Good day, ladies and gentlemen, and welcome to the Waste Management First Quarter 2019 Earnings Release Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session and instructions will follow at that time. As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Ed Egl, Senior Director of Investor Relations.
Sir, you may begin.
Thank you, Lauren. Good morning, everyone, and thank you for joining us for our Q1 2019 earnings conference call. With me this morning are Jim Fish, President and Chief Executive Officer John Morris, Executive Vice President and Chief Operating Officer and Devina Rankin, Senior Vice President and Chief Financial Officer. You will hear prepared comments from each of them today. Jim Fish will cover high level financials and provide a strategic update.
John Morris will cover an operating overview and Devina will cover the details of financials. Before we get started, please note that we have filed a Form 8 ks this morning that includes the earnings press release and is available on our website at www.wm. Com. The Form 8 ks, the press release and the schedule to the press release include important information. During the call, you will hear forward looking statements, which are based on current expectations, projections or opinions about future periods.
Such statements are subject to risks and uncertainties that could cause actual results to differ materially. Some of these risks and uncertainties are discussed in today's press release and in our filings with the SEC, including our most recent Form 10 ks. Jim and John will discuss our results in the areas of yield and volume, which unless otherwise stated are more specifically references to internal revenue growth or IRG from yield or volume. All Q1 volume results discussed are on a workday adjusted basis. During the call, Jim and Devina will discuss our earnings per diluted share, which they may refer to as EPS or earnings per share.
And then we'll also address operating EBITDA, which is income from operations before depreciation and amortization and operating EBITDA margin. Jim, John and Devina will also be discussing the planned acquisition of Advanced Disposal Services Incorporated, which they may refer to as Advanced or ADS. Any comparisons, unless otherwise stated, will be with the Q1 of 2018. Net income, effective tax rate and EPS for the Q1 of 2019 have been adjusted and projected 2019 results are anticipated to be adjusted to enhance comparability by excluding certain items that management believes do not reflect our fundamental business performance or results of operations. These adjusted measures, in addition to free cash flow, are non GAAP measures.
Please refer to our earnings press release and tables, which can be found on the company's website at www.wm.com for reconciliations to the most comparable GAAP measures and additional information about our use of non GAAP measures and non GAAP projections. 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 May 9. To hear a replay of the call over the Internet, access the Waste Management website at www.wm.com.
To hear a telephonic replay of the call, dial 855-859-2056 and enter reservation code 4,295, 916. Time sensitive information provided during today's call, which is occurring on April 25, 2019, 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'll turn the call over to Waste Management's President and CEO, Jim Fish.
Thanks, Ed, and thank you all for joining us this morning. We're excited to share 2 good news stories this morning. Our excellent first quarter results that demonstrate continued strength in our business as well as the agreement to the agreement we announced last week to acquire Advanced Disposal Services. The year is off to a great start with organic revenue growth of more than 6% in our collection and disposal business, translating into about a 7% increase in operating EBITDA in that business. But before diving further into the quarter results, let me spend some time discussing the compelling strategic and financial benefits we expect from the acquisition of ADS early next year.
On April 15, we announced a definitive agreement to acquire all outstanding shares of ADS for $33.15 per share. The acquisition advances our growth strategy and aligns with our financial goals, including growth in earnings per share, margins and free cash flow. It will bring to Waste Management a high quality complementary asset network and customer base in both new and existing areas across the eastern half of the United States. We are joining 2 teams of dedicated employees who are passionate about helping to manage the environmental needs of customers and communities with outstanding service and a commitment to safety. We expect to achieve more than $100,000,000 in annual cost and capital expenditure synergies.
We anticipate closing by the Q1 of 2020 subject to the satisfaction of customary closing conditions, including regulatory approvals. We're enthusiastic about this catalyst for long term value creation for our shareholders in 2020 and beyond. We believe we can leverage benefits of the investments we're making in technology and people to achieve enhanced efficiency across the ADS network in the coming years. ADS has talented and dedicated employees and we look forward to capitalizing on the strengths of both organizations. Moving on to our strong company performance, we remain keenly focused on the the execution of our 2019 plan and delivering the strong results we expect for this year.
In the Q1, operating EBITDA was $987,000,000 We continue to believe that this is the best measure of the health and performance of the business and are pleased with this solid result. The growth in operating EBITDA is underpinned by impressive organic growth with core price of 5.8%, yield of 2.7% and volume of 4.1% in the collection and disposal business. Our operating EBITDA growth translated into excellent free cash flow of $431,000,000 demonstrating the strength of the cash generating ability of the business. To enhance our performance, we're investing in the same areas that helped make us successful in 2018. Our people, technology, asset network and the customer.
As we've mentioned in the past, we're opening our 2nd state of the art driver and technician training center, extending our commitment to providing centralized training for our drivers and technicians across the organization. Participating in this training not only helps improve retention, it helps make our employees safer. In the Q1, we saw a meaningful reduction in safety incidents of drivers with less than a year of experience. Focusing on our onboarding process for new drivers is clearly paying off. We also made strides with respect to technology as we launched a new online buying experience for U.
S. Commercial and industrial customers. This followed the rollout of a similar online tool for open market residential customers last fall. Engaging with our customers in their channel of choice helps to differentiate our customer experiences and is driving measurable volume increases. In closing, our base business is delivering strong, reliable growth that puts us on track for another banner year.
And we're very excited about the new platform for growth with the addition or with the acquisition of ADS by early next year and the recent addition of Petro Waste in the Permian Basin. With that, I'll turn the call over to John to discuss our operational results for the quarter as well as initial integration planning for the ADS acquisition. Thanks, Jim, and good morning, everybody. We're pleased with our Q1 results as we continue to execute extremely well on our organic growth strategy. Our disciplined pricing programs have been driving consistently strong core price and yield results the last several years.
