Waste Connections, Inc. Q2 2008 Earnings Call Transcript

Jul.23.08 | About: New Waste (WCN)

Waste Connections, Inc. (NYSE:WCN)

Q2 FY08 Earnings Call

July 23, 2008, 08:30 AM ET

Executives

Ronald J. Mittelstaedt - CEO

Worthing F. Jackman - EVP and CFO

Analysts

Scott Levine - JPMorgan Chase & Co.

William Fisher - Raymond James & Associates

Jonathan Ellis - Merrill Lynch

Corey Greendale - First Analysis Securities

Leone Young - Citigroup

Brian Butler - Friedman, Billings, Ramsey Group

Operator

Good day ladies and gentlemen, and welcome to the Second Quarter 2008, Waste Connections Earnings Call. My name is Choresa and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. [Operator Instructions].

I would now like to turn the presentation over to your host for today's call Mr. Ron Mittelstaedt. Please Proceed.

Ronald J. Mittelstaedt - Chief Executive Officer

Okay. Thank you operator and good morning. I like to welcome everyone to our conference call to discuss second quarter results and provide our detailed outlook for Q3. We'll also review recent financing that position us with about $500 million of available capital with access to more if necessary for a potential pickup in acquisition activity expected later in the year. As I'll comment on in the call, this expected acquisition growth is driven by private company opportunities, potential divestitures from public mergers is an addition to these private opportunities.

I'm joined this morning by Steve Bouck, our President; Worthing Jackman, our CFO and several other members of our senior management team.

As stated in our earnings release, we remain extremely pleased with our performance in 2008. Although a weakening economy and rapid escalation in fuel costs have impacted us, we would note the following.

Revenue has met our expectations. Strong pricing and operating improvements have helped us to get a jump on spiraling fuel costs. Although we expect recovering such a spike to get more difficult in the second half of the year until franchise market prices reset early next year. And finally, free cash flow is up more than 50% year-over-year and has exceeded our expectation. At the risk of sounding like a broken record, we believe spiraling fuel cost continues to math the underlying strength of our core business.

Diesel prices in Q2 jumped on average about 55% per gallon over last year and increased as a percent of revenue by about 285 basis points. Acquisitions completed since the year ago period accounted for about another 15 basis points of margin dilution in the quarter. With reported margins in the quarter down only 100 basis points, we overcame 200 basis points of this 300 basis point increase in cost. This recovery is almost a 50 basis point sequential improvement over Q1 '08, where we were able to recover about 150 basis points of the 215 basis point impact of similar items in that period. Before we get into additional details, let me turn the call over to Worthing for our forward-looking disclaimer and other housekeeping items.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Thank you, Ron and good morning. We must inform everyone listening that certain matters discussed in this conference call are forward-looking statements intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to various risks and uncertainties, which could cause actual results to differ materially from those currently anticipated. These risks and uncertainties are set forth in the company's periodic filings with the Securities and Exchange Commission. Shareholders, potential investors and other participants are urged to consider these factors carefully in evaluating the forward-looking statements, and are cautioned not to place undue reliance on such forward-looking statements.

The forward-looking statements made herein are made only as of the date of this conference call and the company undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances.

On the call, we refer to operating income before depreciation and amortization and free cash flow, each a non-GAAP measure. Management uses these non-GAAP measures as to the principal measures to evaluate and monitor the ongoing financial performance of our operations. We define operating income before depreciation and amortization to exclude any gain or loss on disposal of assets. Free cash flow is defined as net cash provided by operating activities, plus or minus any changes in book overdraft, plus proceeds from the disposal of assets and excess tax benefits associated with equity-based compensation, plus capital expenditures and distributions to minority interest holders. Where appropriate, we will highlight particular items in certain periods to improve comparability. Finally, we note that, other companies may calculate these non-GAAP measures differently.

Now, I'll turn the call back over to Ron.

Ronald J. Mittelstaedt - Chief Executive Officer

Okay. Thank you, Worthing. As previously stated, we remain extremely pleased with our results in the quarter. Revenue was $260 million, up 10.8% over the prior year period and consistent with our outlook for the quarter. Organic growth was 4.6%, was broken down as follows, 5.4% price and negative 1.5% volume and a positive 0.7% for recycling, intermodal and other services.

Pricing in the quarter increased 10 basis points sequentially from Q1. Core pricing was about 3.7% which although is down about 40 basis points from Q1, it's virtually flat on a dollar basis from Q1. This decline on a percentage basis is simply due to a higher denominator revenue base pumped in the quarter, since Q2 '07 revenue was about 10% higher than Q1 '07. Surcharges in selected markets due spikes in certain costs such as fuel, increased sequentially from 1.1% in Q1 to about 1.7% in Q2, due primarily to spiraling fuel cost.

