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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2004
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _________ TO _________
COMMISSION FILE NUMBER 0-23981
WASTE CONNECTIONS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE
(State or other jurisdiction of incorporation or organization)
94-3283464
(I.R.S. Employer Identification No.)
35 IRON POINT CIRCLE, SUITE 200, FOLSOM, CA 95630
(Address of principal executive offices)
(916) 608-8200
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock:
As of April 15, 2004: 29,089,514 shares of common stock
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements 1
Condensed Consolidated Balance Sheets - December 31,
2003 and March 31, 2004 1
Condensed Consolidated Statements of Income for the
three months ended March 31, 2003 and 2004 2
Condensed Consolidated Statements of Cash Flows for
the three months ended March 31, 2003 and 2004 3
Notes to Condensed Consolidated Financial Statements 4
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 18
Item 4. Controls and Procedures 19
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 6. Exhibits and Reports on Form 8-K 20
Signatures 24
i
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Waste Connections, Inc.
Condensed Consolidated Balance Sheets
(Unaudited)
(In thousands, except share and per share amounts)
December 31, March 31,
ASSETS 2003 2004
----------- -----------
Current assets:
Cash and equivalents $ 5,276 $ 4,911
Accounts receivable, less allowance for doubtful
accounts of $2,570 and $2,440 at December 31, 2003
and March 31, 2004, respectively 72,474 70,049
Prepaid expenses and other current assets 11,270 10,719
----------- -----------
Total current assets 89,020 85,679
Property and equipment, net 613,225 620,257
Goodwill, net 590,054 599,713
Intangible assets, net 64,784 69,012
Restricted cash 17,734 16,537
Other assets, net 21,135 20,418
----------- -----------
$ 1,395,952 $ 1,411,616
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 38,682 $ 37,320
Accrued liabilities 31,920 35,866
Deferred revenue 23,738 25,329
Current portion of long-term debt and notes payable 9,740 9,674
----------- -----------
Total current liabilities 104,080 108,189
Long-term debt and notes payable 601,891 580,770
Other long-term liabilities 8,400 8,752
Deferred income taxes 120,162 125,800
----------- -----------
Total liabilities 834,533 823,511
Commitments and contingencies
Minority interests 23,925 23,617
Stockholders' equity:
Preferred stock: $0.01 par value; 7,500,000 shares authorized;
none issued and outstanding -- --
Common stock: $0.01 par value; 50,000,000 shares authorized;
28,666,788 and 29,086,180 shares issued and outstanding at
December 31, 2003 and March 31, 2004, respectively 287 291
Additional paid-in capital 348,146 362,818
Deferred stock compensation (436) (2,468)
Retained earnings 189,094 205,296
Accumulated other comprehensive income (loss) 403 (1,449)
----------- -----------
Total stockholders' equity 537,494 564,488
----------- -----------
$ 1,395,952 $ 1,411,616
=========== ===========
See accompanying notes.
1
Waste Connections, Inc.
Condensed Consolidated Statements of Income
(Unaudited)
(In thousands, except share and per share amounts)
Three months ended
March 31,
------------------------------
2003 2004
------------ ------------
Revenues $ 128,454 $ 149,258
Operating expenses:
Cost of operations 71,821 85,063
Selling, general and administrative 12,881 15,595
Depreciation and amortization 10,580 13,443
------------ ------------
Operating income 33,172 35,157
Interest expense (8,050) (6,823)
Other income 38 76
------------ ------------
Income before income tax provision and minority interests 25,160 28,410
Minority interests (2,282) (2,631)
------------ ------------
Income before income tax provision 22,878 25,779
Income tax provision (8,465) (9,577)
------------ ------------
Income before cumulative effect of change in accounting
principle 14,413 16,202
Cumulative effect of change in accounting principle, net of
tax expense of $166 282 --
------------ ------------
Net income $ 14,695 $ 16,202
============ ============
Basic earnings per common share:
Income before cumulative effect of change in accounting
principle $ 0.51 $ 0.56
Cumulative effect of change in accounting principle .01 --
------------ ------------
Net income per common share $ 0.52 $ 0.56
============ ============
Diluted earnings per common share:
Income before cumulative effect of change in accounting
principle $ 0.49 $ 0.53
Cumulative effect of change in accounting principle .01 --
------------ ------------
Net income per common share $ 0.50 $ 0.53
============ ============
Shares used in the per share calculations:
Basic 28,080,260 28,856,746
============ ============
Diluted 32,656,498 33,456,468
============ ============
See accompanying notes.
2
Waste Connections, Inc.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(Dollars in thousands)
Three months ended
March 31,
--------------------------
2003 2004
---------- ----------
Cash flows from operating activities:
Net income $ 14,695 $ 16,202
Adjustments to reconcile net income to
net cash provided by operating activities:
Gain on disposal of assets (67) (38)
Depreciation 10,235 12,828
Amortization of intangibles 345 615
Deferred income taxes 4,232 5,495
Minority interests 2,282 2,631
Cumulative effect of change in accounting principle (448) --
Amortization of debt issuance costs 591 625
Stock-based compensation 55 200
Interest income on restricted cash (24) (70)
Closure and post-closure accretion 107 103
Net change in operating assets and liabilities, net of acquisitions 4,167 9,298
---------- ----------
Net cash provided by operating activities 36,170 47,889
---------- ----------
Cash flows from investing activities:
Payments for acquisitions, net of cash acquired (3,573) (6,081)
Capital expenditures for property and equipment (11,841) (15,628)
Proceeds from disposal of assets 89 184
Net change in other assets (1,186) 1,326
---------- ----------
Net cash used in investing activities (16,511) (20,199)
---------- ----------
Cash flows from financing activities:
Proceeds from long-term debt 11,500 21,500
Principal payments on notes payable and long-term debt (30,344) (56,963)
Distributions to minority interest holders (2,156) (2,940)
Proceeds from option and warrant exercises 2,086 10,585
Debt issuance costs (7) (237)
---------- ----------
Net cash used in financing activities (18,921) (28,055)
---------- ----------
Net increase (decrease) in cash and equivalents 738 (365)
Cash and equivalents at beginning of period 4,067 5,276
---------- ----------
Cash and equivalents at end of period $ 4,805 $ 4,911
========== ==========
Non-cash financing activity:
Liabilities assumed and notes payable issued to sellers $ -- $ 14,105
See accompanying notes.
3
WASTE CONNECTIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(Dollars in thousands, except share, per share and per ton amounts)
1. BASIS OF PRESENTATION AND SUMMARY
The accompanying condensed consolidated financial statements relate to Waste
Connections, Inc. and its subsidiaries (the "Company") as of March 31, 2004 and
for the three month periods ended March 31, 2003 and 2004. The consolidated
financial statements of the Company include the accounts of Waste Connections,
Inc. and its wholly-owned and majority-owned subsidiaries. All significant
intercompany transactions and balances have been eliminated in consolidation.
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information and with the instructions to
Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. Operating
results for the three month periods ended March 31, 2004 are not necessarily
indicative of the results that may be expected for the year ending December 31,
2004.
The Company's consolidated balance sheet as of March 31, 2004, the consolidated
statements of income for the three months ended March 31, 2003 and 2004, and the
consolidated statements of cash flows for the three months ended March 31, 2003
and 2004 are unaudited. In the opinion of management, such financial statements
include all adjustments, consisting only of normal recurring adjustments,
necessary for a fair presentation of the Company's financial position, results
of operations, and cash flows for the periods presented. The consolidated
financial statements presented herein should be read in conjunction with the
Company's 2003 annual report on Form 10-K.
2. ADOPTION OF NEW ACCOUNTING STANDARDS
FIN 46
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46") which was
subsequently amended in December 2003. FIN 46 requires that unconsolidated
variable interest entities be consolidated by their primary beneficiaries. A
primary beneficiary is the party that absorbs a majority of the entity's
expected losses or residual benefits. FIN 46 applies to variable interest
entities created after January 31, 2003 and to existing variable interest
entities beginning after June 15, 2003. The Company fully adopted FIN 46 on
March 31, 2004 and this adoption did not have a material impact on the Company's
financial statements.