In addition, we continue to execute on targeted growth of profitable volumes. This strategy has produced both industry leading volumes, demonstrating that we can profitably grow by driving both price and volume. Our volumes grew 4.1% in the collection and disposal business during the Q1 and much of that growth can be attributed to our focus on increasing service to existing customers and reducing churn by improving customer satisfaction. For the quarter, churn was 8.1%, a 150 basis point improvement from the prior year and the lowest churn we've seen in the last 3 years. Additionally, service increases outpaced service decreases again for the 21st consecutive quarter.
Our customer focus has also helped us to selectively grow profitable volumes, including our strategic national account business. As you've heard us all say, improving our customers' experience is generating results.
In the landfill line
of business, our well positioned assets continue to attract volumes and enable us to increase yield. Previously, we have discussed the importance of pushing pricing to cover post collection cost increases and maintain returns, And we're pleased with our progress on that front. In fact, in the Q1, we achieved the highest MSW yield in more than a decade at 3.4%, and we did this while growing volumes 5.8% versus 2.2% last year. A large portion of the volume increase relates to new customers in the Northeast as our well positioned assets continue to attract incremental volumes. We've also talked in previous quarters about our strong special waste pipeline and many of these projects are coming to fruition as we saw special waste volumes up more than 18% for the quarter.
As mentioned last quarter, we're well positioned to accept volumes from the wildfire cleanups in California. In the Q1, volumes associated with the cleanup provided about $8,000,000 of operating EBITDA. Overall, there was a negligible year over year impact to our Q1 volumes our financials from natural disasters since we had hurricane and wildfire impacts in the Q1 last year as well. The cleanup activity is still ramping up in California, and we expect to continue to receive landfill volumes from the cleanups throughout the year, but it's still too early to estimate the impact of 2019 volumes, operating EBITDA and capital spending because of the uncertainty around timing. So we expect to have additional information next quarter.
During the Q1, total operating costs as a percentage of revenue were in line with prior year at 62.2%. We did do a good job of managing our costs as we had to overcome an 80 basis point headwind from the federal natural gas fuel credits not repeating. We still have opportunities for further improvement, particularly around maintenance and leachate management costs, and our team is focused on identifying and making these improvements as well as adjusting our price for rising third party subcontractor costs. On the maintenance side, we continue to expand our maintenance initiative, MSDO, to reduce downtime and improve costs. The results continue to be positive as we have seen our certified sites improve maintenance cost per unit by about 6% on a year over year basis.
Looking to labor, our M100 program provides our frontline supervisors a view of each of their routes throughout the day. As a result, they can work to remove elements of a driver's day that are costing them efficiency. We're focusing on the commercial line of business first, and we are in the early stages of expanding the program to roll off and eventually residential. Turning to recycling. We performed well in the Q1 as a direct result of ongoing fees for contamination, improving operating costs and restructuring municipal contracts.
We have taken these intentional steps to improve our recycling business by passing through the increasing cost of processing and the cost of higher contamination rates to our customers and our results demonstrate that. Although our blended average recycling commodity price fell 28% year over year, we increased our recycling operating EBITDA by $11,000,000 from breakeven in the Q1 of 2018. We are still well below a typical operating EBITDA level in a normalized recycling commodity price environment. And as such, we remain focused on changing the business model for recycling with improved MRF technology and relationships with our customers that recoup processing costs and protect us from commodity price downside. We're pleased with our recycling team's efforts to improve the recycling line of business and continue to find the most sustainable markets for our customers' materials.
We see in the remainder of 2019 pricing to be soft with some additional domestic mill capacity coming online later in the year. Despite these factors, we expect our overall business to continue to overcome any issues from recycling, putting us solidly on target to achieve our full year guidance. Lastly, I want to briefly cover integration planning for the ADS acquisition. While the agreement is certainly exciting news, it's just the first step in bringing the 2 companies together. Over the coming months, we expect to assemble an integration planning team to determine how best to join our operations.
Like our operations, the 2 companies' cultures are very complementary. We have a shared commitment to outstanding customer service, safety and operational excellence. Waste Management has a strong record of successfully integrating the assets we acquire and we expect a smooth integration transition process for this acquisition as well. We will be ready to execute as soon as the deal closes to capture the targeted synergies. I'll now turn the call over to Devina to further discuss our Q1 financial results and capital allocation priorities in light of the ADS acquisition announcement.
Thanks, John, and good morning, everyone. As both Jim and John have discussed, our Q1 results were strong, and they've been driven by organic revenue growth in our traditional solid waste business and our focus on controlling costs through operating efficiencies. In the Q1 of 2019, the conversion of earnings growth into incremental cash from operations was particularly strong. Our cash flow from operations was $890,000,000 in the quarter, and that's a 10% increase from the Q1 of 2018, which puts us well on our way to achieving our full year target. During the Q1, we spent $471,000,000 on capital expenditures, an increase of $71,000,000 from 2018.
The increase in capital spending is related to the strong volume growth that our business continues to generate, particularly in the Landau line of business, and then also some year over year differences in the timing of some of our spending. In the quarter, our business generated $431,000,000 of free cash flow versus $423,000,000 in the Q1 of 2018. Timing differences in capital expenditures muted our free cash flow growth for the quarter on a year over year basis, but we're confident that with our strong operating cash flow growth and disciplined approach to capital spending, we will deliver on our full year free cash flow guidance. In the Q1 of 2019, we used our free cash flow to pay $223,000,000 in dividends and repurchase $68,000,000 of our stock. Share repurchases in the Q1 were less than our plan due in part to the nearly $400,000,000 in acquisition spending in the quarter.
