Stericycle Inc (SRCL) 2016 Q3 法說會逐字稿

Good afternoon. My name is Amanda, and I will be your conference operator today. At this time I would like to welcome everyone to the Stericycle third quarter earnings call.

(Operator Instructions)

Thank you. Sean McMillan, Vice President of Corporate Finance, you may begin your conference.

Welcome to Stericycle's third quarter 2016 conference call. I will now read the Safe Harbor statement. This conference call may contain forward-looking statements that involve risks and uncertainties, some of which are beyond our control, for example, general economic and market conditions. Our actual results could differ significantly from the results described in the forward-looking statements.

Factors that could cause such differences include changes in governmental regulation of the collection, transportation, treatment, and disposal of regulated waste or the proper handling and protection of personal and confidential information, increases in transportation and other operating costs, the level of governmental enforcement of regulations governing regulated waste collection and treatment or the proper handling and protection of personal and confidential information, our obligation to service our substantial indebtedness and to comply with the covenants and restrictions contained in our private placement notes, term loan credit facility, and revolving credit facility, our ability to execute our acquisition strategy and to integrate acquired businesses, competition and demand for services in the regulated waste and secure information destruction industries, political, economic and currency risks related to our foreign operations, impairments of goodwill or other indefinite-lived intangibles, variability in the demand for services we provide on a project or nonrecurring basis, exposure to environmental liabilities, fluctuations in the price we receive for the sale of paper, disruptions in or tax on our information technology system, compliance with existing and future legal and regulatory requirements, as well as other factors described in our filings with the US Securities and Exchange Commission, including our most recently filed annual report on form 10-K/A.

As a result, past financial performance should not be considered a reliable indicator of future performance, and investors should not use historical trends to anticipate future results or trends. We make no commitment to disclose any subsequent revisions to forward-looking statements. I will now turn it over to Charlie Alutto, CEO.

Thank you, Sean. Good afternoon, everybody. Thank you for joining us on today's call. We were able to maintain consistent margin performance in the quarter despite revenue headwinds from previously discussed pricing pressure and softness in the manufacturing and industrial market. Our EPS exceeded expectations, in part driven by the use of our record free cash flow to accelerate our stock repurchase of mandatory preferred convertible shares. Joining me on today's call to discuss our Q3 results and 2017 preliminary guidance will be Dan Ginnetti, CFO, and Brent Arnold, COO. I will now turn it over to Dan.

Thanks, Charlie. The results for the third quarter are as follows. Global revenues were $890.1 million, up 23.9% from $718.6 million in Q3 2015. In internal growth, excluding the impact of foreign exchange acquisitions and manufacturing and industrial services, was up 1.6%. Domestic revenues were $664.1 million. Excluding the impact of acquisitions and manufacturing and industrial revenues, internal growth was 1.6%. For consistency of your models, we are providing the following for the remainder of the year.

Domestic revenues were $664.1 million, of which $637.1 million was regulated waste and compliance services revenue and $26.9 million was recall and returns. Domestic internal growth, excluding recalls and returns revenues, was up 1% consisting of SQ up 1% and LQ flat. As anticipated growth rates were impacted by SQ pricing pressure, lower hazardous waste volume from our industrial customers and lower fuel surcharges. International revenues were $226.1 million or 3% internal growth when adjusted for foreign-exchange impact. As anticipated, international growth rates were impacted by the exiting of certain patient transportation contracts.

Acquisitions contributed $184.7 million to growth in the quarter. Gross profits were $381 million or 42.8% of revenues. SG&A expense excluding amortization was $189.3 million or 21.3% of revenues. Adjusted income from operations or EBITDA was $191.7 million or 21.5% of revenues. Net interest expense was $24.7 million. Net income attributable to Stericycle was $61.5 million or $0.72 per share on an as-reported basis and $1.24 when adjusted for acquisition-related expenses and other adjustments.

Now for the balance sheet. Our debt to EBITDA ratio was 3.35 at the end of the quarter. The unused portion of the revolver at the end of the quarter was approximately $607 million. In the quarter, we repurchased 265,000 shares of the mandatory preferred convertible on the open market in the amount of $19.2 million.

At the end of the quarter, we have authorization to purchase 3.1 million shares. Our CapEx was $33.8 million or 3.8% of revenues. Our DSO was 65 days. Year-to-date, as reported cash from operations was $417.8 million and when adjusted for recall reimbursement and other items, cash from operations was $467.6 million. I will now turn it over to Brent.

Thanks, Dan. In the quarter, we closed five tuck-in acquisitions, all domestic. Revenues from the five acquisitions were approximately $0.4 million in the quarter and annualized for approximately $4 million. Our worldwide acquisition pool remains robust with well over $100 million annualized revenues and multiple geographies in line with business. The SQ pricing pressure discussed previously continued in the quarter and will remain for the foreseeable future.

