Waste Management, Inc. (WM) Earnings Call Transcript & Summary

Okay. We'll jump right into our next company. It's a pleasure to have Mr. Ed Egl here today, who's Director of Investor Relations at WM. WM is based in Houston, Texas. It's the largest waste service provider in North America with the biggest landfill network. Ed joined Waste WM in 1995 and has been in this current role since 2014. WM has 420 million shares, trades around [ $164 billion, $166 billion ] market cap and $13 billion of net debt. Ed, welcome. Can you hear me?

I can, Tony. Thanks for having me here. Can you hear me?

Yes, loud and clear. Thank you so much for being here today.

Thanks for having me.

Yes. It's great to hear your voice and looking forward to jumping into this.

So maybe before we begin, Ed, could you just give us some background on Waste Management, sort of set the stage and talk a little bit about what you do and maybe how you're different from the rest of the industry?

Sure, definitely can do that. And I think I need that picture of myself there, a long time ago when that one was taken. So WM, as you mentioned, is the largest North American environmental solutions provider. We service almost all 50 states in the U.S. and almost all the provinces in Canada. We have the largest landfill network, as you mentioned. We also have the largest recycling network across North America. So we very much focus on materials management and finding the best use for those. We are approaching $19 billion in revenue and approaching 30% EBITDA margins over the long term. So a very strong profile. We can go into details on any of those lines of business. But we service all collection, commercial, industrial, residential, landfill, recycling, organics, all kinds of different solutions for all of our customers.

That's great. Thank you, Ed. And maybe you heard me stumbling over WM a few times. It's hard to get -- I'm working on it. But you see it, and it might not be up now, but in the cover presentation, you see WM as your symbol. I know you as WM, but now I think everyone is starting to know you as WM. Can you talk to us why you sort of shifted to WM versus Waste Management, what the driver of that was?

Sure. As you probably know, WM host the Phoenix Open, has been doing it for many years. And as part of that, we have what we call the Sustainability Forum. And we bring in leaders, thought leaders across the globe basically to come in and talk to us about the future of sustainability and where the world is going. And a couple of years ago, we had some challenges that we're not just waste management. We don't just provide waste services. We provide environmental solutions to companies. And I think that's really where our name change comes into play, right? We're doing much more than picking up waste. We're doing organics. We're doing recycling. We're doing all kinds of things to provide a better future for tomorrow. So it felt appropriate for us to drop the waste piece of it and just go with waste -- with WM.

Yes. And I think I did a pretty good job for myself to get us into the next question here, sort of segues well, Ed. So your renewables business and recycling, you had some pretty big news last quarter. Could you talk about that capital program that you announced?

Sure. So we had 2 pieces of it. We had the renewable energy piece and we had the recycling piece. And we're going to spend about $275 million each in 2022 on both of those. And they're a little bit different. So I'll start with the renewable side. We're looking at building 17 new renewable energy projects, taking the methane that's naturally occurring in our landfills and converting it into renewable natural gas. We operate the largest natural gas fleet in North America, not just in the waste space, but across all industries. And that allows us to recoup a benefit, the RINs credit, which I'm sure we'll talk a little bit about because we're fueling our trucks with that. So it's a pretty good economic return for us. And it's about a 3-year payback for those investments. We've been doing this for over 2 decades, right? If you go back and look, we have 130 projects today on our landfills, most of them are methane to electricity. But now we're starting to move to the renewable natural gas side because we're able to fuel our own fleet and generate that RIN credit for it. So it's a great investment story for Waste Management, taking something that was really a cost for us, right? It's part of our obligations to monitor our air emissions quality emissions. We have to capture the methane and fire it generally is what we've done in the past. Now we found this opportunity to create some revenue and earnings from this and do something that's better for the environment. So it's a big win across all the board.

