Good day, ladies and gentlemen, and welcome to the Casella Waste Systems Incorporated Second Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session and instructions will follow at that time. As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, 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'll be update on the company's activities and business environment, we will be answering your questions as well. But 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 these 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 ks, 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 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 at our website, ir. Dotcasella.com. And with that, I'll turn it over to John Casella, who'll begin today's discussion.
Thanks, Joe. Good morning, everyone, and welcome to our Q2 2018 conference call. We are pleased with our 2nd quarter results and our continued execution against our key strategies. Strong operating performance continues to be driven by robust solid waste price and volume trends combined with the execution against our acquisition strategy. The continued tightening of the Northeast disposal markets coupled with our disciplined pricing programs had led to favorable solid waste pricing trends and we had advanced solid waste price of 4.3% in both the quarter to date and year to date.
From an acquisition perspective, we have acquired 2 businesses this year with a combined annual revenues of roughly $19,000,000 dollars and we are well on pace to exceed our targeted range given the depth of our near term pipeline. We are actively working on several businesses with combined annual revenues of over $40,000,000 We're excited about the growth opportunity that this presents. Our strong financial performance in solid waste organics customer solutions was again muted by recycling commodity price pressures. However, we remain confident in our ability to offset this headwind through continued outperformance and strength through the remainder of the business. Therefore, we have reaffirmed our adjusted EBITDA and normalized free cash flow guidance ranges for 2018.
We announced our 2021 plan 1 year ago on our earnings conference call, and I'm pleased to say that we are tracking well against this long term plan. One of the key financial targets in this plan is to grow normalized free cash flow by 10% to 15% a year. And for the 6 months year to date, we've exceeded this target range with our growth at roughly 20%. 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.
During the Q2, we increased our average landfill price per ton by 6.7% and at the same time increased landfill tons volume by roughly 3.6% year over year. The increase of these often opposing metrics highlights the continuously tightening disposal dynamics across the Northeast on our disciplined pricing strategy. We believe that we are positioned well to benefit from these capacity constraints by way of the positive pricing backdrop it provides, coupled with the potential to use our excess annual landfill capacity as more waste moves from east to west and the internalization value of our recent and targeted acquisitions. Expanding permitted landfill capacity is an ongoing challenge for all solid waste operators in the Northeast. Northeast has one of the toughest regulatory and political environments in the country.
The good news is most of our landfills have over 15 years of permitted capacity and we continue to make progress advancing key permitting activities. Our second strategy in our 2021 plan is driving further profitability within our hauling business. Ed will run through more details, but we continue to outperform and execute well against our pricing and operational strategies. Our risk mitigation SRA and E and E fee programs work well to offset higher recycling commodity and fuel price costs during the 2nd quarter, although these cost recovery fees dilute margins. Our teams have done an excellent job in integrating several acquisitions this year, which is and will be a key ingredient to drive high free cash flow growth and additional shareholder value.
The 3rd strategy of our 2021 plan is creating incremental value through resource solutions. We continue to advance profitable growth in our customer solutions and organic businesses, while the recycling business remains a large headwind. Our average commodity revenue per ton is down 55% year over year and down 12% sequentially from the Q1 to the 2nd quarter. If these revenue headwinds weren't enough, we have seen our variable costs increase by almost 25% as we have had to slow processing lines to improve quality, while incurring higher transportation costs to deliver commodities to new markets. Given these factors, recycling adjusted EBITDA was down roughly $3,300,000 year over year in the second quarter.
With commodity prices stabilizing in June and into July, we're pleased that our trailing SRAC is now fully recovering higher recycling costs in our hauling operations, albeit the program is designed to recover cost and as a result pressured margins. However, only onethree of our volumes coming into our recycling facilities are from our own trucks, with the remainder coming from 3rd parties. We have appropriate risk mitigation programs on many of our 3rd party processing customers, and these have worked well were applied to offset much of the commodity price declines. However, we are still absorbing all of the commodity risk on several legacy third party contracts, which is driving much of our year over year decline in recycling performance. Looking forward to 2019, we expect recycling to provide a positive tailwind even if commodity prices stay at historically low levels.
As some of the largest third party recycling processing contracts will reset over the next 12 months. Our 4th strategy in the 2021 plan is using technology to drive profitable efficient growth. Over the last year, we've developed a long term technology plan that seeks to enhance our profitable revenue growth and drive efficiencies across our operations and back office administration. We believe there's a lot of room for improvement in how we interact with our customers, sell services, route our trucks, run our integrated operations and manage our back office administrative functions. As we further develop our technology plan and strategy, we will likely enhance our goal to reduce G and A costs with sales and operating targets.
