GFL Environmental Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
July 27, 2023

There are 10 speakers on the call.

Operator

Good morning, ladies and gentlemen, and welcome to the GSL Environmental 2023 Q2 Earnings Call. At this time, all participants are in a listen only mode. After the presentation, there will be a question and answer session. Also note that the call is being recorded. And I would like to turn the conference over to Patrick Davidge.

Operator

Please go ahead, sir.

Speaker 1

Thank you, and good morning, everyone. Sorry for the slight delay, as our conference operator is So, you may hear from others that they may have not been able to log in, but anyone that logged in prior to The conference call is available on the webcast and whoever who's logged in before 8:15 I can certainly ask questions. So I'd like to welcome everyone to today's call and thank you for joining us. This morning, we will be reviewing our results for the Q2 and updating our guidance for this year. I'm joined this morning by Luc Pelosi, our CFO, who will take us through our forward looking disclaimer before we get into details.

Speaker 2

Thank you, Patrick. Good morning, everyone, and thank you for joining. We have filed our earnings press release, which includes important information. The press release is available on our website. We have prepared a presentation to accompany this call that is also available on our website.

Speaker 2

During this call, we will be making some forward looking statements within the meaning of Canadian and U. S. Securities laws, including statements regarding events or developments that we believe or anticipate may occur in the future. These forward looking statements are subject to a number of risks and uncertainties, including those set out in our filings with the Canadian and U. S.

Speaker 2

Securities regulators. Any forward looking statement is not a guarantee of future performance, and actual results may differ materially from those expressed or implied in the forward looking statements. These forward looking statements speak only as of today's date, and we do not assume any obligation to update these statements whether as a result of new information, future events and developments or otherwise. This call will include a discussion of certain non IFRS measures. A reconciliation of these non IFRS measures can be found in our filings

Speaker 3

I

Speaker 2

will now turn the call back over to Patrick.

Speaker 1

Thank you, Luke. In the Q2, we continue to build on our strong start to the year with another quarter of double digit core pricing and over 300 basis point expansion of underlying solid waste margins. Based on our strong performance in the first half, together with our optimistic outlook for the remainder of the year, we are increasing our already industry leading guidance for 2023. Both Q2 top line growth and margin expansion were beyond our internal expectations and continue to demonstrate the strength of our best in class asset base and ability of GFL's exceptional team to execute on our proven value creation strategies. With each passing quarter, I continue to be more humbled by the of our 20,000 plus employees to drive our results and I'm grateful to each and every one of them for their contribution to our success.

Speaker 1

The Q2 also saw the successful completion of our portfolio rationalization initiative that we committed to earlier in the year. From these non core divestitures, we realized gross proceeds of approximately $1,650,000,000 which is $150,000,000 more than our original guidance. We also completed all 3 divestures 1 quarter earlier than we had originally anticipated. Our ability to complete An initiative of this size and complexity over a short 6 month period is another testament to the capabilities of our team to successfully execute on our strategies. The rationalization initiative was part of a broader, more comprehensive portfolio review that we undertook in 2022.

Speaker 1

As a result of that Review, we recognize that while all the divested assets were of high quality, their forecasted return profiles were far less relative to other outsized accretive growth opportunities that we had identified in other areas of our business. We expect that the resulting geographic concentration of our portfolio after These divestitures will further support our ability to compound earnings and free cash flow at industry leading growth rates. The divestitures The added benefit of accelerating our balance sheet deleveraging with the net proceeds from the sales applied to paying down our highest coupon floating rate debt. As a result of the pay down, we ended Q2 with our lowest net leverage in company history. The resulting enhanced strength of our balance sheet Alongside our margin expansion and our accelerated free cash flow generation sets us on a clear path to ending the year with net leverage at less than 4 times and the opportunity to delever into the mid-3s by the end of 2024.

Speaker 1

As we have demonstrated, we remain committed to our deleveraging goals and are optimistic about the positive impact of the credit rating upgrades that we expect will occur along the way as our net leverage decreases with an eventual path to investment grade ratings. On our Q2 operating performance, we achieved revenue Growth of nearly 14%, including the impact of asset divestitures, driven by solid waste core pricing of 10.4%. A combination of open market pricing activity, the roll forward of our surcharge initiatives from last year and the continued elevating Price increases on our CPI linked revenue drove our core prices to close to 200 basis points higher than expectations. We expect that the strength in the pricing that we have experienced in the first half will position us to achieve a full year core price of over 9% compared to 8% that was the basis for our initial 2023 guide. Lower solid waste volumes in the quarter were in part driven by the pull forward of volumes in the Q1, but also our exit from non core service offerings, mostly in our Canadian business.

Speaker 1

As part of our strategic portfolio review that I described earlier, we also decided to intentionally shed high volume, low quality revenue, primarily in our U. S. Residential service line and to deploy our resources into other attractive opportunities. We believe that this quality of revenue focus is yet another example of our discipline around capital allocation and our returns on invested capital. The margin expansion and our cost base to drive higher underlying profitability.

Speaker 1

Consolidated margins in the quarter expanded 130 basis points over the prior year. As the spread between price and cost inflation continues to widen, adjusted EBITDA margin expansion in our underlying solid waste business accelerated to 3 15 basis points in the quarter. In addition, our solid waste adjusted EBITDA margins were 60 basis points ahead of 2021, meaning we now have more than recovered our pre cost inflation margin profile. The effectiveness of our fuel cost strategy initiatives can be seen in the quarter Over quarter decrease in the margin impact of diesel prices. We are pleased with the progress we have made on the respect of fuel surcharges and see incremental opportunity as we continue to optimize the program across our platform.

Speaker 1

While commodity prices continue to be a margin headwind compared to the prior year, We believe an eventual price recovery will occur and the future benefit of margins as we go forward. As we anticipated, Cost deflation excluding fuel prices continues to moderate, although we continue to see repair and maintenance costs pressures persist. We now expect to end the year 50 basis points above the original plan on the R and M expense line, but with the overall cost trending in the right direction. Labor costs continue to sequentially improve and we are optimistic about further moderation in the back half of the year. Performance in our Environmental Services segment was equally impressive with the revenue growth of nearly 20% and adjusted EBITDA margin expansion of 100 basis points.

