GFL Environmental Inc

TSX:GFL

Earnings Call Transcript 2024-Q1

[Operator]

Good morning, ladies and gentlemen, and welcome to the GFL Environmental 2024 First Quarter Earnings Call. My name is Glenn I well be operating for today's call. [Operator Instructions] I will now hand you over to your host, Patrick Dovigi, Founder and CEO of GFL Environmental, Patrick, you may now begin.

[Patrick Dovigi, executive]

Thank you, and good morning. I would like to welcome everyone to today's call, and thank you for joining us. This morning, we will be reviewing our results for the quarter. I am joined this morning by Luke Pelosi, our CFO, who will take us through our forward-looking disclaimer before we get into details.

[Luke Pelosi, executive]

Thank you, Patrick. Good morning, everyone, and thank you for joining. We have filed our earnings press release, which includes important information. The press release as well as a presentation to accompany this call is available on our website. During this call, we'll be making some forward-looking statements within the meaning of applicable Canadian and U.S. securities laws, including statements regarding events or developments that we believe or anticipate may occur in the future. .

These forward-looking statements are subject to a number of risks and uncertainties, including those set out in our filings with the Canadian and U.S. Securities regulators. Any forward-looking statement is not a guarantee of future performance, and actual results may differ materially from those expressed or implied in the forward-looking statements.

These forward-looking statements speak only as of today's date and we do not assume any obligation to update these statements, whether as a result of new information, future events and developments or otherwise. This call will include a discussion of certain non-IFRS measures. A reconciliation of these non-IFRS measures can be found in our filings with the Canadian and U.S. Securities regulators. I will now turn the call back over to Patrick.

[Patrick Dovigi, executive]

Thank you, Luke. Once again, we started the year with the strength of our high-quality employees and asset base driving performance ahead of expectations. This is our fifth year of being a public company, and I continue to be humbled by the capacity of more than our 20,000 employees to consistently deliver results ahead of our plans.

On our last call, in what has become our usual practice, we provided our 2024 guidance with an industry-leading degree of transparency and the details of the moving pieces that we anticipated this year, including what we expected to be industry-leading organic margin expansion in our base business. We also outlined the specifics of our planned M&A and growth investments.

Our first quarter results are better than we guided, and we fully expect this positive momentum to continue for the balance of the year. Luke will walk us through the details, but I wanted to first highlight a few key metrics. First quarter pricing was 7.7% on a like-for-like basis. Our pricing strategies continue to outperform expectations, and we remain optimistic about our ability to realize incremental pricing opportunities as we replicate the pricing playbook that our public company peers have already successfully employed.

With the strength of our first quarter pricing, we are highly confident that we will be able to meet or exceed our price guidance for the year. We expect the recent strength in commodity prices that continue to be upside versus our guidance. On the cost side, labor turnover is sequentially improving and is yielding efficiencies and onboarding cost productivity and the overall cost of risk.

R&M costs are also improving as the unit cost inflation moderates and fleet replacement rates improve. The result is the realization of outsized price cost spread that supports ongoing margin expansion. Volume growth in the quarter was negative 3%. This was significantly better than our expectations as the negative impact on volume of the unusually cold January weather in our southern markets was offset by the positive impact of milder weather in most of our northern markets in February and March.

We expect some of this could be a pull forward of second quarter volumes. However, we remain confident in our full year volume expectations included in our guidance. We also remain confident in the effectiveness of our deliberate volume strategies. As we've discussed, our industry-leading growth has provided us outsized opportunities to improve asset utilization and drive margin expansion through the internal intentional shedding of lower quality revenues.

We believe the benefits of these strategies are evident in our margin performance. As we highlighted on our year-end call, we are also actively deploying growth capital across a variety of initiatives that we expect will generate significant ROIC for years to come. In the first quarter, we deployed $62 million into incremental growth investments primarily related to recycling and RNG infrastructure. For the full year 2024, we remain on track to deploy $250 million to $300 million into these investments as we previously guided.

