Welcome to the Casella Waste Systems, Inc. Q1 2019 earnings call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. If anyone should require operator assistance during the conference, please press star then zero on your telephone keypad. As a reminder, today's conference will be recorded. I would now like to turn the call over to Joe Fusco, Vice President of Communications. Sir, you may begin.
Thank you for joining us this morning and welcome. With us today are John Casella, Chairman and Chief Executive Officer of Casella Waste Systems, Ed Johnson, our President and Chief Operating Officer, Ned Coletta , our Senior Vice President and Chief Financial Officer, and Jason Mead, our Director of Finance. Today, we will be discussing our 2019 first quarter results. These results were released yesterday afternoon. Along with a brief review of those results and an update on the company's activities and business environment, we will be answering your questions as well. First, as you know, I must remind everyone that various remarks that we may make about the company's future expectations, plans, and prospects constitute forward-looking statements for the purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995.
Actual results may differ materially from those indicated by those forward-looking statements as a result of various important factors, including those discussed in the Risk Factors section of our most recent annual report on Form 10-K, which is on file with the SEC. In addition, any forward-looking statements represent our views only as of today and should not be relied upon as representing our views as of any subsequent date. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so, even if our views change. These forward-looking statements should not be relied upon as representing our views as of any date subsequent to today. Also, during this call, we will be referring to non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles.
Reconciliations of the non-GAAP financial measures to the most directly comparable GAAP measures, to the extent they are available without unreasonable effort, are available in the appendix to our investor slide presentation, which is available in the Investors section of our website at ir.casella.com. With that, I'll turn it over to John Casella, who'll begin today's discussion.
Thanks, Joe, and good morning, everyone. We are pleased with the strong start to the year in our most challenging seasonal quarter. We continue to execute well against our key strategies as part of our 2021 plan and remain focused on driving further Normalized Free Cash Flow growth. As reported yesterday's press release, our Q1 revenues and Adjusted EBITDA were up 11% and 8.1%, respectively, from last year. We also reaffirmed our 2019 guidance for revenue, net income, Adjusted EBITDA, and Normalized Free Cash Flow. Notably, in the quarter, we completed an equity offering with net proceeds of just over $100 million. We are well-positioned to continue to grow the business in a disciplined manner. Yesterday, we announced our first acquisition in 2019 of MPC Disposal, located in Maine.
This is a tuck-in, great addition to the 10 acquisitions we completed in 2018, and we continue to see a robust pipeline in the Northeast. Overall, we remain focused on executing against our 2021 plan. The five key strategies are consistent with the plan as announced in August of 2017, which includes increasing landfill returns, improving collection profitability, creating incremental value through resource solutions, and using technology to drive profitable growth and efficiencies, along with efficiently allocating capital for strategic growth. Our first strategy in our 2021 plan is increasing landfill returns. We continue to enhance returns through price execution, operational programs, the sourcing of new volumes at higher prices, and our efforts to advance key permits. Our average landfill price per ton was up 6.6% in the quarter as we advanced a strong pricing program in early 2019.
The pricing landscape continues to be favorable, and we expect it to remain so into the foreseeable future due to the continued disposal capacity constraints across the Northeast. We're not only increasing price on existing volumes, but also replacing lower-priced waste streams with higher-priced volumes, which blends up our overall pricing and improves return. The first quarter was a tough quarter for our disposal line of business, with Adjusted EBITDA down due to the expected closure of the Southbridge landfill in November 2018, a tough comparison given the large soil remediation job that we had in the first quarter of last year, and most notably, operational challenges at our Ontario landfill that caused us to cut high-priced sludges accepted at the site and to incur higher-than-budgeted expenses to resolve several operational issues.
It's an all-hands-on-deck, including myself, to resolve the issues. We are well on our way to getting back to our high operating standards and expected financial performance at the site. Our second strategy in our 2021 plan is driving further profitability within our hauling business. We continue to outperform and execute well against our pricing and operational strategies. Our pricing discipline and agility once again apparent in the quarter as we advanced collection price by 6% year-over-year. We are continuously monitoring inflation across the business and adjusting our pricing programs accordingly as we aim to outpace heightened disposal, recycling, and labor costs. As we continue to advance price, our risk mitigation SRA and E&E Fee programs are working well to offset recycling commodity pressures, fuel, environment, and regulatory costs.