That was primarily related to our previously announced acquisition of Petro Waste that closed in March. Our 2019 guidance considered $200,000,000 to $400,000,000 in acquisitions for the year, and so we have already achieved the high end of that targeted range. Turning to SG and A. For the Q1, our SG and A costs as a percentage of revenue were 11.1% compared to 10.6% in the Q1 of 2018. Our planned investments in technology accounted for 30 basis points of this year over year increase.
The remaining increase was due to a litigation reserve. In spite of the impact from this litigation reserve, we continue to target adjusted SG and A as a percentage of revenue of about 10% for the year. We are confident in the strength of our business. And as we announced last week, we fully expect to achieve the full year guidance we laid out in February before considering the impact of the ADS acquisition. As Jim and John have discussed, we are all very excited about the value that we will create for our stakeholders from this pending acquisition.
I would like to review our 2019 capital allocation plans in light of the ADS acquisition and give you some insight to how we expect these plans to impact our 2019 outlook. In 2019, our free cash flow will be directed to dividend payments, tuck in acquisitions and share repurchases sufficient to offset dilution from stock based compensation plans. As I mentioned earlier, we have already completed the high end of our acquisition guidance for the year. Our tuck in acquisition pipeline continues to be strong, and we remain focused on pursuing valuable businesses and markets other than those where ADS operates. As a result, we will see free cash flow allocated towards tuck in acquisitions exceed our initial range of $200,000,000 to $400,000,000 We are, however, scaling back on our share repurchases from the planned levels, and that will have about a $0.06 per share impact for the year.
At the end of the first quarter, our debt to EBITDA ratio measured based on our bank covenants was 2.4 times. We have a strong balance sheet today and we expect to maintain a strong balance sheet and solid investment grade credit profile with a pro form a leverage ratio within our targeted range of 2.75 to 3x after the acquisition. We are still in the early stages of determining our financing strategy for the acquisition, which makes it difficult to estimate the 2019 earnings and cash flow impacts of the incremental debt needed to position us for closing. As we finalize those financing plans, we will provide additional details. The ADS acquisition will immediately enhance Waste Management's cash flow growth and support our commitment to grow total shareholder returns.
Long term, our capital allocation strategy will not change. We will continue our commitment to our shareholders of allocating 40% to 50% of free cash flow to dividends. We will prioritize well priced acquisitions and investments that bolster our long term organic growth and we will opportunistically repurchase shares. Our Waste Management team has worked hard to deliver a fantastic start to 2019. We have a lot of exciting things going on at Waste Management and our team remains focused on delivering superior results.
We're confident in the performance of our business and our ability to achieve our 2019 goals. With that, Lauren, let's open the line for questions.
Thank you. And our first question comes from Tyler Brown with Raymond James. Your line is
open. Hey, good morning guys.
Good morning Tyler. Hey,
congrats on the strong start to the year. I appreciate the core business is very solid, but Jim Devina, I would like to start with the proposed ADS deal. We obviously haven't had a forum really to talk about it. But I was hoping you could talk about some of the mechanics of the deal including 1, what is the termination fee if you do decide to walk away? And 2, how does this $200,000,000 what I'm going to call divestiture cap work that's built into the agreement because frankly the agreement isn't exactly the easiest thing to read?
We can appreciate and understand that the agreements, a lot to get through, but we really do think that that's the best source of information for those specific terms and conditions, and we point you back to that. What I would say is all of those terms and conditions were well negotiated and thought through in the process, and we've done a really good job of making sure that we're positioned well to move forward.
But specifically on the divestiture, again, I'm going to call it divestiture cap. If it's required to be over that, what would then happen? What would you be able to do or not do?
Tyler, this is John Morris. I mean, certainly, we're comfortable with the range that's been published and is in the merger agreement. And I think the details of what the options are for both sides are best learned by reading the merger agreement.
Okay. And then on the $100,000,000 of proposed synergies, is there any breakdown of how that would break down between G and A, OpEx and capital?
Tyler, this is John again. Yes, I mean it's early innings for sure, but roughly we estimate about 80% is going to come from the operational SG and A and interest buckets and about 20% will come out of the capital efficiency bucket.
Okay, great. And then maybe some mile markers that we should be looking for as this deal progresses. I would assume shareholder vote is next, then it would go under DOJ review. And then assuming passage, maybe we'd move off to close. Is that kind of
how the process will work? I think you've got the timing down. There's really 3 elements, obviously, ADS's proxy filing and obviously the HSR process that's going to have to occur here in the coming months.
Okay. My last one here. So I want to switch over to recycling really quickly. You mentioned that it's up $11,000,000 from breakeven despite commodity prices. I'm assuming the processing fee is driving that.
Is that correct?
Yes. You broke up just for a second there. But yes, the processing fee is included in that for sure. We talked about the fact that this would be back in February, we
talked about the fact that this
would be a tailwind for us this year. That didn't we still think it's going to be a slight tailwind for us, but we didn't contemplate this significant drop off in commodity prices. With that said, I think we've done a great job of really passing this through. I mean, we can't bear all of this as John said in his script. This was a breakeven for us last year.
It's now an $11,000,000 better than breakeven, which still is not anything to write home about. But we're in the process of passing that through in the form of these fees and that's what's caused us to mitigate some of this in the Q1.
We've also done a good job of managing the cost side of the equation and we'll remain focused on ensuring that we're working through the contamination headwinds that we see on the inbound materials to manage those more efficiently in our processes. And as John mentioned earlier, the focus on technology in the MRF line of business will be important to us and we're continuing to advance those efforts.
