美國廢棄物管理公司 (WM) 2007 Q3 法說會逐字稿

Good morning. I will be your conference operator today. At this time, I would like to welcome everyone to the Waste Management third quarter 2007 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) I will now turn the call over to Mr. Greg Nikkel, Director Investor Relations. Please go ahead, sir.

Thank you, Dennis. 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 start things off with a summary of the financial results for the quarter, our review of the details of our revenue growth, including price and volume trends, and our updated 2007 guidance. Larry will discuss operating costs and other related topics, including an update on the Los Angeles labor strike. Bob will then cover the financial statements with an update on our Section 45K tax credits. 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 November 9. To hear a replay of the call over the Internet, access the Waste Management website at WM.com. To hear a telephonic replay dial 1-800-642-1687 and enter reservation code 16948617. As is our custom I will remind you that during the course of this presentation, we will be providing estimates, projection, 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, 2006, 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. During the course of the presentation, we will discuss free cash flow, which is a non-GAAP financial measure. We will also discuss earnings per share, earnings per share projections, income from operations, or EBIT, income from operations as a percent of revenue, operating expenses, and operating expenses as a expense of revenue, all adjusted for certain unusual and -- or nonoperational items, which are also non-GAAP financial measures. David's, Larry's, and Bob's comments on these 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 today on the Company's website at 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 October 26, 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 expressed written consent of Waste Management is prohibited. Now I will turn the call over to Waste Management's CEO, Dave Steiner.

Thank you, Greg. Good morning from Houston. I'll begin by summarizing our performance for the quarter and I'll then review our pricing and volume performance in more detail. We had a number of challenges in the third quarter that we had to overcome.

First, we had to respond to the labor disruption in Oakland, California. We did a spectacular job in dealing with the issues related to such a large labor outage, but it did come at a cost of $16 million after-tax, or $0.03 per diluted share. We also saw a sharp increase in oil prices that deteriorated our Section 45K tax credits. When we updated our 2007 earnings projection on our second quarter conference call, we had expected a $0.02 per diluted share benefit in the third quarter, but we received no Section 45K tax benefit because of the jump in oil prices. So our earnings were hurt by $0.02 per share relative to our expectations coming into the third quarter.

Looking ahead to the fourth quarter of this year, because oil prices have remained high, we would expect a similar situation to occur. We expected a $0.02 benefit in the fourth quarter, but at current oil prices we will receive essentially no benefit. So our full-year projections of $2.07 to $2.11 per share should be reduced by the $0.04 loss of Section 45K tax credits. In other words, we expect to earn between $0.51 and $0.55 in the fourth quarter without any benefit from Section 45K tax credits. This demonstrates that we still expect to meet our full-year operating earnings goals as adjusted for this nonoperational tax item.

Landfill volumes were lower than we expected, with volumes in September being not as strong as in the prior months. As we said at the beginning of the year, we expected volumes to rebound in the second half of the year, but volumes did not come back at our landfills, dropping about 4.5% in the third quarter. Because of the high-fixed cost nature of our landfills, it's more difficult to flex down costs than our collection operations. But Larry will talk about some of the plans that we have to reduce costs at our landfills in response to lower volumes.

With total volumes down 5% in the quarter, it would be easy to assume that volumes were the primary reason behind our earnings shortfall. But volumes were down 4.8% in the first quarter and 4.4% in the second quarter and we exceeded our expectations in those quarters. The 5% volume loss in the third quarter was no so drastic to cause us to miss our expectations.

So what caused the earnings shortfall? Well, there are a lot of items in our business that are pretty lumpy and costs can vary from quarter to quarter. So, for example, we had a $25 million benefit from our risk management program in the second quarter. We only had a $12 million benefit in this quarter. That's a $0.02 swing. We also had a number of legal settlements this quarter. Individually, they were not significant, but together they cost us $0.01. Health and welfare costs were $8 million or $0.01 detriment, sequentially, as our employees worked out of their deductibles and the Company picked up more of the costs. There were a number of items like that that just all went against us this quarter. Just a few of these items can make a big difference if you look at the business quarter to quarter.

So for example, if our risk management benefit had occurred $25 million in the third quarter and $12 million in the second quarter instead of reversed, and if we had not decided to settle outstanding litigation in the third quarter, we would have met or exceeded Wall Street consensus in both quarters. But the accounting for risk management is what it is and we made very good business decisions to settle outstanding litigation. So we made the right decisions for the long-term benefit of the Company. We don't expect that the situation where so many items combined to work against us will repeat in the fourth quarter.

That's why we're confident that we can meet our fourth quarter expectations. That's also why when we hook at our business, we look at it over a longer period of time and not quarter to quarter, because it smooths out the lumps. So when you look at our expectations at the beginning of the year versus today, we've raised our projections by $0.10. That shows that the business is performing well despite lower volumes. In other words, although volumes were down 5% in the quarter, we do not believe that the reduction in volumes was the primary reason we fell short of our expectations. Our core business is working well and we'll continue to pursue our strategy. Certainly, we would love to see higher volumes in the fourth quarter and if we do, we're poised to take advantage of them. But we're also poised to meet our expectations without volumes turning positive in the fourth quarter, and our team is focused on doing just that.

