Republic Services Inc (RSG) 2006 Q2 法說會逐字稿

Good morning and welcome to the second-quarter conference call for investors in Republic Services. Republic is traded on the New York Stock Exchange under the symbol RSG. Your host this morning is Republic's Chairman and CEO, Jim O'Connor.

Today's call is being recorded, and all participants are in a listen-only mode. There will be question-and-answer session following Republic's summary of quarterly earnings. I will provide you with specific instructions for questions later in the call.

At this time it is my pleasure to turn the call over to Mr. O'Connor. Good morning, Mr. O'Connor.

Good morning and thank you for joining us. This is Jim O'Connor, and I would like to welcome everyone to Republic Services' second-quarter conference call. This morning Tod Holmes, our Chief Financial Officer, and Ed Lang, our Treasurer, are joining me as we discuss our second-quarter performance. Tod and I are conducting this call from Charleston, South Carolina, where we are conducting a Board meeting and meeting with our regional management team. This is the fourth time in the last two years that we have held our Board meetings at our regional offices.

I would like to take a moment to remind everyone that some of the information that we discuss with you today contains forward-looking statements which involve risks and uncertainties and may be materially different from actual results. Our SEC filings discuss factors that could cause actual results to differ materially from expectations.

Additionally, the material that we discuss today is time-sensitive. If in the future you listen to a rebroadcast or a recording of this conference call, you should be sensitive to the date of the original call, which is July 27, 2006.

Please note that this call is the property of Republic Services, Incorporated. Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Republic Services is strictly prohibited.

I am pleased to inform you that Republic reported strong performance in the second quarter and continues to exceed expectations for 2006. Specifically, during the second quarter Republic had revenue growth of 8.5% to $780 million. We achieved strong internal growth of 8.5% with 4.9% price improvement and 3.6% volume growth.

Although collection pricing is still leading overall price growth, we are achieving price growth in our landfill network.

We expanded operating margins by 10 basis points to 17.2%. Our pricing discipline was the key driver to our success this quarter. We are achieving price increases in excess of inflation in the general economy, which is an important margin expansion.

Several factors will result in further margin expansion improvement during the year. First, we will continue to see positive results from our safety program, as we have significantly reduced the frequency of claims.

Second, assuming fuel costs stay at current levels, our margins will expand in the second half of the year.

Third, our third-quarter results will benefit from an annual price increase we receive in our franchise markets. The average franchise market increase this year is approximately 3%.

Our free cash flow in the second quarter was $56 million. During the quarter, we continued to return cash flow to our shareholders. In the second quarter, we repurchased 4.4 million shares of stock for $185 million. Year to date, Republic has purchased over 8 million shares for $326 million.

As of June 30, we have $165 million remaining under our 2006 Board authorization, which we will execute by year-end. Since the inception of our share repurchase program in July 2000, we have bought over 59 million shares of Republic Services stock for $1.6 billion.

Republic will raise its quarterly dividend by 14% effective October. Since we instituted a dividend in 2003, we have increased it by double-digit rates each of the last three years.

Our earnings per share in the second quarter was $0.52, which was an increase of 18% compared to the second quarter of 2005. All in all, a real good quarter. At this time, I would like to turn the call over to Tod Holmes for our financial review of the second quarter.

Thank you, Jim. I will begin my review of the Company's financial results by discussing the second-quarter revenue. Again, the second-quarter revenue in 2006 rose 8.5% to $779.8 million from $718.6 million last year.

As Jim indicated, internal growth was 8.5%, of which 7% was from core operations; 3.3% from price; and 3.7% from volume. Now this 3.7% core volume growth includes 1.1% or $7.5 million associated with Republic assuming from a subcontractor the responsibility for hauling Toronto waste.

There is no profit on this contract, or very, very small profit. Therefore, excluding this contract, our comparable volume growth would have been 2.6% and our operating margin would have been 20 basis points higher during the quarter.

Our core volume growth comes from all lines of business, including our residential, commercial, industrial, and landfill businesses.

Total price growth was 4.9%, with 3.3% from core price and 1.5% from fuel surcharges. During the quarter, we continued to benefit from our ongoing price increase strategy, and price and return on investment improvement remain key initiatives for the remainder of 2006.

