Republic Services: Wonderful Business, But Wait For Sentiment To Go To The Dump (NYSE:RSG)
Republic Services (RSG) is one of the largest players in the waste collection and landfill space. The sector is far from being “sexy” like cutting edge technology or software; however, as long as we still create trash, we’ll need someone to pick it up and haul it away.
Republic Services does over 5M average pickups per day across 41 states and Puerto Rico. Aside from the collection and hauling, Republic Services also owns 189 landfills, with 75 landfills outfitted with energy production processes. Republic Services also makes money from the recycling centers as well.
Dividend History
The investment strategy that most appealed to me when I first began investing was the dividend growth strategy. In a nutshell, you’re looking for quality businesses with a history of paying and growing dividends that you believe can continue to do so into the future.
Image by author; data source Republic Services Investor Relations
According to the CCC list, Republic Services is a Dividend Contender with 18 consecutive years of dividend growth. Their streak started in 2003 and has carried on every year since through both the financial crisis of 2008/2009 as well as the recent COVID-19-induced shutdowns.
Dating back to 2003 when Republic Services initiated their dividend, year-over-year dividend growth has ranged from 1.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} to 66.7{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} with an average of 15.0{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and a median of 8.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
Over that same time, there have been 14 rolling 5-year periods with annualized dividend growth ranging from 6.6{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} to 34.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, with an average of 12.9{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and a median of 8.0{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
There have also been 9 rolling 10-year periods, and Republic’s annualized dividend growth has ranged from 7.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} to 19.7{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, with an average of 11.5{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and a median of 10.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
The following table shows the 1-, 3-, 5- and 10-year rolling period annualized dividend growth rates since Republic Services initiated a dividend in 2003.
| Year | Annual Dividend | 1 Year | 3 Year | 5 Year | 10 Year |
| 2003* | $0.160 | ||||
| 2004 | $0.200 | 25.00{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |||
| 2005 | $0.333 | 66.65{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |||
| 2006 | $0.387 | 15.99{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 34.19{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | ||
| 2007 | $0.490 | 26.77{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 34.82{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | ||
| 2008 | $0.700 | 42.83{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 28.06{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 34.34{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |
| 2009 | $0.760 | 8.57{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 25.27{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 30.60{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |
| 2010 | $0.770 | 1.32{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 16.25{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 18.23{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |
| 2011 | $0.820 | 6.49{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 5.42{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 16.23{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |
| 2012 | $0.895 | 9.15{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 5.60{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 12.80{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | |
| 2013 | $0.965 | 7.82{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.81{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 6.63{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 19.69{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2014 | $1.060 | 9.84{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 8.93{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 6.88{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 18.15{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2015 | $1.140 | 7.55{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 8.40{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 8.16{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 13.09{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2016 | $1.220 | 7.02{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 8.13{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 8.27{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 12.18{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2017 | $1.305 | 6.97{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.18{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.83{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 10.29{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2018 | $1.410 | 8.05{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.34{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.88{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.25{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2019 | $1.530 | 8.51{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.84{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.62{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.25{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2020 | $1.640 | 7.19{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.91{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.54{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.85{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 2021** | $1.700 | 3.66{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 6.43{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 6.86{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.56{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
Table by author; data source Republic Services Investor Relations
*In 2003 Republic Services initiated their dividend paying one $0.04 payout. Values are adjusted to annualize the dividend to normalize the subsequent dividend growth rates.
**2021’s dividend total assumes 3 additional payments of $0.425 will be made throughout the fiscal year.
The payout ratio can be used to understand how risky the dividend could be. All else being equal, a lower payout ratio is better than a higher one because, inevitably, the economy will run into issues, or the company will have localized issues with operations. It’s that gap between the dividend payment and the underlying cash flows that can allow the dividend to be not only maintained but even increased in the face of short-term headwinds.
Image by author data source Republic Services SEC filings
Republic’s 10-year average net income payout ratio is 54{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, with the 5-year average at 49{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}. Likewise, the free cash flow payout ratio has averages of 48{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and 46{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, respectively. Republic’s payout ratios, both on net income and free cash flow, have been quite steady over the last decade, and given the stability of the business, the dividend is safe.
Quantitative Quality
Image by author; data source Republic Services SEC filings
Republic has grown revenues 27{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} in total over the last decade or 2.7{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} annualized. Gross profits have lagged behind revenue growth climbing just 20{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} or 2.0{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} annualized over that same time frame with operating income trailing further behind at just 15{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} total growth or 1.6{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} annualized.
However, operating cash flow has shown significant improvements growing 64{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} over the last decade, which works out to 5.7{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} annualized. Free cash flow has shown drastic improvements with 79{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} growth in total or 6.7{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} annualized.