We continue to be pleased with the early progress we've made against this strategy, which includes successfully closing our books over the last two quarters on our new NetSuite ERP system. This marks a key foundational step as part of our technology plan and significantly furthers our ability to increase back office efficiencies over time. I might add that I'm really pleased with the effort of Ned and the finance team as well as Debbie and the payables folks. That project was developed on time, on budget, and it's a real tribute to those people and the efforts that they made to get that done. Moving on to our final strategy in our 2021 plan, which is allocating capital to balance the delevering with smart growth.
As I mentioned, we are very pleased with the execution against our strategy thus far. As part of our 2021 plan, we set a goal to grow revenues by $20,000,000 to $40,000,000 per year through acquisitions or development activity for the next 3 years. Year to date, we've acquired over $19,000,000 in revenues, and we're actively working on another $40,000,000 of potential revenues to be acquired in our near term pipeline. Overall, our midterm acquisition pipeline remains robust and we believe there are over $500,000,000 of acquisition opportunities across our Northeast footprint that could be great strategic fits as direct tuck ins or new market opportunities. And as you all know, there's tremendous amount of pressure on the business model from a disposal inflation standpoint, from a recycling inflation standpoint, driver wage inflation.
So the opportunity from an acquisition standpoint is as robust as we thought it would be. Our acquisition and development framework ensures continued discipline through alignment of strategy, financial returns and our resources. We are focused on opportunities that will generate returns well above our cost of capital, enhance our vertical integration, drive operating and G and A synergies, will either be immediately delevering or have a fast path to recognize synergies and cash flows to delever. 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 a focus on further building our team. With the help of our recently hired with Kelly Robinson, our recently hired VP of HR, we've initiated implementation of career path programs for maintenance technicians and drivers, and we'll be pushing that out through the entire organization in terms of having career paths identified and laid out for every position in the company.
The career paths program incentivized key roles to enhance both their skill and earnings potential by giving them a measurement and transparent path to advancement. We believe that the program will improve our employee satisfaction, help recruit, reduce turnover and ultimately, to higher productivity and lower safety incidents. Very excited about this program and very excited about the rollout of the program as we rolled it out now to all of our maintenance folks, and we're in the process of beginning to roll that out through our driver through all of our drivers throughout our operating divisions. Wrapping up, our guidance is on track with our 2021 plan and displays continued execution of our key strategies with the goal of driving additional shareholder value. We expect to continue to strengthen the solid waste pricing and volumes to help offset recycling headwinds, while also anticipating a tailwind from recycling next year as several key contracts reset over the next 12 months.
And as I just mentioned, our acquisition pipeline is very robust and provides us with a great upside opportunity. With that, I'll turn it over to Ned to walk through the financials.
Thanks, John. Revenues in the Q2 of 2018 were 165 $600,000 up $11,600,000 or 7.6 percent year over year with 3.2 percent or 4,900,000 dollars of the increase driven by the rollover impact of acquisitions. As with the Q1, there were a few mix changes that grossed up our revenues during the period, including a soil remediation project for a large customer and a new organic sludge transportation and disposal contract or the T and D contract. Further, our cost recovery fees, the SRA and E and E fees were up 2,900,000 dollars or 1.9 percent year over year. Excluding these mix changes and cost recovery fees, our revenues were up only $5,100,000 or 3.3 percent year over year.
Solid waste revenues were up 13,300,000 percent year over year as a percentage of solid waste revenues. Revenues in the collection line of business were up $8,300,000 year over year with price up 4.9%, volumes up 0.8%, risk recovery fees up 4.4% and acquisitions up 2 point $4,000,000 or 3.7 percent. Price was up in the residential, commercial and roll off lines of business. Revenues in the disposal line of business were up $5,100,000 year over year with the growth driven by strong pricing, higher volumes and $2,400,000 of acquisition activity. We increased our reported landfill pricing by 4.1% year over year and more importantly, we increased our average price per ton of the landfills by 6.7% as we improved our mix of customers and volumes.