Okay. And under Yes.
Go ahead. Well,
Well, I was just going to say Yes, go ahead. Sorry.
Well, just back on ADS for just a second. I'm look, what I will say about this is we are very, very excited about this. This is really something that we haven't done in a period of 20 years a deal of this size. We can't say a whole lot about some of the details of it for obvious reasons. That as John said, we'll end up showing up in the background of the merger and will become public when they file their proxy.
But we just can't say a whole lot about it. We'll give details where we can, but we're suffice it to say this is being looked at as being transformational and the 2 companies are so complementary from a cultural standpoint that it really makes a ton of sense for us.
Right. Okay. And then just real quickly, but would you expect going back recycling, would you expect recycling to be a positive EBITDA contributor this year under the current circumstances?
Well, so yes, year over year, I mean, certainly it's going to be positive in total. Year over year, that's why I said it's we think it can still be a slight tailwind for us on a year over year basis from an EBITDA standpoint. But it's awful hard to tell, because these commodity prices have become pretty difficult to predict. Sure. And with that 30% headwind on commodity prices, we are exclusively reliant on our ability to reduce costs and pass this through in the form of fees.
Okay. All right. Thank you. I'm going to turn it over. Thanks.
Yes.
Thank you. Our next question comes from Hamzah Mazari with Macquarie. Your line is open.
Good morning. Thank you. You. I realize you can't give a lot of details on ADSW, but maybe Jim, you could talk about why you're doing this deal now. I mean, if we look back ADSW IPO ed at $18 There was no real buyer when High Star was looking to sell this or exit.
Your balance sheet was still very under levered at that point. So maybe talk about what has changed? Why now versus when the stock was at 18 or pre IPO?
Well, here's what I would say, Hamzah. I mean, first of all, the transaction represents a really nice multiple for us. 11.6 times ADS's 2018 EBITDA of $427,000,000 And after you take the $100,000,000 in synergies into account, you're talking about something that's 9.4 times their 2018 numbers. So it is compelling for us when we look at when we started looking at this several months back, it was very compelling for us. The other thing I would say about it is strategically it's such a nice fit for us.
It really I'd tell you, we're looking at this as 3,000,000 customers that we bring in that we can add our focus on the customer that we can add our focus on digital technology. All of that fits very nicely into our strategy and it's 3,000,000 customers. Honestly, whether it was organic customers, a lot more difficult to get 3,000,000 organic customers than it is to pick them up through a great acquisition like this. But it is in effect the same end result, which is we bring our processes, we bring our technology, we bring our focus on the customer to a big batch of new customers.
That's very helpful. And then maybe, I guess you're having an Analyst Day on the 30th. I think the last time you did one was a decade plus ago. Maybe if you could preview sort of what we should expect there, what investors should expect?
Hamzah, this is Devina. We're excited about the Investor Day and certainly something that was in the works before the announcement of the ADS acquisition. Our focus at Investor Day will be on the great things happening at Waste Management. The leadership team being sure that the investors have an opportunity to meet all of the members of Jim's senior leadership team, hear about the operating efficiency work that we're doing, our focus on people first, from a culture perspective and what that's doing to drive our customer focus and the customer centric culture that we want this organization to continue to push forward. And then the financial results that are coming out of all of that great work that we've proven in the last several years that we really expect and are excited to see continue in the years to come.
Okay. And then just lastly, just a clarification question. On the volume side, the 3.6% volume, how much of that was sort of wildfires?
The wildfire impacts were actually very small. On a year over year basis, if you recall, Hamzah, we had fire and hurricane volumes in Q1 of 2018 as well. So we were virtually flat from a volume perspective as a result of natural disasters on a year over year basis.
Okay, got you. Thank you.
Thank you. Our next question comes from Noah Kaye with Oppenheimer. Your line is open.
Good morning. Thanks for taking the questions. First, just to make sure I understood this right, you're backing full year guidance, but you're pausing share repurchases that hits you about $0.06 So should I read that as effectively you're not formally raising guidance, you're effectively raising net income guidance by 1% or 2%, am I missing?
No, let me clarify. Thanks for asking the question. No, I didn't intend for that to be interpreted that way. What we're saying is, we're confirming guidance without the impacts of the ADS transaction and we view that $0.06 reduction in EPS specifically as ADS specific, because of the change in our capital allocation plans that we guided for the year. So we are sticking with core solid waste EBITDA performance, driving the EPS expectations aside from that $0.06 impact.
Okay, that's very helpful. Thanks. And then I guess just a question looking at large mergers in the past history of the waste industry. It seems like a little bit of an elongated timetable for closing compared to some. Can you just talk about what's giving you reason to kind of give that timetable?
Is it something in the regulatory environment or anything we should be thinking about?
Yes. No, I mean, it's recently been reported that DOJ is the DOJ approval process has been taken about 10 to 11 months to complete. With that said, each merger is different. And as waste mergers go, they're evaluated on a local basis. So they present different issues for resolution.
But the process seems to be taking 10 to 11 months based on what we've heard. And that's why we said we think it's going to be somewhere in that timeframe. And with all of that said, I think what I would finish with is we're we will be working cooperatively with the DOJ to assist in this review of the transaction and we'll do our best to expedite the process wherever we can. Okay.
That's very helpful. Thank you. And then maybe just one last clarification question. You pointed to the $100,000,000 of synergies and that really looks like a cash flow number, I guess, because it's cost and CapEx. So just to understand, is that $100,000,000 net of the interest that you're going to take the extra interest expense to finance this transaction because you're going to have to take on some debt?
Or is that independent?
