Waste Management, Inc. — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016. Amounts are in millions of dollars, except per-share data. The interim financial statements are unaudited.
Business context
Waste Management is a North American environmental-services provider. Its core Solid Waste operations include collection, transfer, recycling and resource recovery, and disposal; other activities include energy and environmental services. The company reported results through three aggregated Solid Waste tiers and an “Other” category.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Operating revenues | $3,425 | $3,315 | $6,601 | $6,355 |
| Income from operations | $611 | $502 | $1,119 | $942 |
| Operating margin | 17.8% | 15.1% | 17.0% | 14.8% |
| Net income attributable to Waste Management | $287 | $274 | $545 | $145 |
| Diluted earnings per share | $0.64 | $0.60 | $1.22 | $0.32 |
| Net cash from operating activities | $748 | $816 | $1,454 | $1,315 |
| Free cash flow (non-GAAP) | $447 | $579 | $849 | $864 |
Q2 revenue rose 3.3%; management attributed growth principally to collection and disposal yield (+$77), acquisitions (+$64) and volume (+$12), partly offset by lower fuel surcharges and mandated fees (-$24), divestitures (-$12) and currency translation (-$10). Collection and disposal yield increased 2.6%. For the first half, revenue grew 3.9%, with acquisitions contributing $156 and internal revenue growth $141.
Q2 operating expenses fell $33 to $2,130, or 62.2% of revenue versus 65.2% a year earlier. Lower fuel costs and the absence of a prior-year $55 multiemployer pension withdrawal charge were key factors; higher landfill leachate costs and acquired operations partly offset the decline. SG&A increased 5.6% to $340, or 9.9% of revenue, partly due to stock-based incentive compensation. Depreciation and amortization was $340, up $18.
For the six months, operating cash flow increased $139 year over year. Capital expenditures were $629, up $100, and acquisition spending was $572. Free cash flow, as defined by the company, declined $15 to $849. Q2 operating cash flow and free cash flow declined by $68 and $132, respectively; management cited higher tax payments and unfavorable working-capital changes.
Balance sheet, debt and liquidity
- At June 30, cash was $39; current assets were $2,276 and current liabilities $2,806.
- Total debt was $9,530, up $601 from December 31, 2015; stockholders’ equity was $5,208 and total liabilities were $15,524.
- Current debt was $614, including $500 of 2.6% senior notes due September 2016. The company had issued $500 of 2.4% senior notes due 2023 in May, with proceeds intended to repay the maturing notes.
- No borrowings were outstanding on the $2.25 billion revolving credit facility; $814 of letters of credit were supported by it, leaving $1,436 of available capacity. The filing says this capacity could fund tax-exempt bonds if remarketing failed.
- Cash dividends paid in the first half were $364; share repurchases were $500. The declared quarterly dividend was $0.41 per share, versus $0.385 in Q2 2015.
Material changes and unusual items
- Q2 net income attributable to the company increased to $287 from $274. First-half net income rose to $545 from $145; comparison is substantially affected by the $552 pretax loss on early extinguishment of debt recorded in the first half of 2015.
- Q2 2016 included $41 of impairment charges on minority-owned waste-diversion technology investments, reported in “Other, net.” Management said after-tax unusual charges of $42 reduced diluted EPS by $0.10.
- The January acquisition of Southern Waste Systems/Sun Recycling cost $525. It contributed $76 of first-half revenue and $1 of net income. Purchase accounting remained provisional.
- The effective tax rate was 37.6% in Q2 and 36.5% for the first half, compared with 29.6% and 14.5% in the respective 2015 periods. The filing cites nondeductible investment impairments and state and local taxes, partly offset by credits and tax-audit settlements.
- Environmental remediation liabilities were $213; the company estimated aggregate potential liability could be approximately $195 higher using the high end of reasonably possible cost ranges. Total landfill and environmental remediation liabilities were $1,769.
Outlook, risks and contingencies
The filing provides no quantitative full-year earnings or revenue guidance. Management described priorities of customer service, Solid Waste operational improvement, growth, yield management and cost control. It expects seasonal revenue strength in the second and third quarters, while warning that severe weather can disrupt operations; weather-related or other one-time work may generate lower margins.
Key risks include competition and pricing-related volume losses; execution and integration of acquisitions and cost initiatives; fuel, recycling commodity and energy-price fluctuations; regulation, permitting and environmental remediation costs; landfill closure obligations; labor and multiemployer pension exposure; tax-exempt bond remarketing and refinancing; and litigation, safety, cybersecurity and severe-weather events. The company reported 75 Superfund National Priorities List locations where it had been identified as a potentially responsible party. It stated that known contingencies and guarantees were not expected to have a material adverse effect, while noting environmental estimates may change materially. Wheelabrator-related guarantees had a stated maximum future payment of $106 and an estimated fair value, net of credit support fees, of $12.
Most important facts for investors to verify
- Whether Solid Waste revenue growth and margin improvement persist after separating pricing, volume, fuel-price effects and acquisitions.
- Whether the $500 million September 2016 note maturity was repaid with the May issuance proceeds, and how debt, interest expense and liquidity evolve.
- Whether operating cash conversion and free cash flow recover after the Q2 year-over-year decline, given higher capital spending and acquisition outlays.
- The final SWS purchase-price allocation and realized integration benefits, given provisional accounting and limited reported contribution to net income.
- Potential changes in environmental remediation and landfill liabilities, including the disclosed $195 sensitivity, and developments in Superfund matters.
- Performance of the impaired waste-diversion investments and any further impairments or other unusual charges.