We improved collection margins in the quarter, while at the same time experiencing slightly negative volumes as we deselected or shed less profitable customers. We launched a new program in 2019 called Service Excellence, focused on establishing clear and measurable service standards. We initially focused on the collection line of business, where it is paramount to provide top-notch service to our customers each and every day. Third strategy in our 2021 plan is creating incremental value through resource solutions. Our recycling business performed well in the quarter, with a year-over-year improvement in Adjusted EBITDA as we continue to make progress restructuring third-party recycling processing contracts to pass commodity risk back to our customers, introducing contamination fees to help drive behavior changes with recycling, and starting two large recycling facility equipment upgrade projects.
Our SRA Fee continues to work well as it is fully offsetting the commodity risk on our intercompany volumes. Given our early success in 2019 and the strength of our risk mitigation programs, we do not expect the year-to-date declines in the recycling commodity prices, including the recent declines in cardboard, to significantly impact our forecast for the remainder of the year. We will maintain focus on producing high quality end materials, reducing our exposure to commodity prices, and improving our operational efficiency. The customer solutions team also performed exceptionally well in the quarter, with Adjusted EBITDA growth of approximately 33% and margin improvement of over 70 basis points as they continue to capture share of wallet for major industrial customers across our franchise area. The fourth strategy in our 2021 plan is using technology to drive profitable and efficient growth.
We are happy with the progress we have made against this initiative over the last year. Our NetSuite implementation went very well, we are now starting to drive meaningful change to our business processes. Working to simplify, automate our purchasing processes to drive out costs, enable us to continue to scale our business without adding significant back office headcount. One of our main focus areas in 2019 is on better integrating our sales force and our customer care teams through a newly launched case management system, which is tied to our CRM, which is Microsoft CRM, with an aim on improving our ability to quickly and efficiently respond to customer needs. Moving on to our final strategy on our 2021 plan, which is allocating capital to balance de-levering with smart growth. We executed very well in 2018 against this strategy with the completion of 10 acquisitions during the year.
We exceeded our goal to acquire or develop $20 million-$40 million per year of annualized revenues, we are well-positioned to again outperform our goal in 2019. Over the last six months, we've made great progress integrating the acquisitions we completed in 2018. To date, we've completed all of the finance back office systems integration work for all of the acquisitions completed in 2018. We are busy working on executing against our post-acquisition operating plans for each acquisition to drive synergies and internalization. We're tracking generally well to the performance or above pro forma for almost every acquisition completed last year, with a few areas that need to improve over the next several years.
As we said last year when we talked about those acquisitions, the value will come out of those acquisitions over the next year or so as existing disposal contracts terminate and we're able to internalize additional tons from those acquisitions that we did in 2018. Yesterday, we closed on the acquisition of MPC Disposal in Maine. This is a great tuck-in acquisition for us, roughly $7 million of annualized revenues that will integrate well with our existing operations in Maine. This acquisition represents a nice start to our acquisition growth strategy in 2019. As we look out over the next few months, we have approximately $40 million of annual revenues across several acquisition targets in letter of intent stage. We expect to close these transactions by the end of the third quarter.
We are well-positioned to continue to opportunistically grow the business given the recent equity offering and our ability to continue to grow free cash flow organically. The overall strength of our balance sheet, coupled with the robust pipeline of that overlay, our existing operational footprint, or that is in adjacent strategic markets. One area that is not specifically outlined in our 2021 plan, but is very important to our continued long-term success and underlies all of our initiatives, is the focus on further building our team. As we have highlighted in the past, in 2018, we introduced our Career Path program to our maintenance and landfill technicians, our recycling employees, and our drivers. While the program is in the early innings, we are starting to see some early positive benefits.
The goal of Career Path program is to provide a measurable and transparent path to advancement through career training programs, safety, and productivity goals. Over time, we expect this program to improve employee satisfaction, strengthen our recruitment, reduce turnover, and enhance productivity while lowering safety incidents. In 2019, with the help of our human resource team, we are also in the process of creating a robust apprentice onboarding and training platform. Our goal is to develop a training program to help us to train CDL drivers and apprentice-level technicians that are highly committed to the company and dedicated to superior safety and service. We are having great initial success in attracting trainees to the program.
Wrapping up, as reflected in our guidance, 2019 is attracting well against our 2021 plan and displays continued execution of our key strategies with a goal of driving additional shareholder value. We expect continued strength in solid waste, a robust acquisition pipeline, recycling tailwinds to offset the 2018 of the Southbridge landfill. With that, I'll turn it over to Ned.
