Waste Management continues to restructure its operations to address its cost structure, while Republic Services just announced a restructuring plan of its own during the third quarter. Both continue to revise down their respective earnings outlooks as a result of weak recycling commodity pricing, which is overwhelming their modest core pricing strength. Volume trends have also been lackluster, though the impact of Hurricane Sandy may provide a moderate boost in coming quarters.
Specifically, Waste Management cut its 2012 earnings guidance to the range of $2.08-$2.13 per share from $2.15-$2.20 per share, while Republic cut its 2012 adjusted earnings guidance to the range of $1.85-$1.87 from $1.91-$1.93. We're skeptical Republic will hit its diluted earnings per share outlook for 2013 that shows only modest expansion from the revised-down levels of the current year. We think the acquisition of Allied and corresponding labor unrest may be catching up with Republic, and the trash taker's management has started to warn the analyst community about future free cash flow trends. Here's an excerpt from Republic's CEO Don Slager on the company's third-quarter conference call:
Now I want everyone to pay close attention to my following comments. Our free cash flow expectations…assume that bonus depreciation will expire at the end of 2012. If it expires, the negative year-over-year impact of bonus depreciation is approximately $150 million…all companies that buy heavy equipment have benefited significantly in free cash flow performance over the past several years from bonus depreciation. Keep in mind, as recently as 2011, bonus depreciation was 100%. In calendar '12, it's been 50%, and in '13, it will go to 0%. So we're assuming in our…outlook that's there is no extension of bonus depreciation. And if that is the case, the year-over-year headwind is $150 million.
Though we like the oligopolistic structure of the waste industry and the landfill pricing power of constituents, Republic Services' core pricing growth has not returned to the robust levels prior to the Allied merger (it was just 1% in the most recent quarter), and free cash flow expectations need to be toned down based on recent commentary. We expect to publish updated reports on the waste industry soon.
Additional disclosure: RSG is included in our actively-managed portfolios.