Image by author; data source Republic Services SEC filings
Republic’s gross profit margins have been getting squeezed declining from 41.2{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} in FY 2010 to 38.8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} for FY 2019. The 10-year and 5-year average gross margin is 38.8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
I want to see free cash flow margins greater than 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, and Republic Services hasn’t consistently reached those levels. That 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} level is not a strict threshold as I place greater importance on whether margins are stable or increasing compared to the absolute margin level. Over the last decade, Republic Services has averaged a 9.1{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} FCF margin, with the 5-year average right at 10.0{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
My preferred profitability metric is the free cash flow return on invested capital, “FCF ROIC”. The FCF ROIC represents the annual excess cash return the business generates based on the capital invested in the business.
Image by author; data source Republic Services SEC filings
Republic Services’ FCF ROIC has been trending in the right direction; however, it’s still well below the 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} level that I like to see from the businesses that I own. The 10-year average FCF ROIC is 5.4{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, with the 5-year average at 6.1{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
To understand how Republic Services uses its free cash flow, I calculate three variations of the metric, defined below:
- Free Cash Flow, FCF: Operating cash flow less capital expenditures
- Free Cash Flow after Dividend, FCFaD: FCF less total cash dividend payments
- Free Cash Flow after Dividend and Buybacks, FCFaDB: FCFaD less cash spent on share repurchases
I want to invest my capital into businesses that ample cash flow to support the entire capital allocation process from reinvesting in the business, paying a dividend, reducing debt, repurchasing shares and so on.
Image by author; data source Republic Services SEC filings
As we saw earlier, Republic Services has generated positive FCF each year of the last decade, producing a total of $8.31 B in FCF over that time. Of that $8.31 B in FCF, management has sent $3.87 B out to shareholders via rising dividend payments, which puts the 10-year cumulative FCFaD at $4.43 B.
Management has spent $4.00 B of that FCFaD repurchasing shares over the last decade. In total, Republic Services has a 10-year FCFaDB of $0.43 B.
When done at reasonable valuations, share repurchases can be a great way for management teams to return excess cash to shareholders. Republic Services has been funneling most excess cash flow after paying the dividend back to investors via share repurchases.
Image by author; data source Republic Services SEC filings
The share count has been steadily falling, thanks to the consistent buybacks. Republic Services shares outstanding stood at 385.1 M at the end of FY 2010 and, by FY 2019, were at 322.0 M. That’s a total decrease of 16.4{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} or ~2.0 annualized.
When investing in the equity portion of a business, the balance sheet is very important to examine since the equity stake is most at risk in the event of extreme circumstances. With respect to the debt-to-capitalization ratio, I’m most concerned about the trend in debt levels in terms of the capital structure as opposed to the actual proportions.
Image by author; data source Republic Services SEC filings
Over the last decade, Republic Services’ debt-to-capitalization ratio has been very steady. The 10-year average debt-to-capitalization ratio is 49{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
While the capital structure is important, I focus more on the debt ratios across a variety of income/cash flow metrics. This helps me to see just how leveraged the business is and how quickly the de-levering process could go if necessary.
Image by author; data source Republic Services SEC filings
Republic Services’ debt ratios are quite elevated, although due to the stability of the business model being a quasi-utility, elevated ratios can be supported. However, it is an important risk to keep in mind should the cost of debt materially increase. The 10-year average net debt-to-EBITDA, net debt-to-operating income, net debt-to-FCF, and net debt-to-FCFaD levels are 3.0x, 5.0x, 9.3x, and 18.2x, respectively.
Valuation
I like to use a variety of methods to value a potential investment. The methods I use are the minimum acceptable rate of return (MARR), dividend yield theory, and a reverse discounted cash flow to get a general sense of the expectations built into the share price.
The MARR analysis requires you to estimate the future earnings and dividends that a business will generate, apply a reasonable exit multiple on those earnings, and then, determine if the expected return surpasses your minimum threshold for investment.
Analysts expect Republic Services to report FY 2020 EPS of $3.38 and FY 2021 EPS of $3.72. Analysts also expect Republic Services to show 8.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} annual EPS growth over the next 5 years. I then assumed that Republic Services could show 5.0{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} EPS growth for the following. Dividends are assumed to target a 47.5{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} payout ratio.
For the realistic exit multiple, I like to get a sense of how market participants have historically valued Republic Services’ EPS. As you can see in the following YChart, Republic Services has typically traded between ~16x and ~30x TTM EPS. For the MARR analysis, I’ll examine exit multiples spanning that range.
