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 Third Quarter 2010 Earnings Release 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.
I would now like to turn the call over to Jim Alderson, Director of Investor Relations. Thank you, Mr. Alderson. You may begin your conference.
Thank you, Nicole. Good morning, everyone, and thank you for joining us for our Q3 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 Q3 of 2009. 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 atwm.com. The Form 8 ks, the press release and the schedules to the release include important information that you should refer to. During the call, David and Bob will discuss our results on an as adjusted basis, including net income, 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 adjusted for Ryzen's management believes do not reflect our fundamental business performance and are not indicative of our results 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 at wm.com. Additionally, during the call, you will hear certain forward looking statements based on current expectations, opinion or belief about future uncertainties are detailed in our earnings press release this morning and in our filings with the Securities and Exchange Commission, including the Form 10 ks filed for 2,009. This call is being recorded and will be available 24 hours a day beginning approximately 1 p.
M. Eastern Time today until 5 pm Eastern Time on November 11. 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 151 49,014. Time sensitive information provided during today's call, which is occurring on October 28, 2010, may no longer be accurate at the time of a replay.
Any redistribution, retransmission or rebroadcast of this call in any form without the express 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 earned $0.55 per share in the Q3 with our collection, landfill and recycling businesses all performing very solidly. We increased operating earnings and improved operating margins in each of these lines of business. If we didn't have headwinds from areas not related to those lines of business, we would have earned $0.60 per diluted share in line with our expectations. The headwinds come from unexpected expenses at certain of our waste energy facilities that cost us $0.02 per diluted share in the quarter and startup costs from certain of our growth initiatives, which cost approximately $0.03 per diluted share in the quarter.
The expenses at our waste to energy facilities primarily relate to unexpected maintenance costs, including cost to upgrade the Cipse facility that we recently acquired. The startup costs for our growth initiatives include our Baxter retail product and our initiatives in medical waste. We had a lot of startup advertising and other expenses related to Baxter and the advertising is working. In April, when we started our advertising campaign, we picked up 3,800 bags. In October, we picked up 13,000.
That's a 22% per month compounded growth rate and we expect to continue to see high growth rates in the future. We've now sold over 100,000 bags. So we expect Bags to become profitable over the next 12 months. With respect to our medical waste initiatives, most of the additional costs relate to hiring new salespeople and getting new facilities in place. Because the sales cycle in medical waste is longer than in traditional solid waste, getting to profitability takes some time.
But we expect our medical waste initiatives to become profitable in the second half of twenty eleven. We're seeing some wins in our medical waste business and we expect this to accelerate, but we expected revenue to grow faster through acquisitions. However, we do have a competitor that continues to purchase businesses at prices that we aren't willing to pay, which has hindered our efforts to enter certain strategic markets. So overall, our growth has been slower than we expected, but we still believe these customer focused growth initiatives are the right thing to do for the long term growth of our company. So we had some headwinds in our growth initiatives, but they're not the bulk of our business.
Our business is still centered around our collection, disposal and recycling assets and these areas of the business are doing very well. Driven by these lines of business, revenue for the Q3 increased by $212,000,000 It was the 3rd consecutive quarter of year over year revenue growth. Major drivers of our revenue growth were improved recycling commodity prices, acquisitions and increases in revenue growth from yield. Internal revenue growth from yield on our collection and disposal operations was 2.3% in the 3rd quarter. We remain committed to our pricing discipline and in the 3rd quarter, we again overcame the yield headwind we faced on the 40% of our collection revenue that has price adjustments based on a CPI index.
CPI adjustments caused a drag to our revenue growth from yield of approximately 60 basis points. Despite this headwind, we met our pricing objective to achieve price increases of at least 50 to 100 basis points above CPI. The combined internal revenue growth from yield in the industrial, commercial and residential lines of our collection business was 2.5% in the 3rd quarter. Internal revenue growth from yield in our commercial and industrial lines was 2.9% and 3.2% respectively, while internal revenue growth from yield in our residential line of business was 1.5%, reflecting the continuation of the low CPI environment. Commercial new business pricing increased for the 4th consecutive quarter and service increases exceeded service decreases for the 3rd consecutive quarter.
On the volume side of the business, internal revenue growth from volume in our collection and disposal business declined by 0.8% in the quarter. This is the 4th quarter in a row that the year over year comparison has improved. Internal revenue growth in commercial and residential collection lines saw declines of 4.7% and 4%, respectively. In our industrial line of business, internal revenue growth from volume was down 3.1%, which is a marked improvement from the last 2.5 years. So as I said before, our traditional solid waste business continues to perform well.
Overall, we grew income from operations in the collection line of business and increased the income from operations margin by 60 basis compared with the prior year period. In the landfill side of the business, Q3 2010 internal revenue growth from volume was positive 3.6%, which is up from flat volume in the Q2 of 2010. This is the best internal revenue growth from volume performance in the landfill business since 2006. Internal revenue growth from volume for special waste was positive 16.4%. For MSW, internal revenue growth from volume was negative 5.3%.
