This Trash Hauler's Key Takeaways From Q4
Howard is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
With trash volumes flat and the ability to raise prices almost nonexistent, waste service providers have faced an uphill climb during the past couple of years. Unfortunately, the fourth-quarter earnings Republic Services (NYSE: RSG), one of the industry’s Top 3 players, reported on Feb. 7 show that little has really changed over the past several months -- and little improvement is expected in early 2013.
RSG’s results, and why they matter
Since the onset of the Great Recession, a slowdown in housing and commercial construction, weak retail spending, and trends like diminished newspaper circulation and the use of less packaging in most consumer goods have all contributed to the waste sector's woes. More recently, weak recycling commodity pricing has also hurt the industry.
Republic’s report, following a 90-day period in which its stock rose nearly 19% to levels not seen since last spring, took analysts slightly by surprise. The company fell short of expectations on profit, which dipped to $0.37 a share ex-items, from $0.51 a share a year earlier. It did slightly beat on revenues, which were essentially flat year over year. But officials also lowered 2013 guidance, projecting that current economic conditions would prevail during the next 12 months. In response, shares dropped as much as 3%.
With Republic being the first of the industry giants to report, much of what it said in its announcement and follow-up conference call will be instructive to investors who watch the field. Waste Management (NYSE: WM), which together with Republic attracts about 40% of all U.S. spending on trash disposal and owns about two-thirds of the country’s landfills, reports Feb.14.
Waste Connections (NYSE: WCN) is scheduled to report Feb. 20. It's often treated like an afterthought to the two market leaders, even though it, too, has considerable market share in a field where established relationships with municipalities, lengthy contracts, and costly rolling stock create significant barriers for expansion.
Progressive Waste Solutions (NYSE: BIN), a Canadian firm that serves about 25% of the U.S. and about 60% of its home country, and Paris-based Veolia Environnement (NYSE: VE), which offers services worldwide, comprise the remainder of the U.S. market, along with a number of regional firms.
During the previous period, both Republic and WM reported disappointing results and cut full-year 2012 guidance. WCN proved an outlier, reporting third-quarter net income and revenue above the Street's expectations. Even so, the period marked the fifth straight quarter that its margins had contracted.
Tackling just that issue, WM and Republic have been restructuring to lower their costs. Nonetheless, analyst expectations were low going into Republic's fourth-quarter earnings — and Republic proved that they weren’t quite low enough.
The good news
Republic did manage to offer a few slivers of good news. It revealed that Q4 core pricing was up 1.1% from the prior year, with increases in all business lines. This was slightly ahead of the 0.8% increase the company experienced for the full year, and in line with its own projections. Officials also said they believe the industry was beginning to emerge from the pricing “trough” it has been mired in since the economic downturn began.
Additionally, Republic said it expected 2013 sales growth of 2%-2.5%, core price improvement of 1%-1.5%, and adjusted per-share earnings of $1.86-$1.91, all better than 2012. This EPS guidance, however, was a little below what the company had offered in Q3.
Finally, the company noted that its recycling business continued to grow, with Q4 recycling facility tons up about 3.5% over the prior year. It also said “temporary roll off business hauls,” which relate to construction demolition, were up over 5% in Q4, although this is coming off a very low 2011 base.
The bad news
This is where the rubber really hit the road. Republic said volumes dropped 0.8% in the quarter and 1% for the full year, although it posted some improvement in commercial and industrial lines over the previous quarter. However, it projected “relatively flat” volumes in 2013 with little growth from Hurricane Sandy-related demolition and rebuilding. “We're not heavily engaged in that part of the country,” management said.
Overall results were hit by a decline in landfill and transfer station volumes, the company said, along with municipal contract losses and ongoing competitive pressures in several key regions including the huge Los Angeles market. “We are seeing some lower pricing levels, on average, on those contract renewals,” Republic executives noted. This is expected to continue, they added, as municipalities face growing pressures in coming years and continue demanding better deals through price reductions by threatening to switch providers.
Republic also said recycling commodities fell 0.8% in Q4 and 1.2% for the year, 2012 revenue was down more than 9% from 2011, and 4Q12 margins dropped 340 basis points from the prior year as a result of fuel and commodity pressures along with labor costs.
Additionally, it noted that while housing construction and business improvement did offer promise, benefits from either were not imminent. Housing construction doesn’t lead to increased waste disposal for as long as 12 months, for example. “We've got to see these housing starts turn into finished houses,” officials explained. “That's where the waste is generated.”
The bottom line
The decline in Republic’s volumes for the quarter and the full year, and its projections for flat volumes in 2013, do not bode well for competitors WM and Waste Connections. The lower volumes seem to indicate that there is not yet a reversal in the downturn that has plagued waste companies for the past four years. And even the fledgling uptick in housing construction and business development in recent months may not provide a boost for several quarters at the minimum. The continuing drop in recycling commodity pricing is also troubling, as all providers derive profits from it. When volumes aren’t rising, this has proven significant.
Republic’s weak pricing shows that competition remains hot, and the pressure for better deals by municipal customers obviously continues to impact margins as well as volumes. WM and Waste Connections are not likely to escape this, either.
All of the best news seems still months away for all of these firms. Hurricane Sandy renovation may yet prove a boon to WM and Waste Connection, but that’s also not likely to be seen until the first quarter of 2013 and beyond.
For now, investors looking for short-term winners may still find their best options elsewhere.
TheChiefToo 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!