And maybe talk a little bit about why now? What is the -- what's changed? Is there a catalyst that's changed? Why you seem -- it seems like most of the industry is heading towards this. Is there something that happened to Waste Management? Or obviously, I mean, fuel prices are changing, but could you sort of talk about that, the rationale?

Sure. I don't think there was any one catalyst. Like I said, we've been doing this for 2 decades now. We have the expertise on how to do this. I think really what it comes down to is there is an opportunity for continued growth in our business, right, from an organic perspective. As you know, we closed on the Advanced deal back in 2020. And we finally fully integrated it past the 1-year anniversary in October of last year. And doing large-scale acquisitions become more difficult for us, right? We could still continue to do tuck-in acquisitions. But in order to get some good organic growth out of the business, this is an opportunity for us that we saw to continue to grow that business. So I don't think there's any one catalyst. We've been doing this -- again, we have 4 projects that we built over the last 6,7 years, and this is just a continuation of that. And it's going to provide some long-term growth that otherwise, we may not be able to see from an acquisitions footprint. Doesn't mean we won't do acquisitions, but it's an opportunity to grow organically.

Natural fit, makes sense. And could you remind us again, I think you mentioned it, but what is -- how much of your revenue is the renewables right now? And where do you -- could that -- where could potentially that go to, can it get double digit? Where could that be?

Sure. So it's about 1% to 1.5% of our business today, so still a tiny piece of it. As we continue to grow the portfolio, it's obviously going to grow. But we expect our normal organic revenue growth from our collection and disposal business to grow as well. So it's -- it might grow a little bit faster over the next couple of years than our organic revenue growth because we have such a focus on those 17 projects. But where it goes, it's hard to say. Will it be 20% of our revenue? I'm not -- I don't think so. But I think it will continue to grow, maybe get up to 3% to 5% or something like that. It's just hard to say.

Sure. Sure. And maybe switching now to the recycling piece. Processing fees, you've done a really good job of shifting the business. Maybe you could just give us a little -- for those that aren't as familiar, give us a little background on that and maybe sort of update us on where you are now on the processing side.

Yes, that's going back many years ago, and there was a couple of things. You had the Chinese ring-fence and the Chinese national sword basically, where the Chinese government, because we were shipping most of our cardboard overseas, the Chinese government decided they didn't want to take in the world's garbage, right? So there's a lot of contamination in some of these bales. I'm not saying that we were doing it, but a lot of other companies have a lot of trash in their bales, upwards of 20%. So the Chinese government decided to put in a restriction that you could only have 1% to 2% of contamination in there. When this was going on, it was causing the market pricing for commodities to decline significantly, and we were upside down in a lot of our contracts. So we had contracts where we would guarantee rebates back to our customers, but we were selling the commodities for a lot less than what we were guaranteeing to the customer. So we took a step back at that point in time and said, look, we need to share in the risk of the commodities and put in kind of what we call floor-based pricing, right? So we're going to charge customers a processing fee plus a return on invested capital before we rebate anything back to them. And as long as the combined prices are above that level, we'll rebate it, typically, call it 80-20, where the customer is going to get 80% of the rebate and we get 20% of the rebate. So we share in the upside potential, but we're protected on the downside. That's really kind of the crux of it. We've gone through most of our contracts. And luckily over the last several years, we haven't gone to that low level just yet. But we feel we're protected on the downside if commodity prices come down. We don't think it's necessarily going to be, in the near term, if commodity prices come down because we're very bullish on the recycling outlook there. If you look at most CPGs and other companies, they're looking to increase the amount of recycled content that they put in their products. So there's going to be a demand on the back end of our recycling facilities to see an increased amount of recyclables flowing through the plants. So we think we're in a good spot to just continue to see reasonably priced commodity values.

And I think I know the answer to this, but I'm going to ask anyway. Is there -- now these were implemented on a down cycle, essentially, or the beginning of. Is there buyer's remorse or is that just not relevant? You don't want to play in that game anymore or just maybe...

So I'm not sure I follow on the buyer's remorse.

