美國廢棄物管理公司 (WM) 2006 Q4 法說會逐字稿

Good morning. My name is Kate and I will be your conference operator today. At this time, I would like to welcome everyone to the Waste Management Fourth Quarter 2006 Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session. [OPERATOR INSTRUCTIONS].

Thank you. I would now like to turn the conference over to Mr. Greg Nikkel, Director Investor Relations. You may begin your conference.

Thank you, Kate. Good morning, everyone. And thank you for joining us.

With me this morning are David Steiner, Chief Executive Officer, Larry O'Donnell, President and Chief Operating Officer, and Bob Simpson, Senior Vice President and Chief Financial Officer. David will review our financial results for the quarter and the full year, including price and volume trends. He will also provide an outlook on our 2007 earnings. Larry will discuss operating costs and some of other operating improvement plans for 2007. Bob will then review the financial statements including some details on our 2007 outlook. We will conclude with questions and answers. This call is being recorded and will be available 24 hours a day, beginning approximately noon central time today until 5:00 p.m. on February 22. To hear a replay of the call over the Internet, access the Waste Management Web site at www.WM.com. To hear a telephonic replay of the call, dial 800-642-1687 and enter reservation code 5597641.

As is our custom, I will remind that you during the course of this presentation, we will be providing estimates, projections, and other forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the Securities and Exchange Act of 1934. These forward-looking statements are subject to a number of risks and uncertainties, which are described in detail in Waste Management's annual report on Form 10-K for the year ended December 31, 2005, and in the Company's press release this morning.

These risks and uncertainties could cause actual results to differ materially from those described in the forward-looking statements. Additionally, during the course of the presentation, we will discuss free cash flow, which is a non-GAAP financial measure. We will also discuss adjusted earnings growth, earnings per share growth, earnings per share projections, effective tax rate, income from operations, as a percent of revenue, adjusted for certain one-time items, which are also non-GAAP financial measures. We have adjusted these measures for certain one-time items which occurred in the fourth quarter of '06, and the fourth quarter of '05.

David's and Bob's comments on these non-GAAP financial measures will be on an as-adjusted basis. We have defined and reconciled those items as part of the earnings press release or the release 8-K filed today, which can be found on the company's Web site at www.WM.com.

As I stated earlier, this call will be available for replay for a two-week period. Time sensitive information given during the course of today's call which is occurring on February 8, 2007, may no longer be accurate at the time of a replay. Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Waste Management is prohibited.

Now, I will turn the call over to Waste Management's CEO, David Steiner.

Thanks, Greg. Good morning from Houston. Fourth quarter was another strong quarter for Waste Management and completed a very strong year in 2006. But now, we need to look forward to 2007.

So I want to talk about the fourth quarter and the full year of 2006 and the context of what we believe it means for 2007. After adjusting for the items we note in our press release we earned $0.47 per share in the fourth quarter, compared to $0.46 per share in the fourth quarter of 2005. The full-year of 2006, after adjusting for the items noted in our quarterly press releases, we earned $1.81 per diluted share. Which is a 17% increase when compared to 2005 adjusted results. We believe 2006 set a great foundation for 2007. We expect our earnings per diluted share to be within a range of $1.96 to $2.00 for the full-year 2007. Our 2007 earnings are expected to grow by 8% to 10% over the adjusted 2006 level.

Given the economic environment and higher 2007 expenses due to our investment in systems and tools, we believe 8% to 10% earnings growth is a significant but achievable goal. The investments we make in the systems and tools in 2007 and 2008 should lead to longer-term earnings growth of 10% to15% per year, and increases in three-year average ROIC calculated under our long-term incentive plan of 250 to 300 basis points.

In the fourth quarter, we improved our EBIT operating margins to 15.4%, a 30 basis point improvement compared to the fourth quarter 2005. For the full year we expanded our income from operations as a percent of revenue from 130 basis points to 15.5%.

In 2007, we expect the earnings trade-off between higher yield and lower volumes to remain positive, which we believe, along with our operational excellence initiatives, will once again enable us to improve our operating margins by over 100 basis points in 2007. I will start my detailed discussion of the primary areas that drove our results by reviewing the yield and volume components of our internal revenue growth on base business. Total internal revenue growth from yield on base business was 2.9% during the fourth quarter of 2006. This excludes the impact of our fuel surcharge program which resulted in a 0.1% decline due to the decrease in average diesel fuel prices during the fourth quarter.

Our internal revenue growth from yields was strongest in our three collection lines of business. Combined, the revenue growth from yield and the industrial, commercial, and residential lines of our collection business was 4.4%, which excludes the effect of our fuel surcharge. Pricing and industrial, or rolloff line of business led the way, with internal revenue growth from yield, reaching 5.3% in the fourth quarter. This marks the fifth consecutive quarter that IRG yield in our rolloff line of business, has exceeded 5%. Commercial collection yield was 4.8% in the quarter, the highest level we achieved since at least 2002, and the fifth straight quarter it exceeded 4%.

For the full year 2006, our revenue growth for yield on base business was 3.6%. 2006, we discovered that our pricing programs worked better than we expected. But we will continue to refine and expand them in 2007. As we expected, our pricing programs affected volumes, as we lost some volume during 2006. But the trade-off was positive, as we shed unprofitable collection volume.

In the fourth quarter, we saw year-over-year volumes decrease by 4.4%, which was the result of a number of factors. About one-third of this decrease is due to the absence of hurricane-related cleanup volume in 2006. As noted last year, fourth quarter 2005 revenues included nearly $50 million directly related to the hurricane. Another one-third of the decline is attributable to over one less workday during the 2006 quarter and to lower volumes from noncore revenue.

