Apr 30, 2010
Operator
Good afternoon and welcome to the first quarter 2010 conference call for investors in Republic Services. Republic Services is traded on the New York Stock Exchange under the symbol RSG.
Your host this afternoon is Republic Chairman and CEO, Mr. Jim O’Connor.
Today’s call is being recorded and all participants are in a listen-only mode. There will be a question-and-answer session following Republic’s summary of quarterly earnings.
(Operator Instructions). At this time, it is my pleasure to turn the call over to Mr.
O’Connor. Good afternoon, Mr.
O’Connor.
Jim O'Connor
Good afternoon. Welcome everyone and thank you for joining us this afternoon.
This is Jim O’Connor and I’d like to welcome everyone to Republic Services first quarter conference call. Don Slager, our President and Chief Operating Officer; Tod Holmes, our Chief Financial Officer; and Ed Lang, our Treasurer are joining me as we discuss our first quarter performance.
I’d like to take a moment to remind everyone that some of the information that we discuss on today’s call contains forward-looking statements, which involve risks and uncertainties and may be materially different from actual results. Our SEC filings discuss factors that could cause actual results to differ materially from expectations.
Additionally, the material we discuss today is time-sensitive. If in the future, you listen to a rebroadcast or a recording of this conference call, you should be sensitive to the date of the original call, which is April 29, 2010.
Please note that this call is the property of Republic Services Incorporated. Any redistribution, retransmission or rebroadcast of this call in any form without the expressed written consent of Republic Services is strictly prohibited.
I’m pleased to report that we have a strong start in 2010. We’re on track to perform at the upper end of our EPS guidance and we’ve started to see positive signs in our industrial permanent and landfill business.
Don will give you some details on these volume increases later in the call. We believe we are well positioned for positive results in 2010 due to our pricing discipline, cost controls, realization of merger synergies, and our commitment to improve return on invested capital.
The financial highlights for the first quarter are revenue of approximately $2 billion. Net income adjusted primarily for merger related and debt refinancing expenses was $158 million or $0.41 per share.
Adjusted EBITA margins were 31.7%. This record performance highlights the ability of our field organization to maintain pricing discipline and a cost competitive structure while working through the integration process.
We also saw significant improvement in our risk costs which is a result of our focus on safety. Core price increase for the first quarter was 2.2%.
We continue to use our return on investment pricing tools to be sure all business activity meets our requirements. Volumes declined approximately 6.2% after accounting for weather conditions which was better than our expectations.
We also benefited from strong pricing for recycled paper, particularly OCC which had an average price of $145 per ton in the quarter. Currently OCC is selling for approximately $135 per ton.
Adjusted free cash flow was $245 million or $0.64 per share which is 156% of adjusted book earnings. Remember, free cash flow is the best measure of the quality of earnings.
Our board has approved also a dividend of $0.19 per share payable July 15, 2010. During the first quarter Republic issued $1.5 billion of debt which Ed Lang, our Treasurer, will talk to later in the call.
As a result of the refinancing activity completed in 2009 and 2010 we have achieved total financing synergies of approximately $30 million. Therefore, we are increasing our synergy guidance to $185 million to $190 million.
Don Slager, our President and Chief Operating Officer, has been leading Republic through the integration and cost savings process and has far exceeded expectations both in the amount and the timeliness of the synergies achieved. So now I’d like to turn the call over to Don.
Don Slager
Thanks, Jim. Let me start by commenting on the success of the merger to date.
We exited the first quarter with annual run rate synergies of $180 million. This includes $150 million from operating and SG&A savings and $30 million from debt refinancing.
We continue to outperform against our original goal of $150 million in annual run rate synergies. Throughout the integration process, additional opportunities have been identified which create value for our shareholders.
The senior management team recently developed plans for these post-integration business initiatives which fall into two broad categories. First, profitable growth and second, operational effectiveness.
The opportunities in profitable growth include enhancements to our pricing systems and tools, our sales support systems and sales reporting, customer service and call centers, and national accounts management capability. The opportunities within operational effectiveness includes benefits from disposal optimization, repair and maintenance systems and processes, data dashboards and decision support tools for our field managers, and ePro which is our electronic procurement system.
We are investing $8 million this year in these initiatives. We expect to realize and additional $40 million to $60 million in annual run rate earnings from these efforts by 2013.
We recently had our first corporate wide management conference that included 500 leaders from throughout the organization. We used this meeting to discuss and to reinforce five priorities for 2010 which include: First, safety.
Our number one priority is to offer a safe, respectful, and rewarding workplace for our employees. We have continued our strong performance regarding claim frequency in 2010 and have started to see this multi year improvement reflected in our self insurance reserves.
Second, customer experience. All of our marketing and service efforts have a single focus: putting the customer first.
We will continue to improve our service quality and service offerings to be sure we are exceeding our customers’ expectations. Third, targeted profitable growth.
We are using our return on investment models to analyze our marketplaces in order to get the full value of our national business platform, including our disposal network. We continue to maintain our pricing discipline as we grow our business.
As a result, we will have significant operating leverage as the economy recovers. Fourth, integration and synergy capture.
Our ability to integrate our business platform and extract significant cost savings has exceeded our expectations by approximately 25%. We will complete the final phase of the integration this fall.
Fifth is something we call durability. We are utilizing innovative management tools and practices in our field operations to achieve and maintain a high performance level.
