Good morning. My name is Nicole, and I will be your conference operator today. At this time, I would like to welcome everyone to the Waste Management 4th Quarter and Full Year 20 10 Earnings Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.
Thank you. I would now like to turn the conference over to Jim Alderson, Director, Investor Relations. Sir, you may begin your conference.
Thank you, Nicole. Good morning, everyone, and thank you for joining us for our Q4 2010 earnings conference call. With me this morning are David Steiner, Chief Executive Officer and Bob Simpson, Senior Vice President and Chief Financial Officer. David will start things off with a summary of the financial results for the quarter and a review of the details of our revenue growth, including price and volume trends. Bob will cover operating costs and the financial statements.
We will conclude with questions and answers. During their statements, any comparisons made by David and Bob, unless otherwise stated, will be with the Q4 of 2019. Before we get started, let me remind you that in addition to our press release that was issued this morning, we have filed a Form 8 ks that includes the press release as an attachment and is available on our website at wm.com. The Form 8 ks, the press release and the schedules to the release include important that you should refer to. During the call, David and Bob will discuss our results on an as adjusted basis, including SG and A costs, earnings per fully diluted share, which they may refer to as EPS, operating expenses, effective tax rate
and income from operations margin.
These financial measures have been reflect our fundamental business performance and are not indicative of our result of operations. All of these measures, in addition to free cash flow, are non GAAP measures. Please refer to the reconciliations to the most comparable GAAP measures in the schedules to the earnings press release, which can be found attached to the Form 8 ks filed today and on the company's website atwm.com. Additionally, during the call, you will hear certain forward looking statements based on current expectations, opinion or belief about future periods. Those statements are subject to risks and uncertainties that could cause actual results to differ materially.
Some of these risks and uncertainties are detailed in our earnings press release this morning and in our filings with the Securities and Exchange Commission, including our most recent Form 10 ks. This call is being recorded and will be available 24 hours a day, beginning approximately 1 p. M. Eastern Time today until 5 p. M.
Eastern Time on March 3. To hear a replay of the call over the Internet, access the Waste Management website at wm.com. To hear a telephonic replay of the call, dial 800-642-1687 and enter reservation code 33,194 39. Time sensitive information provided during today's call, which is occurring on February 17, 2011, may no longer be accurate at the time of a replay. Any redistribution, retransmission or rebroadcast of this call in any form without the expressed written consent of Waste Management is prohibited.
Now, I will turn the call over to Waste Management's CEO, David Steiner. Thanks, Jim, and good morning from Houston.
We had a very good Q4, earning $0.60 per share, an increase of over 15% compared to the $0.52 we earned in the prior year quarter. Our collection, landfill and recycling businesses all performed very solidly. We increased operating earnings and improved operating margins in each of these lines of business. Revenue increased by $181,000,000 or 6% from the prior year period. This is the 4th consecutive quarter of year over year revenue growth.
Our revenue improvement was driven by better recycling commodity prices, acquisitions and year over year increases in revenue growth from yield. On the pricing front, the 4th quarter was our strongest quarter of the year. Internal revenue growth from yield on our collection and disposal operations was 2 point 6% in the Q4. We remain committed to our pricing discipline. And in the Q4, we again overcame the pricing headwind we face on the roughly 40% of our collection revenue that has price adjustments based on a CPI index.
CPI adjustment caused a drag to our revenue growth from yield of approximately 40 basis points in the quarter and about 70 basis points for the year. So for both the quarter and the full year, we outpaced our long term pricing objective to achieve price increases in the range 50 to 100 basis points above CPI on our entire collection and disposal business. The combined internal revenue growth from yield in the industrial, commercial and residential lines of our collection business was 3.1% in the 4th quarter. Internal revenue growth from yield was 3.5% in both our commercial and industrial line. While internal revenue growth from yield in our residential line of business was 2.2%.
Commercial new business pricing increased for the 6th consecutive quarter. Service increases, net of service decreases were slightly negative for the quarter, but improved significantly compared with the prior year quarter. The winter quarters are typically the weakest of the year for service increases, net of decreases. On the volume side of the business, internal revenue growth from volume in our collection and disposal business declined by 1.8 percent in the quarter. At the end of October, volumes were trending such that we expected volumes to be flat or slightly up for the quarter.
However, the severe winter weather we saw in December negatively impacted volumes. Also impacting volumes were contract losses in our residential line of business and a slowing in the rate of growth in the special waste landfill volumes. For the 4th quarter, commercial and residential collection lines saw declines of 5% and 5.9%, respectively. In our industrial line of business, internal revenue growth from volume was down 3%, an improvement from prior quarters. Our strong pricing in our traditional solid waste collection business overcame these volume losses and drove margin improvement.
