There are certain things in life that are assumed to be absolute certainties.
Death and taxes are colloquially and humorously most often referred, but I propose to add something else to the conversation:
Garbage collection.
You see, you can’t possibly live in modern-day society and not have your garbage collected and hauled away.
I know we’ve all seen those television shows that highlight hoarders, but even they have to have some of their trash hauled away. It’s an inevitability.
[ad#Google Adsense 336×280-IA]As such, one would think there’s some profit to be made there. Well, if you’re an investor like me you think that way. And I’d like to think it’s a wonderful way to look at the world!
And there is a company that does trash collection very well, and profits handsomely from it.
That company is Republic Services, Inc. (RSG).
Republic Services is a provider of services in the domestic non-hazardous solid waste industry.
They collect non-hazardous solid waste through 334 collection operations across 39 states and Puerto Rico. They provide these services to residential, commercial, and industrial customers.
They operate 194 transfer stations, 191 solid waste landfills, and 74 recycling facilities.
RSG is currently the second largest US provider of solid waste services, and handle more than 100 million tons of waste each year for more than 13 million customers. They have a 17% market share of the US waste industry.
Trash may not smell very nice, but money does. And hauling trash is something that nobody wants to really do themselves, which creates a nice opportunity for a company like Republic. So let’s take a look at their growth over the last decade. Their fiscal year ends December 31.
Revenue increased from $2.708 billion in FY 2004 to $8.417 billion in FY 2013. That’s a compound annual growth rate of 13.43%, which is much higher than one might expect for a slow-growing industry like waste collection. However, this is largely skewed by a big jump in revenue due to the acquisition of Allied Waste Industries in 2008. Revenue growth since the acquisition was completed is mostly flat.
Earnings per share grew from $1.02 to $1.62 during this time frame, which is a CAGR of 5.27%. That’s more representative of underlying growth, which is more modest, and has been boosted by a favorable share repurchase program. Between November 2010 and December 2013, for instance, the company repurchased 35.5 million shares at an average cost of 29.30 per share. S&P Capital IQ predicts EPS to grow at a compound annual rate of 10% over the next three years, based on growing volume and the aforementioned share repurchases, although this seems aggressive.
However, I look to the dividend and the growth of it to really tell me how shareholder friendly a company is. Talk of growth and building the business is wonderful, but nothing says what tangible cash in my hand can say. And in this regard, RSG has been pretty solid.
They’ve increased their dividend for the last 12 consecutive years, and have landed themselves on David Fish’s Dividend Champions, Contenders, and Challengers document. This is a list of more than 550 stocks that have increased their dividend payouts for at least the last five consecutive years, so RSG is in good company.
Over the last five years, they’ve increased their dividend by an annual rate of 6.6%, which is roughly in line with earnings growth.
The stock sports a fairly strong yield of 2.86%, which is far higher than what the broader market offers.
And this dividend is covered well by underlying earnings, as 56.3% of profit goes to shareholders in the form of a dividend. The company keeps the rest to continue growing the business, and that’s a pretty good mix.
Their dividend isn’t growing as fast as some of the other companies I personally invest in and track, but 6.6% is still well over the rate of inflation, meaning RSG shareholders are seeing their purchasing power increase over time.
The balance sheet is leveraged, which isn’t surprising considering the capital-intensive business of maintaining a fleet of heavy machinery, landfills, and personnel. Their long-term debt/equity ratio stood at 0.89 at the end of 2013, but the interest coverage ratio was only 3.4. They can currently cover interest expenses via earnings before interest and taxes, but not as comfortably as one might like.
Profitability isn’t eye-popping, but is comparable to competitors. Net margin has averaged 6.71% over the last five years, while return on equity has averaged 7.07% over that time frame.
Overall, you have to like the odds that RSG will be around 20 years from now and still profiting; waste collection just doesn’t change much. The business model is extremely easy to understand, and their services are absolutely necessary. So it exhibits utility-like numbers, which isn’t bad for a defensive investor.
Meanwhile, they have extremely robust competitive advantages. The barriers to entry are quite high, as you can’t just build landfills anywhere you’d like, and there is a fleet of trucks and machinery to acquire and maintain. Furthermore, there are contracts already in place that RSG owns. And what’s wonderful is that while waste collection is still their primary business, they also collect money via recycling and competitors dumping on their landfills.
This business is about recession-proof as it gets, folks. If you’re looking for a business to invest in that you know will still be around and kicking just fine during the next economic calamity, I can think of none better than waste collection. And RSG is a great example of this, as they kept on rolling right through the Great Recession.
One really interesting aspect of this business is that Bill Gates owns about 25% of the company’s common stock through his investment firm, Cascade Investments LLC.
However, there are risks to consider. Primarily, you have to worry about competition. RSG is the second largest player in the country, behind Waste Management, Inc. (WM). So there are always worries about encroachment in overlapping markets. Another risk is input and commodity costs, mainly fuel.
Shares are trading hands at a price-to-earnings ratio of 19.63. This is a bit higher than the broader market, but roughly in line with RSG’s own five-year P/E ratio average of 20.3. However, I’m not sure RSG deserves such a high P/E ratio, considering its rather mediocre growth profile.
I valued shares using a dividend discount model analysis with a 10% discount rate and a 6% long-term growth rate. This growth rate is about halfway between RSG’s dividend and EPS growth rate over the last 10 years, so that seems fair. It’s also below the growth rate predicted for the company over the foreseeable future. So that growth rate seems fair, if a bit conservative. That gives me a fair value on shares of $29.68, which is substantially lower than today’s price. This appears to be a great company trading for a premium price.
Bottom line: Republic Services, Inc. provides a service that is absolutely necessary and profits handsomely because of it. It’s utility-like in that it provides a service that people have no choice but to pay for. You can’t realistically live without waste collection services like you can’t realistically live without electricity. And with high barriers to entry in a recession-proof business, I think shareholders are set to profit for many, many years to come.
Jason Fieber, Dividend Mantra
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