Term, of any Revolving Loan which bears interest in relation to the LIBOR Rate are not available in the Designated LIBOR Market; or

(ii)  an Event of Default has occurred and is continuing; or

(iii) the LIBOR Rate does not accurately reflect the cost of any Revolving Loan which bears interest in relation to the LIBOR Rate.

4.Default Interest. During the continuance of an Event of Default, the outstanding principal balance of this Note shall bear interest until paid in full at an increased rate per annum (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) equal to two percent (2.00%) above the rate of interest from time to time applicable to this Note (the “Default Rate”).

C.BORROWING AND REPAYMENT:

1.Loan and Repayment. Borrower may from time to time during the term of this Note borrow, partially or wholly repay its outstanding borrowings, and re-borrow, subject to all of the limitations, terms and conditions of this Note and of any document executed in connection with or governing this Note, including the Credit Agreement; provided however, that the total outstanding borrowings under this Note shall not at any time exceed the principal amount stated above. The unpaid principal balance of this obligation at any time shall be the total amounts advanced hereunder by the holder hereof less the amount of principal payments made hereon by or for Borrower, which balance may be endorsed hereon from time to time by the holder.  The outstanding principal balance of this Note shall be due and payable in full on the “Maturity Date” (as defined in the Credit Agreement).

2.Advances. Advances hereunder, to the total amount of the principal sum stated above, may be made by the holder at the oral or written request of (a) Borrower’s Chief Financial Officer, Vice President-Finance, Vice President-Treasurer, or Controller, any one acting alone, who are authorized to request advances and direct the disposition of any advances until written notice of the revocation of such authority is received by the holder at the office designated above, or (b) any person, with respect to advances deposited to the credit of any account of Borrower with the holder, which advances, when so deposited, shall be conclusively presumed to have been made to or for the benefit of Borrower regardless of the fact that persons other than those authorized to request advances may have authority to draw against such account. The holder shall have no obligation to determine whether any person requesting an advance is or has been authorized by Borrower.

3.Application of Payments. Each payment made on this Note shall be credited first, to any interest then due and second, to the outstanding principal balance hereof. Unless instructed otherwise by Borrower, all payments credited to principal shall be applied first, to the outstanding principal balance of this Note which bears interest determined in relation to the Reference Rate, if any, and second, to the outstanding principal balance of this Note which bears interest determined in relation to the LIBOR Rate, with such payments applied to the oldest LIBOR Rate Term first.

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4.Prepayment.

(a)Reference Rate. Borrower may prepay principal on any portion of this Note which bears interest determined in relation to the Reference Rate at any time, in any amount and without penalty.

(b)LIBOR. Each prepayment of a LIBOR Rate Portion shall be not less than $250,000 and shall be in an integral multiple of $100,000, and Bank shall have received notice of each such prepayment on the date that is five (5) Business Days before the date of such prepayment (which notice shall identify the date and amount of the prepayment).  Each prepayment of a LIBOR Rate Portion, whether voluntary, by reason of acceleration or otherwise, will be accompanied by the amount of accrued interest on the amount prepaid, and a prepayment fee as described below. A “prepayment” is a payment on a date earlier than the last day of the applicable LIBOR Rate Term. The prepayment fee shall be equal to the amount (if any) by which:

(i)the additional interest which would have been payable during the applicable LIBOR Rate Term on the amount prepaid had it not been prepaid, exceeds

(ii)the interest which would have been recoverable by Bank by placing the amount prepaid on deposit in the domestic certificate of deposit market, the eurodollar deposit market, or other appropriate money market selected by Bank for a period starting on the date on which it was prepaid and ending on the last day of the applicable LIBOR Rate Term.

Borrower acknowledges that prepayment of such amount may result in Bank incurring additional costs, expenses and/or liabilities, and that it is difficult to ascertain the full extent of such costs, expenses and/or liabilities. Borrower, therefore, agrees to pay the above-described prepayment fee and agrees that said amount represents a reasonable estimate of the prepayment costs, expenses and/or liabilities of Bank. If Borrower fails to pay any prepayment fee when due, the amount of such prepayment fee shall thereafter bear interest until paid at a rate per annum two percent (2.00%)above the Reference Rate in effect from time to time (computed on the basis of a 360-day year, actual days elapsed).