To address these pressures we are making incremental strategic investments in sales, marketing, and data analytics. These investments will enable us to pinpoint and execute on opportunities to grow our business and improve our overall performance. Despite the SQ headwinds, we were able to maintain our operating margin profile, as well as deliver positive revenue growth in other services. For example, in our hospital customer base, we successfully completed several large Sharps Management and pharmaceutical compliance installations. We saw strong growth in retail waste services driven by our high level of service and detailed reporting capabilities.

The combination of our customer relationships and our multiple compliance solutions provides a strong foundation for future growth. In the secure information destruction service, we continue to see strong sales resulting from the conversion of unvended customers to ongoing service. In addition, the national account team continues to make progress securing new large customers. Our synergies remain on track with recent progress in streamlining back-office processes and implementing new technologies to optimize our inside sales and customer service.

In closing, we would like to thank all of our worldwide team members for their continued commitments to our customers, our shareholders, and our core values. I will now turn it over to Charlie.

Thank you, Brent. I would now like to provide insight on our current guidance for 2016 and preliminary guidance for 2017. Please keep in mind that these are forward-looking statements and our guidance does not include future acquisitions, divestitures, integration- and acquisition-related expenses and other adjusted items. As a reminder, our 2016 EPS guidance is adjusted for amortization expense.

For 2016, we believe EPS will be in the range of $4.74 to $4.76. This includes the benefit of our ongoing strategy to repurchase the mandatory preferred convertible shares. We expect revenue for 2016 will be in the range of $3.56 billion to $3.58 billion, depending on assumptions for growth and the impact of foreign-exchange rates. Internal growth rates are expected to be SQ 3% to 5%, LQ 2% to 3%, international 4% to 5%, and recall and returns revenue between $95 million and $105 million. We have estimates for free cash flow in 2016 between $450 million and $470 million.

2016 CapEx is anticipated to be between $130 million to $135 million. We expect the 2016 full year as-reported tax rate to be approximately 36%. Now I'd like to provide preliminary guidance for 2017. For 2017, we believe EPS estimates will be in the range of $4.57 to $4.77 using a share count of approximately $91.1 million. This includes the unfavorable impact of approximately $0.19 from the normalization of performance compensation and additional SG&A investments to drive future growth and profitability.

This is partially offset by approximately $0.17 of benefit from ongoing strategy to repurchase the mandatory preferred convertible shares. We believe revenues for 2017 will be in the range of $3.54 billion to $3.67 billion, depending on assumptions of foreign-exchange and internal rates of flat to 3%. The worldwide revenue guidance for each of our service lines is as follows. Regulated waste and compliance services will be in the range of $2.03 billion to $2.09 billion. Secure information destruction services will be in the range of $780 million to $810 million. Communications and related services will be in the range of $340 million to $370 million depending on recall revenues. And manufacturing and industrial services will be in the range of $380 million to $400 million.

We have estimates for free cash flow in 2017 between $450 million to $470 million. 2017 CapEx is anticipated to be between $125 million to $150 million. We expect the 2017 full year as-reported tax rate to be approximately 36.5%. Stericycle continues to be the market leader in multiple services and geographies. We have a strong team and an unmatched infrastructure. We are confident in the long-term outlook of our business.

As reminder, Stericycle will be hosting its first Investor Day and webcast on the morning of Thursday, November 10, to share perspectives on Stericycle's strategy, capabilities, and plans to drive long-term shareholder value. More details are posted on the event page of our Investor Relations website. We encourage investors, analysts, and the public to join the live webcast or watch the meeting replay. Thank you for your time today. We will now answer any questions. Amanda, you can now open the Q&A.

(Operator Instructions) Ryan Daniels from William Blair.

Good evening, and thank you for taking the question. Let me ask one on probably the hot button topic, which is the SQ pricing. I'm curious if you can give us a little bit of color on how much you have incorporated into your 2017 guidance for that and that is part A. And then part B, I'm assuming you have a pretty good view on that given your knowledge of contracts that are up for renewal but can you confirm that's how you are looking at what the pressure will be?

Yes, Ryan, for 2017, that is a very similar number that we gave on the last call. We are anticipating plus or minus about $40 million in pricing headwind in 2017.

Ryan, the second part of your question as far as a good view on that -- we have long-term contracts spread out over three to five years. It's not any one year that we have larger contracts coming due. It is spread out pretty equally. So we're pretty confident in that range that Dan gave you.

Okay. And given that we are now 11 months effectively through the year I'm curious if you've seen any acceleration in that pricing pressure or that too has stabilized giving you better visibility as we look out over the next 12 months or so?

Yes, we first started seeing especially the hospital consolidation impact on our business earlier this year. We spoke about it on the last call. I will tell you that Q3 came in as expected, meaning the pressure we expected in Q3 came in line with our expectations.