Also, our internal growth was impacted by a 10 basis point reduction in revenue due to asset divestitures, offset by a 10 basis point increase due to taxes.

Next I will discuss changes in our sequential operating margins. Sequentially, our second-quarter operating margin increased by 60 basis points. The key components of this increase in sequential margins are as follows.

Fuel, negative 50 basis points; risk and health insurance, negative 30 basis points; disposal and subcontracting costs negative 50 basis points; DD&A, positive 40 basis points; SG&A positive 150 basis points; for a total net positive of 60 basis points.

First, fuel. Our average wholesale price per gallon increased about 14% from $2.40 in the first quarter of '06 to $2.73 in the second quarter of '06. Current fuel prices are slightly above the second-quarter average at about $2.79 per gallon.

Second, risk and health insurance. Our risk and health insurance increased as a percentage of revenue primarily due to the seasonal impact of health insurance deductibles in the first quarter.

Third, disposal and subcontracting costs. During the second quarter, we experienced higher sequential disposal and subcontracting costs due to the normal seasonal increase in volumes from our residential collection business.

Fourth, DD&A. The decrease in DD&A as a percentage of revenue is attributable to higher sequential revenue.

Finally, SG&A. During the first quarter of 2006, you may recall the Company recorded $2.7 million of expense or 40 basis points associated with the adoption of SFAS 123(R). In addition, the Company incurred seasonally higher payroll taxes and other compensation costs in the first quarter of '06 compared to the second quarter of '06. The decrease in SG&A as a percentage of revenues is also due to higher sequential revenues. We believe that that SG&A as a percentage of revenue for the remainder of 2006 will be at or slightly below 10%.

Operating income before depreciation, amortization, depletion, and accretion. Sequential operating income before DD&A increased by $12.8 million from $199.3 million in the first quarter of '06 to $212.1 million in the second quarter. Sequential operating income margins before DD&A increased by 20 basis points from 27% in the first quarter to 27.2% in the second quarter of '06.

Now let's talk about our year-over-year margin improvement. Year-over-year operating margins increased by 10 basis points. The key components of our year-over-year margin improvement are as follows.

Fuel was a negative 110 basis points; insurance was a negative 10 basis points; labor, disposal, and subcontracting costs were a positive 80 basis points; DD&A was a positive 30 basis points; SG&A was a positive 20 basis points; for an overall net benefit of 10 basis points.

Now I will briefly comment on these components of year-over-year margin change. First, fuel. Fuel was approximately 6% of revenue during the second quarter of '06. Again, the average wholesale price increased from about $2.17 in the second quarter of '05 to $2.73 in the second quarter of '06.

Second, risk and health insurance. Insurance expense during the second quarter was slightly higher than the second quarter of '05 due to health insurance costs and increased insurance premiums.

Third, our labor, disposal, and subcontracting costs. This is our largest cost category, which was impacted by the improvement in pricing which is clearly visible here. Improved pricing in our collection lines of business, change in mix of revenue, and continued focus on productivity improvements resulted in a substantial margin benefit. Now this benefit was partially offset by higher subcontractor costs due to higher fuel.

Fourth, DD&A. The decrease in DD&A as a percentage of revenue is due to better pricing and higher year-over-year revenue.

Finally, SG&A. During the second quarter of 2006, the Company experienced higher costs associated with its stock option and 401(k) programs. These increased costs were offset by higher year-over-year revenue. Again, I believe pricing came into play here to help us in our margins.

Overall, we believe that the Company will continue to experience margin improvement during 2006 as a result a better pricing and continued focus on cost control. This assumes no change in current fuel prices. We expect that the full-year 2006 margins will exceed those of 2005; and we are on track to achieve that.

Now our second-quarter operating income before depreciation, amortization, depletion, and accretion is as follows. Year-over-year operating income before DD&A increased by $15 million or 7.6% from $197.1 million or 27.4% in the second quarter of 2005 to $212.1 million or 27.2% in the second quarter of 2006.