So when we look at our core solid waste business adjusted for these factor, the overall volume loss was only about 1.5%. Most of that volume loss was in the collection side of the business. And again, was an expected result of our pricing program. However, with the dramatic slowdown in housing starts, we did see deterioration in C&D volume, and rolloff bowls in many markets. Again the volume loss in our commercial, industrial and residential businesses has been more man offset by the higher yield which is the same pattern we saw during all of 2006. The result of the tradeoff is that each of our collection lines of business generated both higher earnings, and improved operating margins for the fourth quarter. Which demonstrates that our collection pricing strategy is the right strategy.

For example the EBIT margins in our industrial collections segment expanded 190 basis points while EBIT margins in the commercial collection line of business grew by 270 basis points in the fourth quarter. So to the extent that we lost collection volumes resulted from our pricing program, we have no intention of changing that strategy.

In looking at how 2006 volumes predicted 2007, it is clear that the pace of economic growth we saw in the first half of 2006 slowed in the fourth quarter. That, as well as the slowdown in residential construction activity, negatively affected our rolloff in construction and demolition volumes in the fourth quarter. So far in 2007, we aren't seeing the same level of robust activity that we saw in the first quarter of 2006 when GDP grew at a torrid 5.6% pace. So we expect that volumes in 2007 will follow the inverse pattern of 2006. That is, we expect lower volumes in the first two quarters, with volumes picking up steam in the second half of the year as the economy gains steam.

Thus, while our full-year forecast is roughly in line with current Wall Street consensus, we believe the first quarter will be somewhat lower than the current Wall Street consensus. So our operating plan reflects an economic environment in 2007 that will show modest growth at the beginning of the year that will accelerate during the second half of the year.

Our plan for 2007 calls for our internal revenue growth to be driven by the expansion of our pricing excellence program, and a resulting decline in volume. We believe that positive trade-off between price and volume will once again lead to margin expansion of over 100 basis points in 2007. As Larry will outline for you in more detail, we also plan to continue to improve our performance in the areas of productivity, maintenance, and safety. With a goal of lowering our operating costs as a percent of revenue. And we will invest in the long-term future of our company through the piloting employment of our revenue management system.

So in summary, we had a great 2006, but what did we do in 2006 that will benefit us in 2007? First, we implemented a pricing program that increased yield by more than CPI. For that, our sales pricing and operational groups should be recognized as the best in our industry. Our pricing program was strong in 2006, but we still got a ways to go in 2007 and beyond.

Second, we proved that not all collection volume is good volume. A number of our accounts are actually losing money, and we need to raise their price to a profitable level or replace them with a profitable customer. We made some headway in this process in 2006, but our plan is to accelerate this process in 2007.

Finally, we recognize that our operations personnel did not have all of the tools they need to succeed. So in 2006, we began to implement new computer systems. We will roll those out in late 2007 and 2008, but in the meantime, we provided the field with other tools that should allow them to make significant improvements in our cost structure. After the systems are fully in place, those benefits should accelerate. Again, we're proud of our accomplishments in 2006, but we know that it was the employees of Waste Management that made it happen. And we're confident they will do so again in 2007.

And with that, I will turn it over to Larry who will review our operating cost results.

Thank you, David. And good morning. I will begin by reviewing our operating cost results from the quarter and the full year. After which I will discuss our plan to further improve our performance during 2007. I'm very pleased with the progress of our operational excellence initiatives.

During the fourth quarter, of 2006, we again reduced operating expenses when compared to the fourth quarter of 2005. Operating expenses in the fourth quarter of 2006 were $2.107 billion, or $105 million lower than in the prior year quarter. This is a 4.7% decline and marks the second straight quarter in which we reduced year-over-year operating costs on an absolute dollar basis. A number of factors contributed to the reduction in costs in the fourth quarter. These included our efforts to lower costs as we shed volumes do to our pricing efforts, in the ongoing divestiture of nonstrategic operations. Both of these efforts have been accretive to operating margins.

The reduction of over one workday, the absence of hurricane-related costs, and lower average diesel fuel prices during the fourth quarter of 2006 also led to lower operating costs.

As a percent of revenue, operating expenses declined to 64.2% in the fourth quarter of 2006, compared with 65.6% in the fourth quarter of 2005. This 140 basis points improvement marks the sixth consecutive quarter in which our year-over-year results have improved on a percent of revenue basis.

I will now review our performance in a number of the cost categories using basis point changes as a percent of revenue in my explanation. Subcontractor costs improved by 60 basis points in the quarter as we utilize fewer third party contractors due to the absence of hurricane-related work, divestitures, and lower volume.

Partially offsetting these lower costs, were higher fuel costs, passed on to us by third party haulers, which tend to lag the market by one to two months. Lower direct diesel fuel costs caused a 40 basis point improvement in operating expense as a percent of revenue.

Fuel costs fell on average by $0.14 per gallon in the fourth quarter of 2006, compared with the fourth quarter of 2005, and we've reduced our overall fuel consumption due to the reduction in our collection volumes. Risk management costs fell 30 basis points as a percent of revenue, driven by lower workers compensation costs, and a reduction in auto and general liability claims expenses.

Our improved safety performance as measured by our total reportable injury rate and OSHA safety measure, was again the primary reason for this improvement. We lowered our TR/IR year-over-year for the 24th consecutive quarter.

For the fourth quarter of 2006, we improved our TR/IR performance to a rate of under four, and completed the full-year with a rate of less than five. This is the first time we've achieved those results in our fourth quarter results bring us closer to world class performance and safety, and well below the average for our industry. There is nothing I'm more proud of than the progress we've made in safety. Safety is a core value for us here at Waste Management. And our focus will continue in 2007. Our people's dedication to safety continues to give us industry-leading results.

Transfer and disposal expenses improved by 15 basis points during the fourth quarter of 2006. The decline in collection volumes from our pricing initiative, as well as our focus on exiting low margin collection businesses where we don't internalize the volume were the contributors to the improvement. We also produced a 60 basis point improvement in the category of other operating expenses. The largest contributor to this was the reduction in Hurricane Katrina support costs we incurred in 2005. As a percent of revenue, labor, and related benefits costs, increased by about 15 basis points.