Okay. And then final question, and I'll hop off. Also on pricing -- have you given any thought to maybe going back to your customers even prior to renewal? I would think at the renewal time, that's when they look at the market, look at websites, see who else is out there. So any thought about going back earlier and trying to re-extend contracts even if it brings some of that pricing pressure forward? Or are you just going to let this play out over time? Thanks.

No, no. Absolutely, Ryan. I think part of the investment we're making in SG&A, both in resources and in the data analytics that Brent mentioned in his opening certainly is the strategy that we want to be proactive in the renewals and that is part of our ongoing strategy. It's a little early to tell the impact but certainly, that is part of the strategy. Thanks, Ryan.

Thank you.

Kevin Steinke from Barrington Research.

Good afternoon. Following up on that question about being proactive on renewals, I think you have also discussed, as part of your investment, looking to cross sell more services to the SQ accounts that are seeing the pricing pressure and I'm wondering if you are trying to make that more a part of your renewal discussions and if you think that can have any offsetting impact on the pricing pressure you are experiencing?

Yes, Kevin, this is Brent. As we talked about on our last call, we were making a number of investments, both marketing and sales, to try to offset some of this headwind that we are seeing, a part of it you remembered correctly. We've got more sales reps that have been hired, and we are working to have them have a bigger impact with regard to influencing that renewal, emphasizing value of our Steri-Safe services, and overall, try to approach that situation proactively. Obviously, it's too early to see any returns on that but that is definitely one of our strategies as well as trying to grow new sites in SQ was another strategy to offset that headwind. It'll drive new growth that in turn will help us offset that in the long-term. You are correct. Those are some of the things we're doing. It's just a little too early right now to see if it is having an effect.

Okay. And I think you also talked about on your last call about digging more into the manufacturing and industrial business. And analyzing it over the next several quarters about long-term fit, at least for parts of that business. I'm just wondering if you've started on that analysis and any initial thoughts on that work you were doing there?

Sure, Kevin. And we continue to evaluate multiple businesses, not must the M&I business for their long-term strategic fit in our portfolio of services. We have not made any definitive decision yet on M&I or any asset within Stericycle.

Okay. Thanks for taking the questions.

Thanks, Kevin.

Gary Bisbee from RBC Capital Markets.

Hi guys. Good afternoon. I guess the first question I'd ask is on Shred-It and just diving into the guidance and how we think about profitability. Can you give us a sense of what you are expecting for synergies and profit growth at Shred-It? Are we getting back to how you thought about the initial margin ramp at time of acquisition? I know that was pushed out. Or should we think that that continues to be somewhat lower? I guess I'm trying to understand -- is that a big factor that offsets pricing? Or that you've talked about in SQ? Or how do we think about Shred-It? Thank you.

Thanks, Gary. I will touch on the little bit of what we have as for synergies built in, and it would be what we shared all along, the $20 million in synergies that we deferred from 2016 before we anticipate that we're going to able to capture throughout 2017, which will certainly contribute to the profitability growth that we've already begun to join in the last year since we have owned Shred-It. Brent can probably talk to you about some of the steps that we are taking to achieve the numbers that we have in the guidance.

Hi, Gary. This is Brent. No new activities here but just continue to focus on integration activities associated with the reroutes, switching from on-site to off-site, continuing to look at back-office processes. The team actually had a really busy quarter this quarter as we looked to automate and integrate all of our customer service. So we put them all on a national platform, or are in the process of doing that this quarter. We're doing the same thing with inside sales. We also had kicked off automation for several of our back office processes around collections, cash applications, as well as AP. A lot of those things will contribute to continue to drive cost out the business to help us hit those synergies.

And a follow-up, on your international business where the profitabilities really struggle, can you give us an update on what is going on there and what the strategy is to improve it? Are you exiting more UK contracts? Any update on the cost situation in Brazil? Whatever you think is a relevant update. Thank you.

Sure, Gary. On the international, we've discussed this previously, I think. What is driving some negative impact in the international market is certainly is the LatAm pricing pressures in our patient transport business. So let me address those separately. On the patient transport business, we continue to exit certain contracts. Once we do that, we will evaluate the strategic value of this business.

We anticipate exiting or contract ending in 2017. So the 2017 revenue for patient transport will be roughly $50 million to $60 million US and then on the LatAm, certainly we're facing inflation in pricing pressure on our large government contracts, and we're looking at this on a contract-by-contract basis. If you take our sequential Q2 to Q3, we saw a modest increase on the EBITDA line. We have made a little progress but there's more work to be done. Right now, the focus is on Latin America and the patient transport business.