We expect pricing to increase slightly in Q3, to and all end 5.5%. Diesel fuel prices have made two runs so far this year. One increase of about $0.70 per gallon between January and April, and then a second more rapid move of another $0.70 per gallon from mid-April to late May. Just as we had caught up on the first increase, the rapid escalation in May created a steeper [inaudible] decline. To assess how much of the spike in fuel and related costs, we've been able to recover considering our market model, we looked at the expected amount of core pricing and surcharges above budgeted levels relative to expected fuel costs, above budget. What we found was not surprising as it looks like we're recovering up to 65% of the increase within calendar '08 at current market prices.

The rate of escalation in diesel pricing has slowed for now, but average diesel prices have settled into a range between 465 per gallon and 470 per gallon, since the second half of May. If it stays at this level for the remainder of the year, we would incur about $20 million above budgeted fuel costs for the year, as we had originally budgeted approximately 330 per gallon. Increased core pricing and surcharges above budgeted levels expected to be realized for the full year are projected to recover about $13 million or 65% of this cost increase during the year.

The lag inhered in our strategy for recovering such increases should catch up in '09 and lead to a continuing strong pricing environment. As a reminder, our recovery of such a spiking cost is more of a timing issue, as whatever costs we can't recover in the current year, we should recover in a future period once we lap the lag in resetting prices within our exclusive markets. Our ability to fully recover this cost spike and to begin to make up the margin impact is dependent on fuel prices either remaining level or beginning to decline. Unfortunately the recent and rapid second move in diesel prices will hit us the hardest during the second half of the year, as much of our core pricing is implemented in Q1, and while surcharges increased significantly to recover the first move in fuel, we're cautious about constantly pushing surcharges higher.

As we've often said, customers do not have an unlimited checkbook and a 70% spike in fuel prices in such a short timeframe is too much to dynamically recover without the risk of further increasing volume loss. We believe that we'll end up absorbing a good portion of this latest run up in fuel cost to balance the trade-off between price and volume. The trade-off between near-term results and long-term performance. We think the near-term impact for the second half of the year is relatively easy to calculate. If diesel remains at its current level, we would infer about a 65% per gallon increase, above our revised estimate back in April.

Assuming about 10.8 million gallons are consumed during the second half of the year, we'd incur about $7 million of additional costs above what we had assumed in April for the upcoming six-months period or about 3.5 million per quarter in both Q3 and Q4. This translates into about a three penny impact to EPS for each quarter without any additional recovery. But, with some recovery we should be able to limit our net exposure to about $0.02 per quarter at the current pricing levels. To protect us against increased exposure to the rising fuel costs, we put hedges in place during Q2 at various locations, we have fixed supply contracts that lock in our average rate at approximately 469 per gallon on about 45% of our needs in Q3 and 35% of our fuel needs in Q4. Hopefully, the recent softening in fuel prices makes our assumed unhedged fuel prices for the second half of the year somewhat conservative.

Looking beyond '08, we would look to enter a multiyear hedge should diesel drop back to the $4.00 to $4.25 range per gallon in order to take the topic of fuel off the table going forward as the continuing focus of discussion. Three year hedges were recently being quoted around 480 per gallon, which is outside our current target. We will continue to watch the market and hope that a continued drop include [ph] or seasonal dip in the fall will enable us to hit our price target.

And now, back to organic growth. Volume growth in Q2 was a negative 1.5%, which too was at the lower end of our guidance for the quarter. About 70% of this negative volume growth is attributed to a combination of lower special waste tonnage in higher priced markets of the Pacific Northwest due to a strong special waste quarter last year that was difficult to comp and a decrease in lower margin transfer and pass through transportation revenue associated with this reduced special waste activity in the quarter. Landfill volumes on a same-store basis were about flat year-over-year in the quarter. The balance of our reported volume loss was primarily related to a decline in roll-off activity as pulls per day declined about 4% on a same-store basis.

The good news though is that revenue per pull continues to increase at a greater percent than the declines in pulls. Revenue per pull in Q2, was about 6.5%... was up about 6.5%, excuse me, a majority of which was related to price as we've shifted roll-off assets out of some of our weaker markets rather than follow pricing down. We continue to believe our market strategy should produce a comparably better combination of price and volume growth relative to larger national players. Although volume growth turned negative for us in Q2, larger national companies have been reporting a decline... declining volumes for over a year now.

We believe that aggressively pursuing ever increasing prices several times a year to recover such a rapid spike in fuel costs as we have experienced lately, runs the risk of mortgaging the future for near term results. Volume loss today typically gets replaced at a lower price and margin in the future. Municipalities, businesses and consumers are all hoarding in this environment. It sounds simple, but you cannot price increase a customer in '09 which you lose in '08.

If you push your price too far above private company rates by market, as costs stabilize the reversal of pricing happens very quickly downwards.

Operating income, before depreciation and amortization, was $80.1 million or 30% of revenue. This is about a 20 basis points below our margin guidance for the quarter due to higher than expected fuel costs. We had guided fuel to be about 8.35% of revenue, but the rapid increase in fuel during May resulted in fuel being about 8.85% of revenue or 50 basis points above our outlook.