No, not at this Okay. That is independent. You're right, Noah. And as I mentioned earlier, we're still working through those financing plans. We're thinking about that $100,000,000 more as an indication of our run rate synergies, over the long term and not providing information about capital structure specifically because those costs of the incremental debt, it's too early for us to specifically quantify.
Okay, perfect. Thank you.
Thank you. Our next question comes from Brian Maguire with Goldman Sachs. Your line is open.
Hey, good morning. This is Derek Layton sitting here for Brian.
Hey, Derek.
Hey, while we're on the topic of the synergy capture there for the deal, I was just wondering if you guys could highlight if you have any sort of timeline that you might expect for that synergy capture assuming that the deal closes as you expected?
Hey, this is John Morris. I think it's safe to assume that there's going to be some early dollars we'll get, but we're also early in the process here and I think it's going to take some time. We've got kind of a lot of wood to chop here between now and closing in order to kind of refine the timing of when the synergies are going to occur.
Okay. Thanks for that. And then just to kind of circle back on recycling for a second. I think you said still expecting overall a tailwind for you year over year. I wonder if you could just maybe clarify what you have assumed in the reaffirmed guidance there for recycling prices and your expectations there?
I think we said in February, I think I said $30,000,000 to $50,000,000 was what we thought. $20,000,000 to $30,000,000 $20,000,000 to $30,000,000 Okay, sorry. So $20,000,000 to $30,000,000 is what I thought the tailwind would be in February. And as I mentioned earlier, we didn't that did not contemplate this heavy downturn. So it's hard to say exactly what that would be for the remainder of the year.
We do know that the fees are somewhat front loaded because of the fact that last year we started the implementation process for those fees kind of mid second quarter April ish, right around now. And so the comps at least from a fee standpoint become more difficult in Q3 and particularly in Q4. What happens with respect to comps in terms of commodity prices is TBD. So it's a bit hard to pin down the number, but I think we're willing to say we think that there's certainly still the possibility of a tailwind. It's not going to be in that 20% to 30% range.
Well, I would add to that, Jim. I mean, I think the comments both Avin and I made is that we continue to make progress on the operating expense side. And we've referenced on the last call that we're looking at these contamination and other fees through kind of 3 phases. And we've done a nice job in Phase 1 and Phase 2. Phase 3 is still developing, which is really where about 60% of our volume comes from.
That's a single stream volume that we're addressing and still continuing to address through Phase 3, through the municipal recycling contract. Yes. And I would like 2 kind of other comments on recycling. First of all, we've said it for a number of quarters and that is that it demonstrates how strongly our core operations are exclusive of recycling that we can continue quarter after quarter to have these really good results. In the face of, I mean, look, we're talking about 10 year lows from a commodity standpoint.
So the rest of our business is really operating well. A lot of you have reported on that and that is absolutely the case. The second thing I'll say is we're not sitting back. Here's what's going on in recycling. There's this real extreme supply and demand imbalance.
And we've talked about China a lot, so I won't go into details on that, but there is a real extreme supply and demand imbalance. So for us, we feel strategically it doesn't make sense for us to sit back and rely on the rest of the world literally to try and figure this out. So that's why we talked about it last quarter, maybe the quarter before that we're building what we call the recycle plant of the future to address some of this downturn in the market on our own. So that recycle plant of the future that's going up in Chicago and will be starting to take material sometime in Q3 or Q4, we believe will significantly reduce operating costs at that plant because of the technology that we're putting in a lot of optical technology in that plant. So we think it'll be a very different plant in terms of operating costs.
And that's part of our answer to trying to address this downturn in the business that really we don't have much control over and don't have much view of when it will resolve itself. So we're going to try and fix some things that we control on our own.
Great. That's helpful. Thank you. And just one more really quick one for me. Strong volume number in the quarter.
I think you guys said the impact of natural disasters was effectively a net neutral with Q1 of 2018. But wetter weather and weather impacts being a headwind in the quarter. Just wonder if you could quantify what headwinds you might have had there to your volume number in 1Q?
Yes. No, we looked at that. I think when we looked at weather kind of year over year, it was negligible between what had happened last year in different regions versus this year. So we didn't see a big impact on a year over year basis from weather. What I would tell you on the volume side though is and we commented that in the prepared remarks is we continue to see obviously MSW volumes in our landfill be really strong.
We had a really, really strong special waste quarter. And when we dug into that, we're seeing that across not 1 or 2 areas, but really 7 or 8 of our regions, which suggests a couple of things to us. One is the general overall economy is that's usually a bellwether for that. And then the pipelines we've talked about in the back half of last year and last quarter continue to produce this year. And I think overall, I think when we look at our volume for Q1 and the trends, I think we're on pretty solid footing.
The one place that I do think that we saw some weather impacts is actually on the operating cost line, where we saw whether it be efficiency impacts or in the leachate costs for the northern part of our business as we had a wetter winter season this year. And so we do expect some moderation in some of those costs as we move throughout the year.
Great. That's really helpful. Thank you.
You bet.
Our next question comes from Sean Eastman with KeyBanc Capital Markets. Your line is open.
Hi, team. Thanks for taking my questions. I just wanted to start on ADS. I know it's early days, but you guys are highlighting a very complementary asset base there. But I was hoping you could maybe comment on the or compare and contrast the operating structure.
It's my impression that Advanced operates considerably more decentralized relative to Waste Management. So I'm just wondering kind of what challenges or opportunities that means from an integration perspective?