One last one more for me, both Charlie and Dan, I think you both highlighted the strong cash flow of the business. Can you give us a sense how you are thinking about reinvesting that cash flow going forward? Is it different from how we've thought about the last few years? And if that's really the key asset and you are not forecasting much growth, how are you going to be reinvesting in 2017 to bring back growth longer-term? Thank you.

Definitely, we're pleased with the record collection quarter and record free cash flow for the quarter. I would say our capital allocation strategy remains similar than it has in the past, while we will shift buckets from quarter to quarter depending on the cash flow and the opportunities that exist. And that would remain to be -- acquisitions are a top priority of ours, certainly following our largest acquisition in company history. And the debt level that we're at, we are going to be proactive as reducing debt when appropriate.

And certainly we'll remain opportunistic, taking advantage of a quarter where we have maybe less acquisitions, we'll be opportunistic in purchasing demand for a preferred convertible. And appropriate balance is necessary at this point in time while we both utilize the cash to grow the business as well as be able to pay down debt.

Okay. Thank you.

Thank you, Gary.

Al Kaschalk from Wedbush Securities.

Good afternoon, guys.

Hi, Al.

I want to press a little bit on the SQ pricing in the context of -- you have given us, I think, two components $30 million, $40 million in 2016 and sounds like that's an approximate amount of headwind you are expecting in 2017. But I think the struggle that a lot of us are having is trying to appreciate where you are at in that renewal process or new pricing market environment. Said differently, if you look at the SQ business, are you at a spot where the resets that you would expect on a new competitive environment were 40% or 50% of the way through? Or do we have a few more years to go through that?

I'm going to have Dan answer you first, Al, because you are off on your 2016 headwinds. It's not $30 million or $40 million in 2016. And that's not what we said in the last call. So I'm going to let Dan level set that for you. I'll make a comment on where we are on the renewal process on that.

Al, on the last call, we expected $10 million to $15 million of pricing headwinds in the second half of the year. We are certainly within that range, I would anticipate maybe on the higher end of that range with expectation that you would see plus or minus 40 in 2017.

And as far as the contract renewals, obviously this is something that has come up this year. So this is something new facing us, so I think it's certainly something that will be with us through 2017, and then we are making investments to be proactive to the question we answered earlier. It's just too early to tell what kind of impact it'll have. Obviously, we don't want this to be something that will last three to five years, which is our normal contract renewals of all of our agreements, so we're making those investments to shorten that time period and that time horizon is just a little bit early to tell you at this point when we think this headwind goes away. Thanks, Al.

Okay. Thanks.

Michael Hoffman from Stifel Nicolaus.

Thanks, Charlie, Dan, Brent. So I'm going to come back to this SQ issue. If I understand correctly, it was about $750 million is what is defined as SQ. Have you gotten a sense in your own mind how much of that $750 million before you offset with the new sales force cross-selling and then things of those initiatives, how big you think that total price compression is going to be?

I don't think it's change from a we talked about on the last call. We said that of that $700 million to $750 million of SQ revenue, about 18% to 20% of that is SQ that is hospital-affiliated. It is owned by a hospital affiliated with a hospital. We are seeing obviously more pricing pressure there up to 30%, 35% as they bid out multiple locations. So we are aggressive in trying to renew that, we want to keep that route density.

And then we are seeing general price, then we have a national account, as we've talked about, Michael, in that $700 million to $750 million about. Roughly 25%, 30% are national accounts. There has been no change that business. Obviously, there is preferential pricing in there with contracted, contract Ts and Cs. So that really does not impact it without grabbing a great renewal year on our national accounts, and then the remainder would be all of the SQ that are not affiliated with any large group or hospital or national account. And we see general pricing pressure 10% to 15% on that.

We bucketed it really well, Michael. We understand and listen, that's why we're trying to get away from SQ LQ, right? Because we've got 20% of our SQ customers that are owned by LQ, so they're not truly SQ because they're not independently making decisions but I think we have a good handle on the SQ business and the different buckets. And as to Brent's point, we will use data analytics to help us get through how we should look at pricing. Maybe we don't have to discount as much if we are proactive. Maybe we throw in additional services, and we can work through that. But obviously, we are going to make some investments to make smart decisions on that SQ business for us.

I just want to make sure I heard the numbers correct. So out of $750 million, approximately 20% is owned by LQ, 25% is national, all the rest is the rest of SQ that has some pricing pressure. So the 20% that is LQ has 30%, 35% national none, and all the rest is 10% to 15%.

That's correct.

That's about $110 million. That is what we are looking at?

From a discounting perspective?

Yes. Okay. At this juncture, this 10% to 15% second-half, do I annualize that? That's 20% to 30% this year, 40% next year. So let's take the 30%. I've got 70% done so I've got 50% left?