Despite all the challenges we face, we had a number of positives in the quarter. I'm pleased with our pricing program, our operational performance, and with our ability to generate free cash flow, which is a credit to the outstanding efforts of our employees. Free cash flow for the quarter was $550 million, up $119 million year over year. Based on our performance to date, we now project that we'll achieve free cash flow of approximately $1.5 billion for the full-year 2007. This is $100 million increase above the high end of our previously-projected range.

Our pricing program continued to perform well and we expanded adjusted operating margins on a year-over-year basis in the third quarter of this year, marking the ninth straight quarter in which we've done so. Unlike our landfill business, we're better able to flex down costs in the collection line as volumes declined. And we did that quite well on the third quarter. We also made up for lost volume in the collection line with an aggressive pricing program. Our collection line of business showed a 14% increase in income from operations in the third quarter of this year and margins grew by nearly 300 basis points. So the strategy in our collection business continues to work well despite lower volumes, as we again demonstrated our ability to raise prices and cut costs as volume declined. We're going to apply that same strategy to our landfills. As we've done on the collection side, we're now more focused on cutting costs at our landfills and will continue to follow a disciplined approach to pricing in order to offset the loss of earnings related to lower volumes.

Looking at the yield and volume components of our internal revenue growth on base business, we generated internal revenue growth on yield on base business of 3.3%. If we include the 2.3% benefit from higher recycling commodity prices, yield increased a total of 5.6%. In total, revenue growth from yield increased across all of our geographic operating groups, our Wheelabrator and Recycle America units and in all of our collection and disposal lines of business. In total, revenue growth from yield was highest in our collection business. Combined, the revenue growth from yield in the industrial, commercial, and residential lines of our collection business was 4.5% this quarter. Pricing in the commercial collection line of business led the way, with internal revenue growth from yield reaching 6% in the third quarter of this year, which is the highest level we've achieved dating back to at least 2002.

The internal revenue growth from yield also improved in our residential and rolloff lines of business and at our landfills and transfer stations in the third quarter of 2007. We saw growth from yield for all waste streams coming into our landfills.

Turning to the volume component of our internal revenue growth, we saw an overall decline in IRG from volumes of 5% in the third quarter of this year. Internal revenue growth from volume and our collection line of business declined 5.4% in the third quarter of 2007. This decline reflects the softness in roll-off falls related to the weakness in residential construction plus the continuation of our pricing strategy to fully recover our costs, improve the margin, and increase the returns in our collection business.

We are committed to this strategy and will continue to follow it as long as it produces the types of results we've seen over the last several years and in the third quarter, when we expanded collection margins by nearly 300 basis points and grew income from operations by 14%. At our landfills, our internal revenue growth from volumes was a negative 4.5% during the third quarter of 2007. The slowdown in housing construction continues to weigh heavily on our C&D tons coming into our landfills.

Finally, two weeks ago we announced four goals that define our sustainability platform extending out to the year 2020. The goals were designed around our customers' needs. Our customers have told us they want more options in managing waste and recyclables and we will respond to those needs. In fact, with the best, most comprehensive assets in the business, we are the only waste company that can meet all of those needs. So not only will our investments in our sustainability platform provide financial returns that meet or exceed our current hurdle rates, they'll also create a competitive advantage and produce organic growth for waste management. We're already starting to see examples of where these capabilities will produce growth in our business.

Our investment in recycling is contributing to higher earnings and for the first nine months of 2007, our Recycle America unit generated a return on invested capital well ahead of our hurdle rate. We also have strong partnerships with New York City and the City of Seattle which we believe serve as environmental role models for other cities across the country. The City of Seattle has announced its intent to begin negotiations with Waste Management for its future collection services for at least half of the city's service area. This would represent an increase of 28% in a number of residential homes that we service in Seattle and a 75% increase in the number of commercial accounts that we service. All at rates that meet our internal goals. Seattle will also be negotiating with Waste Management and a local company for an additional 25% of Seattle's service area. A superior performance record and our commitment to partner with Seattle and its efforts to reduce greenhouse gas played an important role in their selection of Waste Management for negotiation as its Next Generation service provider.

In New York City, we recently signed a contract whereby all residential waste leaving the Bronx borough is being shipped by rail out of a Waste Management transfer station. This is environmentally important, because it significantly reduces the truck traffic and emissions in that area. This represents incremental tonnage handled by us and is part of a 20-year agreement worth $1 billion in revenue. And we're starting to see some positive movements on waste to energy RFPs that we expect will ultimately benefit our Wheelabrator group, which by itself is the second largest player in the U.S. waste to energy space. So our sustainability goals are part of our growth platform.

With that I'll urn -- turn the call over to Larry.