We have made extra effort during the integration process to validate that our training programs and support systems stand up to our high standards over time. Our [key one] margin performance validates that our cost savings have been sustained.
As we demonstrate continued success around these five priorities, we will create higher returns on capital and improved free cash flow performance. As Jim mentioned, Republic achieved a record EBITDA margin of 31.7% in the quarter.
Finally, we are beginning to see improved volume in our cyclical revenue streams. We are seeing the improvement across the country and from different industries, particularly in permanent industrial and landfill volumes.
Some examples of this increase in business activity are the following: Petro chemical facilities along the Texas coast, automotive industry and RV manufacturers in the Midwest, steel manufacturers in the east and Midwest, and special waste projects in the west. The business activity is encouraging and we’ll have a clearer picture for you during our mid-year guidance.
I’d like to thank our entire field area and region management teams for their commitment to our success. We’ve had a great quarter.
I will now turn the call over to Tod for a recap of the first quarter financial performance.
Tod Holmes
Before I review financial details for the quarter, I’d like to take a moment to reaffirm our adjusted EPS guidance for the full year. While we don’t provide specific quarterly financial guidance, with the recent completion of our debt refinancing that Ed will discuss later, we feel very comfortable with the upper end of our full year guidance range of $1.63 to $1.67 earnings per share.
As is the practice in the past, we will provide updated complete guidance during our second quarter conference call in July. Now let’s turn to the first quarter.
First quarter 2010 revenue was $1.960 billion as compared to $2.06 billion last year, a decrease of about 5%. We divested of some operations in 2009 and that contributed to a 2.3% decline of that 5%.
The remaining 2.7% decrease on a same store basis consists of the following factors: first, core price growth of 2.2% and again this is within our guidance range. We continue to see core price improvements in all of our collection lines of business.
This approximates 2.8% for the collection lines taken as a whole. The MSW landfill business had positive pricing of 2.1%; however, this was partially offset by mix coming from relatively lower C&D and special waste event driven work.
Therefore, the net landfill price was positive 0.3%. Core pricing again is in line with our expectations as we are seeing the impact of the lower price resets to our index based customer, which is simply a function of contractual terms.
As we’ve mentioned in the past, approximately 50% of our revenues are tied to indexed based pricing. Price increases for our non-indexed base customers remain strong and are relatively consistent with prior quarters.
Commodity revenue is a strong positive for the quarter. Commodity revenue increased 1.8%.
Commodity prices increased approximately 98% to an average of $125 per ton in the current year from $63 a ton in the first quarter of the prior year. First quarter material recovery commodity volume of 422,000 tons reflects a 2% decrease from the prior year.
First quarter average price increase $27 per ton from $98 per ton in the fourth quarter of 2009 so a substantial year-over-year and also sequential improvement. We are seeing our average commodity price decrease currently by about $17 per ton from March to April and this is driven primarily by a reduction in OCC prices of about $34 a ton.
Our fuel recovery fee was an increase of 0.3% in revenue. This increase relates to an increase in fuel costs.
What we are seeing is the average price per gallon of diesel increase to $2.85 in the first quarter of 2010 from $2.19 in the prior year and $2.74 in the fourth quarter. As I mentioned, our current fuel prices are slightly higher at $3.07 per gallon.
Volumes were down 7%. This is a sequential improvement from fourth quarter 2009 of about 270 basis points.
You might recall that quarter was 9.7%. The year-over-year change of 7% includes a 40 basis point decrease due to Hurricane Ike volumes in the prior year and then the adverse impact of weather in the first couple months of this quarter of 30 to 40 basis points We saw a mid single digit decline in collection business, volume loss was in the low double digit range for industrial, driven primarily by the temporary business.
We’re starting to see an uptick of volumes in our permanent manufacturing customers as Don had indicated. The sequential increase in permanent hauls is consistent with pre-2009 changes in seasonality.
Additionally, the average weights of our industrial customers increased by about 3% compared to the prior year, again an indicator of increased customer activity. Now our temporary business continues to be slow due to relatively low levels of construction activity and certainly the severe weather experienced in many of our markets earlier in the quarter may have had an impact.
Our landfill volumes declined by 8%. Again, this was a substantial improvement over the first quarter of 2009 when those volumes were off 16%.
The trend continues to improve. In the month of March special waste volume showed year-over-year of growth for the first time since the third quarter of 2008.
While it’s still too early to determine whether we’re seeing a sustained improvement in economically sensitive volumes, we’re monitoring volumes closely and will provide additional information in July as part of our mid-year guidance update. Let’s talk briefly about our margins.
First quarter year-over-year margins for 2010 excluding divestiture losses, restructuring costs, and cost to achieve synergies was 31.7% compared to 30.4% in the prior year, an improvement of 30 basis points. Excluding the impact of DOJ divestitures that generally carried a higher margin than the company average because of the concentration in landfill and small container collection business, the EBITDA margins actually improved by 40 basis points.
Let me comment on the significant changes in cost as a percentage of revenue and I would like to remind everyone that detail of our margin and our cost of operations by cost category are available on our website and will be included in our 10-Q filing. First fuel.
Fuel expense increased 110 basis points due primarily to a 30% increase in the cost of diesel. Again, the average price per gallon increased to $2.85 in the first quarter of 2010 compared to $2.19 in the first quarter of the prior year and as I mentioned earlier, current prices are $3.07 a gallon so we can expect a little more headwind from fuel.