We expect these same positive pricing trends to continue through 2018 as we recognize the rollover impact of price increases already completed and we advance further pricing in key markets. Landfill tons were up 3.6% year over year with roughly 20% of the increase driven by the completion of the soil remediation project that we started in the Q1. The remainder of the increase was driven by strength across all waste categories. Recycling revenues were down $6,600,000 year over year with $7,200,000 lower commodity pricing, dollars 2,400,000 lower volumes, partially offset by $3,000,000 of higher third party tipping fees. This doesn't count the higher tipping fees intercompany.
Average commodity revenue per ton was down $59 per ton or 54% year over year in the quarter, mainly on lower fiber pricing. Mixed paper prices were down 90% year over year and cardboard OCC was down over 55% year over year. Organics revenues were up $3,600,000 year over year at higher volumes, mainly associated with a new 2 year sludge T and D contract. This contract negatively impacted adjusted EBITDA margins by roughly 10 basis points in the quarter as we pass through 3rd party transportation disposal costs, but the contract requires no CapEx, has very strong free cash flow and high returns. And the Customer Solutions Group's revenues were up $1,300,000 year over year on several new multi site retail customers and continued growth in the Industrial Services Group.
Adoption of ASC 606 or revenue recognition guidance reduced our reported revenues and cost of operations by roughly $1,600,000 each during the 2nd quarter as compared to how we would have historically booked these transactions. To be clear, this accounting change did not impact the dollar amount of operating income, adjusted EBITDA or cash flows, just impacted margins. Adjusted EBITDA was $37,100,000 in the quarter, up $1,000,000 or 2.8 percent year over year with margins down 100 basis points to 22.4%. The negative pressures from recycling weighed on margins by roughly 105 basis points during the quarter. Our cost recovery fees to SRA and E and E negatively weighed on margins by approximately 40 basis points in total, while the adoption of the new revenue recognition guidance benefited margins by about 20 basis points.
So excluding these factors, margins would have been up roughly 25 basis points. Solid waste adjusted EBITDA was 35 $800,000 in the quarter, up $4,100,000 year over year on strong pricing, higher volumes, partially offset by higher operating costs. 1 of these higher operating costs is the increased intercompany recycling tipping fees. These were mainly offset by the higher SRA fees. Also higher fuel in the period was mainly offset by a floating E and E fee, the energy and environmental fee.
Solid waste adjusted EBITDA margins were 28.5%, up 30 basis points year over year. Higher cost recovery fees negatively impacted these margins by roughly 65 basis points year over year. Recycling adjusted EBITDA was down $3,300,000 year over year with the decline driven by lower commodity prices, lower volumes and higher operating costs. This is partially offset by $7,100,000 of higher tipping fees and lower rebates in the business. As John mentioned, variable processing costs were up roughly 1 point 5 processing speeds at the MIRVs, our residue costs were up as we pull more waste from the stream and our transportation costs nearly doubled to reach new markets.
Adjusted EBITDA was $2,500,000 in the other segment, up $200,000 year over year with the increase driven by improved performance in the customer solutions group and higher organics volumes. Cost of operations was up $9,300,000 year over year with the increase in costs mainly driven by higher volumes, acquisition activities, inflation in select cost categories and higher recycling processing and transportation costs. General and administrative costs were up $2,000,000 year over year. This increase was mainly driven by higher labor and related benefits, higher equity compensation accruals and a higher bad debt expense on several customer Depreciation and amortization costs were up $1,500,000 year over year, mainly on higher landfill amortization expense on higher volumes and higher depreciation on higher truck and equipment purchases. The 2nd quarter included several unique charges, including $349,000 of expense related to write off of costs associated with previous shelf registration and acquisition related costs.
We also took a $172,000 Southbridge landfill closure charge. This is primarily related to ongoing legal expense at the site and a $7,400,000 loss on debt extinguishment primarily related to refinancing of our senior secured credit facility. Our normalized free cash flow was $16,100,000 year to date, up $2,700,000 or 19.8 percent from last year. This increase was driven by improved operating performance, positive changes in assets and liabilities, partially offset by higher CapEx. This CapEx is really a timing issue due to faster spend on landfill construction this year and slightly higher expenditures on revenue growth.
As of June 30, 2018, our consolidated net leverage ratio as defined in our credit agreement was 3.68 times, which is down 1.74 times since December 31, 2014. Our total debt was $515,900,000 which is up $18,200,000 since December 31. Our debt is up sequentially mainly on acquisition activity in the refinancing. As we laid out our 2021 plan, we remain focused on further reducing our leverage with a goal of getting leverage down to 3 to 3.25 terms. On May 14, we successfully completed the refinancing of our $510,000,000 senior secured credit facility with a new $550,000,000 senior secured credit facility including a revolver in term loan A.
