‘Trash Talk’ Now Mostly Positive
Howard is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Talking trash might get you into trouble on the basketball court, but in investment circles it might make you some money. That’s because the Big 3 waste service firms — Waste Management (NYSE: WM), Republic Services (NYSE: RSG) and Waste Connections (NYSE: WCN) — are all riding a positive wave that I expect to continue.
As the trio prepares to announce second quarter results at the end of July, the segment continues outperforming the market on both improving numbers and higher expectations going forward. Because of that, market sentiment has accelerated during the last three months and shares of all three are up between 15%-21% this year.
Waste Connections has been the biggest gainer since first-quarter results were released. This continues a string of wins over its peers during the last several quarters, despite its lack of presence in the increasingly important energy-conversion space. A concentration on second-tier cities instead of the major metropolitan areas served by its chief competitors, and last fall’s acquisition of a company that serves the potentially huge oil-and-gas waste-disposal market, have definitely struck a chord with investors.
Waste Management and Republic continue to be the industry’s top dogs, fielding impressive networks of collection, disposal and recycling operations along with their own landfills and aggressive energy-conversion programs. The combination has proven a winner despite lackluster volume growth and soft pricing for recyclable commodities.
Before second-quarter performance is reported, here’s a reminder of just where each of these companies has been heading.
The biggest in the business, Waste Management also remains the most appealing of the segment to me. Recent revenue gains have been negligible, rising just 1.2% year over year in the first quarter after a 0.8% increase in the fourth quarter of 2012. And earnings actually fell 1.8% during the first three months of the year, after missing estimates in the previous quarter. But these shortfalls come from restructuring charges designed to achieve savings and increase yield, and so aren’t as bad as they look.
In fact, the company says these restructurings are starting to bear fruit, and it is on target to achieve the savings expected from them. Additionally, it has raised landfill prices by an average of 5%-7% and implemented new rebate structures in its recycling operations. The result led to core price increases during the first three months of the year that were about double what management had projected earlier for the full year, keeping Waste Management on track to meet the positive 2013 outlook it issued in January.
I’ve been somewhat skeptical of this company’s plans in the past, but must admit that its recent performance has turned me around. The smallest of the Big 3, it has taken its own route and is definitely making it work. In the first quarter revenue rose 20%, profits jumped 26% over the previous year, and both beat analyst estimates. Waste Connections was accordingly the sector’s best performer over the past three months, with its stock up 13% while its peers (as well as the S&P) were up less than 3%.
The company has benefited from improving fundamentals, which are still getting a boost from Hurricane Sandy demolition and renovation activity. An even bigger upside — along with an immediate revenue boost — has come from an acquisition last fall that gave Waste Connections a major position in the newly permitted business of waste servicing for oil and gas exploration and production firms.
This company remains a solid performer with a terrific underlying infrastructure. Revenue has been stagnant, rising just 0.8% year over year in the first quarter after being flat during the prior period. But net income during the first quarter was up 19% ex-items on internal growth and sequential improvement in core pricing and volume. And the results led the company to state in April that it remains on track to achieve its previously issued full-year guidance.
But this remains a long-term play because, like Waste Management, Republic recognizes that its trash can ultimately be turned into treasure. It is accordingly laying the groundwork to stake a major claim in the business of converting waste into energy through incineration and tapping gases produced by landfills — a business that will only grow as technology and demand improve.
Two others to watch
Because the segment is looking so positive, two related firms should also be on investors’ radar. Each fulfills a slightly different need and does it well.
Stericycle (NASDAQ: SRCL) is a leader in specialty disposals, particularly medical waste. Coming off a strong 2012 it reported first quarter revenues rose nearly 12% year over year — partly through acquisitions — while gross profit was up 13% and margins improved. Its stock has done as well as the Big 3 so far this year and may do even better now that Waste Management has announced it will no longer process medical waste itself and instead outsource that service to others like Stericycle.
Clean Harbors (NYSE: CLH) services disposal needs of several specialty industries, the most important being oil and gas. It, too, has been growing by acquisition and in the first quarter its revenue jumped 51% year over year thanks to its December purchase of a leading oil collection and environmental services firm. Income dropped because of the $1.25 billion deal, but the company says resultant synergies will provide a better than expected $70-$75 million in savings by the end of this year. A backlog of ongoing and upcoming projects also adds to optimism for the second half of 2013 and beyond.
The bottom line
Assuming the economic recovery continues and prices for recyclable commodities rebound somewhat, observers expect a return to double-digit volume growth for all players by next year. Pricing continues to improve and business direction appears to be solid.
My conclusion: the long-term outlook remains positive for this segment.
The Motley Fool's chief investment officer has selected his No. 1 stock for this year. Find out which stock it is in the special free report: "The Motley Fool's Top Stock for 2013." Just click here to access the report and find out the name of this under-the-radar company.
Howard Rothman has no position in any stocks mentioned. The Motley Fool recommends Republic Services, Stericycle, and Waste Management. The Motley Fool owns shares of Clean Harbors 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!