In our C and D line, internal revenue growth from volume was negative by 6.5%, a significant improvement from negative 13.7% in the Q2 of 2010. Volume comparisons have consistently improved in our C and D line since the Q4 of 2,009. On the landfill pricing front, MSW per unit pricing was up by 3%, reflecting our continued focus on landfill pricing. We expect this to accelerate as we move into 2011. So our landfill business also performed well in the quarter.
Overall, we grew income from operations in the landfill line of business and increased the income from operations margin by 100 basis points compared with the prior year period. When we look at our collection and landfill business combined, income from operations grew over 6% compared with the Q3 of 2,009 and our income from operations margin improved by 70 basis points. Turning to our recycling business, increased commodity prices contributed about $0.02 of positive year over year earnings per diluted share in the Q3 of 2010. For the Q4 of 2010, we expect recycling commodity prices to remain strong, which should provide a slight benefit to earnings. We received no benefit from electricity sales in the quarter and we anticipate that Q4 2010 electricity prices will be about the same as in the prior year.
Therefore, we do not expect electricity prices to impact earnings in the Q4 of 2010. So looking at price and volume going forward, volumes were slightly lower than we expected in the 3rd quarter, but they held up fine and we expect them to improve and turn slightly positive in the 4th quarter. I'd certainly like to see volumes driven more by the commercial and MSW lines of business, because I think that would demonstrate a more robust economy and it would accelerate the pace of volume growth. But we still see slow, but steady improvement in volumes in the 4th quarter. With respect to price, we expect CPI headwinds to continue and we'll have to offset those with aggressive pricing programs.
We did so in the Q3 and we will continue to do so in the Q4. Consequently, we expect price to be about 2.3% in the 4th quarter. When we look ahead to our earnings in the 4th quarter, we remain committed to our pricing discipline and we expect that recycling commodity prices will remain strong. We believe collection and disposal volumes will continue to improve, driven mainly by continued strength in special waste. We're also redoubling our cost control efforts and expect to see improvement in our cost structure in the Q4.
Given these factors, we expect the core business to continue to improve. We'll still face some headwinds from startup costs associated with our customer focused growth initiatives, but with our continued efforts to increase revenues in our Baxter and Medical Waste businesses, the impact should be slightly lessened. Consequently, we expect our fully diluted adjusted earnings per share in the Q4 of 2010 to 10 to be between $0.54 $0.56 per share. And we continue to expect full year 20.10 free cash flow in the range of $1,200,000,000 to $1,300,000,000 We're committed to our long term goals of expanding margins, increasing free cash flow and improving our return on invested capital. And we believe the investments we've made in our customer focused growth initiatives will help us achieve these goals.
And with that, I'll turn the call over to Bob.
Thank you, David. I will begin by discussing operating costs. These costs increased in the Q3 of 2010 by $131,000,000 Cost of goods sold increased $67,000,000 in the quarter mainly because of higher recycling commodity rebates. On a net basis, earnings per diluted share increased approximately $0.02 in the quarter from higher recycling commodity prices. Subcontractor costs increased $37,000,000 in the quarter, primarily the result of costs associated with the cleanup effort in the Gulf Coast region.
Maintenance costs increased $18,000,000 primarily at our wheel abrader waste to energy operations. Direct fuel costs increased approximately $12,000,000 primarily because of a 13% increase in diesel fuel prices. Fuel costs increased by more than our fuel surcharge revenue in the quarter, which caused a negative $4,000,000 impact to income from operations and a negative 20 basis point impact on our income from operations margin. We are adjusting our fuel surcharge to do a better job of recovering increasing fuel prices. So at current prices, we do not expect a negative earnings impact from fuel in the Q4.
Foreign currency translation for our Canadian operations accounted for an increase in operating costs of approximately $7,000,000 SG and A costs were $369,000,000 in the 3rd quarter, an increase of $30,000,000 from the Q3 of last year. As a percent of revenue, SG and A costs were 11.4%. These costs increased primarily because of our growth initiatives and expenses to upgrade outdated IT equipment and applications. Although we expect to continue to spend to support our growth in IT initiatives, we have implemented several cost control measures to reduce costs. As anticipated, our interest expense for the 3rd quarter increased by $22,000,000 compared with the prior year period.
This is primarily due to an increase in our average debt balance and the increased cost of the new revolving credit facility that we executed in June. The average debt balance increased due to new debt issued in the Q4 of 2009 and the $600,000,000 of 4.75 senior notes issued in June of this year. Now we use the net proceeds from the June offering to repay the $600,000,000 7.38% senior notes that matured in August of this year. Additionally, in June, we replaced our $2,400,000,000 revolving credit facility with a new 3 year $2,000,000,000 revolver. We also added $250,000,000 of additional letter of credit capacity in a separate facility.