Partially offsetting this increase in fuel cost was an increase in related fuel recovery fees resulting in a net decrease of EBITDA margin associated with fuel of 70 basis points. Second, let’s talk about recycling cost of goods sold.
The 60 basis point increase in expense relates to increases and rebates to customers for volumes delivered to our murfs. Cost of goods sold at our murfs increased to an average of almost $38 per ton from approximately $17 a ton in the prior year.
Commodity revenue increases more than offset this increase in cost, thus resulting in an increased spread on commodities of approximately $41 per ton. This is a net favorable impact of 80 basis points improvement in EBITDA margin for the quarter and again as Jim talked about commodity pricing we would expect to see this favorable benefit going forward.
Third, labor and related benefits. The 20 basis point improvement in margin relates primarily to synergy related staff reductions due to [inaudible] consolidations and overlapped markets and an overall improvement in collection productivity.
Fourth, maintenance and repairs. There is a 70 basis point improvement in margin related to synergy related costs reductions and the timing of our fleet replacement plan.
2010 truck deliveries are more evenly weighted throughout the year, resulting in reduced fleet maintenance costs. Fifth, transportation and subcontracts expenses.
We saw a 20 basis point improvement in margin, again resulting from synergy related cost reductions arising from redirected waste streams to our more efficient disposal network. Next, risk management.
A substantial improvement here. There was a 100 basis point improvement in margin related to reductions in required reserves, and this again, as Don had indicated, is due to improved claims frequency rates, favorable claims development, and the realization of synergy related cost savings for third party premiums and surety costs.
I might mention we do an actuarial report this quarter and this may be a little bit lumpy but certainly we’re in a positive trend here. Finally, SG&A.
There’s a 20 basis point increase in expense and this primarily relates to an increase in cost associated with some legal matters partially offset by synergy related reductions in headcount and non-headcount cost, including travel professional fees, and facility costs. Our Q1 2010 SG&A cost as a percentage of revenue excluding costs to achieve synergies approximated 10.2% compared to 10% in the prior year.
Looking forward, we believe that SG&A cost in the 10% range is appropriate. These changes comprise the majority of the year-over-year margin improvement in EBITDA.
Let me briefly talk about tour DD&A which declined 50 basis points and that relates to a reduction in landfill amortization expense. Expansions in permanent modifications were approved which extended the life and reduced cost at certain landfills, resulting in a favorable reduction in the per ton rate we charge our air space consumed.
DD&A as a percentage of revenue approximated 11.4%. Finally, our interest expense.
The company recorded non-cash interest expense of a little over $28 million in the first quarter of 2010. This arises primarily from the amortization of Allied debt which as you will recall was recorded at a significant discount at the time of the merger.
During the quarter we also recorded a $132 million loss or $0.22 per share related to premiums paid in non-cash write offs of discounts and fees associated with the recently completed note refinancing and tender of $1.5 billion. I’d like to take the opportunity to remind everyone of the impact the merger had on book earnings.
In purchase accounting, we were required in December of 2008 to re-value Allied’s fixed assets, intangible assets, environmental liabilities, and debt. AS a result, our DD&A as a percentage of revenue is 11.4% which is higher than both companies on a pre-merger basis and certainly higher than the industry average, but again, it’s not cash.
In addition, our non-cash interest expense for the quarter as I mentioned earlier was approximately $28 million. As Jim mentioned earlier, cash flow is really the best measure of the quality of earnings and our adjusted free cash flow was $245 million or $0.64 per share, substantially above our book earnings.
Now I'll turn the call over to Ed to further discuss our financing initiatives.
Ed Lang
Thanks, Tod. Let’s talk about liability management.
During the first quarter we issued $850 million of 10 year debt at a 5% coupon and $650 million of 30 year debt at 6.2%. With the financing proceeds of $1.5 billion, we called $1.025 of existing notes with an average interest rate of 6.8% that matures in 2014 and 2015.
We repaid a $300 million account with [Seawoof] Financing and we also repaid some of our existing bank debt. The positive impact from this refinancing was included in the high end of our 2010 earnings guidance provided in February.
Our 2010 interest expense guidance was $500 million to $515 million. We are now at the lower end of this range.
We continue to look at additional debt refinancing opportunities which may further reduce interest expense. Now I’ll discuss free cash flow.
In the first quarter adjusted free cash was $245 million which consisted of 1) cash provided by operating activities of $299 million less property and equipment received of $128 million plus proceeds from the sale of property of $6 million plus merger related expenditures net of tax of $8 million plus legacy tax settlement related to BFI of $60 million. This equals adjusted free cash of $254 million.
We define adjusted free cash flow based on capital expenditures received during the period. We have included a reconciliation of the timing difference between capital expenditures received versus paid in our 8-K filing.
We remain comfortable with our adjusted cash flow guidance of $700 million to $725 million for the full year. Now I’ll discuss our balance sheet.
At March 31, our accounts receivable balance was $851 million and our days sales outstanding was 40 days or 24 days net of deferred revenue. Reported debt was approximately $7.1 billion at March 31.
During the quarter the principal amount of debt remained essentially flat while the reported amount of debt increased approximately $100 million due to the writeoff of debt discounts. Excess credit availability under our bank facility is approximately $900 million.