Overall, in the Q4, we grew collection income from operations margin by 220 basis points compared with the prior year period. In the landfill side of the business, 4th quarter 2010 internal revenue growth from volume was positive 4.3%, which is the best quarterly performance for the year and the 5th consecutive quarter of year over year volume improvement. Internal revenue growth from volume for special waste was positive 12.5%. For MSW, internal revenue growth from volume was negative 5%. In our C and D line, internal revenue growth from volume was flat, which is the per unit pricing was up by 2 0.4%, reflecting our continued focus on landfill pricing.
So our landfill business also improved significantly in the quarter and we continue to see a strong pipeline for special waste volumes. Overall, we grew income from operations in the landfill line of business and increased the income from operations margin by 190 basis points compared with the prior year period. When we look at our collection and landfill line businesses combined, income from operations grew approximately 12% compared with the to our recycling business, increased commodity prices contributed about $0.04 of positive year over year earnings per diluted share in the Q4 of 2010. For 2011, we expect recycling commodity sales prices to have a slightly positive year over year impact on earnings per share. Average electricity sales prices at our waste to energy plants were flat in the 4th quarter.
For 2011, we expect average electricity sales prices to be similar to 20.10 levels and therefore we do not expect electricity sales prices to significantly in 20 11 has affected volumes and we expect this to have a negative impact on Q1 earnings. But starting in the Q2 of 2011, we expect volumes to resume the previous trend, a slow but steady improvement. With respect to price, CPI is running at about about We've also seen more competitive pricing on new residential municipal contracts. So the pricing headwinds in 2011 will come primarily from our residential line of business. We will continue to aggressively push industrial, commercial and landfill prices.
As a result, we expect our overall yield in 2011 to be 2%. Our waste to energy operations are expected to have a negative impact of about $28,000,000 on earnings in the first half of twenty eleven compared with 2010, primarily from upgrades being made at our recently acquired waste to energy plant in Virginia. Our waste to energy operations are expected to have a positive impact of about $11,000,000 in the second half of twenty eleven. We expect increased labor costs due primarily to annual merit increases, which will add start up costs start up costs associated with new cost saving programs and customer focused growth initiatives. Interest expense is expected to increase approximately $25,000,000 principally because of higher fees and rates from the revolving credit facility that was executed in June of 2010.
We previously discussed certain growth initiatives that had negative $0.03 impact to earnings in the Q3. The headwinds from those initiatives were about the same in the 4th quarter. We expect to see the results from these initiatives continue to negatively impact earnings in the first half of the year, but to turn positive by the end of the year. So when we look ahead to 20 11, we'll face some headwinds, mostly in the first half of the year, but our strategy remains clear. We'll remain committed to our pricing discipline, while at the same time, investing in the future.
And looking at our Q1, our preliminary data shows that January 2011 earnings were basically flat year over year, driven by negative volumes from start up driven by negative volumes and start up spending on new cost reduction initiatives that will be implemented in 2011. The negative volumes were driven by the severe winter weather experienced throughout North America and we expect that to abate as we enter the spring season and to improve throughout the year. We've also begun to bring in internal and external resources to develop cost saving plans and the spending on those resources are not yet offset by savings. We expect the savings to begin to occur in the second half of the year and to accelerate in 2012. So earnings improvement will be muted in the first half of the year and pick up in the second half of the year.
Overall, we estimate our 20 11 fully diluted earnings to be between $2.24 $2.30 per share. In summary, our results in the 4th quarter build strong momentum going into 2011. Our entire organization is aligned around our pricing and cost saving strategies. This will serve us well in accomplishing our goals of growing our revenue, expanding our operating margins, increasing our return on invested capital, increasing our free cash flow and returning cash to our shareholders. And with that, I'll turn the call over to Bob.
Thank you, David. I will begin by discussing operating costs. These costs increased by $77,000,000 in the 4th quarter, but improved 110 basis points as a percentage of revenue to 61.2%. Cost of goods sold increased $67,000,000 in the quarter mainly because of rebates due to higher recycling commodity prices. Because of these higher prices, earnings per diluted share at our recycling operations increased approximately 0 point $2,000,000 in the quarter, primarily relating to the work we performed on the cleanup effort in the Gulf Coast region.
Maintenance costs decreased $14,000,000 Direct fuel costs increased approximately $9,000,000 primarily because of a 15% increase in diesel fuel prices. The increase in our fuel costs was less than the increase in our fuel surcharge revenue for the quarter, providing a $5,000,000 benefit to income from operations. Foreign currency translation for our Canadian operations accounted for an increase in operating costs of approximately $7,000,000 SG and A costs were 3 $67,000,000 in the 4th quarter. As a percentage of revenue, SG and A costs improved by 60 basis points to 11 0.5%. Interest expense for the 4th quarter increased by $9,000,000 compared with the prior year period.