On a year-over-year comparison, our margin in Q2 for operating income before depreciation and amortization as a percent of revenue declined a 100 basis points from 31% to 30%. As noted earlier, higher diesel prices and acquisitions completed since the year-ago period combined for a 300 basis point negative impact in Q2. With reported margins down in the quarter only 100 basis points, we overcame 200 basis points of this increase. This recovery is almost a 50 basis point sequential improvement over Q1 in '08, where we were able to recover about a 150 basis points of the 215 basis point impact of similar items in that period.

Earnings per share in the quarter was $0.39, on a reported basis. This number includes a one penny hit from higher than expected fuel prices along with $0.03 of expected non-cash items related to equity-based compensation costs and the amortization of acquisition related intangibles. We've began to highlight non-cash items this year on our earnings releases and conference calls, since new acquisitions and upcoming changes in accounting principles will increase non-cash expenses and weigh [ph] on reported EPS, but have not impact on free cash flow.

Free cash flow was $43.7 million or 16.4% of revenue in the quarter. Free cash flow through six months was $79.2 million or 15.3% of revenue, up more than 50% over the prior year. Free cash flow continues to track well ahead of our initial expectations and the potential resolution with the IRS of our change in landfill depreciation methodology could reduce cash taxes and expand free cash another $10 million to $15 million in the year depending on the timing of such resolution.

During Q2, we applied our free cash to reduce debt over $40 million and executed two financings, totaling $220 million that will raise our available check riding capacity this fall to about $500 million in order to position us for an expected increase in acquisition activity later this year.

Our pipeline in the pace of acquisition dialogue has picked up as the year has progressed, all with private companies. While we expect a possible record acquisition year for us this year, we caution listeners that many of the private companies were looking at, who are considering the sale for the first time and as such it's quite possible these sellers might have second thoughts or the timing of these transactions could slip somewhat.

The $500 million of capacities we've lined up is targeted on our existing pipeline of private companies. We have not yet factored in any potential divestitures out of the announced merger between Republic Services and Allied Waste or alternatively the potential acquisition of Republic by Waste Management. As we'll have to wait and see if this is sorted out what assets or combinations will be completed. We are also well positioned to further expand our financing capacity above this $500 million amount, if needed to take advantage of evolving industry transaction.

And now I'd like to pass this call over to Worthing to review more in depth, the financial highlights of the second quarter and provide our detailed outlook for Q3.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Thanks, Ron. In the second quarter revenue increased 10.8% to $267 million, 4.6% from internal growth and the remainder from acquisition activity. Operating income before depreciation and amortization for the quarter was $80.1 million or 30% of revenue, which compares to $74.7 million or 31% of revenue in the year-ago period. Similar to Q1, only one line item in the second quarter, fuel, increased a notable amount year-over-year as a percentage of revenue. Fuel expense increased about 285 basis points to about 8.85% of revenue. Our outlook for Q2 at about $0.20 per gallon cushion, above market prices in April and had assumed fuel increase 235 basis points to 8.35% of revenue. Unfortunately the approximate $0.70 run after April conference call pushed fuel costs about $1.3 million above our outlook. For the fourth quarter, we average about $4.30 per gallon, which was about $1.55 per gallon or little more than 55% above the prior year period.

This 285 basis point margin hit from fuel was reduced by the following improvements. Third-party transfer disposal, intermodal drayage and pass-through revenue expense declined about 70 basis points, given a shift in revenue mix and strong core price increases. Insurance cost declined about 55 basis points due to improvements in incident frequency rates and reduction in severity, partially offset by increased medical cost.

Maintenance and repair declined 50 basis points, primarily given the price for an organic growth. And finally, SG&A declined 15 basis points. Acquisitions closed since year-ago period accounted for almost 15 basis points, a reported year-over-year margin dilution in the current year period.

Depreciation and amortization expenses increased about $3.1 million year-over-year to about 9% of revenue in the current quarter, up almost 35 basis points from the prior-year due to an approximate 25 basis point increase as a percentage of revenue in depreciation due to higher CapEx. And a 10 basis point increase in amortization of intangibles associated with acquisitions completed since the year-ago period. Net interest expense in the quarter increased $0.6 million on a year-to-year basis due to higher average debt balances. We ended the quarter with about $715 million of outstanding debt and reduced our leverage ratio to about 2.25 times debt to EBITDA from about 2.4 times at the end of Q1.

Our debt balance decreased $43 million during the quarter as we applied free cash flow to reduce debt and held off on share repurchases to build additional funding capacity for the anticipated increase at acquisition activity, Ron previously discussed. We have consistently stated that we believe acquisitions are our best use of excess capital, and we would cradle back our pace of share repurchases, should acquisition activity increase. We will continue to hold off repurchasing our stock until we get a better sense on the amount and timing of anticipated acquisitions. As a result, we would not realize any near-term EPS benefit from share purchases, while we wait to deploy this capital.