On an absolute dollar basis, we did reduce our costs related to salaries and wages, benefits, and contract labor by about $11 million compared to the fourth quarter of 2005. We reduced our driver hours by over 900,000 hours in the fourth quarter, compared to the fourth quarter of 2005.

In the fourth quarter of 2006, we reduced our collection fleet maintenance costs compared to the fourth quarter of 2005, which kept total maintenance costs as percent of revenue essentially flat. This is a solid accomplishment in light of the 5% inflation rate we've seen in the areas of labor, parts and supply.

Landfill operating costs increased 15 basis points as a percent of revenue, due primarily to higher leach aide treatment expenses from wet weather at some of our landfills.

I now want to briefly discuss our full-year operating expense results before turning my attention to our 2007 expectations. As a percent of revenue, our full-year 2006 operating costs was 64.3% of revenue, a 170 basis point improvement when compared to 2005. This demonstrates that our proven operational excellence initiatives continued to contribute to stronger financial results. And it sets the stage for additional improvement in 2007.

As we enter 2007, we have completed the implementation of our compass maintenance systems at substantially all of our collection and landfill locations. We've also rolled out standard processes for preventative maintenance and trained over 1200 technicians on these processes. We further expect the effort to help us reduce annual maintenance costs going forward.

Another benefit of deploying the compass system throughout our company is the available of comprehensive historical maintenance data. The data includes preventative maintenance, compliance results, identification of repeat repairs and the tracking of costs and utilization of each vehicle. This enables us to better focus on vehicle utilization, with the objectives of retiring excess vehicles and targeting the highest cost vehicles for replacement.

These will be of primary importance as we manage the number of routes we service in conjunction with our commercial customer profitability analysis and our ongoing pricing effort. Continuous improvement is one of the benchmarks of our proven operational excellence efforts. We expect to improve our productivity in all three collection lines of business in 2007, just as we did in 2006.

2007 also marked the second full year in which our field managers will be focused on eliminating customer service interruptions. This metric measures road breakdowns and maintenance event, that prevent our trucks from leaving the yard on time. We've been dedicated to operational excellence for a number of years. I'm very pleased with the accomplishments and the progress we've made, and I'm excited about the opportunities we've identified for further improvement.

I'm confident that our dedicated employees will utilize the platform we've built to further improve our operating expense margin in 2007. With that, I will turn the call over to Bob.

Thank you, larry. Our SG&A costs increased $24 million to $348 million during the fourth quarter of 2006, versus the same quarter of 2005. As a percent of revenue, our SG&A costs were 10.6%, which is 100 basis points higher than in the fourth quarter of 2005.

For the full-year 2006, SG&A costs as a percent of revenue increased by 60 basis points to 10.4%. These increases were primarily caused by expenses related to our revenue management system and other systems initiatives. Higher incentive compensation, and unclaimed property charges.

Depreciation and amortization expense for the fourth quarter of 2006 was down $4 million when compared with the fourth quarter of 2005. As a percent of revenue, depreciation and amortization expense was 9.8%, compared with 9.6% in the prior year quarter. In the fourth quarter of each year, we reviewed the estimated cost to cap the un-- or the filled portions of our landfills.

In 2006, we benefited from a $5 million adjustment from this review, compared to an $18 million benefit in 2005. This $13 million reduction in benefit in 2006 equates to an earnings reduction of $0.02 per share. If the benefit had repeated, we would have had an additional 40 basis points increase in margin.

Moving down the income statement, after the impairments and the usual items totaled $35 million for the fourth quarter, due principally to an asset impairment charge at a landfill, and the resolution of a claim related to a sale of assets which occurred in 2000. These were partially offset by gains on the divestiture of certain operations. Interest expense was $133 million in the fourth quarter, a $6 million increase from 2005. This increase is due primarily to the higher interest rate environment in 2006.

Total reported debt decreased by $325 million during the fourth quarter, compared to the end of September, primarily due to the retirement of a $300 million senior note, which matured in October. The floating rate portion of our total debt portfolio is 36% at the end of the quarter, and our debt to total capital ratio is 57.2%.

We expect our interest expense to be approximately the same level for the full year 2007, as it was for the full year 2006. We expect that a slightly higher interest rate environment will be offset by a lower average debt level. Interest income increased by $5 million to $16 million in the fourth quarter, due mainly to the higher interest rate environment in 2006. We project that our interest income will decline by about $35 million for the full year 2007, due to our expected reduction of cash balances, and a decline in interest income related to tax audit settlements.

Moving to the area of income tax, in our press release, we noted an $18 million benefit to net income in the quarter. This benefit results from favorable tax audit settlements, and an adjustment to deferred taxes arising from the reduction in our effective state income tax rate. In the fourth quarter, our effective tax rate adjusted for this benefit was 29.6%. This rate was below our previous projection, due in part to our improved operating results which now allow us to take advantage of state net operating losses.

The rate was also positively impacted by a reduced effective state tax rate for 2006, and the benefits of slightly higher Section 45-K credits than forecasted. Our full-year 2006 adjusted effective tax rate excluding those benefits noted in our quarterly earnings releases, was 34.4%. Net benefits related to our landfill gas operations, and synthetic fuel partnerships contributed only $0.01 per share in the fourth quarter of 2006, compared to $0.04 per share in the fourth quarter 2005.

Turning to cash flow, we generated very strong cash flow during the fourth quarter, and for the full year. Net cash from operations for the fourth quarter of 2006 was $675 million. For the full-year, it exceeded $2.5 billion, due to stronger operating results, a significant improvement in working capital, and lower capital expenditures than projected.