Thanks, John. Revenues in the first quarter were $163.7 million, up $16.2 million or 11% year-over-year, with $11.9 million or 8.1% of that growth driven by acquisition activity, the rollover impact year-over-year. Solid waste revenues were up $11.2 million or 10.2% year-over-year as a percentage of solid waste revenues with price up 5% and then 10.8% from the rollover impact to acquisitions and volumes down 4% year-over-year. Revenues in the collection line of business were up $16.6 million, with price up 6% across all lines of business, volumes down very slightly, risk recovery fees up 2.4%, and acquisitions up $11.3 million. Our disciplined pricing strategy has been working very well, balancing customer retention and new business growth with appropriate pricing levels to offset the building inflation across our operations.
Revenues in the disposal line of business were down $4.2 million year-over-year, with very strong pricing offset by volume declines and the closure of the Southbridge landfill in November 2018. The closure of Southbridge resulted in a $2.2 million year-over-year decline in revenues. Disposal volumes had a tough year-over-year comparison as we had a one-time $3.5 million soils remediation project in the first quarter last year that did not repeat this year. Volumes were also negatively impacted by a $600,000 business interruption at a transfer station that we're rebuilding after a fire. This transfer station is now open. Excluding these two factors, disposal volumes were actually up slightly. Economic activity remains strong across the region, and landfills and waste-to-energy facilities were generally at capacity throughout 2018.
The tightness of the market has given us a great pricing backdrop for 2019. In the first quarter, we increased reported landfill pricing by 4.2% year-over-year. As John mentioned, we drove average price per ton up 6.6%. Excluding the Southbridge landfill closure, landfill tons were slightly down. They're down 1.5% year-over-year. However, we do expect to ramp tons up during the higher-priced summer months. Recycling revenues were up $600,000 year-over-year, with $1.9 million lower commodity pricing. This was offset by our $2 million of higher third-party tipping fees or processing fees and a half a million dollars of higher volumes. Average commodity revenue per ton was down 15% year-over-year in the quarter on lower fiber pricing. Down 16% from December of 2018 to April of 2019 on further declines in cardboard pricing, with cardboard down 35% from December to April.
Organics were up $1.4 million year-over-year on higher volumes, mainly associated with the new two-year sludge T&D contract. Customer solutions revenues were up $3 million year-over-year due to several new multi-site retail customers and continued growth in our industrial services business. Adjusted EBITDA was $26.6 million in the quarter, up $2 million or 8.1% year-over-year, with margins down 44 basis points. Solid waste Adjusted EBITDA was $24.8 million in the quarter. This is actually down $100,000 year-over-year, with very strong pricing and acquisition activity offset by some inflation in our operating costs. As I just mentioned, lower disposal volumes and $1.8 million of lower Adjusted EBITDA at the Southbridge landfill. Solid waste-Adjusted EBITDA margins were 20.4% in the quarter. This is down 220 basis points year-over-year. One of the largest reasons we saw margin pressure overall as a business.
The Southbridge Landfill closure negatively impacted margins by 115 basis points, while our heightened operating costs and reduced fines at the Ontario Landfill pressured margins by 80 basis points and fuel negatively pressured margins by roughly 40 basis points. Excluding these three items, margins were actually slightly up year-over-year. Recycling Adjusted EBITDA was up $2 million year-over-year, with lower commodity prices and higher variable processing costs offset by $2.8 million of higher tipping fees and lower rebates and slightly higher volumes. Adjusted EBITDA was $1.8 million in the other segment, which is up $100,000 year-over-year, with a great quarter for Customer Solutions with Adjusted EBITDA up $300,000 or up 33% year-over-year on strong execution of the Industrial Strategy. Cost of Operations was up $12.1 million year-over-year, with roughly $9 million of that increase driven by acquisition activity and most of the remainder driven by higher third-party transportation and disposal costs.
G&A costs were up $1.7 million year-over-year, down 36 basis points as a percentage of revenues as we began to gain leverage from acquisition activities in the five-year Technology Plan. Roughly $1 million of this year-over-year increase was driven by acquisition activity. Depreciation and Amortization costs were up $1.5 million year-over-year, mainly due to higher depreciation on trucks and equipment related to our five-year Fleet and Yellow Iron plans and heightened acquisition activity. You will notice there are two unique items in the quarter. We incurred roughly $600,000 of legal and transaction costs related to our ongoing efforts to cap and close the Southbridge Landfill. This is moving along well, as John mentioned, but we do continue to work with the state to get a capping plan in place, and we incurred expense from acquisition activities during the period as well.