D.EVENTS OF DEFAULT:

This Note is made pursuant to and is subject to the terms and conditions of the Credit Agreement.  Any default in the payment or performance of any obligation under this Note, or any defined event of default under the Credit Agreement, shall constitute an “Event of Default” under this Note.

E.MISCELLANEOUS:

1.Remedies.  Upon the occurrence and during the continuation of any Event of Default, the holder of this Note, at the holder’s option, without notice upon the occurrence and during the continuation of an Event of Default pursuant to Section 7.01(g) of the Credit Agreement, and with notice upon the occurrence of any other Event of Default, may declare all

6

sums of principal and interest outstanding hereunder to be immediately due and payable without presentment, demand, protest or notice of dishonor, all of which are expressly waived by Borrower, and the obligation, if any, of the holder to extend any further credit hereunder shall immediately cease and terminate. Borrower shall pay to the holder immediately upon demand the full amount of all payments, advances, charges, costs and expenses, including reasonable attorneys’ fees (to include outside counsel fees and all allocated costs of the holder’s in-house counsel), incurred by the holder in connection with the enforcement of the holder’s rights and/or the collection of any amounts which become due to the holder under this Note, and the prosecution or defense of any action in any way related to this Note, including without limitation, any action for declaratory relief, and including any of the foregoing incurred in connection with any bankruptcy proceeding relating to Borrower.

2.Obligations Joint and Several. Should more than one person or entity sign this Note as a Borrower, the obligations of each such Borrower shall be joint and several.

3.Replacement of Prior Revolving Note.  This Note amends, restates, replaces and supercedes (but does not create a novation of the indebtedness evidenced by) the Revolving Note, dated June 6, 2003, in the principal amount of $15,000,000, executed by Borrower to the order of Bank in connection with the Old Credit Agreement.

4.Governing Law. This Note shall be governed by and construed in accordance with the laws of the State of California, except to the extent Bank has greater rights or remedies under Federal law, whether as a national bank or otherwise, in which case such choice of California law shall not be deemed to deprive Bank of any such rights and remedies as may be available under Federal law.

“Borrower”

SOUTHWEST WATER COMPANY,
a Delaware corporation

By:
	Peter J. Moerbeek
	President and Chief Operating Officer

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EXHIBIT B

TERM NOTE

$15,000,000 July 7, 2004

FOR VALUE RECEIVED, the undersigned SOUTHWEST WATER COMPANY, a Delaware corporation (“Borrower”), promises to pay to the order of UNION BANK OF CALIFORNIA, N.A. (“Bank”) at its office at 445 South Figueroa Street, 10^th Floor, Los Angeles, California  90071-1602, or at such other place as the holder hereof may designate, in lawful money of the United States of America and in immediately available funds, the principal sum of Fifteen Million Dollars ($15,000,000), with interest thereon (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) at a rate per annum equal to the applicable LIBOR Rate plus one and three-quarters percent (1.75%) or the Reference Rate. When interest is determined in relation to the Reference Rate, each change in the rate of interest hereunder shall become effective on the opening of business on the day specified in the public announcement of a change in Bank’s Reference Rate. With respect to each LIBOR option selected hereunder, Bank is hereby authorized to note the date, principal amount, interest rate and applicable LIBOR Rate Term thereto and any payments made thereon on Bank’s books and records (either manually or by electronic entry) and/or on any schedule attached to this Note, which notations shall be prima facie evidence of the accuracy of the information noted.

A.DEFINITIONS:

Capitalized terms used and not otherwise defined herein shall have the meanings given such terms in the Credit Agreement referred to below.  As used herein, the following terms shall have the meanings set forth after each:

1.“Business Day” means any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation, or for amounts bearing interest based on the LIBOR Rate, any Business Day is any day except a Saturday, Sunday or any other day designated as a holiday under Federal or California statute or regulation on which dealings in Dollar deposits are conducted by and among banks in the Designated LIBOR Market.

