Feb. 13, 2020 was an exciting day in the solid waste sector. That morning, the #1 trash hauler and landfill operator in North America, Waste Management (WM 0.22%), disappointed Wall Street with lackluster fourth-quarter 2019 earnings. After the market closed, it was #2 Republic Services' (RSG 1.05%) turn, and the market had a much better reaction.
Not only did Republic Services beat earnings estimates, but its shares also rose a modest 1.5%. Here's why the #2 came out on top this time.
Republic Services outperformed its top rival in Q4 thanks to its lower percentage of recycling revenue. Image source: Getty Images.
By the numbers
| Metric | Q4 2019 | Q3 2019 | Q4 2018 | % Change (YOY) |
|---|---|---|---|---|
| Revenue | $2.58 billion | $2.65 billion | $2.53 billion | 2% |
| Net Income | $289.3 million | $298.3 million | $301.0 million | (3.9%) |
| Adjusted Earnings Per Share (diluted) | $0.91 | $0.91 | $0.80 | 23.8% |
| Cash from Operations | $565.2 million | $651.3 million | $495.9 million | 14% |
DATA SOURCE: REPUBLIC SERVICES, INC. YOY = YEAR OVER YEAR.
Republic Services' revenue increased slightly on a year-over-year (YOY) basis. Net income fell slightly, but that number includes $90.5 million in one-time charges, including asset impairments and damage related to an October fire at one of its recycling centers. Adjusted earnings per share, which strip out these charges, were up 23.8%. The company continues to churn out plenty of cash, increasing its operating cash flow by 14% YOY. The strong quarterly performance allowed the company to exceed its 2019 guidance for adjusted free cash flow and earnings per share.
Revenue was up across all business categories except one: recycling. Recycling commodity prices took a nosedive in 2018, when China stopped accepting U.S. recyclable plastic waste. Since then, they've steadily declined, and the major trash hauling and landfill companies -- all of which also handle recyclable waste -- have struggled to adjust prices to make their recycling operations profitable. In Q4, recycling commodity prices dropped sharply again. Luckily, recycling only makes up about 2.7% of Republic Services' revenue.
Recycling (second columns from right) was the only segment to see a year-over-year revenue decline in Q4 2019. Columns designated "net" are exclusive of inter-company revenue. Data source: Republic Services, Inc. Chart by author.
As you can see from the chart above, the bulk of Republic Services' revenue (about 75%) comes from solid waste collection. Recycling is such a small part of the company's overall revenue that the decline barely registers. On the other hand, recycling accounts for about 5.6% of rival Waste Management's revenue. So even though the companies' recycling revenue fell by about the same amount -- roughly 23% -- from the prior year, it had a bigger effect on Waste Management's top and bottom lines.
What management had to say
In a press release, CEO Donald Slager was clearly pleased with the quarter's results, and promised more of the same in 2020:
The Republic Services team finished the year strong, and we are well-positioned for continued success in 2020. By focusing on delivering superior service to our customers and increasing employee engagement, we profitably grew our business and outperformed our adjusted EPS and free cash flow guidance for the year. In 2019, we invested over $525 million in value-enhancing acquisitions to expand our leading market position and increase the scale of our service offerings. Our acquisition pipeline remains strong, and we could see another outsized year of investment in 2020.
2020 outlook
Republic Services' management released full-year guidance for 2020 along with the Q4 earnings report:
- The company expects full-year adjusted diluted earnings of between $3.48/share and $3.53/share. That would be an increase of between 4.2% and 5.7% over 2019's $3.34/share. However, management anticipates that adjusted free cash flow will be roughly flat at around $1.2 billion for 2020.
- Revenue is expected to see an increase of between 4.25% and 5.00%. Management expects to get there primarily through a 3% increase in yield and a bump in volumes of between 0.75% and 1%. It sees the effect of lower recycling revenues as having a minimal top-line effect of negative 0.25%.
- Adjusted EBITDA margin is expected to expand by about 20 to 40 basis points.
- The company anticipates spending about $200 million on tuck-in acquisitions and another $120 million on solar energy investments that qualify for tax credits.
- The company's board maintained Republic's quarterly dividend at $0.405/share, but the company clearly anticipates a 2020 increase, projecting a $525 million dividend payout in 2020, compared to 2019's $491.2 million. It also expects to repurchase $400 million of the company's shares.
A question of value
Once again, Republic Services turned in a solid quarter and was rewarded by the market. However, it's worth asking if the market hasn't already rewarded Republic Services a little too much in recent years. The company's share price has grown by 154.8% over the last five years, well outpacing the company's top-line and bottom-line growth. Shares are trading at 29.9 times earnings, near the high end of the company's historical average. Republic's enterprise value-to-EBITDA ratio, which strips out depreciation, is at a 10-year high of 14. That's nowhere close to a bargain.
While a booming population, high barriers to entry, and solid waste disposal's status as a recession-resistant industry look good for Republic's long-term growth prospects, if shares push above 30 times earnings, value investors may want to watch from the sidelines.
