Progressive Waste Solutions Ltd. (TSX:BIN)(NYSE:BIN) fell as much as 9% on Tuesday after the U.S. Treasury Department outlined new tax rules that could impact the company’s merger with Waste Connections, Inc. (NYSE:WCN).
The merger was originally announced on January 19 with the combined entity expected to benefit from a tax inversion (the relocation of a corporation’s legal domicile to a lower-tax nation). A press release was issued today saying that up to 3% of the combined company’s cash flow could be affected this year alone. Still, both companies remain committed to the strategic merger, which is expected to close in the second quarter of 2016.
Is the recent price dip a buying opportunity for long-term shareholders?
The proposed merger still has plenty of benefits
While the merger would have created some tax advantages, they were hardly the driving force behind the deal. Instead, Progressive and Waste Connections were looking to combine their operations in an industry that’s driven by scales of economy.
Both companies are essentially garbage collectors, providing waste collection, transfer, disposal, and recycling services. If a garbage collector is already servicing a neighborhood or region, it doesn’t cost much to add on additional customers in that area given the trucks are already around. Adding regionally complementary customers is an easy way to magnify profits.
Looking at Progressive and Waste Connection’s existing service base, a combination would come with significant operating synergies. Post-merger, the company should have top three market share positions in over 80% of its markets.
Progressive’s management team also highlighted the possibility of selling any remaining assets that don’t fit with its new consolidated operation. Asset disposals could amount to 5-7.5% of revenues of the combined company. This should provide a boost in profit margins, given these assets wouldn’t benefit from the impending economies of scale.
Shares look relatively cheap
In year one, management has guided for EBITDA between $1.25-1.3 billion and $625 million in free cash flow, which could be used to pay down debt and boost dividend growth. After the drop, shares now trade for roughly 10.2 times EBITDA (not including future synergies or profitability from the deal).
Competitor Waste Management, Inc. (NYSE:WM) trades at 10.7 times EBITDA despite its underlying business performing relatively weaker. For example, Waste Connections has had higher volume growth, pricing power, and free cash flow margins every year since 2013.
With Waste Connections comprising 70% of the proposed merger with Progressive, the combined business will likely perform better than its U.S. peers. Last week, Sterne Agee initiated coverage on Waste Connections with a buy rating, saying that the impending synergies are “underappreciated.” Whether you go with Progressive or Waste Connections, the combined company has a bright future despite potential tax headwinds.