Speaker 1

We continue to believe our strategic focus on our revenue quality and asset utilization will yield meaningful incremental operating leverage in this segment over the coming years with a line of sight to 30 percent segment EBITDA margins. Adjusted free cash flow was ahead of plan inclusive of incremental interest expense as a result of the earlier debt payment, which was not previously factored into our guide. CapEx spend was slightly behind expectations attributed to the timing differences, but CapEx for the quarter included spend on new projects incremental to the original plan. With the success of the divestiture transactions, we intend to allocate $200,000,000 to $300,000,000 of proceeds to a number of incremental sustainability related capital projects, primarily related to opportunities arising from extender producer responsibility legislation and Renewable Natural Gas. In keeping with our strategy to maximize our returns on invested capital, we believe that these projects On RNG, we had the ribbon cutting at our Arbor Hills RNG facility in June, marking the completion of its construction.

Speaker 1

The Arbor Hills RNG plant is the 1st and largest GFL renewables project that we have with Opel Fuels and is expected to produce more than 2,500,000 MMBTUs of RNG when it comes online later this quarter. We had said earlier in the year that we expect to have 2 projects In addition to the Arbor Hills online later as part of this review, we now expect that we only have one of the additional projects to meet that time line with the 3rd project now expected to follow by the second half of twenty twenty four. The recent run up that we have seen in the RIN prices is very positive for our investments In these projects, but even without those larger higher prices, we remain very excited about the contributions of EBITDA from our landfill gas energy project that we will begin to see this year and ramp into 2024 2025. We believe that our existing network of best in class assets The 3 non core divestitures and harvesting the self help opportunities in our existing platform. Our results demonstrate our success in implementing these initiatives.

Speaker 1

We continue to have a robust M and A pipeline and given the enhanced strength of our balance sheet and free cash flow profile, we will again focus on our M and A strategy identifying our existing footprints in North America. On the ESG front, we made progress in several areas. GFL was named Corporate Knight as one of Canada's 50 Best Corporate Citizens and was awarded the Seal Business Sustainability Award for the 2nd time in 3 years for the RNG initiatives that we are implementing in our landfills. These RNG projects are key pillars of our sustainability action plan and support our goals of reducing our own GHG emissions by increasing capture of landfill gas and displacing the use of virgin fuels in our fleet. We are also continuing to increase our ESG disclosure with the filing of our first CDP report this month, and we are on the path to completing our first comprehensive stand alone report in line with the recommendation of the task force on climate related financial disclosures by the end of the year.

Speaker 1

I'll now pass the call over to Luke, who will walk through the quarter in more detail, then I'll

Speaker 2

presentation, which provides supplemental analysis to summarize our performance in the quarter. Page 3 summarizes the bridge between realized revenue and our guidance, updated to reflect the impact of the divestiture is consistent with our June 5 press release. Excluding the impact of the steady appreciation in the Canadian dollars since beginning of May, when we provided this Q2 guide, revenue was $1,955,000,000 as compared to our pro form a guide of $1,950,000,000 When unpacking the outperformance, it is really a function of incremental solid waste pricing, which was about 175 basis points ahead of plan, offset by just under 200 basis points of incremental negative solid waste volume. Recycled commodity prices and higher revenue from our Environmental Services line contributed to the outperformance, but the amounts were relatively immaterial. Solid waste core pricing continues to be strong in both our geographies.

Speaker 2

Recall the normal and expected cadence of quarterly pricing is a peak in the Q1 and then a sequential step down thereafter. The 200 basis point deceleration from Q1 was less than expected as open market pricing remained constructive and our CTI linked revenue continued to reset at elevated levels, providing support to the relatively lower percentage price increases historically realized in the residential collection and post collection lines of business. Q2 solid waste volumes was negative 3.5%, which included a certain amount of volume pulled forward into Q1, As we had suggested on the Q1 call as well as intentional shedding of low margin work. Looking at the first half as a whole, which is more reflective of the underlying performance of the business, solid waste volume was negative 160 basis points. The The components of this negative 160 basis points breaks out as follows.

Speaker 2

Approximately 60 basis points relates to the exiting of non core other revenues in our Canadian business. These are lower margin ancillary services inherited through acquisitions that we have decided to no longer provide as a result of our ongoing strategic portfolio reviews that Patrick spoke to. Another 20 basis points relates to special waste volumes, which tend to vary in timing from 1 year to the next. And the other 100 basis points relates to non regrettable losses, substantially all of which is in the collection line of business. Our underlying volume growth for the first half was approximately 20 basis points.

Speaker 2

The vast majority of our customers are willing to pay for our high quality services, and we continue to retain existing customers and win net new customers at appropriate prices every day. But as Patrick mentioned, we're electing to not renew contracts that do not meet our return thresholds given our increased focus on quality of revenue. In the current operating environment, we believe that it's better to use of our resources to focus on the many other accretive opportunities we see before us. The positive impact of our pricing and deliberate volume strategies can be seen in the underlying adjusted EBITDA margin expansion. On Page 4, we show the bridge of the 220 basis point year over year solid waste adjusted EBITDA margin expansion.

Speaker 2

Commodities continue to be a year over year headwind and then a 110 basis point impact compared to the prior year. Due to our scale and the quality of the commodities we sell, we typically realize a selling price at a spread above market indices. However, periods of significant price volatility can temporarily cause spread compression such that the net price we realize can decrease Even when the headline market indices increased, and that's what we saw in Q2. Although fiber prices have increased recently, the coincident rapid and significant The quarter was only very modestly above our initial guidance. The divestiture of the Colorado MRF, which had a blended basket of goods priced higher than our company average, also impacted our average commodity price.