We further increased our available borrowing capacity available this fall to about $500 million through two recent financings. In June, we upsized our committed revolver facility by $45 million while maintaining existing terms and pricing. We also agreed to issue $175 million of senior notes at a fixed rate of 6.22%, maturing October 2015. This offering will be completed through a private placement of five institutions under a Master Note Purchase Agreement that allows an additional $325 million to be issued under the agreement. We delayed the funding of these notes and the associated interest expense until October 1st, as we do not foresee a need for these funds during the third quarter and delayed the draw rather than incurred negative reinvestment drive on the proceeds in the meantime. Our expected tax rate in the quarter was 39.3%, which was down about 10 basis points from the year-ago period.

I would now review our outlook for the third quarter of 2008, given where we are currently. Before I do, I would like to remind everyone once again that actual results may vary significantly based on risks and uncertainties outlined in our Safe Harbor statement in our various SEC filings. We encourage investors to review these factors carefully.

Our outlook for Q3 assumes the unhedged portion of our fuel remains at current prices, which will result in about a 65% increase in price per gallon over the $2.83 per gallon that we averaged in Q3 of 2007. This increase will result in fuel expense, as a percentage of revenue, increasing about 330 basis points, rising from 6.1% of revenue in Q3 '07 to about 9.4% of revenue this upcoming quarter. At a 65% year-over-year increase in fuel prices and a 330 basis point margin impact Q3 '08 would be the most difficult year-to-year quarterly comparison for fuel as the comps should start to get relatively better in Q4.

In 2007, diesel increased from $2.83 per gallon in Q3 to $3.25 per gallon in Q4, so rather than a 65% increase we are expecting in Q3, if current prices hold, fuel prices would be about 45% over the $3.25 that we averaged in Q4 last year. This will reduce the year-over-year margin impact of higher fuel costs from the 330 basis points expected in Q3, there is something close to 280 basis points in Q4.

Finally, I note that our Q3 outlook also excludes the impact of any acquisitions that may close in the quarter. Turning first to revenue, revenue is estimated between $272 million and $274 million up almost 9% over Q3 '07. We expect pricing growth to ramp 5.5% and volume growth between a negative 1.5% and a negative 2%. I would note that we have assumed a minimal amount of higher margin special waste in our outlook, that's about $2 million of special waste that we had expected in Q3, it looks like it will slip into Q4, due to timing outside of our control.

Operating income before depreciation and amortization is estimated between $81 million and $82 million, reflecting a margin just under 30%. As a percent of revenue, this represents about 175 basis point decline from the prior year period and assumes that the 350 basis point margin impact of higher fuel costs and lower margin acquisitions closed, since the year ago period, are offset by about 175 basis point improvement in the underlying business from strong pricing growth and a variety of line item improvement similar to what we saw in second quarter.

Put simply, we expect a typical seasonal increase in margins from Q2 to Q3 to be more than offset by higher average fuel prices in Q3 at current year levels. Depreciation and amortization is estimated to be about 8.9% of revenue. Operating income for the third quarter is estimated at about 21% of revenue. Net interest expense for Q3 is estimated at about $8.7 million. Minority interest and other expense are estimated to be a combined 1.5% of revenue. And our effective tax rate is assumed to be between 36% and 36.5% with Q4 returning to around 39%. We estimate our Q3 diluted share count to remain around 67.8 million shares, excluding the impact of any stock option exercises in the quarter and assuming no share repurchase activity in the quarter.

Now, let me turn the call back over to Ron, for some final remarks before Q&A.

Ronald J. Mittelstaedt - Chief Executive Officer

Okay. Thank you, Worthing. In closing, again we are extremely pleased with our results in Q2, and for the first half of 2008. Although the strength of our performance has been masked by aspiring fuel costs, free cash flow of more than 50% so far, year-over-year, speaks to the continuing underlying strength of our business. With fuel prices stabilizing or potential declining, private company acquisition activity is expected to increase later this year and pricing is expected to remain strong into 2009 to recover recent cost spikes, we believe the next year is setting up well.

Additionally, any potential divestitures from the proposed Waste Management acquisition of our public services, or the announced public services Allied Waste merger could provide potential upside. We've said all year, 2008 is a tough year and reminds us of 2006, but we believe 2009 is setting up to be an outstanding year.

We appreciate your time today. And at this time, I will turn the call over to the operator to open up the lines for your questions. Operator?

Question and Answer

Operator

[Operator Instructions]. And your first question comes from the line of Scott Levine of JPMorgan. Please proceed.

Scott Levine - JPMorgan Chase & Co.

Good morning, guys.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Hi, good morning Scott.

Scott Levine - JPMorgan Chase & Co.

On special waste, did you quantify the basis point impact of volumes in the quarter and anecdotally is that more project driven in your view or more cyclical?

Ronald J. Mittelstaedt - Chief Executive Officer

Yes. We did quantify the impact to the volume decrease. It was about 70 basis points...