Thank you and good morning to everyone on the call. I'll begin my remarks this morning with a review of our operating cost results for the quarter. In summary, we again produced excellent operating results in the third quarter this year. Operating expenses were $2.143 billion or $38 million lower than in the third quarter of 2006. Excluding the impact of the labor disruptions in California, operating costs were $62 million, lower than in the prior year period, which was a 2.8% year-over-year decrease in operating costs on an absolute dollar basis.

These results are due to the continuation of our strategy and the outstanding performance of our dedicated employees who continue to focus on operational excellence. Their efforts have led to our success in flexing down operating costs as we shed unprofitable and low margin volumes and divested low-margin operations. As I've done on previous calls, I'll now review the details of our operational performance in a number of our cost categories using basis point changes as a percent of revenue in my explanations. As a percent of revenue, total operating expenses adjusted for the cost of the California labor disruption declined from 63.4% in the third quarter of 2006 to 62.3% in the third quarter of 2007. This 110-basis point improvement marks the ninth consecutive quarter in which we've improved our year-over-year operating results. As a percent of revenue and in actual dollars, we lowered operating costs in seven of the ten cost categories that we break out in our financial statements. The three exceptions were in the categories of cost of goods sold, which are driven by higher recycling commodity prices, landfill operating costs, and the other cost category, which includes the Oakland labor disruption cost. As a percent of revenue, labor and related benefits costs improved by over 20 basis points due primarily to decreases in labor expenses, which show that we are successfully managing our workforce and flexing down costs as we reduce volume.

We reduced our driver hours by more than 930,000 hours in Q3, 2007, compared to the same period last year. Approximately 31% of this reduction was due to divestitures, with the remainder of the reduction due to flexing our costs down as volumes have declined and improved productivity. We lowered our maintenance costs by about 25 basis points in the quarter. I'm pleased with this result, considering that we estimate the annual inflation rate on our maintenance cost to be about 4%.

We continue to utilize our COMPASS maintenance information system which we deployed throughout our collection maintenance shops last year along with our standardization of best practices and tools to lower our fleet maintenance costs as we reduce driver hours. We reduced our collection fleet maintenance cost by more than $11 million in Q3, 2007 compared to Q3, 2006. Even with this progress, I believe there is more opportunity to further reduce our maintenance costs through continued standardization of our fleet, additional focus on management training, and improved usage of our analytical tools.

Risk management cost as a percent of revenue fell by over 30 basis points. This was once again driven by a reduction in workers' compensation and general liability claim expenses. Our safety performance, as measured by our total recordable injury rate and OSHA safety measure continues to improve. We lowered our TRIR year-over-year for the 27th consecutive quarter. For the third quarter of 2007, we improved our TRIR performance to 4.3, which is a 23% reduction compared with the third quarter of 2006. The Bureau of Labor statistics very recently published 2006 TRIR results for the entire waste industry. This enabled us to refresh our comparison of our results to the rest of the industry. Based on this updated information, we estimate that our TRIR performance is nearly 30% better than the average for the remainder of the waste industry.

I'm very proud of this accomplishment and the progress that we've made in safety. It remains a core value for us here at Waste Management and our people's dedication to safety continues to give us industry-leading results. The progress we're making in safety is not only saving lives, it's also translating to bottom-line savings. We reduced our total risk management costs by $12 million in the third quarter of 2007 compared to the same period in 2006.

Transfer and disposal expenses, which include those costs that our collection companies pay to third party landfills and transfer stations improved by 75 basis points as a percent of revenue in the third quarter of 2007. This progress reflects our continued focus on improving our exiting low-margin collection businesses where we don't internalize the volume. Subcontractor costs decreased by 45 basis points as a percent of revenue in the third quarter, as we utilized fewer third party contractors due to lower volumes and divestitures.

One significant headwind on operating costs again in Q3 was the cost of goods sold, which increased by over 140 basis points due to the higher rebates we paid to our customers as a result of higher recycling commodity prices. Our cost of goods sold are comprised primarily of the rebates that we pay to our recycling customers from materials they supply to us, such as cardboard and old newspaper. The rebates we pay to these recycling customers typically float with commodity prices. Because the commodity prices for cardboard and newspaper exceeded $100 per ton in the third quarter of 2007, we had a year-over-year increase in our cost of goods sold.

Lower direct diesel fuel costs caused nearly a 25-basis point decrease in operating expense as a percent of revenue. Average fuel prices were relatively stable during the third quarter of 2007 compared with the prior-year quarter. Our fuel costs declined as we used less fuel in our trucks due to the volume declines and improved productivity in our collection business.

In the other cost category, operating expenses as a percent of revenue increased by over 60 basis points in the third quarter of this year, due primarily to the costs related to the labor disruption in the Oakland, California, area. Absent those expenses, we saw a decline in cost in this category during the third quarter of 2007 versus the same period in 2006.

As we stated in today's press release, the financial impact of the California labor disruptions was approximately $0.03 per diluted share in the third quarter of 2007. Before the lockout, we had certain goals for the Oakland collective bargaining agreement. We achieved all of our goals through the lockout and remain convinced that the short-term cost of the labor disruption are outweighed by the beneficial, long-term outcome which was important to Waste Management and the communities we serve.

