Moats that matter
Heritage-Crystal Clean, Inc. (NASDAQ:HCCI) is the second largest provider of parts cleaning services in North America, and also the second largest re-refiner in the U.S, behind Safety-Kleen. But market share may not count for much, when new entrants can gain a foothold in the industry easily. That is where barriers to entry are important. Route density is an important profit driver for companies in the industry, and it will require significant effort and time for competitors to build a branch service and transportation network of the same scale as Heritage-Crystal Clean, Inc. (NASDAQ:HCCI). Heritage-Crystal Clean currently operates from more than 70 branches servicing 42 states, and opened three new branches in the beginning of 2013.
In addition to the huge capital outlay involved in building used oil re-refining plants and supplying parts cleaning equipment, environmental permits or approvals are also required for some of Heritage-Crystal Clean, Inc. (NASDAQ:HCCI)’s operations, such as those regulating the level of emissions. This is also precisely why companies have to outsource waste treatment and disposal services to service providers such as Heritage-Crystal Clean, since it is for difficult for them to meet such stringent requirements demanded by regulators.
Growth drivers
Heritage-Crystal Clean, Inc. (NASDAQ:HCCI) has different strategies in place to grow its used oil re-refining and environmental services businesses respectively.
It plans to increase its oil re-refining capacity to capitalize on the huge used oil industry re-refining opportunity. According to an article which referenced a Used Oils and Re-refined Lubricants report published by Kline, increased collection volumes and improvements in re-refining technology are expected to drive an increase in re-refining capacity in the United States from less than 0.8 million metric tons per year in 2012 to more than 1.2 million metric tons by 2017.
For its environmental services business, Heritage-Crystal Clean, Inc. (NASDAQ:HCCI) plans to grow by widening its service offerings, as it is usually much easier to sell new products to old customers, than to win new customers. According to its 2012 Fourth Quarter Conference Call, only slight more than half of Heritage-Crystal Clean’s branches offer vacuum truck services, offering the opportunity for it to cross-sell these services to its existing customers.
Peer comparison
Heritage-Crystal Clean, Inc. (NASDAQ:HCCI)’s peers include Clean Harbors and Progressive Waste Solutions.
Clean Harbors acquired 100% of the common shares of Safety-Kleen in December 2012, which is Safety-Kleen Heritage-Crystal Clean’s largest competitor in areas such as parts cleaning and oil re-refining. Most of the key management personnel at Heritage-Crystal Clean, Inc. (NASDAQ:HCCI) have previously worked at Safety-Kleen, including Heritage-Crystal Clean’s CEO and President Joseph Chalhoub, who was formerly President of Safety-Kleen, bringing with them valuable experience to Heritage-Crystal Clean, Inc. (NASDAQ:HCCI).
Progressive Waste Solutions provides non-hazardous solid waste collection and disposal services to both corporate and residential customers in United States and Canada. It is taking advantage of the fragmented nature of the solid waste services industry by expanding through acquisitions; it completed 19 and 14 acquisitions in 2012 and 2011 respectively.
Based on Yahoo Finance data, Heritage-Crystal Clean is trading at a premium over its peers with a trailing twelve months EV/EBITDA of 18. Comparatively, the other stocks in the peer group are valued by the market at 8-12 times EV/EBITDA. Despite having the strongest balance sheet of the four stocks with a low gearing of 14%, it also delivered the lowest trailing twelve months ROA of 1.7%. In comparison, Clean Harbors, which owns Heritage-Crystal Clean’s largest competitor, Safety-Kleen, achieved a ROA of 4.4% and trades at 12 times EV/EBITDA.
Clean Harbors also delivered a net profit margin of 5.9% for the last twelve months, compared with 0.9% for Heritage-Crystal Clean, reflective of the disparity in size and market share between the two. Safety-Kleen is estimated to have more than half the market share of the parts cleaning and used oil re-refining markets, according to Clean Harbors’ recent 1Q2013 earnings conference call.
Conclusion
Investors should consider invest in a cheaper and larger waste services player such as Clean Harbors, as an alternative to the more expensive Heritage Crystal-Clean.
The article This Stock Is Not Justified Trading At A Premium To Its Peer originally appeared on Fool.com.
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