During 2006, our capital expenditures were over $1.3 billion. Including the $240 million in net proceeds from divestitures and other asset sales, our free cash flow was $1.450 billion for the full year.

We returned a total of over $1.5 billion in cash to our shareholders in 2006, to our share repurchases and cash dividend payments. Based on our market capitalization at the beginning of 2006, that is a pre tax cash return of over 9%.

Since 2002, we have returned over $5 billion in cash to shareholders through our combined dividend and share repurchase program. Even with those significant returns of cash to our shareholders during the year, our balances of cash and short-term investments were nearly $800 million at year-end 2006. As we stated in our press release, we expect to generate between $1.3 and $1.4 billion in free cash flow, during 2007.

And 2007 marks the third year of our three-year program to return to shareholders up to $1.2 billion in cash per year through share repurchases and cash dividend payments. We currently expect to allocate about $510 million to the dividend payments and about $690 million to share repurchase.

Based on our expected 2007 free cash flow, and our year-end 2006 cash balances, we would have up to an additional $700 million for debt repayment, acquisition and other business opportunities, or additional share repurchases during 2007. To round out the discussion on cash flow, for the fourth quarter of 2006, our cash tax payments were $152 million, and our cash interest payments were $167 million.

I want to update you on our divestiture program. As of today, we have divested operations with over $325 million in annual revenue. We have several other transactions under agreement. When these close we will have sold operations totaling over $500 million in annual revenue. We do know if we will hit our goal of selling the rest of the over $900 million in annual revenue this year but our objective remains to fix or sell underperforming operations.

Some of our primary initiatives during 2007 will be the rollout of our new revenue management system and the continuation of operational and pricing improvement programs. Nearly all of the 2007 expenses associated with these initiatives will be classified as selling, general and administrative expenses, as a result, we expect our SG&A expenses as a percent of revenue to increase to above 10.5% for the full year 2007. These initiatives are some of the primary drivers of our expected improved financial performance for the long-term. So we view the increased spending and SG&A as necessary investments to create long-term value for our shareholders. In the future, as the initiatives are completed, we expect that our SG&A costs will be reduced significantly.

Before I close, I wanted to discuss our expectations for first quarter 2007 results when compared to the analyst current consensus. As David mentioned, we expect to grow our earnings by 8% to 10% for the full year, with more growth in the last half of the year, than the first half. Due to the seasonality of our business, the historical pattern is for our first quarter results to account for only 16% to 19% of our earnings per share for the year, on an as adjusted basis. This pattern is not reflected in the analyst current consensus for the first quarter of 2007.

In closing, we generated excellent results in 2006, as a result of the efforts of our 48,000 employees. We believe in the operating strategies that we have been following, and plan to build upon them in 2007. We anticipate that our execution of these strategies will improve the quality of our business and that this will be seen in higher earnings, expanding margins, strong free cash flow generation and improved returns on invested capital and with that Kate, lets ope the lines for questions.

[OPERATOR INSTRUCTIONS] Ladies and gentlemen, if you would like to ask a question, please press star, then the number one on your telephone key pad. If you would like to withdraw your question, press star then the number two on your telephone key pad. We will pause for just a moment to compile the Q&A roster. And your first question is from Shannon Mikus.

Good morning.

Good morning.

It looks like excluding the impact of 1.3 fewer working days and without the hurricane work of last year, volumes were down 1.5%. Can you quantify how much of that was due to your pricing initiative? And maybe talk a little bit about how hey we should think of volume declines going forward as you continue to replace lower margin business.

Yes, I think that is a great question, Shannon and one that we can't emphasize enough. When you look at the volume picture, we split it into the two components. We split is into collection and landfill and they really are two different animals and on the collection side, what we saw was that the volume that we lost was the right volume, we talked about it all year, we've been trying to shed unprofitable business, and even though we shed volume in the collection line, we still saw the earnings and the margins increase fairly significantly in the collection line. So it just goes to show that the strategy of losing unprofitable volume works very well. We expect that to continue into 2007. And so we will continue to shed unprofitable volume as we go through 2007 and that will be good for earnings, good for margins.

From the landfill side, is a little different story because the landfills are so hugely incremental from a margin point of view and a profitability point of view that if you lose the margins, it is a little bit harder -- if you lose the volumes it is a little bit harder to make it up. So what we saw in the fourth quarter, was that C&D volumes which had been running at dramatically strong paces throughout 2006 significantly declined in the fourth quarter. Now, what is the strategy to that? There are two things that can happen. The economy can stabilize and we can see home starts stabilize and then start picking up and we can start to see C&D, and special waste volumes coming back throughout 2007. But we've also got to take the same approach that we took in the collection line. Which is if we're going to lose volume, we need to make it up in price. And that's why in 2007, we're going to roll out the same pricing excellence program that we had in the collection line, we're going to roll it out to our landfill line. So we're going to be charging for things just like we did in the collection line, we're going to be charging for services that we provide, like washout, digout services, and we're going to be charging surcharges like our environmental fee, to make sure that we get the pricing at the landfill, so that even with a flat volumes, we can hit our 8 to 10% earnings growth target.

Okay. Thank you. And also on your divestiture program, in the last call, it sounded like you thought you would sell close to the targeted 900 million, even though you had a lot to make up for in the fourth quarter, can you give some color on why that didn't happen and how we should think about it going into '07?

What we found in '06, as you can imagine, as we went through the program, I think you all know, certainly we know that it went slower than we had hoped, but what happens is when you sell the smaller businesses, those are pretty easy. Once you get down to the bigger businesses, have you more regulatory approvals, you have to file Hart-Scott-Rondino filing, the states start taking an interest in the transaction so sometimes that slows them down. So what we've decided to to say is, the goal of this entire program was never to sell $900 million of revenue. The goal of this program was to institute a financial discipline in our company to where we either fix or sell all of our underperforming operations. So we think that in 2007, rather than talking in terms of revenue divested, we just need to stay focused on the objective, which is getting rid of underperforming operations or fixing underperforming operations an then obviously we will update you all as transactions occur.

