Clean Up With These Dirty Stocks

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

Waste Management (NYSE: WM) is not a name that gets thrown around too much.  After all, how profitable can you be if you deal in trash?  Turns out you can be very profitable.  In fact, the company may be seeing its best years ahead and here's why.

On a positive note, the first reason is that their fixed residential income segment is increasing with the gains seen in the housing market recently.  I expect this trend to continue for several years.

But on a tragic note, super storm Sandy caused a lot of destruction.  People need to clean up and who's job is it to haul all that stuff away and dispose of it properly?  Why Waste Management's of course.  Once everything is cleaned up then we have the reconstruction boom.  Construction debris will now increase in volume over what it had traditionally been.  Now couple that with the housing recovery and that spells a lot of cleanup.  Good things are on the horizon for Waste Management, so should we jump in?  Well let's make sure it's a good buy at these levels first.

Figure 1 shows all the vital statistics.  With a P/E of 18.28 vs. an industry average of 18 it seems to be in line. It has a yield in line with the industry as well with a 4.20% vs an average of 4.50%.  However, its payout ratio is 76% vs an average of 80%.  It's also consistently raised dividends in the past and most likely will continue to do so in the future. The company is an out-performer in terms of profit margin, ROA and ROI when compared to its competitors.  Just for an extra comparison I also included the stats for Republic Services (NYSE: RSG) which is WM's largest competitor.


<table> <tbody> <tr> <td>Valuation</td> <td>WM</td> <td>RSG</td> <td>Industry</td> </tr> <tr> <td>P/E</td> <td>18.28</td> <td>17.5</td> <td>18.00</td> </tr> <tr> <td>Yield</td> <td>4.20</td> <td>3.10%</td> <td>4.50%</td> </tr> <tr> <td>Payout Ratio</td> <td>76%</td> <td>52%</td> <td>80%</td> </tr> <tr> <td>Net Profit Margin 5 Year Average</td> <td>8.00%</td> <td>7.80</td> <td>5.00%</td> </tr> <tr> <td>Return on Assets 5 Year Average</td> <td>4.90%</td> <td>2.40</td> <td>2.90%</td> </tr> <tr> <td>Return on Investment 5 Year Average</td> <td>7.20%</td> <td>3.30</td> <td>4.70%</td> </tr> </tbody> </table>


Waste Management has just completed a round of capital spending which is going to benefit their fast growing recycling sector.  While the capital spending may put a damper on the next quarter or two it should prove to be a great investment over the long run.  Especially when you consider the amount of recycled materials that Waste Management deals in has been up 67% since 2007.

Solid waste volume, stronger pricing, and the completion of an oilfield waste management company which should increase profitability are all reasons to be bullish.  Given the $2.28 estimate for next year and the 18.28 PE ratio (in line with the industry) that puts us at $41.67.  However, I wouldn't be one bit surprised if we saw those estimates rise just a bit in the near future.

It's pretty hard to top landfills in terms of dirty stocks.  But those that have driven by a manure plant on a hot summer's day know that fertilizer can be less than aromatically pleasant. 

Terra Nitrogen (NYSE: TNH) and CF Industries Holdings (NYSE: CF) aren't your typical fertilizer plays. They form a symbiotic relationship that has given them the power to increase market share significantly.  One pays a healthy dividend and the other has its sights set firmly on growth.  So how and why does this team work together?

It all started with a large purchase of Terra Nitrogen by CF Industries.  The end result was a near 100% payout ratio from Terra Nitrogen to its parent company CF Industries.  Normally I'm against high payout ratios but in this case CF Industries gets much needed capital for expansion and M&A while Terra Nitrogen gets the support and insulation from its much larger parent while still maintaining some autonomy.  On top of that, Terra Nitrogen is highly profitable, has zero debt, and $180 million in cash on hand which are all key components to sustaining a high payout ratio.  So even if there is a quarterly miss, the dividend payout shouldn't be in jeopardy.

Both companies I believe could possess potential for long term plays in the ever growing fertilizer market. However, they represent two distinct approaches to long term investing.  One aims to create monetary gains through expanding operations, therefore increasing revenue, and consequently, the stock price.  The other seeks to return current income to the investor in a more timely manner.

So which is the better choice between the two?  One important factor makes Terra Nitrogen the winner in my book. Terra Nitrogen is still expanding its own operations as evidenced by the 13% capital re-investment rate.  Compare that to the industry average of only 8%. Making this company both a growth story and a solid dividend payer.  Looking at a 3 year chart of both companies (Figure 2) we can see little divergence between the two.  

Figure 2:

<img src="/media/images/user_14634/tnh-and-cf_large.png" />


On top of the 150% return in stock price, with Terra Nitrogen you would have been making around 7% in dividends.  With a dividend re-investment plan (DRIP) that adds up to Terra being the clear winner.

With a $14 billion market cap CF Industries is going to find it more difficult to grow in this competitive space. But with only a $4 billion market cap Terra Nitrogen has room for near exponential growth.

Finally, Terra Nitrogen boasts a superior 5 year net profit margin average of 43.50%.  Compare that to the industry average of 17% and we can see that management takes their margins very seriously.


Fertilizer is a growth industry.  Increasing population, a growing global middle class, and higher quality diets are all key macro components that will benefit this sector.  Terra Nitrogen looks to be fundamentally sound, growing consistently, and paying solid dividends.  Though the small cap nature of this stock might lend itself to some large percentage swings over the long run this looks to be destined to go higher while paying you handsomely the whole time.

Lulupoopsalot has no position in any stocks mentioned. The Motley Fool recommends Republic Services and Waste Management. The Motley Fool owns shares of CF Industries Holdings and 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!

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