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

70% of the 1.5%, so it's about 1% negative volume.

Ronald J. Mittelstaedt - Chief Executive Officer

70%. And your second question is that more project related, I mean it's cyclical in its standpoint that it's more seasonal, I'd really say than cyclical Scott, but it is cyclical and that it is typically contaminated soil clean up of sites for speculative real estate. So, to the extent of that is up or down, it's cyclical in that way.

Scott Levine - JPMorgan Chase & Co.

So, if you focus exclusively on the portion of the... the volume growth associated with the base business, how is the outlook and relative to your expectations. And the competitive versus franchise market impact there?

Ronald J. Mittelstaedt - Chief Executive Officer

Relative to our expectations laid out at the inception of the year, it was just slightly down Scott that would tell you that it was down about 0.5% on the core business. And that, that breaks down... its actually probably down a little more in the exclusive market than the competitive and that the West Coast, which is the most of the exclusive market is obviously seeing more of a real estate effect and decline and ripple effect from that than the central portion of the country, for example. And obviously, we take a 100% of the volume increase or decline in the exclusive market. So, down a little bit more in the exclusive than the competitive and up a little bit from our initial expectations from a volume standpoint.

Scott Levine - JPMorgan Chase & Co.

Okay. One last one, then on cash flow. I believe you updated the guidance for the year, but clearly you're running ahead of our expectations there, any thoughts on whether we could see upside to the guidance on cash flow for the full year versus really more of a timing spend or timing issue. The first half of the year relative to what you're expecting the spend maybe on CapEx in the back half for any other issues that might be impacting the full-year outlook there?

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Yes, we had... I think, guided to around a $130 million of free cash flow for the year. Right now we're trading to at least $140 million. I wouldn't want to give the impression, you can double the $80 million and say a $160 million. But, clearly around that $140 million range before any impact of potential higher-risk resolution.

Scott Levine - JPMorgan Chase & Co.

And any details on the impact of bonus depreciation there as well?

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Year-to-date, so through six months we've had about $3.2 million benefit in decreased cash taxes from bonus depreciation.

Scott Levine - JPMorgan Chase & Co.

Great. Thank you.

William Fisher - Raymond James & Associates

Your next question comes from the line of Bill Fisher of Raymond James. Please proceed.

William Fisher - Raymond James & Associates

Hi, good morning.

Ronald J. Mittelstaedt - Chief Executive Officer

Good morning, Bill.

William Fisher - Raymond James & Associates

Just following up on the special waste in kind of West Coast transit [ph]. Is that mostly ensure up on the volume side or just, if you have a lower mix of, on the landfill side of third-party waste in the West Coast where the dip fees are higher and maybe a higher mix in the Midwest. Does that impact pricing quarter-to-quarter at all?

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

No. It doesn't, it doesn't impact pricing, it's more of a volume issue Bill.

William Fisher - Raymond James & Associates

Just a volume?

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

And what I'll say is while landfill volumes were essentially flat year-over-year on a same-store basis, where we had some dips... we had some dips as you pointed out on the higher 50 markets on the West Coast and some of those volumes were replaced elsewhere in markets with lower dip fees and so that kind of net change in price would impact volume.

William Fisher - Raymond James & Associates

All right, it impacts volume. Okay, and then I apologize if you touched on this. But, if... hypothetically if a private company wanted to close by year end in order to have a definitive agreement and get the local approvals somewhat now. When would they have to have kind of a definitive agreement to close by the end of December?

Steven F. Bouck - President

Well, Bill first off it would depend on the size of the transaction because it requires or if it's an investment more than... around $55 million, it's going to have a Hart-Scott-Rodino filing. So, you're going to have a minimum of 30 days to 60 days back up from that depending on the complexity of the transaction and generally the local consensus would take usually a minimum of, I’d say 60, almost 90 days. So, I would tell you that once you get beyond, probably mid to late August, maybe early September, you’re starting to push the edge of being a little more difficult to guarantee closing in this year.

William Fisher - Raymond James & Associates

Okay, great. Thank you.

Operator

Your next question comes from the line of Jonathan Ellis of Merrill Lynch. Please proceed.

Jonathan Ellis - Merrill Lynch

Thanks. And good morning, guys.

Ronald J. Mittelstaedt - Chief Executive Officer

Good morning.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Good morning.

Jonathan Ellis - Merrill Lynch

Just following up on acquisitions, first off, can you characterize whether most of the potential acquisitions in the pipeline are larger asset basis or more of a clustering of smaller private companies. Just trying to get a feel for relative sizes in the acquisitions in the pipeline?

Ronald J. Mittelstaedt - Chief Executive Officer

John, it's a mix of both obviously. I mean, if it was just tuck-in acquisitions we probably wouldn't need to increase the financing in the way that we have. But, that we're seeing some sort of mid-size to larger size, both exclusive market and competitive market deals that we are putting offers in on and then of course our normal pipeline of tuck-in acquisitions building out around markets that we are already in. It's really a combination of both, but obviously there are some acquisitions a little bit larger side. Again, I would remind you as well as everyone I mean, larger in our model remember are $10 million to $30 million type revenues companies individually.