This is primarily due to higher upfront costs and usage fees on the new revolving credit facility, which we executed in June 2010. On December 31, 2010, our weighted average cost of debt was 5.6% and our debt to total capital ratio for the quarter was 57 0.5% consistent with our target ratio of about 60%. The floating rate portion of our total debt portfolio was 13% at the end of the quarter. Our income tax rate as reported for the Q4 of 2010 was 35.1%. After adjusting for the items referenced in our press release, our income tax rate for the 4th quarter would have been 36.6%.
For 2011, we expect the effective tax to be approximately 35.7 percent. Turning to cash flow, 4th quarter cash provided by operating activities was $622,000,000 During the Q4, we received a benefit of about $50,000,000 from a reduction in our federal income tax payments due to bonus depreciation. Our capital expenditures for the Q4 were $367,000,000 and our free cash flow for the Q4 was $263,000,000 For the full year 20 10, free cash flow was about $1,200,000,000 after capital expenditures of approximately $1,100,000,000 Our 20 provided by operating activities was negatively impacted by the changes in working capital, primarily an increase in accounts receivable due to our strong revenue growth. For 2011, we expect capital expenditures of between $1,350,000,000 $1,450,000,000 We have increased our capital spending plans to take advantage of the bonus depreciation legislation recently passed. The additional spend will focus on natural gas vehicles and fueling infrastructure, IT infrastructure and growth initiatives.
In 2011, we expect a free cash flow benefit from bonus depreciation of between $110,000,000 $140,000,000 Free cash flow in 2011 is expected to be in the range of $1,250,000,000 $1,350,000,000 despite the increase in capital expenditures. In the Q4 of 2010, we paid $150,000,000 in dividends and we repurchased $58,000,000 of our common stock. For the full year 2010, we paid $604,000,000 in dividends and we repurchased $501,000,000 of our common stock. As you know, our capital allocation program over the past few years has been very clear. Return cash to our shareholders through dividends and share repurchases while opportunistically making strategic investments and acquiring assets.
For 2011, our capital allocation plan is to return up to $1,200,000,000 to our share of shareholders through a combination of dividends and share repurchases. The plan anticipates increasing future declared dividends by 8% to $1.36 per share on an annual basis, which would result in a dividend yield of approximately 3.7%. We also intend to repurchase as much as $575,000,000 of common stock. We expect to spend between $250,000,000 $350,000,000 in business acquisitions and investments with the majority of these investments on the solid waste side of the business. The cost savings program that David mentioned will focus on procurement, operational efficiency and back office efficiency.
The implementation cost of these initiatives will cause a drag on earnings in the first half of twenty eleven. However, we expect to begin to realize the benefits of these initiatives in the second half of twenty eleven and they should accelerate through 2012. Despite the cost of these initiatives, we expect full year 2011 SG and A costs to decline as a percentage of revenue. Coupled with improved operating performance, we expect income from operations margins to continue to improve in 20 11. Finally, some news about our Investor Relations area.
We have recently named Ed Egl as Director, Investor Relations. Ed will be taking over for Jim Alderson, who was recently named Director of Finance for our waste to energy operations in the United Kingdom. Congratulations, Jim, on his new position and we thank him for his contributions to Investor Relations. Ed was recently Director of Financial Analysis and has over 15 years of experience with our company, both in the field and at the corporate office. He'll be able to hit the ground running.
Ed will be reporting to our Vice President of Finance and Treasurer, Sherry Rice, who will continue to oversee the Investor Relations program as she has done in the last several years. We will be introducing Ed to you at investor meetings during the coming months. And with that, Nicole, let's open the line for questions.
Your first question comes from the line of Scott Levine with JPMorgan.
Hi, good morning guys.
Good morning, Scott.
David, I think you flagged for Q4 the impact of storms on the volume growth, but the price and the margins both came in above our expectations for the quarter. So if you could normalize for the storms specifically, could you characterize the results relative to your expectations into the quarter and maybe any pleasant or negative surprises relative to internal expectations?
Yes. Scott, I think overall, I think we were pretty much in line from an operating basis. Frankly, we did worse on volumes than we thought we do. We did a lot better than we thought we do on both price and costs. And so when we looked at the quarter, we saw October trending volumes.
And as I recall, October volumes were negative 0.4%. And so we sort of saw the volumes trending toward positive like we thought would happen in the Q4. Obviously, the winter storm started hitting in sort of mid December and December, as I recall, was negative 4.9% in volumes. And so you can see the dramatic change that we believe the weather had in December. And so on overall, the volumes were disappointing, but there was nothing we could do about it.
The 2 things that we could do something about on the cost side and on the yield side, we exceeded our expectations.