Would you not -- would you want more exposure now with it?

No, I don't think so. I think it's still -- we're in a sweet spot here, right? We're still sharing the upside, but we're also protected on the downside. So I don't think there's buyer's remorse. So we're doing everything we can. It's part of the investments that we're making. Part of it is automation. And I'm sure we'll talk about automation in a minute. But part of it is to move into new markets as well, right? So we think there's opportunities to continue to grow the recycling business.

Yes. And that's another great segue. I mean we can talk about another topical issue with labor, and you've talked about it in the last couple of quarters of absenteeism and just the resignation. Could you talk about how labor is impacting your business and what that means? And then maybe talk about automation is offsetting that or you're benefiting from that?

Yes. So as you can imagine, the job our drivers have and our technicians and the people that work in the recycling facilities, they're tough jobs, right? They're not easy by any stretch of the imagination. I have a ton of respect for everything they do. I know I couldn't get on the back of a truck and pick up garbage. So what we saw in Q3 and Q4, we proactively in June and July increased wages for our drivers. We saw some of this coming down the road here and thought it would be a good opportunity for us to try to retain our drivers. But in Q3 and Q4, what we started seeing is a lot of COVID absences. And I think we mentioned on our fourth quarter earnings call that we saw a peak twice as high in Q4 than we did in Q3. And what that caused us to have a lot of overtime hours and to have -- as we're hiring drivers, a lot of training hours. And that caused labor to go up significantly in Q3. I think we said about 7% inflation in those categories. I think starting in the new year, we've seen COVID absences kind of come down. It's not -- no anywhere near where the peak is. And we've seen some of those training hours turn in to productive hours. So the people that we hired are now on the road, picking up garbage, picking up recyclables and moving more into productive hours. Overtime is coming down a little bit because you don't have as many absences. So I think we're seeing that shift improve a little bit. I do think the carryover impact of the wage increase that we gave in June and July will follow through the first 2 quarters of the year until we anniversary that piece of it. But we're doing everything we can to make sure that we do everything to attract and retain the best workforce that's available out there.

And maybe talk about sort of jump into automation. I mean Jim sort of walked the dog on what the offset will be, that 5,000 to 7,000. They're naturally going to attrite. And then automation comes in, what can -- how much can that offset?

So we've talked, like you said, 5,000 to 7,000 positions. The more detailed example that we have given so far is on the recycling side where we think we get about 1,000 positions out. And again, we're not going through and terminating employees. These are high-turnover positions. And I want to make sure everyone understands that a lot of these positions are through a temporary agency. They're not employees of WM. So we have 48,000 employees today. You're not going to see 43,000 by the time 4 years from now. It's really the high-turnover positions that are difficult to find and fill. So as those positions turn over, we'll be able to not hire them back and use technology. So we said about $60 million to $70 million of labor savings is going to come from the investments in technology and reducing the workforce by about 1,000 positions in the recycling side. We have opportunities to also improve our residential line of business where we have still about 2,000-plus real load routes, which means you have a driver and 1 or 2 helpers on the back of the trucks. So can we shift that to an automated side loader, where you have one driver who's using a mechanical arm to pick up the trash and recyclables and eliminate the 2 people on the back. I mean that's a safety benefit to us, right? The most accidents occur when you're on the back of the truck. And you have soft tissue issues. You have back issues when you're picking up the trash and trying to throw it into the back of the hopper. So you'll see some improvement there, but you also see some productivity improvement. So I suspect you'll see some savings in labor there. And then the other piece that we're looking at is potentially high-turnover positions in dispatch, where we can use technology to automate some of our routing structure to do things more dynamically. So all those together over the next 4 years or so, we should see that headcount that Jim was mentioning.

Yes. And I assume there's probably more to go. Could you mean is this it? Or is there more -- I mean, I've heard you talk about sort of doing route optimization. There's probably a lot of productivity that can come out of this. I mean in the end game, I guess, you could have -- using self-driving vehicles. I realize it's probably far off. But where could this go? I mean how automated and how much AI could you use?

