Fitch Ratings-Chicago-April 09: Fitch Ratings has assigned a 'BBB+' rating to Waste Connections, Inc.'s (WCN) proposed issuance of $500 million of senior unsecured notes due 2029. Proceeds from the issuance will be used to refinance bank debt repayment and for general corporate purposes. The notes will be pari passu with WCN's existing senior unsecured debt.
Fitch currently rates WCN's Long-Term Issuer Default Rating (IDR), senior unsecured bank debt and senior unsecured notes 'BBB+'. The Rating Outlook is Stable. WCN had $4.2 billion of debt outstanding as of Dec. 31, 2018. A full list of ratings follows at the end of this release.
KEY RATING DRIVERS
Industry Leading Profitability: WCN is able to generate notably stronger EBITDA and FCF margins (Fitch defines FCF as cash from operating activities less capex and dividends) of over 30% and around 15%, respectively, compared to mid-to-high 20% EBITDA margins and mid-to-high single digit FCF margins at its municipal solid waste (MSW) peers.
The company's higher profitability is supported by its dedication to a secondary-market focus where it benefits from relatively stronger pricing control and lower competitive intensity. Steady Leverage Expected: WCN's FCF/adjusted debt is expected to remain in the mid-teens, which is relatively strong compared to MSW peers. Fitch expects adjusted debt/EBITDAR and funds from operations (FFO) adjusted leverage to remain in the mid-2x range and below 3x, respectively, which is near the low end when compared to other 'BBB' category corporate issuers.
There could be periods where leverage temporarily spikes for heavy acquisition activity, though the company's preference for funding acquisitions with FCF would likely result in rapid deleveraging. Furthermore, large transformational acquisitions are becoming less likely given the company's growing scale and concentrated market conditions among the top three industry competitors. Growing Scale: Fitch expects WCN to continue focusing on tuck-in acquisitions while maintaining a solid operating performance. The company has executed well on its acquisition-driven growth, demonstrating an ability to maintain industry leading profitability. Its performance reflects its discipline in acquiring operations where it can provide waste collection services under exclusive agreements, gain a leading position while providing vertically integrated services, or gain a leading position in a niche market through treatment and disposal services. WCN is the third-largest MSW service provider in North America, and its scale has grown significantly following is acquisition of Progressive (NYSE:PGR) Waste in 2016. Fitch expects revenue to exceed $5 billion in 2019, up from $2 billion in 2014.
Good Business Stability: WCN benefits from consistent demand fundamentals in residential and commercial solid waste production and good geographic diversification within North America, though WCN has some exposure to more cyclical construction, oil production and recycling commodity prices. Fitch considers the solid waste industry to be fairly mature, allowing positive but slow industry growth. WCN enjoys a good degree of multi-year contracts and exclusive-market revenues, which supports low customer churn and pricing strength.
Entrenched Market Position: Fitch considers the competitive barriers of a vertically integrated MSW business, such as WCN, to be high and is supported by an established network of landfills, transfer stations and collection operations. While competition is largely regional in nature, WCN's emphasis on pursuing locations where it can attain high market share allows for less sensitive pricing and high customer retention. The MSW industry is concentrated among the three largest firms, which Fitch estimates comprise over one-third of the industry. Outside of the top three, the industry remains fragmented, with many small privately-held and municipality owned operations among few mid-sized peers
DERIVATION SUMMARY WCN's ratings consider the company's top-three market position in the North American MSW industry, industry leading profitability, growing scale and the MSW industry's stable industry dynamic. WCN is the third largest MSW service provider after Waste Management (NYSE:WM; BBB+) and Republic Services (RSG; BBB), which Fitch believes together account for more than one-third of the industry. WCN's ratings also reflect its industry-leading EBITDA and FCF margins of over 30% and 10%, respectively, compared to WM and RSG that have EBITDA margins in the mid-to-high twenties and FCF margins around the mid-single digits. WCN's scale has grown over the last few years, though at nearly $5 billion in annual revenue, it remains smaller than WM and RSG at $14 billion and $10 billion, respectively. The MSW industry is fairly stable and in recent years has benefitted from broad strategic shifts to emphasizing pricing over volumes, and intentionally shedding low-margin contracts. WCN's FCF/ adjusted debt in the mid-teens is stronger than WM's and RSG's, which typically range in the mid-to-high single digits. WCN's adjusted debt/EBITDAR is expected to be similar to WM's at about 2.5x and near the low end of other 'BBB' category corporate issuers.
