One man’s trash is another man’s treasure explains the profit model for Republic Services, Inc. (NYSE:RSG). Republic Services, the second-largest provider of non-hazardous, integrated solid-waste management services in the United States as measured by revenue.
Revenue and consolidation
The solid-waste industry is a mature market, and Republic Services has a mature business and financial strategy to stay competitive. Republic Services, Inc. (NYSE:RSG) generates stable revenue, as a large portion of its income is under multi-year contracts. However, there is other revenue generated in an open market, which is subject to the impact from the economic cycles.
Thus, as the economy continues to improve, the company is expected to benefit from higher volume with little variable costs, improving the bottom line. On the other hand, the industry continues to consolidate, and Republic Services plans to spend around $100 million plus annually on acquisitions, which will help grow the top line by about 1% a year.
Growth strategy and correlation
While the waste stream is growing, the main growth comes from recycling. As such, Republic Services continues to build its infrastructure for recycling. Since Republic Services is vertically integrated, it has an edge in small- and mid-markets, which have higher margins as compared to other large urban markets with stronger competition.
There is a strong correlation between Republic Services, Inc. (NYSE:RSG)’s historical volume growth and the housing starts figure, where Republic’s volume performance lags by one year. This can be understood with a ripple effect following house formations. Thus, housing starts can be used as a good predictor of future volume growth in the industry.
Stable cash flow and cash return
The company has a consistent capital spending ratio, which is about 10% of revenue. With its $100 million per year acquisition spending, Republic Services, Inc. (NYSE:RSG) still has plenty free cash flow to return to shareholders via a combination of share repurchases and dividends with a 50-50 mix. As the cash flow continues to grow, the company is well positioned to increase its payout.
Competition
Waste Management, Inc. (NYSE:WM), the largest integrated waste services provider in the United States, does not follow the same expansion strategy as Republic Services. Waste Management does not plan to spend heavily in acquisitions. Instead, it is expanding into the waste-to-biofuel market.
The company also focuses on yield management and operational costs as well as efficiency improvements to counter volatile commodity prices. Waste Management has returned $170 million to shareholders through its first-quarter dividend and continues to maintain a steady cash flow.
On the other hand, Waste Connections, Inc. (NYSE:WCN), a smaller integrated waste management services provider in North America, has combined the resilience and predictability of the solid waste business with the potential higher growth of an evolving E&P waste business.
In 2012, Waste Connections expanded its presence within exploration and production (E&P) waste treatment, recovery and disposal services through the acquisition of R360 Environmental Solutions. The company is expected to achieve double-digit growth in revenue, adjusted EPS and free cash flow, as projected by the management.
Bottom line
Republic Services, Inc. (NYSE:RSG) continues to boost its top line growth via its strong acquisition strategy. As the housing market continues to improve in the United States, more volume growth is expected for Republic Services. Overall, Republic Services is expected to generate stable cash flow consistently and increase its top line revenue via its well-executed growth strategies.
Nick Chiu has no position in any stocks mentioned. The Motley Fool recommends Republic Services and Waste Management. The Motley Fool owns shares of Waste Management.
The article From Trash to Treasure, This Company Provides Stable Cash Flow originally appeared on Fool.com.
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