Thank you very much.

Sure.

Your next question is from Bill Fisher from Raymond James.

Good morning.

Good morning, Bill.

David, you gave some color on the C&D pricing on the landfill side. On the special ways, would you kind of touch on, is it similar kind of push on that side, or most of your pricing on '07 maybe on the MSW side?

When you look at landfill pricing, it is difficult to have, on both C&D and on special waste volume, you're basically going to have some pricing discipline and push prices up at the gate but on MSW you have a little bit more opportunity to do what we did in the collection line which is charge for ancillary services, charge for different types of things that we're going to do, but we will bring those over to special waste, and to C&D volumes, but generally when you're doing special waste. It is job work so you're not going to charge for ancillary fees, but what we will do is we will bring pricing excellence to all three lines of business, but you're absolutely right. It will hit the MSW line more than the other line.

Okay. Thanks. And I may have missed it, Bob, but did you give a tax rate, any sort of guidance for '07 on the tax rate or the credits you get on the section credits?

We didn't give any specific guidance on that, Bill. It really goes to what you think -- what we all think the price of oil will be during the year. If you look at the price right now, our effective tax rate will been 32%. If we were to have a phase-out, a complete phase-out of the credits we would be closer to 40.4%. But if you look at the futures right now, you would be thinking more 32 than it would be anything north of that but it just depends on what the price of oil does.

Perfect. Thank you.

Your next question is from Kevin Monroe from Thomas Weisel Partners.

Good morning.

Good morning, Kevin.

Wanted to get your thoughts on the pricing environment going into 2007, with a potentially slower volume environment. And the last time, I mean granted, the economy is probably not as in bad shape as it was in '02 and '03 but the last time you had some significant negative volume growth in that time period, pricing growth was de minimus, really, and was just wondering, I know things have changed in terms of the company but what gives you the confidence that you can still get CPI or better pricing in a much slower volume -- in a potentially slower volume environment?

Sure. And real T-really all goes -- and it really all goes back again to what our strategy has been, which is to push out unprofitable customers and replace them with profitable customers. And so as long as you are doing that, our goal is going to be to continue to get pricing that is above CPI, because if you can get pricing basically, if you can get pricing above CPI, you are going to get margin expansion, so, again in -- so you know, again, in the fourth quarter, we have a shrinking volume environment, and in the collection line, and we had a shrinking volume environment, but we had an increasing earnings, both from a margin point of view and from an absolute dollar point of view. And we had increasing earnings in the collection line of business. So, my personal point of view is if the strategy is working don't change it. It and right now, the strategy in the collection line is working perfectly. We see absolutely no reason to change it. Even in a shrinking volume economy.

How about on the landfill side?

On the landfill side, quite honesty we're disappointed in where we finished up the year in landfill pricing. That is why we've taken the same disciplined approach that we took the collection pricing and we're going to apply pricing excellence to the landfills, in 2007. So we need to do a better job at the landfill, we absolutely will do a better job in 2007, and, you know, I don't think that quite frankly, I don't think the economy will have anything to do with our pricing program, because as I said before, if, if the volumes shrink, all that means is we have to do a much better job of making sure that we get rid of our underperforming customers, and so we're going to expand our margins and earnings by doing that and I think that happens in a shrinking economy or in a growing economy. Now, having said that, I think everybody at this table would agree, we would much prefer a strong economy than a weak economy.

Right. And one more question, on the hundred basis point operating margin improvement in 2007, can you give us a little more color on what the drivers of that are. Obviously, better than CPI prices are a key driver but are there specific things and maybe I don't know, maintenance, cost or something that have you efforts that are driving -- where you think are drivers of that going in '07?

We talked about those, I mean obviously pricing has been the fundamental driver, but we've shown some great improvements on operational cost performance, and so it is basically what we talked about earlier which is the strategy is going to be the same in 2000 search as it was in 2007 as it was in 2006. And in the past, we tried to sort of give all of the various component parts of what the strategy is, and how many dollars are applied to each, and what we found is that as the situation develops, it always turns out a little bit different than you predict. So we decided that what we're going to say is that from a pricing perspective, from a volume perspective, from an operational improvement perspective, we've got to get them all done and if an environment changes on us, if we have a weaker or a stronger economy, we're going to have to react to that, to get to our 8% to 10% earnings growth. And so rather than go through all of the various component parts and make predictions and the only thing we know about them is that they're going to be wrong, we've said the bottom line is, we're going to grow earnings 8% to 10%, and we're going to do whatever we need to do during the course of the year to get that done.

Great. Thank you.

The next question is from Nigel Coe from Deutsche Bank.

Thanks, good morning. I want to talk about the prices, that became a little bit weaker than I expected. And I am not sure I understand how much was due to the weak landfill pricing and maybe how much was due to the weakness, in C&D, and rolloff. So if you could give us a bit more color on the pricing, it would be great.

Sure, would be glad to. And the other thing to remember is Wheelabrater, our Wheelabrater electricity price goes into our pricing from an IRG perspective. And remember last year after Hurricane Katrina, you had a huge spike-up in price on the electricity side, and so we had huge price last year in the fourth quarter, at Wheelabrater, and we didn't see that repeat this year. So that had an effect of dragging it down. We also have, we went through a collection pricing excellence, there are a number of fees and surcharges that we added on that obviously don't anniversary.

So you have to do a better job of replacing those with other forms of pricing and then you got sort of the typical seasonality mix that you have in the fourth quarter when we look at the quarter, certainly we think that it is more indicative to look at the full year, on pricing than to look at the quarter, you had those few things that affected the fourth quarter, you're going to have a few of those types of things in 2007, but when we look at pricing, we look at the full 12 months, and think more in terms of that, than we do here. Now, again, the whole point of pricing is simply to get pricing that exceeds CPI. So that is what we're going to drive to do in 2007 and we expect we will achieve that.