The cost of revolving credit has increased substantially in the past 2 years. As a result, our interest costs increased by about $7,000,000 per quarter beginning in Q3 for the revolver and letter of credit facilities. On September 30, our weighted average cost of debt was 5.4 percent and our debt to total capital ratio for the quarter was 58 point 2%, 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 for the 3rd quarter was 37.3%.
After adjusting for the $4,000,000 of income tax expense referenced in our press release, our tax rate for the 3rd quarter was 36.3%. Turning to cash flow, Q3 2010 net cash provided by operating activities was 6.77 $1,000,000 an increase of $102,000,000 compared with the Q3 of 2,009. During the Q3, we received a federal tax refund of $65,000,000 related to a capital loss from the liquidation of an inactive foreign subsidiary. The remainder of the increase is due mainly to improved cash provided by operating activities. Over the past 2 years, we have managed our receivables very closely and our day sales outstanding have improved throughout the period.
In the Q3, our day sales outstanding improved by 1.3 days. We thank all of our employees who have stayed focused on managing our receivables during this downturn. In the Q4 of 2010, we expect
10, we expect a $60,000,000
reduction in our federal income tax payment due to bonus depreciation included in recent tax legislation. This will have no effect on our reported income tax expense. Our capital expenditures for the quarter were $262,000,000 which is an increase of $22,000,000 compared with the prior year period. Our free cash flow for the quarter was $424,000,000 and was $952,000,000 for the 1st 9 months of 2010. In the Q3 of 2010, we paid $149,000,000 in dividends and we repurchased $157,000,000 of our common stock.
We remain firmly on track to meet our previously disclosed full year 20 10 guidance of spending approximately 1,200,000,000 for capital expenditures and having a range of $1,200,000,000 to $1,300,000,000 of free cash flow. And with that, Nicole, let's open the line for questions.
Your first question comes from the line of Hamzah Mazari with Credit Suisse. Good morning, Hamzah.
Good morning. Thank you. First question, you talked about landfill pricing and the pace of acceleration. How should we think about that pace of acceleration going forward? Is it a gradual ramp?
And how comfortable do you feel raising prices given the volume situation right now and just the price volume trade off that you think about in your system?
Yes. I know it's a great question and I've said many times that when you've got volumes going down fairly dramatically in landfill, you're not going to be as aggressive on pricing. Now that we've seen the volumes turn, we're putting together our plans for our 2011 pricing program and we expect that 3% yield to go up. Now at our landfills, obviously, you've got a lot of volume that's contracted and so you can't hit everything in year 1. But what we're doing right now is we're going through every single MSW customer that we have at our landfills and we're looking at what we're going to do next year and that's going to accelerate the pricing into 2011.
Okay. And then just a second question, could you just help us understand how focused you are on your underlying business? The sort of missed expectations on the medical as well as waste to energy side, are these more one time issues? And how should we think about that going forward? It seems like on waste to energy
it was. Yes, certainly on the waste to energy side, we will have some more maintenance expenses to get that SIFSA plant up to speed, but it won't be as dramatic as it was this quarter. On the medical waste side, it's interesting.
Interesting. When we add new business on the solid waste side, it lays right in on top of our current asset structure. Obviously, on the medical waste side, you have to add new
salespeople because you have to have more of a side, you have to add new salespeople because you have to have more of a specialized salesperson. And so you can't use your existing infrastructure to service those customers. And so we had to add facilities. We had to add salespeople. And so like any startup business, you're going to have startup costs.
But we really are starting to see our value proposition take hold. We completely expect to see that business double in the next year and that'll put us well on our way to hitting our goal of growing that business to $300,000,000 over the next 3 or 4 years.
Okay. And just last question, I'll turn it over. Are you guys beginning to see the incremental margin pull through yet or is it too early?
Hamzah, the area where we've had positive margins this time was in the landfill. And you may remember at Investor Day, we talked about landfill margin, the based on what we saw this quarter was at least that. And so I think that 5% to 50% number really does hold true, at least it has so far.
Okay, great. Thank you.
Thank you.
Your next question comes from the line of Scott Levine with JPMorgan.
Good morning, Scott.
Hi, good morning. Good morning, guys. Question on so the investments in the growth initiatives, without asking for guidance for next year, is your expectation regarding most of the initiatives that you highlighted at the Investor Day, sales force segmentation, medical waste, what have you, IT. What are your preliminary expectations in terms of those investments next year versus this year? Without asking for a number, do you expect most of those types of investments to be completed this year?
Do you expect some carryover into 2011 that could be meaningful?