Well, I think I'm not going to comment on their structure, but I would tell you that when we look at their portfolio of business and the work we've done thus far, I think what we find is a business and a set of assets that are very complementary to ours. As I mentioned in my prepared remarks, I mean, this is certainly a business and an industry that's been very acquisitive And we feel very confident in our ability to tuck in kind of this core business that is kind of down the middle of the fairway, as you heard Jim refer to it before. One thing I will say, just to tack on to John there is that we can't say about their structure, not so much their operating structure, but that is the makeup of their lines of business is a little different than ours. They are kind of 80% collection, 20% landfill and we're more like 65% collection, 35%. It's another factor that gives us confidence that we will certainly make it through this process and complete this by kind of that 10 to 12 month period.
Okay, that's helpful. And then just as it relates to the guidance being intact, I just want to understand some of the moving pieces. So obviously, the commodity recycled commodity price is kind of an incremental headwind relative to that $20,000,000 to $30,000,000 guidance earlier. So I'm just wondering exactly where the positive offset is. Is it kind of that strength in the special waste volume?
Or is it a mixture of a lot of things? Some color there would be great.
Yes. I would say it's entirely the performance of our solid waste business being led by the strong landfill volumes, whether it be the 5.8 percent MSW volume that we spoke about or in the special waste pipeline, both the strength that we saw in Q1 and then our expectations for that strength to continue over the remainder of the year. The outperformance of solid waste in the quarter far exceeded the impacts of the negative commodity price drag in the recycling line of business. And so we're optimistic that that pattern will continue over the remainder of the year.
I would add, Devine. I mean, we called out a few headwinds we had on the post collection side and M and R within the collection side. But I think outside of those, we're making progress. And I commented about what our OpEx was as a percentage of revenue in my prepared comments and some of the headwinds we overcame. So we're clearly making progress on the operating expense control side as well.
Okay, super helpful. And then just last quick one for me. So obviously, really outsized volumes in the Q1. And I believe you guys guided to a 2% volume growth outlook for the full year. So I'm wondering from this base here, like what the big swing factors are to watch?
Is it really just that wildfire opportunity? Or is there some other volume growth elements we should be thinking about as we move through the year relative to that 2%?
Yes. I mean, I think you've seen a couple of things. John's talked and touched on a few of them, John and Devina both with respect to special waste and landfill volumes being strong. We didn't touch on it, but by the way, we're when you look at 3.4 percent yield at the MSW line, that also is impressive in and of itself. But on volume, in addition to those items that they mentioned, I mean, look, I think what you're seeing that technology, our focus on technology and our major emphasis on the customer, all of that is coming to roost in the form of strong volumes.
The keys here are things like, the data reporting tool that we put into national accounts that's driving strong growth in our national accounts business at good margins. The focus on the customer has driven the lowest churn number that we've seen in years at 8.1%. And again, John mentioned the strong special waste pipeline that's the highest number we've seen in quite some time. And all of that has been discussed in the past as being part of a good pipeline, but now it's actually showing up. By the way, I think that's actually a good sign.
And I think you mentioned this, but that is somewhat of a barometer for the economy. These big companies look at those that event type work as being somewhat discretionary and in a strong economy, they're more willing to spend those discretionary dollars in a very slow and weak economy. You oftentimes see them trim back on those projects. So I think that to the extent that that says anything about the economy in 2019 for the rest of the year and possibly into early 2020, I think it's a good sign.
Okay. Thanks and best of luck to the integration team.
Thank you.
Thank you.
Thank you. Our next question is from Jeff Silber with BMO Capital Markets. Your line is open.
Thanks so much. I'm sorry to go back to the recycling issue, but I guess the industry has been dealing with this for about a year and a half. Are you finding it easier to go back to your customers and asking them to focus or shift more to the speed for services model? Has it gotten easier over that timeframe?
Well, I think a couple of things. The fact that this has been a sustained situation, I think customers are understanding that there are real pressures that the service providers are facing in order to continue to provide them not only recycling, but sustainability services that they're looking for. I don't think it's ever easy to go back to a customer. And this is a good example to tell them that they're going to have to share more of the risk and pay more for the services. But I think as evidenced by what we referred to as these 3 phases that we've been working through for the better part of a year, we're finding that with good messaging and communication with our customers and giving them real feedback, real time feedback.
Jim mentioned some of the technology. We're using some of the technology advancements we have to give our customers real feedback and give them an opportunity to address some of the behaviors of their employees or their constituent base to try and improve recycling.
Okay. Appreciate that. And then if I could switch back to the ADS potential merger. You mentioned the potential synergies on the cost side and the capital structure the capital expense side, excuse me, and the complementary nature of the deal. I'm just wondering, are there any natural areas of overlap either geographically or end market focus?
Well, look, here's what I would say about that. I mean, when you look at the 2 companies east of the Mississippi, there's a lot of dots on the map, but I think it's important to recognize that many of those dots are in these large markets where there is no shortage of competition whatsoever. So certainly there will be there is some overlap there just looking at a map, but there are a lot of we're in a lot of large markets, they're in a lot of large markets and there's a lot of competition in those markets.
Okay, great. Appreciate the color. Thanks so much.
Our next question comes from Michael Hoffman with Stifel. Your line is open.
Hi, thanks for taking the questions. So I actually want to talk about trash. So in solid waste, when you give us the price compare on collection and disposal, what's actually that base of revenue on a net basis in 2018 coming into 2019?
The collection and disposal revenue in the Q1 of 2018 was a total of $3,070,000,000 on a year over year basis to $3,270,000,000 in Q1 of 2019.
Perfect. And then could you give us what the Petro Waste annual revenues are, so we can figure out how to layer that into our model?