Mike, we anticipate a bit of an acceleration, which is why our guidance is plus or minus 40%. I think you're going to hit the inflection point where you're going to begin to see it wind down as you ramp up. That's really what we're looking at is to see the signals as to when we're seeing this in a reduced amount to know that we are beyond the majority of it. But I think it's safe to say that we expect a full impact in 2017, that's why we put approximately plus or minus 40%.

Okay. Thanks for that statement, Dan. But my question was one, do I annualize the second half, and you have 30% was the full-year 2016 effect. 40% is approximately 2017, so that's 70%. If I'm dealing with $110 million to $120, I've got $40 million to $50 million left.

That is correct. You could look at it that way. If we tell you that we have another year of half 2017, if we're not successful in mitigating the pricing of that.

Okay. What gives you confidence you bracketed that right?

Certainly we have data that we know -- the only thing I would tell you, Michael, and first of all, we know what the national accounts are, and we've had a long track record in history there so we are confident on the national account. And the reason we bucket the hospital on it 18% to 20% is that not every SQ that is acquired gives us notice that they are now owned by a hospital system. So could that be 20% to 22%?

We are pretty confident in the number. Could go up a little bit over the next year or two? Certainly it can, but I think we have done a good job of identifying the customers in our database. We track hospital affiliated ever since the early 2000s. We have never seen it behave differently, but we track it. I'm confident that we bucketed it correctly.

Okay, fair enough. I am going to take the midpoint of your 2017, so that is $467 million. In your $467 million what is your assumption for tons of paper sold at what price?

The tons of paper is really 700,000 tons to 800,000 tons at the current rate, which is $157 per ton.

Okay. And you're not concerned that in December or last year we are at $125?

Michael, we are always going to be concerned about that, and that's why you're noticing that in the range that we gave much broader range when we had given historically. Last year, we gave guidance it was a $0.07 EPS range. This year, we gave $0.10 to the downside, $0.10 to be upside, realize there are moving parts in the business. One of those could be paper and so the downside of that would assume we aren't able to hold it that level the entire year. The upside would be if you looked through the index sometimes it both moves and stays above the 10-year average for a short period of time. And so we have bracketed a range our guidance in order to be able to account for those things.

Okay. And then will we look at the synergies that you paid for when you bought Shred-It. There was approximately 52 million left of the original ones at Shred-It and Cintas had identified. That's the number that has been moving around. How much of that $52 million have you captured and will capture in 2016 at this point? And then what is left?

I think we have 31 million we have captured exiting 2016. There about 20 million more that we would achieve in 2017, and then we are still considering and working on synergies that would be between Shred-It and Stericycle.

Right, but those weren't the ones that you paid for?

That's correct.

You have two trucks in a market -- can I go to one truck -- that type of thing?

That's the 20 remaining in 2017.

Okay. And then can you share with us -- you've talked but this before and my recollection through the first half of the year is you actually, in a good way, had a pleasant surprise about the organic growth going on at document destruction. The sales force did a good job of converting unvended, so you can you frame what that organic growth looked like in the third quarter, combination of that price plus how much did they get converted?

Yes, Brent will take that one.

I would say, Michael, that is close to 4%. We continue to see great results with regard to converting the unvend market. We also are having a lot of success with our national accounts and winning new business but overall 4% is what we projected.

That was in the third quarter?

Correct.

Right. And is that all volume or was there price in that? Or that is all conversion of unvended?

The majority of that is, I would say the majority of that is conversion and a little bit of it being price.

Thanks Michael.

Sean Dodge from Jefferies.

Yes, thanks. Good afternoon. Going back to gross margins for a moment, third quarter was flat sequentially despite the pricing pressures. I know Brent said it was still early for the benefits from some of the new sales investments. Can you talk about what did help you offset those drags in the quarter?

Absolutely. I will take it quarter to quarter gross margin bridge. Q2 was 42.8. We had the anticipated pricing pressures in the SQ business as well is the temporary impact from exit of patient transportation contracts. Those combined were about 54 basis points of headwind. However, we were favorably and directly offset by improvements in gross margin from foreign-exchange, increased paper prices, and we saw higher recall revenues. Those combined were about 35 basis points and by improvements in all other lines of revenues, it provided an additional 19 basis points of gross margin. So the puts and takes directly offsetting each other in the quarter.

Got it. Okay, thank you. And then the acquisitions during the quarter were really light. I know you guys said you are taking some time to integrate and to kind of retrench internationally. How long does this pause last? And is this the level of small tuck-in M&A we should expect for the next few quarters? Or more or less?

We did five deals, Sean, just in the last month. This last quarter, we did ten. I wouldn't read anything into the number of deals or the annual revenue from this quarter. It is simply timing of deals. We've got a significant pipeline, especially in secure information pipeline, as you know, Cintas and Shred-It were both doing acquisitions but after they joined forces, they slowed down. So we think there is a great pipeline there.