And regarding the municipal contracts, the residential contracts that you flagged, were those recent developments and can you quantify the impact in basis points of the hit to volume associated with
that? Yes. When you look at residential contracts, look, our pricing program
over the last few years has been
respect to residential contracts. We've raised prices basically across the board. Particularly where we already where we particularly where we already have the capital invested and we're going to look at them purely from a return on capital point of view and we're going to keep the contracts that give us sufficient return on capital and we're going to let them go when we have competitors that are putting out prices there that don't meet our hurdles from a return on capital point of view. The losses have been fairly widespread. The numbers that I've seen recently show that it's about $33,000,000 You can translate that into basis points, but it was about $33,000,000 of residential contracts that we lost year over year.
Okay. So that sounds like it's kind of trend maybe that's evolving in your expectations. That's just kind of is what it is and we'll kind of watch and monitor?
No, not really. I mean, when we've talked in the last year about customer focused growth, one of the things that we did is we put an emphasis on our municipal contracts. And just like we're looking at in our other customer segments, we're going to look at this customer segment as to how do we create a value proposition for the customers such that price doesn't become the primary driving factor. So when you look at municipal contracts, you've got to find out what municipalities want. And today, what they want are more options for diversion.
So we're going to give them more options from a recycling point of view and from an organics point of view. And if you can do that, you can create value out of the materials. If you can recycle more materials and create value that you can then share with the customer, we can get the contract at a higher price or at least at a higher return on capital. And so going forward, we are not going to go out and compete on price. That's never been our strategy in any line of business.
But we are going to compete to maintain those contracts that give us a good return on capital, and then we're going to try to find a way to meet the customers' needs better than anyone else in the
Understood. One last one, if I may. The D and A came in a
little bit lower than we
were looking for in the quarter. Is there anything unusual there? How did that come in relative to internal?
It was about a little bit lower than we thought. We have every year in Q4, we have a certain amount of adjustments we make due to capping closure, post closure analysis. We do landfill to landfill. This year, that number was just a little bit higher than it was last year. Last year is probably pretty typical, that's what drives the drove the DNA down.
You'll see that it happened last year in Q4 as well.
Understood. Thanks, Bob. Thanks, Scott.
Your next question comes from the line of Jonathan Ellis with BoA Merrill Lynch.
Good morning, John. Good morning,
guys. First question
I wanted to ask about is just on your pricing outlook for 2011. Can you help us to understand what you're assuming for pricing in your CPI based revenue versus non CPI based revenue? And then within the CPI based component, is all that tied to CPI for 'ten or is some of that more real time where 2011 CPI will drive the pricing in some of those markets?
Yes, it's really all those contracts are different. Some of them are localized CPI, some of them are more regionalized and national CPI, some try to get to sort of a waste industry specific type of CPI. So they're all over the board. What we looked at for CPI in the year was about 1% to 1.3% on CPI. And so you can do the math there to figure out what effect that has on the overall yield for the year.
And then I think the other thing to keep in mind is that we anniversary a lot of our fees. So for example, our environmental fee, our minimum ton below fee, our administrative fee, that's about $50,000,000 of headwinds, all the fees and surcharges. We're expecting to be year over year about a $50,000,000 headwind, which tells you that we've got to do a pretty good job on price increases to hit our 2% goal. If you remember last year, in order to hit our goal, we had to have an average price increase on our open market commercial business of about 8%. And that type of trend continues this year.
I mean, in order to get to our 2%, we've got further headwinds to overcome from CPI and from the various fees and surcharges. And so we expect the open market portion of our commercial business to be in the 6% to 8% range.
Great. And then just on the landfill side, I know you talked in the past about working towards a pricing growth target of 8% to 10%. Can you give us some sense of where you think you may be able to get to this year on landfill
pricing? Yes. Just as a rule of thumb, you sort of assume that those are 3 year contracts, so you hit about a third a year at 2.4 you do the math to multiply it by 3 and you figure your gate rates up probably closer to 5% to 7%. And some of the studies that I've seen that folks go out and do would verify that we're being pretty aggressive at the landfill. What we're going to do is pick a few markets where we can test landfill pricing.
We did this frankly, that was the first thing we did when I became CEO back in 2 1,004, and it's time to do it again. We've got huge investments in capital in those landfills. When you look at our business over the last 3 years, landfill volumes have obviously been down dramatically, which has had a dramatic effect on return on invested capital. And we need to raise prices in order to get the return on capital that we expect out of our landfills. So we're going to push them across the board, but then we're also going to go out and find some markets where we can test those types of price increases that you talked about.
Okay. That's
helpful. Just quickly on
the volume side, do you have an estimate for how much of a drag is being factored in to your volume forecast from special waste this year? No. We Then just on recycling, if my math is correct based on where recycling prices are right now, which I realize you may not be assuming in your guidance, but would imply about a $0.05 at least a $0.05 EPS benefit year over year. Do you have an estimate of where if recycling prices held where they are right now, what that would mean for year over year EPS contribution, Levon?