We currently have a labor strike taking place in Los Angeles, California, that began last Friday. The strike has impacted nearly 500 employees. After months of negotiation and the involvement of the Los Angeles Mayor's office, we've reached a tentative agreement with the Teamster local leadership and bargaining committee in Los Angeles on terms that they then recommended to their Local membership for approval. We were disappointed that the Local membership rejected those terms and then shortly thereafter went out on strike. We've mobilized our Green teams, consisting of some of our best drivers, mechanics, and route managers to provide service to our L.A. customers, which is going very well. We've also commenced efforts to hire replacement workers and we've already received a strong response from a qualified pool of applicants. We do not expect this labor disruption to cost us as much per day as the labor disruption in Oakland, as it's currently running less than one-half of the cost per day that we experienced in the Oakland labor disruption. We will update you on the impact of this strike in our fourth quarter conference call.

Raging wildfires in Southern California have also resulted in emergency evacuations and disruptions to our workforce. As has been reported in the media, these wildfires have triggered the largest evacuation in California's history, with tremendous disruption to homes and businesses. This has resulted in the suspension of service in some of our Southern California service areas and the dislocation of many of our employees. Our thoughts and prayers go out to all the people who have been impacted by these wildfires.

The third quarter of this year marks the ninth straight quarter in which we've reduced year-over-year operating expenses as a percent of revenue. As I mentioned, we've done a good job flexing our costs down in our collection lines of business. With volumes declining at some of our landfills we're going to bring the same disciplined approach to flexing our costs in those landfills as we've been using to flex down costs in our collection lines of business. While it's more difficult to do in our landfills given their high fixed cost, the small number of employees required to operate the landfill, and the need to keep our landfill gates open throughout the day, we do believe we have an opportunity to flex down our landfill operating costs where we see lower landfill volumes. We've already identified those landfills where most of the volume declines have occurred and are now working with our landfill managers to bring more focus to flexing our labor hours, equipment usage, and other operating costs at those landfills.

We remain focused and committed to our strategy. And our third quarter results demonstrate that our approaches to pricing and operational excellence are sustainable and will continue to drive improved financial performance at Waste Management. With that I'll turn the call over to Bob.

Thank you, Larry. I am going to expand on the impact of rising crude oil prices on our Section 45K tax credits and our earnings. As a reminder, we earned these tax credits from our landfill gas projects and from our investments in two synthetic fuel partnerships. The ability to earn these credits is tied to the average crude oil price for the full year. As of the end of the second quarter of this year, we estimated that 29% of the Section 45K tax credits would be phased out. This was based on the actual crude oil prices as of June 30, 2007, and the average of the future's prices for the rest of 2007 after that date.

At the 29% phaseout level, we recorded a $0.05 per share benefit in the first half of 2007. We expected to record a $0.02 per share benefit in each of the third and fourth quarters of 2007, for a total of $0.09 per share benefit for the entire year. But crude oil prices rose sharply during the latter part of the third quarter of this year, resulting in an increase in the estimated phaseout to 52% as of September 30. So we recorded no earnings per share benefit in the third quarter of 2007. This compares with a benefit in the third quarter of 2006 of approximately $0.05 per diluted share, a reduction in benefits from Section 45K tax credits in the third quarter of 2007 compared with the third quarter of 2006 was a major factor in the year-over-year difference in earnings per share. Given the continued increase in crude oil prices in October, we now project that our fourth quarter 2007 effective tax rate will be 38.8% for a full-year rate of 36.6% and that we will have no benefit from Section 45K tax credits in the fourth quarter of this year.

I will now turn my attention to our SG&A expense performance during the quarter. Our SG&A costs increased $21 million to $365 million during the third quarter of 2007 versus the same quarter of 2006. This year-over-year increase was primarily due to increased spending for our strategic initiatives such as our revenue management system project and higher salaries and wages. SG&A costs as a percent of revenue were 10.7% during the third quarter of this year or about 70 basis points higher compared with last year's third quarter results.

Appreciation and amortization decreased $9 million in the third quarter of 2007 compared with 2006. The year-over-year decline is due to the impacts of lower landfill volumes, divestitures, and reduced appreciation expense as we have fully depreciated an information technology system. As a percent of revenue, depreciation and amortization expense was 9.7% compared with 9.9% in the prior-year quarter. Interest expense was $128 million in the third quarter, a $10 million decrease from 2006. This decrease is primarily due to the $364 million decrease in total reported debt compared with the third quarter of 2006. Interest income decreased $14 million to $10 million in the third quarter of this year due to the decrease in our cash and investment balances and the decline in interest income associated with income tax audit settlements that occurred in 2006.