Our Normalized Free Cash Flow was negative $6 million in the quarter as compared to positive $7.2 million for the same period in 2018. This reduction was mainly due to two items. The biggest is timing differences in cash outflows associated with accounts payable. We expect this to normalize through the remainder of the fiscal year, and we're on track to meet our guidance. We also had higher capital expenditures year-over-year due to business growth and timing differences. This is actually a positive storyline where we're able to take delivery on trucks and equipment earlier in the fiscal year as we placed orders in mid-2018. As of March 31st, 2019, our consolidated net leverage ratio, as defined in our credit facility, was 3.10 x, which is down 2.3 x since December 31st, 2014. Our total debt was $469.9 million, with liquidity of approximately $197 million.
In addition, we have fixed our interest rates on roughly 67% of our debt. As John mentioned, we believe our capital structure is in a great position and will allow us to execute well against our strategy to grow through smart acquisitions in 2019. We just refreshed our 2019 forecast, we are confident that the 35% decline in cardboard prices year-to-date through April will not impact our guidance ranges for the year. We currently have over 90% of our recycling revenues covered by either our SRA Fee or our revenue share risk contracts. This has allowed us to offtake commodity pricing risks to our customers. As stated in the press release yesterday afternoon, we reaffirmed our guidance for fiscal year 2019 by estimating results in the following ranges.
Revenues between $710 million and $725 million, Adjusted EBITDA between $152 million and $156 million, and Normalized Free Cash Flow between $51 million and $55 million. We have updated our net cash provided by operating activities guidance range to between $111 million and $115 million, from the previous range of $119 million to $123 million. This change was made because of our adoption on January 1st, 2019 of ASC 842, not because we expect weaker cash flow generation during the year. As part of the adoption of ASC 842, we changed the classification of payments on landfill operating leases from an investing activity on the statement of cash flows to an operating activity. To reinforce, this change in classification will not change cash flows or change our Normalized Free Cash Flow guidance for the year. With that, I'll hand it over to Ed.
Thanks, Ned. Good morning, everyone. We had a very good start to the year. Our collection operations, which generated about 50% of our revenue, continue to grow and expand margins. Our recycling operations have almost fully recovered from last year's commodity market disruption, moving to a pay-for-service model that minimizes commodity exposure. Additionally, our landfills and related transfer assets are well prepared to take advantage of great market conditions as we enter the busy spring, summer season. Let me go through some of our key operational numbers. On a consolidated basis, our cost of ops as a percentage of revenue increased by 33 basis points in the quarter versus the prior year.
This was driven by the landfills, as we ran lower tonnage to save permit capacity for later in the year and to get caught up on what I will call pre-construction work to allow for early spring cell construction. As most of you know, landfills have high operating leverage with minimal variable cost. A loss of volume flows through to margins. We expect this to reverse through the year as we crank volumes back up. Landfill demand remains strong. Price was up 4.2% in the quarter, and the more important average price per ton was up 6.6%, indicating that we are being very selective on the tons we take in.
Cost of ops as a percentage of revenue on our collection operations improved by 108 basis points. This was driven both by price and operational efficiency. We achieved 6% in price growth for the quarter. Our key metrics in each line of business within collection improved. We want to note here that this was not aided by acquisitions, as their new operations had only a minor effect on the percentage. More on that in a minute. Cost of ops in our recycling operations improved by 1,600 basis points, as last year we had negative margins. This is a relatively small part of our revenue, less than 7%. A year ago on this call, I stated that the imbalance caused by the rapid change in commodity markets would right itself in 6 - 12 months as we rolled off long-term recycling contracts and implemented our new pay-for-service language.
That is exactly what has happened. We saw the turn start to gain momentum in Q4. Now we're happy to see the strong Q1 results. Most states in the Northeast where we operate mandate recycling, and even though it now costs more to recycle than to put it in the landfill, our customers want to do the right thing and are willing to pay for the service we provide. In the long run, markets will recover, and the cost to our customers will go down. These are very busy times for us at Casella. We are seeing tremendous opportunities for growth in our market and have a considerable pipeline of acquisitions.