The new facility has a number of benefits that align very well with our long term strategic plan, including reducing cash interest costs, which we love, a new pricing grade that allows us to further reduce our interest costs as we reduce leverage, additional availability, increased acquisition flexibility and new 5 year maturity. During the quarter, we also continued our efforts to reduce our floating interest rate exposure by entering into another $85,000,000 of floating to fix LIBOR swaps. We now have fixed our interest rates on roughly 55% of our debt. Moving on to guidance for the year. Given the further deterioration in fiber prices during the Q2 and our expectation of fiber prices remain at the current historically low prices for the foreseeable future, we now expect recycling adjusted EBITDA for 2018 to be roughly $9,000,000 below our budget for the year or down roughly $10,000,000 year over year.
Despite this significant headwind, we reaffirmed our adjusted EBITDA and normalized free cash flow guidance ranges for 2018. We have increased our revenue guidance range for the year given our higher cost recovery fees and the higher organics volumes on the new T and D contract. And with that, I'll hand it over to Ed. Thank you.
Thanks, Ned, and good morning, everyone. Well, we're at the mid year point of the year and we're continuing to perform well. Hauling and disposal operations are ahead of plan as our customer solutions group and our organics group, overcoming the headwind from commodity prices in the recycling segment. Our consolidated cost of ops as a percentage of revenue was up 80 basis points in the quarter versus the prior year and this is directly related to the recycling situation. Our solid waste segment produced a 30 basis point improvement in cost of ops.
And if you adjust for the margin muting effect of the SRA and E and E cost recovery fees that Ned mentioned, we actually achieved a 95 basis point improvement. So we keep moving making progress in the areas that we can directly affect. We're also making progress in working through the recycling commodity market issues, but that takes time and I'll give you a little more detail in a minute. Few quick comments regarding the hauling and landfill operations. Landfill demand continues to be very strong.
We're doing a good job of managing volumes between our sites to balance our permit limits and our cell construction cycles. Limited capacity in the market is also allowing us to continue to push price. We reported that price was up 4.1% And as Ned mentioned, this is actually 6.7% if you look at overall per ton pricing. As I mentioned in the past, our where disposal capacity is rapidly declining. Collection had equally strong price performance as we achieved 4.9% in price growth for the quarter.
This is on top of any fluctuations in the SRA fee or fuel surcharge, which are pass throughs and not included in our pricing stats. We have been very effective in educating our customers as to increasing costs in our industry, and I think that plays a big part in our ability to get price. Our labor costs however have also gone up. Fortunately, the strong price increases have allowed us some flexibility to meet market demands for attracting and retaining drivers and mechanics. Last quarter, I mentioned our various HR initiatives and I think the team has done a great job on fine tuning our understanding of local market pay rate, helping us adjust our pay scales accordingly to keep our wages competitive and developing and as John mentioned, implementing new career path programs for our employees to keep them engaged and give them incentives to stay with Casella.
You might think this is a little odd that I focus on this, but it's important to understand this is a significant challenge to our industry. We have recognized that challenge and are being proactive to solve it. Back to recycling. Due to the well publicized Chinese policy decisions and the related effect on commodity prices and market demands for cleaner product, our recycling revenue has declined about 40% year over year and our processing labor costs have gone up about 14%. Although recycling is less than 6% of our revenue, it is integral to our business and the current challenges are our primary focus.
So it's important that you know what we are focusing on. About a third of the volume that we process comes internally from our own trucks. Our SRA fee, which is a floating fee based on commodity prices and our cost to process is now fully effective in passing through the true current cost of recycling, including a fair return on assets. The remaining tons that we process are from a combination of municipal customers and other haulers. Most of the 3rd party haulers are charged a floating tipping fee, but some are on longer term contracts as are most of the municipal customers.
In recent years, the market allowed us to introduce flexible formulas to pass the commodity risk back to the municipality. However, we still have some older contracts that we are suffering through. Our focus has been on talking to our municipal customers and trying to renegotiate and we have had some limited success. The good news is that the bulk of these contracts will expire in the coming year. So we continue to be optimistic that our recycling operations will start to rebound.
