In trash hauling, Waste Management (WMI) sits atop the heap undisputed, dwarfing its rivals. So when its two nearest competitors made plans to join forces, Waste Management took swift action to break them up.
On July 14, Waste Management announced a $6.2 billion offer to buy Republic Services (RSG), No.3 in the industry. The move threatens Republic's agreement to buy Allied Waste (AW) for $6 billion, announced last month.
Federal antitrust regulators may ultimately decide whether Waste Management's bid is a legitimate strategic move or an unfair attempt to dominate the industry.
Too Fat a Slice?
A Republic-Allied deal would create a company with a market share of 17% to 18% in North America, a credible rival to Waste Management's 24% share, according to Stewart Scharf, an equity analyst at Standard & Poor's. But Waste Management's Republic bid would boost its market share to 30%, putting even more distance between Waste Management and its second-place rival, Allied Waste, with a market share of 10% or 11%.
Waste Management Chief Executive David Steiner said his bid "offers a better and more certain value alternative to Republic stockholders." He promised to find at least $150 million in synergies from a combination with Republic, the same amount Republic planned to find in its deal with Allied Waste.
Republic issued a statement saying it would carefully review the proposal.
Also certain to review the deal are antitrust regulators in Washington, who must determine if an even bigger Waste Management would possess unfair competitive advantages.
Robert Lande, a law professor at the University of Baltimore and a director of the American Antitrust Institute, says by itself a 30% market share wouldn't raise concerns—at least judging by the record of regulators in the Bush Administration. However, garbage hauling is a very local business, and the competitive landscape would need to be analyzed metropolitan area by metropolitan area, Lande says.
In its letter to Republic's board, Waste Management admitted it might need to sell off businesses to meet regulatory requirements. However, the firm said "these issues can and will be dealt with in an effective and timely manner."
S&P's Scharf says a Waste Management-Republic deal makes sense, with each running "a lot of complementary businesses."
The Republic bid for Allied Waste involves the use of stock, while Waste Management can afford to make a cash bid, which most investors would prefer.
Waste Management is offering $34 a share, a 22% premium over Republic's share price on July 11. However, the offer is below Republic's price in early June, before the prospect of an Allied Waste deal caused the stock to sink.
On July 14, Republic shares jumped 13.9%, to 31.78. Waste Management shares fell 5.79%, to 34.49, while Allied Waste recovered from earlier losses to close 1.83% lower at 11.77.
This is the first major round of dealmaking in the industry since the 1990s. Those huge deals ran into trouble when executives found it difficult to integrate waste operations. So, on the part of shareholders "there's some cautiousness" about the prospect of more deals, Scharf says. He adds, however, that the industry has changed quite a bit since then.
The success of Waste Management's bid may depend on how quickly it can win approval from Republic and from antitrust regulators. The Bush Administration ends next Jan. 20, giving Waste Management six months before new appointees take over.
"If Obama is elected, that's a wild card," Lande says. "You would certainly expect a harder line" from the Democrat's appointees. Even if the deal is ultimately approved, a change in power in Washington may slow down the process, he says.
The garbage industry has the virtue of being relatively recession-resistant. Although haulers have been hurt by high fuel costs, they make back those losses through higher prices and fuel surcharges, Scharf says.
In fact, on July 14, Waste Management said it expects to report earnings and revenue in the second quarter that exceed analysts expectations. Once again, Waste Management seemed to be demonstrating the advantages of dominating its industry.