The EPR landscape in our Canadian market continues to evolve, and we remain confident that we will see upside to the $80 million to $100 million of incremental adjusted EBITDA we previously identified associated with these initiatives. As we said earlier, the contribution from these contracts is expected to start late this year, ramp up through 2025 and achieve our expected full contribution in fiscal 2026.

On RNG, our first facility of Arbor Hill landfill is continuing to ramp up its operations, generating cash flow in line with our expectations. We have 2 or 3 more facilities that we'll expect to come online by the end of the year. We remain confident that we will realize the $175 million of adjusted EBITDA previously disclosed once our portfolio of landfill gas energy sales is fully operational in the coming years.

In addition to organic growth initiatives, we have deployed approximately $500 million into 6 acquisitions since the beginning of this year. All these acquisitions were in solid waste within our existing geographies. The largest of the 6 acquisitions we discussed at our last earnings call is a vertically integrated asset in Central Florida, 1 of the fastest-growing markets in the U.S.

This asset is highly complementary to our existing network, and we expect that it will act as a driver for significant organic growth for us in this market for years to come. Like most acquisitions of this caliber, the M&A process commenced over 6 months before closing and the consummation of this transaction was fully anticipated when we provided our capital allocation framework in November of last year.

While we continue to maintain a robust acquisition pipeline, we remain absolutely committed to the guidance for our total 2024 growth investments and net leverage that we set out at the beginning of the year. As we have consistently demonstrated the predictable recurring nature of the revenues and cash flows generated by our business allow us to forecast the full year's results with a high degree of accuracy.

Within a given year, weather-driven timing differences between the first and second quarters can impact comparability on a year-over-year basis, and therefore, we typically have waited until the first half of the year to give updated guidance for the year.

While we believe there could be some revenue pulled forward from the second quarter because of weather-related impacts, based on the quality of the margin performance in the first quarter, we are increasing our guidance for 2024 adjusted EBITDA to $2.23 billion. We will provide a more fulsome guidance update when we report our second quarter results. I'll now pass the call to Luke, who will walk us through the quarter in more detail, and then I'll share some closing comments before we open it up for Q&A.

[Luke Pelosi, executive]

Thanks, Patrick. Our accompanying investor presentation provides supplemental analysis to summarize performance in the quarter and a consistent format to what we've previously provided. .

Revenue for the quarter of $1.8 billion was 6.5% higher than the prior year, excluding the impact of the solid waste divestitures. Stronger-than-anticipated pricing and volume were the primary drivers of this result that was $25 million ahead of internal expectations. While the January cold weather in our southern markets negatively impacted volumes, the above-average temperatures later in the quarter in many of our northern U.S. and Canadian markets partially offset the January impacts.

As Patrick said, the strength of our first quarter pricing activities is highly encouraging for the achievement or exceedance of our pricing expectations for the year, with over 80% of our full year pricing impact already locked in based on the contracted nature of our business.

Page 3 shows the bridge for solid waste adjusted EBITDA margins compared to the first quarter of 2023, as anticipated, the change in commodity and fuel prices from the prior year served as a margin tailwind, whereas the net contribution of M&A and divestitures was a 20 basis point margin headwind versus the first quarter of 2023.

Underlying solid waste margins expanded by 100 basis points, 50 basis points better than planned, a result that would have been even greater without the weather-related impacts. The flow-through benefits of the outsized price cost spread or intentional volume shedding initiatives, RNG contribution and incremental operating leverage coming from improving employee turnover and asset utilization, are exceeding expectations and reinforce our optimism and our ability to exceed the industry-leading organic margin expansion we included in our base guide for this year.

Page 4 highlights the performance of our Environmental Services segment in the quarter. To contextualize this year's performance, it is important to recall the prior year comparable periods on unseasonably high level of activity resulting in 25% organic revenue growth in that quarter. We had called out this outsized performance in our Q1 2023 reporting.