Yes. I think I joke around with people sometimes and say, I think Jim wants to have a chat bot for IR, so get rid of me and have you guys kind of talk to a chat bot. But I don't know if we'll ever get to that point, hopefully not for my sake. But as far as automation, look, I think you're right. At some point in time, will there be automated garbage trucks? I'm not sure. But I do think you'll still have a person inside that truck, might not be driving it for the most part, but it'll be -- you'll have people in there, just be a different type of job at that point in time. We're not looking to get rid of employees in any stretch of the imagination. We just want to make sure that we -- those high-turnover positions, we're able to serve the customers in the most efficient way. There could be more coming down the road. I just don't see it right now, right? You talked about automation of the routing structure. That's something dispatchers will look to maybe have fewer jobs in the future from the high-turnover positions. But again, it's not going to be a massive layoff of employees. It's just going to be through natural attrition.

Yes. I mean because your OpEx is in the low 60s or somewhere around there. I mean could this like be material? Like could you get you in the 50s? I mean what could this -- where could you see this going?

Yes. We haven't set any targets out there. But look, if we're at $60 million to $61 million right now and you're going to talk about, again, if you have $60 million to $70 million for 1,000 positions, call it, so call it, $65,000 per employee at the midpoint times 5,000 employees, you got a pretty big number at that point in time, right? But it's not going to be -- you're not going to see it overnight. It's going to take time for us to get there. So I think 1 day in the future, you're going to look out and go, "Oh, wow. Waste Management is doing a lot better because OpEx is a lot lower and EBITDA margin is a lot better." It's just going to take time to get there.

Yes, more scale advantage. Maybe we could switch to another topic of pricing and inflation. Sort of what are you seeing out there? How is pricing going with the inflation environment?

Yes. I think it's -- most customers understand the pricing environment we're in today, right? You can't pick up the phone or you can't look at a newspaper or go to a grocery store or a gas station, for that matter, to see the inflationary impacts across the businesses. As long as we're providing the quality customer service that our customers have come to expect, they understand that the pricing is going to happen, right? Our business is in 2 components of pricing, right? You have about 40% of our business that's tied to some kind of index, whether it's CPI-U or water-sewer-trash, something like that, that you'll see reset about 70% in the first half of the year, 30% in the back half. And there's usually a 12-month look back. So you're not going to see a full impact of CPI on those contracts until you get to the later half of the year and into 2023. But the open market piece, the remaining 60% is the piece where we're able to go out there and recover our cost of inflation that we're seeing in our business, and it seems to be going fairly well so far.

Ed, can you refresh us, do you have a gasoline surcharge on the 60%?

Yes, we have a fuel surcharge on all of our customers. Yes. And that's so -- to explain it a little bit, there's generally a 1-quarter lag in the recovery. So what happens is our commercial customers are generally billed 1 month in advance, and our residential customers are billed 3 months in advance. So for example, in December, we billed our commercial customer -- our residential customers for the first quarter, and fuel prices rose during the first quarter. I suspect we're not going to have an exact match, so there could be an EBITDA impact. But over the long term, we expect our fuel surcharges to cover the changes in fuel costs so that we don't have an EBITDA impact to our bottom line. What you will see though is margin impact, right, because as fuel costs rise, our fuel surcharge revenue goes up. With no EBITDA impact, you're going to have a margin compression a little bit there. But we should fully recover our cost increase over a 12-month period.

Yes. Along that line on the RINs, are you going to -- did you give a number to the world about what you expect to generate and how you're going to flow that through to P&L when received or when accounted for?

So right now, for 2022, we expect about $3 of RIN price. We're just kind of aware it's hovering around that right now. The 17 new projects, we modeled at $2 RIN prices to be conservative. And as we sell the RINs is when you see it flow through the P&L. We're generating right now about 3.4 million mmbtus of natural gas. And it's like 11.7x for every [ $1 RIN ].