Now I’ll turn the call back to Jim.
Jim O’Connor
Thanks, Ed. As you know, we historically provide a detailed update of our financial guidance on the second quarter earnings call.
However, I’d like to make a few comments as to trends we’re seeing in our business today. As we discussed we are increasing our year end weight for synergy guidance to $185 million to $190 million.
We are starting to see some positive signs in the cyclical revenue streams, particularly permanent industrial and landfill volumes. We continue to achieve expected price increases and our volume performance in the first quarter was at the higher end of our expectations.
The fact that we are achieving record EBITDA margins in a business environment that has not fully recovered is a strong statement regarding the operating leverage that resides in our business platform. We have achieved significant financing synergies and have restructured our balance sheet that ensures a low cost of capital structure for the next 10 years.
Our focus continues on increasing shareholder value and that remains intact by this quarter’s results. During the next two board meetings, we will review our cash utilization strategy regarding dividend payout and share repurchase while maintaining our conservative financial profile.
With that, I’d like to open the call to questions.
Operator
(Operator Instructions) Your first question comes from Scott Levine – JPMorgan.
Scott Levine
With regard to the uptick that you seem to be seeing in cyclical activity, could you provide maybe a little bit more color geographically across regions where you might be seeing a little bit more activity versus a little bit less?
Don Slager
As I said in my comments, we’re seeing an uptick in the west regions specifically with special waste, which is a good sign. That’s always been a big producer of special waste for our business.
So seeing the special waste come back as Tod said, seeing growth in that segment for the first time since ’08 is a good thing. On the manufacturing side, we’re seeing in the Midwest, specifically Detroit and Indiana, also in the Mid-Atlantic states, so we’re seeing it kind of come back in the way that it left so it’s a good sign.
We’ve seen a little bit of seasonality but we’re also seeing some real what I would almost call a structural change in some of the manufacturing going from adding second shifts and producing additional loads. It’s a good sign and we know in the manufacturing business that shows up pretty quickly in our waste volume so we’re happy to see it.
Scott Levine
Can you give some example of some of the names around the country?
Don Slager
[Severstall] Steel in Western Pennsylvania. [Midall] Steel in the skyline area, the refining companies in particular in Texas and predominantly Houston.
We see the RV and automotive industry, particularly companies like Gulfstream, Keystone RV. We see – in the New England states, we see some additional weekend shifting at 3M in New England with their touch-screen manufacturing, and we’ve seen a number of other businesses in the Midwest.
So as Don said, I mean, we’ve got some real I think anecdotal evidence that we’re starting to see some improvement in the economy and in particular, we’re starting to see it in our industrial collection permanent business and volumes that emanate from our third-party competitors probably at our landfill see the same sorts of increased organic growth.
Don Slager
And Scott, we saw it kind of come in late in the quarter, and at March, mid-March and beyond, and then we’ve seen it continue into April. So that bodes well for the future hopefully.
Scott Levine
Yes, it’s encouraging. One other thought, if I may.
Before the merger Republic had a slight bias or received a slight bias in terms of use as a free cash and returning it to shareholders for favoring the buy-back. You know, when you reach a point where you’re looking to do that again, would you – should we expect the same proportional mix of car buy-back versus dividend increases or can you give us maybe some preliminary thoughts on what you would envision when you reach that point in returning cash dollars?
Don Slager
Yeah. You know, I guess, again, when we look at the pre-cash flow and the distribution of the cash flow, I mean, I think we probably look to stay in the range of 40% to dividend, in that range, and the balance then, you know, a little bit for continued debt repurchase, and then the balance of the pre-cash flow would have a bias to shareholders because we still believe that there’s a tremendous value capture there and I think you’ll see us move in that direction, the board move in that direction in our third-quarter call.
Operator
Your next question comes from Jonathan Ellis with Bank of America
Jonathan Ellis
First question I wanted to ask is related to -- and I’ll make it a two-part question, given the limitation. In terms of pricing changes, core price changes throughout the year, would you talk a little bit about how CPI adjustments may impact your contracts that are resetting as of July 1st.
And then the second part would be any thoughts on raising the environmental fee given what waste management mentioned earlier today?
Don Slager
We’re not going to comment on waste management’s environmental fee, and again, I think what – you know, in our business, we continue to review all of our costs and fee structures regularly. So when we deem it appropriate to modify those fees and or adjust our pricing for changes in the cost structure of our business, we’ll do so.
So again, we continue to review those and at this particular point in time we’re very pleased with the recovery fees that we have in place and the pricing that we’ve got in the marketplace.
Jonathan Ellis
I’m sorry. Could you also just quantify in terms of the CPI adjustment, what that may mean for contracts that are resetting as of July 1st?
Don Slager
Well, I think we built that into our guidance. If we looked at the 2010 guidance for price, we figured that the index-based pricing would be about 1.5%.
I think where the index is now, it’s probably a little bit higher than that. It’s probably about a little over 2%, maybe 2.3%.
So yeah, it’s going to depend on the contract and we’ve got some contracts that reset in July, some contracts that reset in September, and you know, some of them are resetting off of either current price or it’s resetting off of December 31st ’09 price, you know. So while I think that if it’s a December ’09 reset, it’s going to be a little bit lower, but as we get later in the year, we should start to see a little bit more benefit in the resetting of those prices.