Our other focus has been on upgrading processing and equipment to meet higher standards without increasing labor. And of course, as you probably all are, we are monitoring the evolution of how China is going to meet its needs for material and how that might affect the global distribution of further processing of that material so that it enters China in the form they are demanding. With that, I'd like to turn it back to the operator to start the question and answer session.
Thank Your first question comes from Tyler Brown of Raymond James. Your line is open.
Hey, good morning guys.
Good morning, Brian.
Hey, Ned. So I want to reconcile some of the free cash commentary. So I appreciate that you reaffirmed the 42 to 46. But if I'm not mistaken, it looks like cash is better. I mean the way I read it is you raised the cash from OpsGuide by say $3,000,000 at the midpoint but you increased CapEx by $9,000,000 And I'm rounding here, I think $6,000,000 of that is related to the new customer wins, but did you also increase core CapEx, say $3,000,000 which is why you're affirming the guide and not raising it.
Is that correct?
Yes, we did. We as we look out over a 3 year period of time for each of our landfills, we're looking at a build cycle. And with some of the mix shifts and some of the new acquisitions we're bringing online, we're advancing some of our landfill construction game plan in 20 18 to get ahead of ourselves for 2019 to position ourselves well. As we talked about, we've got a couple of acquisitions in the near term pipeline and we're trying to also prepare so we can vertically integrate those quickly.
Okay. So if I parse it out, the $6,500,000 for the new customers, that is basically like doing a small acquisition. I mean, would that give you some annualized EBITDA benefit?
Yes. So just to be clear, so we have carved out and what Tyler is talking about is we reconcile our normalized free cash flow for the fiscal year guidance in the table in the press release and we're indicating that we're going to have about $6,500,000 of non recurring CapEx and about $4,500,000 of that's either associated with acquisitions that we've And we had to put some capital work very and we had to put some capital work very, very quickly, new trucks, new containers just to bring on some additional work that happened about a month ago. There's about $2,000,000 in that $6,700,000 associated with a transfer station that unfortunately burned and we're rebuilding. We actually expect to get insurance recovery. But right now the timing of that is unclear.
So what we're trying to do is say, hey, we had a plan for the year. That plan did not include some of this acquisition CapEx or the recovery of this transfer station. So just normalizing that out. But to your point, every one of those dollars of CapEx will lead to higher EBITDA free cash flow down the line.
Right. Exactly. Okay. Good. And then I know it's a little early to look into 2019, but I was just hoping you could indulge me with some of the bigger buckets for next year.
So hopefully we should get some organic growth, but then we should probably think about taking something away for Southbridge. I think there's a ramp down next year. Maybe we give back something for these 3rd party recycling processing contracts even if recycling doesn't get better. You maybe have some rollover from these new customers etcetera. Maybe there's something on G and A we could talk about that.
And then maybe fingers crossed something comes in on the M and A side. But is there any other big buckets we should think about next year pluses or minuses?
Yes. We haven't budgeted for next year yet. So we'll just talk broad kind of brushstrokes and we'll of course guide to next year in the future. But you're right Southbridge we plan to close late this fall and it's running at a little over $6,000,000 of adjusted EBITDA this year and we expect that all to go away next year. However, we do expect to move tonnages around our franchise.
We have a great opportunity in New York State. We expect a permit increase at our Clinton landfill in the relatively near term to increase our permit by 75,000 tons a year. And something we haven't talked about a lot is we got a permit increase at our Chemung landfill 2 years ago to go from 200,000 tons a year to 437 1,000 tons a year. And as part of that, we left that capacity idle. We'll owe the community additional option payment when we bring that online an additional annual payment.
So we haven't exercised that capacity, but we do plan to bring that online in 2019. So if you look at ramping some additional tons in New York State online, we hope to offset much of Southbridge next year by doing that. John talked about it and Ed talked about it as well where we have several legacy recycling contracts that we expect to reset in late 2018 and into 2019. And that will give us a positive tailwind into next year. I don't want to get ahead of myself because we haven't
negotiated these contracts yet,
but it's going to dollars of benefit into next year. We'll put a finer number to that when we guide for for next year. And as you mentioned, all of our pricing trends, volume trends, other positive operating initiatives are all firing on all cylinders and we remain confident that we'll drive same level of growth there into next year.
So you So you did enter into this new credit agreement. If I'm not mistaken, it brought your rate down. So first, can you talk about what the new rate is? What the expected interest rate savings are? And then maybe how does the grid work?