Normalizing the prior period for this outperformance, we saw over 10% top line revenue growth in this segment. Unusually cold weather in the south in January as well as the imposition of earlier spring road weight restrictions because of warmer weather in our northern markets that are typically implemented in the second quarter, negatively impacted volumes.

The impacts on our southern markets alone impacted margins by over 100 basis points. The rollover impact of the fire we had at 1 of our facilities in late Q4 was a 20 basis point drag on ES margins. The timing of event-driven work and the sale of used motor oil also resulted in reduced revenue versus the prior year. The fact that we are exceeding our margin expectations in the face of these headwinds and serves to highlight the quality of the underlying portfolio and our overall growth strategy for this segment.

Adjusted free cash flow for the quarter was $49 million, an increase of nearly $100 million over the prior year period and ahead of our internal expectations. The outperformance of adjusted EBITDA, a lower seasonal investment in working capital, and capital expenditures that were $25 million less than the plan, all contributed to the significant outperformance versus expectations.

We expect the working capital and CapEx variances to be timing differences and remain confident in our full year expectations for both of these line items. Page 5 summarizes reported net leverage, which was 4.3x on March 31, reflecting the impact of normal core seasonality and the change in FX rates from the start to the end of the quarter.

During the quarter, we received a credit rating upgrade from S&P and remain on positive credit watch from both the rating agencies, reflecting the material improvement in our credit quality and the expectation for further improvement in the near term. As we previously said, we anticipate material credit rating upgrades prior to the maturity of most of our existing debt, providing an opportunity for near-term lower borrowing costs and improved free cash flow conversion.

As Patrick said, we remain absolutely committed to our previously stated leverage targets. And with the strength of the first quarter performance, we are confident in our ability to achieve these targets exiting 2024 with net leverage between 3.65% and $3.85.

In terms of guidance, with the strength of this year's start, we're feeling highly confident in our ability to exceed our previously communicated targets. As Patrick said, the strength of the first quarter's margin performance allows us the confidence to increase our adjusted EBITDA guidance to $2.23 billion. However, as Patrick noted and we've consistently said, there can often be timing shifts between the first and second quarters, so we will maintain our normal course practice of waiting until July before we formally update our full set of guidance for the year.

Specifically related to the second quarter, we note the following: Consolidated revenue is expected to be approximately $2.055 billion, Solid waste revenues are expected to be $1.56 billion to $1.57 billion, driven by pricing just over 6% and volume is anticipated to improve approximately 50 basis points sequentially from the first quarter or approximately negative 2.5%.

For Environmental Services, we expect to realize between $475 million and $500 million of revenue, representing another quarter of 10% growth over the prior year. The wider than typical revenue ranges within the segments are to account for the potential weather-driven pull forward of revenue into the first quarter from Q2.

In terms of margin, we expect consolidated adjusted EBITDA margins to accelerate over 300 basis points sequentially over the first quarter to just under 28.5% or nearly 70 basis points over Q2 2023. At the segment level, this assumes solid waste margins of 32% to 32.5%. ES margins of almost flat with the prior year, around 29.6% and corporate margins of negative 3.2%.

The guide then contemplates further margin expansion in the third quarter before stepping down in the fourth quarter as per the typical cadence of the business. Putting that together, yields between $585 million and $590 million of adjusted EBITDA for the second quarter. Additionally, we expect $220 million to $230 million of net capital expenditures, $105 million of cash interest, and investment in working capital between $65 million and $75 million, and other operating items of approximately $25 million for Q2 adjusted free cash flow of approximately $160 million to $170 million.

In terms of net leverage, we expect a modest step up in Q2 as a result of seasonality and completed M&A and then to ratably step down in Q3 and Q4. Adjusted net income is expected to be approximately $100 million for the second quarter. I will now pass the call back to Patrick, who will provide some closing comments before Q&A.

