The consistent theme throughout solid waste companies' first quarter results was that improving, underlying solid waste industry fundamentals were often masked by other factors, often ones out of the companies’ control.
Pricing Stable, Despite Earlier Fuel Concerns
Pricing trends were stable and in line with expectations almost all across the board. Waste Management (WM) reported 2-percent yield, in line with its full-year guidance. Waste Connections (WCN) reported core price of 2.8 percent and noted that it saw price remaining in a typical 2.4 percent to 2.8 percent band, while Progressive Waste Solutions (BIN) had pricing of 1.8 percent, also generally in line with expectations.
The exception was Republic Services (RSG), which reported strong yield of 2.1 percent, well above its guidance of 1.5 percent and fourth quarter’s 1.7percent; however, the company remained cautious on extrapolating the first quarter number, noting that much of its pricing was front-end loaded as it increased pricing on recycling customers, and RSG maintained its 1.5 percent full-year target.
Solid price trends were positive in light of concerns that lower prices at the pump might further depress pricing on Consumer Price Index (CPI)-linked contracts, as well as possibly encourage smaller, independent haulers to take share in light of lower expenses.
Positive Underlying Volume Trends Masked By Several Factors
All the company managements stressed improving, albeit still gradual, volumes in the commercial collection business, which has been somewhat of a laggard, noting net service increases, as well as increased yards and/or weights. All also agreed that the industrial collection business remains strong, despite recent economic indicators to the contrary. Special waste volumes, and to a lesser extent construction and demolition (C&D) volumes, slowed for all the companies.
The primary culprit appeared to be the weather and tougher comparables, but slower energy waste results were also cited as a factor by several companies. RSG appeared to be the least impacted, with volumes running near the top end of the guidance of 1.5 percent to 2 percent, while WCN reported volumes of 1.6 percent, toward the lower end of their guidance, and BIN reported 1 percent. Both of the latter companies cited that weather had a meaningful impact on landfill volumes.
WM was the most notable with regard to volumes, as its total company volumes were off 3 percent. Volumes from its traditional solid waste business were off 1.2 percent, an improvement compared with last year’s 3.2-percent decline, with noticeably better trends in commercial and industrial, but overall volumes were impacted by the loss of national accounts, lower recycling volumes, and to a lesser extent, a decline in several energy-related businesses.
In addition to volume, lower fuel surcharges hampered revenue growth, while foreign currency fluctuations also hit WM, and BIN in particular. And of course, in the case of WCN, the strength in its underlying solid waste operations was partially offset by the severe falloff in its exploration and production (E&P) waste business, which began in earnest in March.
Fuel Savings Drive Margin Gains
Margins, particularly gross margins, were generally higher, driven primarily by lower fuel expense for RSG and WM, with some help from lower recycled commodity rebate costs as well. BIN does not disclose its fuel impact but noted it was a beneficiary as well. WM’s margins also benefited from the reorganization undertaken in 2014, which pushed SG&A (selling, general and administrative) costs down on an absolute dollar basis. BIN’s margins were negatively impacted by weather and a risk insurance claim hit, totaling $4 million, which drove its EBITDA (earnings before interest, taxes, depreciation and amortization) margin down year to year. The margin strength in the solid waste side, primarily due to lower fuel costs, was more than offset by margin weakness in the E&P waste side for WCN, as it cited decremental margins in that business of roughly 75 percent.
Recycling a Bigger Headwind
Recycled commodity pricing, particularly paper and plastic, worsened on the margin after the companies gave guidance in February and represented a bigger-than-expected headwind in the first quarter, and ultimately, now for the full year. WM was most explicit about it—the recycling area is now expected to be a roughly 10-cent per share drag in 2015, versus prior expectations of 3 cents to 5 cents per share, mostly because of pricing but also due to the aforementioned decline in recycling volumes, which was greater than anticipated.
WM was also most vocal about how it was altering recycling contracts where possible and bringing down operating expenses in the recycling business to combat the price decline, as it did not see a catalyst for a recycled commodity pricing rebound. RSG emphasized the price increases it was putting through on its recycling customers. WCN was slightly more optimistic on the pricing outlook, noting that it believes the lowest prices of the year are now behind it, as well as its belief that the clearing of the West Coast port slowdown situation would not cause further price dislocation. Though noting it as a drag, BIN’s recycling business as a percentage of the total business is relatively lower than the two majors.
No Change in Guidance, At least For Now
Acknowledging the more precipitous than originally forecast drop in its E&P waste business, WCN gave second quarter guidance reflecting lower expected E&P waste results, but declined to change the full-year outlook until its next quarterly report in July. However, analysts generally extrapolated the second quarter through the rest of the year, and 2015 estimates came down anywhere between 5 cents and 10 cents per share. Heartening to investors, however, was WCN’s belief that the E&P waste business may now bottom in the second quarter of 2015 and rebound in 2016.
WM maintained its full-year EPS (earnings per share) guidance, despite the larger recycling headwind and potentially more foreign currency translation pressure than previously thought. BIN also reaffirmed its full-year guidance, including its margin expansion guidance of 100 to 150 basis points, despite the decline in the first-quarter EBITDA margin. On the flip side, although first quarter EPS results were above analysts’ expectations, RSG maintained, but did not raise, its full-year EPS guidance, saying it traditionally updates guidance in July. RSG noted that its yield may have been the highest for the year in the first quarter, given the aforementioned recycling price increases, while noting the fuel benefit is also expected to subside as surcharges catch up with expenses, and overall, its first quarter results were in line with its expectations. Unsurprisingly, all the companies reaffirmed free cash flow guidance, citing various levers that could be pulled in the face of greater operating and earnings headwinds.
M&A Off to a Slow Start
WCN believes that it will have a typical year of about $75 million in acquired revenues, but all the companies noted that seller expectations or valuation concerns were an impediment thus far in the year. At WM, where acquisitions are a key focus this year as the company would like to redeploy the proceeds and replace the waste-to-energy EBITDA, both valuation considerations and potential timing issues may impact the that timeframe, and management indicated that they would step up share repurchases in the second half, if they had not identified likely acquisition targets by that time.