3. STOCK-BASED COMPENSATION
As permitted under the provisions of SFAS No. 123, the Company has elected to
account for stock-based compensation using the intrinsic value method prescribed
by APB 25. Under the intrinsic value method, compensation cost is the excess, if
any, of the quoted market price or fair value of the stock at the grant date or
other measurement date over the amount an employee must pay to acquire the
stock.
Pro forma information regarding net income and earnings per share is required by
SFAS No. 123, and has been determined as if the Company had accounted for its
employee stock options under the fair value method of that Statement using a
Black-Scholes option pricing model. For purposes of pro forma disclosures, the
estimated fair value of the options is amortized to expense over the options'
vesting period.
4
The following table summarizes the Company's pro forma net income and pro forma
basic and diluted earnings per share for the three months ended March 31, 2003
and 2004:
Three Months Ended
March 31,
--------------------
2003 2004
-------- --------
Net income, as reported $ 14,695 $ 16,202
Add: stock-based employee compensation
expense included in reported net income, net
of related tax effects 35 126
Deduct: total stock-based employee
compensation expense determined under fair
value method for all awards, net of
related tax effects (1,614) (2,237)
-------- --------
Pro forma net income $ 13,116 $ 14,091
======== ========
Earnings per share:
Basic - as reported $ 0.52 $ 0.56
Basic - pro forma $ 0.47 $ 0.49
Diluted - as reported $ 0.50 $ 0.53
Diluted - pro forma $ 0.45 $ 0.47
4. LANDFILL ACCOUNTING
At March 31, 2004, the Company owned 21 landfills, and operated, but did not
own, five landfills under life-of-site operating contracts and nine landfills
under operating contracts with finite terms. The Company also owns one Subtitle
D landfill site that is permitted for operation, but not constructed as of March
31, 2004. The Company's landfills have site costs with a net book value of
$385,503 at March 31, 2004. With the exception of two owned landfills that only
accept construction and demolition waste, all landfills that the Company owns or
operates are Subtitle D landfills. For the Company's nine landfills operated
under contracts with finite terms, the owner of the property, generally a
municipality, usually owns the permit and is generally responsible for closure
and post-closure obligations. The Company is responsible for all closure and
post-closure liabilities for four of the five operating landfills that it
operates under life-of-site operating contracts.
Many of the Company's existing landfills have the potential for expanded
disposal capacity beyond the amount currently permitted. The Company's internal
and third-party engineers perform surveys at least annually to estimate the
disposal capacity at its landfills. The Company's landfill depletion rates are
based on the remaining disposal capacity, considering both permitted and deemed
permitted airspace, at its owned landfills and landfills operated under
life-of-site operating contracts. Deemed permitted airspace consists of
additional disposal capacity being pursued through means of an expansion. Deemed
permitted airspace that meets certain internal criteria is included in the
estimate of total landfill airspace. The Company's internal criteria to
determine when deemed permitted airspace may be included as disposal capacity
are as follows:
(1) The land where the expansion is being sought is contiguous to the current
disposal site, and the Company either owns it or the property is under
option, purchase, operating or other agreements;
(2) Total development costs, final capping costs, and closure/post-closure
costs have been determined;
(3) Internal personnel have performed a financial analysis of the proposed
expansion site and have determined that it has a positive financial and
operational impact;
(4) Internal or external personnel are actively working to obtain the necessary
approvals to obtain the landfill expansion permit;
5
(5) The Company considers it probable that the expansion will be achieved. For
a pursued expansion to be considered probable, there must be no significant
known technical, legal, community, business, or political restrictions or
similar issues existing that could impair the success of the expansion; and
(6) The land where the expansion is being sought has the proper zoning or
proper zoning can readily be obtained.
The Company is currently seeking to expand permitted capacity at seven of its
owned landfills and four landfills that it operates under life-of-site operating
contracts, and considers the achievement of these expansions to be probable.
Although the Company cannot be certain that all future expansions will be
permitted as designed, the average remaining life, when considering remaining
permitted capacity, probable expansion capacity and projected annual disposal
volume, of the Company's owned landfills and landfills operated under
life-of-site operating contracts is 61 years, with lives ranging from 3 to 263
years.
The Company uses the units-of-production method to calculate the depletion rate
at the landfills it owns and the landfills it operates under life-of-site
operating contracts. This methodology divides the costs associated with
acquiring, permitting and developing the entire landfill by the total remaining
disposal capacity of that landfill. The resulting per unit depletion rate is
applied to each ton of waste disposed at the landfill and is recorded as expense
for that period. During the three months ended March 31, 2003 and 2004, the
Company expensed approximately $2,882 and $3,683, respectively, or an average of
$2.30 and $2.46 per ton consumed, respectively, related to landfill depletion.
The Company reserves for closure and post-closure maintenance obligations at the
landfills it owns and certain landfills it operates under life-of-site operating
contracts. Final capping costs are included in the calculation of closure and
post-closure liabilities. The Company calculates the net present value of its
closure and post-closure commitments recorded in 2004 assuming a 2.5% inflation
rate and a 7.5% discount rate. The resulting closure and post-closure obligation
is recorded on the balance sheet as an addition to site costs and amortized to
depletion expense as the landfill's airspace is consumed. During the three
months ended March 31, 2003 and 2004, the Company expensed approximately $107
and $103, respectively, or an average of $0.09 and $0.07 per ton consumed,
respectively, related to closure and post-closure accretion expense.
The following is a reconciliation of the Company's closure and post-closure
liability balance from December 31, 2003 to March 31, 2004:
Closure and post-closure liability at December 31, 2003 $ 5,479
Changes resulting from adjustments to the timing or
amount of undiscounted cash flows (880)
Liabilities incurred 106
Accretion expense 103
---------
Closure and post-closure liability at March 31, 2004 $ 4,808
=========
At March 31, 2004, $11,730 of the Company's restricted cash balance was for
purposes of settling future closure and post-closure liabilities.
5. ACQUISITIONS
During the three months ended March 31, 2004, the Company acquired three
non-hazardous solid waste collection businesses. Aggregate consideration for the
acquisitions consisted of $4,226 in cash (net of cash acquired) $3,096 in notes
payable to sellers, and the assumption of debt totaling $11,179.
The results of operations of the acquired businesses have been included in the
Company's consolidated financial statements from their respective acquisition
dates.
The purchase prices have been allocated to the identified intangible assets and
tangible assets acquired and liabilities assumed based on their estimated fair
values at the dates of acquisition, with any residual amounts allocated to
6
goodwill. The purchase price allocations are considered preliminary until the
Company is no longer waiting for information that it has arranged to obtain and
that is known to be available or obtainable. Although the time required to
obtain the necessary information will vary with circumstances specific to an
individual acquisition, the "allocation period" for finalizing purchase price
allocations generally does not exceed one year from the consummation of a
business combination.
As of March 31, 2004, the Company had six acquisitions for which purchase price
allocations were preliminary, mainly as a result of pending working capital
valuations. The Company believes the potential changes to its preliminary
purchase price allocations will not have a material impact on its financial
condition, results of operations or cash flows.
A summary of the preliminary purchase price allocations for the acquisitions
consummated in the three months ended March 31, 2004 is as follows:
Acquired assets:
Accounts receivable $ 491
Prepaid expenses and other current assets 42
Property and equipment 5,151
Goodwill 9,659
Long-term franchise agreements and contracts 4,514
Other intangibles 259
Non-competition agreements 70
Assumed liabilities:
Accounts payable (982)
Accrued liabilities (560)
Deferred taxes (143)
Debt and other liabilities assumed (14,275)
----------
$ 4,226
----------
During the three months ended March 31, 2004, the Company paid $1,855 of
acquisition-related liabilities accrued at December 31, 2003.
The three acquisitions acquired in the three months ended March 31, 2004 were
not significant to our results of operations.
Goodwill and long-term franchise agreements and contracts acquired in the three
months ended March 31, 2004 totaling $9,659 and $4,514, respectively, are
expected to be deductible for tax purposes.
