Republic Services, Inc. — Q3 2018 Form 10-Q
Business context and reporting period. Republic Services is a major U.S. provider of non-hazardous solid-waste collection, transfer, recycling, disposal and energy services. This unaudited filing covers the three and nine months ended September 30, 2018; comparisons are with the corresponding 2017 periods unless stated otherwise. Dollar amounts are in millions except per-share data.
Financial performance
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $2,565.7 | $2,562.0 | $7,510.9 | $7,481.5 |
| Operating income | $440.3 | $448.1 | $1,252.6 | $1,261.7 |
| Operating margin | 17.1% | 17.5% | 16.7% | 16.8% |
| Net income attributable to Republic | $263.4 | $223.2 | $736.0 | $614.0 |
| Diluted EPS | $0.81 | $0.66 | $2.23 | $1.81 |
| Cash provided by operating activities | — | — | $1,746.9 | $1,382.1 |
| Capital expenditures | — | — | $820.5 | $769.0 |
- Revenue and mix: Reported revenue rose 0.1% in Q3 and 0.4% year to date. Nine-month revenue growth drivers included average yield (+2.2%), volume (+0.8%) and net acquisitions (+1.8%); lower recycling commodity sales reduced growth by 1.2%.
- Profit: Operating income declined despite slightly higher reported revenue. Net income and EPS increased, primarily alongside a substantially lower effective tax rate: 22.7% for Q3 and 23.6% year to date, versus 37.4% and 37.7% in 2017. The Tax Act, solar-energy tax credits and tax adjustments contributed to the lower rate.
- Cash flow: Year-to-date operating cash flow increased about 26%. Operating cash flow less capital expenditures was approximately $926.4 million, compared with $613.1 million in 2017 (calculated from the reported figures). Lower cash taxes paid ($43.5 million versus $270.5 million) and $31.1 million of proceeds from terminated interest-rate locks affected the comparison.
- Debt and liquidity: Debt carrying value was $8,247.5 million, including $7,556.7 million long-term debt, versus $8,187.4 million total debt at December 31, 2017. Cash and cash equivalents were $81.9 million; restricted cash and marketable securities were $99.1 million. Availability under the $2.25 billion revolving facility was $1,771.5 million. The company reported compliance with covenants; debt-to-EBITDA was 2.99 against a 3.50 maximum, and EBITDA-to-interest was 7.40 against a 3.00 minimum.
- Capital returns: The company repurchased 8.5 million shares for $574.9 million and paid $340.0 million in dividends during the first nine months. The quarterly dividend was $0.375 per share.
Material changes and operating drivers
- Adoption of the new revenue-recognition standard on January 1, 2018 reduced reported revenue by $85.5 million in Q3 and $255.2 million year to date, primarily by presenting municipal franchise fees and recycling rebates as reductions of revenue rather than expenses. Comparative periods were not restated. The company said the standard had no material effect on operating or net income.
- Recycling processing and commodity-sales revenue fell to $220.0 million year to date from $400.4 million. Average prices for old corrugated containers and old newsprint were materially lower than in 2017. Management estimated that a $10-per-ton commodity-price change could affect annual revenue and operating income by about $20 million each at current volumes and mix.
- Higher wages, maintenance, transportation, fuel and landfill operating costs pressured expenses. Average diesel prices rose; fuel recovery fees partially offset fuel-cost exposure. Group 2’s operating margin fell to 17.8% in Q3 from 19.5% and to 17.6% year to date from 19.3%, while Group 1’s margins improved.
- 2018 restructuring charges were $22.5 million year to date, mainly for severance and office closures. The company expected another $5 million to $10 million in charges during the rest of 2018 and estimated annual savings of $25 million to $30 million.
Outlook, risks and contingencies
- Preliminary 2019 outlook: Diluted EPS of $3.22–$3.27, including an estimated $0.01 per share of restructuring charges; adjusted diluted EPS of $3.23–$3.28. This is preliminary, not full guidance; formal guidance was expected in February 2019.
- Environmental exposure: Accrued landfill and environmental liabilities totaled $1,842.2 million, including $552.3 million for remediation. The company estimated that using the reasonably possible high ends of remediation ranges would add about $466 million to recorded liabilities. For Bridgeton Landfill, the recorded remediation liability was $166.3 million, with a remaining reasonably possible high end about $177 million above the accrual.
- West Lake Landfill: The EPA’s September 2018 remedy amendment estimated total site costs of $205 million over four to five years. Republic said it could not estimate its subsidiary’s share and was contesting liability for certain radiologically impacted materials; the company considered its current reserve adequate, subject to potential revision as design and allocation develop.
- Other legal and tax matters: Legal-proceeding accruals were approximately $27.6 million; the aggregate potential liability using high-end ranges was about $16.2 million higher. The company expected uncertain-tax-position reserves to increase approximately $20 million to $40 million after planned amended returns, though timing of resolution was unclear.
- Other risks include volatile recycled-commodity prices, fuel and interest-rate exposure, severe weather, landfill permitting and remediation estimates, and the ability to retain customers under long-term contracts. A 100-basis-point interest-rate change was estimated to change annualized interest expense and net cash interest payments by about $15 million.
- Management stated that disclosure controls were effective and reported no material change in internal control over financial reporting during the period. ReCommunity, acquired in 2017, remained excluded from the control assessment as permitted by SEC guidance.
Important facts for investors to verify
- How much of revenue and EPS growth reflects underlying pricing, volume and cost performance versus the Tax Act and other tax benefits; note that 2018 revenue presentation is not directly comparable with 2017 because prior periods were not restated.
- Whether cost inflation and Group 2 margin pressure persist, and whether announced restructuring savings are achieved.
- Future recycled-commodity prices and the extent to which fuel recovery fees offset fuel costs.
- Updated exposure and reserve adequacy for Bridgeton, West Lake and the broader remediation portfolio, including the potential high-end liability estimates.
- Execution of the preliminary 2019 EPS outlook, cash-flow conversion, capital spending, buybacks and dividends, and continued covenant compliance and access to financing.