Waste Management: Biogas with a Dividend

by Debra Fiakas CFA

The biogas industry has attracted a number of new entrants.  Blue Sphere (BLSP:  OTCQB) described in the recent post “Turning Potato Peels to Power” and RDX Technologies (RDX: TO, described here) are both newcomers to the biogas power generation.  Both companies show much promise and will likely grow dramatically over the next few years.  Shareholders are counting on the stock prices to follow.

Investors who are less interested in the big growth play and more interested in stability and current income are not left out.  There are larger, more established companies in the waste-to-energy market.  Covanta Holding (CVA: NYSE), which was discussed on the post “Big Player in Waste-to-Energy”, is one of them.  Its dividend yield is enticing and the stock has a very modest volatility as measured by beta of 0.10.  However, I concluded that Covanta is overbought.  The stock trades at a multiple of 35.3 times 2015 earnings, well above the average for the S&P 500 Index.
 
Fortunately, there are other choices for yield-hungry investors.  Like Covanta, Waste Management, Inc. (WM:  NYSE) got into the waste-to-energy business as a collector of wastes.  Based in Texas, the company operates a fleet of waste collection trucks and routes for municipal, commercial and residential customers.  While Waste Management still carts waste the landfills it owns, much of the waste is now sent through recycling and recovery processes to reclaim metals and extract energy from both organic materials.
 
Unlike Covanta that has been willing to own and operate, Waste Management has kept to what it knows best, waste collection and handling.  Instead Waste Management has used joint ventures to dip its toe into the waste-to-energy field. In March 2014, Waste Management announced a team-up with Ventech Engineers International, NRG Energy (NRG:  NYSE) and Velocys Plc (VLS:  LSE) to produce renewable fuel from methane gas coming from landfills.  Ventech and NRG will provide engineering and project management functions, while Velocys brings the gas-to-liquids technologies to the table.  Waste Management just has to keep the waste coming and make gas from its landfills available for processing.

Waste Management has converted about 17.6% of its sales to operating cash over the past three and a half years.  This sort of efficiency and profitability is critical for a capital-intensive operation.  Over half of the company’s $22.2 billion in assets are represented by plant, property and equipment.  Waste Management invests an average of $1.4 billion each year in new capital equipment and property improvements.  Free cash flow has averaged $1.0 billion per year over the last three years.  With such strong internal funds available, Waste Management is in a position to move aggressively in new businesses, including waste-to-energy projects.

WM offers a dividend yield of 3.2% at the current price level.  Although is not so impressive as the yield offered by Covanta even at its pumped up price, WM shares are trading at a more modest multiple of 19 times its 2015 projected earnings.  That is about on par with the average for the S&P 500 Index, making WM look quite affordable.  A review of historic trading patterns suggests the stock has developed considerable upward momentum, set off in late July by a triple top breakout seen in the ‘point and figure’ chart for WM.  The stock has been unfazed by the recent sell-off observed in the broader market in September and early October.  WM has continued its march higher without only minor pulls back from a new 52-week high set in mid September.  WM is also a fairly stable stock, with beta measure of 0.64.  Thus WM could give income-conscious investors an appealing dividend and a relatively stable and compellingly priced stock.  Oh, and you get some biogas with the bargain.

Debra Fiakas is the Managing Director of Crystal Equity Research, an alternative research resource on small capitalization companies in selected industries.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.