Services of the Republic (NYSE: RSG) shows that a big operator in the garbage industry doesn’t have to be an investment in garbage. Over time, Republic Services has grown into a huge national, integrated provider of such environmental services. services, delivering great value to investors along the way.
While investors have had a great run and there are still plenty of opportunities for consolidation going forward, I’m afraid the risk-reward ratio at these valuations just isn’t compelling enough for me here.
Republic Services provides essential environmental services in what is a huge and growing services industry worth over $90 billion according to the company itself. This huge market opportunity and fragmented operations provide the company with continued opportunities to consolidate and grow further.
The predictability of the business is impressive, driven by a stable revenue base with 80% of the business being an annuity business. The company itself is also extremely diverse. Small containers account for nearly a third of sales, residential and transfer & landfill each account for 20% of sales, while environmental solutions, recycling and large temporary and recurring containers make up the rest of the business.
The company holds leading positions in the markets in which it operates, is highly vertically integrated, as strong operating processes result in exceptional service and efficiency, despite the size of the business. Apart from the garbage business, the company plays a huge role in sustainability efforts, as the company operates many recycling services and is involved in major renewable energy projects.
Thoughts on evaluation
Being able to buy a reliable and predictable operator doesn’t come cheap. The company generated $11.3 billion in revenue in 2021, up 11% from the prior year. The company is incredibly profitable as it posted an operating profit of nearly $2.1 billion out of which a net profit of $1.3 billion was reported. Those earnings equal $4.05 per share based on a stock count of 318 million shares, with adjusted earnings close to the same number at $4.17 per share.
With shares trading at $135 at the end of 2021, the company has achieved an equity valuation of $43 billion, a figure that rises to almost $53 billion when taking into account the net debt of $9.5 billion (because that even excludes some environmental costs). Net debt expense (based on net financial debt) was approximately 3 times EBITDA of $3.2 billion. Needless to say, valuations were high at 32 times adjusted 2021 reported earnings. Based on 2022 earnings guidance of $4.58 to $4.65 per share, multiples fell to around 31 times earnings .
Needless to say, these are high valuations. Based on the business valuation, the company was valued at 4.7x sales, over 16x EBITDA, 32x earnings and a slightly lower forward earnings multiple. A dividend of nearly $2 per share offers a modest dividend yield because Republic is not about dividends, but rather about the continued consolidation of this fragmented market.
A big deal
Like the rest of the market, shares fell to $115 in February amid worries about the economy and inflation, but stocks have now rallied and are trading near their highs again at $135 per share.
Indeed, it was the day before the publication of the 2021 results that the company announced its intention to acquire American Ecology (ECOL) in a deal valued at an enterprise valuation of $2.2 billion. The deal is relatively small as the purchase price equates to 4% of Republic Services’ enterprise value, as the deal gives the company greater exposure to waste treatment, recycling and disposal. dangerous and non-dangerous goods.
The deal is expected to add $968 million in revenue, revealing only a multiple of 2.3 times sales has been paid. On the other hand, the company is much less profitable with an EBITDA of $156 million reduced to a multiple of 14, as this comes after Republic paid a large premium for US Ecology.
Based on those multiples, the deal seems fair, because that’s before factoring in $40 million in synergies that are easily worth half a billion in value, if they are to be realized. Still, the overall deal is relatively weak for the Republic, so no major backlash is seen in response to the deal of course. Pro forma net debt will increase to $11.7 billion as leverage ratios increase to 3.4x based on pro forma combination EBITDA figures.
Amidst all these moving parts, I can’t help but feel the need to be cautious, despite the long-term track record and future growth opportunities. Republic trades at 29 times forward earnings, is a stable growth play, and has some leverage, but that’s outweighed by the fact that it’s a predictable company with stable cash flow.
Nevertheless, in this rapidly rising interest rate environment, I am very cautious about paying multiples with a handful of high twenty. Therefore, I think I still view Republic as a great long-term value-creating play, but the valuation multiples here leave me with no compelling risk-reward to initiate a position at this time.