Okay. And on the landfill side, I'm not quite sure I understand why the pricing is so weak there. Is it because the LP systems are still not implemented the sites, is it because we have seen some more pricing pressure from complete landfills? What is going on there?

And it is what I talk about earlier. It really is just the maturation of our pricing programs, at the landfill, just like the maturation of our pricing programs in the collection line of business and when we first started out, landfill pricing, we raised the gate rate, and that's what we did, for landfill pricing, and some of those stuck, some of those didn't stick but we did a pretty good job of raising gate price, and now in the maturation of the program we're going to move just like we did in the collection line to other things, because pricing isn't just raising your gate price. It is making sure that you charge for all of the services you provide, and again like I talked about with washout, digout, it is about making sure that you -- it is about making sure that you recover your increased costs, so as environmental costs continue to go up, we need to make sure that we recover those, through the proper surges. And then we need to make sure that we get the right mix. You're always going to have a mix issue in landfill. So for example, in the fourth quarter of this year, we had two land fills, one in Los Angeles and one in Chicago, and that had to close by the end of the year. And when you've got a landfill that has to close by the end of the year, you need to bring volume in, and so we brought in volumes, at a rate that wouldn't be our normal market rate. Because we were, in those instances we were playing a volume game because those landfills were going to close. So there is also always a mix issue. But basically Nigel what it comes back to was that in 2007, we need to take the same disciplined approach we took in the collection line, and bring it over to the landfill line, and we think there is huge opportunity in 2007.

Okay. Thanks.

Thank you.

The next question is from Corey Greendale from First Analysis.

Hi, good morning.

Good morning.

A few questions. First of all, in terms of your comment about the economy, just wondering, kind of what you're looking at that gives you confidence that the economy will improve in the back half of the year. And, I imagine you're intentionally ambiguous about this but any sort of commentary on what the guidance might look like if we assume more of a flat economy instead of an improving one in the back half?

Yes, and I guess by flat, if you mean no growth, as opposed to sort of a normalized 2% to 3% GDP, I look at a flat economy at more 2% GDP rather than a negative growth or no growth economy. It is the same story. You see the same story we see with housing markets and you're starting to hear how the housing market talk about how their market is stabilizing and they expect to have some growth in the second half of the year and you hear the same thing from the auto companies, basically what we saw in the fourth quarter, I think everyone was surprised by the 3.5% GDB number that we saw in the fourth quarter but when you dig into it what you found it was a consumer and service driven growth in GDP, not a manufacturing and housing growth in GDP, so when we look at the back half of the year what we're hoping is the manufacturing and the housing sector ceases to decline because that is basically what happened in the second half of '06. You all know it from the stories you see just like we see it in our business, which basically housing starts shut down. And just like anything else, any time you stop building, your inventory decreases and at some point in time, you absolutely have to start rebuilding. And we think we will see that in the manufacturing sector and the housing sector in the second half of the year.

And then following up also on the guidance, on Bill Fisher's question, about the tax rate, and I understand you're not specifically saying what you expect there, but I think in the past, you talked about the Section 45-K credits being potentially an $0.11 to $0.12 swing and the guidance range is $0.04 so was thinking maybe you could give some where within that range in that tax credit you're assuming for the guidance?

I think that the -- it kind of depends what you think the price of oil will do, and if you are looking at the price of oil right now, and looking at the forward curve, you've got to say that we're going to kick it all $0.11 of credit next year, or in 2007.

Okay. So is that essentially what you're assuming in the guidance?

It sort of goes back to what we said before, which is when we put out our guidance, it is based on so many different factors that move in different ways, that we're trying to get away from giving specific guidance on specific line items and trying to go straight to the bottom line and saying, whatever happens, if fuel goes up and we start losing the tax credits or if fuel stays down and we get more tax credits, something else might happen. The economy can do different things. Everything is a variable. So what we're going to say is rather than trying to give you all specific guidance on the variables, we are going to give you specific guidance at the bottom line, which is we're going to grow earnings 8% to 10% so we tried to stay away from giving specific guidance on specific issues because there is only one thing we know, what we expect is going to happen in 2007, won't be the way it goes down.

Okay. Understood. And looking at the specific quarters, in '07, the issue that came up a couple of times with the disparate in the number of workdays, does that reverse in '07? Or does it stay the same? Or there any other kind of nonrecurring things in any given quarter that we should be thinking about?

As I recall the first half of the year was negative 1workday and the second half of the year we make it up so the first quarter is negative 0.7 of a a workday and the third quarter is negative 0.3 and the fourth quarter is positive 1.

And that's what we should expect in '07 you're saying?

Yes.

And one last question. On the SG&A, should -- are we talking kind of an '09 time frame when we get back to more of a normalized level? And should we be thinking of 10% or what do you think the level should be after the investments are done?

Whether it is '09 or 2010 or 2008, what you will find is our SG&A will go below, well below 10%, at least between 9% to 10% is what we expect to see but it really depends on how quickly we roll out the SAP and other initiatives and can take action on those.

Thank you very much.

Thank you.

Your next question is from Leone Young from Citigroup.

Yes, good morning. You talked a little bit about landfill pricing being disappointing. Did you ever mention the absolute number?

No, we didn't. And the reason why, I mean when you look at landfill pricing and MSW, you've got this thing with Bradley and Settler Hill's in Chicago, which if you take those out, it was about 2.5%, and then when you look at C&D and special waste, because there is so much movement in the mix we don't really even talk about those types of pricing. But basically you can see it by the numbers that you saw in our collection line. Our collection line of business is far ahead of our landfill line, from a pricing point of view. And 2007 is the year where we've got to catch that up. And so we did what you would expect. As we've said, we are going to take the same things that worked real well and are continuing to work in the collection line and move them over to the landfill line.