2.“Credit Agreement” means that certain Amended and Restated Credit Agreement between Borrower and Bank dated as of July 7, 2004, as amended from time to time, including, without limitation, those terms relating to arbitration of disputes.

3.“Designated LIBOR Market” means the regular established market located in London by and among banks for the solicitation, offer and acceptance of Dollar deposits in such banks.

5.“Dollars” means United States of America dollars.

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6.“LIBOR Rate Portion” means a portion of the principal amount outstanding under this Note which is bearing interest at a rate related to LIBOR. No LIBOR Rate Portion shall be less than Two Hundred Fifty Thousand Dollars ($250,000).

7.“LIBOR Rate Term” means a period commencing on a Business Day and continuing for one (1) month, two (2) months, three (3) months, six (6) months or twelve (12) months, as designated by Borrower, during which all or a portion of the outstanding principal balance of this Note bears interest determined in relation to Bank’s LIBOR; provided however, that no LIBOR Rate Term shall extend beyond the scheduled maturity date hereof. The last day of the interest period will be determined by Bank using the Designated LIBOR Market. If any LIBOR Rate Term would end on a day which is not a Business Day, then such LIBOR Rate Term shall be extended to the next succeeding Business Day.

8.“LIBOR Rate” means the interest rate determined by the following formula, rounded upward, if necessary, to the nearest 1/100 of one percent. (All amounts in the calculation will be determined by Bank as of the first day of the interest period.)

LIBOR Rate =	LIBOR Base Rate
	(1.00 - Reserve Percentage)

(a)“LIBOR Base Rate” means, with respect to any portion of the Term Loan which is to bear interest in relation to the LIBOR Rate, the interest rate per annum (rounded upward, if necessary, to the nearest 1/100^th of 1%) at which deposits in Dollars are offered by Bank through its Los Angeles office to prime banks in the Designated LIBOR Market on the first day of the applicable LIBOR Rate Term in an aggregate amount approximately equal to the amount of the Revolving Loan to be made by Bank and for a period of time comparable to the number of days in the applicable LIBOR Rate Term.  The determination of the LIBOR Base Rate by Bank shall be conclusive in the absence of manifest error.

(b)“Reserve Percentage” means, with respect to any portion of the Term Loan which is to bear interest in relation to the LIBOR Rate, the maximum reserve percentage (expressed as a decimal, rounded upward, if necessary, to the nearest 1/100 of one percent) in effect on the date the LIBOR Base Rate for such portion of the Term Loan is determined (whether or not such reserve percentage is applicable to Bank) under regulations issued from time to time by the Federal Reserve Board for determining the maximum reserve requirement (including any emergency, supplemental or other marginal reserve requirement) with respect to eurocurrency funding (currently referred to as “eurocurrency liabilities”) having a term comparable to the LIBOR Rate Term for such portion of the Term Loan.  The determination by Bank of any applicable Reserve Percentage shall be conclusive in the absence of manifest error.

9.“Reference Rate” means the variable per annum rate of interest most recently announced by Bank at its corporate headquarters as the “Union Bank of California, N.A. Reference Rate,” with the understanding that the “Union Bank of California, N.A. Reference Rate” is one of Bank’s index rates and merely serves as a basis upon which effective rates of interest are calculated for loans making reference thereto and may not be the lowest or best rate at which Bank calculates interest or extends credit.  Any change in the Reference Rate announced by Bank shall take effect at the opening of business on the day specified in the announcement of such change.

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B.INTEREST:

1.Payment of Interest. Interest accrued on this Note shall be payable on the fifteenth (15^th) day of each month for the prior month or portion thereof, commencing on the first such date to occur after the funding of the Term Loan evidenced by this Note.