Stop. Just give me a number.

We said it's going to be flat basically year-over-year this year.

But what's the total number? I don't have the 10-K in front of me.

Yes, we don't -- we haven't talked publicly about.

I feel like I'm in the morning meeting. This is -- maybe back to pricing. In this environment, it was extremely -- being able to price, but then your churn rate is at all-time low. Can you sort of walk the dog on what's the dynamic there? How far can you price before you start seeing some issues with churn?

Yes. I don't think we're looking at it that way, right? Churn, most people think that churn, people leave because of pricing. It's usually people are going to leave us because of a service value, right? We either leave the trash on the ground. We missed pickup. We have a billing issue or something like that. That gives them reason to look at our invoices. As long as we're providing the quality service and we look at the customer lifetime value, I think that's more important than really the pricing aspect of it. Now if we're going out there giving 100% price increase or something absurd like that, people are going to look at pricing, right? And there's going to be a subset of customers that look at pricing. When you give them a 5% price increase, they want to negotiate it down a little bit. But for the most part, I do think that our customers understand we're trying to get churn as low as possible, right, looking at that customer lifetime value because as customers stay with us longer, it's better for us, more profitability. And it's pretty expensive to bring on a new customer, right? There's a lot of things that have to go into bringing on a new customer. And when you lose customers at a churn of 9% or so, call it, they've been around with you for 11 years, they're pretty high price, right? Because they've gone through 8 pricing cycles, and you're bringing on generally new customers at market rates. So that change there is really what drives the difference between our core pricing yield versus that mix churn.

Yes. And you have -- obviously, you have some pretty serious algorithms that I'm sure deal with that.

We do.

Yes. What about any -- in this end of March, what are you seeing as far as out there with inflationary pressures? What's your business actually seeing right now? Any thoughts on the second half?

We said about 4% to 5% for the full year inflation. Fuel obviously is one that's a little bit higher than that, but we think we're covered because of the fuel surcharge. I do think that we had mentioned at one of our prior conferences that we're still confident in our outlook for the full year, which was flat to up 40 basis points of EBITDA margin even though we are seeing more pressure from the fuel side. Still kind of early, right? We're 2 months in, haven't closed March just yet. But we're looking to see what happens. Original guidance assumed down about 100 basis points in the first half and up 100 to 140 in the back half to get to us flat to up 40. So I think we're still comfortable with that range right now.

Got it. Maybe we can switch over to volume. Your outlook shows relatively mild volume, I guess, is the right way to say it. But are there any scenarios that you can see in '22 where we might get a boost in volume? Any you could talk about?

Yes. I think there's opportunities on the landfill side on the federal government. If they can get the spending bill done and get the infrastructure spending going, then that benefits all the waste players out there. So there are opportunities, special waste, C&D construction, all of those areas seem to be pretty good. And then we expect to get our normal kind of growth from GDP plus population growth on the volume side.

And maybe to tie in a little bit of recycling. You're the largest landfill operator, a clear deep moat. Could you talk about as the stream goes more to some more -- as the stream goes to recycling, how does that impact your landfill business? Is that a good thing, bad thing? Could you sort of give me some thoughts on that?

I don't think it's either good or bad, right? It's really dependent upon what the customer wants to do, and that's what we're trying to do is help the customer. We're also the largest recycler out there as well. And we put in, in our landfills, it's about 125 million tons last year. And on the recycling side, we handled about 10 million with about half coming from our traditional [ Northern ], half from brokerage. So there is still a wide gap there of kind of what's happening. California, for example, which is the most progressive recycling state out there, our landfills are just as full as they've ever been there. So there's a need for landfills out there. And by doing things with renewable energy, trying to protect the environment as much as possible, extracting value from that, I do think that there is a benefit to landfills. It's not a negative. But recycling increasing will be a benefit. I think you'll see over the long term increased recycling, keeping the commodity prices high to meet the demands of our consumers on the back end is going to be a good thing overall.

