Republic Services Inc (RSG) 2007 Q1 法說會逐字稿

Good morning and welcome to the first quarter conference call for investors and Republic Services. Republic is traded in the New York Stock Exchange under the symbol RSG. Your host this morning is Republic Chairman and CEO, Jim O'Connor. Today's call is being recorded and all participants are in the listen-only mode. There will be a questions-and-answer session following Republic's summary of quarterly earnings. I will provide you with the 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, Julie, and good morning to all of you and thank you for joining us. This is Jim O'Connor and I would like to welcome everyone to Republic Services first quarter conference call. This morning Tod Holmes, our Chief Financial Officer, and Ed Lang, our Treasurer, are joining me as we discuss our first quarter performance. I'd 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 we've discussed today is time sensitive. If in the future you listen to a rebroadcast or recording of this call, you should be sensitive to the date of the original call, which is April 27, 2007. Please note that this call is the property of Republic Services. Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Republic Services is strictly prohibited.

During the first quarter, we remain focused on improved pricing. Key results in the quarter were Republic had revenue growth of 3.8% to $766 million. We achieved internal growth of 4.1% with 5.8% of price improvement and a negative 1.7% volume growth. Our first quarter volume growth comparison was impacted by a slowdown in residential housing construction activity. However, the pricing for a temporary roll-off remains stable, as the field organization has maintained our pricing discipline. Operating margins, adjusted for Countywide land fill remediation costs, improved by 120 basis points to 17.8%. Within our landfill business, our core price was up approximately 2.9% in the quarter. We continue to focus on all components of our cost structure, including safety, maintenance, labor productivity, system standardization, and training. As you know, on April 3rd, we released an 8-K disclosed -- to disclose remediation costs associated with the Countywide landfill in Ohio.

We are proceeding on schedule with the findings and orders that were negotiated with the Ohio EPA. Local authorities are currently evaluating the environmental conditions at Countywide in connection with the annual issuance of the site's operating license. We expect a decision regarding the operating license sometime in the next month. Republic has filed a claim to be reimbursed under an existing environmental liability policy. We are also evaluating other reimbursement alternatives and will provide quarterly updates on this process. The full year impact on our 2007 earnings per share is $0.08. Revenue from industrial roll-off revenue was down approximately 2.5%. The biggest impact was temporary roll-off business, where volumes decreased approximately 15%, primarily due to the slowdown in residential home construction. Despite the volume reductions, temporary roll-off pricing has remained stable. Republic's had a number of significant achievements during the quarter. Our pre-cash flow for the first quarter was $56 million.

During the quarter, we continued to return cash flow to our shareholders. In the first quarter, we repurchased approximately 2.5 million of split adjusted shares of stock for $71 million. Republic has approximately $179 million remaining under the existing authorization for share repurchase. Since the inception of our share repurchase program in July 2000, we've repurchased approximately $1.9 billion of Republic's stock. Our earnings per share for the first quarter was $0.28. If you adjust for the remediation in Ohio and our higher tax rate, our EPS was $0.37, which is a 19% improvement versus first quarter 2006. And on April 26, we closed a $1 billion five-year revolving credit facility. This transaction was significantly oversubscribed and increased our credit capacity by $250 million at a lower cost. At this time I'll turn the call over to Tod Holmes, our Chief Financial Officer, for our financial review of the quarter.

Thank you, Jim. I'll begin the review of the Company's financial results by first discussing revenue, giving a little more detail. Again, first quarter revenue rose 3.8% to $765.6 million. Our internal growth was 4.1%, of which 2.8% was from core operations. That was a positive 4.4% from price and a negative 1.6% from volume. Core volume includes 0.6% or $4.1 million associated with RSG assuming from a subcontractor the responsibility for hauling Toronto waste. And that's business at no margin. A total price growth was 5.8% with 4.4% from core price, 10 basis points from fuel surcharges, 40 basis points from environmental fees, and 90 basis points from better commodity pricing. During the quarter, we continued to benefit from our ongoing price increase strategy in all lines of business. Price improvement remains a key initiative in 2007. Now our non-core volume, acquisitions and taxes were a negative [4/10's of 1%], which accounted for the remaining change in revenue.

Our tax, effective tax rate for the first quarter was a little bit higher than the guidance we'd given, so I want to talk about our provision for income taxes. During the three months ended March 31, 2007, we resolved various tax matters relating to our 2001 through 2004 tax years and as a result recorded a $4.2 million of additional income taxes. This reduced our first quarter EPS by approximately $0.02. We do expect the effective tax rate for the remainder of fiscal 2007 to be consistent with our original guidance of approximately 38.5%. Also during the three months ended March 31, 2007, we adopted Financial Accounting Standards Board interruption number 48, which is accounting for uncertainty in income taxes. As a result of adopting this interpretation, we recorded a $5.6 million cumulative adjustment, according to the pronouncement, which goes directly to retained earnings, so you don't see it on the P&L. But again, this pronouncement had no significant impact on the financial position of the Company. Our first quarter year-over-year operating margins.