6. INTANGIBLE ASSETS
Intangible assets, exclusive of goodwill, consist of the following as of March
31, 2004:
Gross Carrying Accumulated Net Carrying
Amount Amortization Amount
------ ------------ ------
Amortizable intangible assets:
Long-term franchise agreements
and contracts $ 51,325 $ (2,410) $ 48,915
Non-competition agreements 4,056 (2,698) 1,358
Other, net 2,674 (970) 1,704
----------- ----------- ----------
58,055 (6,078) 51,977
Nonamortized intangible assets:
Indefinite-lived intangible assets 17,035 -- 17,035
----------- ----------- ----------
Intangible assets, exclusive of goodwill $ 75,090 $ (6,078) $ 69,012
=========== =========== ==========
7
The weighted-average amortization periods for long-term franchise agreements,
non-competition agreements and other intangibles acquired during the three
months ended March 31, 2004 are 21.4 years, 5 years and 10 years, respectively.
Estimated future amortization expense of amortizable intangible assets for the
next five years is as follows:
For the year ended December 31, 2004 $ 2,440
For the year ended December 31, 2005 2,322
For the year ended December 31, 2006 2,131
For the year ended December 31, 2007 1,879
For the year ended December 31, 2008 1,711
7. LONG-TERM DEBT
In March 2004, the Company entered into two interest rate swap agreements. Each
interest rate swap agreement has a notional amount of $37,500, a three-year
term, and effectively fixes the interest rate on the notional amount at an
interest rate of 2.25%, plus applicable margin. These interest rate swap
agreements are effective as cash flow hedges for a portion of the Company's
variable rate debt and the Company applies hedge accounting pursuant to SFAS No.
133 to account for these instruments. The notional amounts and all other
significant terms of the swap agreements are closely matched to the provisions
and terms of the variable rate debt being hedged.
In March 2004, the Company refinanced the senior secured term loan portion of
its credit facility in order to reduce the effective borrowing cost. The
applicable margin on the senior secured term loan was reduced by 25 basis
points; all other terms remained consistent. In addition, the Company increased
the amount outstanding under the senior secured term loan from $175,000 to
$200,000, resulting in an increase in the size of the credit facility to
$600,000.
In April 2004, the Company announced that it had completed the redemption of its
$150,000 aggregate principal amount, 5.5% Convertible Subordinated Notes due
2006. Holders of the notes chose to convert a total of $123,648 principal amount
of the notes into 3,251,312 shares of Waste Connections common stock at a price
of $38.03 per share, or approximately 26.295 shares per $1 principal amount of
notes, plus cash in lieu of fractional shares. Waste Connections redeemed the
balance of $26,352 principal amount of the notes by proceeds from our credit
facility at a redemption price of $1.022 per $1 principal amount of the notes.
All holders of the notes also received accrued interest of $0.0275 per $1
principal amount of notes. As a result of the redemption, the Company expects to
recognize an estimated $1,478 of pre-tax expense, or $1,127 expense, net of
taxes, in the second quarter, 2004.
8
8. DILUTED EARNINGS PER SHARE CALCULATION
The following table sets forth the numerator and denominator used in the
computation of diluted earnings per common share:
Three months ended
March 31,
-------------------------
2003 2004
----------- -----------
Numerator:
Net income for basic earnings per share $ 14,695 $ 16,202
Interest expense on convertible
subordinated notes due 2006, net of tax
effects 1,476 1,476
----------- -----------
Net income for diluted earnings per share $ 16,171 $ 17,678
----------- -----------
Denominator:
Basic shares outstanding 28,080,260 28,856,746
Dilutive effect of convertible
subordinated notes due 2006 3,944,775 3,944,775
Dilutive effect of options and warrants 625,780 645,978
Dilutive effect of restricted stock 5,683 8,969
----------- -----------
Diluted shares outstanding 32,656,498 33,456,468
=========== ===========
As of March 31, 2004, all stock options and warrants were included in the
computation of diluted income per share as they were all dilutive.
9. COMPREHENSIVE INCOME
Comprehensive income includes changes in the fair value of interest rate swaps
that qualify for hedge accounting. The difference between net income and
comprehensive income for the three months ended March 31, 2003 and 2004 is as
follows:
Three months ended
March 31,
-------------------------
2003 2004
----------- -----------
Net income $ 14,695 $ 16,202
Unrealized gain (loss) on interest rate swaps, net
of tax (benefit) expense of $585 and $(1,088)
for the three months ended March 31, 2003 and
2004, respectively 908 (1,852)
----------- -----------
Comprehensive income $ 15,603 $ 14,350
=========== ===========
The components of other comprehensive income and related tax effects for the
three months ended March 31, 2003 and 2004 are as follows:
Three months ended March 31, 2003
---------------------------------
Gross Tax effect Net of tax
----- ---------- ----------
Amounts reclassified into earnings $ 1,718 $ 636 $ 1,082
Changes in fair value of interest rate swaps (225) (51) (174)
------- ------- -------
$ 1,493 $ 585 $ 908
======= ======= =======
9
Three months ended March 31, 2004
---------------------------------
Gross Tax effect Net of tax
----- ---------- ----------
Amounts reclassified into earnings $ 477 $ 176 $ 301
Changes in fair value of interest rate swaps (3,417) (1,264) (2,153)
------- ------- -------
$(2,940) $(1,088) $(1,852)
======= ======= =======
The estimated net amount of the existing unrealized losses as of March 31, 2004
(based on the interest yield curve at that date) included in accumulated other
comprehensive income (loss) expected to be reclassified into pre-tax earnings
within the next 12 months is $2,420. The timing of actual amounts reclassified
into earnings is dependent on future movements in interest rates.
10. COMMITMENTS AND CONTINGENCIES
The Company owns undeveloped property in Harper County, Kansas where it is
seeking permits to construct and operate a municipal solid waste landfill. In
2002, the Company received a special use permit from Harper County for zoning
the landfill and in 2003 it received a draft permit from the Kansas Department
of Health and Environment to construct and operate the landfill. In July 2003,
the District Court of Harper County invalidated the previously issued zoning
permit. The Company has appealed the District Court's decision to invalidate the
zoning permit. The Kansas Department of Health and Environment has notified the
Company that it will not issue a final permit to construct and operate the
landfill until the zoning matter is resolved. At March 31, 2004, the Company had
$4,100 of capitalized expenditures related to this landfill development project.
Based on the advice of counsel, the Company believes that it will prevail in
this matter and does not believe that an impairment of the capitalized
expenditures exists. If the Company does not prevail on appeal, however, it will
be required to expense in a future period the $4,100 of capitalized
expenditures, less the recoverable value of the undeveloped property and other
amounts recovered, which would likely have a material adverse effect on its
reported income for that period.
The Company is primarily self-insured for automobile liability, general
liability and workers' compensation claims. The Company is a party to various
claims and suits pending for alleged damages to persons and property and alleged
liabilities occurring during the normal operations of the solid waste management
business. On October 31, 2003, the Company's subsidiary, Waste Connections of
Nebraska, Inc., was named as a defendant in the case of KAREN COLLERAN,
CONSERVATOR OF THE ESTATE OF ROBERT ROONEY V. WASTE CONNECTIONS OF NEBRASKA,
INC. The plaintiff seeks recovery for damages allegedly suffered by Father
Robert Rooney when the bicycle he was riding collided with one of the Company's
garbage trucks. The complaint alleges that Father Rooney suffered serious bodily
injury, including traumatic brain injury. The plaintiff seeks recovery of past
medical expenses of approximately $430 and an unspecified amount for future
medical expenses, home healthcare, past pain and suffering, future pain and
suffering, lost income, loss of earning capacity, and permanent injury and
disability. The Company's primary defense is that the plaintiff is not entitled
to any damages under Nebraska law, where the accident occurred, because the
negligence of Father Rooney was equal to or greater than any negligence on the
part of the Company's driver, and the Company intends to defend this case
vigorously. This case is in the preliminary stages of discovery and the Company
has not accrued any potential loss as of March 31, 2004; however, an adverse
outcome in this case coupled with a significant award to the plaintiff could
have a material adverse effect on the Company's reported income in the period
incurred.