This is just the timing in Q3 I wouldn't read anything into the five deals. I think a normal quarter for us is more like what happened in Q2.

Got it, all right, thank you.

Thanks Sean.

Scott Schneeberger from Oppenheimer.

Thanks, good evening. Can we start out on communications solutions weighted services? There is a big deceleration in organic year to date second quarter to third quarter. And I saw that your recall, which is in that, went higher presumably on one of those large smartphone makers. So if you could update on what the deceleration was and if you are, in fact seeing, better in recall? And then the final part of this question is what is implicit in the recall guide for next year in comm solutions? Thanks.

Sure, let me take it. You had a couple of questions in there. You are right, we had a solid quarter for recalls. It was $26.9 million but it actually declined year-over-year, Scott, by about 11.2%. That is just the US number. So when you look at the communication and related services, decline sequentially year-over-year, it is mostly to do with worldwide recalls were actually lower this Q3 than they were last Q3.

As far as we did, we did raise guidance, though, for 2016. We raised it to $95 million to $105 million. That's simply because we saw a lot of activity towards the end of the quarter, and it's continued into Q4 so we thought it was best to raise guidance for 2016. Related to your question about guidance for 2017, in that communication related service line of $340 million to $370 million that has roughly $90 million to $120 million in recall in revenue guidance in the number.

Thanks. And so the big driver of the slowdown of organic year-to-date was the year-over-year of recall? Or was there something else?

No, the big driver was year-over-year decline in recall.

Got it, thanks. And then switching gears, in the 2017 guidance you mentioned $0.19 of -- I didn't get it down well in my notes -- but it seemed like some sort of investment spending which sounded bigger than what you would've told us last quarter. Offset by about $0.17 of purchasing the convert preferred. So could you elaborate on, one, what those investments were a little more specifically? And then just a little color around the repurchase maybe in the third quarter of the convert preferred and what the $0.17 represents next year? Thanks.

Yes, thank you. So just to be clear, none of this was from last quarter on the call. This is all new guidance for 2017. And what we did talk about in the $0.19 is what we would call corporate expenses. And that is made up of really two buckets. It is performance compensation, which is roughly about half of that. And this is primarily related to cash flow and this is tied to specific performance goals.

This performance compensation was only partially accrued for in 2016 results. And as our practice has been to accrue appropriate levels throughout the year based off real-time performance. And this is our initial guidance in 2017, we've historically included a full performance compensation in our guidance to reflect our expectation of not only achieving but exceeding our goals. The other half of that is really in SG&A investments for growth.

And these would be in things such as IT to enhance our operational and financial systems as well as continued investments to support growth. Throughout the course of the year, we will evaluate these projects, and we will adjust and release these funds where best appropriate. I think your other question, Scott, was really about the $0.17 of purchasing the mandatory preferred convertible. What we've looked at and why we are purchasing that over the common is really the best use of cash. That only gives us the accessibility to reduce dilution by being able to buy more shares.

But it also offsets a 5.25% dividend rather than paying down 2% interest. We were very successful in doing that in Q3. And you would see that we purchased about $0.07 of that. And so we really built that into our guidance going into next year and even into Q4, we will do a marginal amount. We've set conservative guidance for next year because it really has to be balance of how we're going to utilize all of our cash flow.

All right. Thanks. And just to clarify the -- it's $0.07 year-to-date or $0.07 in the third quarter of this year?

It would be $0.08 year-to-date. We did purchase a penny of it in Q2. We did $0.07 in Q3. And our guidance for next quarter will be anywhere from $0.02 to $0.03 and we could be opportunistic depending on how the quarter shapes up from all avenues of our capital allocation strategy.

Thanks. And to clarify what I meant when I originally asked the question was I thought that this -- you had announced on the second quarter call some SG&A investments and I don't recall what that amount is but it sounds like half of the $0.19 so let's call it $0.09 or $0.10 next year?

This is SG&A investment over and above what we communicated to you in Q2. This will be additional investment for 2017.

Great. Thanks for the clarification.

Thanks, Scott.

David Manthey from Baird.

Thank you, good afternoon. Historically, you have indicated that more than half of your organic growth comes from cross-selling services. Could you outline your expectations for volume price in cross-selling that gets you to that your 0% to 3% next year?

Yes, I think if you look at, David, now given the pricing pressure that we face, especially in our SQ business looking at it in a historical context of SQ LQ, we'd estimate that about 20% of our growth will come from price and volume and about 80% from additional services. And really, we have seen no change on the LQ side of the business, so roughly 10% to 20% price and volume and the rest of the growth from additional services. So you see that it has changed a little bit on the SQ profile given the pricing pressure.

So the Delta between your historical overall organic growth of 7% to 8% in this 0% to 3% is entirely price?