The total reported debt increased by $29 million during the quarter compared with the end of June. Our debt-to-capital ratio increased 70 basis points to 58.3%, still in line with our objective to be around 60%. Subsequent to the end of the third quarter, we reduced our debt through the retirement of $300 million of senior notes. We utilized our cash on hand to pay off this debt when it matured on October 1. The floating rate portion of our total debt portfolio stood at 37% at the end of the quarter, the same level as at the end of the second quarter. We produced strong free cash flow during the third quarter. Net cash from operations was $771 million with capital expenditures of $240 million during the quarter. After adding $19 million in net proceeds from divestitures and the sales of assets, our free cash flow was $550 million for the quarter.

For the full year, we now expect to generate approximately $1.5 billion of free cash flow. We utilized our free cash flow to repurchase $376 million in shares during the third quarter. For the first nine months of the year, our share repurchases were over $1 billion or approximately 29 million shares. We expect to repurchase approximately $1.3 billion in shares for the full year. This includes the additional $600 million in shares previously authorized by the Board of Directors for 2007.

As David noted in his remarks, the collection side of our business remains very strong and we will continue to follow our pricing strategy, which is leading to higher earnings and stronger margins. On the landfill side, we will put more focus on a disciplined pricing approach and reducing landfill operating costs. Our pricing and operational excellence strategy is working and we will continue to pursue it. With that, let's open the line for questions.

(OPERATOR INSTRUCTIONS) Your first question will come from the line of Jagdeep Ghuman with Credit Suisse.

Good morning, guys, how are you?

Good morning. Well.

Question for you, looking at the SG&A line, Bob, is that a run rate we should be modeling for going forward?

Well, we expected SG&A for this year to be a little bit above 10.5%, and I think that's about where we will be for the full year and so I would think that's a good place. I would expect our fourth quarter costs to not be too dissimilar from our third quarter costs other than the litigation settlement that we included in that and those roughly were about $8 million, 6 million to $8 million.

Got you. Okay. Then also, David, if you could touch upon, on the volume decline, can you give us a sense of how much of the declines are attributable to just a softening in the overall economic environment versus just your overall push on pricing and customers choosing to kind of go by the wayside?

It really depends on the line of business. Obviously, on the Roll-off line of business, it's going to be predominantly economy and less price. In the other collection lines and in the commercial and residential, it's going to be about 50/50. It's going to be some price, it's going to be some economy. Then on the landfill side, I think most of that can be attributed to the economic softness, particularly in the C&D tons and we just didn't see as many special waste jobs coming about in the quarter.

Got you. Okay. Fair enough. Have you seen, by chance, has there been an acceleration in the declines in Roll-off?

No. Actually, it's gone a little bit the other way. And slightly. We were only down about 8.3% this quarter, which is a slight improvement. Probably based more on year over year comps than on the economy turning around.

Got you. Okay. Fair enough. I'll jump back if queue. Thanks.

Thank you.

Your next question will come from the line of Marshall Reid with Banc of America.

Good morning.

Good morning, Marshall.

On landfill, can you quantify the price gains that you're seeing there on the landfill side? And do you think those price initiatives may be contributing in any way to the volume erosion?

Yes. The second question first. I really don't think that the pricing program is leading to the volume erosions. When we look at it, as you know, we put in a landfill system, a gatehouse system that allows us to track volumes, so we don't think it's so much pricing that it's pushing it out. On the pricing side, I'm very happy to say that it's not normal, it's not usual that we see positive price in all three waste streams coming into the landfill. What we saw in this quarter was that we had positive price in special waste, in C&D, and at MFW and we saw it on a price per unit basis, price per ton basis in the order of magnitude of 3 to 5% across those lines.

And you also mentioned economic softness contributing to lower volumes. Are you seeing softness in commercial construction, is it permanent rolloff, can you elaborate there?

Obviously, for us, mostly it is the temporary rolloff which we attribute more to the housing slowdown. And when we look at it we also see, not only from a rolloff point of view, but from a landfill point of view, what we see is you've got some pockets of some -- fairly dramatic pockets of economic softness in Southern California, in Michigan, and in Florida and a lot of other places, our landfill volumes are doing just fine. So we don't think that what we're seeing is a broad economic turndown. We think that what we're seeing is a turndown that is fairly limited to those areas where you've seen the housing turn down.. And obviously in Michigan where you've seen some manufacturing slowdown.

Great. Thank you.

Sure.

Your next question will come from the line of Scott Levine with JPMorgan.

Good morning.

Good morning, Scott.

With regard to the SG&A up 70 basis points, could you give us an update regarding the rollout of the CRM system and your onboard computing initiative and what your thoughts are in terms of that timetable for implementation. Is the spend more or less than you expected or is the timetable changing in anyway?

We'll give you a little bit more of an update when we do our full-year 2008 guidance, but the onboard computing for us is actually going very well. We've gone through a few months of a pilot -- quite a few months of a pilot in Western Pennsylvania, and it's producing some data that is truly helping our route managers manage their business. Now on the CRM side, we did our New Mexico pilot. We've been telling you all that it's gone a little bit slower than we expected. We've also found some problems with the software that we are working with SAP right now to try to fix and we're going to reevaluate how we go about rolling that out in New Mexico and across the country as we understand how we can fix the software.