Additionally, the Company is party to various legal proceedings in the ordinary
course of business and as a result of the extensive governmental regulation of
the solid waste industry. The Company's management does not believe that these
proceedings, either individually or in the aggregate, are likely to have a
material adverse effect on its business, financial condition, operating results
or cash flows.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD LOOKING STATEMENTS
Certain information contained in this Quarterly Report on Form 10-Q, including,
without limitation, information appearing under this Part I, Item 2, includes
statements that are forward-looking in nature. These statements can be
identified by the use of forward-looking terminology such as "believes",
"expects", "may", "will", "should" or "anticipates" or the negative thereof or
comparable terminology, or by discussions of strategy. Our business and
operations are subject to a variety of risks and uncertainties and,
consequently, actual results may differ materially from those projected by any
forward-looking statements in this Quarterly Report on Form 10-Q. Factors that
could cause actual results to differ from those projected include, but are not
limited to, the following: (1) difficulties in making acquisitions, acquiring
exclusive contracts and generating internal growth may cause our growth to be
slower than expected; (2) our growth and future financial performance depend
significantly on our ability to integrate acquired businesses into our
organization and operations; (3) our acquisitions may not be successful,
resulting in changes in strategy, operating losses or a loss on sale of the
business acquired; (4) we compete for acquisition candidates with other
purchasers, some of which have greater financial resources than we do, and these
other purchasers may be able to offer more favorable acquisition terms, thus
limiting our ability to grow through acquisition; (5) timing of acquisitions may
cause fluctuations in our quarterly results, which may cause our stock price to
decline; (6) rapid growth may strain our management, operational, financial and
other resources; (7) we may be unable to compete effectively with governmental
service providers and larger and better capitalized companies, which may result
in reduced revenues and lower profits; and (8) we may lose contracts through
competitive bidding, early termination or governmental action, which would cause
our revenues to decline. These risks and uncertainties, as well as others, are
discussed in greater detail in our other filings with the Securities and
Exchange Commission, including our most recent Annual Report on Form 10-K. There
may be additional risks of which we are not presently aware or that we currently
believe are immaterial which could have an adverse impact on our business. We
make no commitment to revise or update any forward-looking statements in order
to reflect events or circumstances after the date any such statement is made.
The following discussion should be read in conjunction with the unaudited
financial statements and notes thereto included elsewhere herein.
OVERVIEW
Waste Connections, Inc. is an integrated solid waste services company that
provides solid waste collection, transfer, disposal and recycling services in
mostly secondary markets in the Western and Southern U.S. As of March 31, 2004,
we served more than one million commercial, industrial and residential customers
from a network of operations in 23 states: Alabama, Arizona, California,
Colorado, Georgia, Illinois, Iowa, Kansas, Kentucky, Minnesota, Mississippi,
Montana, Nebraska, New Mexico, Ohio, Oklahoma, Oregon, South Dakota, Tennessee,
Texas, Utah, Washington, and Wyoming. As of that date, we owned 103 collection
operations and operated or owned 33 transfer stations, operated or owned 33
Subtitle D landfills, owned two construction and demolition landfills and
operated or owned 26 recycling facilities. We also owned one Subtitle D landfill
site that is permitted for operation, but not constructed as of March 31, 2004.
CRITICAL ACCOUNTING ESTIMATES AND ASSUMPTIONS
The preparation of financial statements in conformity with generally accepted
accounting principles requires estimates and assumptions that affect the
reported amounts of assets and liabilities, revenues and expenses, and related
disclosures of contingent assets and liabilities in the consolidated financial
statements. As described by the Securities and Exchange Commission, critical
accounting estimates and assumptions are those that may be material due to the
levels of subjectivity and judgment necessary to account for highly uncertain
matters or the susceptibility of such matters to change, and that have a
material impact on the financial condition or operating performance of the
company. There were no significant changes to our critical accounting estimates
and assumptions in the three months ended March 31, 2004. Refer to our Annual
Report on Form 10-K for a complete description of our critical accounting
estimates and assumptions.
11
GENERAL
Our revenues consist mainly of fees we charge customers for solid waste
collection, transfer, disposal and recycling services. Our collection business
also generates revenues from the sale of recyclable commodities, which have
significant variability. A large part of our collection revenues comes from
providing commercial, industrial and residential services. We frequently perform
these services under service agreements, municipal contracts or franchise
agreements with governmental entities. Our existing franchise agreements and all
of our existing municipal contracts give us the exclusive right to provide
specified waste services in the specified territory during the contract term.
These exclusive arrangements are awarded, at least initially, on a competitive
bid basis and subsequently on a bid or negotiated basis. We also provide
residential collection services on a subscription basis with individual
households. More than 50% of our revenues for the three months ended March 31,
2004 were derived from market areas where services are provided predominantly
under exclusive franchise agreements, long-term municipal contracts and
governmental certificates. Governmental certificates grant us perpetual and
exclusive collection rights in the covered areas. Contracts with counties and
municipalities and governmental certificates provide relatively consistent cash
flow during the terms of the contracts. Because we bill most residential
customers quarterly, subscription agreements also provide a stable source of
revenues for us.
We charge transfer station and landfill customers a tipping fee on a per ton
and/or per yard basis for disposing of their solid waste at the transfer
stations and landfill facilities. Many of our transfer and landfill customers
have entered into one to ten year disposal contracts with us, most of which
provide for annual indexed price increases.
We typically determine the prices of our solid waste services by the collection
frequency and level of service, route density, volume, weight and type of waste
collected, type of equipment and containers furnished, the distance to the
disposal or processing facility, the cost of disposal or processing, and prices
charged by competitors for similar services. The terms of our contracts
sometimes limit our ability to pass on price increases. Long-term solid waste
collection contracts often contain a formula, generally based on a published
price index, that automatically adjusts fees to cover increases in some, but not
all, operating costs, or that limit increases to less than 100% of the increase
in the applicable price index.
Cost of operations include labor and benefits, tipping fees paid to third-party
disposal facilities, equipment maintenance, workers' compensation, vehicle
insurance, claims expense, third-party transportation expense, fuel, the cost of
materials we purchase for recycling, district and state taxes and host community
fees and royalties. Our single largest cost is labor, followed by third-party
disposal, cost of vehicle maintenance, taxes and fees and fuel. We use a number
of programs to reduce overall cost of operations, including increasing the use
of automated routes to reduce labor and workers' compensation exposure,
comprehensive maintenance and health and safety programs, and increasing the use
of transfer stations to further enhance internalization rates. Our
high-deductible insurance covers automobile liability, general liability,
workers' compensation claims, automobile collision and employee group health
claims. If we experience insurance claims or costs above or below our
historically evaluated levels, our estimates could be materially affected.
Selling, general and administrative ("SG&A") expenses include management, sales
force, clerical and administrative employee compensation and benefits, legal,
accounting and other professional services, bad debt expense, and rent expense
for our corporate headquarters.
Depreciation expense includes depreciation of fixed assets over their estimated
useful lives using the straight-line method. Depletion expense includes
depletion of landfill site costs and total future development costs as remaining
airspace of the landfill is consumed. Remaining airspace at our landfills
includes both permitted and deemed permitted airspace. Amortization expense
includes the amortization of definite-lived intangible assets, consisting
primarily of long-term franchise agreements and contracts, customer lists, and
non-competition agreements, over their estimated useful lives using the
straight-line method. Goodwill and indefinite-lived intangible assets,
consisting primarily of certain perpetual rights to provide solid waste
collection and transportation services in specified territories, are not
amortized.
At March 31, 2004, we had 287.3 million tons of permitted remaining airspace
capacity and 83.3 million tons of deemed probable expansion airspace capacity at
our 26 owned and operated landfills and landfills operated under
12
life-of-site operating contracts. We do not measure remaining airspace capacity
at the nine landfills we operate under contracts with finite terms. Based on
remaining permitted capacity as of March 31, 2004, and projected annual disposal
volumes, the average remaining landfill life for our owned landfills and
landfills operated under life-of-site operating contracts is approximately 47
years. The operating contracts for which the contracted term is not the life of
the landfill have expiration dates from 2004 to 2013.