Next, I will discuss our free cash flow. Free cash flow for the second quarter of 2006 was $56 million. This is based upon cash provided by operating activities of $143 million; less purchases of property and equipment of $80 million; plus the proceeds from the sale of equipment of $1 million; and that is equal to the $56 million free cash flow.

Free cash flow for the six months ended June 30 was a negative $22 million, which is what we had expected at the beginning of the year. This is based upon cash provided by operating activities of $147 million; less purchases of property and equipment of $178 million; plus the proceeds from the sale of equipment of $9 million; for a free cash flow decrease of $22 million.

Our free cash flow for the six months ended June 30 was impacted by $83 million of federal income tax payments related to fiscal 2005 that were deferred until February 2006 as a result of Hurricane Katrina, and also $60 million of payments for fiscal 2005 capital and other expenditures which were ultimately paid in the first quarter of '06.

Our free cash flow is also impacted by the timing of capital expenditures, and we had a little bit more capital expenditure in the first half of the year than we are forecasting for the second half. We continue to believe that our original guidance of $315 million for net capital spending is appropriate despite higher than anticipated internal growth.

After normalizing for these items, free cash flow for the six months ended June 30, 2006, was $133 million. As Jim indicated, we have increased our full-year 2006 free cash flow guidance by $10 million to a range of 280 to $290 million which we expect to exceed our net income.

Items impacting cash balances. During the second quarter of 2006, we purchased 4.5 million shares of our common stock for approximately $185 million or an average price of $41.49. Our actual share count at June 30, 2006, was 133.3 million shares. We have $165 million remaining on our share repurchase authorization.

Republic's balance sheet remains very strong. At June 30, our accounts receivable balance was $302 million. Our Days Sales Outstanding was 35 days. Net debt was $1.485 billion, which is up from $1.173 billion at December 31, '05.

Consistent with our cash flow performance and previous guidance, our net debt to total capital at June 30, 2006, is approximately 50%. Republic remains committed to maintaining its investment-grade rating. Now, I will turn the call back over to Jim O'Connor.

Thank you, Tod. Before providing an update on our financial guidance, I would like to discuss current developments regarding landfill pricing and temporary roll-off activity.

During the last earnings call, I reviewed Republic's strategy for a companywide initiative to raise landfill prices, and highlighted two of our more competitive markets, Michigan and Colorado. I am pleased to report that we are implementing price increases in both of these markets.

Although we have lost some volume, we are generating higher returns in both markets. Approximately 50% of our volumes in both markets are from third parties and are not limited by contractual agreements. The average price increase in these markets is 5% to 7%.

Again, recent economic conditions related to the housing industry have pointed to a slowdown in residential construction. However, an improving market for commercial and industrial construction has continued to drive our internal growth, particularly in the Southern and Southwest regions.

Based on our strong financial performance and internal growth in the first six months, we're raising our financial guidance for 2006. Our new earnings per share guidance is $1.94 to $1.97, up from $1.90 to $1.93. Republic will generate 280 to $290 million of free cash flow in 2006, up from our original guidance of 270 to $280 million.

We continue to be focused on improving free cash flow and return on capital. We're confident that we are on track for our financial performance in 2006. I would like to take this opportunity to thank all of the employees of Republic Services for their dedication and hard work, which resulted in a strong second quarter.

Operator, at this time, we will open the call for questions.

(OPERATOR INSTRUCTIONS) Scott Levine with JPMorgan.

I was hoping you'd be able to talk a little bit about trends in landfill construction costs. I know you said they were up significantly in the first quarter and the CapEx guidance is remaining where it is. Have you seen any abatement there? Or is the trend pretty much the same as it was in Q1?

I think we saw the increases in the latter part really of 2005 rolling into 2006. I think they are relatively status quo. I don't think we have seen any significant price changes on any of our liner materials here going into the third quarter.

Okay. On uses of free cash as well, you hiked the dividend here, and you had an aggressive buyback in the first half year. So I'm hoping you might be able to talk a little bit about your thoughts there on uses of cash, and [upping] the repurchase versus dividend, what kind of things you are looking at.

Well, obviously, we look at all of the opportunities whether they are acquisitions, organic growth that we are experiencing in the marketplace, for utilization of those cash balances.