And speaking of collection lines, I didn't catch what residential collection was.

Residential collection from a price in the quarter?

Yes.

3.2.

Great. And lastly, just looking at some of the issues with volumes in the fourth quarter, I'm looking for what is nonrecurring. So in other words, is there anything left over from the hurricane into the first quarter? And what about the noncore operations?

There is a little bit of the hurricane left in the first quarter, because remember, that was an unusual hurricane, and that it lasted such a long period of time. The noncore should roll off in the first quarter. That was that project we did up in Canada. And as I recall, that should basically roll off in the first quarter.

Terrific. Thank you.

Certainly.

The next question is from Jonathan Ellis from Merrill Lynch.

Good morning, guys.

Good morning.

Just to clarify landfill pricing, you mentioned it was 2.5% excluding Settler's Hill. I believe last quarter you mentioned in the fall that it was 2.9%. So I just want to make sure on an apples-to-apples basis was the price that was quoted last quarter was including Settler's Hill or not including it and how should we look at the comparison between the two quarters.

Greg would have to go back and see when we gave the price last quarter whether it was comparable or not but from a strategic point of view, that is -- again, that is the area where we've got to get focused in 2007. You see a lot of different numbers out there for what we're doing in landfill pricing, because of that different mix. And I saw one of the analyst reports that showed very robust pricing but that is because of the mix between gate rate and contracted volume. So, what we've said about landfill pricing, and all pricing, is that we need to be very consistent everywhere, every time. It is going to be up. And it is going to be up more than CPI. So that we can expand our margins. And so that's going to be the focus in 2007. Making sure that what we're doing there only continues to get better.

Okay. And on that point about the gate rate versus contract pricing, can you give us a sense of how that trend during the quarter and what the spot market was looking like, vis-a-vis your negotiations on some of these contracts?

We had plenty of situations where we won, and a couple where we lost, and it is regional. You know, it has always been regional. Are you going to see stronger pricing out west and in parts of the south than you're going to see in the midwest and parts of the east. But generally, I would say that the pricing environment that we're seeing right now is -- let's put it this way. The pricing environment that we're seeing right now is a pricing environment that worked very comfortable, sticking with our strategy, of continuing to raise price, and pushing out unprofitable customers.

John, this is Greg. I wanted to clarify for you the third quarter number, that 2.9% which you remembered correctly. That was totally. It was total for all of our disposal facilities which included landfill transfer stations, and our waste to energy facilities so that was a total number. It did not exclude anything like Settler's Hill or Bradley. And the number that David had given you earlier, 29.5%, was for MSW only in this quarter and one other thing to note is that David already addressed the fact that our Wheelabrater pricing this quarter was not as strong because you didn't have the same benefits of that energy market spike like we did in the last quarter of 2005.

And would you be able to quantify what the impact of the Wheelabrater pricing was on total pricing this quarter?

The price was down 2.1% at Wheelabrater.

Okay. Great. And then just the last question, in terms of the outlook you gave for 2007, and as you think about the underlying volume growth assumptions what are you thinking about in terms of the existing business, versus the impact of divestitures that are going to be completed this year?

You mean as far as the overall effect on volume?

That's correct.

I mean certainly, we expect volumes to negative in 2007, as we continue through our profitable analysis with our collection base. So we certainly expect it to be negative. Again, we also don't expect there to be -- remember the first and second quarter of last year, when the C & D volumes were hugely positive because of the construction boom, we don't expect to see that again in 2007. We expect to see volumes that are at the landfill, that are more moderate. And what we've seen so far in the first few weeks of 2007 has been that the volumes that we had in the fourth quarter have basically stayed about the same. They stabilized in some markets. They're continuing to show some decrease in others. They're coming back in others. So basically what we see going into the first quarter of 2007 is about what we saw in the fourth quarter of 2006.

Okay. And then just one last question for me. In terms of weather, I know obviously some areas of the country had a lot of precipitation. Any impact, discernible impact this quarter from weather?

There is always -- that's why this is such a seasonable business. There will always be impact from weather and my personal opinion is that's why we saw 5.6% GDP in the first quarter last year is because we had such spectacular weather in the first quarter of last year. Certainly, you've seen just like I have the storms in the midwest, which basically shut down our Colorado market area, for days at a time, and so it will certainly have an effect. But again, when we look -- what we're trying to do here is to say let's look at the fourth quarter and understand what that means for 2007, but let's also look at whole year in context, because even with the first quarter, below consensus, because of seasonality, because of what the things that Bob talked about, we still fully expect to have our 8% to 10% earnings growth for the full year.

Great. Thanks, guys.

Thank you.

Your next question is from Scott Levine from JPMorgan.

Good morning.

Good morning.

I was hoping you might be able to talk a little bit about churn and/or anything you might be able to tell us, to kind of give us an indicator of when this trade-off of price for volume -- I know you said it should remain favorable through '07 but what are the types of things we should be looking at, as indicators that the environment might be changing, either for the better or for the worse? From a pricing standpoint.

Obviously, the first thing to look at is new business pricing. We've talked about it now for about 18 months. That as long as you can get new business pricing that is higher than the rate at which you're losing customers, in other words if you're adding customers on the rolloff side at 400 a pull and you're losing them at $350 a pull, you're going to get an added benefit from doing that and that's exactly what we've seen happen in our collection lines of business. So new business pricing is really the key for us. And then you hit the nail right on the head. The churn rate is also important. But the absolute churn rate is not important, the importance of churn rate is not just the churn rate. It is who are you churning. Are you churning the right customers? So in the fourth quarter, we saw a reduction in churn down to 9.1%. But more importantly, what we saw was a churning of the right customer, the unprofitable customers, and we're going to accelerate that process into 2007, and make sure that when we're deploying our assets, we're deploying them to the best return of capital that we can get.