As exciting as this is, I wanted to assure you that we remain disciplined in the acquisition process and understand the importance of successfully integrating the acquired companies and, more importantly, the management teams and other human resources that come with them. We are very happy with all of the acquisitions we have completed to date, and particularly our new Rochester operation, which is now our largest division. These acquisitions remain on track to their pro formas. We are methodically integrating them into our systems and processes and look forward to attaining additional synergies over the rest of the year. I want to thank all of our team members that have been doing the integration work. You're doing a great job, and we appreciate the extra effort that that requires. With that, I'd like to turn it back to the operator and to start the question-and-answer session.
Thank you. Ladies and gentlemen, if you have a question at this time, please press star and then the number one key on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. To prevent any background noise, we ask you please place your line on mute once your question has been stated. Our first question comes from Sean Eastman with KeyBanc Capital Markets. Your line is now open.
Hi. Thanks, team. Ned, thanks for parsing out all of the margin impacts in the quarter. That was helpful. I'd just like to start on the operational challenges at the Ontario landfill. If you guys wouldn't mind just providing a little more color on what those challenges are and whether they're fully contained in the quarter. I'm just trying to get an idea of margin progression here towards the 50 basis points of expansion that's embedded in the guide, considering we started the year at a down year-over-year level.
Yeah, I think that clearly we had some challenges at Ontario, and it really related to sludge going into the facility. There's very little tolerance from an odor standpoint. Quite frankly, some of the issues that are associated with that were gas getting out in front. From an operational standpoint, as I said, Sean, it was all hands on deck. We've put the additional wells in. We've experienced that cost in the first quarter of a significant number of additional wells, and we're well on our way to having, as I said, back to the standards that we need to be at. It happened. We're not pleased with it. I think we've made the changes necessary to make sure that it doesn't happen again.
We've spent the dollars, obviously, from an operating standpoint, both in terms of putting additional wells in to make sure that we control the issue as well as additional work. You always have a lot of work in the springtime at sites as well from the winter in terms of erosion. That also contributes to those issues. You have those issues to clean up when you come out of the winter. We did have the additional issues related to the sludge, which we slowed down going into the facility as well. The cost associated with that is in the first quarter.
Got it. All right. Thanks. I'm just wondering how the margin trajectory should look from here. Assuming the operational issues are contained, I assume the margins will ramp alongside the anticipated pickup in disposal volumes. I'm just wondering, should that be a pretty sharp upward swing into the second quarter? Maybe this will be a more back-end loaded year than usual?
Yeah. When we look at the forecast for the year, we're still tracking to be up the 50 basis points as we refreshed our forecast for the year. We look at the progression throughout the year, we'll be kind of flattish in Q2 and then gaining on the year in Q3 and Q4. As John said, last year, if you remember, we got out of the gates really fast with the landfills in Q1, probably took in too many tons, and then in November and December, we really struggled to find homes for those tons. Slowing tons earlier in the year and really pushing our pricing strategy is a good strategy for the year. Some of it was due to these operational challenges, but we expect to comp higher margins later in the year.
Well, I think that we did have that really large project in the first quarter that didn't repeat.
Yeah.
It's kind of serendipity in that we'll be able to realize higher pricing towards the end of the year, as opposed to in the beginning of the year. We just had a very large project that didn't repeat.
That's helpful. Last quick one from me. I believe there are two landfill expansion permits in the works that could be received within 2019. I'm wondering if we could get a quick update on those. I know those particular landfills still do have some runway of permitted capacity, but would those permits coming in this year kind of change those disposal volume dynamics we're looking at this year?
I don't think that it's likely that those two permits, I think you're talking about Hakes and Waste USA.
Yeah
are likely to change the total volume this year.
Got it
more a function of long-term capacity. The Waste USA facility, as you know, is a 20-year permit, a permit of 50-acre expansion of that facility. It's a very long-term expansion for the Waste USA facility. I do think that we will see that. It's hard to say exactly when, we've got 14 out of 15 permits there. We've got one permit left, which is our 250 Permit. The hearings are over and closed at this point in time. We're just waiting for the 250 Commission to write that permit. Same thing with Hakes. Hakes is not as much capacity there. It's capacity for a few years, it's not going to change the dynamics in 2019.
Super helpful. Thanks so much, guys.
You're welcome. Thank you.
Thank you. Our following question comes from Tyler Brown with Raymond James. Your line is now open.
Hey, good morning, guys.
Hey, good morning, Tyler.