Speaker 2

The continued decline in nonfiber prices since quarter end results in a current basket price approximately equal to our original guide. The anticipated stabilization and subsequent recovery in commodity prices towards the end of the year should result in a reversal of this trend. The incremental effectiveness of our fuel cost recovery strategies is clearly evident on the bridge on Page 4 of the presentation with an 85 basis point sequential improvement to the net margin impact over Q1. With the substantial completion of the first phase of our surcharge initiative, We do not anticipate material negative margin impacts from future rapid increases in diesel costs, and we see additional upside from continued enhancements that we are implementing, including on the indirect fuel side. Also shown on the bridge is the impact of M and A and of receiving approximately $5,000,000 of business interruption insurance for the Murph fires that we After excluding those items, base business solid waste margins expanded 3 15 basis points, 125 basis point acceleration over Q1 and demonstrative of the widening spread between price and cost inflation that we forecast in the 2023 guide.

Speaker 2

The accretive margin impact of the non regrettable revenue losses that Patrick and I just described also contributed to the margin expansion outperformance. Adjusted free cash flow for the quarter was $9,000,000 better than our plan despite incurring $10,000,000 incremental cash interest expense as a result of repaying our floating rate debt earlier than originally anticipated. Adjusted cash flows from operating activities increased 18% despite a 32% increase in cash interest expense versus the prior year. On Page 5, we have summarized the impacts of the now completed divestitures. Due to timing differences between in year impact of divested adjusted EBITDA and the associated savings in interest costs and CapEx, The divestitures are modestly dilutive to 2023 results, but are still anticipated to be accretive within the 1st 12 months.

Speaker 2

Cash taxes and transaction costs resulting from the asset sales will total just under $400,000,000 and the approximately $1,300,000,000 of proceeds We're used to repay outstanding borrowings under our revolving credit facility and just under half of our Term Loan B. As Patrick mentioned, With the transactions yielding $150,000,000 more than the original plan and closing a quarter early, we are reallocating a portion of the proceeds towards attractive Where it shows that now almost 80% of our debt is fixed rate and the overall complex blends to a borrowing rate of approximately 5.2%, nearly 50 basis points better than before the debt pay down. In terms of our updated guidance for the year, Page 8 provides the bridge from our original guidance. Pro form a for the divestitures, we are increasing our revenue guidance by approximately $70,000,000 on a like for like basis. The new guide assumes an FX rate of 1.32 for the balance of the year.

Speaker 2

So the last step on the bridge shows the impact of that change in FX rates. Underlying this new guide are the following assumptions: solid waste pricing goes to just under 9.5% from 8% Surcharges go to negative 1% from flat, reflecting lower diesel prices. Solid waste volumes go to negative 2% from flat With underlying volume growth of positive 20 basis points offset by approximately 110 basis points of intentional shedding and approximately 90 basis from exiting noncore ancillary services, mostly in our Canadian business. Commodity prices are expected to impact consolidated revenue by negative 60 basis points, Well, FX is expected to contribute positive 160 basis points. The new guide also assumes that Environmental Services organic growth improves performance in the Q1 and new M and A during the year, offset by the impact of divestitures.

Speaker 2

The new guide assumes today's commodity price environment, As previously discussed, the net impact of which is broadly in line with our original guidance, the expected recovery of commodity prices should provide sides of the guide throughout the back half of the year. Page 9 completes the guidance update and shows the pieces to walk from revenue to free cash flow. Adjusted EBITDA increases $55,000,000 using the same FX rate as our original guidance or $50,000,000 at the new FX rate. And adjusted EBITDA margin expands an incremental 50 basis points over the original pro form a guide as the widening spread of price over cost, Improved asset utilization and the accretive impact of shedding low margin volume all drive incremental margin. Cash interest expense reduces to $490,000,000 as the in year savings from the debt repayment are partially offset by the increased interest costs From floating interest rates and borrowing levels higher than originally anticipated, in 2024, the full year impact of the debt repayment will be realized And cash interest expense will be closer to $400,000,000 On CapEx, as we said, we see highly compelling opportunities to redeploy a portion of the Proceeds from the divestitures into incremental organic growth initiatives, which we anticipate will provide accretive returns on invested capital long into the future and further improve our ability to generate high quality sustainable free cash flow growth.

Speaker 2

Some of these projects were already in our queue And the incremental expenditure reflects the acceleration of investment that would have otherwise been made beyond 2023. Others are net new opportunities that arose this year. As Patrick said, we expect that we'll be able to deploy an incremental $200,000,000 to $300,000,000 of CapEx before the year is done and have updated our guidance for this gross CapEx accordingly. The breakdown of the incremental investment is approximately $150,000,000 to $200,000,000 into 5 MRFs, 4 of which are in Canada and 1 in the U. S.

Speaker 2

Dollars 25,000,000 to $50,000,000 into RNG project development and another $25,000,000 to $50,000,000 for land and building The payback on our RNG investments are well known. And at today's RIN prices, the returns are even more attractive at sub 3 year paybacks. So we're obviously motivated to accelerate these projects as quickly as possible. And in certain instances, the incremental RNG capital is a result of a changing partnership economics, which we expect to be positive. On the MRF spend, these projects are largely in response to existing EPR legislation and strategic positioning in markets where we expect EPR to arrive or where we have sufficient internal volumes.

Speaker 2

These new EPR contracts can be 10 year fee for processing based models with accretive margin profiles and sub 5 year paybacks. We view these investments as a reallocation of proceeds received from the divestitures. We think that offsetting this excess investment by a corresponding and equal allocation of divestiture Proceeds yields an adjusted free cash flow metric that is more reflective of the current cash generating capabilities of the business. The impacts of working capital and other operating cash flow items are expected to be close to nil, excluding the impact of the cash taxes associated with the divestitures, which we intend to exclude in our adjusted free cash flow reconciliation. The resulting balance sheet from the revised operational guide is net leverage of less And 4 times exiting 2023, a level that should organically reduce another 50 to 70 basis points by the end of 2024, as shown on Page 11 of the presentation, putting us on a solid path toward an investment grade rating in the medium term.

Speaker 2

In relation to our specific expectations for the Q3, We expect consolidated revenue of approximately $1,865,000,000 just under 80% of which will be in solid waste. Keep in mind, the recent divestitures impact Q3 revenues by $115,000,000 compared to the original guide, which is the driver of the atypical step down from the 2nd quarter. The recast FX rate also impacted sequential quarterly comparison by approximately $20,000,000 Solid waste adjusted EBITDA margins are expected to be in line with the 2nd quarter, reflecting underlying sequential expansion offset by the 35 basis point benefit of insurance recoveries that we recognized in Q2. Environmental Services margins are expected to be Between 30% 31% through operating leverage realized on the peak third quarter revenues. Corporate cost margins are expected to be 10 basis points higher than Q2 on continued investment in IT development and the impact of the divested revenue.