Historically, we have looked to share repurchase as the cornerstone for the utilization because of the lack of value existing in the acquisition marketplace. But I think too, historically we have addressed share repurchase for the upcoming year, in this case 2007, we would do in the third quarter call.

Michael Hoffman with Friedman, Billings, Ramsey.

Congratulations, nice (multiple speakers). Jim, in the past few months, you have been noted as observing that (technical difficulty) a predominantly price-driven recovery that Republic would probably begin to lag its peers, given the mix of the business, although we look like we are sort of enjoying both price and volume at the moment.

Do you have a sense, as you look at the structure of the volume that you are getting, particularly in the commercial construction, do you get a sense of that sort of rising to a peak and leveling off? Or is it still continuing to rise? Though (technical difficulty) an ongoing strong volume environment coupled with much improved price (technical difficulty) a while?

In general, the construction and demolition collection and disposal market is relatively strong. As far as it relates to the various components of that, whether it is commercial development or residential development, we have not yet seen any downturn in the residential construction. Now obviously, all the forecasts say that we will see that, but we have not yet.

We do see an escalating or a strengthening in the commercial construction market. So right now, I guess we feel very good going into 2007 that the volumes will -- if they do slow or stabilize on the residential side, would probably -- at this stage, what we're seeing, -- be made up by commercial construction.

With regards to the repositioning of assets that has been talked about in the marketplace (technical difficulty) by Waste and Allied, at this juncture (technical difficulty) an opportunity for your participation? And sort of a corollary to that, (technical difficulty) see any real activity occurring (technical difficulty) don't participate?

You know, I don't see any material activity here. We continue to have discussions. I think probably more important, obviously, those are things that we can't necessarily control. You know, there are two parties to those transactions. But the things that we can control are a focus on pricing in those marketplaces. I think you can see from my comments, in Michigan and Colorado we have been fairly aggressive, I think, in leading the disposal market there.

We are starting to move price -- again based on our first-quarter review, and our continued focus into the second quarter and third, to move landfill pricing across the country.

So where we maybe don't have appropriate integration, or where our competitors don't, while we would like to see possibly some movement in those marketplaces, we are continuing to focus on price and moving returns on the marketplaces via price. Again, I think the movement here is going to take multiple years as far as the rationalization of markets.

Jamie Cook with Credit Suisse.

Nice quarter. My first question, Jim, could you just talk -- ? You made some -- the comments you made on landfill pricing obviously are much more encourageable than you made last quarter, and even when you presented at our conference in June.

So I guess, can you just speak more broadly about landfill pricing outside of Michigan and Colorado? What you are seeing, the rates of increases in those markets, and whether you have had to be the price leader, or what your competition is doing.

I think we are starting to see the competitive marketplace move pricing up. Now, it is not necessarily consistent in all markets. But again, I think we are starting to see that the competitive market is starting to move, which is causing us to move.

I think it is reflected even in the comments I made about Michigan and Colorado. We moved pricing, I think fairly significantly, 5% to 7% on average; and we had minimal volume dislocation. So, that talks, I think again, to the rationale in the marketplace.

So on a broader base, we're continuing to focus on it. I think I said last quarter that this is a -- because of some of the contractual relationships that exist in our landfill and transfer disposal revenue segment, that it will take us anywhere from eight to 12 quarters to really realize all of the value that should be extracted from that particular component of our revenue.

What are you seeing? I mean, can you talk a little bit about the collection side of the business, whether you are still seeing -- how pricing is in that market, and whether the magnitude is accelerating or not?

Well, I think that whether it's accelerating or not, I think it is pretty strong right now. I think my comments have been consistent here that we feel that we can maintain or get margin improvement if it were 50 to 100 basis points above CPI.

I think by the looks of our price increase this quarter, we are experiencing that in excess of CPI, within that range. That is what is giving rise to some of the margin that we are seeing right now.

You know, if you discounted -- Tod mentioned the Canadian waste stream. If you discounted the Canadian waste stream, we would not have had 10 margin points improvement, we would have had 30. And remember, that is just an accounting presentation that we had to change because we changed the terms of the contract. Before it was netted in expense; and now it's shown in revenue and expense; and that has an impact on margins. But it doesn't really change the overall core business.

