Image Shown: We added Republic Services Inc to our Dividend Growth Newsletter portfolio on January 13, 2020, with shares of RSG included at a modest weighting.
By Callum Turcan
On February 13, waste management company Republic Services Inc (RSG) reported fourth quarter and full-year results for 2019. We added shares of RSG with a modest weighting to our Dividend Growth Newsletter portfolio back on January 13 (link here covering those changes) as part of our shift towards more defensive names in light of rising exogenous headwinds facing the global economy. Waste management services are always in demand, and while trash and recycling needs can fluctuate, this is a very recession-resistant space. Shares of RSG yield ~1.6% as of this writing and we like its dividend coverage, with Republic Services earning a Dividend Cushion ratio of 1.9x which supports its promising payout growth trajectory as the firm earns a GOOD Dividend Growth rating.
Earnings Update
In 2019, Republic Services generated a bit over $1.1 billion in free cash flow and spent just under $0.5 billion covering its dividend obligations. Another $0.4 billion was allocated towards share repurchases last year, and please note that historically, management has preferred a combination of dividend growth and share buybacks as part of Republic Services’ total shareholder return strategy.
At the end of 2019, Republic Services was sitting on a combined $0.2 billion in cash and cash equivalents plus ‘restricted cash and marketable securities’ versus $0.9 billion in short-term debt and $7.8 billion in long-term debt. While we would prefer management consider paring Republic Services’ debt load down a bit, given the resilience of its free cash flows, we view that burden as manageable. Republic Services’ leverage was at the high end of its long-term range at the end of 2019, but still within its long-term range. Management communicated that the firm was comfortable with taking on a bit more leverage, as long as that entailed acquiring high quality cash flow streams at a good price, during Republic Services’ latest quarterly conference call. Any incremental debt would be paid down over time, according to management.
Strong Guidance
Going forward, management’s guidance for 2020 looks quite promising. Back in October 2019, Republic Services forecasted that its “adjusted free cash flow” would come in at $1.15-$1.20 billion in 2020. During its latest earnings report, that forecast was upped to $1.175-$1.225 billion which we appreciate. Republic Services “expects to invest approximately $200 million in tuck-in acquisitions and $120 million in solar energy investments that qualify for tax credits. Additionally, the Company expects to return approximately $925 million of cash to shareholders through approximately $525 million of dividends and $400 million in share repurchases” and part of this will be funded by $1.2 billion in expected asset sale proceeds.
Management cited the firm’s technology investments as part of the reason for the upgrade, with Republic Services targeting a 20-40 basis point improve in its adjusted EBITDA margin this year. While a non-GAAP metric, communicating that technology investments are helping improve Republic Services’ cost structure is a very welcome sign. Those tech investments include website and mobile app improvements at it relates to customer services, its new RISE platform that is slated to improve dispatch operations, and in-cab upgrades as well. The synergies and economies of scale that bolt-on acquisitions can provide was another reason for the upgrade.
Republic Service is targeting for 4.25%-5.00% revenue growth this year assisted by rising ‘average yield’, volume, and acquisitions which is offsetting expected weakness at its ‘environmental services’ and ‘recycling processing and commodity sales.’ Please note that average yield refers to “the change in average price per unit and contemplates the impact of customer churn” according to management.
Here’s additional commentary about Republic Services 2020 guidance, from the firm’s latest quarterly conference call with investors:
“Our strong finish to 2019 sets us up for continued success in 2020. Given the underlying momentum in our business, we are well-positioned to deliver approximately 5% top-line revenue growth and nearly 6% EBITDA growth. On top of that we are entering 2020 with one of the strongest acquisition pipelines we’ve seen in years.
We will achieve our 2020 guidance by continuing to prioritize the safety of our people and communities above all else; attracting value-oriented customers to drive profitable volume growth; leveraging technology to empower our employees; increase connectivity with our customers; and drive operational excellence; and finally, continue to make disciplined acquisition investments to grow free cash flow and drive sustainable long-term value…
Looking forward in 2020, we expect average yield of approximately 3%. We will achieve this by continuing to focus on enhancing the customer experience and delivering superior service; partnering with our municipal recycling customers to build more durable economically sustainable recycling programs; and pricing our products and services to ensure we earn an appropriate return on our capital investment…
The current economic backdrop remains supportive of continued growth. Consumer sentiment is strong, unemployment is low and housing starts are up year-over-year. Given this favorable backdrop for the year we expect total revenue growth of approximately 4.25% to 5% and adjusted EBITDA margin expansion of 20 to 40 basis points. We expect this level of margin expansion, despite approximately 30 basis points of headwind going into 2020. These headwinds include lower recycled commodity prices, a decrease in upstream environmental services revenues and an additional workday.”
While Republic Services is experiencing material headwinds in some areas, its quality business model allows for management to have confidence the firm will deliver both revenue growth and margin expansion this year. During the Q&A portion of the call, management also noted the firm expects to see its SG&A expenses to be either flat or trend lower in 2020, which we appreciate. Focusing on improving the cost structure late in the business cycle is prudent given that puts Republic Services ahead of the curve should US economic growth slow materially, potentially due to weakening economic activity overseas eventually spreading to the US economy.
Concluding Thoughts
Republic Services is a high quality defensive company that comes with a nice dividend growth trajectory. Our fair value estimate stands at $94 per share with room for upside as the top end of our fair value range estimate sits at $113 per share as of this writing. On February 24, we added additional protection to our newsletter portfolios that we strongly encourage our members to read about here. Additionally, members looking to read more about Republic Services and why we added shares of RSG to our Dividend Growth Newsletter portfolio should check out this article here.
Environmental Services Industry – CWST RSG SRCL WCN WM
Related: ECOL, EVX
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Callum Turcan does not own shares in any of the securities mentioned above. Republic Services Inc (RSG) is included in Valuentum’s simulated Dividend Growth Newsletter portfolio. Some of the other companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.