And have you seen any change in the behavior of the independence from a pricing standpoint? Is there any reason to think there is any change or will be any change in '07 given the macro outlook you see?

Again, when we talk about the pricing program, there is absolutely nothing we can do about the competitive reaction that we see out in the market. And so we're going to focus on what we can do, not on what our competition is doing and what we can do is to continue to get paid for the services we provide, and continue to make sure that as our costs go up, we are recovering the surcharges that cover our increased costs, again such that our pricing program exceeds CPI, exceeds the cost inflation that we have in our cost base, and leads to positive margin growth.

One last one and then on CapEx, is there any change in the makeup of the budget in '07? I know you bought a lot of trucks in '06. I was hoping you would be able to talk about where there might be differences in the CapEx budget for '07, as well as the spending on the SAP system in '07-'06, I guess more of that is on the SG&A side in '07 versus --

Excuse me.

We don't like to call it the SAP system, Scott, we like to call it the SAP system, it makes us feel better.

Okay. Fair enough.

The SAP spending in '07 will be almost all expensed, about $15 million of it going through SG&A in '07. And that could go up or down depending on how quickly we deploy across the company. We expect some of that will be finished -- we expect it will be finished in 2008 and after we've gotten through the two pilots we will decide which one how quickly we will go across the company. Bullet we're expecting right now about $50 million in that. With respect to capital, our spending on vehicles is down substantially year-over-year, and -- but that really accounts for the decline in our -- in the lower -- at the low end of the range in our guidance of CapEx. I think our spending is well below $100 million less than last year and what we are -- in buying vehicles. And the rest of it is more along normal trends.

Okay. Thank you.

Thank you.

Your final question is from Brian Butler from Friedman Billings Ramsey.

Just under the bell, thank you.

Good morning, Brian.

I just wanted to clarify something on the volume growth, just to be clear. Industry-wide, we're hoping -- you're still seeing positive volume growth, I mean GDP is still positive it is just you guys are still pursuing the pricing on an aggressive basis that is resulting in negative volume growth for you? Is that a true statement? Or are we actually seeing negative volume growth just industrywide?

No I think that is a very true statement. The only thing I would add to that is that the GDP you saw in the first half of 2006 was driven more by construction. The GDP growth that you saw in the second half of the year was driven more by service economy and obviously that is going to have an effect on landfill volumes. So basically, what happened in the fourth quarter, is that the collection line of business performed just as we would expect it to perform, with the negative volumes, that didn't hurt us, and again, obviously, we would rather have higher volumes but the negative volume, the trade-off paid off and on the landfill side, the torrid pace of volume growth that we saw in the first half of the year, just didn't continue in the fourth quarter. And so, when we look forward, I think you're absolutely right, the economy is growing, and we certainly hope that it continues, and we hope that it continues again in the manufacturing and housing, and outside of the service segment.

Okay. And then when you look at the margin, the margins, 100%, you're looking for, for the 2007, does that kind of follow the same expectation that it is going to be more weighted to the back half of the year or is that going to be fairly steady as you push through pricing more on a consistent basis.

We will be pushing pricing, not only at the landfills, but in our Wheelabrater unit, in our recycle America unit so I think it is safe to say that the margin expansion and obviously we're doing the profit, the customer profitability that begins in the beginning of the year and will run throughout '07 so I think it is safe to say that the margin expansion picks up in the second half of the year. And the thing to remember is that margin expansion is driven by two things. It is driven by the things we do which we will continue to do in '07 and by basically the economy which drives landfill volumes and we are saying that landfill volumes pick up more in the second half than the first half. Those landfill volumes are hugely incremental margin. And so I think it is a safe assumption to say that the margin expansion occurs more in the second half than the first.

Okay. And then just to clarify on the free cash flow guidance, does that include any divestiture assumptions?

It does. And if you see the schedule that we attached to the press release, you will see some examples of the types of way that we got to that number.

Okay. Great. Thank you very much.

Thanks, Brian.

Thank you.

This concludes today's question-and-answer session. I will now turn the call back over to Mr. David Steiner for closing remarks.

Thank you. When we look at 2006, we couldn't be more pleased with our performance in 2006. At $1.81, that is about 10% higher than what the consensus was at the beginning of the year. When we look at the fourth quarter, it is really fairly simple for us to break it down. I talked at the very beginning of the call that we are going to look at the fourth quarter to understand not because of the fourth quarter, but to understand what the fourth quarter means, to 2007. And so when we take the strategic look at the fourth quarter, all in, from an operating point of view, we see that in the fourth quarter of 2005, we got a $0.03 additional benefit from 45-K credits, and as Bob said we got a $0.02 additional benefit in 2005 from capping adjustments. And we got a $0.01 benefit in 2005 from the hurricanes so many of us have talked throughout the year that we looked at 2005 fourth quarter as a $0.40 fourth quarter. This year, obviously, we had the tax benefit. So this year's fourth quarter would be $0.43 or $0.44. Which is exactly in line with the 8% to 10% earnings growth that we see in 2007. So despite the fact that we had lower volumes in the fourth quarter we still grow our earnings by 8% to 10% when we look at it on an operating basis. That's what gives us the confidence we are going to get it down in 2007. And I know that we got about 48,000 employees that are going to help us get it done and we will talk to you throughout the year and we look forward to seeing you on the road. Thank you.

Thank you for participating in today's Waste Management fourth quarter 2006 earnings release conference call. This call will be available for replay beginning at 12 Eastern time today, February 22, 2007, at midnight, and the conference I.D., number for the replay is 5597641. Again, the I.D., number is 5597641. The number to dial for the replay is 1-800-642-1687. Or 706-645-9291. Thank you. And have a great day.