So again, a 30 basis point improvement I think is pretty strong, and we expect to see better margin improvement by year-end, assuming that we see fuel remain constant at the levels that it is at today.

So all in all, collection pricing is still good. We're still seeing good, I think, results in the area of retention, which again, I think talks to the rationale in the marketplace. So if I were starting to see retention numbers starting to change or move upward, then I would be a little concerned. But I don't think that is the case. So that tells me that I think the market is participating.

Bill Fisher with Raymond James.

On the CPI on the franchise business, you mentioned it was up around 3% on average. Do you have a sense of what it was up year-ago, if that is improving?

I was going to say 2.5%, maybe 2.7% depending on the markets. So it's a little higher; so there is a little bit of the historical fuel built into it.

Okay, then on special waste, are you seeing -- I know that is more of a one-off bid type of thing; but are you seeing more activity there and better pricing in that stream?

Not necessarily. I mean I think we are starting to try to drive our own people to higher pricing. But it is still very competitive.

I guess if there was anything that was a little bit soft out there, it is probably special waste. So I don't know, really. While we had I think relatively good volumes here, I think they were not as good as we have seen historically.

I think some of that, I think, Bill, would be due to what we saw out on the West Coast. If you are familiar, we have got three facilities out in Northern California. They have had historic records of rainfall in the latter part of the first quarter, going into the second quarter. When I say records, I mean they have had like 26 or 27 days of rain. I think it is the largest continuous rainfall since the Gold Rush out there.

A number of special waste projects in that particular region have been deferred because of the inability to get at the material. So maybe that is some of the reason we are seeing some weakening, because we did experience some drag out there in the Pacific Northwest.

Lorraine Maikis with Merrill Lynch.

Can you give us an update on the situation in Canada? I guess just talk through the rationale of taking on that subcontracting business and also some of the recent regulatory changes that we have seen.

Yes, one of the reasons for renegotiating the contract was -- there were a couple of reasons. One, since 9/11 there has been, obviously, a tremendous amount of activity in inspection and slowdown at the border, which caused some additional costs to be incurred. So those situations had to be amended for in the contract.

We had rising fuel costs. We had the concern that because of 9/11, that potentially Michigan would implement some sort of taxing that would be discriminatory, which would cause some issues. So basically, that is what led us to renegotiating the contract and securing a new subcontractor in the marketplace.

As it reflects to the threat that we continue to read about -- or that gets exploited predominantly up in the Michigan press -- and that is further restrictions on Canadian waste entering the U.S., we don't really see -- based on the legislative efforts we have and our national association has -- any immediate legislative threats.

You know, we don't see, really, any danger that some of these threats that Congress will enact further legislation will actually take place. The current projection is I think that most of the immediate threats will not be enacted into law. If they are, from what we have seen of them, they are really not fatal to our business.

Due to the renegotiations, I think that a number of those things have been -- that we have renegotiated will protect us going forward.

What is the percentage of your customers who are now surcharged for fuel, and what proportion of your costs are you recovering?

I don't have the exact percentage here, Lorraine. I would say that of those customers that we have discretion over, that we have probably got in excess of 80% of those customers under fuel surcharge.

Thank you.

Corey Greendale with First Analysis.

First question, on the Toronto, the accounting change, with taking that on. Is there a full-quarter impact of that in Q2? So can we use that volume and margin impact going forward, or could that be larger because there was a --?

Yes, it is about $7.5 million full quarter. The contract change occurred in late March, so what I gave you there was -- that 20 basis points was the full quarter.

Okay. My second question was on the CapEx side, Tod, that you talked about the landfill development costing up, and internal growth higher than you anticipated. But you said you're comfortable with the $315 million still in CapEx. So is there somewhere else that you're cutting? Or how are you able to keep that within (multiple speakers)?

Actually, when we built our business plan, we had anticipated the higher landfill cost, the higher liner cost. As Jim indicated, we were seeing that in the fourth quarter. So I don't think the landfill cost is really a factor.

You know, we continue to allocate our assets carefully and look at the assets that we are buying. So there is really not, I think, any significant cutting that we're doing.