When's the next step down?
Yes. So we did negotiate new credit agreement. We had a revolver and a term loan B previously. We now have a revolver and a term loan A which is an all bank facility. And one thing we did do is increase our availability a little bit on the revolver from $1,000,000 revolver up to $200,000,000 And that's really just to give us a little more flexibility as we're looking at acquisitions.
And if you look at the pricing grid, we went from LIBOR plus 2.75 on the revolver down to LIBOR plus 200. And on the term loan B to the term loan A, we went from LIBOR plus 250 down to LIBOR plus 200. The new facility has a grid that allows us to get pricing down to LIBOR plus 125 if we get our leverage down below 2.25 turns. So we're a little ways off, but there's a number of steps that occur. If we get our leverage below 3.25 turns, our rate goes down to 1.75%.
If we get below 2.75 turns, we get down to 1.5 percent on the LIBOR spread. And then of course, we get below 2.25%, we get down to 1.25%. So this is great long term for us, because as we continue to execute both the acquisition strategy, we've got more flexibility. And as we continue to get leverage out of the business, we'll work our rates down as well.
So you but you maintained the $25,500,000 interest rate expense guide in the release, I believe. So I'm just curious as to why wouldn't that come down?
Yes. Well, we've layered on some LIBOR swaps. So we used a little bit of that $2,000,000 of savings. It's an annualized number as well as $2,000,000 But we used about half of that to layer on some LIBOR swaps to manage some risk. And then we're probably being a little conservative there with some acquisition activity, but probably a little conservatism as well.
Okay. All right. Well, great quarter guys and I appreciate the time.
Thanks, everyone. Thanks, everyone.
Thank you. Your next question comes from Corey Greendale with First Analysis. Your line is open.
Hey, good morning. Good morning, Corey. How are you? I'm good. How are you doing?
Doing good. Doing very good.
Great. Great. Nice continued work on everything that is within your control. So I'd mostly a couple of follow-up questions on things Tyler was raising. So on the underwater or the legacy recycling contracts.
I know you don't want to get into what the resets might look like, but can you give us a sense just what the drag is? Like if those contracts go away, how much EBITDA benefit you'll get?
Yes. So we to what we would currently charge in the market, if we're able to get those rates, the drag is somewhere around $5 plus 1,000,000 a year.
Okay. And if you look at the dollar amount of EBITDA or negative EBITDA in the recycling business. It got better in Q2 even though commodity prices got worse in Q2. What drove that? Was there some offset from like a catch up from the SRA or can you just dig into that?
Yes, a few things. So one of them, as you know, that the SRA fee is a trailing fee. So looks at the previous month to charge for this month to our collection customers and then we sell commodities of course at the current month rate. So when you see a very, very steep decline, we got behind a little down that fee. Also our revenue share contracts that Ed was talking about with 3rd party customers at our MIRVs, which is very important as well as 2 thirds of our volumes, Those work on a trailing index as well.
So we started to stabilize pricing in late Q2, which allowed our fees to start to catch up. We've also had a lot of operating focus in that business to try and improve our cost structure. And you'll start to see in the 3rd Q4, our team has done a great job renegotiating a few big municipal contracts. We don't have full relief, but we've gotten some relief, which plays into our guidance for the rest of the year.
Good. And then jumping thanks Ned. Jumping around a little bit, the insurance recovery that you mentioned, is that baked into your guidance at all?
No, it isn't. So we unfortunately had a transfer station burn and we only have $100,000 deductible on on our property insurance, but I'm a little uncertain of timing and we want to get that thing rebuilt as fast as possible. So that's why our CapEx has grossed up a little bit by $2,000,000 and we have $2,000,000 backing on normalized. So we'll give a reconciliation of that as it happens over
time. Okay, good. And since that's not in there and I'm actually not sure how you'd account for it, but the cash flow from ops guidance is up even though the EBITDA guidance is unchanged. What's driving the cash flow from ops guidance up?
Hey, Cory. It's Jason. As we kind of looked out through the remainder of the year, we probably budgeted the year a little bit conservative from a working capital perspective. So there's a little bit of improvement there over the rest of the year that's probably driving
a good portion of that. Aside from that,
kind of from an EBITDA perspective, we're obviously flat in the same kind of range that we projected out in the beginning of the year. So it's mostly working capital update
in the forecast.