Sounds good. On the landfill pricing, or really on just the landfill cost initiatives, are the developments you're seeing in the landfill volumes surprising you, are they in-line with your expectations, and are some of these initiatives you're talking about in flexing down costs a response to the changes in the market environment, or are they pretty much in-line with what your strategic plans have been? Has there been any appreciable change there?

Clearly, at the beginning of the year, we thought that volumes would bounce back in the second half of the year and they haven't done that. That's why, in my remarks, I think it's actually fairly remarkable that given the fact that we've seen volume declines in the 4.5 to 5% range, that we've been able to exceed expectations in two of the three quarters that we had this year. Again, if you look at this quarter operationally, we actually had a very good quarter. So we certainly expected the volumes to bounce back a little bit more. In the fourth quarter, we've got one less workday. We've also got easier comps -- I mean, one more workday. We've also got easier comps as we move through the quarter, so we would expect the pace of decline of volumes at the landfill to slow in the fourth quarter. As far as the operational piece goes, we'll let Larry talk a little bit about that.

Since we have been seeing for now several quarters a decrease in volumes, what we've seen is our landfill operating costs in the past quarter were roughly flat. So what I'm working with the landfill managers on is, look, if we're not particularly at the landfills where we're not seeing the volume or we're seeing the volume declines, if we're not seeing the volumes, we ought not be running the equipment as much as we were when we had higher volumes. So we've got to start flexing down our costs. Now, as I mentioned, it doesn't take a lot of employees to run a landfill. So we've got to balance that, but at the same time I believe that there's some opportunity there to flex down our costs at those landfills where we're seeing the volumes decline. So we're going to take a look at that, We've identified those landfills. I'm already in communication with the managers in starting to bring a little more discipline to that line of business since we're seeing some volume declines there.

Okay. One last one, if I may. You're in the third year, I believe, of a three-year cash allocation plan. When can we expect an announcement regarding your forward-looking plans and has there been any change in your thoughts or philosophy on uses of cash there?

Yes, I would expect when we give our guidance for 2008 after our fourth quarter results, that we would update you then.

Any change in philosophy, or you'll say more then?

Again, our Board guards its prerogative closely in that regard, but certainly the strategy that we've had the last few years of generating an exorbitant amount of free cash and distributing it to our shareholders, I don't see that dramatically changing in the near future.

Great. Thank you.

Your next question will come from the line of Bill Fisher with Raymond James.

Good morning.

Good morning.

David, just following up on that landfill thing, I think you've touched on it a lot, but the overall volumes are down around 10%. Could you just give us some color -- was the C&D down like maybe double that? And as you touched on, doesn't that comp get a lot easier in Q4?

You hit the nail right on the head, Bill. Again, the 10% number is when you take external and internal tons. Our RIG is based on external tons. And external tons of C&D were actually down 22% in the quarter. But you're also correct that those comps do get easier as we move through the fourth quarter.

Okay. Also, just on the labor front, looking at '08, do you have any other contracts with 400 plus employees or whatever that are up for renewal next year?

Certainly, the Oakland and the L.A., those are our two largest areas. So how we're set up, our Union contracts are very localized so I don't anticipate that any of them -- certainly there aren't any that are as large as Oakland and L.A.

Just real quick, Bob, do you have an '08 tax rate yet or are you still working on that?

We haven't given that out yet, but I would tell you that there won't be any 45K tax credits, so you should expect a rate in the neighborhood of 40%. We did mention that in the prior quarter.

Perfect.

We all cheer the fact that there will not be 45K tax credits. I'm going lose have of my remarks.

All right. Thank you.

Your next question will come from the line of Brian Butler with FBR.

Good morning.

Good morning, Brian.

Just to follow-up again, on the landfill side and the weakness you saw from the third party, you've been one month now into the fourth quarter, has that continued to increase, or is it leveling off at any?

We really don't see a dramatic change at the beginning of the fourth quarter from with we saw at the end of the third quarter. But again the good news for the fourth quarter is that we have one more work day in the quarter and the comps get easier the further we go through the quarter, the easier the comps get.

Okay. You think as you look into the fourth quarter and then 2008, do you still see your pricing strategy continuing to displace volumes, or is that also slow?

Yes, obviously, you've got the year-over-year comparisons. I would expect that -- again, a lot of this depends on what happens to the economy. Certainly, if the economy comes back, we're all going to get more volumes and that will make everything a lot better, but I would expect that toward the second half of 2008, you'd start to see -- we'd been through -- at that point in time we'll have been through our business improvement process and we'll be more refocused on getting new business than shedding unprofitable business.

Okay. Then just last question, just on -- I forgot my last question, I apologize -- oh, no, on the cash flow. Earnings were a little bit less than you expected, but cash flow was much stronger. Can you help me bridge the gap between what was driving you -- allowing you to increase your cash flow guidance by $100 million, but essentially keep your EPS -- operating EPS kind of flat?