KEY ASSUMPTIONS
Key Assumptions Within Our Rating Case for the Issuer --Mid-single digit organic growth in 2019 is driven by solid pricing growth and partially offset by slightly lower volumes. Acquisitions completed in 2018 add approximately $200 million in revenue in 2019; --Recycling commodity prices remain at low levels; --Through the intermediate term, EBITDA margin improves but remains in the low 30% from solid pricing performance, partially offset by cost inflation and the addition of relatively lower margin acquisitions; --FCF margin is sustained in the low double digits, and in the intermediate term, FCF approaches $800 million per year; --WCN remains acquisitive in pursuing bolt-on acquisitions; --FCF/adjusted debt remains in the mid-teens and adjusted debt/ EBITDAR is maintained in the mid-2.0x in 2019; --Share repurchases accelerate as FCF grows but remains a secondary priority to acquisitions.
RATING SENSITIVITIES
That May, Individually or Collectively, Lead to Positive Rating Action --A change for a more conservative financial policy, leading to FCF/adjusted debt reaching 20% or adjusted debt/EBITDAR maintained below 2.0x; --The company develops a larger scale in MSW while maintaining its industry leading profitability. Developments That May, Individually or Collectively, Lead to Negative Rating Action --Debt-funded shareholder returns or a large acquisition leads to FCF/adjusted debt nearing 10% or adjusted debt/EBITDAR maintained above 2.75x; --A shift to more aggressive financial policies that drive an increase in long-term leverage; --FCF margins decline, approaching the mid-single-digits
LIQUIDITY WCN had a healthy liquidity position at Dec. 31, 2018, with $319 million of cash, $956 million available under its $1.6 billion revolver and strong FCF generation. The current cash balance is comparably high against historical norms though it could decline as the company pursues acquisitions. Debt maturities are manageable with a $175 million senior unsecured note maturing first in 2019 though Fitch believes the instrument will be refinanced. Annual amortization payments are not required under the term loan, which will mature in 2023.
FULL LIST OF RATING ACTIONS
Fitch has assigned the following rating: Waste Connections, Inc. --Senior unsecured notes due 2029 'BBB+'. Fitch currently rates WCN as follows: --Long-Term IDR 'BBB+'; --Senior unsecured revolver and term loan 'BBB+'; --Senior unsecured notes 'BBB+'. Contact: Primary Analyst Carlos Benedict Associate Director +1-312-606-2332 Fitch Ratings, Inc. 70 W Madison Street Chicago, IL 60602 Secondary Analyst Stephen Brown Senior Director +1-312-368-3139 Committee Chairperson Barbara Chapman Senior Director +1-646-582-4886 Date of Relevant Rating Committee: Nov. 1, 2018 Summary of Financial Statement Adjustments - Fitch has made no material adjustments that are not disclosed in the company's public filings. Media Relations: Elizabeth Fogerty, New York, Tel: +1 212 908 0526, Email: elizabeth.fogerty@thefitchgroup.com. Additional information is available on www.fitchratings.com. For regulatory purposes in various jurisdictions, the supervisory analyst named above is deemed to be the primary analyst for this issuer; the principal analyst is deemed to be the secondary. Applicable Criteria Corporate Rating Criteria - Effective from 23 March 2018 to 19 February 2019 (pub. 23 Mar 2018) https://www.fitchratings.com/site/re/10023785 Corporates Notching and Recovery Ratings Criteria (pub. 23 Mar 2018) https://www.fitchratings.com/site/re/10024585 Sector Navigators (pub. 23 Mar 2018) https://www.fitchratings.com/site/re/10023790 Additional Disclosures Solicitation Status https://www.fitchratings.com/site/pr/10068975#solicitation Endorsement Policy https://www.fitchratings.com/regulatory
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