So not necessarily Petro Waste specifically, I'll point you to total acquisition spend in the Q1 and total acquisition spend in Q1, which to your point, Michael, is largely Petro Waste driven. On an annualized basis, that revenue is a little over $100,000,000 And when you think about what that revenue number is based on, it's the landfill line of business and therefore relatively high margin when you compare it to a traditional solid waste tuck ins that can usually be more collection business and therefore a little narrower on the margin side.
Okay. And then, John, so on recycling, if
I take the $11,000,000 as the profit and you did $291,000,000 that's kind of 3.8% margins. What should a good margin be? And it kind of gets to a bigger question about cash flow. I'll come circle back to that. But what should we think about that margin?
Because when you get it, it should all be cash, right?
Well, yes, certainly Michael, where we're at. I mean, we're very happy with what our recycling team has done. And really keep in mind, we're talking about recycling in a vacuum. It does penetrate other elements of the business. So not only our recycling team, but our entire operating team has done a really nice job of taking what is a headwind and increasingly a headwind as evidenced by the recent price decline and turn that into a positive.
But you're right, I mean, going from breakeven to $11,000,000 while we consider that a victory is clearly not where we're satisfied.
And a good margin on the based on
the capitalists deployed mid teens? I mean, if I thought just like what part of this is understanding that this $1,200,000,000 business, if I pick up 10 percentage points incrementally, that's another $100,000,000 of cash.
Yes. Mid teens would certainly be better than where we are now, Michael. I'd like mid to high teens. I think the other thing that we take into consideration is looking at returns on those assets as they also require capital.
Okay. So that helps a lot. Go ahead. Sorry, Sabina, you're I
was just going to say, at normalized commodity prices, we were accustomed to being able to say that the recycling line of business was our 2nd highest return on invested capital business. And so everything we are working on today is about returning this business to that model, because it can be a very successful business and sustainable over the long term from an economic perspective. It's about making sure that we're achieving that in spite of this volatility in commodity prices that we're seeing.
Michael, I would follow that. Just Jim made a comment before. I mean, we're not trying to change this recycling model, we're certainly not relying on benefit from commodity prices. There's a lot of things that have gone the wrong way there. I think what we're doing to try and lower operating costs through some of the investments we're making in technology, trying to reduce the labor component, which by the way is a very hard positions to staff anyway.
I think that's really where our focus is in balancing the capital deployed to do that versus the returns we're going to get back. Michael, it's Jim here. I mean, you know this, but when the single biggest customer for recycling, for recycled commodity materials comes out basically. I mean, China was 2 years ago was 27% of all of our recyclables were going to China. They're now 3%.
In a period of 18 months, when that customer comes out, you're going to have a real, oversupply condition. And we've tried to move that around. So a lot of it has gone to the United States. Actually, we were 63% of all of our commodities stayed domestic 2 years ago. It's now 77%.
Some of it's been replaced in Southeast Asia, which has gone from like 1% to 7%. So we've done a good job of finding other homes, but there is going to be this big supply and then demand imbalance too. I mean, part of the issue is demand related and that means that the companies will have to use a higher percentage of recycled material in their products. And today that has not been the case. So there is and then finding other uses for low value recyclables is also more on the demand side.
We think over time this does we're optimistic that over time this really balances out. But as I said earlier, we're not willing to just sit back and let it balance itself out and see this as a kind of a low margin, low return business over a period of years. So that's why we're investing in things like this recycle plant of the future that takes a considerable amount of cost out, operates as much as 30% or 40% lower unit cost than our current single streams.
Okay, that's great. And to that speed question, does this incremental pressure allow you to accelerate the pace of the Phase 3 or we just stuck in contract cycles?
Michael, I wish I could if we could have accelerated it, we would have done it already. I think as you know, a lot of the life on these contracts is generally 3 to 5 years. So, we're being as aggressive as we can to work through them as quickly as we can. But I don't know that the additional headwind, it might help the conversation with some of our customers, but I wouldn't say aside from that, that it's going to accelerate just based on the further commodity price decline.
Okay. So now I have to switch gears to ADE to SW for just a second. If I can read all the legalese and I'm in the document, you've got this you've talked about breakup fees in 2 places. You talked about the $200,000,000 of asset sale potential. Just to be clear, do I understand the writing correctly that even if you decided to walk away because it was more than $200,000,000 you'd still have to pay $150,000,000 breakup fee?
That's right.
Okay. I just it's the lawyers ought to get paid extra for how confusing they wrote all Okay, that helps.
And then, I think an important comment would be, one way
to think of this is, sorry, so you're around $15,000,000,000 there about $1,600,000,000 let's say it's $200,000,000 so it's $1,400,000,000 so that's kind of a 9% growth rate. But more importantly, you're telling me you add 3,000,000 customers. If I remember correctly, you have $22,000,000 so that's a 14% increase in the customer growth all in one fell swoop.
Well, that's why I talked about the fact that this isn't really, you could try and go do this organically. It just would take you forever to do it. So it gives us the ability to pick up a company that is very similar to us culturally at what I mentioned earlier, a multiple that's very attractive, particularly when we factor in the synergies. And it gives us the ability to bring those processes and new technologies, data and analytics, differentiated customer focus, all that stuff, to these 3,000,000 customers very quickly.
But I'm right, it's about a 14%. You heard about 22,000,000, right?
Yes, 20, probably 20. Okay.
All right. Well, so now it's 15%. So that's a huge customer growth fast, which is really the essence of this.
That actually goes back to Jim's comment earlier on the difference in the mix of business because customer count is higher in the collection line of business than on the landfill side of the business. And so, but your point is exactly right. And that's one of the reasons that this deal is so exciting for us because it's about extending our customer focus and our use of technology to a broader customer base.
Well, and because of the collection layer of them higher, the density play of I mean, it's just now hundreds of little tuck ins in a sense at the local level for you. And it's the classic route rationalization and customer overlay. That's what we get to look for eventually.