Well, part of it, Brian, is CapEx won't be quite at the same level that we had projected initially. That certainly is a factor, certainly that was a factor in the third quarter. Also, our working capital management is a little better than it had been in the past. So I think those are two key contributors.

Thank you very much.

Your next question will come from the line of Corey Greendale with First Analysis.

Good morning.

Corey.

Just a fine point on the volume side, was there a discrepancy in work days relative to the year-ago quarter affecting this quarter also?

It was 0.3 less, as I recall.

Okay. So there's a slight headwind to volume?

A slight headwind. If you look at it that way, volumes would have been negative 4.8%, 4.7, 4.8 rather than negative 5.

Okay. And David, I wanted to follow-up on something that you discussed last quarter. Can you just update us on the pricing audit to the commercial customers, how far you are through the customer base? And you talked about price increases averaging 25 to 30% on those customers, could you just update those?

It's really followed pretty much the same lines. It's interesting, the further we get through the process, the more we realize that it's fairly consistent throughout the Company, which is that about 20% of our customers are underwater, about 85% of them accept the price increase, and the price increase has been in the 25 to 30% range. So it's stayed pretty consistent.

As we also said in the second quarter, part of it is that we go through and we audit national accounts, for example. And if you audit a national account, you can't make an adjustment to that national account just based on the audit in one market area. You have to audit that customer throughout the country before you can approach the customer and talk with them about price. That means that we don't get through, even though we go out and audit routes, we don't get to the customers as quickly because we have to hold off regional and national customers until we've audited all of their locations. So we're about halfway through the process. It's still producing great benefits and we expect to continue the process through the end of 2007, the beginning of 2008.

And at that point, would there still be some tail on that because you can't implement the price increases immediately, necessarily, because of long-term contracts on some customers in.

I think that's exactly right.

So we're still talking at least another year of that process before it's done, is that fair?

Well, I think, I look at it more sort of mid-2008, but with long-term contracts, yes, it could take a little bit longer. But we'll be through with the bulk of it by mid-2008.

Okay.

And it is a process, frankly, that is an ongoing process, because the -- it's not only auditing about price, it's also auditing to gain operational efficiencies. Remember, that's what onboard computing is all about, is to allow us to do basically a continuous audit of our routes.

Right. But fair to think that probably not the kind of 25, 30% price increases the second time around as the first time around, is that?

I think that would be fair to assume.

Okay.

Hopefully not 20% of our customers underwater at that point either.

Right, of course. And a question for Bob, one of the things mentioned in the press release was bad debt, could you just comment on -- is that customer bankruptcies driving that and what the magnitude of the increase was?

The magnitude of the increase was about $0.05, if you think about it that way. It's not in itself tremendously significant, it was just one of many items that didn't go our way. I think a lot of it was a fresh look at some receivables in two of our market areas that caused that to go that route. I can't ascribe it to greater customer bankruptcies at all.

Thank you.

Your next question will come from the line of Jonathan Ellis with Merrill Lynch.

Great. Thanks, good morning, guys.

Good morning.

Just in terms of the guidance for the fourth quarter, wondering, what are you assuming in terms of risk management as well as healthcare given that those were swing factors in the third quarter?

Risk management, as you've seen, it's been fairly lumpy. So it's hard to understand what it's going to be in the fourth quarter. Bob may have a better feel for that. Health and welfare, you would expect again once folks have eaten up their deductibles that you're going to see a little bit of bump-up in health care, but both of those are factored into our guidance. We don't expect there to be a wide variation like there has been in the last couple of quarters.

I guess the question would be, though, do you expect a bump-up beyond what we saw in the third quarter versus the second quarter?

The question for me on risk management would be would be there a repeat of in the fourth quarter of what we saw in the third quarter as opposed to the what we saw in the second quarter and I have to tell you, it's driven by actuarial computations that would -- they're hard to forecast. So we try not to forecast those and let them happen as they do. So I would tell you our guidance assumes probably a fairly small risk management benefit in it. There'll be some. I think it's probably 4 million or $5 million, but beyond that, we'll see.

Okay, great. And then just on pricing, I know at the landfills, you don't give specific detail on pricing by waste stream, but wonder if you could talk directionally. Pricing for MSD, Special Waste, and C&D, did it accelerate versus last quarter, did it decelerate, did it hold flat? Maybe just give some directional sense of pricing?

It was fairly flat, frankly, in the third quarter. And when we talk about our landfills, we're going to do just in our landfills what we did in our collection business. Some might say, well, if you're losing volumes, maybe you need to drop price. We look at it a little bit differently. We say, if we're losing volumes, we need to get price and operational efficiencies that will overcome the loss in volumes. So it's exactly what you've seen in our collection line of business where the amount of price that we get more than compensates for the volume loss. And so we grow income from operations 14% in the collection line. We need to do that same thing in the landfill line.

Great. And then just on the volumes at the landfill, should we assume that the closure of two landfills earlier this year was about a 200-basis point headwind for volumes this quarter as well?

Greg knows the actual numbers on that.

That's pretty close. Those two we've talked about in the past. Settler's Hill and Bradley, that's pretty close.