Speaker 2

This results in adjusted EBITDA of approximately $525,000,000 at Consolidated margins of approximately 28%, representing over 200 basis points of expansion compared to the prior year. From that adjusted EBITDA, the components that get to adjusted free cash flow are cash interest costs of $115,000,000 a a benefit from working capital net of other items of about $25,000,000 and gross CapEx of $275,000,000 to 300,000,000 approximately $160,000,000 when incorporating the allocation of the divestiture proceeds previously discussed. That results in adjusted free cash flow for the 3rd quarter $275,000,000 That's the summary of the guidance update. I will now pass the call back to Patrick, who will provide some closing comments before Q and A.

Speaker 1

Thanks, Luke. This quarter shows the results of our focus on taking the exceptional platform we have built and continuing to enhance it to produce industry leading results. We continue to use all of the self help levers that we have at our disposal to improve asset utilization and cost efficiency and the impact of that is demonstrated in the quarter over quarter underlying margin expansion. We are taking action across our network of assets to maximize the returns from our customer base, from each market area and from strategic capital investments, all confirming the relentless commitment of GFL's employees to long term value creation for our shareholders. As I said earlier, I'm extremely grateful to all of GFL's employees for the commitment to the success of Team Green.

Speaker 1

I will now turn the call over to the operator to open the line for Q and Thank

Operator

And your first question will be from Michael E. Hoffman at Stifel. Please go ahead.

Speaker 4

Hey, everybody. Thanks for taking the questions. Patrick, let me start with price. So the whole industry has been enjoying this benefit. From your perspective, is it Better retention of what you've been doing or did you come back through and add look for more?

Speaker 4

And then I'd like to talk about cadence Because inflation is starting to ebb, so we do need to manage the thought about cadence.

Speaker 1

Yes. So I think, I mean, we had the benefit of, Again, some of the surcharge programs and rationalizing the existing book that we had, we had a lot of that will be Recognize in base price, the initial recognition that comes into base price, so that remains at elevated levels. But The mark, we still have a good opportunity with an existing book of business with some underpriced customer bases, particularly on the commercial side And on the residential side, to continue moving those up, coupled together with the CPI lags in the residential books of business. So all those put together allowed us to sort of move up the guide, particularly on price, particularly with seeing where some of those CPI adjustments Have been coming earlier in the year and we're we think the balance of those, re rate. So we're in a good position.

Speaker 1

Obviously, with CPI coming down as that moderates, We've built that into our forecast, but I think from where we sort of sit today, we feel very comfortable with the guidance that we put out.

Speaker 4

And how should we think about cadence through the second half and then into 'twenty four because CPI is coming down and That doesn't mean you won't maintain this really strong spread, just the rate of change will narrow.

Speaker 2

Yes. Michael, it's Luke speaking. I think that's right. For the balance of 23, we expect, we'll call it kind of normal cadence that these Q3 stepping down like another 200 basis points, similar to Q1. And then the step down sort of moderates In Q4, you're looking at sort of more like 100 basis point step down then.

Speaker 2

And then look, we're not at a position where we want to talk about 24 in earnest, but as we've said historically, we think there's a constructive backdrop with the delays in CPI as well as the constructiveness Of the open market dynamic to continue at what would be elevated levels of pricing. I don't think you're going to see it at 2023 levels. But to your point, we're going to be facing a cost inflation number that is well inside of what 2023 saw. So we think, as we've been saying for the last couple of quarters, That there's an opportunity to continue to maintain what is an outsized spread as compared to historical amounts.

Speaker 4

Okay. And you have socialized in the past the idea of by 2025 an adjusted cash number of $1,000,000,000 But it would appear now that without adjustments that $1,000,000,000 is achievable by 2025. Are we looking at that correctly?

Speaker 1

I would be disappointed if it wasn't there for sure. I mean, if you sort of look at what the natural I mean, we said, We think when you sort of layer in RNG and you layer in all the other aspects and now with the accelerated delevering, I think We're certainly going to my expectation is we are definitely going to exceed the $1,000,000,000 in 2025.

Speaker 4

Okay. And then The RNG projects that you're adding in the accelerated spend, do they qualify for investment tax credits? So I'm going to get that capital, some of that back anyway? Okay.

Speaker 1

Yes.

Speaker 4

And can you max it out at 50% or should we think about it as 30%?

Speaker 1

30%.

Speaker 4

Okay.

Speaker 1

I mean, we'll push to maximize that $50,000,000 but for conservatism perspective, we're using $30,000,000

Speaker 4

All right. And then What gives you confidence you can spend all this money in 2023 given the delays that happened in other stuff?

Speaker 1

We're not certain. I think from our perspective, it was prudent to sort of bring it up. I think when you think about these incremental capital spends, As you know, we've been sort of a leader, particularly on the EPR front. And a lot of those contracts have come together over the last Couple of months and they are a combination of MRFs and hauling businesses to support those, not only in Ontario, but supporting them in other parts of the country. And the way I would think about it, hey, if this was an acquisition, you're basically getting, call it somewhere between $40,000,000 $50,000,000 of EBITDA at very sort of high EBITDA margins, for a spend of a couple of $100,000,000 So you're paying sort of 4 to 5 times.

Speaker 1

Yes. So I think from our perspective, we think we have the ability to deploy those dollars. Some of this has been in planning with the expectation that This would happen because these negotiations started last fall but have really come together over the last couple of months.

Speaker 2

And Michael, the uncertainty about the ability is also the basis for the wider range, put 200 to 300 on that basis. We also have to remember, as Patrick said a lot of this is in EPR and MRF. And while Machine X and Van Dyke and the likes may not be able to deliver all the equipment, in certain instances, there's land building, Retrofitting existing properties, construction, so there's other costs that could be done in preparation for it. But you're absolutely right. It's A bit of uncertainty on the absolute quantum and hence the wider range.