[Patrick Dovigi, executive]

Thanks, Luke. The drive of our employees to make our business better every day is evident in what we have achieved this quarter and the opportunities we are creating for steadily improving performance in the near and longer term. I want to thank each and every 1 of them for their dedicated contribution to Team Green.

As I've said on many of our calls, our focus has always been on delivering what we say we're going to do. This quarter is no exception. Our results for the quarter continue to demonstrate the underlying quality of our asset base and the impact of the effective and consistent implementation of our key value creation strategies. At the same time, the disciplined targeted growth investments we are making today are setting us up to deliver strong organic growth for many years to come.

We have provided comprehensive, easy to follow guidance for the year, and we started off 2024 delivering on exactly what we said we were going to do. We intend to continue to do more of the same in the coming quarters. I will now turn the call over to the operator to open the line for Q&A.

[Operator]

[Operator Instructions]

Our first question comes from Stephanie Moore from Jefferies.

[Stephanie Benjamin Moore, analyst]

Good morning. Thank you. To start, could you give us an update on this EPR Patrick, you mentioned upside to $80 million to $100 million of EBITDA. Where are you seeing the additional opportunities? And then what is the timing? .

[Patrick Dovigi, executive]

Yes. So I think as we discussed, the $80 million to $100 million of incremental EBITDA is in the bag today signed contracted, et cetera. As we said, there was a -- there's a few large particularly hauling and transfer contracts that were up for bid through late last year. We have been notified that we have been selected as a preferred vendor for the entire city of Toronto on the recycling side. It's not done as of yet, but we are in contract negotiations to finalize that and hope to have a very good update for you on our Q2 call.

As well, there's a multitude of other sort of residential contracts mostly the ones we're focused on is 1 of we actually already currently do. And we expect that those will be awarded over the next sort of 3 to 4 months. So again, pretty good opportunity and upside from those. And as we look at the other provinces, Quebec and the Maritimes continue to release incremental bids and legislation continues to go through in Western Canada. But I think on the Q2 call, we'll give you sort of a very good update on where we stand with EPR. But very good news on our side that we would notify as being the preferred vendor for contract negotiations for the entire city of Toronto.

[Stephanie Benjamin Moore, analyst]

Got it. And that's helpful. And then as a follow-up, maybe Luke, if free cash flow is much better than for the quarter, and it looks like you are seeing some improvements in working capital management. Where are you in that process? And kind of what are your expectations for working capital cadence for the remainder of the year?

[Luke Pelosi, executive]

Yes. Thanks, Stephanie. It's a great question and certainly an area where we do see continued opportunity. I mean, for context, you got to remember, I mean, working capital with the levels of M&A we've done historically, sometimes you get impacts of that, that manifests in the working capital line and therefore, harder to sort of smooth that out over the 4 quarters as we now have the stability of the base business it allows for a more sort of regular cadence. So with the seasonality profile of our business, primarily the northern markets, we're going to continue to see investments in the first half have been reversed in the second half.

However, as you can see in this quarter, the magnitude of the swing is becoming more and more muted. So it's going to allow for a much more predictable and stable free cash flow generation on sort of quarter-over-quarter basis, and you're seeing that in this quarter's results. So we do think this year's cadence will be similar. Q2, we'll see another investment, albeit at a lower level than historically, and then the reversals that we customarily realized in Q3 and Q4 are expected as well .

[Operator]

We have our next question comes from Kevin Chiang from CIBC Capital Markets. .

[Kevin Chiang, analyst]

Maybe just on the rest of the M&A spend this year. I just want to make sure I have this correctly. So it looks like you spent just over $111 million in Q1, which doesn't look like it includes the Angelo acquisition, which I think on the last call, you suggested a sizable acquisition, it would be about half the expected spend this year.