Yes. I wouldn't say that we'd have a carryover that would be dramatically meaningful, but we're certainly going to continue to invest in those areas where we need to invest in order to continue to focus on our customers and see the growth that we expect. So IT systems are certainly part of that and we'll spend on that next year. Obviously, we'll give you some specific guidance when we look at our full year budget and report 4th quarter earnings. Customer focused growth, the segmentation efforts that we've had, we've pretty much spent the money that we're going to spend on that.
We've hired the additional people. We've done most of the additional training. So there shouldn't be significant expenditures on that side. And then on the various growth initiatives that we've talked about with Baxter and Medical Waste, you will continue to see spending on that. Look, the issue here on both Baxter and Medical Waste is that you have to spend that money upfront in order to get the customers to get the revenue to offset the costs.
And we expect to see both of those turn positive in the second half of twenty eleven.
Got it. And then turning to your guidance. So, and just putting the numbers in preliminarily for the Q4, it looks like on a full year basis, I have your margins down flat to maybe down very slightly for 2010. I think you'd indicated that margins being up, I think on the EBIT line was kind of factored in a portion of your incentive program. Is it still the case under is your expectation what is your expectation on margins on a full year basis in 2010, I guess, is the question?
Yes, I'm expecting our margins to be flat to up just a little bit.
Okay.
So I'm not anticipating that we will not hit that target. We've taken some cost control measures, which Dave referred to in his remarks and I did as well to make sure that we bring our SG and A and some of our operating costs down to a level that in the Q4 we'll be about what we spent last year. Remember we spent over $30,000,000 higher in SG and A this quarter than last year. We expect to be flat to last year in Q4 and I think that will help us get to the margin number.
Thanks, Bob. And maybe one other quick one. The economic data generally as years progresses kind of point towards gradual recovery. You're still expecting volumes to be up slightly in the Q4. Could you comment on how the cyclical aspect of your business in general has performed relative to your expectations say 6 months ago and whether there's anything you need to comment on regarding any particular part of the country or another or whether any is particularly weak or strong in your view?
Yes. It's really a great question and we look at that quite a bit. And so when we look at it, it's a little bit of what we said in our prepared remarks, which is we would love to see the volumes bounce back more in our commercial line of business in MSW because that's really the lines of business that we have that tell us that the economy is growing at a steady pace. Right now, we're seeing at the landfill, it's being driven by special waste. Now the good news with us on special waste is that with our focus on the customers and trying to find out what our large industrial customers want, we're seeing more of that special waste become more permanent type special waste than episodic special waste.
And so as you look at the economy going forward, for us, we think you'll see a turn in the economy when you start to see the commercial volumes bounce back. They've basically been in that negative 3.5% to 5% range now for a couple of years. And I think that tells you exactly what you started out with, which is that we've got a muted economic recovery and but it's enough economic recovery for us to continue to grow our business and we don't see that changing dramatically over the next 2, 3 quarters.
Understood. Thank you.
Thank you.
Your next question comes from the line of Jonathan Ellis with Bank of America Merrill Lynch. Good
So Dave, maybe just start the first question around landfill pricing. I know you gave the MSW figure. Do you have overall landfill pricing?
Yes. Overall landfill
pricing was let me just look at my positive 0.6% when you throw in the transfer stations, it's positive 1.2%. That's the yield, not the per unit basis.
Sure.
Okay. And then just on the MSW volumes at the landfill, if I have this correctly, there was a pretty healthy deceleration in terms of the year over year rate of decline between the 2nd and third quarters. Anything that happened there, contract losses or anything else we should be sensitive to in the Q3 related to MSW volume?
Yes. No, we had a couple of contract losses in our Eastern Group up in the New York area and then we had another contract loss in Montreal and that's what drove the difference.
Okay,
okay.
Great. Just turning your attention to special waste. Can you help us just to understand when you look at the Q4 and you talked about the special waste being a contributing factor, how much of a benefit is it expected to be? And maybe just help us understand how much if you can parse out some more of a permanent special ways versus more of the event type work that you're anticipating?
Yes. When we look at that and it's interesting, it goes back again to what we talked about before, the customer focused growth, the segmentation piece. We now have a lot of specialized sales people that are with our manufacturing and industrial customers, basically on a 24 hour a day, 7 day a week type basis. And so they get to know what their needs are. And it's really helped us to get a little bit better visibility on the pipeline.
And so when we look at the pipeline, at least in the Q4, we expect special waste continue to be strong.
Okay. And then just turning our attention quickly to the residential business. I think, Dave, last quarter, you talked a little bit about some competitive challenges in that business in part tied to where CPI is. What did you see in the Q3? Were you still seeing some competitive challenges?
Were you able to get reasonable price increases in some of those contracts?
Yes. You're exactly right, Jonathan. The CPI certainly has hindered us there. I don't think you see a dramatic change on the residential side from the competitive point of view. I mean, you all know this business as well as I do and that is that you're always going to have on the smaller local contracts, you're always going to have the local and regional players that sometimes are going to bid very low.