Ned, there might be a lot to unpack here, I want to come back to the EBITDA bridge for this year. I'm trying to parse out what's changed versus the bridge that you laid out last quarter. It feels like there's four things here. Number one, recycling is maybe a smidge lower if recycling prices hold, maybe a million or so, something like that. Two, collection pricing was up 6%, which I believe was ahead of your guidance of 3.5%-4%, maybe some tailwind. Three, you closed on some M&A, which might give you a slight tailwind. Four, Ontario is having some odor issues and added costs. Would those be the things that change, and can you give any color on those pieces?
Yeah, I think you've really hit the nail on the head. Recycling's not going to be significantly off. It's really about $5 million. We had guided up 5%-6%. We're probably tracking about 5%. We were up 2.25%. Southbridge is tracking to about the same level, negative 8%. You look at our collection line business, we were up 6%-7%. We're probably tracking up more like 7%-9% right now, that range. On the landfills, we're tracking more like 7%-ish maybe right now, or slightly lower. In acquisitions, we've guided 8%-10% up. This first acquisition's a smaller one. As you know, the first couple of quarters, what we're doing a lot of work to integrate the acquisition and drive long-term value. Yeah, it's not a big needle mover. It's maybe a half a million dollars or something in the year or less.
Okay.
The big swing we're seeing right now is the reallocation between the other landfills and collection price. There is a good opportunity to recover on the other landfill side, because some of it's just volumes we didn't take in the first quarter that we will take this summer or this fall. A little bit of it as well, those higher operating costs in the first quarter that we have to outperform to make up for.
Okay. Very helpful. You noted 6% actual pricing into the landfill, but I think it is 4% on a same store landfill pricing.
Yeah.
Which number should we use when we compare that to the 3.5% - 4.5% Pricing expectation you laid out last quarter?
It's the 4.2%.
Okay.
The 6.6% rolls through a couple of different areas. One, it's our intercompany price plays into that, and two, it's blending in with the new volumes if we have kicked out a customer. I think it really helps to illustrate the type of discipline we have, where we are charging ourselves very high price increases, getting that back to the street through the collection line of business, and as Ed said, still expanding margins in the collection line of business. Our transfer pricing is working very well in the business.
Okay. Clearly disposal prices are on the move given tightness, but it sounds like Chicopee has started its capping work. It is slated to close in June. Taunton, by all indications, could close maybe even as early as the end of this year. I think you are talking another 500,000 tons of disposal capacity in Massachusetts that is imminently slated to disappear. Do you think that northeastern disposal pricing could actually accelerate into 2020?
I think there's a real possibility of that. I think just look at what transpired in the Boston bids. I think that clearly we could see it accelerate. I think that it's also, we've received our additional permitted capacity at our transfer station in Holyoke. With the activity of Chicopee, until that's closed, we're not seeing any additional tons there at all. We were successful in getting the permit, but we're thinking that we should, once that closes, Tyler, we should see additional tons going through Holyoke as well.
Okay. That's helpful. Just real quickly back on recycling for a moment. I think we can all appreciate the SRA fees, and the repricing of that handful of contracts. Ned, I think you mentioned 90% of recycling is covered, as those larger contracts are renegotiated, will that number actually go up? When you renegotiate those contracts, are you simply recalibrating them so you don't lose money in them, but they don't have an SRA fee? How will that work?
No, we've established a pretty strict standard that, we call it the SRA fee, what we put on our collection customers. It's floating like a fuel surcharge. I think as you know, about a third of the tons that come into our processing facilities come from our own trucks, our own collection customers, and two-thirds of the tons come from others, whether they be municipalities or private haulers. In those instances, we call our contract structure a revenue share structure, where if commodities fall below our fully loaded processing cost, so as an appropriate return, our customers pay dollar for dollar a processing fee, and the risk of commodities is transferred back to the customer. We're using that structure with all new contracts. As you know, last year, we didn't have a few contracts under that structure, and it was painful for us.
It was a big headwind during the year. As we laid out, back when we gave guidance for the year, the step-up year-over-year from 2018 to 2019 in recycling, a lot of it was driven by the reset of a couple legacy contracts that didn't have that risk being pushed back to our customers. As we step through those resets, that's how we start to get up to about 90% or more of our customers where the commodity risk is passed back to them. With this recent decline, it's going to hit us a little bit, let's say like a half a million dollars or so, but it's not a huge headwind to us because we've put in very effective risk programs.