Speaker 1

Okay. Thank you. Thank you. Thanks, Michael.

Operator

Next question will be from Kevin Chiang at CIBC. Please go ahead.

Speaker 3

Thanks. Good morning. Thanks for taking my questions here. Maybe just on how to think about CapEx moving past 2023, Gross CapEx, and I appreciate you have offsets here given the successful asset divestitures. But if I think of what the gross CapEx intensity of the business is In 'twenty four and onwards, should we holding at these levels kind of 14%, 15% of revenue just given the pipeline of opportunities?

Speaker 3

Or you kind of step back down to, let's say, 10%, 11%, 12% like you were assuming in the original forecast earlier this year?

Speaker 2

Yes. Kevin, it's Luke speaking. I think characterizing this year as an outlier is the appropriate approach, and it's really by function of these divestitures, Proceeds being reallocated. The other component to this is RNG. And if you look at our total spend Overall of the projects in totality might be end up being at a sort of gross level in a sort of $500,000,000 level.

Speaker 2

But when you think about 30% ITCs, When you think about 40% to 50% project level financing, your actual equity check at the end of the day is going to be materially less than But sometimes there's timing differences since part of this year's spend is the ITCs are going to come next year, but we want to invest the capital this year. So you are going to have a bit of this gross versus netting as we deploy into RNG. I think when you look at our underlying business, you think about The relatively lower landfill concentration that we have because of the Canadian dynamic and the Environmental Services business that both run at a lower capital intensity Then industry averages, we see a clear path to live at that sort of 11% level, which is inclusive of the normal course growth. To the extent attractive compelling opportunity to deploy capital arise, we'll talk about it like times like this, but I think dollars at play as we go forward will become less impactful to the overall and that in and around 11% is the right intensity to think about.

Speaker 3

Excellent. That's great color. And then you laid out, I'll say, a target to mid-three times leverage exiting 2024. I guess when I think back to your Investor Day, you kind of laid out a number of acquisition scenarios. Just If you're able to share with us, which of those 3 should we be thinking about to get to the mid-3s?

Speaker 3

Are you kind of back to an elevated M and A scenario in Mid-3s, are you kind of in the middle of the pack? Does it seem no M and A? Any color there would be helpful.

Speaker 1

Yes. Listen, I think From where we sit today, we have some wonderful acquisition opportunities that will be very compelling for us to execute on in the back half of this year. So we put out this guide. We've taken a conservative view on the guide. Obviously, every quarter since we've been public, Our philosophy has been sort of under promise and over deliver.

Speaker 1

So I think that theme will continue. The backdrop is we've committed to this year keeping leverage sort of around 4 turns. And we will do that with the model we have as well as executing on the M and A. So where we sort of sit from the company's So where we sort of sit from the company's first time in history, given the free cash flow profile of the business now And what that looks like free for next year, we've thrown out a number next year for almost $875,000,000 of free cash flow. When you look at that coupled together with free cash flow in the back half of the year, we're going to be able to do both.

Speaker 1

The business is going to grow organically. It's going to naturally delever. Yes. M and A, taking that taking a bunch of the free cash flow and reinvesting that into our M and A program. Again, we'll all be delevering events.

Speaker 1

So we think we're going to get there irregardless of our normal sort of M and A spend.

Speaker 2

And Kevin, the math today, I mean, it's pretty straightforward. If you think about organically, the business could delever to low 3s. How much M and A will temper that otherwise delevering? It's roughly 4 basis leverage for every $25,000,000 of EBITDA you buy. And so if you put that together, if you buy $50,000,000 to $100,000,000 of EBITDA, that has an impact of Somewhere to the tune of sort of 10 to 20 basis points of incremental leverage.

Speaker 3

Okay. That's great color. And just last one for me. Environmental Services, long term target of getting this to 30% EBITDA margin, you

Speaker 5

kind of hit that in

Speaker 3

certain quarters, at least very high 20s. Just When you think of getting there, I guess on an annualized basis, is it trying to reduce the seasonality of the margins, which are a little bit lower In the shoulder quarters, does everything have to come up by 400 basis points? Or do you just have to

Speaker 6

kind of hit it out

Speaker 3

of the park even more so in the Q2, Q3 quarter, just wondering how you think about getting to that 30 overall, just given the seasonality and that profitability?

Speaker 1

Yes. There's always going to be a Large element of seasonality in that business just because for the simple fact that it's levered to Canada. So we are going to have that normal cadence each and every year. That being said, there's going to be a high focus on quality of revenue and surcharges That we believe we should be getting in that line of business. So I think when you look at it, I think there's the ability to just really take up margins.

Speaker 1

The Q1 margins will obviously always be the lowest. Q4 will be the next lowest and Q2 and Q3 will be the highest. We have to push Q2 and Q3 exceedingly above sort of where they are today and we have to get those surcharges implemented to offset the sort of Q1 and Q4 dynamics. So it's going to be a bit of a mixed bag, but I think we have a clear path to sort of getting there. And I think you're seeing that come through Quarter over quarter, year over year.

Speaker 2

And Kevin, you got to remember, the foundation of that business is largely predicated on these post collection facilities we have across Canada that are very high fixed Cost based in nature. And as you think about the revenue growth we're now putting in the utilization improvement of those assets, you get a lot of operating leverage coming out. You're seeing that this year. And as we roll that forward, what was used to be $500,000,000 $600,000,000 of revenue in that segment, we're now going to be approaching 1,500,000,000 And you're going to get meaningful operating leverage at a much more fixed cost base.

Speaker 3

That's great color. Thank you very much. That's it for me.

Speaker 1

Thanks, Kevin.

Operator

Next question will be from Jerry Revich at Goldman Sachs. Please go ahead.

Speaker 7

Hi, this is Adam Bubis on for Jerry Revich today. For taking my question. Can you talk to the incremental, I think it was $25,000,000 to $50,000,000 RNG investments, does that include any new projects? And should that change how we're thinking about the cadence of projects beyond 2023?

Speaker 2

So Adam, it's Luke speaking. Nothing is new in that number. There is one project that was previously going to be a partnership that we're now going to go alone. In that, it was Partnership with not one of our core partners, but a tertiary partner, and we've now bought them out. They're going to go alone and accelerating some of the spend on that.