But I don't see any particular competitive change on that lands in that landscape. From a pricing point of view, obviously, it's going to be driven by CPI. We got a little bit less of a headwind of that. It went from 100 basis points to 60 basis points this quarter, but we don't see that 60 basis points really abating over the next quarter or 2.
Okay,
great. And just from a broader perspective, going into the 4th quarter, Helman, you talked it was helpful. I appreciate the clarity on SG and A in the 4th quarter. I guess what I struggle with though is if SG and A dollars are going to be comparable year over year to get to the guidance that you've laid out unless there's another line item that I'm not forecasting accurately that your gross margins can't really show much variation from 3rd quarter levels. And just given typical seasonality, I guess I'm trying to figure out how you're going to be able to hold gross margins flat quarter over quarter.
Are you expecting some kind of a volume gain in some end market or cost savings enough to offset typical seasonal headwinds in that regard?
I think it's more of the latter, I think, Jonathan. We expect to we're expecting to see a normal seasonality this year, which we see last year really see much of. I think it's more that the cost controls we put in place apply to SG and A, but to a certain extent they play to cost of operations as well.
So I
think that's where your answer is.
Okay, great. And then just my final question. Medical Waste, Dave, can you offer us any insights into where the revenue base for that stands now? And then you talked about being profitable in the second half of twenty eleven. Do you have sort of a minimum revenue threshold you think needs to be achieved in order to gain that profitability?
Yes. It's exactly the type of thing we look at, Jonathan. So right now, we've got revenue in that line of business. And when we look at the revenue, as we move to a healthcare segment, we include a lot of our typical solid waste in that segment. But so when I'm talking about medical waste, I'm talking about waste, I'm talking about strictly our new medical waste initiatives, not talking about the solid waste that we might pick up from health care providers that we've done for many years.
And so in that business, it's about $20,000,000 to $25,000,000 of revenue right now. Like I said, we're starting to see our we're starting to see our value proposition take hold. We'd expect to add probably 50 to 100 hospitals over the next 6 months to that revenue base. And then next year, so you're talking about a normalized base of about $40,000,000 Then next year, we expect that to go up somewhere between 50% to 75%.
Okay, great. Great. Thanks guys.
Thanks, Travis. Thank you.
Your next question comes from the line of Al Kapschalk with Wedbush Securities.
Hello, Al.
Good morning, Bob. Good morning, David.
Good morning.
Good morning, Jim as well, I guess there. Good morning. I want to come back to MSW here and maybe press you, David, a little bit on this. But we're in obviously some turning point on the volume and that we get positive comps, although it's not happened yet. Price, it appears a little bit of challenge from CPI.
But I was wondering if you could comment on the dynamic between your comments about aggressive pricing, the level of competition you're seeing and the ability to drive 3% yield next year in particular?
Now remember that that's 3% on the landfill side.
Okay. But overall on MSW, what are you targeting or suggesting that we look at? Because it still seems like a very challenging price environment, let alone volume environment.
Positive. But look, you all know that landfill pricing is what drives our business. And landfill pricing, when we look at it from an internal point of view, landfill pricing is a huge cost component to our collection lines of business. So if we're going to continue to get those collection price increases that we want to get. We've got to charge ourselves more at the landfill.
That applies to 3rd parties too. And so as we look at pricing next year, we're going to take opportunities where we have both gate rated and contracted volumes. We're going to take the opportunities to push price. I mean, when you look at our overall yield for the company, we're running in the 8% to 10% price increase on our commercial customers. On the commercial customers that we can touch, we're running about 8% to 10% price increases.
Over time, I think we need to get to that point at the landfill. Now it's going to you're right, it's going to be a step process that's going to happen. It's certainly easier to do that when the volumes turn positive. But we've got to move from that 3% yield at the landfill. We've got to start moving that toward the 8% type price increases we're getting in our collection business.
We've got to do that. And
we're going
to do it just like did our pricing program on our collection business. We're going to do it and we're going to hold firm and we're going to we may suffer some losses from it, but in the long run, it's the right thing to do for our business.
We should actually probably think about some churn in customer level if you hold firm on pricing.
Wouldn't surprise me.
Right.
Okay. Thank you. And then on specialty waste, it sounds as if this has become more of a permanent component to your stickiness with larger customers, particularly on commercial and industrial. And so should we start to think about how do we think about what would be defined as specialty waste and how that could help on volumes, particularly as we rotate into a more seasonal pattern in the industry?
Yes, it's a great question. And frankly, as we started to see the changeover, we haven't done reporting to reflect the changeover. In 2011, we probably ought to start looking at our special waste and trying to give you all a little bit more color around the specificity of the difference between the permanent and the temporary. I'll put that on Bob's to do list for 2011.