Yes, you're about right. As I recall it, if 4th quarter average pricing holds, which is basically where the prices are right now, it was a $0.04 to $0.05 benefit for the year. We expect the pricing to hold through the Q1, but then we expect it to soften towards the back end of the year.
Okay,
great. We're not as optimistic as some of
the third party information available. Sure, understood. Just quickly on costs, first on the labor cost increase, if my math is correct, it looks like if I take your labor cost for $10,000,000 and then apply the dollar impact you're talking about, it's about a 3% increase. Just given where CPI is this year, can you help us understand, is there something that's driving that inflation in your labor base? Is it union contracts or anything else along those lines?
Jonathan, it's 2.5% is basically what we've been using as the number that we expect our wages to go up in 2011. And it's driven some of it's driven by union contracts, but it's really driven by local market conditions. The thing about CPI is it doesn't capture necessarily all the costs people face. It's impacted significantly by housing, for example, at least in some ways in which it's measured. So the real cost that a lot of our folks are facing is closer to 2.5% than it is to 1%.
Okay. And
then just my final question is on SG and A. I know you've talked sort of qualitatively about starting to see some from the investments that you're making in the second half of the year. Can you help to try to quantify that? And as we think towards 2012, what the progression may be towards that targeted 9% run rate exiting next year?
Well, yes. In fact, I would expect you'll see in the 1st two quarters of this year an impact of around $0.02 per quarter from these investments we're making in these startup costs. And most of that will be SG and A. Negative, yes, but hot negative. We expect though, by the way, in the second half of the to see the benefits start to be realized to the point where for the year to be offset and maybe even a little better.
We'll talk more about that as the year goes on. If we don't start investing in these cost savings programs, I think my ability to deliver on the 9% run rate at the end of 2012 will not be realized. So we just have to go after some of these things. We do expect still see an improvement in SG and A during 2011, just in part by continuing to manage the other costs, but also by higher revenue.
Okay. So what the point is in dollar terms, you really wouldn't start to see material impact from your cost savings initiatives on SG and A until 2012 in terms of the year over year?
You'll begin to see it in the 3rd 4th quarters of this year, but yes, 2012 is when you really see it.
Okay, great. Thanks, guys.
Okay. Thank you.
Your next question comes from the line of Hamzah Mazari with Credit Suisse. Good morning, Hamzah.
Good morning. Just a question on the volume side. We're curious to see what you're baking in on the commercial piece of your business for this year. You spoke of the special waste pipeline being strong, but on commercial, I know you said that sort of that business was service increases were negative relative to decreases because of seasonality. But how should we think about that business as we go through this year?
Yes. Again, when we put together our guidance, we didn't go through specific elements of the volumes. But just from a commentary point of view on the commercial volumes visavis the special waste, special waste has held up tremendously well during the year and we don't particularly see that changing in 2011. The pipeline still looks pretty strong. Now the pipeline there is probably only a quarter your visibility is probably only a quarter out, but it still looks pretty strong.
On the commercial side, those volumes have very stubbornly stayed sort of in the negative 5% range, and we just haven't seen a dramatic move in those volumes. And I've said it before that I would much prefer to see those commercial volumes move toward flat because I think that would be more indicative of a strong economy. They've remained stubbornly negative at about negative 5%. Hopefully, we'll see that change. But as you know, with our business, you really don't start to see the change until the spring weather breaks and folks start I mean, there's not that many people, as you know, in the Northeast that are adding new businesses during the winter months.
And so, I think we'll get a better Q2 as to whether we're going to see significant improvement in commercial volumes year over year.
Okay. That's helpful. And then on pricing, you spoke of open market pricing being up 6 to 8%. You're being aggressive on the landfill side. Could you maybe add some commentary on how investors should think about the rest of the larger players following you guys?
Are you going to see others be aggressive as well or do you have to lead the charge here?
Yes, I really I can't control nor comment upon what others are going to do. I can only comment upon what we're going to do. And look, I think you all recognize that everything we've done since I've been here has been focused on return on capital. And what we've seen in the last 3 years as volumes you all know very well that we're very highly leveraged from a fixed cost point of view at our landfills. And so as the volumes have come down in the last 3 years, the margins have come down fairly dramatically and the return on capital has come down fairly dramatically.
We make huge investments in these landfills every year. And so if we're going to get the return on capital up, we don't have a lot of opportunity to pull out Okay.
And just last question.
On the waste side, we're going to get the return on capital up
and that's exactly what we'll do.
Okay. And just last question, on the waste to energy side, could you just remind us what your exposure is to market pricing and whether you're still committed to growing that business aggressively? It seems like you're putting more money towards buybacks, which is a good thing, but just curious to see how you're thinking about the pipeline there?