Right. Okay. Maybe my last one here. I want to come back to M&A. John, you've been successful in the New England market, but if assets, both collection and disposal, were to come up in markets, say, that were contiguous to your proverbial sandbox, would you entertain expanding the footprint geographically?
I think that we have said that we would look at contiguous. We have a presence in Pennsylvania as an example right now with McKean. We have facilities in Pennsylvania. I think there are contiguous markets, Tyler, that we would look at, and are looking at, quite frankly. The vast majority of what we're looking at is over the top of the existing investment that we've already made as we've said. There are some things that are interesting from a Pennsylvania standpoint. We do have assets in McKean already in that market area. Certainly, we have no desire to step out of the Northeast region. You won't find us in Texas or California or the Midwest.
Right.
We're not looking to do anything like that.
Right. Okay. Nope. That's very, very helpful. Thank you very much.
Yep.
Thank you, Tyler.
Thank you. Once again, ladies and gentlemen, if you have a question at this time, please press the star and the number one key on your telephone keypad. Our next question is from William Griffin. Your line is now open.
Hi. Thank you. Just one question. The $40 million of revenue for deals under letter of intent, just wondering if that is contemplated in the guidance reiteration, if so, are there some offsets to that benefit that you're seeing over the rest of the year? Should we think about these deals, should they close, as potential upside?
Will, we have not contemplated that in the guidance for the remainder of the year, the reaffirmation. Until we close a deal, we really don't have visibility. John and I and Ed had a few back-and-forth conversations about this because we don't typically talk a lot about acquisitions before they close, we did raise equity, and we raised it for a reason, to fund acquisitions. We've been working hard on bringing in a few acquisitions that are a little bit more complicated and will be great fits to our business. We just wanted to make sure people had an update of where we're headed and how we plan to use equity proceeds. It's not in the revenue or EBITDA free cash flow guidance at this point.
Got it. Thank you very much.
Thank you.
Thank you. Our next question comes from Michael Hoffman with Stifel. Your line is now open.
Thank you. Thanks for taking the questions.
Hey, Michael.
How are you doing, Ned? Sound like you have a cold. Hope you get better.
I do.
I know you don't put it in the guidance, but how should I think about what that $40 million could be on an annualized basis, and think of it as 20%-25% margin, $8 million-$10 million is the incremental contribution?
Yeah. Last year we acquired a few transfer stations and that kind of blended things down. This is more hauling than transfers. We haven't closed these deals yet. We're close, but you probably want to be more like the 20% level-
Okay
Drive up from there.
Right. That helps. Boston's in the process of redoing all of their contracts on their five-year rolling thing. If I have my facts correct, there were two companies didn't bid at all. You all did a no bid. What's the status of that process? I'm assuming Boston got caught off guard and went, "What do you mean nobody wants to recycle for us?" Where are we in that process? I have a follow on about the Boston disposal contract.
Go ahead.
Yeah. There are three people who went to the pre-bid, and one of the most important bidders decided not to bid, and they made a few public comments about it. It really had to do with contamination in the city of Boston in the recycling stream. We might have been very fearful as well if we weren't currently handling the streams. We're auditing them weekly, daily in many cases, and we know where the issues are, and when we put our proposal together for the city of Boston, we've set up a real incentive for them to educate their residents and get contamination out. I could see why some of the smarter players in the marketplace decide maybe not to bid with the levels of contamination in the city today. They're not doing a great job.
Okay, you expect to be awarded something. Are you planning on taking on all of it, or Because I would've thought this was going to get divided up by two or three players?
No, we were handling all of it. We've handled all of it historically over the last five years, Michael, and I think that it's likely that we'll handle all of it to the extent that we're successful in negotiating the bid, which we're in the process of doing that right now. We'll, in all likelihood, handle all of it.
Okay.
As we have done historically.
Okay.
I think that we're very comfortable with where we are. As Ned said, we redid the bid. We also gave them significant incentive to clean up the stream, the way that we bid it. There's obviously one cost if it's not cleaned up, and there's another cost if they clean it up. There's real incentives for the city to do a better job from an education standpoint, and certainly we'll work with them to achieve a much higher level of quality coming to the facility so that we can continue to put real quality material into the markets. It's likely that we'll handle the entire stream.
Okay. The Boston disposal bids look like is coming out with a nine handle on it. Can you talk about what that knock-on consequence is to ongoing efforts to keep improving your disposal pricing?