The disposal tonnage that we received in the three months ended March 31, 2003
and 2004 at all of our landfills is shown below (tons in thousands):
March 31, 2003 March 31, 2004
---------------- ----------------
Number of Total Number of Total
Sites Tons Sites Tons
--------- ----- --------- -----
Owned landfills or landfills operated
under life-of-site contracts 23 1,251 26 1,494
Operated landfills 7 223 9 228
--------- ----- --------- -----
30 1,474 35 1,722
--------- ----- --------- -----
We capitalize some third-party expenditures related to pending acquisitions or
development projects, such as legal, engineering and interest expenses. We
expense indirect acquisition costs, such as executive and corporate overhead,
public relations and other corporate services, as we incur them. We charge
against net income any unamortized capitalized expenditures and advances (net of
any portion that we believe we may recover, through sale or otherwise) that may
become impaired, such as those that relate to any operation that is permanently
shut down and any pending acquisition or landfill development project that we
believe will not be completed. We routinely evaluate all capitalized costs, and
expense those related to projects that we believe are not likely to succeed. At
March 31, 2004, we had $0.3 million in capitalized expenditures relating to
pending acquisitions. We own undeveloped property in Harper County, Kansas,
where we are seeking permits to construct and operate a municipal solid waste
landfill. In 2002, we received a special use permit from Harper County for
zoning the landfill and in 2003 we received a draft permit from the Kansas
Department of Health and Environment to construct and operate the landfill. In
July 2003, the District Court of Harper County invalidated the previously issued
zoning permit. We have appealed the District Court's decision to invalidate the
zoning permit. The Kansas Department of Health and Environment has notified us
that it will not issue a final permit to construct and operate the landfill
until the zoning matter is resolved. At March 31, 2004, we had $4.1 million of
capitalized expenditures related to this landfill development project. Based on
the advice of counsel, we believe that we will prevail in this matter and do not
believe that an impairment of the capitalized expenditures exists. If we do not
prevail on appeal, however, we will be required to expense in a future period
the $4.1 million of capitalized expenditures, less the recoverable value of the
undeveloped property and other amounts recovered, which would likely have a
material adverse effect on our reported income for that period.
We periodically evaluate acquired assets for potential impairment indicators. If
any impairment indicators are present, a test of recoverability is performed by
comparing the carrying value of the asset or asset group to its undiscounted
expected future cash flows. If the carrying values are in excess of undiscounted
expected future cash flows, impairment is measured by comparing the fair value
of the asset to its carrying value. If the fair value of an asset is determined
to be less than the carrying amount of the asset or asset group, an impairment
in the amount of the difference is recorded in the period that the impairment
indicator occurs. As of March 31, 2004, there have been no adjustments to the
carrying amounts of intangibles, including goodwill, resulting from these
evaluations. As of March 31, 2004, goodwill and other intangible assets
represented 47.4% of total assets and 118.5% of stockholders' equity.
NEW ACCOUNTING PRONOUNCEMENT
For a description of the new accounting standards that affect us, see Note 2 to
our Condensed Consolidated Financial Statements included under Item 1 of this
Form 10-Q.
13
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2003 AND 2004
The following table sets forth items in our consolidated statements of income as
a percentage of revenues for the periods indicated.
Three months ended
March 31,
------------------
2003 2004
------- -------
Revenues 100.0% 100.0%
Cost of operations 55.9 57.0
Selling, general and
administrative expenses 10.0 10.4
Depreciation and
amortization expense 8.3 9.0
------ ------
Operating income 25.8 23.6
Interest expense, net (6.3) (4.6)
Other income 0.0 0.1
Minority interests (1.8) (1.8)
Income tax expense (6.5) (6.4)
Cumulative effect of change in
accounting principle 0.2 --
------ ------
Net income 11.4% 10.9%
====== ======
Revenues. Total revenues increased $20.8 million, or 16.2%, to $149.3 million
for the three months ended March 31, 2004 from $128.5 million for the three
months ended March 31, 2003. The increase in revenues in the three months ended
March 31, 2004, resulted primarily from the full-quarter inclusion of revenues
from acquisitions closed during the three months ended March 31, 2003, and the
inclusion of revenues from acquisitions closed subsequent to March 31, 2003,
which together totaled approximately $15.6 million. Of the remaining change in
revenues, increases in recyclable commodity prices increased revenues by $0.9
million, and price and volume changes in our existing business resulted in a net
revenue increase of $4.3 million. The net increase in revenues from price and
volume changes in our existing business consisted of increased prices charged to
our customers and increased volumes, partially offset by exiting the roll-off
business at our Georgia operations and the loss of certain municipal contracts
that expired subsequent to March 31, 2003, and were not renewed.
Cost of Operations. Total cost of operations increased $13.3 million, or 18.4%,
to $85.1 million for the three months ended March 31, 2004, from $71.8 million
for the three months ended March 31, 2003. The increase was primarily
attributable to operating costs associated with acquisitions closed subsequent
to March 31, 2003, increases in medical expenses for our self-insured employee
health plans and increased expenses associated with higher collection volumes.
Cost of operations as a percentage of revenues increased 1.1 percentage points
to 57.0% for the three months ended March 31, 2004 from 55.9% for the three
months ended March 31, 2003. The increase as a percentage of revenues was
primarily attributable to companies acquired subsequent to March 31, 2003 having
operating margins below our company average associated with a higher mix of
collection volumes, higher labor and other operating costs, and increased
medical expenses resulting from a higher volume of claims and an increase in the
number of claims reaching our per claim deductible limits for our self-insured
employee health plans.
SG&A. SG&A expenses increased $2.7 million, or 21.1%, to $15.6 million for the
three months ended March 31, 2004 from $12.9 million for the three months ended
March 31, 2003. Our SG&A expenses for the three months ended March 31, 2004,
increased from the prior year period as a result of additional personnel from
acquisitions closed subsequent to March 31, 2003, increased accounting expenses
related to new corporate governance requirements, increased management
information system expenses, increased employee bonus and stock
14
compensation expense recognized in the three months ended March 31, 2004 and
increased payroll tax expenses resulting from an increase in exercises of stock
options during the first three months of 2004.
SG&A expenses as a percentage of revenues for the three months ended March 31,
2004, increased 0.4 percentage points to 10.4% from 10.0% for the three months
ended March 31, 2003. The increase was primarily due to increased employee bonus
and stock compensation expense recognized in the three months ended March 31,
2004 and increased payroll tax expense resulting from increased stock option
exercises in that quarter.
Depreciation and Amortization. Depreciation and amortization expense increased
$2.8 million, or 27.1%, to $13.4 million for the three months ended March 31,
2004, from $10.6 million for the three months ended March 31, 2003. The increase
was primarily attributable to depreciation and depletion associated with
acquisitions closed subsequent to March 31, 2003, increased depreciation expense
resulting from new equipment acquired to support our base operations, increased
amortization expense associated with intangible assets acquired in acquisitions
closed subsequent to March 31, 2003 and increased depletion expense resulting
from higher volumes at our landfill operations.
Depreciation and amortization expense as a percentage of revenues increased 0.7
percentage points to 9.0% for the three months ended March 31, 2004, from 8.3%
for the three months ended March 31, 2003. The increase was the result of
depreciation expense associated with new equipment acquired subsequent to March
31, 2003, which replaced older equipment with lower depreciation costs,
increased amortization expense associated with intangible assets acquired in
acquisitions closed subsequent to March 31, 2003 and increased depletion expense
resulting from higher volumes at our landfill operations.
Operating Income. Operating income increased $2.0 million, or 6.0%, to $35.2
million for the three months ended March 31, 2004, from $33.2 million for the
three months ended March 31, 2003. The increase was primarily attributable to
the growth in revenues partially offset by increased operating costs, recurring
SG&A expenses to support the revenue growth, increases in employee bonus and
stock compensation expense and increased depreciation and amortization expenses.
Operating income as a percentage of revenues decreased 2.2 percentage points to
23.6% for the three months ended March 31, 2004, from 25.8% for the three months
ended March 31, 2003. The decrease was due to the aforementioned percentage of
revenue increases in cost of operations, SG&A expenses, and depreciation and
amortization expenses.
Interest Expense. Interest expense decreased $1.3 million, or 15.2%, to $6.8
million for the three months ended March 31, 2004, from $8.1 million for the
three months ended March 31, 2003. The decrease was primarily attributable to
the expiration of two interest rate swap agreements in late 2003 that required
fixed interest payments in excess of our variable rate borrowing cost.