I think that would be helpful, not for Bob's purpose, but for us. And then as a tie in here on for Bob, I'm a little maybe it's also David, but it's hard to comment that this is $0.60 of EPS in the quarter when you are making some investments in longer term strategy of value drivers. So isn't this really a $0.55 quarter in terms of kind of the normal recurring things and then there's maybe a couple of cents of other special items or I'm concerned that we're going to start looking out forward here with a number that's really probably more $0.55 $0.60 And I'm just wondering Yes.
When I look at it, I sort of looking at it from operational point of view, look, we have been as reported at $0.55 You've got $0.02 from wheel abrader that should be one time. Again, we'll have a little bit more of that, but not the $0.02 a quarter type hit. So sort of from an operational point of view, you look at it at 0 point 5 $7 dollars And then you've got these growth initiatives, which we are going to have that drag, but we're not going to have that drag forever. That is not going to be a permanent part of our business. You're going to see that drag start to lessen next year and then you see it go away in the second half of next year.
And so when I look at the business, what we try to do is to say, what is the fundamental underlying nature of our collection disposal business and how did that perform? And then you take out the non recurring piece of wheeler breeder and the piece that will recur, but not forever. It will start to turn positive second half of twenty eleven. And so we were just trying to give you all a feel for the soundness of the underlying core business.
One final thing, if I may. Are you willing to comment on the volume of bags on the Bagster that you need to drive above breakeven? I'm sure we could figure it out on some math, but
Yes. When we look at it, it's probably right around 800 to 1,000 bags per day that we need to pick up in order to hit breakeven. The good news is we've had an 800 bag day in the last 2 weeks. It will be interesting to see as this product develops, what effect seasonality will have on it. And so, we hate to predict, obviously, at 800 bags a day, we become breakeven.
The question is, when are you going to do 800 bags a day, not knowing what the effect of winter will have on this product? Is it going to act like our normal business or are people going to continue to buy them and have them picked up during the winter? A little early to call, but it's roughly 800 to 1000 bags per day for us to hit breakeven.
Thank you very much.
Thank you.
Your next question comes from the line of Michael Hoffman with Wunderlich Securities.
Good morning, Michael. Hi, good
morning. If we could talk a little bit about the free cash flow outlook, If all my scribbling is right, you're year to date kind of a negative working capital number of about $200,000,000 So do we get any help on that
in the Q4? A little bit, Michael. I think that $200,000,000 will come down $50,000,000 to $75,000,000 Okay.
And then in the Q4, bonus depreciation should be impacted reflect on your cash taxes. So there's a cash tax issue that's not part of your original guidance. So, is that upside to the guidance?
Yes, it's in the it's considered in the $1,200,000,000 to $1,300,000,000 Michael, but it's part of the reason why I think there is this number, there is some real opportunity for upside.
Okay. And then to get your target of $1,200,000,000 in capital spending, you got to spend almost $500,000,000 Is that realistic?
Well, Michael, we've done it before, but it's possible, it's very possible that we won't get it all done. But given the tax benefit you're going to we get this year for the spending we do, I think it's going to I think it's likely we'll try to get all that done.
Okay. And is there likelihood to pull anything, I mean, 500 is hard enough to do anyway, but would you be able to pull forward, so there's some out of 11 to capture more of
the benefit? We don't really plan on doing that, Michael. We've got enough to get done just with what we have on the plate right now.
Okay. And then, David, on the medical healthcare numbers, I I don't have it in front of me, but I remember from March you're talking about your healthcare revenues were sort of 3% of a $10,000,000,000 market. So, you were 300,000,000 dollars And I have in my notes that you were $75,000,000 in what I call the red bag business. So I'm a little confused on the data you gave today. But can you clarify that relative to the sort of what
we learned in March?
Yes, I'm a little bit confused on your notes. I don't think we've ever said we had $75,000,000 of red bag waste. We may have said that that's our target over the next 2 years. Frankly, I don't know where number comes from, Michael. Okay.
But what we've always said is that we think in the 3 year to 5 year timeframe, we should have a $300,000,000 business. That back. If you look at our solid waste business, right? As I recall, Michael, if you look at just the oh, you're talking about the solid waste out the back door, not the medical waste.
Yes. I mean, again, I'm working without your slide presentation in front of me, but I had in my notes that you had a $300,000,000 of healthcare industry revenues, which is a mixture of all services.
Yes. That was if your numbers are correct, and I don't have those numbers in front of me, but what we were talking about is that we do business in the health Care segment today, right? We pick up solid waste from hospitals. We pick up recycling from hospitals. And so it's not like we're going into a segment where we have absolutely no business.