Okay. And as you look at the leverage targets, there's a pretty reasonable chance kind of if you look at the trajectory of things and given what you think are the off which next year, you could hit the 2021 target like by the end of 2019 as I'm looking at it. So first of all, would you say I'm looking at that wrong? And second of all, if you do hit that in 2019, is this kind of the permanent? I assume you're comfortable in this range kind of forever?
Or would you look to continue delevering? Or what would you see as the highest uses if you do hit the 3 to 3.25 early?
I think that we're pretty much committed, obviously, to get our leverage down to, you know, that 3 handle, if you will. And I think that we're going to continue to look at that in light of the opportunities that we have from an acquisition standpoint. So I think at about 3 times or a little around that area, we're going to continue to obviously continue to grow through acquisitions because of the opportunities that are in front of us. So I don't think that we think that we need to go significantly below that. I think probably we're comfortable right around 3x, Corey.
Okay. So we shouldn't be I understand you haven't made decisions, but we shouldn't be modeling it. I think in 2020, there could be a dividend or a repurchase. Just think of it as primarily acquisition related most likely?
I think it's probably more related to growth than it is dividend, but I mean that'll be a decision that we'll make at that point in time along with the Board. I mean I think that it's our view at this point in time, sitting where we are today, the opportunities in front of us are more robust than what we thought because of all of the activity in terms of inflation for smaller hauling companies, whether it's disposal inflation, recycling inflation, wage inflation, the difficulties. Everyone is faced with the same issues in terms of finding drivers, keeping drivers, etcetera. So there's a lot of pressure on the smaller companies. And I think that so that I think it's our sense that we're going to create more shareholder value by continuing to grow.
But that remains to be seen, and we'll have to make that determination at that point in time with the Board.
Yes, understood. And just one last one. The totally understand the pressures on wages and labor availability. Are those pressures, would you say they're accelerating? Or would you say you're kind of that's been true for several quarters and you're still seeing it?
I think that we've been through it for several quarters. We've seen inflation were above what we thought we would be in terms of wage inflation this year. But I think that it's from our standpoint, we've put ourselves in a position where we've adjusted to market rates throughout the entire company. When Kelly first started, we went through the entire company. We've already made those adjustments.
Those numbers are already in our numbers. So I don't think that we're going to see anything accelerate from here, but I think we're going to continue to see pressure from here. But we've already made the market adjustments to make sure that we're competitive from a wage standpoint.
Got it. All right. Thank you very much.
You're welcome. Thank you.
Thank you. Your next question comes from Michael Hoffman with Stifel. Your line is open.
Thank you very much, John, Ned and Ed for taking the questions. So last time we talked
Good morning, Michael. How are you?
I'm good.
I'm good. Good. So are you finally having summer up there? Because the last time we were having this conversation, you were still fighting winter in the middle of May.
No, we're good. It's pretty we've had a terrific July. It was just outstanding. Summer has been really good.
Terrific.
A little overcast today, but it's been beautiful.
Well, you should come down here. We've had 20 inches of rain in the last, 12 days. What's happening to 3rd party users of your transfer and landfill, their business, if they had exposure. You alluded to one that failed. Are you seeing an acceleration of those failures?
And is it an opportunity that yet be fully discovered, but could lead to a lot more business coming your way because small players got upside down on dumb recycling and they're failing?
I think that it it's across the board, Michael. I think that all of the 3rd party companies are feeling the pressure. You know, the $1,000,000 $5,000,000 $10,000,000 and then the even the larger $40,000,000 companies in our market area are also feeling the pressure. And in those cases, in some cases, they've got municipal contracts where they took the risk and they've got a bond behind that contract. So, the complexity, even for more sophisticated companies, is significant and the inflation is affecting all of them.
So I think that the opportunities are certainly as robust as we thought they would be and maybe even a little more so.
So we shouldn't be surprised if we discover there's some market share gains here at the expense of these vulnerabilities.
I think that's a fair perspective. I think that people who may have been on the margin in terms of whether they wanted to sell their business are feeling more pressure. So I think that's going to add to the opportunities that we have in front of us. I think the other thing that we have going is that we know most of the people in the marketplace. We've been in the marketplace for a long time.
And a lot of those folks have done business with us either at the transfer stations, the recycling facilities or at the disposal facilities. So I think that's a positive for us as well.
Okay. Ned, could you be more specific? How should we think about what the actual interest cost is from a modeling standpoint in 3Q and 4Q?