Jonathan Ellis - Merrill Lynch

And are for most of those potential acquisition targets on the West Coast or are you seeing more activity potentially in the southeast?

Ronald J. Mittelstaedt - Chief Executive Officer

It's a combination of both, but I again I would remind you that about two-thirds almost of our, what is available for acquisition within over footprint that we’ve identified over time is the companies on the West Coast, just statistically, and I would also tell you that that's where the larger companies within the entire industry tend to be.

Jonathan Ellis - Merrill Lynch

Okay, great. Just turning our attention to pricing during the quarter. Can you talk a little bit in more detail of pricing in the commercial roll-off in residential businesses in your non-franchise markets?

Ronald J. Mittelstaedt - Chief Executive Officer

In our non-franchise markets?

Jonathan Ellis - Merrill Lynch

Yes.

Ronald J. Mittelstaedt - Chief Executive Officer

Sure. Pricing has continued to hold up really in all business lines, fairly well. I'm looking for a little bit of a data here. Residentially and commercially there was virtually no change in price, Q1 to Q2 or projected into Q3 that has been fairly stable. Roll-off there was... actually pricing was up in the quarter in the southeast and the Midwest, the competitive portions of our model. But volumes were down in terms of roll-off pulls. They were down a little more in the southeast then they were in the central portion of the country. So… but again price was up at an amount greater than the decline in roll-off pull not only for the company, but in also each of those geographic regions.

Jonathan Ellis - Merrill Lynch

Okay, great. And then just finally, the length of volumes, I know and you mentioned they were flat this quarter on a same-store basis, last quarter, I believe, if I have the data correct, they were up 6% on a same-store basis. Just to be clear that sequential deceleration is that entirely a function of the special waste activity that you cited earlier?

Ronald J. Mittelstaedt - Chief Executive Officer

It's a function of two things John. It's a function of roll-off volumes that are internalized and third party roll-off being lower, quarter-to-quarter on a volume basis, we were knocked down [ph] 4.5% in volume in roll-off last quarter and we are this quarter and 70% of that goes to our site as well as we would estimate that third party is off by that, and then it's also that plus the special waste.

Jonathan Ellis - Merrill Lynch

Okay. And then just one final question from me. In terms of volume weakness, are you starting to see incremental deterioration in your residential and commercial markets. Obviously you did provide... you did quantify the slowdown in the roll-off side, but wondering if you give a little more color on residential and commercial volumes?

Ronald J. Mittelstaedt - Chief Executive Officer

We're really are. I mean it's... those have remained very stable, we have taken a hard look at service increases in commercial volumes, service decreases in commercial volumes, business closures in commercial volumes, bankruptcies in commercial volumes and we have compared that to the last three years in the same six-month period and there actually is virtually no change.

Jonathan Ellis - Merrill Lynch

Okay. Thanks guys.

Operator

Your next question comes from the line of Corey Greendale of First Analysis. Please proceed.

Corey Greendale - First Analysis Securities

Good morning [inaudible]. A couple of question. First of all, on the lines you were just talking about Ron, can you just talk about the sequential pattern as you go month by month in roll-off volumes and if you saw increase seasonally as you defector [ph] often seems to be less than the seasonal increase?

Ronald J. Mittelstaedt - Chief Executive Officer

Well, it’s a twofold answer Corey, let me say this, on a volume basis, roll-off, pretty much in all geographies has come down February through June, month to month to month stabilizing a little in the sort of the April... March to April timeframe and then stepping down some more. Now, it is up June over May, May over April, April over March because that would be the expected seasonal pattern, whether it is still down on a year-over-year basis in each of those month sort of at an accelerating rate in those months throughout the end of Q1 and into Q2.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Corey if you look at the three months, May was the worst month of the three and June was better than May.

Corey Greendale - First Analysis Securities

Okay. Second question, I realize that looking at acquisition of potential divestitures is going to be very dependent on what shakes loose from many of those acquisitions, but do you foresee a scenario where you might start getting into some geographies beyond your historic footprint?

Ronald J. Mittelstaedt - Chief Executive Officer

No. Not due to private company acquisitions we are looking at today. If some of the potential public to public mergers occur, it's hard to say what divestitures may or may not happen there and certainly we would take a look at those that might be outside our current geography. If it made sense and met our strategy, but there's nothing in our pipeline that we're looking at that is outside our current geography.

Corey Greendale - First Analysis Securities

Okay. And do you see a scenario where the needle on the percent of revenue from exclusive markets moves either up or down as a result of the acquisitions?

Ronald J. Mittelstaedt - Chief Executive Officer

I don't see it moving down.

Corey Greendale - First Analysis Securities

Okay. And then last question. You talked about balancing price increases with volumes and customer push back. Can you just elaborate on that a bit, are you… have you some customer loss and some volume loss that you would attribute to, to pricing or are you saying it’s more anecdotal that in discussions with customers they more suggest, that we’ve had enough and you've been responsive to that.