Speaker 2

So We're still looking at the same number of projects in totality. The reality is, as I was speaking before, with the combination of Timing of receipt of ITCs as well as project level financing, there's just a bit of a change in the cadence of our equity checks. And so I think when you get to the end of the next couple of years, the actual net investment will remain the same, but just there'll be some lumpiness from quarter to quarter.

Speaker 7

Understood. And then with RIN 3 prices now in the $3 range, can you just update us on how you're thinking about your offtake strategy in RNG? Do you have a Targeted percent that you intend to sell into transportation markets versus long term arrangements?

Speaker 1

Yes. So again, currently in process. I think our longer term strategy May differ from the shorter term strategy, but in the longer term, like we said, we want to get to a point where we basically have 60% to 65% of our offtake Parsed off in sort of long term agreements. Obviously, we want the right price for that. Obviously, with the $3 RIN, that helps the longer term strategy For those longer off take agreements, but we want to get to a point where we're going to be at sort of a longer term off take agreements in the sort of 60% to 65% range.

Speaker 7

Got it. That's helpful. And then lastly, really strong margin performance in the quarter with margins well ahead of normal seasonality. Just looking at the back half guidance, it looks to be implying sequential margins basically in line with normal seasonality. And It also looks like your underlying inflation is decelerating much faster than price.

Speaker 7

So just Any puts and takes around the sequential margin cadence from here relative to normal seasonal trends? Yes.

Speaker 2

So I think last year sort of defied the normal seasonality by virtue of the inflationary ramp that was really more focused in the And so as that's unwinding, it's causing some impact to the current year sort of seasonality cadence. But look, for the Q3 guide that we've put out, Effectively saying solid waste continues to expand from where it is today, just normalized for the insurance recoveries that we received in Q2, which Created about a 30, 40 basis point benefit to Q2. So if you're stripping that out, continued sequential improvement in solid waste, and that's really a function of that Continuing widening spread. Yes, cost inflation is anticipated to moderate even further in Q3, and you're going to be in a mid single digit number. And as pricing sort of comes down accordingly, I think you'll get a little bit more spread above those 2.

Speaker 2

Environmental Services is similar to the comment we were saying before, Really firing on all cylinders, but with the Q3 peak revenue, it's where you're going to get the sort of optimized operating leverage. That's why we see now a path that margins in that segment for Q3 could touch 31%. And then Q4, obviously, as the seasonal cadence, you have a bit A step down from there as you move into the winter season.

Speaker 7

Great. Thanks so much.

Speaker 2

Thanks, Adam.

Operator

Next question will be from Tyler found at Raymond James. Please go ahead.

Speaker 5

Hey, good morning guys.

Speaker 2

Good morning Tyler.

Speaker 5

Hey, Luke, I think you touched on it, but volumes were a bit weak in the quarter. It sounded a bit by design. You gave some color, but 2nd half volumes are maybe down 2% on my math. Is that about right? And will there be any difference between 34?

Speaker 2

Yes. So, Thad, I'd say your math is right, as that what the second half is looking at. And it's really just a continuation of what we articulated in the So as I said, I think the pull forward from Q2 into Q1, so I think looking at first half in totality makes more sense, Negative 160 basis points of volume. If you break that down, you had about 60 basis points, which was $15,000,000 of what I'm calling this noncore ancillary services. This is work stuff like wood chipping or gravel hauling and other ancillary type services primarily in secondary markets We've been doing for a while, but we really don't make any money there, and we're exiting that.

Speaker 2

So that's one component of it, and that will sort of basically maintain each For the first half, we have about 20 basis points of the event driven special waste volumes. If you look last Q2, special waste volumes or landfill volume in the U. S. Was plus 12%. I think we benefited from cleanup from some Tornadoes and other events.

Speaker 2

That's always going to have a certain degree of lumpiness. I don't think there's anything indicative of underlying trends that are concerning there, but rather just the normal Sort of change. So I'm anticipating by the end of the year that sort of neutralize more back to sort of flat sort of level. And then what you're left with for the first half is this sort of 80 basis Call it $20,000,000 of the net of this intentional shedding offset by real underlying volume growth. And the intentional setting, look, it's primarily in residential collection, although some is in IC and I.

Speaker 2

And this is a function of our strategy of price over volume. And I think by and large, it's working and you can see it in the numbers and in the margin, but certain select handful of residential large accounts that are unwilling to pay for our service, We're going to walk away from and we're happy to do so in this environment. So for the back half of the year where you end up with the roughly 200 basis points Or $100,000,000 of negative volume for the year as a whole, you roughly have half of that as a result of the exiting the non core ancillary services. And another so to call it $60,000,000 from the non regrettable losses or intentional shedding. And then you have an underlying $10,000,000 $20,000,000 of Positive growth from our normal course service level increases and new customers.

Speaker 5

Okay. Yes. Very detailed, very helpful. Appreciate that. Patrick, I want to talk about repairs and maintenance because it sounds like the OEs are starting to deliver.

Speaker 5

It seems like part Prices are disinflating and I think rentals might be down next year. But does R and M feel like it could be a uniquely good story in 2024?

Speaker 1

Yes. I mean, we're still basically 100 almost 1 100 basis points more than where we've been historically. So yes, I think we're going to this year is going to be 50 basis points ahead of What our original plan was at the beginning of the year, but things are certainly coming down. We're certainly getting more truck deliveries And the timeliness of those truck deliveries is coming on board. Now from an OEM perspective, it's obviously moderating prices on supply of parts as well.

Speaker 1

So All of those coupled together are coming down. I mean, if you look at from us from a rental truck perspective, we are a quarter we are renting a Quarter amount of the trucks that we were renting a year ago, right? So that's all in the R and M line. So yes, you're right. And I think As that moves into 2024 and 2025, that is certainly going to moderate and be a good news story as we move out for those next 2 years.

Speaker 5

Okay. We'll keep an eye on that. And then Luc on the $1,650,000,000 gross proceeds, I think you said $400,000,000 maybe in taxes and transactions that's going to be out the door. Has any of that been paid? If not, when will that be paid?