Do you have that, Jason?
So,
we've got about $6,500,000 ish of cash interest in Q3 and Q4 give or take a little bit. It's probably a little bit conservative based
on our maybe based on our LIBOR assumptions as well. Yes. We're ramping up.
And then the reported with all the OID discounts and all that stuff, it's more like 67, 68? Amortized debt issuance costs, all that stuff?
Yes. So we're looking at on the income statement more like yes, like 6, 7 is probably a pretty good number.
Okay. Thanks. Labor, I just want to disaggregate the issues on labor. Are you seeing faster wage inflation on your straight time rates or you're seeing faster overall labor costs because you're incurring more overtime to meet the needs? And how are you sort of combating the 2?
So, Michael, it's really we did this fine tuning of the market study to so every market we looked at what's our pay scale, what's it taken in to bring in new people, but the real focus was our current people underpaid. So we're at risk losing them. So we've there were certain markets that were below scale and those markets happened to be our highest turnover markets. So we made those adjustments. So we had an adjustment at the overall rates and now we're where we want to be, I think.
Okay.
Where we need to be.
Okay. Where you need to be. So with the result of that, now how do you think about what underlying wage inflation tracks versus overtime? Because I'm assuming you're ending, I'm having to do more overtime to meet some of this strong demand given the tight overall labor marketplace.
Well, so on a driver side, Michael, you have to understand the drivers are limited by DOT hours. So we haven't spiked our overtime from what it's been. Okay.
Their hours haven't gone up. But we've run over 4% driver wage inflation this year. And historically, we've been somewhere between 2.5% to 3% over the last couple of years. So that's a direct correlation to us doing some adjustments. Now whether we can reset to that 3 ish range, we think so because there's a lot of kind of one time movement being made.
All right. And then on the mechanic side, is it worse?
No, I wouldn't characterize it as worse. As Ned said, we did same market evaluation in terms of our wage rates from a mechanic standpoint, and I think that we've made those changes as well. We're at market rates now across the board from a hauling company standpoint. And we also have taken the time to put career paths in place. So somebody comes into Casella, they understand how they can go from $18 an hour to $35 an hour, what the steps are, what levels of technical expertise tease they have to get, how they go through and get that.
So that when we have the first conversation with them, it's not when they've been offered another dollar an hour. They already know what their career path is at Casella and what the opportunity is. And I think it's already we've already seen in the last two quarters about a 20 percent reduction in our overall mechanic turnover. Early stages, probably not statistically valid at this point in time. But certainly, directionally, we're moving in the right direction there.
So I think that we've got we still have a lot of work to do. We still have challenges in terms of attracting people. We're doing a lot of work with a lot of the agencies. We're doing work with the military. We're doing a lot of different things with recruitment schools, etcetera, mechanic training programs, all of the above.
The other thing is that we're looking at our own self inflicted policies in terms of driver age, those kinds of things. And we're making real changes that I think are going to really help us find the drivers when they come out of high school, etcetera.
And can you move to some levels of technology, whether it's autonomous fee not autonomous vehicles, so ASLs, things of that nature that widen the employment pool too so that
No question about it. I mean, that's exactly right. I mean, one of the things that Ed's done with the fleet plan is to try to get the right truck in the hands of our people to have the most efficiency, but we still have work to do there.
Okay.
And the other issue too is, we're going to have more women in the trucks too as well.
Right, right. That's ASLs allow that because you don't have to get out and physically lift cans, things of that nature.
Exactly.
Shifting gears, Holyoke, you have a permit expansion in the works. As those contracts expire, you can redirect tons, but you can increase the throughput status report on that?
Just, it's in the works. We're making progress there. Probably expect to have the permit probably towards the end of the year, beginning of next year.
Okay. And then lastly, I know you're not doing guidance, but if I look at the trends within the organic piece that you control in solid waste, are we reading the tea leaves correctly that you're on a pace that looks like 3, 3.5 in price for next year and 1 to 2 in volume ex any special waste and that's a starting place?
Yes, that's pretty reasonable.
Okay. Thank you very much. Enjoy the rest of your summer.
And I
am showing no further questions at this time. I'd like to turn the call back over to John Casella for closing remarks.
Thanks, operator, and thank you all for your attention this morning. We look forward to discussing our Q3 2018 earnings with you in early November. 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 all may disconnect. Everyone, have a wonderful day.