So if my math is correct, about 2/3 of the way through the $600 million to $650 million of M&A spend this year. Just wondering if 1 is my math correct? And then two, just the visibility on spending the rest of that capital. Is that something we should expect in the second quarter here? Or does that kind of smooth out through the rest of the year, just given how active you feel either I guess first 4 months of this year. .

[Patrick Dovigi, executive]

Yes. So I think we spent year-to-date about $500 million. So it leaves somewhere between $100 million, $150 million spend for the sort of rest of the year. I think you'll see some of that trickle in, in later Q2, and spread out through Q3 and early Q4, but I wouldn't expect it all to sort of be spent by the end of Q2, it's going to trickle into the next couple of quarters.

[Luke Pelosi, executive]

And Kevin, in terms of the financial statements, you have it right. Q1 saw 4 acquisitions closed, but Angelo is the largest and another were closed actually at the beginning of April. So it's in that year-to-date number that Patrick said. But within the quarter proper, you had the lower spend on just those 4 smaller acquisitions. .

[Kevin Chiang, analyst]

That's helpful. And maybe just a second 1 for me. And I appreciate you'll provide a more fulsome update on the full year guide, when you report Q2 and you talked about some of the -- wanting to see some of the impact maybe on volumes shifting between Q1 and the second quarter here.

But I guess when I look at it simplistically, you assumed a level of seasonality in Q1 in your previous guidance. If I apply that seasonality to what you're actually printed in Q1, plus adding in some of this M&A, which you haven't included in your guidance, plus maybe a more favorable commodity price environment that you assume because you're pretty conservative there.

I just look at a pretty sizable increase versus where you're sitting now I'm sure you won't confirm this, but north of $2.3 billion of EBITDA this doesn't feel out of the normal possibility when I look at the puts takes, maybe broad strokes, if there's anything you could comment on that in terms of maybe that might be long or maybe where we might be right?

[Patrick Dovigi, executive]

Without giving certainly formally updated guidance, you're heading in the right direction, I would say. But we're going to come out at the end of Q2, and we'll give updated guidance for the full year, including sort of the contribution from M&A and any other things that sort of pop up along the way, particularly as we get through the first half of the year and get a real trajectory of sort of volumes and where pricing is going to lie. But I think, Kevin, you're on the right path.

[Kevin Chiang, analyst]

I appreciate you thank the time to answer that, good results there.

[Operator]

Our next question comes from Sabahat Khan from RBC Capital Great. .

[Sabahat Khan, analyst]

I think you noted in the prepared remarks that labor turnover is trending lower and some of the other costs trending lower, improving EBITDA margin seem to be a bit of a trend we've seen in this reporting cycle, you can maybe give a bit more detail on how much the labor turnover has improved. How do you expect that to turn to maybe the rest of the year? And maybe a bit more color on the repair and maintenance costs, et cetera, as well.

[Patrick Dovigi, executive]

Yes. So I'll give it to a couple of others. But on the labor front, basically, like we said in sort of the peak of COVID, jobs market was really tight, labor voluntary turnover, particularly in the residential book of business was trending sort of closer to 30%. That dropped to sort of mid-20s last year and has trended to low 20s this year. Pre-COVID, we were in the high teens range. So we're getting significantly closer. Still some room to go, but it's certainly heading in the right direction, and you're seeing that flow through to the P&L, and you're definitely seeing that on the margin front.

[Luke Pelosi, executive]

Yes. And then, Saba, it's Luke speaking. On R&M, I think it's a similar story in trend line that things are moving in the right direction. I mean if you look for the quarter, R&M was about 10.3% of revenue. Now that was flat with Q4, but being achieved on the seasonally lower Q1 revenues, right? So if you think of how that then rolls forward with the revenue upticks and the improved efficiency in R&M. We see a path to that going back into the sort of single digit as you get into the middle of the year and probably ending the year in the mid- to higher 9s level.

So I think there's still some conservatism in that number and the improvements that we're seeing across the business should drive incremental opportunity there. So we're feeling really good with how that trend line is moving. .