I think it's very clear that's a positive in terms of disposal pricing. It's also a double-edged sword in that our costs for disposal at the facilities that we go to in Massachusetts are obviously going up as well. It's a positive, but it's a double-edged sword. As you know, in the quarter, we had higher transportation costs, higher disposal costs internally as well.
Okay. With regards to Ontario, you've put in more landfill gas wells to be able to capture gas and odors and things of that nature, you've reduced the sludge volume in the quarter. Will you be able to ramp back the sludge volume, or you have committed to just a lower rate of sludge?
We're going to be utilizing a lower rate of sludge. That lower rate of sludge, Michael, is going to be at a higher price. We'll get back some of it, probably not all of it. As you know, the pricing from a sludge standpoint is very significant. It's a high price. Some of it we'll get back in a higher price, we won't get back all of it. We're going to be running lower amount of sludge at our facilities.
This isn't a trend that's unique to Casella.
Across the board
across the board, some of our peers across the marketplace significantly reduce levels of sludge going into those sites, and it's an area that we have a lot of pricing power into that.
Yeah. I get that, and I agree. Just to be clear, the 4.2% landfill price also had to absorb the fact that you reduced the sludge rate.
Yes. That's correct.
Right. If you hadn't, the actual price you're going with is even greater than the 4.2%.
Would've been higher.
Yeah. Right. Okay.
Yep.
That's just like.
That's exactly right. Yep.
Okay. That's all I got.
Okay.
Thanks, Mike. I'll see you next week.
Thank you. Our last question comes from Steve Schwartz with First Analysis. Your line is open.
Well, good morning, gentlemen.
Hey, Steve. How are you doing?
To ask the 10th question on M&A, the deals that are under LOI, what's the probability typically that a deal comes to close while it's in the LOI stage? I know it's not 100%, obviously, but if you could flavor that for me.
I think it's really difficult to flavor it. I think they're all somewhat unique. I think that we get to that stage, obviously it's not binding letter of intent. It's really hard to give a factor. Obviously, we've had good success. We haven't gotten all of the deals done that we approached in 2018. I think we've had a fairly high rate of success. Certainly, until they're closed, they're not closed.
Each of these transactions t hey're not immediately going to close, but they're things we've been working on for a period of time, and we're in a constructive space, and that's why we decided to give some additional commentary.
Yep. They are, to be clear, they're companies you've worked alongside with for a long time, right? Since they're in your geographic area.
Yes.
That's correct.
Yeah. Okay. Ned, I think when you answered William's question, you did throw in a comment that these deals this year might be a bit more complicated than the deals we saw come through last year. Did I hear that correctly?
Yeah. There are a few transactions that have multiple sites, part of it is we've been working really, really hard on integration of every deal we completed in 2018. We're not a huge company. We don't have a huge team, many of the same people who are working on integration also work on diligence and integration planning for new deals. Maybe that wasn't the right-
Pacing it.
Pacing and-
I mean, it's an appropriate pacing of-
Yes
those transactions as well to make sure that we get done what we need to get done from an integration standpoint as we continue to grow.
Yeah. My choice of words maybe wasn't perfect, is more of a metered approach is probably better.
Okay. Then, circling back on Boston, is this a situation where they could handle it like many municipalities do with police and fire contracts? If July 1st comes, is there a possibility you continue working under your old contract and the negotiation continues?
I don't think-
In that case, that would obviously push out your SRA recovery element and maybe some other things would push it out to later in the year or even into 2020.
That's not possible at this point in time. We had a long-term contract with Boston. We honored that contract. We will continue to honor that contract through the end of the contract. We're not going to carry that contract into the rest of the year. We would continue to work with the city of Boston if we weren't able to get to an agreement, if they were willing to meet the bid that we put in place. We'd continue to provide the service at the new price if they wanted us to do that while we continue to negotiate. That would be fine. We're not going to extend the existing contract. We can't afford to do that.
Got it.
Yeah. We had the contract, we honored the contract to the end of the contract. It was the right thing to do. Now the contract is over. If they want us to continue to provide service, they'll have to do it at the new price.
Got it. Good to hear that. Thank you.
Yep.
Okay. Thanks, Steve.
Thank you. I'm not showing any further questions at this time. I would now like to turn the call back to John Casella for closing remarks.
Thank you very much. Thanks everybody for joining us this morning. We look forward to discussing our second quarter 2019 earnings with you in early August. Have a great day, everyone. Thank you.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.