We do have a base business that we can bundle with medical waste. Bob is looking to see what the actual number is, But certainly, we have the $300,000,000 that you use, 3% of the market wouldn't surprise me if that's I mean, that's
we're certainly
what I do know Michael is that from the solid waste point of view, if you look at our overall market share in business, we're at sort of 25% of the market. We are hugely underrepresented on the solid waste and recycling side in the medical arena. And so that's part of what's going on here. We're trying to beef up both our medical waste and our solid waste in a segment where we're hugely underrepresented today. Okay.
All right. And then lastly, on the landfill side on the MSW, I know this is a stretch, but if you were to pull out these contracts and I'm not trying to make funny numbers, just that if there's whatever the same store basis was and ex the lost business, lost contracts, what's happening in MSW on
the same store basis? It's basically flat quarter to quarter. We've been running sort of in that negative 1% to negative 2% the last couple of quarters at MSW and it's basically flat.
Okay. So, I mean, a 5% down is scary, except it lost 3 contracts. So, if I pull that out, I'm really flat consistent with the trend of in recurring small container business, there's been a little bit more tonnage.
That's correct. I mean, in other words, we looked at that number and it went down fairly dramatically in the quarter. And we said, is that an economic sign or is that just losing some contracts? And after looking at it, we said, it's not an economic sign. It is more of just lost contracts.
So I'm not asking
you to be all of
a sudden to go from being a lawyer to a CEO to an economist. But when you look at your business, do you look at the U. S. Economy as being stable low growth, but it's stable?
I think that's exactly it's exactly what we see in our volumes. It is I keep saying, if we see if there was one indicator to me that we look at in our business to say what's going on in the economy, it'd be our commercial volumes. And again, the commercial volumes have basically been sort of flat, which tells me that what we've got is a stable, slow growth economy. And certainly, what you hear from the people that are experts in the economy, which isn't me, what you hear is that they expect that to continue.
Right. So in that kind of business environment, that's the sort of the outlook for a while. Do you change how you run your company differently as far as objectives over the next 3 to 5 years? And where that goes is the nature of the amount of free cash that can be driven out of it?
Michael, I think it causes you to do a couple of things. One is you try to find a better way to service your customers so that you can get retain your customers and generate more revenue in a relatively flat environment. And you want to do that via the customer service, not by using price as a tool. And second, you have to really take a good hard look at your cost structure and find better ways using technology, using better processes to bring your costs down over time. And we're actually taking a look at both of those.
We talked about the cost measures we took for the 3rd quarter for Q4 to bring our costs better under control than they have in the past and we'll continue to look using technology, using better processes, look for better ways to run our business to reduce our cost structure overall, so that we can generate more cash and return that cash to our shareholders.
All right. And then to that end, you had an internal goal, your own goal of 9% of SG and A over the sort of next 24 months. Do you feel good about that still?
Actually, I do, Michael. The goal was to be at that run rate at the end of 2012 that hasn't changed and we're taking steps now to make sure we get that done.
All
right. Thanks very much. Thank
you. Your next question comes from the line of Bill Fisher with Raymond James.
Hey, good morning. I just wanted to actually follow-up on that commercial. You've had some success on the new business adds versus losses, but I think it's the volumes have kind of remained stubbornly negative. You touched on you mentioned you're trying to get you've gotten 8% to 10% pricing on the business you can raise. Is the churn a bit up there?
Is some of that acceptable if you're getting that type of increase? Or can you just touch on some of the factors that hit that volume line?
Yes. And I think you've hit the nail right on the head, Bill. The churn rate is up slightly from 10.6% to 10.8% in the quarter. We like to see that churn rate under 10%, but we've talked a lot about the leverage that you get on price versus volume. And certainly, we still see that trade off of being as being positive.
In other words, we're going to continue to push price because the leverage you get across your customer base makes up for that slight increase in churn. But look, we've got to work to get that churn rate below 10% and get the price. I mean, that's what our customer focused growth is all about. It's about being able to drive down the churn rate and continue to get that kind of level of pricing.
Okay, great. And changing gears, Bob, just on I know you're not through 10 yet, but on 2011 CapEx, if you think about some of the things that may move that around, if your volumes stay kind of neutral here looking forward, could that number be down or is there some IT spending or what are some of the things that might move that around next year?
We'll give more specific guidance on that in February, but I think there are 2 things to keep in mind. Number 1, we have not spent as much this year on the fleet side as because of the new engine. So we're going to want to be including that in our spend. And also I'd expect we'll spend a little bit more continue to spend more on the growth side and part of the way we enable growth is through IT. But so I do think you'll see a little bit more, but I'm not saying our CapEx spending will be substantially higher.
It may be, we'll talk about more about that in February.
And then Bill, if we see the legislature pass the bill where they talked about allowing companies to expense capital, which I think passed through the Senate and they've got to get it through the House. But if you see that happen, which I think would be great for the what does that mean? That doesn't mean we're going to double our CapEx. That means incrementally, we might spend a couple of $100,000,000 more if we could expense it. But I think Bob is right.
