Digging Through the Trash for Income Opportunities

Daniel is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Waste management is a prime example of a durable sector. Not only will human beings always continue to produce trash, but the amount of trash appears to be growing steadily. As such it is up to humanity to devise increasingly ingenious ways of dealing with this deluge of dirt. Stocks of companies active in this industry tend to trade defensively, enjoying low betas as well as high dividend yields. Waste Management (NYSE: WM) is one of the largest American companies in the industry. While not as flashy a choice in the current bull market, the stock offers increased stability and reliable income.

Company at a Glance

Waste Management offers collection, transfer, recycling and disposal services to customers across North America, and operates a number of waste-to-energy and gas-to-energy facilities in the United States. Its recycling activities include material processing and electronic recycling, and recycling brokerage services. Additionally the company supplies sustainability services to businesses and organizations, and medical waste services for healthcare facilities. The stock enjoys a low beta of 0.64 and is more or less flat over the last 12 months, up 3.18%.

Investment Thesis

As mentioned above, waste management is a particularly durable industry. Companies active in this sector provide a more or less non-negotiable, essential service, and moreover one that appears to be becoming ever more necessary. Additionally, with its recycling and sustainability services, the company is well-positioned to benefit from the inevitable switch to more ecologically durable forms of harvesting energy.

The company is also doing well in terms of earnings; its EPS growth has outpaced the industry for the last five years. The company’s Q3 2012 report beat by a penny but growth seems to be slowing a bit this year as EPS was down 2 cents compared to the same period a year ago. Earnings in any case look a bit better than those of major US competitor Republic Services (NYSE: RSG). After hitting it out of the park in Q2 2012, Republic missed in Q3 and Q4 of last year. Additionally EPS growth has lagged the industry slightly in the last few years.

One of the other major attractions of the industry, from an investor’s point of view at least, is the high dividend yield. Currently, Waste Management has a forward yield of 3.9%, and Republic’s is also quite high at 3%. Waste Management is growing dividends faster than the industry, but not as fast as Republic, averaging 12.7% per year compared to WM’s 8.1%. The payout ratio on WM’s dividend is quite high at 76%, Republic having a little more room to grow dividends than WM with a payout ratio of 59%.

Finally, of the three main waste management companies in the US, WM appears to be the cheapest at the moment looking at TTM P/E. The company trades at 19.55x earnings, compared to Republic’s 20.08x  and smaller competitor Waste Connections’ (NYSE: WCN) rather pricey 26.5x. WM is also cheapest looking at price to sales at 1.24; Waste Connections is again the more expensive play at 2.67. WM has an operating margin of around 15%, and a decent return on equity of 14%.

Bottom Line

I tend to favor low-beta companies that offer essential goods and services and Waste Management is a prime example of one of these stocks, and through its green energy and recycling projects is even helping the world along a bit. The stock offers an enticing dividend yield, increased stability and decent earnings growth potential. As for valuations, the stock looks cheaper than that of its peers, and seems to be trading more or less at fair value.

DUJames has no position in any stocks mentioned. The Motley Fool recommends Republic Services and Waste Management. The Motley Fool owns shares of Waste Management. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus