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At This Price, Does Waste Smell Good?


BusinessWeek Investor -- The Barker Portfolio

At This Price, Does Waste Smell Good?

Probably there are uglier, less tasteful, more despised stocks. I just can't think of one that's more horrifying right now than Waste Management, America's largest trash collector.

A merger last year with USA Waste Services promised huge efficiencies. By May, that prospect lofted the stock 20%, to 60. Since then, though, Waste has become its very own Superfund site. It first freaked out Wall Street with a worse-than-expected profit report, slashing the stock price by 37% in one crazy July day. Next came the swift departure of Waste's top management, multiple shareholder lawsuits, an investigation by the Securities & Exchange Commission, and accounting charges totaling nearly $1.8 billion. Waste's billing systems and books have proved so messy that it couldn't figure out which customers owed what. By October, the stock was scraping 14.

Now all the way back up to 16, I think Waste is worth a close look for any investor with a contrary bent--and some time to wait while the company cleans itself up. With sentiment toward Waste so poisonous, there's little possibility of a quick rebound in the stock, at least not until auditors close the books on 1999. You could almost smell Wall Street's distrust on Nov. 9, when Waste disclosed both its accounting write-offs and the arrival of a new chief executive, A. Maurice Myers. Despite the fact that Myers, 59, comes to Waste after turnarounds at trucker Yellow Corp. and, before that, America West Airlines, investors focused on the write-offs, beating down the shares anew.

It probably isn't helping the stock in the short run that Myers, who declined to be interviewed, is keeping a low profile. "He wants his hundred days," says a spokeswoman. But what the Street may be missing is that Waste started taking steps toward a turnaround even before Myers signed on. Its board had put up for sale some $2 billion in assets, mostly overseas operations. By next June, it expects to use the proceeds to pay off some debt and, possibly, buy back shares.

Waste's penchant for growth by acquisition, which led to present and past accounting fiascoes, also is being cast aside. Instead, Waste is refocusing on increasing the profitability of its core North American operations. Waste expects that consolidation in the garbage biz will enable it to raise prices, especially in markets where it operates increasingly scarce landfills.

Beyond that broad industry trend, Waste has plenty of opportunity on its own to improve profitability. Its operating profit margins are well below those of major competitors (table). In the clutter of all its special charges and merger costs, this potential is hard to spot, but you might try looking at it this way: Allied Waste Industries this year purchased Waste Management's venerable archrival, Browning-Ferris Industries. So far this year, Allied has posted revenues of nearly $2 billion. Cash operating costs and overhead took about 65 cents on each dollar of Allied's sales. Now look at Waste Management. Over the same period, Waste collected $9.8 billion in revenue, but basic business costs ate 76 cents of each sales dollar.

Fewer rivals, higher prices, lots of costs to cut. These are the reasons why some sharp-penciled investors I know kept grabbing Waste shares even as they plunged. The biggest buyer was Southeastern Asset Management, a quiet, $14 billion Memphis firm best known for the good returns at low risk of its flagship Longleaf Partners fund. In June, Southeastern held 14 million Waste shares, most bought in 1997. It has now quadrupled that stake.

Southeastern told me it expects no swift payoff, no miracles from Myers. Yet in the next year, it thinks Waste's cash flow will top $2.50 a share. In three years, the firm sees cash flow above $4.50 a share. At 16, the stock goes for about 40% of what Southeastern figures Waste's business is worth. Could the contrarians at Southeastern, willing to dive in a dumpster for a stock Wall Street hates, be wrong? Yes. But I like their odds.Questions? Comments? E-mail barkerportfolio@businessweek.com or fax (321) 728-1711By Robert BarkerReturn to top


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