We're certainly optimistic about all of the opportunities that we have in front of us for the transaction. And I think we've discussed it well and those synergies that we've talked about include how we're thinking about the operating efficiency opportunities that are in front of us.
Yes. I mean, to the extent that
it doesn't affect every single market, then yes, I mean, it is somewhat similar, I mean, much bigger, but somewhat similar to tuck ins. I mean they're really John, I think there's 9 markets that it even touches out of 2017 and It's got a piece of footprint in 9 markets. I mean there's overlap in all places. I think the main point I made earlier, which is that it's that there are a lot of dots on the map east of the Mississippi between the two companies. But the preponderance of them are in these heavily competitive markets.
So there's no shortage of competition where these two companies operate.
Yes. You'll pay the $500 an hour lawyers to figure out how to talk to the Justice Department into what the size of the market is and that will all work itself out. At the end of the day, it's a 14%, 15% increase in the customer growth all in one fell swoop. That's huge.
I think they're more than $500
Okay. Last question for me is whatever the leverage is increased or debt is going to be for this, basically I can look at the interest expense approximately being offset by the $100,000,000 in savings. So that kind of washes itself out. I start with your $2,050,000,000 midpoint of 2019 cash flow at $140,000,000,000 is what Advanced is, pick up $100,000,000 on recycling potentially not all at once, but I get it eventually. So we're really talking about a company that should be sitting here looking at about a $2,300,000,000 free cash flow number and then some sustainable organic growth.
It's too early for us to get a new baseline free cash flow number, but we appreciate the effort that you've taken to help us bridge from where we are today. It will help us with our
planning process.
But I would tell you that our cost of capital, I think, is better than what you just outlined. We're optimistic that we're going to be able to pull in a nice return on the ADS business immediately and our cost of capital is actually one of the things that makes this deal so attractive.
Yes, but you are going to add more debt. So it's just going to end up increasing your interest expense about the amount
of $100,000,000
It's certainly going to add more debt, but that incremental debt cost is nothing compared to the incremental cash flow and synergy value that we're looking at bringing on.
Okay. All right. Thanks very much. See you guys in a couple of weeks.
Thank you. Thank you.
Thank you. Our next question comes from Scott Levine with Bloomberg Intelligence. Your line is open.
Hey, good morning guys.
Good morning. Good morning, Scott.
So I actually wanted to ask about Petro Waste a little bit. And I was hoping you might be able to elaborate a little bit and remind us about the size of your energy waste footprint right now. What attracted you to that opportunity at this point in time And maybe elaborate a little bit more on your strategy and any plans to grow that business maybe outside of Texas, which I think is the primary focus for the acquisition you just made there?
Yes. So at its peak and I'm talking kind of 2014, 2015 that energy services business, which was largely just grown organically was in the $200,000,000 to $250,000,000 in revenue range. And of course, that trailed off considerably with the drop in oil prices. It has returned maybe not to that peak, just and of course, oil prices haven't gotten back to where they were there either. But, the business has grown nicely over the last 2 years.
So 2017 to 2018 and then again 2018 and so far in 2019. The Petro Waste acquisition really for us is very strategic, particularly as it relates to geography. I mean, if you're going to be in this, if you're going to make a commitment to be in this energy services space, you have to be in the big guy, which is the Permian Basin. And we had a very small presence in the Permian Basin. This gives us a much more important presence in Permian.
It's largely landfills as we talked about, I think, last quarter. It's largely a landfill acquisition. So we look at it as being core. It's core to what we do every day. And so we're very good at it.
And so we're feeling confident that this business will immediately be accretive for us. But we when we bought it, we recognized that because it's in an area that we really didn't have landfills at all, that it would have to survive based on, the or it'd have to be purchased based on the fact that it was a reasonable multiple, not one that is supplemented by synergies. There really weren't any synergies with it. So it's a we're very confident that we got it at a good price, that it's right down the middle of the fairway for us in terms of landfilling and it's in the best, location if you're going to be in this space in the United States. I think, Jim, I would add too.
I mean, we've been in the energy space for a handful of years now. And I think even outside, we've got the resources within the organization already to really go after and address a lot of the customer needs out there because we've serviced a lot of those same type customers in other geographies.
Got it. And just to make sure I understand correctly, I think you said, for the balance of this year, the focus on acquisitions was strictly tuck ins out in solid waste outside of the advanced disposal regions. Did I hear that correctly? Or would that would you still be interested in other opportunities, call it outside of solid waste, whether it be energy waste or otherwise, as you await approval and completion of the ADSW merger?
So I actually think, you've summarized it well from the perspective of tuck in acquisitions outside of the markets that ADS covers. But we are certainly continuing to be interested in deals similar to the Petro Waste acquisition that we did in the Energy and Environmental Services space. We view that as core business for us. So we're not limiting our pursuit of acquisitions to just traditional solid waste. We're looking holistically on the traditional solid waste side, though we are specifically looking at markets outside of the ADS market.
Got it. Thanks. Appreciate the time guys.
All right. Thank you very much.
Thank you. And I'm not showing any further questions at this time. I would now like to the call back over to management for any closing remarks.
Great. Thank you
very much. In closing, I just want to say that we're really pleased with the efforts of this entire Waste Management team. For quarter after quarter, they do a fantastic job of focusing heavily on the customer, standing behind our commitment to our digital technology now and executing on the overall strategy of continuous improvement and differentiation. This is truly a team effort and I think it really shows. And with that, I think we're very excited to add the Advance folks to our team in the near future.
Thank you all for joining us today and we'll talk soon.
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