Minority Interests. Minority interests increased $0.3 million, or 15.3%, to $2.6
million for the three months ended March 31, 2004, from $2.3 million for the
three months ended March 31, 2003. The increase in minority interests was due to
increased earnings by our majority-owned subsidiaries.
Provision for Income Taxes. Income taxes increased $1.1 million, or 13.1%, to
$9.6 million for the three months ended March 31, 2004, from $8.5 million for
the three months ended March 31, 2003. This increase was due to increased
pre-tax earnings and an increase in our effective tax rate of 0.2 percentage
points due to the recognition of non-tax deductible expenses in 2004.
Cumulative Effect of Change in Accounting Principle. Cumulative effect of change
in accounting principle for the three months ended March 31, 2003 consisted of a
$0.3 million gain, net of tax effects, resulting from our adoption of SFAS No.
143 on January 1, 2003. Our adoption of SFAS No. 143 required us to record a
cumulative change in accounting for landfill closure and post-closure
obligations retroactively to the date of the acquisition of each landfill.
Net Income. Net income increased $1.5 million, or 10.3% to $16.2 million for the
three months ended March 31, 2004, from $14.7 million for the three months ended
March 31, 2003. The increase was primarily attributable to
15
increased operating income and decreased interest expense, partially offset by
increased minority interest expense and income tax expense.
LIQUIDITY AND CAPITAL RESOURCES
Our business is capital intensive. Our capital requirements include fleet and
containers, facilities, and expenditures for landfill cell construction,
landfill development and landfill closure activities in the future. We plan to
meet our capital needs through various financing sources, including internally
generated funds, debt and equity financings.
As of March 31, 2004, we had a working capital deficit of $22.5 million,
including cash and equivalents of $4.9 million. Our strategy in managing our
working capital is generally to apply the cash generated from our operations
that remains after satisfying our working capital and capital expenditure
requirements to reduce our indebtedness under our credit facility and to
minimize our cash balances.
In October 2003, we entered into a new credit facility to increase the maximum
borrowings available to us to $575 million. This new credit facility consisted
of a $400 million senior secured revolving credit facility with a syndicate of
banks for which Fleet National Bank acts as agent and a $175 million senior
secured term loan. In March 2004, we refinanced the senior secured term loan
portion of our credit facility in order to reduce the effective borrowing cost.
The applicable margin on the senior secured term loan was reduced by 25 basis
points; all other terms remained consistent. In addition, we increased the
amount outstanding under the senior secured term loan from $175 million to $200
million, resulting in an increase in the size of the facility to $600 million.
The senior secured revolving credit facility matures in October 2008. The senior
secured term loan requires annual principal payments equal to 1% of the initial
term loan amount with all remaining outstanding amounts due October 2010. Under
the new credit facility, there is no maximum amount of stand-by letters of
credit that can be issued; however, the issuance of stand-by letters of credit
reduces the amount of total borrowings available. We are able to increase the
maximum borrowings under the new credit facility to $675 million, although no
existing lender will have any obligation to increase its commitment, provided
that no event of default, defined in the new credit facility, has occurred. The
borrowings under the new credit facility bear interest at a rate per annum equal
to, at our discretion, either the Fleet National Bank Base Rate plus applicable
margin, or the LIBOR rate plus applicable margin. The applicable margin under
the revolving credit facility varies depending on our leverage ratio. At March
31, 2004, the applicable margin on the term loan is 25 basis points in the case
of loans based on the Base Rate and 175 basis points in the case of loans based
on the LIBOR rate. Virtually all of our assets, including our interest in the
equity securities of our subsidiaries, secure our obligations under the new
credit facility.
The new credit facility places certain business, financial and operating
restrictions on us relating to, among other things, additional indebtedness,
investments, acquisitions, asset sales, mergers, dividends, distributions, and
repurchases and redemption of capital stock. The new credit facility also
requires that we maintain specified financial ratios and balances. As of March
31, 2004, we were in compliance with all applicable covenants in our outstanding
credit facility. The credit facility also requires the lenders' approval of
acquisitions in certain circumstances. We use the credit facility for
acquisitions, capital expenditures, working capital, standby letters of credit
and general corporate purposes. The $21.5 million decrease in outstanding
borrowings under our credit facility in 2004 was primarily due to cash generated
from operations and the proceeds from stock option exercises partially offset by
funding new acquisitions and capital expenditures. If we are unable to incur
additional indebtedness under our credit facility or obtain additional capital
through future debt or equity financings, our rate of growth through
acquisitions may decline.
In March 2004, we entered into two additional three-year interest rate swap
agreements. Each interest rate swap agreement has a notional amount of $37.5
million and effectively fixed the interest rate on the notional amount at an
interest rate of 2.25%, plus applicable margin.
16
As of March 31, 2004, we had the following contractual obligations (in
thousands):
Payments Due by Period
----------------------
Less Than
Recorded Obligations Total 1 Year 1 to 3 Years 4 to 5 Years Over 5 Years
-------------------- --------- --------- ------------ ------------ ------------
Long-term debt (1) $ 590,444 $ 9,674 $ 166,046 $ 21,857 $ 392,867
----------------------------------------------------------------------
Total contractual cash
obligations $ 590,444 $ 9,674 $ 166,046 $ 21,857 $ 392,867
======================================================================
(1) Long-term debt payments include $6.5 million in principal payments due 2008
related to our senior secured revolving credit facility and $200 million in
principal payments due 2010 related to our senior secured term loan, both
under our credit facility. As of March 31, 2004, our credit facility
allowed us to borrow up to $600 million. On April 15, 2004, we completed
the redemption of our $150 million aggregate principal amount, 5.5%
Convertible Subordinated Notes due 2006. Holders of the notes chose to
convert a total of $123.6 million principal amount of the notes into common
stock. The balance of $26.4 million principal amount of the notes were
redeemed by proceeds from our credit facility at a redemption price of
$1,022 per $1,000 principal amount of the notes.
Amount of Commitment Expiration Per Period
------------------------------------------
Less Than
Unrecorded Obligations Total 1 Year 1 to 3 Years 4 to 5 Years Over 5 Years
---------------------- --------- --------- ------------ ------------ ------------
Operating leases (2) $ 27,061 $ 3,985 $ 6,272 $ 4,613 $ 12,191
Unconditional purchase
obligations(2) 18,049 7,248 10,801 -- --
----------------------------------------------------------------------
Total commercial
commitments $ 45,110 $ 11,233 $ 17,073 $ 4,613 $ 12,191
======================================================================
(2) We are party to operating lease agreements and unconditional purchase
obligations. These lease agreements and purchase obligations are
established in the ordinary course of our business and are designed to
provide us with access to facilities and products at competitive,
market-driven prices. These arrangements have not materially affected our
financial position, results of operations or liquidity during the three
months ended March 31, 2004 nor are they expected to have a material
impact on our future financial position, results of operations or
liquidity.
We are party to stand-by letters of credit and financial surety bonds. These
stand-by letters of credit and financial surety bonds are generally established
to support our financial assurance needs and landfill operations. These
arrangements have not materially affected our financial position, results of
operations or liquidity during the three months ended March 31, 2004, nor are
they expected to have a material impact on our future financial position,
results of operations or liquidity.
The minority interest holders of one of our majority-owned subsidiaries have a
currently exercisable option (the "put option") to require us to complete the
acquisition of this majority-owned subsidiary by purchasing their minority
ownership interests for fair market value. The put option calculates the fair
market value of the subsidiary based on its current operating income before
depreciation and amortization, as defined in the put option agreement. The put
option does not have a stated termination date. At March 31, 2004, the minority
interest holders' pro rata share of the subsidiary's fair market value is
estimated to be worth between $67 million and $80 million. Because the put
option is required at fair market value, no amounts have been accrued relative
to the put option.
For the three months ended March 31, 2004, net cash provided by operating
activities was $47.9 million. Of this amount, $9.3 million was provided by
working capital for the period. The primary components of the reconciliation of
net income to net cash provided by operations for the three months ended March
31, 2004, consist of non-cash expenses including $13.4 million of depreciation
and amortization, $2.6 million of minority interest expense, $0.6 million of
debt issuance cost amortization, and the deferral of $5.5 million of income tax
expense resulting from temporary differences between the recognition of income
and expenses for financial reporting and income tax purposes.