Year-over-year operating margins decreased by 160 basis points from 16.6% to 15%, but as Jim previously mentioned, during the first quarter we recorded a pretax charge of $22 million related to estimated cost to comply with orders issued by the Ohio EPA in response to a condition at our Countywide landfill. Excluding this charge, the year-over-year operating margins increased by 120 basis points from 16.6% to 17.8%. The key components of our year-over-year margin improvement are as follows: First of all, we had a negative 280 basis points from Countywide, but excluding that our truck and equipment maintenance improved by 30 basis points; our insurance expense actually was a higher cost of 60 basis points; our labor, disposal, and subcontracting costs improved by 100 basis points; our DD&A was a higher cost of 10 basis points; and our SG&A improved by 60 basis points. So including the Countywide issue, that was a net increase in cost of 160 basis points. Now let me briefly comment on components of this year-over-year margin change.

First Countywide. During the first quarter of 2007, this charge that we took on Countywide reduced operating margins by 280 basis points. This charge increased our cost of operations, DD&A, and SG&A by 240 basis points for cost of operations, 30 basis points for DD&A, which is primarily related to the closure and post closure due to air space reduction, and then also an increase in cost of 10 basis points in SG&A. Our truck and equipment maintenance, during the first quarter of 2007 continued focus and productivity improvement allowed us to receive a cost savings and also higher revenue resulted in a reduction in this truck and equipment maintenance cost. Third, our risk in health insurance. Insurance expense during the first quarter of 2007 was 5.9% of revenue. Now, that's higher than the first quarter of 2006 due to higher medical claims in our healthcare and, in addition, while our claims in our auto liability and general liability remain stable, we did see an increase in severity from our auto and general liability claims in the quarter. We continue to believe that risk insurance, as a percentage of revenue, will be approximately 5.5% for the remainder of fiscal 2007. So we should see some future improvement in this area.

Labor, disposal and subcontracting costs. Now this is our largest -- these are our largest cost categories, which were impacted through improved pricing. Also productivity improvements benefited us in this area. Finally, I would add that we did see some dry weather, particularly in the southeast, which resulted in lower third party disposal costs. Fifth, our DD&A. The decrease -- excuse me, the increase in DD&A is due to a decrease in expected air space at our Countywide landfill. Also during 2007, we expect to incur approximately $3.3 million of additional DD&A expense because of estimated remaining air space being reduced at Countywide. Finally, SG&A. During the first quarter of 2006, we incurred about 30 basis points of additional cost associated with Statement of Financial Accounting Standards 123R. The remaining decrease in SG&A is primarily due to lower bad debt expense. We believe that SG&A, as a percentage of revenue, will range between 10% and 10.5% for fiscal 2007.

Our first quarter operating income before depreciation, amortization, depletion, and accretion improved. Excluding the Countywide charge, year-over-year operating income before DD&A increased by $17.7 million or 8.9% from $199.3 million or 27% in the first quarter of 2006 to $217 million or 28.3% in the first quarter of 2007. Now let's turn our attention to free cash flow. Free cash flow for the first quarter of 2007 was $56 million. This is based upon cash provided by operating activities of $99 million, less purchases of property and equipment of $44 million, plus the proceeds from the sale of property of $1 million to give us a net free cash flow of $56 million. We continue to believe that our free cash flow for 2007 will be approximately $350 million, this is consistent with our original guidance. Items impacting our cash balance for the quarter. During the first quarter of 2007, on a split adjusted basis, we repurchased 2.5 million shares of common stock for $71 million at $28.14 per share. Our actual share count on March 31, 2007, was 193.5 million shares.

Republic's balance sheet remains very strong. At March 31st, our accounts receivable balance was $298 million and our day sales outstanding was 35 days. Net debt is $1.456 billion, which is up from $1.430 billion at December 31, 2006. Consistent with our cash flow performance in previous guidance, our net debt to total capital at March 31, 2007, is 51%. Now I'll turn the call back to Jim.

Thank you, Tod. Republic remains focused on improving returns on capital and generating free cash flow. As previously discussed, our 2007 business objectives are centered on improving margins by achieving appropriate price increases to offset inflationary costs and business risk, improving our market positions, standardizing significant business processes, and rationalizing our cost structure. I'd like to thank all the employees of Republic Services for their dedication and hard work, which resulted in strong performance in the first quarter. Now, operator, at this time, I'd like to open the call to questions.