Jonathan Ellis
Overall, we think a little bit of inflation in CPI is good for us. So directionally, it’s headed in the right direction for us in the timing of these rollovers.
Don Slager
When we look at the CPI today, it’s right in line with our December-based guidance.
Jonathan Ellis
Right.
Don Slager
So, I mean, we don’t really see any reason to deviate at this particular time.
Jonathan Ellis
My second question is just related to recycling. I would have I guess expected a little bit more of a contribution to the top line, given what had happened to recycling prices during the quarter.
Can you help us understand, in terms of their contracts that you have in place now, are there ceilings that exist in order to protect yourself a little bit on the downside, and you know, any sort of relationship between OCC or commodity prices generally and the drill down to EBITDA
Don Slager
Well, you know, we’ve got some of our commodities hedged, and I’ll let Ed talk to the hedge, but as the contracts have come up with Mills, we’ve continued to renegotiate those contracts and tried to improve the floor positions that we had in those contracts. So we have effectively I think either hedged or through Mill contracts got a portion of our commodities price-protected.
And again, as the market continues to stay strong and those contracts come up, we’re going to try to obviously renegotiate those contracts with our core pricing. So I don’t know if you want any –
Tod Holmes
Well, those were sharing component with our customers on the upside, so as revenues go up in those commodities, we share that with our customers as well. So we don’t keep it all.
Don Slager
Right. It’s about 30% that we share.
Tod Holmes
Right. I think just generally, Bill, our quarterly filings we have a full disclosure of the existing OCC and ONP hedges we have in place, primarily for this year and next year, with a little bit into ’12.
But if you look at it in terms of percentages as far as floor contracts and financial hedges, approximately 60% of our volumes have some type of protection, either the floor contract or financial hedge.
Don Slager
And you asked the question, Jonathan, about the impact, you know, on the profitability. And I think if we were – I mentioned it earlier.
If we look at the net commodity impact year over year, it’s about a positive 80-based points. And if you want to look at kind of the sensitivity, you know, from an earnings standpoint, our murfs do probably about a million six in terms of tons per year, and you know, $10 of commodity price increase is probably worth about a penny and a half in earnings per year to the company.
Operator
Your next question comes from Hamzah Mazari with Credit Suisse.
Hamzah Mazari
Just a question on volumes. You know, are you beginning to see service increases versus decreases turn positive this quarter, and is this the first quarter you’re seeing that?
And then, you know, could you comment based on current trends; you know, if they continue, how do you see volume playing out on a quarterly basis?
Don Slager
Hamzah, this is Don. We’ve not seen service increases yet on our commercial business.
When we talk about service increases or decreases, we’re typically talking the commercial small container business. So again, we’re not seeing any really movement yet in the construction part of the business.
What we’re seeing is kind of what you’d expect, again as I said before, manufacturing increase in volumes kind of converts pretty quickly, or volume numbers, if construction starts to kick up at some point, there is a pretty big lag in that. But service increases and decreases in the commercial system really tend to lag the economic changes.
So, you know, when we first saw the economy start to hurt, we saw service increases start to slow, and then we saw service decreases start to rise, and service increases stop altogether, so now we’ve seen service decreases really start to flatten out and stop. We don’t really have any net change in that, but we are seeing – we have not yet seen the service increases return.
A little complicated maybe, but we’re waiting for it and we’re looking for it, and if the manufacturing continues to stay up, and some of these other segments start to come back, we should in due time see those increases come back to the commercial system. So we’re looking for it as well as you are.
Tod Holmes
Yes. I might also mention that our volume guidance was based on what we saw in December of ’04, I think, as a company.
You know, as Don was talking about the industrial and the special waste, you know, we think that what we’re seeing here is a little bit stronger than maybe our initial guidance from the fourth quarter economic conditions. So bit of a positive, but I’d say stay tuned.
We’ll have a bunch of better clarity in July.
Don Slager
A little too soon.
Hamzah Mazari
Just a follow-up question on the cost side of your business. If you could just give us a sense of, you know, how to think about the cost in your system coming back, you know, when volume comes back, you know, obviously you’ll have some incremental margin.
volume starts to ramp up, but how should we think about some of the costs that you’ve taken out since the downturn coming back over the course of, you know, the next 18 months?
Don Slager
I think what we said publicly before is that, you know, we have some asset leverage. We’ve taken a number of trucks and put them in the standby line, so we do have about approximately 300 across all lines of business that we could put back in service.
In fact, actually, in Texas we put some of those back in service already. So I mean, we’ve got asset leverage, and then I think when we look at leveraging the business for growth, you know, we’re looking at about a percent of organic growth we believe that would come in at relatively higher margins than normal organic growth, again, stressing the structure that we’ve got on the way up.
We think those EBITDA margins could be, on that incremental 1% of organic growth, 40 to 45%.
Operator
Your next question comes from [Al Cashchok with Wedbush].
Al Cashchok
Really, it’s hard to find anything wrong with the quarter, and so I wanted to just press a little bit further on just this last topic. Just theoretically, it seems you fluxed down the cost quite a bit or the cost structure that as we get a ramp in volumes over the next 12, 18 months, your gross profit margin in the quarter would be maybe a floor.