No but I could take you through each service line but if you look at going forward into next year, but if you look at it purely from a revenue standpoint, as Dan said, we are down about $40 million in pricing concessions and it doesn't offset the growth of the business. There are other things we are doing with synergies and other opportunities but it's $40 million in price that goes right to the bottom line, about $100 million to $110 million in revenue but that has to flow through. So it flows through, obviously I think, Dan, what is the EBITDA flow-through on that?

I think it would be the mid- to high-20s.

It's about $25 million to $30 million. But we are certainly getting revenue from that and then you have the impact of M&I year-over-year being flat and then obviously exiting the PTS contracts which creates additional headwinds for the total business.

Okay. And then you had an other income of about $3 million when that is normally an expense. Could you outline what that was?

Yes. That was settling of an inner company loan dealing with two different exchange rates. This was between the Sterling and Netherlands and obviously with the Brexit, that affected that how they came out of the financials.

Okay and then finally, as you are looking at ways to target new customers and invest in getting renewals and things of that nature, are you willing to take new business or get renewals at a lower revenue and margin than you have historically to recharge the growth from here forward?

David, this is Brent. I would say absolutely. Obviously, we look at all new business carefully. But given our infrastructure, our footprint, we oftentimes can bring on new business lower than other people, given we have the biggest infrastructure and route density everywhere. So yes, we are not walking away for any new opportunities. Plus, we have the ability to upsell once we get it, which increases the profitability. So no, I would say we are very aggressive at going after new business and new sites.

Okay, thank you.

Thanks, Dave.

Barbara Noverini from MorningStar.

That's Barb Noverini. Good afternoon, everybody.

Hello, Barb.

Internal LQ growth came in flat year-over-year, which is also much lower than typical. Can you comment on what you have been seeing on the LQ side? And what give you confidence that pricing pressure won't accelerate in that customer category as well?

Good question on the LQ. The LQ really, Barb, has been driven on the M&I. Remember again take a step back, SQ and LQ is not just our medical waste services. It describes our total business in the US. So when you see the decline in M&I like we've faced, most of that M&I work is falling into the LQ bucket. So when you look at LQ where it was just less than 1% last quarter and flat to down a little bit this quarter, they are the ones taking the brunt of the M&I hit.

As far as pricing pressure in the LQ side of the business, we are doing great on the LQ side of the business, to be honest with you. Just look at just our medical waste services. Brent touched on it early on. We had really large installations in both sharps and pharmaceutical waste inflations from really large healthcare centers. The team is doing a really good job there. We have hit the ground running with respect to secure information disposal, so certainly it's all been a category with respect to price. That's why the margin has always been lower than our SQ business. I don't see any changes. I think it will always be price-sensitive, but we've done a really, really good job on our traditional hospital LQ business.

Got it. That's a helpful distinction. I know you are trying to walk us away from that categorization, but if you were to disaggregate that M&I impact, would you say that LQ hospital category performed as typical in that low to mid single-digit organic growth range that you've had in the past?

It did. It was roughly 4%, or 3% to 5%. And we usually get a benefit of other things coming in on LQ that always would make it that 5% to 8%, but certainly that wasn't there because of the headwinds on M&I.

Got it. And then you mentioned that retail haz was doing quite well in the quarter. So if you were to give us a ballpark estimate on what that growth rate is, what could we expect from that?

It's been in the high single digits, and that's where it is year-to-date.

Okay, great. Thanks very much.

Thanks Barb.

Hamzah Mazari for Macquarie Capital.

Good afternoon, thank you. Just had a question on trying to understand the 10% to 15% price declines in half of the SQ customer base. Is it just systematic that the hospital affiliated accounts -- I understand the price decline there. But how is it spreading to the SQ -- rest of the SQ customer base? Is that just your estimate? Is it a bottoms up analysis? Or is the business incrementally more competitive? Just trying to understand that piece.

I think, Hamzah, it's always been a competitive market, the SQ local markets. I don't there has been any change in that. The one thing that has changed and you see it in the press, you see it all over that -- healthcare is faced with reimbursement cuts. So they are getting less fees for their service and now for the first time, I think they're looking at any way they can save even a little money. So where our contract fell below the radar, we were getting more attention there and that's why we are seeing discounting in that marketplace. The competition, though, I would tell you from a market by market, I would tell you hasn't changed much in the last couple of years.

Got it and then just to follow-up for Dan. The op margin, trying to understand the op margin guidance at the midpoint. Are you guiding flat op margins for 2017 at the EPS midpoint? Is that the right way to think about operating margins? Just trying to -- the reason I ask is I'm trying to understand what the offsets on the margin side are due to the $40 million pricing pressure you are going to see next year.