Data by YCharts
The following table shows the potential IRR’s that an investment in Republic Services could generate, provided the assumptions laid out above are relatively close to the actual future results. Returns include dividends taken in cash and are based on a purchase price of $97.04, Friday’s closing price.
| IRR | ||
| P/E Level | 5 Year | 10 Year |
| 30 | 11.2{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 9.1{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 25 | 7.5{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 7.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 22.5 | 5.4{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 6.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 20 | 3.1{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 5.2{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 17.5 | 0.5{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 4.0{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
| 15 | -2.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} | 2.6{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} |
Alternatively, I invert those calculations to determine what price I could pay to generate the returns that I desire from my investments. My standard hurdle rate is 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, and for Republic Services, I’ll also examine 9{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} hurdle rates.
| Purchase Price Targets | ||||||
| 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} Return Target | 9{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} Return Target | 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} Return Target | ||||
| P/E Level | 5 Year | 10 Year | 5 Year | 10 Year | 5 Year | 10 Year |
| 30 | $103 | $91 | $108 | $98 | $113 | $107 |
| 25 | $87 | $78 | $91 | $85 | $95 | $92 |
| 22.5 | $80 | $72 | $83 | $78 | $87 | $84 |
| 20 | $72 | $65 | $75 | $71 | $78 | $77 |
| 17.5 | $64 | $59 | $66 | $64 | $69 | $69 |
| 15 | $56 | $53 | $58 | $57 | $61 | $62 |
Dividend yield theory is built on the concept of reversion to the mean in that, a stable business without significant changes to the business model will trade around a normal dividend yield level. For Republic Services, I’ll present the 5-year average dividend yield as a proxy for the fair value of the equity stake.
Image by author; data source Republic Services Investor Relations and Yahoo Finance
Shares currently yield 1.75{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} compared to the 5-year average dividend yield of 2.09{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
I use the reverse discounted cash flow analysis to try and get a glimpse at what the current share price implies about the future growth of the business. Instead of working forward, it’s a way to reverse-engineer what would need to happen in order to support the current share price in the market.
The reverse DCF model that I use is built on revenue growth, a tax rate of 21{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, a static EBIT margin of 16.9{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, and one that improves by 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} to 18.6{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} over the forecast period. In order to determine the share price, I use hurdle rates of 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}.
Republic Services needs to manage 4.8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} revenue growth over the forecast period in the static EBIT margin scenario with the 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} hurdle rate in order to support the current share price. With the 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} hurdle rate and EBIT margin improving to 18.6{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} scenario, the required revenue growth declines to 4.3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}. For the same scenarios, but using a 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} discount rate, the required revenue growth increases to 8.1{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} and 7.6{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060}, respectively.
Conclusion
Republic Services is a great business that I fully expect will still be around decades from now. I expected that Republic Services would have higher FCF ROICs than they do; however, the trend is in the right direction. My biggest gripe with the financials is the leverage that they have taken on; although, given the stable nature of the business, it’s an acceptable risk and one that wouldn’t preclude me from investing.
As long as Republic Services can get rooted into high or growing population centers, the business will continue to perform well. The industry is very fragmented with the small collection services, and I would expect Republic Services to continue with the acquisition strategy when the purchases make sense to expand their collection network.
Dividend yield theory suggests a fair value range for Republic Services between $74 and $90. The MARR analysis with the 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} hurdle rate implies a fair value range between $72 and $85, with the 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} hurdle rate fair value range between $84 and $99.
The reverse DCF doesn’t necessarily throw up any red flags, although it does suggest that roughly 8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} returns are more likely than 10{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} returns from current prices.
You can use a back of the envelope calculation to determine the compounding rate of the business using a rough estimate of the ROIIC and retained earnings. For Republic Services, the compounding rate of the business appears to be in the 6-8{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} range.
My long-term expectation would be for revenue growth in the 2-3{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} range annually barring acquisitions, pushing net income growth up to the 4-5{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} area annually with share buybacks adding roughly from 1{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} to 2{d94688fcc9d26153d75c1af05479ec79d16610d45cf208ccd1d171e769e5c060} on top of that. That’s not a bad spot to be in, with acquisitions potentially being the cherry on top.
Republic Services, the business, is intriguing to me; however, Republic Services, the stock, is a pass at this time. If the share price pulled back into the mid-$80s, I would start getting interested in adding shares to my portfolio. While Republic Services does trade at a premium valuation, I think the business model is one that you can pay up for, given the stability of the business and the consistent growth.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in RSG over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am not a financial professional. Please consult an investment advisor and do your own due diligence prior to investing. Investing involves risks. All thoughts/ideas presented in this article are the opinions of the author and should not be taken as investment advice.