So I was wondering if you could talk about where this is going, given that it is a new event, new business within the industry combining both Allied and yourself. So a little bit theoretical here, but with the leverage you’re getting and the strong performance, it seems like we’ve still got room to grow here.
Don Slager
Well, I mean, I think – with the growth in the industrial revenue that we’re starting to experience, you know, and we haven’t seen any changes, Don mentioned, in our commercial small container business.
Al Cashchok
No, again, we think that we have leverage there. And we think those – when they start to come, density is what usually drives our operating margins up.
And that’s – it’s a little hard for us to tell you, between Stop A and C, what B is in the small container business. But we believe that if we see this industrial – if this industrial pickup will eventually, you know, I think trickle down into our small container business, and with that, I think we’ve got a lot of leverage there.
So, as I said, I think we can bring that volume in at 40 to 45%, which is well above our even now margin in the area of 31% today. So it is just a little hard to predict all of that.
I mean, as good as all of our tools are, moving a stop in between two of our existing stops, it’s really hard to predict the actual incremental benefit. But we do believe it’s there, and we know it’s there.
Well, Don, you –
Don Slager
No. I was going to say, Al, you’re on the right track, because we’re expecting our people to get operating leverage as the volume returns.
If you look at our collection for Activity Metrics, we’ve improved in a couple lines of business and held flat even though we’ve lost volume. So we’ve gotten better at this over the last couple of years as the economy has come out from under us.
So we fully expected operating leverage as well. The tale will be in the tape, I guess.
Jim O’Connor
And I would just add or reinforce that, you know, the positives that we see, such as maybe a little bit more volume in the commodity price is offset by maybe the net negative on fuel, causes us to be at the higher end of our guidance, you know, up towards that $1.66, $1.67 range rather than the $1.63 range. And you know, again, we’ve got two or three months where you get a – if we’re back to normal seasonality, we’ll have a much better idea in July.
That’s yet to come. So we’ll be giving much clearer guidance in July.
Operator
Your next question comes from Vance Edelson with Morgan Stanley.
Vance Edelson
On the pricing front, beyond the CPI impact, can you provide any color on the competitive landscape? How are the smaller players acting on the collection side, for example?
Is discipline improving along with the brighter economic outlook or would you say it’s still fairly competitive out there?
Don Slager
I would say it’s about the same as it’s been. You know, we don’t see anybody really radically changing any of their marketing behavior or strategy, so to speak, on the front of pricing.
There’s always some example somewhere in some market where, you know, will somebody think, you know, somebody had bad facts or got a little crazy with a bid, but you know, we don’t see anything that’s alarming. As you would imagine, the longer the downturn lasts, the sort of the trickier people’s trigger finger gets, you know, when you think about volume.
But I think we’ve gone through a very long downturn and help up pretty well. If pricing was going to be a problem, it would have been a problem by now.
And again, the biggest function of the 2.2 reporting is that CPI factor. As that comes back, I think we’ll be in pretty good shape.
But we’re holding our own and it’s pretty much the same as it’s always been.
Vance Edelson
Makes sense. And as my follow-up on the cost side, with the range for run rates synergies going up fairly quickly, I think you mentioned the initiatives that could have furthered the savings by 2013, is it conceivable there is additional upside this year, or do you feel like the 185 to 190 is probably the limit for now?
Don Slager
Yeah, I think – well, we just raised it from 185 to $190, so I think we’re going to stick with that number. This year, as I said, we’re going to spend about $8 million in getting these new initiatives off the ground.
While we’re still completing the integration of the base merger. So we’ve got a few system things to finish.
We’ll get these new things off the ground and we’ll start to roll. We might see a little benefit in the last half of the year, but we’re going to stick with that 185, 190.
Ed Lang
And I might mention, the 185 to 190 has about $30 million of interest savings, you know, taking this new debt to an investment rate credit spread. So when you look at the impact on the operating margins, we’re talking about 155 to 160 million.
Run rate by the time we get done with that is going to be, you know, maybe 180 basis points run rate by the time we get done with that is going to be maybe 100 basis points or so, so keep those two components in mind when we talk about synergies and margins. I think it’s also important to recognize that we will start to be getting some incremental benefit from these strategic initiatives that Don talked to in his comments in 2011.
We’ll get more in 2012, and we’ll get the balance and the run rate in 2013. So again, I think there’s a lot more value attraction from the cost side of the business.
Again, it’s a function of how much the field organization can absorb and how many initiatives they can effectively manage, and produce value for our shareholders. So again, when you really look at it, I think all along we said there was more than $150 million when I was saying $185 million to $190 million and we’ve now identified another $40 million to $60 million that we’ll start to extract over the next 2.5 years.
Tod Holmes
Keep in mind, as I mentioned in my comments, I use the word durability. We’ve got 1000 dots on the map across this company and the kind of business change and processes we’re installing speak a great deal… we’re looking for real change that’s permanent and so we’re working real hard on the front of these plans with good project management, with good training tools.
We’re going to roll them out slow enough for the organization to absorb them as Jim said. We’re focused on that, so the change is real change and it’s lasting value for the shareholder.
Operator
Your next question comes from Corey Greendale - First Analysis Corp.
Corey Greendale
Can you comment on any trends or changes in commercial account customer churn rates?
Tod Holmes
I think as Don said, our defection rates and our churn is pretty much similar to what it’s been in prior quarters so again which would give rise to I think some of Don’s comments on the stability of the marketplace there.
