Waste Management (WM) is one of the biggest providers of comprehensive waste management services in North America. The company through its subsidiaries offers collection, transport, recycling and dumping services. WM is also a key operator, developer and holder of waste to energy and landfill gas to energy facilities in the United States. In my previous article, I talked about the dividend stability and the earnings of the company. However, it is extremely important to study a company's payout ratio, cash flows and coverage metrics to ascertain if the company will be able to continue its dividends.
Payout ratio is a critical metric for measuring dividend stability. A ratio that's too high indicates the company is maybe paying out more than it can afford, and sustain in the future. It is possible that excessively high payout ratio will be cut in the future, which can bring the dividends down.
At the moment, WM has a payout ratio of 66%. The Texas-based company operates in a mature industry, and its revenue growth has been limited during the recent past. Due to the limited growth opportunities in the industry, the firm has been distributing large chunk of its earnings to the shareholders. The firm has experienced moderate growth in its earnings. In 2011, the firm reported EPS of $2.05 and declared a dividend of $1.36 per share.
Free Cash Flows:
Free Cash Flows
Depreciation and other noncash charges
Funds from Operations (FFO)
change in noncash current assets
change in noncash current liabilities
Operating Cash flows
Free Operating Cash Flow
Long Term Debt
Source: SEC Filings
Over the past three years, funds from operations for WM have remained fairly stable. At the end of 2009, FFO for WM stood at $2.16 billion, which went up to $2.19 billion by the end of 2011. However, cash flows from operations showed a modest growth over the past three years. At the end of 2011, cash flows from operations were $2.469 billion up from $2.159 billion at the end of 2009. An increase in cash flow from operations indicates improved operating efficiency. Additionally, the company has been spending a significant amount of funds in capital expenditures.
In each of the last three years, the company spent over $1 billion in capital expenditures. As I mentioned, the firm is operating in a mature industry where growth primarily comes from the consolidation. The firm has been making acquisitions, and spent over $800 million in acquisitions in 2011. As a result, free cash flows for the firm have been around $1 billion over the past three years. However, the firm has experienced a modest increase in its debt levels. The long term debt for WM has increased by almost $1 billion over the past three years.
Funds from Operations(FFO)/Total Debt
FFO/Capital spending requirements
Free Operating Cash Flow + interest expense/ Interest expense
Debt Service coverage
First ratio here shows a slight decline for WM. However, the ratio has only declined by 0.03 points during the past three years and remains manageable. FFO to capital spending requirements ratio is adequate for WM and at present stands at 1.65. Capital spending to FFO ratio indicates the firm has adequate levels of cash flows to cover its capital expenditures. It is vital for dividend paying companies to have impressive coverage ratios. If the firm fails to meet its debt obligations, it might decrease its dividends to meet them.
However, at WM the situation looks in control as the company has strong coverage ratios. The interest expense for WM is low and has not touched $500 million in the past three years. Consequently, the interest coverage ratio is incredibly strong at 3.38. In addition, the debt service coverage ratio of 1.46 indicates the firm has adequate buffer of funds to service its debt.
Waste Management acts as the market leader in the industry. Republic Services (RSG) is the main competitor for WM. Republic services acquired Allied Waste recently in an effort to consolidate and increase market share. On the other hand, Waste Connections, Inc. (WCN) announced that it will buy R360 for $1.3 billion.
Another player in the market, Heckmann Corporation (HEK) is also establishing itself. After the merger with Power Fuels, HEK has also acquired a majority stake in Appalachian Water Services, LLC. Although there has been considerable movement in the industry, WM competitors still stay significantly behind in terms of pricing power and market share.
Waste Management has been trying to increase its revenues recently. As I mentioned in my earlier article, the firm is planning to expand its operations in the energy sector. In addition, the firm is also trying to increase revenues from landfills and decrease the dependence on the collection segment. I remain confident that the firm will be able to achieve healthy revenue growth through expansions. At the moment, the dividends of the firm are safe as shown by the analysis. Furthermore, the cash dividends are adequately covered with free cash flows. For 2011, the firm paid $637 million in cash dividends, and free cash flows for the firm stood at over $1 billion. WM shareholders should be able to enjoy healthy dividends in the future.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.