Okay. And then just on the collection side of the business, wondering if you could talk a little bit about pricing specifically in Roll-off. If you can quantify that or if not directionally, did that improve or decelerate from pricing in the last quarter.

It improved and actually the new business pricing on Roll-off improved more this quarter than it did in the first and second quarters.

And then just one final one related to the program for commercial accounts. You said you were about halfway done at this point. Just to be clear, in terms of the auditing of the accounts or in terms of going back to the accounts where you've identified an underpricing and negotiating a higher rate?

The audit part is actually, as we've talked about before, we're further along in the audit part. We still anticipate to finish the audit portion into this year, may bleed over a little bit into the first quarter. After we complete the audits, then you've got to go through and do the analysis, that's the second step. And then the third step is we get the sales force to actually go and actually talk to the customer. And that's the part that lags behind.

Okay, great. Actually, if I could just sneak one last one in related to the contracts at the landfill, wondering if you could give any update there. I know that's been a focus going forward. How landfill contract pricing is faring?

Well, landfill contract pricing is faring actually better than I would say the gate rate what you've seen is when we've seen large bids come up for landfill volumes, so for example let's take New York City out of our transfer stations, it's not landfill but obviously it goes to our landfill, we saw about a $30 price increase on that contract that we talked about coming out of the Bronx. So we've actually seen that when large bids have come up for landfill volumes, that the pricing has been fairly robust. Now what we've also seen is that on special waste jobs, a lot of people are still out there continuing to cut price on special waste jobs. So it is a little bit different depending on the waste stream.

Great. Thanks, guys.

Thank you.

Your final question h will come from the line of Leone Young with Citigroup.

Good morning.

Good morning.

From your comments on volume, it would appear that the behavior of the competitors, would you still characterize that as rational, and if you could comment on both the publicly traded and the independents.

Well, we don't want to comment specifically about any particular companies, but I think what we're seeing out there is that we've got a healthy pricing environment. We've got an environment where I think we would all agree that the economy has not been as strong this year as anyone would have expected and I think everyone had a concern going into the year of what's going to happen if the economy weakness. The good news that you've seen this year is that the economy's weakened and the pricing and the industry has actually stayed very disciplined. I can't speak for the other companies, but I can tell you we're going to continue that discipline.

Also, you mentioned that special waste was a factor as well. That was a little weaker. Is that year over year and would you consider that just part of the general lumpiness of special waste, or is there any trend there?

That's a very good question. Special waste is just a fairly odd duck. That's the one where the spigot gets turned off fairly quickly. So when there are not the special waste jobs out there, you don't know whether it's the economy or whether it's just the lumpiness of the special waste jobs. So when we've gone around and talked to our folks out in the field, we have places where they say the special waste looks pretty good. Frankly, there have been some places where they say they just don't think there are as many jobs out there. So I think there has been a little bit of an economic affect, but special waste can turn on and off pretty quickly. So I don't think that there's been a dramatic change in the special waste due to the economy. Hopefully it will pick up here in the fourth quarter and going forward as we have good weather.

Great. And one last one. On the residential or municipal side, it's fairly well known that you've been aggressively pricing those contracts and losing your fair share of them. Is that still on that line of business still working out to a positive price volume trade-off?

Absolutely. Frankly, that and the large MSW contracts really, I think, have been the two best things that have happened in this industry over the last two years. Even when we're losing residential contracts, we're losing them at rates that our competitors are actually coming up higher. So I think that's a good thing for the industry. But Seattle is a great example of a place where service makes a difference, where our sustainability platform makes a difference. We're going to increase our residential customers by at least 28%, maybe even more if we pick up the other quarter or the other district in Seattle commercial customers by 78%. That's all as a result of the great service and the great partnership that we have with the City of Seattle and again, it's going to be at rates that are great for our company. So I think the whole market has come up and I think what you'll see is that the days where we've had to shed business because it was underperforming are now done and you'll start to see us do things like win more contracts like Seattle.

Great. Thanks.

Thank you.

And Mr. Steiner, please continue with your closing comments.

Well, thank you. I think if we characterize the quarter, certainly you all have seen the lumpiness. We look at it and say we're quite surprised that we can beat in the first quarter, beat in the second quarter and then miss in the third quarter, but I think we gave you all a good flavor for the reasons why. It doesn't have to do with our business, it's not operational, we can survive the reduction in volumes, it's really just a matter of timing of costs. So when we look at the full year, we're executing just to plan. We continue to do just that in the fourth quarter and we will talk with you all as we give our guidance for 2008. Thank you for joining us.

Thank you for participating in today's Waste Management fourth quarter 2007 earnings release conference call. This call will be available for replay beginning at 1:00 p.m. Eastern time today through 11:59 p.m. Eastern time on Friday November 9, 2007. The conference ID number for the replay is 16948617. Again the conference ID number for the replay is 16948617. The number to dial for the replay is 1-800-642-1687 or 706-645-9291. This concludes today's conference. You may now disconnect.