Buy Waste Management, Republic Services, and Waste Connection Stock Now

In North America, the market for nontoxic garbage collection, transportation, processing, and disposal—what insiders call solid-waste services—has been through a multidecade process of consolidation. Today, there are three vertically integrated giants atop the industry:
Waste Management
(ticker: WM), with a market value of $62 billion; the $40 billion
Republic Services
(RSG); and the $35 billion
Waste Connections
(WCN). In many ways, these companies are like utilities, with similar defensive qualities that come from providing services that people and companies always need.

Safety, though, has gone out of style in 2023, and garbage stocks have fallen from favor with other defensive sectors, despite the fact that they have the ability to grow in a way utilities never could. They also possess monopoly-like qualities and ample pricing power to keep up with inflation. And with their underperformance, Waste Management, Republic Services, and Waste Connections are now as attractive from a valuation standpoint as they have been in years.

“The group sold off, fundamentals remain good, [and] the outlook is for healthy margin expansion in 2023,” says
Stifel
analyst Michael Hoffman, who has Buy ratings on Waste Connections and Republic Services.

It’s not hard to see what makes garbage such a steady business. Trash accumulates and then needs to be hauled away and disposed of. While the amount of garbage rises and falls with the economy—a restaurant, for instance, sees fewer customers and produces less food waste during a downturn—commercial and industrial contracts tend to be long term and tied to the size of a container and the number of weekly pickups from a location, not the volume of trash. During an economic downturn, truck and transfer stations have less trash to deal with, lowering the cost of doing business and countering any service cutbacks when contracts eventually renew.

For residential trash, the firms tend to contract directly with homeowners on a monthly or annual basis, and with municipalities and homeowners’ associations on multiyear terms, often granting them exclusive rights. Customers have little opportunity to shop around for a better deal. And new competition isn’t likely to pop up, given high barriers to entry: Building landfills or other waste-processing infrastructure is unpopular and subject to extensive federal and local regulations. Years of M&A have resulted in a shrinking number of smaller publicly traded companies, including
GFL Environmental
(GFL) and
Casella Waste Systems
(CWST), and family or private-equity-owned firms.

Those dynamics give the industry pricing power, which came in handy in 2022 as inflation heated up. Overall rate increases in the high-single digit percentage range were enough to keep up with increasing costs—chiefly labor—and little else. In 2023, the industry’s price increases could be slimmer than last year’s, but more of that will flow through to companies’ bottom lines. Hoffman estimates 5% to 6% growth in pricing across the industry, and about half a percentage point of profit-margin expansion.

“We are thrilled with their ability to drive pricing power, which began long before the current inflationary backdrop,” says Bryant VanCronkhite, a senior portfolio manager and co-team leader for the special global equity team at Allspring Global Investments.

This being the 2020s, waste collecting is also about reducing and reusing waste. The companies have a busy recycling business, where revenue is driven by market prices for different classes of sorted recyclable materials. As with any market, prices rise and fall, which can affect company results. Corrugated cardboard prices got unsustainably high during the pandemic’s online-shopping boom—trading at about $150 per ton—then collapsed to $35 late last year. A rebound may be in store, while governments’ minimum-recycled-content mandates and companies’ sustainability pledges will lead to more demand and firmer pricing in the coming years.

Waste companies have also started capturing the methane emissions from decomposing material at landfills and converting it into renewable natural gas used to generate electricity or power garbage trucks. Every gallon produced also yields a renewable identification number, or RIN—an Environmental Protection Agency–regulated credit that can be sold by solid-waste companies to others interested in offsetting their fossil-fuel usage or meeting regulatory quotas.

Investments in recycling and emissions-capture infrastructure could weigh on cash-flow growth in the next few years before beginning to pay off around the middle of this decade. Waste Management, for one, will host an investor day in April to discuss its sustainability investments, a potential catalyst for the shares.

All three garbage companies—which tend to trade in lockstep—have lagged behind the
S&P 500 index
by a considerable margin so far in 2023—Waste Management and Republic Services shares have lost 3%, while Waste Connections is up 2%—despite superior growth prospects this year. The result has been contracting valuation multiples. Waste Management and Republic Services each go for around 25 times their estimated earnings this year, near the bottom of their range of 24 times to 30 times since 2020’s Covid-19 bear market. Waste Connections trades at a premium 32 times earnings, thanks to its higher level of municipal contracts, versus its range of 29 times to 38 times in the past nearly three years.

For investors worried about another downturn after the 2023 stock market run-up, solid-waste stocks may be the answer.

Write to Nicholas Jasinski at nicholas.jasinski@barrons.com