Sector Watch: Waste management stocks

If the state of the current market has you down in the dumps, look no further than waste management companies American Ecology Corp. (Nasdaq:ECOL) and Casella Waste Systems, Inc. (Nasdaq:CWST), market leaders in two of the best-performing segments – hazardous waste remediation and waste recycling.

Casella Waste Systems, Inc. is the nation’s 12th-largest waste management firm and considered one of the most forward-looking by many industry analysts. This vertically integrated, regional player provides waste collection, transfer, disposal and recycling services to residential and commercial customers across 14 states in the eastern United States. At FY 2008 year end, Casella’s operations consisted of 34 solid waste collection operations, 30 transfer stations, 11 disposal facilities, 38 recycling facilities and three landfill gas-to-energy facilities. The company also holds a 50% interest in a joint venture that manufactures and sells cellulose insulation made from recycled fiber, and has a 20% equity interest in a company that markets incentive-based recycling services to some 250 national and local customers.

Casella was one of the first waste management service providers to recognize an emerging industry trend favoring improved resource management and greater recycling. More than 150 million tons of material was recycled in the United States last year and recycling has become a $71 billion industry employing more than 50,000 workers nationwide. Casella currently derives more than 30% of revenues from recycling. In 2007, the company sold more than 400,000 tons of recycled paper and 15 million tons of recycled aluminum. 

Since 2003, Casella has invested over $200 million in developing strategically located landfill capacity with the goals of strengthening its market position and creating a sustainable long-term franchise. Over 64.5 million tons of landfill capacity has been added, increasing total landfill capacity to 94.1 million tons. In late 2007, Casella began shifting its focus from development projects to harvesting cash flows from existing investments and repaying debt. Casella also continues to pursue tuck-in acquisitions in existing markets that can help maximize route density, improve asset utilization and stabilize pricing. A cost reduction program initiated last year has trimmed more than $4 million from the company’s annual operating costs.

Casella’s revenues grew 9.1% in FY 2008 to $579.5 million from $531.3 million in FY 2007 and EBITDA jumped 11.7% year over year to $123.5 million from $110.6 million. Excluding losses from discontinued operations and other non-recurring charges, 2008 per-share net losses increased slightly to $0.08 from $0.07 last year. The main reason for the net loss was reduced sales from the cellulose fiber joint venture due to the housing market slowdown. Casella has provided FY 2009 guidance indicating expectations of at least 7% revenue growth and 5% EBITDA growth. Analysts think this company can produce 13% annual growth over the next five years. My $18 price target for Casella shares suggests a 39% premium over Tuesday's closing price of $12.97. Shares have ranged between $9.64 and $16.20 over the last 52 weeks.

American Ecology Corp. is an important player in the $2 billion North American hazardous waste remediation market and has been providing these services for over 50 years. The company cleans up radioactive, hazardous, PCB and industry waste for government clients, utilities, refineries, chemical plants, steel manufacturers and medical labs. American Ecology treats hazardous waste at four facilities located in Idaho, Washington State, Nevada and Texas. The company derives half of its revenues from discrete projects for waste brokers and private sector clients, 18% from recurring services to utilities and chemical manufacturers and 14% from federal cleanup projects. Project work is mainly event-driven and can vary substantially in size and duration but the company also has multi-year contracts with the U.S. Army Corp. of Engineers for hazardous waste cleanup and with Honeywell International (NYSE:HON) for treatment and disposal of 1.2 million tons of chromite ore processing residue. A court order requires Honeywell to complete this cleanup by November 2009. American Ecology also has long-term contracts for hazardous waste cleanup with several steel mills that provide a reliable revenue stream.

Well-established service providers such as American Ecology are benefiting from a tougher regulatory environment that has increased the cost of in-house hazardous waste cleanup and encourages outsourcing, as well as more stable pricing resulting from industry consolidation. Business Week magazine recently ranked American Ecology 12th on its annual list of hot growth companies. American Ecology recorded its third consecutive year of revenue and income growth in 2007 and is off to a strong start in 2008, with first-quarter (ended March 31) revenues up 19% year over year to $46.2 million from $39 million and per-share earnings up 19% to $0.32 from $0.27. Management recently issued new guidance indicating expectations for full-year 2008 per-share earnings at the high end of its $1.17 to $1.23 range and at least 10% higher than 2007 per-share earnings. An optimistic outlook is also suggested by the company’s decision in May to boost cash dividends 20% to a $0.72 annual rate. Analysts predict American Ecology will produce 20% average annual growth over the next five years. My $35 price target for American Ecology Corp. is 17% above Tuesday's closing price of 29.99. Over the last 52 weeks, shares have ranged between $18.51 and $30.36. 

Other potentially attractive stocks in the waste management space include: Waste Services, Inc. (Nasdaq:WSII), a provider of integrated waste management services to customers in the United States and Canada; Heritage-Crystal Clean, Inc. (Nasdaq:HCCI), a provider of hazardous waste cleanup services to small and mid-sized businesses; WCA Waste Corporation (Nasdaq:WCAA) an integrated waste management firm serving  the southern and central United States, and Perma-Fix Environmental Services, Inc. (Nasdaq:PESI), a provider of nuclear waste management and consulting services. 

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