The real drivers next year are going to be we have to put a little bit more money into our fleet and we'll continue to spend on renewable energy and growth.
Okay, great. Thank you.
Thanks, Bill.
Your next question comes from the line of Vance Edelson with Morgan Stanley. Good morning, Vance.
Just following up on the last question, given the potential spending on fleet and so forth, could you comment in a broader sense on the leverage, the operating leverage going forward beyond the SG and A restraint if volumes gradually show signs of life as expected? Do you have the park trucks and the other excess capacity that could bring positive margin implications along with it?
No, we've got parked trucks on the roll off side. And I think as the roll off, the temporary business, the permanent roll off business picks up, I think there won't be a need for a substantial amount of fleet there. On the commercial side, we have some to use too. I mean, I don't think you'll see us having to spend too much more of the fleet spend is going to be really in 2 areas. One is replacing really out of date trucks that we need to replace and at some point in time you have most of those have been put off to the side of the road by the way, but there will be a need to do some of that.
And then we're also continuing to
look at CNG fuel trucks.
That's a scenario that
we think has look at CNG fuel trucks. That's a scenario that we think has great promise. We have the largest one of the largest alternative fuel fleets in the country and we intend to continue to develop that.
But Vance, it really is a great question because having those parked trucks does affect our capital spend. And the way I look at it is, we'd like to spend on the fleet next year. But on the other hand, because of that excess capacity that we've had in the system because of volumes over the last two and a half years, our average fleet age is still 7.5 years. Our average fleet age really hasn't gone up despite the fact that as Bob said, we underinvested in the fleet because of the new engines. And so that gives us some flexibility to say, okay, if volumes are flat, we may not need to invest as much in our fleet.
And if volumes bounce back, we can invest in our fleet. It gives us some flexibility. We aren't required to invest in our fleet next year because using excess trucks has allowed us to keep our fleet age flat. And so it gives us some great flexibility. And as Bob said, if we can if some of our customers are demanding CNG trucks, from our point of view, those are actually less costly than a diesel truck.
And so if we can move if we can satisfy a customer's needs and drive down our operating costs, that's a win win for our investment.
Okay, that's great color. Thanks for that. And you mentioned a couple of the headwinds, the Bags and medical waste have been highlighted. How about the Whole Foods kiosks or any other similar initiatives? Are there any startup headwinds there?
Or is it more the Bagster and the medical waste?
Yes, certainly there's some start up costs there. But the good news about that is those are our leased facilities and so we basically get the revenue as we make the acquisition. So we haven't seen there's not a material effect on earnings from that.
Okay, got it. And then just last question for me regarding bad debt. I think you mentioned the good effort being made collecting. Any changes in the bad debt profile? Has that become at all harder to contain, especially if we think going forward there might be the prospect of higher churn, any issues there?
And our debt performance has really been our accounts receivable performance has really been pretty remarkable over the last couple of years. And what we're finding is that our older buckets are getting better and better and are they not getting worse in this downturn. We don't see any real change there at all. By the way, I don't know if you guys have a can hear a static on the line. We certainly apologize for that.
Yes, I'm getting the static too. It might be my line. So assuming that's it for my questions. Hopefully the static goes away.
All right. Thank you.
Okay. Thanks a lot.
Your next question comes from the line of Rick Skidmore with Goldman Sachs.
Good morning. Just a follow-up on a couple of points. First on the customer churn, does a lost customer go out at
a higher price and margin than the new customers come in? And ultimately, does that mean you
have to be more aggressive on the pricing elsewhere?
Yes. Actually, what we've seen is that our new business loss business customers this quarter on the commercial side were about equal. And when you look at our industrial side, we actually are bringing in customers at a higher rate than we're losing at a higher rate per unit and we're losing them. So actually that's positive. It hasn't always been the case.
That has been the case this quarter.
Okay. And then just lastly, just on the SG and A, maybe if Bob could just talk about some of the key buckets cover certainly the labor costs and
cover certainly favor costs and all the costs associated with processing the information that we process today. One item that we like to talk about is that our order to cash and this is these numbers are representative as opposed to actually right. And there's like 35 steps in our order to cash process, 31 of them are manual. If we can turn it to where there is only 25 steps and 21 of them are only 4 that there's a lot of statements to be had there, a lot less errors, a lot correct, a lot better. That's the example type of process
And there are no further questions at this time. Do you have any closing remarks?
No, I apologize for static and ink of mock up on the phone. Thank you all for joining us.
Thank you for participating in today's conference call. This call will be available for replay beginning at 1 o'clock p. M. Eastern Standard Time today through midnight Eastern Standard Time on Thursday, November 11, 2010. The conference ID number for the replay is 15,149,014.
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