[Sabahat Khan, analyst]

Okay. Great. And then maybe if I can tease out on Patrick's comments around that Toronto recycling contract. I know you said you're still in contract negotiations. But any big picture parameters around kind of the scale, directional margins for this business versus the base business under the EPR regime. Just anything you can share even at a high level to give us a perspective on what this could mean or what it could look like.

[Patrick Dovigi, executive]

Yes. I mean it will be -- it will be -- keep in mind, we do 60% of the work already today, 40% of the work is being done by others, mostly city workers. The contract value will be in excess of $50 million a year. I think at sort of margins accretive to what our blended margin is today for solid waste. .

[Sabahat Khan, analyst]

That's $50 million to EBITDA?

[Luke Pelosi, executive]

$50 million of revenue, in excess of $50 million of revenue. It's a 10-year contract. So it's going to be over $0.5 billion a year or $0.5 billion in aggregate, over 10 years.

[Operator]

Our next question comes from Jerry Revich from Goldman Sachs. .

[Jerry Revich, analyst]

I'm wondering if you could just talk about the acquisitions that you completed year-to-date, since they're all within your footprint. Can you just give us a flavor for the extent of route consolidation opportunities? How many more stops per truck do you expect post integration? Just give us a feel for how accretive these opportunities are meaningless to the existing route station in your markets, if you don't mind? .

[Luke Pelosi, executive]

Yes. Thanks, Jerry. It's a key component of our whole sort of M&A strategy as you're doing these densifying tuck-ins, getting the efficiency that you're speaking to. Unfortunately, the small population, there's 6 transactions, 1 larger one, Angela, you've got 5 little small tuck-in. It's going to be widely varied by market and by region, what that opportunity sort of looks like. .

But you're thinking about it the exact right way that from buying a business today that's operating 8 or 9 trucks in a market where we're operating significantly more than that. There's probably an opportunity to park 1, 2, 3 trucks, depending on the sort of density. So what we've historically said is on these smaller acquisitions that may be on the face of it, if you're paying somewhere between sort of 6 to 8x for a small 1 on a pre-synergy basis, post the synergies, you might be able to take anywhere from 2 to 3 turns of cost out of that business by virtue of those cost savings from the reconsolidation facility consolidation, headcount consolidation, et cetera. So it does vary for these specific deals. I'd say they're no different than typical. So you're probably going to be in that range. But that's how we typically think about the M&A on the tuck-in nature.

[Jerry Revich, analyst]

And in terms of the additional acquisitions that you have in the pipeline for the balance of the year, it sounds like it's the same opportunity we're going to have an outsized benefit from consolidation since it's all going to be within the existing footprint. So the M&A pipeline sounds like it's going to come with higher synergies. And obviously, in the past, it's been a combination of these type of acquisitions. And building out footprint, but correct me if I'm wrong, but it sounds like we're going to see outsized synergy opportunities with the pipeline that you have planned. .

[Patrick Dovigi, executive]

Yes. They're all in the existing footprint. Again, going back to opportunities, like Luke said, the consolidate sort of SG&A costs, consolidate hauling facilities, move those trucks onto our existing roads and really focused around markets where we have underutilized post-collection assets, whether that's recycling facilities, transportations, landfills, to drive incremental volumes for those facilities that we're not getting which is going to just yield exceptional sort of ROIC investments that we're making. .

[Luke Pelosi, executive]

And Jerry, just in terms of the specific modeling, we typically think and see that initially, these businesses are getting incorporated at margin decretive levels right, just the normal course sort of pre-synergies. And then it's with over those first sort of 6, 9 to 12 months, depending on the market and the business where you then take them up to the accretive margins for the reasons you articulate it. .

[Jerry Revich, analyst]

And can I ask you on a separate topic, Landfill gas heading into the election, I'm wondering are you folks thinking about locking in any of the gas that you have coming online on long-term contracts? Or are you happy to bring it online with the RIN market structures? Any updated thoughts on what the voluntary market looks like as well, if you wouldn't mind. .