Ronald J. Mittelstaedt - Chief Executive Officer

Well, I mean it's a combination of things Corey. If you look at it and this isn't just... first off there is about as you saw in the current quarter and in the guidance of our year... for the balance of the year, we are projecting to recover about two-thirds of the increase in fuel. Now… so on a current period basis and all of it over a full-year period, if you look at that, that sort of implies that... maybe a third of so of the customers were not getting some sort of surcharge or not getting a surcharge in the current quarter. And, that's actually not that different from the other public companies on a percentage of customer basis, we've taken a hard look at this. While we clearly have more customers due to our model that are not getting a surcharge or not getting a timely surcharge.

As I look at the indices posted on the websites of the other companies, it's pretty easy to back into, somewhere between 20% and 30% of their customers are also not getting [ph] the surcharge. And it's pretty basic math, if fuel was 3.5% of revenue and it's now 9% that would imply a 5% to 6% surcharge on a customer who would cover fuel. If you assume revenue is 100% and surcharges in many markets for all companies are substantially north of that, if you look at the indexes. That math implies that it's obviously not a dollar-to-dollar tradeoff. So, I mean, it’s a long way around the bond [ph] to say that I think in all company models whether they be exclusive or they be a competitor, there is a number of customers either that contractually or due to competitive dynamics are not paying its fuel surcharge or not paying a full fuel surcharge. And that is being offset throughout the balance of the mix.

So, we have seen municipal customers that there's been a lot of push back on, we've seen individual customers, there is a lot of push back on. Again, we’re seeing a number of the public companies price new customers with no fuel surcharge and guaranteeing no fuel surcharge for protracted periods of time. To our comment in our… to our comment in our earlier statements today that you often replace loss volume at lower margin. And that is what we are seeing in many competitive markets by the large national companies. So, the fuel surcharge is clearly more than art than a science.

Corey Greendale - First Analysis Securities

Okay. Thanks guys.

Operator

Your next question comes from the line of Anton Kawasaki of KN Capital [ph]. Please proceed.

Unidentified Analyst

Hey guys.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Hi, Good morning.

Unidentified Analyst

I guess I’m just, I’m trying to understand a little bit… a little bit more of the fuel surcharge. So, if you… I mean, are you saying that if you try to put the fuel surcharge they say, no, we’re not going to take it and you turn it away they can go and get a cheaper contract from somebody else?

Ronald J. Mittelstaedt - Chief Executive Officer

Yes.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Yes. Every time you price increase someone at a competitive market, that increases the odds of them calling you and trying to renegotiate price or trying to call the competitors, see if they can get a lower price.

Unidentified Analyst

So then, I mean, would it seem that the industry maybe has lost its discipline a little bit?

Ronald J. Mittelstaedt - Chief Executive Officer

No. I wouldn’t say that at all. I say this is a commodity and commodity is good at lowest price. So, if there was only three players in every market and they could collude if they have always upward moving pricing, but that's not what you have, you have a very competitive dynamic amongst the public companies and the private independence within each marketplace. And remember a public company is tend to operate at a higher operating margin than most independent companies. So, if you're already operating at a 20% margin in a market, on a customer and you move that 5% and an independent company is willing to operate at 10% to 15% margin, there is a deep in spread there on price per customer.

Unidentified Analyst

So, then as your, I guess as the fuel cost go higher, and if you’re not able to pass that on then your ROICs are obviously going a little bit lower, are there any customers which just want to be ROIC profitable to keep?

Ronald J. Mittelstaedt - Chief Executive Officer

No. And remember, don't mistake margin for return on investment capital, margin can go down, even if you are recovering a 100% because revenue was climbing, it's just math, revenue was climbing, you are recovering your cost and margin is going down. That has no impact on ROIC, your EBITDA is still flat if you are recovering all of it and your invested capital basis is growing. So, no, I wouldn't say that's necessarily the truth.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

And that's because ROIC also has denominated component, which is capital, and obviously with the free cash flow 55% this year and CapEx down you’re also controlling the capital base as well?

Unidentified Analyst

Okay, thanks.

Operator

Your next question comes from the line of Leone Young of Citigroup. Please proceed.

Leone Young - Citigroup

Good morning.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Hi, Good morning.

Ronald J. Mittelstaedt - Chief Executive Officer

Hi, Leone.

Leone Young - Citigroup

First of all, when you look at and hopefully an expected surge in acquisitions in the private sector or private companies. Is there any one single factor that seems to be driving us or is it a combination of couple of these guys you've looked at finally selling for personal reasons and a variety of reasons, I'm just trying to look at what's the driver here?