2.Selection of Interest Rate Options. At any time any portion of this Note bears interest determined in relation to the LIBOR Rate, it may be continued by Borrower at the end of the LIBOR Rate Term applicable thereto so that all or a portion thereof bears interest determined in relation to the Reference Rate or in relation to the LIBOR Rate for a new LIBOR Rate Term designated by Borrower. At any time any portion of this Note bears interest determined in relation to the Reference Rate, Borrower may convert all or a portion thereof so that it bears interest determined in relation to the LIBOR Rate for a LIBOR Rate Term designated by Borrower. At the time each advance is requested hereunder or Borrower wishes to select the LIBOR option for all or a portion of the outstanding principal balance hereof, and at the end of each LIBOR Rate Term, Borrower shall give Bank notice specifying (a) the interest rate option selected by Borrower, (b) the principal amount subject thereto, and (c) if the LIBOR option is selected, the length of the applicable LIBOR Rate Term. Any such notice may be given by telephone so long as, with respect to each LIBOR selection, such notice is given to Bank prior to 10:00 a.m., California time, on the third Business Day prior to the commencement of the LIBOR Rate Term and, with respect to each Reference Rate selection, such notice is given to Bank prior to 11:00 a.m., California time, on the day of the requested advance. For each LIBOR option requested hereunder, Bank will quote the applicable LIBOR Rate to Borrower at approximately 10:00 a.m., California time, on the second Business Day prior to the LIBOR Rate Term. If Borrower does not immediately accept the rate quoted by Bank, any subsequent acceptance by Borrower shall be subject to a re-determination by Bank of the applicable LIBOR Rate; provided however, that if Borrower fails to accept any such rate by 11:00 a.m., California time, on the Business Day such quotation is given, then the quoted rate shall expire and Bank shall have no obligation to permit a LIBOR option to be selected on such day. If no specific designation of interest is made at the time any advance is requested hereunder or at the end of any LIBOR Rate Term, Borrower shall be deemed to have made a Reference Rate interest selection for such advance or the principal amount to which such LIBOR Rate Term applied.

3.Additional LIBOR Provisions.

(a)If Bank at any time shall determine that for any reason adequate and reasonable means do not exist for ascertaining the LIBOR Rate, then Bank shall promptly give notice thereof to Borrower. If such notice is given and until such notice has been withdrawn by Bank, than (i) no new LIBOR option may be selected by Borrower, and (ii) any portion of the outstanding principal balance hereof which bears interest determined in relation to the LIBOR Rate, subsequent to the end of the LIBOR Rate Term applicable thereto, shall bear interest determined in relation to the Reference Rate.

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(b)If any law, treaty, rule, regulation or determination of a court or governmental authority or any change therein or in the interpretation or application thereof (each, a “Change in Law”) shall make it unlawful for Bank (i) to make LIBOR options available hereunder, or (ii) to maintain interest rates based on the LIBOR Rate, then in the former event, any obligation of Bank to make available such unlawful LIBOR options shall immediately be cancelled, and in the latter event, any such unlawful LIBOR-based interest rates then outstanding shall be converted, at Bank’s option, so that interest on the portion of the outstanding principal balance subject thereto is determined in relation to the Reference Rate; provided however, that if any such Change in Law shall permit any LIBOR-based interest rates to remain in effect until the expiration of the LIBOR Rate Term applicable thereto, then such permitted LIBOR-based interest rates shall continue in effect until the expiration of such LIBOR Rate Term. Upon the occurrence of any of the foregoing events, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any fines, fees, charges, penalties or other costs incurred or payable by Bank as a result thereof and which are attributable to any LIBOR options made available to Borrower hereunder, and any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(c)If any Change in Law or compliance by Bank with any request or directive (whether or not having the force of law) from any central bank or other governmental authority shall:

(i)subject Bank to any tax, duty or other charge with respect to any LIBOR options, or change the basis of taxation of payments to Bank of principal, interest, fees or any other amount payable hereunder (except for changes in the rate of tax on the overall net income of Bank); or

(ii)impose, modify or hold applicable any reserve, special deposit, compulsory loan or similar requirement against assets held by, deposits or other liabilities in or for the account of advances or loans by, or any other acquisition of funds by any office of Bank; or