With respect to the exposure to the market, merchant our merchant plants are represent about 53% of the total amount of electricity we sell. And right now, we've got about 30 percentage points of that hedged. We'll have more hedged as the year goes on. In terms of the pipeline, we're continuing to invest in the business. We haven't changed our view of that at all.
But this year, the investment in the business will be more won't be out of our pocket. Last year, obviously, we made an investment in China and we bought a plant. The total of that was about $300,000,000 This year, China should self fund. So we won't be making investments there. And then we don't see us acquiring any plants this year.
So what you'll see in waste to energy is that we'll continue to invest in it, but it won't be we won't have to put material dollars out from a capital or acquisition point of view.
Yes,
that's right.
Okay. Thank you. Appreciate it.
Thank you.
Your next question comes from the line of Michael Hoffman with Wunderlich Securities.
Good morning, Michael. Good morning. Sorry, I'm losing my
voice. Better you than us.
In your guidance of the $224,000,000 to $230,000,000 what share count are you using, so we understand how you've modeled your share buyback?
Yes, let me go we'll go
dig that out for you, Michael. But generally, we use a midyear standard on the buyback and I think we modeled $500,000,000 $400,000,000 $500,000,000 of share buyback. Yes, dollars 500,000,000
Spread evenly through the year. Yes. Okay. And then your historic split on your you made a comment, David, that warrants following up. The historic split is kind of 40%, 45% first half, 50 5%, 60% second half earnings mix.
Based on the comment you made in your prepared remarks, does that change given the investing and the weather?
Yes, I think it does. I mean, we talked about it in the script, but the way I sort of look at the year, Michael, is that in the first two quarters, we're still going to have some headwinds from the growth initiatives that we talked about in the Q3 and a little bit this quarter, things like Baxter and customer focused growth. And the 1st two quarters of the year, that's going to be about a0.02 dollars per quarter drag. We've got waste to energy. We're going to put $28,000,000 into refurbishing this plant in Virginia that hits in the first half of the year.
Now it goes positive $0.11 in the back half of the year. So you've got $0.03 of headwind in the first half from waste to energy. So that's a $0.01525 And then as Bob mentioned, we're making investments in these cost saving programs that start paying off in the back half of the year. In the first two quarters, that's about $0.02 a quarter. So you've got $0.04 to $0.06 a quarter sort of investment.
And then in the Q1, we talked about the weather in January making earnings flat in January. Normally, we'd expect to see January up $0.01 or $0.02 So you've got that effect in the Q1. And so I think very clearly, we're going to see that historical trend be a little bit different for us this year. We certainly are going to be more back end loaded than front end loaded for both for every reason that we have, which is the price should be a little bit better in the back half of the year because CPI should get better for those contracts that reprice on June 30. The volume is going to be better because we won't have the weather coming out of the back of the 1st part of the year, and we expect the economy to continue to improve.
So the volume is going to get better during the course of the year. And then on the cost side, we're going to be making some investments in cost savings in the first half of the year that are going to reap the cost savings in the back half of the year. So when you look at the 3 primary drivers of earnings, you're going to have some headwinds in the front part of the year, you're going to have tailwinds in the back part of the year.
Right.
And Michael, by the way, on that share count, what we used was about 477,000,000 shares.
And your working capital cost you a couple of $100,000,000 this year. Why can't we get that to be at least a neutral?
Michael, that's a very good Yes.
I
think that's a very good point. I think when your business is growing, when your revenue is growing, and your receivables are going up, it makes it a little bit harder to bring your working capital down. And this year, we had at the end of the year $157,000,000 more in working capital and our DSOs every quarter this year except the 4th, our DSOs improved by at least today. In the Q4, didn't. They just stayed flat.
And we just got to do
a better job. But the point is that when working capital changes because revenue is higher, that's not such
a bad thing. I'd rather have that than so I'd rather just have working capital be something that's neutral. I'd rather have that. And I think we'll be able to we're certainly working to accomplish that this year, even though we're continuing to expect revenue to grow.
It seems that it changed faster than the rate of revenue growth. And if your focus is on return on capital, is there a disconnect at the local level on the working capital side of that that they're not as tied to that and therefore?
We don't have collections as a part of our incentive program, Michael, maybe that would make a difference. But we continue to see improvements except for the Q4. We continue to see improvements in our collection efforts. Efforts. So I don't think there's much of a disconnect there.
And there may have been some other noise
in our cash flow from ops in this quarter that contributed to it. So and then on days payable, Michael, we get discounts for paying early. So we're not really trying to lengthen out the DPO.
It appears that you're counting on a reasonable working capital savings though at 11 to hit your free cash flow target.
No, it's not that much. If we can just do take what we did this year and improve it by $30,000,000 we'll probably be just fine.
Okay. So when what do you account for? It's a pretty significant improvement from cash provided from operating activity to get to that free cash flow calculation.
Yes, it's going to require some discipline on
'ten and you're still seeing good activity, but you're expecting it to be a flat comparison, that's the point?