Speaker 5

And where will that show up on the cash flow statement?

Speaker 2

Yes. So maybe modest amount of transaction costs Have been paid roughly, think of it, dollars 3.60 of taxes, dollars 40 of transaction costs, round numbers to get you to that $400,000,000 A modest amount of Transaction costs would have been paid in Q2. The rest was accrued, and you can see that in the large transaction cost adjustment that we have in the P and L. The balance of those transaction costs will be paid in Q3 and will show up in our normal transaction cost bucket. The cash taxes We'll be paid sort of roughly, call it, half in Q3 and half in Q4, maybe actually more like sixty-forty towards Q3.

Speaker 2

And it will show up in our cash tax section in the cash flow. We may have some incremental disclosure to break it out so you can See the impact of what we're calling the sort of onetime versus ongoing.

Speaker 5

Okay. Okay. That's helpful. And then my last one, kind of another question along Maybe a similar line, but a couple of your RNG plants are kind of in that initial startup phase. But how much EBITDA contribution are you baking in on those facilities?

Speaker 5

And how is the accounting going to work? Are you guys It seems they're not consolidated. So will you just have some sort of an add back in the EBITDA reconciliation? Or how is that going to work just practically?

Speaker 2

So for 2023, the guide anticipated an inclusion of an immaterial number, I think, was about $10,000,000 in total. With the delays, I mean, that might be a little light, but the RIN pricing probably offsets. So the 2020 number is sort of as per the original guide. The 2023 number. As you get into 2024 and that starts ramping up, yes, Tyler, I think that's right.

Speaker 2

These are joint ventures that are unconsolidated and our perspective is GAAP based accounting answer doesn't accurately reflect what our investors are looking for. So you will have an adjustment So remove the GAAP based net income that you're picking up and replace it with your proportionate share of the EBITDA. So we'll preview that as part of our 2024 guide and make sure everyone understands very clearly what we're showing there, but we anticipate something to that effect.

Speaker 5

Okay. All right. Good stuff. Thanks, guys.

Speaker 1

Thank you, Tyler. Thanks, Tyler.

Operator

Next question will be from Walter Spracklin at RBC Capital Markets. Please go ahead.

Speaker 6

Yes. Thanks very much. Good morning, everyone.

Speaker 1

Hey, Walter.

Speaker 6

So on the intentional We're hearing that from your peers as well. Just a basic question, where is that being shed to? Are you seeing Smaller players now picking up some of this? Is it going to some of the majors that are seeing a better opportunity through Combining with their own operator, just curious as to what your experience is where a couple of your at least one of your peers is talking about some pretty significant Also intentional shutting of business as to where it's ending up? Yes.

Speaker 1

I mean, for the most part, I mean, It's in very selective market. It's been a mixture of both. It's been some strategic that have some strategic Opportunities there, whether that's internalization of streams into their landfills, etcetera. And in a couple of the markets, it's been municipality taking a chance on A smaller type collector in a market that's sort of a recent start up. History tells us with those, we always generally end up with The work coming back to us over the course of the next sort of year to year and a half.

Speaker 1

And from our perspective, particularly in this OEM environment of getting new trucks And the cost of capital, we want to be rewarded appropriately for it. So, and some of these residential contracts came with acquisitions, etcetera. I tell everybody in the organization, we're a for profit organization. We don't need to practice. So There's no sense in practicing on some of these residential contracts, particularly in this environment, if we can take those good dollars and deploy them into things that are actually we're going to make money from.

Speaker 1

So

Speaker 6

And there's no worry here that this is representative of a lack of discipline among smaller players or anything to that? No. Okay. On the margin, Luke, you mentioned margin spread expansion in 2023 and that comes after You saw some cost inflation really ramp in 2022 and your mechanisms nicely now in 2023 to be able to allow for an expanding spread whereas perhaps it was contracting Last year, oil was pressured last year. How do you look at it for next year?

Speaker 6

Are you expecting more of a normalized? In other words, is there less benefit from an expanding spread? Or could we see that spread Last longer into 2024 based on how your mechanisms work.

Speaker 2

Yes, Walter. So I think as we've been saying consistently, we anticipate 'twenty four being another outsized year. And it's a combination of not just the natural Spread expansion that you're going to have, but there's also I mean, Patrick was just talking about R and M. That is not going to get fully Sorted this year and will represent an incremental tailwind. You can talk about commodities.

Speaker 2

I mean, we are very optimistic commodities will start rebounding this But I think that's going to be a real tailwind going into next year. I'm not saying you need to bank on commodities for the expansion, but just another Example of what should be a tailwind, RNG, as that comes on for us, we have a relatively demitted immaterial amount in the current consolidated results and it's very high margin. So I think the natural price versus cost inflation spread dynamic unto itself Should provide an opportunity for outsized expansion. But when you start layering those other pieces on top, we see the setup for 2024 to be an Exceptional year.

Speaker 6

Okay. That's fantastic. And the last question here is on the CapEx spend. It seems like a larger number to happen all at once. And just curious, is this something you were always contemplating and just We're mindful of dollars spent and keeping everything in check.

Speaker 6

And with the proceeds now from the acquisition, you saw an opportunity to strike on this one. Or is this something that popped up recently and kind of you had the opportunity and the capability and you hit as a result of that? Just curious as to how they came up.

Speaker 1

Yes. So I think as part of the divestiture program, we knew that there was going to be an opportunity, Particularly with where we saw the EPR opportunity going at the last half of the year, meaning in 2022, A lot of that work was tendered and developed with us in the sort of Q1 of 2023 and really formalized in the Q2 of 2023. I think from our perspective, we were our anticipation was is that as we saw the divestiture sort of unfolding, That we actually ran a little bit harder at the EPR opportunity than maybe we would have, and taking on the amount of work that was available under that program. But Listen, from where I sit today, there is no better use of capital putting the RNG spend aside than these partnerships that we've developed with The producers in Canada, particularly with some of these MRFs that contracts ranging from 10 to 20 years, Annual PIs' ability to recover CapEx dollars to meet their sustainability goals. I mean, they are one it's a wonderful partnership.