And it is, in the end game, it is a scarcity issue. I mean it doesn't go on forever. Maybe to margins, you've done a great job of growing your margins consistently with your new programs that you've implemented. Where could we see margins eventually going to in Waste Management?

Yes. We never talk about do we want to get to 30% or 35% or 40%, whatever the margin is, right? We're looking for continuous improvement. We expect generally somewhere between 50 and 100 basis points in a normal economic environment year from our collection and disposal business, and that's what we're expecting. We focus a lot on return on invested capital here. I'm proud of kind of having industry-leading ROIC. I meant to mention this on the last question. The recycling business has the second highest ROIC out there. Landfills are one of the lowest. Obviously, it's capital intensity of the 2 businesses that drive that. But we're focusing on both margins and ROIC.

Yes. And maybe what are the 50 to 100 basis points? What are the levers that do that? What are the main drivers for that improvement?

Yes. So it's going to come from pricing as a piece of it, some volume growth, but also productivity improvements and operating cost reductions, right? So all the things that we're talking about here to improve our labor, to improve how efficiently we service our customers, standardization across the fleet and maintenance, things like that.

Could you maybe give us just a quick update on your -- the recent -- not the recent now but your large acquisition of ADS? How is that -- I mean it's been -- I know it's been a few years now, but how is integration going? I know they had different margin profiles. Could you sort of talk to us about that?

Yes, definitely. So I think we're fully integrated now. We had a few operations to put on our systems here at the beginning part of the year, and I think we're through that. So we expect to see some synergies coming out of those pieces. We far surpassed the synergies that we expected from the original deal when we announced it. And that includes divesting a whole much more than we expected as well. So the transaction has been fantastic for us. As you mentioned, margin profile is a little bit different. And we were surprised a little bit about the shape of some of the fleet. So we had to invest some money in the fleet, so that hurt us a little bit in 2021. I think we're through most of that, and we expect to see them moving closer to Waste Management traditional margins here over the next year.

Just on debt to EBITDA, you got $1 billion out of pocket for dividends. You've got a couple of billion dollars for CapEx. What's -- given the new dynamics in terms of pricing versus volume and total revenues and margins, would you increase your leverage? You got what, 2:1 or 3:1 now on whatever number you use?

Yes. So I don't think we necessarily have to. Our balance sheet is in a pretty good spot, right? We're at 2.75. To your point, it's right there in the middle of that 2 or 3 number that you gave. Dividends, first and foremost, I think. Then we look for after any capital investment in the business. And then it's going to go to acquisition, M&A opportunity, growth opportunities. This year, we're doing the investments in sustainability as we don't see a lot of M&A options out there, but it doesn't mean we won't do that. And then share buybacks. I don't think there's a need necessarily to increase leverage right now. But we're in a great spot is the way I think.

Reverse that. Any reason you'd want to reduce leverage?

I don't think so. I think we're in the sweet spot. I think there's no reason for us to pay down debt right now. It's pretty cheap.

Maybe one last quick one. Just could you -- all the -- with fuel prices, energy prices going up, can you talk about your energy business, your environmental services business? What are you seeing right now there? Maybe one last. Rig count, what are you seeing in that business right now? I know it's a small part of your business.

It's a very small part of our business right now. It really hasn't changed significantly, right? We're starting to see some drillers kind of get back in it and start drilling. But I don't think it's going to be a significant impact. Maybe if the prices -- oil prices stay elevated for an extended period of time, we might see it. But right now, it's not that significant.

Great. Great. That was an awesome overview. Thank you for taking the time today. I know you're a busy guy and look forward to hopefully having you back next year. Thanks so much.

Hopefully, we come in person next time. Appreciate it.

Thanks, Ed.

Thanks, everybody.