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Covanta 3Q16 results +2

10:12 26-Oct-16

The Covanta conference call has just wrapped up.  There was little in the way of surprises.  Management confirms that the dividend can be expected to be stable, even in challenging commodities environment.  However, we should expect to see real growth for at least another year or so.  I continue to see Covanta as safe for the short term, with excellent prospects for the long-term.  Thus, this morning's market reaction looks like an excellent long-term entry point to me.

3Q Details and Operational Outlook

Last quarter fuel was up and metals were down, with HMS #1 averaging $212.  Average contracted waste pricing is escalating at 1% annually, as expected.  Plants can operate 50-70 years.  About $53M from the Chinese equity sale was used to pay down debt, with the ratio now at 6.3.  This should return to 5 after Dublin goes fully operational in 3Q17, with first fire-up for that facility expected towards the end of the first quarter of 2017. The long-term leverage target is 4.  Upgrades in Fairfax are also weighing on expenses, and that should continue for another two years, but we should see improved financial contribution starting next year. 

Inorganic Growth Plans

The other $50M from the Chinese sale is being kept overseas for international expansion, but the Perth project in Australia will not be moving forward.  Management continues to like that national market, but did not want a repeat of the Durham expense overruns.  In general, the expectation is for 1 new project every other year.  Europe (including the U.K) should be first, then maybe Asia.

New Organic Growth Factors

Covanta has begun operating a new medical waste disposal business in two markets, with more growth expected over the next year.  It is also evaluating a new ash processing technology, which could help save on the $100M spent annually in that area.  More info is expected over the next few months.  I note that the pilot program for ash reuse in Pasco, FL has already won 1st place in Tampa Bay Regional Planning Council's Future of the Region Awards.  From the county's annual report:

The successful completion of this project has led to the approval for the use of waste to
energy bottom ash in road construction in Pasco County....  Estimates project the cost savings from the beneficial use of waste to energy ash to be in the neighborhood of $50,000-$100,000 dollars per mile of two-lane road constructed. Pasco County’s plan is to continue to move forward with sustainable ash recycling and will begin full scale road construction projects using bottom ash in 2016.

Beyond next year, I expect continued optimization of Covanta's business to improve valuation and dividend payouts.  Operational results could come sooner on any improvement in the commodities markets, especially metals.  To that end, I will be on the lookout for duplication of the pilot metals processing project in Fairless Hills.  My near-term fair value price target for CVA remains unchanged at $16.67.

Covanta has announced financial results for its third quarter:

• earnings of 18 cents, beat by 4 cents
  
• on revenue of $421M, misses by $1M
• guidance for 2016 was affirmed.
  

No real surprises here. Covanta is showing that its business is stable and slowly growing, which makes the dividend secure.  I'll be looking into further optimization for the company's business in tomorrow morning's call, and maybe elsewhere.  For now, though, this is exactly what was expected in a weak commodities market.

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