I think if I were thinking about operating margins for 2017, I would be in the mid-21% range so it is really flat to this year. Certainly there are a number of puts and takes and I think through Charlie, Brent, and myself -- we have seen some of them. Certainly, you have the synergies that will be only partially offsetting the price concessions we will have next year. And then the growth, it doesn't come through with the same percentage that pricing goes out.

You are going to see a little bit of pricing here or profitability headwind. We are also going to be experiencing some FX, exiting our patient contracts, that can temporarily affect margins until you are fully out of that. And then we are going to make investments in the business. And that's important that we do that for the things that Charlie and Brent talked about. In those investments, we know we'll bring return over the long-term. Initially at the beginning of the year, those investments will be early investments to set that infrastructure in that stage to be able to grow the business. So that's going to be some of the headwinds.

Thank you.

Thanks, Hamzah.

Isaac Ro from Goldman Sachs.

Thanks. This is actually Joel in for Isaac. Back to the consolidation theme, from a slightly different angle, can you talk about how you're thinking about the potential for increased efficiencies, maybe on the route density side just given your consolidating customer base?

Yes Joel. Certainly broad density and Brent mentioned it before, we want to be able to be the low cost provider, low expense provider in the marketplace. So we have utilized better technology the last few years. The team continues to make strides in that area. The focused now really is on secure information destruction side of the business to get that same level of service, a high-level of service, with the best route density that you can get. And that's one of the reasons I think the strategy -- and Brent answered before -- would we be willing to renew customers at a lower rate?

Yes, because we don't want to lose that competitive advantage that we have in the marketplace, which is route density. It does play into it, certainly. Hopefully that answers your question.

Joel, this is Brent. Just one other thing to think about. A lot of times when these as SQs are being rolled up into an Integrated delivery network, their offices oftentimes don't even change, right? Just the name or the sign on building changes, so not all the times does that provide us a more centralized spot to pick it up. Oftentimes, you're still covering the same footprint that we were before.

Great, thanks. And maybe over at haz, can you help parse out the margin profile of the energy project-based work versus the general M&I? Just trying to understand the impact of profitability if we happen to see resurgence in demand in either of those markets.

We still haven't broken out M&I in its own service line and profitability at this point, Joel. But if you think about environmental solutions in general, the gross margins are in the mid to low 20s and the EBITDA margins are in the high single digits. Certainly, that includes the whole portfolio. So that's healthcare haz, retail haz, and M&I. M&I does have a lower profitability -- M&I and project is a lower profitability than retail and healthcare haz would have.

Great, thanks.

Thank you.

(Operator Instructions). Jason Rodgers from Great Lakes Review.

Just a question on the SQ contracts. The one subject of the 10% to 15% pricing pressure. As those come up for renewal, are you renewing those that at a consistent rate as you have historically? Or is the margin on some of that business so low that you had to walk away from it?

We think every contract, when we look at discounting, Jason, on a case-by-case contract-by-contract basis. It's hard to just generalize what we are doing on discounting. It's really done on a case-by-case contract by contract basis.

And the 10% to 15% is really just an average of the aggregate, right?

Right.

Some that are more than that and some that are less. And some that go up.

All right. And I'm sorry if I missed it, but the internal growth estimate for 2017, did you break that out between SQ and LQ and international?

We did not. We are not going to be giving SQ LQ. We broke it out by service line. Regulated waste and compliance will be $2.04 billion to $2.09 billion. Communication and related services will be $340 million to $370 million. The M&I will be between $380 million to $400 million and secure information and destruction will be between $780 million to $810 million. Total is flat to up 3%. And then the mix of international, domestic is similar to what it has been over the last year-to-date breakout.

And is there any savings from the McKenzie baked into your 2017 outlook?

Most of that was built into results for this year and any remainder is built into this current guidance.

Finally, just speaking of Steri-Safe, rolling that out internationally, the clinical services, I wonder if you can talk about the status of that and any potential new growth areas.

Yes, we continue to look at it market by market. We have had success recently in Western Europe, Spain, and Portugal as we've coupled it with the symmetry service. It really takes a different form of each country. In the UK, we have coupled it with first practice management which is a website for HR and compliance for small practices. I would say the focus over the next 12 to 18 months is as we look at Latin America and the opportunity to roll out an equivalent to [Go Ro Med] in our Latin America markets.

Thank you.

Thanks Jason.

There are no further questions at this time I turn the call back over to the presenters.

Thanks, Amanda. Thank you for taking time to listen to our call this evening. Since we are based in the Chicago area, I would be remiss if I didn't mention the Cubs. This weekend will be the first World Series game in 71 years played at Wrigley Field. I say this with no disrespect for team members in Cleveland, but go Cubs. We look for to seeing everyone on the November 10 Investor Day in New York City. Have a great night, everybody. Thank you.

This concludes today's call. You may now disconnect. (End of Transcript)