Ronald J. Mittelstaedt - Chief Executive Officer

Well, Leone around here we call it the Obama factor. And in all seriousness, that is the issue. The issue is a spear of a political regime change with a bias towards substantially higher capital gains taxes. As we all know, Canada and Obama has been very forth riders [ph] his intention to try and move capital gain taxes upwards between 5% and 13%... percentage points not percent, virtually a doubling in some cases and that is a big fear, that is a huge fear amongst... so many private that might have thought of selling a year, two, three years from now have said, how am I going to get 10% to 15% more for my business in an environment when costs have been rising fairly quickly due to fuel and other inflationary factors. So, if I'm going to do it, I might as well do it this year. And that's really we've seen a pretty large consensus amongst the potential sellers we've talked to you. Virtually, I think nine out of ten comes back to the fear of capital gains, changing in January, I mean… I don't know whether that means our industry is a predictor of the outcome of November, but that's what they're betting against.

Leone Young - Citigroup

Hope its [ph] playing out, like you expected. Also recognizing you're not economist, but given that there is a fair amount of economic pain out there. Are you little surprised that your service durables haven't changed and as you talk to your customers what are they saying, is it just a matter of time?

Ronald J. Mittelstaedt - Chief Executive Officer

Yes, Leone. I mean, I guess we are a little bit surprised, but I think really it’s set back spell to how this economic downturn is different than the '01 to '03 or maybe some of the others we've been seen before that back '90 to '92. And that this is very realistic driven which means it is, fairly market centric to the West Coast, in our model the West Coast, where there was a much more rapid run-up in real estate in the early 2000 and therefore there has been a much more rapid decline.

So, most of the volume loss is in roll-off. It is in our West Coast markets and the Denver market where there was also a rapid run-up in real estate and that rapid run-up in real estate led to greater roll-up activity for everything that ripples from that and that has come down. It hasn't really affected the core small container account or the residential in those markets in that way. So, it's not a broad-based economic decline as we've seen before where it hits industry, it hits commercial and... it just weakens across the board. It's pretty stratified and so it's come out of roll-off in those markets and then that has come out of our landfill. So, that's I think why we're not seeing it in the residential and the commercial and we're not seeing it nearly as much in the Midwest and the upper southeast as we are in the West Coast.

Leone Young - Citigroup

Terrific. That's very helpful. And lastly, just housekeeping question, if I missed it. Did you say what you were expecting for your average diesel price per gallon in Q3?

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Yes. The average works out to about 470.

Leone Young - Citigroup

Thank you.

Operator

[Operator Instructions]. And your next question comes from the line of Brian Butler of FBR. Please proceed.

Brian Butler - Friedman, Billings, Ramsey Group

Good morning guys. Thanks.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Hi, Good morning Brian.

Brian Butler - Friedman, Billings, Ramsey Group

Question just on the acquisition side of this. Can you update kind of where you see the pipeline right now and size and if not that at least what you... what is in your available market area? And then second question is, can you remind everyone what was the most Waste Connections ever acquired in its fiscal year?

Ronald J. Mittelstaedt - Chief Executive Officer

Okay, answering the last first. The most we have acquired on a revenue basis in a year was $124 million. That was the most. Obviously, our years have sort of averaged between 60 and 80 with a low end of about 50. But, the most we ever did was $124 million. And what I could tell you Brian is that, with regard we've said that in our 23 state footprint we are in today there is about a billion private company revenue we've identified that fits our strategy, about 1.1 billion to 1.2 billion is in the six West Coast states that are exclusive in our model. I can tell you that our historical active discussion pipeline usually runs between sort of, I'd say, a low-end of about 90 million at any time to a high-end of maybe a 180 to 200 over time and I would tell you that we are above our high-end of our range in terms of what we would call active discussion.

Brian Butler - Friedman, Billings, Ramsey Group

So doing better than that $124 million is pretty realistic?

Ronald J. Mittelstaedt - Chief Executive Officer

I didn't say that. But, I said... I said our best year was $124 million and that we would be disappointed if this year wasn't about $40 million.

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

I think, we spent [inaudible] set aside. You would be right, that we would be above the $125 million.

Brian Butler - Friedman, Billings, Ramsey Group

Well, you added the capacity for a reason?

Worthing F. Jackman - Executive Vice President and Chief Financial Officer

Yes.

Brian Butler - Friedman, Billings, Ramsey Group

Well, I had to ask. Thank you very much guys.

Ronald J. Mittelstaedt - Chief Executive Officer

Yes, we added capacity for a reason. Thank you Brian.

Operator

And there are no further questions. At this time, I’d like to turn the call back over to management for closing remarks.

Ronald J. Mittelstaedt - Chief Executive Officer

Okay. Well, if there are no further questions on behalf of our entire management team, we appreciate your listening and interest in the call today. Worthing, Steve and I will be in the office for the remainder of the day. If there are any direct questions, we did not cover, that we are allowed to answer under Regulation FD and Regulation G, we will be happy to do so. We thank you and we look forward to speaking with you on our next call.

Operator

Thank you for your participation in today's conference. This concludes the presentation, you may now disconnect. Good day.

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