Again, our fleet age is probably in that six and a half year range for the total fleet. We continue to reinvest in the business and provide replacement containers. So you know, we are not cutting anywhere.

Leone Young with Citigroup.

Can you discuss the profitability of the commercial industrial versus the residential, and whether you see independents sort of moving from residential over to the commercial side, and therefore maybe putting pressure on, I think, what has typically been a more profitable piece of the business?

Why don't you give me that question one more time?

I apologize. You had talked about if there was signs of slowing it was on the residential side; but the commercial and industrial was escalating or stronger. Can you just discuss the relative profitability between those two segments?

I think they are very similar. Again, they utilize the same equipment, and we price to market whether it is residential or commercial. So I mean, as long as the overall volume in our markets is maintained, the pricing should be maintained and should continue to escalate.

So it is really not so much the mixture there in that particular component, the construction demolition component; it's as long as the volume holds up.

So if one is weakening and one is strengthening, and we have got a neutral volume position or slight growth position, we will be able to maintain price and we will be able to continue to escalate it.

So it really doesn't -- I don't really think we're going to see anything that is driving one versus the other have an impact, as long as the overall volume is consistent or growing.

Also remember the construction piece of our total revenue is relatively small. So it is not -- it is a single digit number for both commercial and industrial construction; so it's not a significant impact on the total business.

Great, that's helpful. Also, could you remind us on the landfill side, as you look across your system, about how much is third party versus contractual?

Well, our landfill volumes in terms of what is coming into our site, half of the volumes are coming in in our own trucks.

Okay, that was the 50% you mentioned?

Well, no, actually, I think that is cutting the pie a little bit differently. Total gate volume, half of it is on our own trucks, and half of it is in third-party vehicles. Then, when you look at the third-party vehicles, half of that, so 25%, is what was subject to the price flexibility.

In Michigan and (multiple speakers).

In those two sites.

Yes. And then the other component -- [unless] we get our percentages right here. 50% of the volume in those two states is third-party volume. Half of which, where we effectuated the rate increase. The other half is under contract and is either index priced or contractually priced. All right?

So we are getting even price increase on that, but not as great as the 5% to 7% that we received in that one-quarter of our -- or one-half of our third-party business.

Scott Schneeberger with Lehman Brothers.

Jim, you mentioned one of the margin expansion drivers was the safety program. Could you just give us an update on what inning you would say you are in the materiality of that? How much benefit can you continue to get from those initiatives?

Well, I mean, I think, you know, these are -- remember, we started back a number of years ago with a focus towards safety and prevention. We actually engaged DuPont Safety Group to assist us in changing really the mindset of the Company.

I think since that time, the organization has committed itself to having a safe work environment. I think because of that, and because of that mindset that we have, we have seen a significant improvement in frequency.

These are long-term programs. We really don't even see some of the benefit of the fewer claims and less severity for several years in our actuarial numbers. So we would anticipate the actuarial component of risk to start coming down as severity starts to drop and frequency starts to drop and those enter into the actuarial's equation.

I would add that the total risk cost for the Company, including health and auto liability, general liability, and workers comp, was in the range of about 5.5%. If you go back over time, it was over 6%.

As we look at it, to Jim's point in terms of the actuarial assumptions and the lag impact of our safety program on those actuarial numbers, we think that the cost should continue to come down in the second half of this year and continue into '07 and even beyond.

So it may bounce around a little bit depending on whether we have any significant accidents. But we believe it's going to be in the low 5s; in some quarters, it could be below 5%. So there is a substantial opportunity for the Company still ahead of us here.

We went for the whole first half of the year without a fatality, which in comparison to '05 we had almost 14 fatalities. So again that alone, I think, is a significant improvement and really talks to, I think, the organization's focused safe work environment. Which ultimately I think will be reflected in the financial statements; but more importantly, I think is a better work environment for our people.

Great, thanks. Sounds good. Specifically on SG&A, conditions seem very good, especially the pricing. How far below 10% can you let that margin go?

If you go back in this business a number of years, there was all kinds of talk about 7%, 8% SG&A. I think we have always indicated that something in that 9% to 10% range is appropriate.