I don't know, I think we still expect it to be positive, but not nearly as positive as it was this year.
And then, remind us of some quarterly lumpiness in that, because it comes in fits and waves that we ought to be wary of as we're thinking out the year?
Yes, I mean, certainly, when we look at it, probably about 65% of our special waste is actually what we'd sort of call permanent special waste, so coming out of plants where we have a contract. And then about 35% is event related. And that 35% obviously changes with seasonality and I think also changes with corporate budgets for the folks that are doing the cleanup work. And so you're going to have some lumpiness, but again, so far going into the Q1, we don't see the rate slowing down dramatically. Okay.
And then help us the 5% negative on the commercial business, tell us how you do that calculation because it seems like a stunningly large number When you don't see your churn or your lost business number being that, I mean, you didn't see a big change in your lost business number.
No, that's right. So it's not
a bankruptcy driven thing. So how do you calculate that, so we understand that in context?
I'll leave that up to the accounting folks. Being a CEO, I don't do a lot of calculating anymore.
Only here is. Basically, Michael, I mean,
it's a change in the year over year unit service. And on
the commercial side of the business, we measure units by yard
service. So it's the actual yards meaning the size of the container or meaning actual?
So downsizing of a container.
Okay.
So that's how to think about it. So if you had a whole lot of 10 yarders and you came down 5% number of yard containers, okay.
Or you used to do 3 pickups a week and now you're doing 2. Right.
So if the service intervals have been negative to the first half then got flat, but got a negative again. We just need the service interval to shift to a flat and we'd see that number start to trend progressively towards 0 is the point.
Or an increase in the size of the containers. Okay. I have to tell you that this is an indicator of how just the breadth of the economic
how the economy is doing. When that starts coming back, then that's when you'll see real indications that the economy is But Michael, I do think that generally the commercial volumes are driven more by the defection rate, right? I mean, the defection rate this quarter was 9.7%, which is down 110 basis points from the 3rd quarter. But that's going to be the primary driver of the commercial business is the defection rate. Now you've also got you're adding new business too.
So the primary driver is going to be the defection rate and then the net new business that you add. The rest of it is a small portion of what drives the volume number.
Okay, great. Thank you.
Hey, Mike, hope you feel better. Yes, thanks.
Your next question comes from the line of Al Kaczak with Wedbush Securities.
Good morning, Al.
Good morning, guys.
Good morning.
I just want to push harder here on this volume outlook for 11. And I think it's a relative question here. But if price is up, churn is also up although it sounds like maybe that's decelerating. Volumes are down and you're seeing specialty waste up, but you're guiding 0% to 1% on volumes for 11%. So what's kicking in and what's and perhaps not falling off from our perspective that the comp looks like it's pretty aggressive where
we're at in the economy? Yes. When you look at it sort of from a 10,000 foot point of view, you've got October November that ran at negative 0.4 in October, negative 1.4 or so in November. And so you had the numbers trending. Obviously, in November, you've got holiday season starting to kick in.
But you had the numbers starting to trend toward flat, right? And that was driven through all lines of business. You've got great comparables year to year starting to show up in the industrial line of business. And you've got C and D and special waste holding up very handily. So everything was trending the right way until the weather hit.
And this is what we face every year when we're looking at what we're going to talk about with respect to volumes for the year. Is negative 4 0.9% in December indicative of weather? Or is it indicative of a softening economy? In other words, what do you base 2011 volumes off of? Do you base it off the negative 0.4% in October or the negative 4.9% in December?
And when we look at it, we think that you can compare it more to October than December because of the weather events. Now January has continued to be soft. Again, we believe it's because of weather, not because of the economy. And so again, it's the same thing we're faced with every year where we really don't know if our volume call is going to be right until we come out of this into the seasonally up months to start in the spring. Why do we think it's going to be flat for the year?
Because we expect to see GDP positive this year. We have no reason to believe that special waste will drop off dramatically during the course of the year. We expect industrial volumes to continue to improve. And then we expect to see improvement on the commercial line of business, if not because the economy improved dramatically because of the year over year comps. And so we expect every line of business to improve during the course of the year just like what we saw in October.
And then you've got the overall volumes driven by that great special waste like it's been for the last three quarters. So that's sort of the 10,000 foot view. The other thing that we've got going on is the investments that we started to make in customer focused growth, the segmentation of our market areas. We're starting to see that take hold. We've talked about our medical waste initiatives and we just had a large national hospital chain that was virtually 100% by a large competitor.
We took about 30% of that business away. So we're on target to at least double our the amount of medical waste we do. We're doing $20,000,000 to $25,000,000 We expect to do about $50,000,000 in 2011. And then what I talked about on the municipal side, we're going to make sure that we maintain the contracts in the past. We've let some contracts go based strictly on our philosophy if we're going to raise prices everywhere every time.