For the three months ended March 31, 2004, net cash used in investing activities
was $20.2 million. Of this amount, $6.1 million was used to fund the cash
portion of acquisitions and to pay a portion of acquisition costs that were
included as a component of accrued liabilities at December 31, 2003. Cash used
for capital expenditures was $15.6 million, which was primarily for investments
in fixed assets, consisting of trucks, containers, other equipment and
17
landfill development. Cash provided by investing activities included $1.3
million of net borrowings of restricted cash.
For the three months ended March 31, 2004, net cash used in financing activities
was $28.1 million, which included $10.6 million of proceeds from stock option
and warrant exercises, less $35.5 million of net payments under our various debt
arrangements, $2.9 million of cash distributions to minority interest holders
and $0.2 million of debt issuance costs, primarily related to our amended credit
facility.
We made approximately $15.6 million in capital expenditures for property and
equipment during the three months ended March 31, 2004. We expect to make
capital expenditures of approximately $70.0 million in 2004 in connection with
our existing business. We intend to fund our planned 2004 capital expenditures
principally through existing cash, internally generated funds, and borrowings
under our existing credit facility. In addition, we may make substantial
additional capital expenditures in acquiring solid waste collection and disposal
businesses. If we acquire additional landfill disposal facilities, we may also
have to make significant expenditures to bring them into compliance with
applicable regulatory requirements, obtain permits or expand our available
disposal capacity. We cannot currently determine the amount of these
expenditures because they will depend on the number, nature, condition and
permitted status of any acquired landfill disposal facilities. We believe that
our credit facility and the funds we expect to generate from operations will
provide adequate cash to fund our working capital and other cash needs for the
foreseeable future.
From time to time we evaluate our existing operations and their strategic
importance to us. If we determine that a given operating unit does not have
future strategic importance, we may sell or otherwise dispose of those
operations. Although we believe our operations would not be impaired by such
dispositions, we could incur losses as a result.
SEASONALITY
Based on historic trends experienced by the businesses we have acquired, we
expect our operating results to vary seasonally, with revenues typically lowest
in the first quarter, higher in the second and third quarters and lower in the
fourth quarter than in the second and third quarters. We expect the fluctuation
in our revenues between our highest and lowest quarters to be approximately 10%
to 12%. This seasonality reflects the lower volume of solid waste generated
during the late fall, winter and early spring months because of decreased
construction and demolition activities during the winter months in the U.S. In
addition, some of our operating costs may be higher in the winter months.
Adverse winter weather conditions slow waste collection activities, resulting in
higher labor and operational costs. Greater precipitation in the winter
increases the weight of collected waste, resulting in higher disposal costs,
which are calculated on a per ton basis.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the normal course of business, we are exposed to market risk, including
changes in interest rates and certain commodity prices. We use hedge agreements
to manage a portion of our risks related to interest rates. While we are exposed
to credit risk in the event of non-performance by counterparties to our hedge
agreements, in all cases such counterparties are highly rated financial
institutions and we do not anticipate non-performance. We do not hold or issue
derivative financial instruments for trading purposes. We monitor our hedge
positions by regularly evaluating the positions at market and by performing
sensitivity analyses.
In May 2003, we entered into two forward-starting interest rate swap agreements.
Each interest rate swap agreement has a notional amount of $87.5 million and
effectively fixed the interest rate on the notional amount at interest rates
ranging from 2.67% to 2.68%, plus applicable margin. The effective date of the
swap agreements was February 2004 and each swap agreement expires in February
2007.
In March 2004, we entered into two additional three-year interest rate swap
agreements. Each interest rate swap agreement has a notional amount of $37.5
million and effectively fixed the interest rate on the notional amount at an
interest rate of 2.25%, plus applicable margin.
18
We have performed sensitivity analyses to determine how market rate changes will
affect the fair value of our market risk sensitive hedge positions and all other
debt. Such an analysis is inherently limited in that it reflects a singular,
hypothetical set of assumptions. Actual market movements may vary significantly
from our assumptions. Fair value sensitivity is not necessarily indicative of
the ultimate cash flow or earnings effect we would recognize from the assumed
market rate movements. We are exposed to cash flow risk due to changes in
interest rates with respect to the net floating rate balances owed at March 31,
2003 and 2004, of $250.7 million and $167.9 million, respectively, including
floating rate debt under our credit facility, our 2022 Notes, various floating
rate notes payable to third parties and floating rate municipal bond
obligations, offset by our debt effectively fixed under interest rate swap
agreements. A one percentage point increase in interest rates on our
variable-rate debt as of March 31, 2003 and 2004, would decrease our annual
pre-tax income by approximately $2.5 million and $1.7 million, respectively. All
of our remaining debt instruments are at fixed rates, or effectively fixed under
the interest rate swap agreements described above; therefore, changes in market
interest rates under these instruments would not significantly impact our cash
flows or results of operations.
We market a variety of recyclable materials, including cardboard, office paper,
plastic containers, glass bottles and ferrous and aluminum metals. We own and
operate 26 recycling processing facilities and sell other collected recyclable
materials to third parties for processing before resale. We often share the
profits from our resale of recycled materials with other parties to our
recycling contracts. For example, certain of our municipal recycling contracts
in Washington, negotiated before we acquired those businesses, specify benchmark
resale prices for recycled commodities. If the prices we actually receive for
the processed recycled commodities collected under the contract exceed the
prices specified in the contract, we share the excess with the municipality,
after recovering any previous shortfalls resulting from actual market prices
falling below the prices specified in the contract. To reduce our exposure to
commodity price risk with respect to recycled materials, we have adopted a
pricing strategy of charging collection and processing fees for recycling volume
collected from third parties. Although there can be no assurance of market
recoveries, in the event of a decline, because of the provisions within certain
of our contracts that pass commodity risk along to the customers, we believe,
given historical trends and fluctuations in the recycling commodities market,
that a 10% decrease in average recycled commodity prices from the prices that
were in effect at March 31, 2004 would not materially affect our cash flows or
pre-tax income.
ITEM 4. CONTROLS AND PROCEDURES
Our management, including our Chief Executive Officer and Chief Financial
Officer, evaluated the effectiveness of the design and operation of our
disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e)
under the Securities Exchange Act of 1934, as of March 31, 2004. Based on that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures were effective, in all material
respects, to ensure that information required to be disclosed in the reports we
file or submit under the Exchange Act is recorded, processed, summarized and
reported as and when required.
During the quarter ended March 31, 2004, there were no significant changes in
our internal controls or in other factors that could significantly affect these
controls subsequent to the date they were evaluated in connection with the
preparation of this quarterly report on Form 10-Q.
19
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We own undeveloped property in Harper County, Kansas, where we are seeking
permits to construct and operate a municipal solid waste landfill. In 2002, we
received a special use permit from Harper County for zoning the landfill and in
2003 we received a draft permit from the Kansas Department of Health and
Environment to construct and operate the landfill. In July 2003, the District
Court of Harper County invalidated the previously issued zoning permit. We have
appealed the District Court's decision to invalidate the zoning permit. The
Kansas Department of Health and Environment has notified us that it will not
issue a final permit to construct and operate the landfill until the zoning
matter is resolved. At March 31, 2004, we had $4.1 million of capitalized
expenditures related to this landfill development project. Based on the advice
of counsel, we believe that we will prevail in this matter and do not believe
that an impairment of the capitalized expenditures exists. If we do not prevail
on appeal, however, we will be required to expense in a future period the $4.1
million of capitalized expenditures, less the recoverable value of the
undeveloped property and other amounts recovered, which would likely have a
material adverse effect on our reported income for that period.
We are primarily self-insured for automobile liability, general liability and
workers' compensation claims. We are a party to various claims and suits pending
for alleged damages to persons and property and alleged liabilities occurring
during the normal operations of our solid waste management business. On October
31, 2003, our subsidiary, Waste Connections of Nebraska, Inc. was named as a
defendant in the case of KAREN COLLERAN, CONSERVATOR OF THE ESTATE OF ROBERT
ROONEY V. WASTE CONNECTIONS OF NEBRASKA, INC. The plaintiff seeks recovery for
damages allegedly suffered by Father Robert Rooney when the bicycle he was
riding collided with one of our garbage trucks. The complaint alleges that
Father Rooney suffered serious bodily injury, including traumatic brain injury.