(iii)impose on Bank any other condition; and the result of any of the foregoing is to increase the cost to Bank of making, renewing or maintaining any LIBOR options hereunder and/or to reduce any amount receivable by Bank in connection therewith, then in any such case, Borrower shall pay to Bank immediately upon demand such amounts as may be necessary to compensate Bank for any additional costs incurred by Bank and/or reductions in amounts received by Bank which are attributable to such LIBOR options. In determining which costs incurred by Bank and/or reductions in amounts received by Bank are attributable to any LIBOR options made available to Borrower hereunder, any reasonable allocation made by Bank among its operations shall be conclusive and binding upon Borrower.

(d)Bank will have no obligation to accept an election of Borrower for the LIBOR option if any of the following described events has occurred and is continuing:

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(i)Dollar deposits in the principal amount, and for periods equal to the LIBOR Rate Term, of any portion of the Term Loan which bears interest in relation to the LIBOR Rate are not available in the Designated LIBOR Market; or

(ii)an Event of Default has occurred and is continuing; or

(iii)the LIBOR Rate does not accurately reflect the cost of any portion of the Term Loan which bears interest in relation to the LIBOR Rate.

4.Default Interest. During the continuance of an Event of Default, the outstanding principal balance of this Note shall bear interest until paid in full at an increased rate per annum (computed on the basis of a 360-day year and actual days elapsed, which results in more interest than if a 365-day year were used) equal to two percent (2.00%) above the rate of interest from time to time applicable to this Note (the “Default Rate”).

C.BORROWING AND REPAYMENT:

1.Loan and Repayment. On or before September 30, 2005, Borrower will make a payment that will reduce the outstanding principal balance of this Note to no more than $10,000,000; provided that if the outstanding balance of this Note on September 30, 2005 is equal to or less than $10,000,000, then no payment will be required.  The outstanding principal balance of this Note shall be due and payable in full on the earlier of (a) September 30, 2006 and (b) upon the termination of the Revolving Commitment, for any reason.

2.Application of Payments. Each payment made on this Note shall be credited first, to any interest then due and second, to the outstanding principal balance hereof. Unless instructed otherwise by Borrower, all payments credited to principal shall be applied first, to the outstanding principal balance of this Note which bears interest determined in relation to the Reference Rate, if any, and second, to the outstanding principal balance of this Note which bears interest determined in relation to the LIBOR Rate, with such payments applied to the oldest LIBOR Rate Term first.

3.Prepayment.

(a)Reference Rate. Borrower may prepay principal on any portion of this Note which bears interest determined in relation to the Reference Rate at any time, in any amount and without penalty.

(b)LIBOR. Each prepayment of a LIBOR Rate Portion shall be not less than $250,000 and shall be in an integral multiple of $100,000, and Bank shall have received notice of each such prepayment on the date that is five (5) Business Days before the date of such prepayment (which notice shall identify the date and amount of the prepayment).  Each prepayment of a LIBOR Rate Portion, whether voluntary, by reason of acceleration or otherwise, will be accompanied by the amount of accrued interest on the amount prepaid, and a prepayment fee as described below. A “prepayment” is a payment on a date earlier than the last day of the

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applicable LIBOR Rate Term. The prepayment fee shall be equal to the amount (if any) by which:

(i)the additional interest which would have been payable during the applicable LIBOR Rate Term on the amount prepaid had it not been prepaid, exceeds

(ii)the interest which would have been recoverable by Bank by placing the amount prepaid on deposit in the domestic certificate of deposit market, the eurodollar deposit market, or other appropriate money market selected by Bank for a period starting on the date on which it was prepaid and ending on the last day of the applicable LIBOR Rate Term.