We're going to take a little harder look at the industrial the residential line of business, and we're going to make sure that we save those contracts where we still get a good return on capital. So we're looking at that positive factors throughout the business. I think that will be borne out once we see the spring come and you start
to see normal seasonality kick in. Helpful.
If I may press your why is
why is this such an item being called out and greater emphasis from your side, at least in my perspective, maybe relative to some of your competitors and other businesses in the market there, is it exposure to certain markets that have been dramatically hit? Because
What do you mean the weather? Yes.
I mean look when you look, I'm not sure about the other folks in our industry, but I follow the transportation industry fairly closely. And if you take a look over the last 2 or 3 weeks, you'll see that a number of transportation companies have brought down their earnings fairly dramatically because of the weather, more dramatically than we have. And basically what happens is, as the folks up in New York know, commerce just shuts down, particularly when you have the type of snowstorms that we've been having along the East Coast and the Midwest. And when commerce shuts down, look, we move 15,000 tons a day out of New York City. And when things shut down, we move 0.
And so and some of that comes back, but not all of it comes back. And so the weather certainly has a dramatic effect on our business. And certainly, this weather this year has been as bad as we've ever seen. Now again, maybe what you didn't hear from the other companies is because they haven't closed their January books yet. I can't speak for the other companies.
We just closed our January books, and we were able to see that earnings were flat year over year. And generally, we'd expect them to be up $0.01 or 2. 2. So we thought that was important for our shareholders to know. And so we want to make sure to call it out.
Very good. I'll hop back in queue. Thank you.
Thanks, El. Thank you.
Your next question comes from the line of Vance Edelson with Morgan Stanley.
Good morning, Vance.
Good morning, guys. How are you?
Good morning. Doing well.
Good. So, how should we think about the upgrade that the waste energy facilities going forward and what's being done in Virginia? Are these costs that you've outlined for this year, are they truly one time in nature during the first half of the year or are we likely to face more of these investments in 2012 and then periodically down the road?
This should finish it. The plant was in needed a fair amount of repair work when we moved in And some of what we're upgrading is could have been avoided had the plant been maintained better before we bought it. Some of it though is truly upgrades to make it operate more efficiently. It's more of the former than the latter. But once this is done, I think you'll see that that piece is going to be more it's been much more normal operations.
Okay. That's good color. And if I could try one more angle on the special waste, if we see it as having been relatively strong, especially in the Q3, maybe slowed a bit in the Q4. When you talk about the strong pipeline going forward, is it reasonable to assume those volumes will be as strong as what we had in the September quarter? If you could just give us a feel for the magnitude?
Yes. And again, special waste is generally event driven on that 35% that is non contracted. And so it does bump around quite a bit. And like I said, the visibility that we have is generally just about a quarter out. And what we're seeing even during January where we've had bad weather, what we're seeing is that volumes are continuing to move and that there are some fairly good sized projects that we're seeing moving despite the bad weather.
So again, are we going to see the same kind of great growth that we saw in 2011 2012? Well, obviously, the year over year comps will be a little bit more difficult, but we'd expect the dollar amount to be similar to 2010.
Okay. Thanks for that. And lastly, in terms of outpacing the pricing objective of 50 to 100 bps above CPI, is that something that has the potential to get easier as objective?
Yes, there's no doubt. I mean, I think you all follow the industry. I think there's no doubt that we are we continue to be more aggressive than other folks in our industry. And so when you look at it, you look when I look at it, I look at it from sort of 3 angles. You've got the CPI effect, which we can't do anything about, but that's going to that should improve as the economy improves.
We just saw the wholesale prices come out and they were it's the only time in my life that I actually root for inflation is because we have these CPI adjusting contracts. And then we've got the other piece that we have to overcome, which is the fees and surcharges. I talked about those. Those are about $50,000,000 Those will be $50,000,000 negative. You can't really do much about those when the economy improves, although you should see things like the minimum ton per load and some of those other types of fees improve as the economy improves.
And then you've got just the general price increases. When you look at GPIs, better economy is always going to be better for us because customers are more willing to accept price increases. But I think the important thing to remember about us is that we are moving away from price increases for price increases' sake. And what we're trying to do is to create that value proposition with our customers first few years of our pricing program, they were price focused and they were focused on price to the detriment of volume. And now that we've moved towards segmenting our customer base, we believe we can get both price and volume, and that's certainly our goal.
Great. Very helpful. Thanks, guys.
Thanks, Dan. Thank you.
That was our final question. Does anyone have any closing comments?
Well, obviously, what we've done in the Q4 of 20 10, I believe, 410 is very well for us in 2011. And we look forward to meeting you on the road with our new Director of Investor Relations, Ed Egl. And we'll see you in the coming months.
And good luck to Jim.
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