(OPERATOR INSTRUCTIONS) The first question is from Shannon Mikus of Credit Suisse.

Good morning.

Good morning, Shannon

On volumes, I believe last year it went up just under 5%. So when we think about volumes for this quarter, should we think about volumes in light of pricing discipline and the showdown in residential housing construction activity, or is there something else last year that we should also be thinking of? I believe there wasn't really any carryover, storm carryover from '05?

What we had was we had about 30 basis points in the first quarter of last year associated with hurricanes from '05 into '06, which obviously we didn't have this year. And then the other thing that we had was a number of municipal contracts that we had secured in 2005. So we did have a carryover benefit from those contracts, particularly in the first part of 2006. So I think those -- that -- those two factors led to better volumes last year.

Okay, thanks. Another quick question on customer churn. What was it in the quarter?

I don't have it for the quarter, but it's been running around 10%.

Thanks very much.

Thank you.

The next question is from Bill Fisher of Raymond James.

Good morning.

Good morning, Bill.

On the pricing, you gave pricing by segment, you gave some color on disposal and the roll-off. It looks like your commercial collection revenues were up around 8%. Was the bulk of that price? And then on that, it's not just across the board kind of price increases, are you kind of doing it by customer and just kind of give some color on that front?

Yes. The bulk of the increase in commercial is from price and, as we've talked about, we do utilize our return on investment tool and then correlate it to the market pricing in each and every marketplace and then look for resistance. Again, I think we haven't seen a lot of resistance in the market and it's allowed us to be relatively aggressive.

Okay. Then Tod, on the CapEx, I think you've mentioned before growth CapEx is roughly a third of the total. Given the volume trends you've seeing, is it a good chance that that 300 target might be a little high this year?

Our CapEx target was $310 million and, again, we reaffirmed our $315 million of free cash flow so well, obviously, our free cash flow for this first quarter was a little bit lower because of this charge that we took on Countywide and the cash we're going to have to spend there. I do think that we're going to be able to make up that on the capital side, particularly with the roll-off activity being slower. So the cash flow should hold.

The next question is from Scott Levine of JPMorgan.

Good morning.

Good morning, Scott.

I was hoping you would be able to give a little bit of additional insight on pricing, specifically franchise versus your competitive markets. You've seen acceleration in '07 versus '06 on the franchise side versus whether you're seeing pricing holding or perhaps accelerating on the competitive side of your business.

Well, we're looking at the CPI, which would be the primary index that our franchise work is priced off of, could be about 2.5% to 3% and we don't really see a whole lot of acceleration yea-over-year there. So the majority of the pricing that we're achieving is in our competitive markets, our mid-sized markets and our larger urban markets, which represents about 65% of our revenue stream.

Okay. And then one last one on volumes. You mentioned the weakness in residential construction. Is that across the board, or is that regionally concentrated? Can you comment about whether it's being more impactful in certain parts of your footprint?

I think we see it pretty much everywhere. The residential construction downturns in the sunbelt are obviously off, but we still see a significant amount of downturn in the Midwest and the mid-Atlantic states. So I don't think we would point to any particular area. It appears to be generally weak across the board. I think the good news here, Scott is, is that, if there is good news here, converse -- in 2001 when we went through the last recession, we saw pricing drop in temporary roll-off, predominantly construction, about 10% to 15%, which was a major contributor to the declines in margin that the Company experienced and I think the sector experienced.

Today, what we're seeing in the marketplace is, while we're having significant volume impact from the slowdown in residential construction, we're seeing pricing to be stable. And I think over the last several quarters, we've seen that. Those are our instructions to our people in the field that we're going to remain strongly focused on pricing and we're willing to give up a little volume, if need be, to maintain the pricing in this area, so that we don't suffer those same margin impacts. Right now I'd say the markets are pretty rational and it appears that the marketplaces are reacting very much similar to the strategy that we've employed in these markets.

The next question is from Corey Greendale of First Analysis.

Hi, good morning.

Good morning, Corey.

Jim, I just -- another question on the pricing, just taking it from a slightly different angle. The 4.4% core price, the guidance you'd given at the beginning of the year for the full year was 3% to 3.5%. I'm wondering if something -- what part of the business is doing better than you anticipated and do you think that kind of higher level is sustainable through the year?