Borrower acknowledges that prepayment of such amount may result in Bank incurring additional costs, expenses and/or liabilities, and that it is difficult to ascertain the full extent of such costs, expenses and/or liabilities. Borrower, therefore, agrees to pay the above-described prepayment fee and agrees that said amount represents a reasonable estimate of the prepayment costs, expenses and/or liabilities of Bank. If Borrower fails to pay any prepayment fee when due, the amount of such prepayment fee shall thereafter bear interest until paid at a rate per annum two percent (2.00%)above the Reference Rate in effect from time to time (computed on the basis of a 360-day year, actual days elapsed).

D.EVENTS OF DEFAULT:

This Note is made pursuant to and is subject to the terms and conditions of the Credit Agreement.  Any default in the payment or performance of any obligation under this Note, or any defined event of default under the Credit Agreement, shall constitute an “Event of Default” under this Note.

E.MISCELLANEOUS:

1.Remedies.  Upon the occurrence and during the continuation of any Event of Default, the holder of this Note, at the holder’s option, without notice upon the occurrence and during the continuation of an Event of Default pursuant to Section 7.01(g) of the Credit Agreement, and with notice upon the occurrence of any other Event of Default, may declare all sums of principal and interest outstanding hereunder to be immediately due and payable without presentment, demand, protest or notice of dishonor, all of which are expressly waived by Borrower, and the obligation, if any, of the holder to extend any further credit hereunder shall immediately cease and terminate. Borrower shall pay to the holder immediately upon demand the full amount of all payments, advances, charges, costs and expenses, including reasonable attorneys’ fees (to include outside counsel fees and all allocated costs of the holder’s in-house counsel), incurred by the holder in connection with the enforcement of the holder’s rights and/or the collection of any amounts which become due to the holder under this Note, and the prosecution or defense of any action in any way related to this Note, including without limitation, any action for declaratory relief, and including any of the foregoing incurred in connection with any bankruptcy proceeding relating to Borrower.

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2.Obligations Joint and Several. Should more than one person or entity sign this Note as a Borrower, the obligations of each such Borrower shall be joint and several.

3.Governing Law. This Note shall be governed by and construed in accordance with the laws of the State of California, except to the extent Bank has greater rights or remedies under Federal law, whether as a national bank or otherwise, in which case such choice of California law shall not be deemed to deprive Bank of any such rights and remedies as may be available under Federal law.

“Borrower”

SOUTHWEST WATER COMPANY,
a Delaware corporation

By:
	Peter J. Moerbeek
	President and Chief Operating Officer

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EXHIBIT C

(See Attached Pledge Agreement)

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EXHIBIT D

(See attached Latham & Watkins Opinion)

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EX-31.1

EXHIBIT 31.1

Certification of Chief Executive Officer

Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Anton C. Garnier, certify that:

1.I have reviewed this quarterly report on Form 10-Q of Southwest Water Company;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a.designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c.disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Dated:	August 6, 2004	/s/ ANTON C. GARNIER
		Anton C. Garnier
		Chief Executive Officer

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EX-31.2

EXHIBIT 31.2

Certification of Chief Financial Officer

Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Richard J. Shields, certify that:

1.I have reviewed this quarterly report on Form 10-Q of Southwest Water Company;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a.designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

b.evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c.disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b.any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Dated:	August 6, 2004	/s/ RICHARD J. SHIELDS
		Richard J. Shields Chief Financial Officer
		(Principal Financial Officer and Chief Accounting Officer)

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EX-32.1

Exhibit 32.1

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report on Form 10-Q of Southwest Water Company (the “Company”) for the period ending June 30, 2004 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Anton C. Garnier, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, to my knowledge that:

(1)the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Dated:	August 6, 2004	/s/ ANTON C. GARNIER
		Anton C. Garnier Chief Executive Officer

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EX-32.2

Exhibit 32.2

CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the Quarterly Report on Form 10-Q of Southwest Water Company (the “Company”)for the period ending June 30, 2004 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Richard J. Shields, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, to my knowledge that:

(1)the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2)the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Dated:	August 6, 2004	/s/ RICHARD J. SHIELDS
		Richard J. Shields Chief Financial Officer
		(Principal Financial Officer and Chief Accounting Officer)

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