Speaker 1

It's a win win for both of us. And the fact that we've moved these to fixed fee processing contracts, so we don't have any commodity volatility, I mean, it's just it's a wonderful thing where you're basically going to be at around 4 year paybacks on these with 10 to 20 year contracts, Coupled together with the vertical integration of now putting the collection contracts together with them, we just didn't see a better opportunity to deploy those dollars. And given the fact that we even exceeded our own internal expectations of getting an extra $150,000,000 of proceeds From what we anticipated when we started the process, this was just a logical place to put those dollars. And again, the setup that gives us for 2024 and 2025 It's going to lead to significantly above average growth CAGR as we move out into 2024 and 2025.

Speaker 6

Okay. I appreciate that color, Patrick. Thanks, guys.

Operator

Okay. Thank you. Next question will be from Stephanie Yih at JPMorgan. Please go ahead.

Speaker 8

Hi, good morning. Can you talk about within Environmental Services, how much of the growth is Price driven and surcharge driven versus the processing volume side.

Speaker 2

Yes, Stephanie, it's Luke speaking. I mean if you look at the typical the growth algorithm in the solid waste business, we probably have 80% coming from price and 20% from volume. I think our Environmental Services business today is probably the inverse of that. Now it's not as homogeneous of a mix, so it's harder to do exact. But it has certainly been a volumetric growth story and is only recently pivoting to price.

Speaker 2

So Certainly, a larger portion in this quarter versus the prior was price, and you're going to continue to see that migration towards a price centric growth Story, but that's what gets us excited about the opportunity because as we start being more thoughtful about the quality of revenue and ensuring we're getting priced appropriately, We see the opportunity for meaningful incremental operating leverage over where we are today.

Speaker 8

Okay. Got it. That makes sense. And can you give us a sense of how the different business lines within Environmental Services is doing?

Speaker 2

I mean, just at a high level bifurcation, people historically asked about our sort of oil and oil related And obviously, that business with a decrease in energy costs is realizing revenues at a sort of lower point than had sort of historically. But more and more of the diversification efforts that we've undertaken, I mean, that business is representing Sub 10% of the overall as we go forward. So really when you think about our broad based sort of environmental services across sort of collection and processing, We continue to see strength that's particularly levered in Canada. I think the brand we have created and the quality of the service that we're offering It's very valued by our customers, and we continue to see phenomenal sort of growth as you've seen over the past sort of year or 2.

Speaker 8

Okay. And would you consider expanding environmental services outside of Canada more so into the U. S?

Speaker 1

I mean, if the right opportunities and the right markets presented themselves, For sure. I mean, we have been fully expanding into the U. S. Obviously, the market selection and the right asset base is the most important Par, but yes, I mean we'll definitely look at opportunities. We're not shying away from different opportunities in the U.

Speaker 1

S, that's for sure.

Speaker 8

Okay. Sounds good. Thank you.

Speaker 1

Thanks, Devin.

Operator

Thank you. And your next question will be from Michael Doumet at Scotiabank. Please go ahead.

Speaker 9

Hey, good morning guys. The expectation for pricecost spread to expand the current quarter, that's been Well explained. I wonder despite inflation slowing, whether you think peak price cost spread will occur in 2024 rather than in the second half Of 2023. This obviously excludes commodity and RNG piece.

Speaker 2

Yes. Michael, it's Luke speaking. I think We could debate whether it will be sort of Q4 of this year or Q2 that it's actually peaked. I think our perspective is the trend line It is supportive of establishing a new wider spread than what we had before. And I think you're seeing that happening.

Speaker 2

You think about the way the dynamics roll into 2024, there's clear math that supports continued Wider spreads, but it's difficult to call the exact sort of when it's going to peak. We're just feeling very optimistic in 2024. We'll see to be constructive.

Speaker 9

That's helpful. Thanks, Luke. And then on 2024 EBITDA margins, maybe a little bit early to discuss, but if I were to exclude The full revenue and EBITDA contributions from the divestitures from the pro form a 'twenty three EBITDA guidance. I get to a Full year EBITDA margin of 27.1%. So just thinking if that's a fair starting point for 2024.

Speaker 9

And obviously, I would add, I don't know if it's 200 or 300 basis points of price cost spread, RNG, etcetera. Just trying to get a sense from you on how to think about those numbers.

Speaker 2

Yes, Mikael. So we're not going to talk about 2024 today. We gave you the 2023 guide ending at $2,000,000,000 27 percent margin. I think normal course historically we've been saying 50 to 100 basis points of margin expansion. We think 2024 is an outsized year.

Speaker 2

I think it's in that sort of directional zip code, but we're going to wait till we close out this year or at least another quarter before we start talking about 2020

Speaker 9

Okay, fair enough.

Speaker 1

Yes,

Speaker 9

those are my questions. Thanks very much.

Speaker 1

Thank you.

Operator

And at this time, sir, we have no further questions registered. Please proceed with closing remarks.

Speaker 1

Thank you, everyone, for joining And sorry about the conference call. We started a little bit late given the issues with the operator, but we look forward to speaking with you after our Q3 results. Thank you.

Operator

Thank you. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for attending. And at this time, we do ask that you please disconnect your lines. Have a good day.

Powered by Quartr

Key Takeaways

  • GFL delivered Q2 revenue growth of nearly 14%, 10.4% core solid waste pricing and over 300 bps of underlying margin expansion, prompting the company to raise its full‐year 2023 guidance.
  • The company completed its portfolio rationalization one quarter ahead of schedule, generating $1.65 billion in gross proceeds—$150 million above target—and applying the funds to repay high‐coupon floating‐rate debt.
  • Net leverage reached a record low, with a goal of under 4.0x by end‐2023 and mid‐3x by end‐2024, laying the groundwork for anticipated investment‐grade credit ratings.
  • GFL plans to invest $200–300 million of divestiture proceeds in sustainability and growth projects, including renewable natural gas facilities and EPR‐driven MRF expansions with sub‐5-year paybacks.
  • Its Environmental Services segment posted ~20% revenue growth and 100 bps of margin expansion, moving closer to a long‐term target of 30% segment EBITDA margins.
AI Generated. May Contain Errors.
Earnings Conference Call
GFL Environmental Q2 2023
00:00 / 00:00