Don Slager
When we look at churn, when we look at the customer retention, all those kinds of metrics we track, were very stable this quarter versus the past 3 or 4 quarters so again, nothing there to report.
Corey Greendale
Maybe you explained this and I just missed it, the increase in the synergy target, is that solely because of the refinancing or is there some operational --
Don Slager
There is some operational. I’d say the lion’s share of it is, I think we moved it up by $30 million.
I think $20 million to $25 million of that was financing. But while we have other opportunities, I think by the time we get to the end of this year we’ll be pretty much at that run rate.
I wouldn’t expect to see that number move up dramatically going forward. It might inch up a little bit.
Tod Holmes
When we say that $30 million of the $185 million is financing synergy, there was a portion of financing synergy [inaudible]’10 so again there is a good portion of upside there in the operational part of the business.
Tod Holmes
That kind of goes back to I think the original interest expense guidance that we gave back in February where we said $500 million to $515 million of interest expense and because of the successful refinancing, we’re probably down closer to $500 million which allows us to get up to the middle or upper end of our range in EPS. It was put into that EPS range.
Operator
Your next question comes from Bill Fisher - Raymond James.
Bill Fisher
The $8 million investment Don talked about getting synergies, is that running through the SG&A line or is that a kind of capital cost?
Don Slager
There’s some capital and SG&A costs. $5 million of capital and $3 million of SG&A.
Bill Fisher
The tax rate, I think I had around 40%. With the non-deductible interest amortization dropping, is that rate going to stay around there, is it going to move down a little bit?
Don Slager
I think it’s going to stay I that ’11 + range. I don’t see that moving all that much.
Now it has been very successful with this refinancing, we’ll see a portion of that non-cash interest expense drop away, but there’s still some long dated debt out there, particularly some of the old BFI debt with some favorable rates that’s going to stay with us. So when you look at the cash earnings versus the book earnings, the cash earnings will be stronger on a longer term basis for those two factors.
Bill Fisher
But the tax rate would be similar?
Don Slager
Tax rate, obviously we had the anomaly in the first quarter. As we go through the year, I think excluding the bond refinancing tax impact, we’re probably looking at something in the range of about 41.5%.
Maybe a little bit better than our initial guidance. It just depends.
We closed out some of the old Republic tax years and there was a little bit of benefit there from the ’05 to ’07 tax years for Republic, so that gave us a little bit of a tailwind. Other than that, I’d say we’re pretty much right on that 42% or just under 42% tax rate.
Operator
Your next question comes from Richard Skidmore - Goldman Sachs.
Richard Skidmore
Just wanted to follow up a little bit on the operating leverage question. Can you just give us a sense in the cyclical part of your business in terms of revenue from say 2007, the combined entity, from an absolute dollar level, how much revenue went down in those cyclical businesses so we can get a sense of volume to come back?
What’s the opportunity for that incremental margin and what the revenue base is.
Ed Lang
I don’t have the dollar amount, I don’t know what it might be. It might have been at the peak we start a temporary roll off and landfill might have been 12% to 15% of revenue and we’re now down to maybe 6% plus disposal, 7% or 8%, so that was cut in half.
So we probably lost around 8% of our revenue and it just depends on the mix. If it’s roll off collection business, it’s kind of the average collection margin which on an incremental basis might be 30%, 35%.
If it’s landfill, on an EBITDA basis, that incremental volume might be 50%. It’s going to depend a little bit on the mix of those two components, and that’s why we end up really talking to that 40% to 45% blended rate.
Richard Skidmore
When you think about the need to add capacity or put trucks back on the road or add more headcount, is there a number in terms of how you think about volume comes back X% then we need to start adding capacity and what would that X% be?
Don Slager
On the roll off collection side, we measure that productivity in minutes per pull and we’ve been able to pretty much hold that productivity so when the pulls go up, we’re going to take some of these old trucks, we’re going to have to put a little more overtime and at some point add drivers and add routes, so there’s almost a linear relationship on that side of the business for the roll off collection for temporary roll off. On the landfill side, it’s very fixed, and that’s where you get a lot more cash leverage.
Ed Lang
Keep in mind that one of the reasons we’ve been able to manage the margins so well in the downturn is we parked trucks as Jim said so rather than taking our drivers that work an average of 55 hours and getting them down to 40 hours, we kept them working the mid 50 hours a week and parked the trucks. That’s one of the reasons our costs have been in line throughout this process.
So we think as Jim said, we’ve got some capacity on our current fleet even before we have to add trucks back and then we’ve got those 300 trucks sitting that we parked that we can put back into motion so we don’t have to buy those trucks again. The containers are in the yard.
So we’ve got some upside there.
Tod Holmes
Probably where we get a little more leverage is in that small container commercial business.
Ed Lang
The small container business and the landfill business [inaudible]. That’s where you’ll see the best leverage.
Tod Holmes
Those are all things related to economic growth and how we’re going to manage that economic growth. I think the other thing I’d like Don to comment on is some of the operating savings that we anticipate with some of the fleet change to automated collection.
Again, there’s a big focus on part of [inaudible] field organization to automate the fleet/
Don Slager
We’re showing the operating side, we’ve converted last year over 200 of our routes to single operator routes, fully automated. Another 200+ this year will be over 50% of our residential system being fully automated, and we’ve got a view to, over the next 5 to 7 years, kind of carrying that through.