We firmly believe that we need to reinvest not just in our systems, but in our people and training our people. So while you can pull SG&A down if you want report a good quarter or two, or make a year in terms of some Street expectations, our view is a longer-term in the business. Again we feel very comfortable in I would say the 9% to 10% range, depending on seasonality, depending on pricing.

One thing that is very clear this quarter, when we look at our big cost categories, those that are 10% of revenue or more, which would be the labor cost, disposal cost, the SG&A cost, we have seen the impact of better pricing there. I think that is the key driver in terms of the margin expansion.

Again, to SG&A too, we are a relatively new Company. We are continuing to reinvest. Tod mentioned training is still very important to us. We're still trying to extract all the value to some of the tools that we have implemented in the field over the last several years.

We just went through a rewrite of our procedures and policy manual to really reflect where the organization is today. So there was a significant investment there.

In the second half of the year, we are going to have to develop some systems to act as the gatekeeper for the policies and procedures area.

We are going to have to come up with further compliance training, in addition to what we already do, but compliance training related to the procedures and policy manual will have to be developed in the latter part of this year for implementation in '07.

So those are all the kinds of expenses that kind of go with a company that is relatively new. While I think at some point in time we will start to see some leverage, I don't think we will start to see it for the next several years.

Nigel Coe with Deutsche Bank.

Can you talk about pricing? I think you mentioned that you related pricing to CPI. You talk about a target of 50 to 100 basis points in excess of CPI. Do you think that is sustainable, or would you expect pricing over time to come down nearer to CPI?

Yes, I think is sustainable. Again, I don't think it is something that is going to cause dislocation, whether it's in the collection business or the transfer and disposal unit of our business. So yes, I think is sustainable. I mean, it is sustainable as long as the market conditions exist and the market is rational. I don't see any reason why that won't remain to be rational.

I think I know everyone is concerned about the construction and demolition market, and what happens if the -- that we see some weakness in the residential construction market. But I think just because of where we are at, and where the market is at, and where I think the competitors are at in the marketplace, and how we have been rationalizing markets and price, I don't think we will see as much cyclicality enter into the construction and demolition market even if it does drop off. Which we haven't seen any signs of it dropping off at this stage.

One more question, operator.

Steve Kohl with Matador Capital.

Congratulations on a good quarter. Two quick ones. I know somebody asked earlier just about what was going on with the Waste and Allied divestitures. Maybe you could just spend a second, Jim, just chatting about other opportunities. I know you haven't done or we haven't seen too many deals there. Is that environment better or worse, and how do you characterize that in the last six or 12 months on that front?

We continue to look for opportunities, and we have got several opportunities that we are doing some diligence on today. I don't think they are material to our results, but we continue to look to strengthen the infrastructure of the Company.

We have looked at a lot of opportunities that just don't appear to produce any significant value; and therefore, we pass. I think it is, again, reflective of the discipline I think we have had for the last four or five, six years here at Republic, that we're focused on creating value. And that is the only thing we are focused on.

As it relates to the portfolio of businesses that Waste Management has, we continue to review them. We, I don't think at this particular time, have anything that is material in the works there.

You know, while we have looked at a number of other larger acquisitions, again we just don't see how they complement our organization and business platform; nor do they show significant or acceptable returns to us, Steve.

So that is a discipline that we are going to continue to bring to the marketplace. We are going to continue to -- I'm going to continue to drive through our organization that we are just not going to chase this stuff. And there is really not that much out there as well.

So I think we will see more market rationalization. I have said this before, I think some of these larger urban markets probably do need to be rationalized. I have seen some pieces written by some of the sell-side that say that they think that should occur. I don't necessarily disagree with them, but again I think those are large waste sheds, and they take a long time to rationalize.

Great, thank you very much, and a good quarter, guys.

Thanks. Okay, operator. We will end there. Thank you for your assistance. I would like to remind everyone that a recording of this call is available today and tomorrow by calling area code 203-369-3606. Additionally, a recording of the call will be available on Republic's website at republicservices.com.

Again, thank you for spending time with us today. Have a good day.

Thank you. That concludes today's conference. You may disconnect at this time.