The plaintiff seeks recovery of past medical expenses of approximately $430,000
and an unspecified amount for future medical expenses and home healthcare, past
pain and suffering, future pain and suffering, lost income, loss of earning
capacity, and permanent injury and disability. Our primary defense is that the
plaintiff is not entitled to any damages under Nebraska law, where the accident
occurred, because the negligence of Father Rooney was equal to or greater than
any negligence on the part of our driver, and we intend to defend this case
vigorously on these and other grounds. This case is in the preliminary stages of
discovery, and we have not accrued any potential loss as of March 31, 2004;
however, an adverse outcome in this case coupled with a significant award to the
plaintiff could have a material adverse effect on our reported income in the
period incurred.
Additionally, we are a party to various legal proceedings resulting from the
ordinary course of business and the extensive governmental regulation of the
solid waste industry. Our management does not believe that these proceedings,
either individually or in the aggregate, are likely to have a material adverse
effect on our business, financial condition, operating results or cash flows.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
EXHIBIT NUMBER DESCRIPTION OF EXHIBITS
3.1 (a) Amended and Restated Certificate of Incorporation
of the Registrant, in effect as of the date hereof
3.2 (a) Amended and Restated By-Laws of the Registrant, in
effect as of the date hereof
4.1 (a) Form of Common Stock Certificate
4.2 (h) Form of Note for the Registrant's 5.5% Convertible
Subordinated Notes due April 15, 2006
4.3 (h) (+) Indenture between the Registrant, as Issuer, and
State Street Bank and Trust Company, as Trustee,
dated as of April 4, 2001
20
4.4 (h) (+) Purchase Agreement between the Registrant and
Merrill Lynch, Pierce, Fenner & Smith Incorporated,
dated March 30, 2001
4.5 (h) (+) Registration Rights Agreement between the Registrant
and Merrill Lynch, Pierce, Fenner & Smith
Incorporated, dated as of April 4, 2001
4.6 (i) Form of Note for the Registrant's Floating Rate
Convertible Subordinated Notes Due 2022
4.7 (i) (+) Indenture between the Registrant, as Issuer, and
State Street Bank and Trust Company of California,
N.A., as Trustee, dated as of April 30, 2002
4.8 (i) (+) Purchase Agreement between the Registrant and
Deutsche Bank Securities Inc., dated April 26, 2002
4.9 (i) (+) Registration Rights Agreement between the Registrant
and Deutsche Bank Securities Inc., dated as of April
30, 2002
10.1 (d) Second Amended and Restated 1997 Stock Option Plan
10.2 (a) Form of Option Agreement
10.3 (a) Form of Warrant Agreement
10.4 (a) Form of Stock Purchase Agreement dated as of
September 30, 1997
10.5 (c) Form of Third Amended and Restated Investors' Rights
Agreement, dated as of December 31, 1998
10.6 (f) First Amended and Restated Employment Agreement
between the Registrant and Ronald J. Mittelstaedt,
dated as of June 1, 2000
10.7 (e) Second Amended Employment Agreement between the
Registrant and Darrell Chambliss, dated as of June
1, 2000
10.8 (e) Second Amended Employment Agreement between the
Registrant and Michael Foos, dated as of June 1,
2000
10.9 (a) Employment Agreement between the Registrant and
Steven Bouck, dated as of February 1, 1998
10.10 (a) Employment Agreement between the Registrant and
Eugene V. Dupreau, dated as of February 23, 1998
10.11 (a) Form of Indemnification Agreement entered into by
the Registrant and each of its directors and
officers
10.12 (b) (+) Loan Agreement, dated as of June 1, 1998, between
Madera Disposal Systems, Inc. and the California
Pollution Control Financing Authority
10.13 (b) Employment Agreement between the Registrant and
David M. Hall, dated as of July 8, 1998
10.14 (g) Employment Agreement between the Registrant and
James M. Little, dated as of September 13, 1999
10.15 (g) Employment Agreement between the Registrant and
Jerri L. Hunt, dated as of October 25, 1999
10.16 (j) Employment Agreement between the Registrant and
Kenneth O. Rose, dated as of May 1, 2002
10.17 (j) Employment Agreement between the Registrant and
Robert D. Evans, dated as of May 10, 2002
10.18 (k) 2002 Senior Management Equity Incentive Plan
21
10.19 (k) 2002 Stock Option Plan
10.20 (l) 2002 Restricted Stock Plan
10.21 (m) Consultant Incentive Plan
10.22 (n) Employment Agreement between the Registrant and
David G. Eddie, dated as of May 15, 2001
10.23 (n) Employment Agreement between the Registrant and
Worthing F. Jackman, dated as of April 11, 2003
10.24 (o) Amended and Restated Revolving Credit and Term Loan
Agreement dated as of October 22, 2003
10.25 (p) Refinancing Facility Amendment to Amended and
Restated Revolving Credit and Term Loan Agreement
dated as of March 2, 2004
10.26 Second Amended and Restated Employment Agreement
between the Registrant and Ronald J. Mittelstaedt,
dated March 1, 2004
31.1 Certification of President and Chief Executive
Officer
31.2 Certification of Chief Financial Officer
32 Certificate of Chief Executive Officer and Chief
Financial Officer
(a) Incorporated by reference to the exhibits filed with the
Registrant's Registration Statement on Form S-1, Registration No.
333-48029.
(b) Incorporated by reference to the exhibits filed with the
Registrant's Registration Statement on Form S-4, Registration No.
333-59199.
(c) Incorporated by reference to the exhibits filed with the
Registrant's Registration Statement on Form S-4, Registration No.
333-65615.
(d) Incorporated by reference to the exhibit filed with the
Registrant's Form S-8, Registration No. 333-42096.
(e) Incorporated by reference to the exhibit filed with the
Registrant's Form 10-Q filed on November 14, 2000.
(f) Incorporated by reference to the exhibit filed with the
Registrant's Form 10-Q filed on August 7, 2000.
(g) Incorporated by reference to the exhibit filed with the
Registrant's Form 10-K filed on March 13, 2000.
(h) Incorporated by reference to the exhibit filed with the
Registrant's Form S-3 filed on June 5, 2001.
(i) Incorporated by reference to the exhibit filed with the
Registrant's Form S-3 filed on July 29, 2002.
(j) Incorporated by reference to the exhibit filed with the
Registrant's Form 10-Q filed on August 13, 2002.
(k) Incorporated by reference to the exhibit filed with the
Registrant's Form S-8 filed on February 21, 2002.
22
(l) Incorporated by reference to the exhibit filed with the
Registrant's Form S-8 filed on June 19, 2002.
(m) Incorporated by reference to the exhibit filed with the
Registrant's Form S-8 filed on January 8, 2003.
(n) Incorporated by reference to the exhibit filed with the
Registrant's Form 10-Q filed on August 13, 2003.
(o) Incorporated by reference to the exhibit filed with the
Registrant's Form 8-K filed on October 23, 2003.
(p) Incorporated by reference to the exhibit filed with the
Registrant's Form 10-K filed on March 12, 2004.
(+) Filed without exhibits and schedules (to be provided
supplementally on request of the Commission).
(b) Reports on Form 8-K:
On February 19, 2004, we filed a report on Form 8-K announcing the results
of our earnings for the fourth quarter of 2003.
On April 15, 2004, we filed a report on Form 8-K announcing the completion
of the redemption of our $150 million aggregate principal amount, 5.5%
Convertible Subordinated Notes due 2006.
23
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
WASTE CONNECTIONS, INC.
BY: /s/ Ronald J. Mittelstaedt
-------------------------------
Date: April 22, 2004 Ronald J. Mittelstaedt,
President and Chief Executive Officer
BY: /s/ Steven F. Bouck
-------------------------------
Date: April 22, 2004 Steven F. Bouck,
Executive Vice President and Chief
Financial Officer
24