So we’ve got a continued focus on improving the productivity on that part of the business. We’ve been very successful.
There’s only so much you can do at a time because again change is hard for people. Again, not only our people but the customers as well.
We’re very focused on that productivity and as I said before, we fully expect our people to get operating leverage as the volume comes back. We’re well poised to do that.
Operator
Your next question comes from Michael Hoffman – WSI.
Michael Hoffman
So on the landfill side, can you help me understand the mix of volume? I get C&D and maybe even some of your landfill cover kind of volume was down but the other components like special waste or MSW, how do those trend in the quarter and sort of coming into April?
Don Slager
Special waste as we said was up for the first time since the fall of ’08. Really a bright spot.
We had primarily a lot of that in the west which we’ve got a number of really large landfills out there that do a lot of special waste business, that’s a good sign. How does it trend?
We frankly usually aren’t talking about seasonality at this point. Seasonality is typically more of a Q2 type of thing.
In a lot of the country that sees winter weather, we don’t usually start to see that seasonality start to break until April and May. So we’ll be talking more about --
Michael Hoffman
I’m not talking about seasonality as much as I’m really… What is the pattern of just the characteristic… Like MSW, --
Don Slager
MSW is like, of our total revenue streams for landfill, we’re looking at MSW to be about 49%. Of that 49%, about 65% of it is indexed priced and 35% would be open market priced.
The pricing would range anywhere from open market 3% to 4%. Index is obviously right around that 1+ range.
C&D represents about 10%. Special waste represents about 41%.
Ed Lang
If you think back to my earlier comment, that 10% C&D volume I think those are historical lows for the industry in terms of C&D volume. That 10% is now.
The MSW is maybe flat to slightly and as Don had said, the special waste was up. Really the issue is C&D and we’re at those historic lows and the question is what happens with residential construction, commercial construction, to bring those volumes up?
Don Slager
Again, we haven’t seen any further decline there. it’s still relatively soft in the commercial development market, but again, all you have to do is look at how much our industrial collection is.
It’s not going to last two years and that kind of trickles right into the disposal side of the business. We’re experiencing what the market is experiencing.
That’s been down I think 18% to 20% in the last couple quarters. So certainly at the end of the day… That’s the more cyclical part, that’s the part that’s going to lag.
We may not see a recovery there until the latter part of 2011, maybe even into 2012.
Tod Holmes
I think if you look at the first half of ’09, our total landfill volumes were down in the mid teens, maybe 14%, 15%, 16%, and now it’s down around half of that, around 8%. So what we’ve got is really this negative C&D that is anniversarying out, and once that anniversary is out which would probably be second quarter or third quarter, sometime in the third quarter, then we would expect our landfill volumes to go positive and it’s going to be going positive maybe a little bit on MSW but certainly this industrial activity that Don spoke to.
Pretty good margin leverage off of that.
Don Slager
The one thing with special being up a little bit more than we otherwise had maybe suspected, let’s put a little downward pressure overall in just our overall reported price. So even if some of that special waste is coming in again a little lower than our total waste average.
Tod Holmes
That’s a good point. It’s definitely a mixed issue.
It’s not a competitive issue. If we’re bringing in volumes in a market that’s $20 a ton versus $40 a ton, it’s just mix.
Michael Hoffman
To the balance sheet, harking back to Old Republic, you managed DSOs into the high 30s if I recollect.
Don Slager
We’re at 40 this quarter. Michael Hoffman - WSI Right.
Can we get to those old levels of this in new co and when?
Don Slager
I think that we got maybe one or two days. Each day is worth about $25 million, $24 million, so there might be $25 million to $50 million of working capital there.
I think for us it’s a question of getting through the economic cycle. Frankly I’ve been pleased with our receivable performance given the economy and also our bad debt performance given the economy that we’re in and all of the focus on system conversions that our people have had, has probably caused a little bit of a slow down there in our collections.
But I think 38, 39 days is realistic. I applaud our collections people and the financial organization for doing a great job here.
Michael Hoffman
The second part of that was when, how fast?
Don Slager
I think it’s probably… did you tell me when the economy recovers, maybe next year? Early next year, maybe later this year?
If it’s recovering now, it’ll probably get better every day.
Ed Lang
I’d like to thank everyone for their questions today and operator, thank you. In summary, I’m very pleased with our first quarter results.
We continue to focus on all the appropriate things, achieving appropriate returns on capital through pricing discipline, maintaining labor productivities through disposal optimization, continuing to meet and exceed expectations for realizing merger synergies, reinventing our people and our business platform to ensure high quality customer service and a safe work environment. Finally, continuing to reduce our debt and improving our credit profile.
Again, we will maintain our disciplined cash utilization strategy and we’ll have more news on that to come in our third quarter call. I would like to thank our field organization as well as Don for their extraordinary efforts through the integration process and an excellent financial performance this quarter.
I’d like to remind everyone that a recording of this call is available through May 6 by calling 203-369-3221. Additionally, I want to point out that our SEC filings and our discussion of business activities along with a recording of this call are available on republic’s website at RepublicServices.com.
Again, thank you for spending time with us today. Have a good evening.
Operator
Ladies and gentlemen, this concludes the Republic Services conference call for today. Thank you for participating.
You may now disconnect.