I think what we've done is -- it's really -- it's in all lines of business. We've seen improved pricing in residential contracting. We've seen -- which would be a result of bidding. We've seen a much better pricing atmosphere in our commercial business. And even in our industrial permanent business, we've seen good pricing activity. So across the board, I think, the organization has been relatively aggressive. We continue to accelerate prices, meaning we move them up in the year as we see the markets willing to accept. So, again, I think a lot of that are contributing factors to the strong pricing we're seeing.

Okay. I realize you don't update guidance this early in the year, but if that is -- .

But you're going to ask anyways, right?

Sorry?

But you're going to ask anyway.

I'll ask anyway. At that kind of pricing, if that is what you are seeing, I suppose -- are you seeing some other offsets to that higher price that we should be thinking about that would result in us not raising the numbers above kind of what you had anticipated.

Residential construction is stable, so there's a component of our business where we may have anticipated some price flexibility and we're not going to -- we don't believe we'll see that. We do believe we'll hold the price stable and so that will have some possible impact as we go through the balance of the year.

The next question is from Leone Young of Citigroup.

Good morning.

Good morning.

First of all, on the landfill pricing, that sounds like you're getting some acceleration there. What do you think that landfill pricing level was last year at this time?

I don't have it in front of me, but I would say it was less than 2%.

And are you seeing the same sort of behavior in general in the competitive environment? Is everyone focused on it?

From our reconnaissance, from our field operations, Leone, we're seeing pricing escalate in all lines of business, including disposal. Again, which is giving rise, I think, to us being a little bit more aggressive than we have in the past. And then again, I think another factor is the fact that we're -- we do have contracts that are dropping off, as we talked about in prior calls, that we're addressing quarterly, as they anniversary and it's allowing us to get -- secure more price from those contracts anniversarying.

The next question is from Jonathan Ellis of Merrill Lynch.

Thanks. Good morning, guys.

Good morning, Jonathan.

Just on the volumes for the quarter, I'm wondering if you could give us a little more detail on collection versus disposal volumes, how those trended during the first quarter?

Jonathan, when you look at the collection volumes, I would say we had low single-digit volumes in our commercial business, kind of consistent with economic growth, low single-digit volumes in our residential business. Again, Jim mentioned this 15% decline in our temporary roll-off, which caused our overall roll-off volumes to be slightly negative. And then when you look at the landfill side of the business, our volumes were down high single-digits, and that was a function, really, of the residential construction being off, so C&D volumes were off somewhat. And then we had selectively reduced some special waste streams and so that piece came down. But the MSW volumes seemed to be holding pretty solid on the landfill side.

Okay, great. And just on landfill pricing, as a follow-up to the previous question. I'm curious, when you negotiate these, or renegotiate these contracts, to what extent are you moving those contracts up, at least directionally, in-line with spot pricing, recognizing that they're obviously not going to be up at the same magnitude, but maybe if you give us some sense how much closer you're getting to spot pricing as you renegotiate these contracts in terms of magnitude?

Well, I'm not quite sure, Scott -- or Jonathan, what you're referring to as spot pricing. We look at these contracts and we look at the marketplace and we're adjusting the price to market and probably for the most part, we're looking at price ranges anywhere from 3% to 6%.

The next question from is Brian Butler of Friedman, Billings, Ramsey. Good morning. Good morning.

A question on just how you see the temporary roll-off trend kind of progressing into the second quarter Is it getting worse, is it getting better?

I don't think at this stage we really have a clear vision here. I think in the next 30 to 60 days, we'll get a better indication of where construction is, especially coming out of the Midwest and the mid-Atlantic state as we get further into spring. It's a little hard for us to predict whether or not the market's bottomed out or not. We're not going to get caught playing economist, as we did a number of years ago. So right now it is what it is. You are just going to have to wait 30 to 60 days to see if there is additional impact.

I guess another way to ask it is, was it accelerating through the first quarter? The amount of decline you saw in temporary roll-off?

It was, but again, the first quarter is our weakest quarter. It's difficult to really judge what's really happening in construction and demolition in that first quarter.

Jonathan, the other thing that we saw in the first quarter was the weather patterns, which caused one month to be weak because of bad weather in the Midwest and another month to be stronger. So there's a lot of noise when you look at it on a monthly or a quarterly basis. And again, as Jim indicated, there's a normal seasonal uptick here that typically occurs in the April/May timeframe. Internally we'll see it in mid-June as we're looking at our May numbers and obviously in our midyear update, we'll provide updated guidance and better reconnaissance on this.

There are no further questions at this time.

Thank you, operator. I'd like to remind everyone that the recording of this call is available today and tomorrow by calling 203-369-1395 and the passcode is 4589. Additionally, a recording of the call will be available on Republic's website at republicservices.com. Thank you for spending time with us today and have a good day.

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