Last week, Waste Management (WM) reported decent second-quarter results that showed both top-line and adjusted earnings expansion. Though we plan to revisit our valuation model on the firm, any fair value estimate change will not be material.
The trash taker's revenue expanded 3.3% in the second quarter from the same period a year ago thanks to a 2.8 percentage point contribution from all-in pricing and the balance coming from volume. The company faced headwinds in its recycling operations as average recycling commodity prices dropped 20% in the second quarter versus the same period last year. Electricity prices also mitigated profits from its waste-to-energy operations. We don't expect commodity and electricity price trends to reverse during the back half of the year. Still, we were content with seeing both pricing and volume advance in the quarter.
The company reported adjusted earnings of $0.52 per share, which was modestly better than last year, after excluding $32 million of after-tax costs, namely charges related to asset impairments and restructuring charges. Though the garbage hauler showed an improved ability to manage overhead expenses (SG&A expenses) during the period, the company's operating margin fell to 14.5% from 15.1% in the same period a year ago. To deal with its rising cost structure, the firm announced a reorganization plan to improve operating margins 100 basis points during 2013 that centers on eliminating roughly 700 employee positions. Though profitability was pressured in the quarter, Waste Management continues to do a nice job pulling in cash. Net cash from operating activities totaled $669 million during the period, while free cash flow amounted to $332 million, or 9.6% of quarterly sales.
Looking forward, Waste Management expects earnings per share for the year to be in the range of $2.15 and $2.20, and we think the lower end of this range is probably more feasible given commodity price trends at its recycling and waste-to-energy operations. For 2012, the firm thinks free cash flow will be in the range of $1.1 billion and $1.2 billion, a target that is certainly achievable, in our view.
We prefer Republic Services (RSG) to Waste Management and smaller peer Waste Connections (WCN), but view the municipal solid-waste industry as a steady-eddy way to gain exposure to some of the strongest and most stable companies. Republic is a holding in the portfolio of our Best Ideas Newsletter (please see links on left sidebar for more information), and we continue to keep a close eye on Waste Management and Waste Connections for attractive entry points.
Additional disclosure: RSG is included in our actively-managed portfolios.