[Patrick Dovigi, executive]

Yes. I mean, things keep continuing to trend in the right direction. From our perspective, we're still selling into the transportation market today, particularly, our partners at BP and Opel continue to see that the best way to maximize value today. Although we are seeing the voluntary market prices continue to trend up to the point now where they're exceeding mid-20s per MMBtu and heading closer to $30 per MMBtu. So I think you will see at some of our facilities come online, we're going to start looking to enter into those longer-term contracts for a portion of the gas.

[Operator]

Our next question comes from Michael Hoffman from Stifel.

[Michael Hoffman, analyst]

Thank you very much. Good morning, Patrick, Luke, just so we prevent everybody from getting your numbers too high. If you spend $500 million, you probably bought between $160 million and $170 million of revenues at 25% margins. You got to layer it in for 8 or 9 months and then you walk them up into 2025, but that's the walk up just so we don't get ahead of ourselves.

[Patrick Dovigi, executive]

Well, before we start, Michael, I want to -- first, I want to say thank you to you because I know this is going to be your last call with us, and I think you've done this industry a great service for a long number of years, and you've certainly been a very big help to watch of the company, particularly as we navigated going public over the last numbers here. So I wanted to say thank you, not only from GFL but for the rest of the industry for everything you've done for the industry because you've been a very big champion of the industry for each and every one of us as companies and I think we told you a big thank you for all you've done for the industry over the last number of years. And with that, I'll turn it over to Luke who can walk you through .

[Luke Pelosi, executive]

Michel, I echo everything that Patrick just said. So thank you and wishing you all the best of luck in your future endeavors, but look forward to catching up next week as well. On the specific M&A, what I'd say, Michael, is while the math you suggested would be normal in a typical GFL year this year with Angelos, it's a little bit skewed because the disproportion amount of the dollar is going to 1 large vertically integrated asset. So what we said is for the $500 million, we actually got $100 million of revenue.

Now the margin profile because so much of it is coming out of a large vertically integrated is much greater than typical. And so that's closer to a 40% number. And with that, though, the basis of what the math you are doing is absolutely right. So if you bought call it, $40 million of EBITDA, and you got that sort of 3 quarters of the way through the year. The contribution in the year would be in that sort of 30% kind of range, and that is the building block as it relates to M&A. And then incremental M&A will have incremental contribution. And then other points Kevin was highlighting, commodity and other tailwinds are real. But as we all know, there will be headwinds, so we can't only count to good guys. But you're absolutely right. It's more of the 2025 that you'll get the full year benefit of all of that M&A spend plus the synergies.

[Michael Hoffman, analyst]

Okay. So thank you very much for those kind comments, it was unexpected and very kind of you, following up, working capital, we should still presume it to use because you're still growing the company. It's just going to be less of the use than it has been because you're getting better management. Is that the right way to think .

[Luke Pelosi, executive]

I think that's right. You got to remember, like the volumetric shedding that's been done on some what we call bad revenue, sometimes bad revenues coming from bad customers, right? And so around the edges, that helps. And then just the broader improvement. It's been hard to optimize the shift as you were growing at the rate at which we were. And as we now have stability we're able to pull the levers that our peers have already done to optimize in those areas. And so we still think there is opportunity, for instance, within our DSO and we will continue to drive after that, which we'll see a recovery of that investment and will help offset what the normal course growth would be associated with the organic growth. But you're thinking about it exactly right.

[Michael Hoffman, analyst]

Okay. And then to that end, you have had a lot of self-help opportunities just because where you are in your life cycle, whether it's automation and residential or CNG on the trucks or digital in the cab. Can we talk about what inning you are in that and how that kind of reflects back to your comments you made about your working capital.

[Patrick Dovigi, executive]

Yes. I think where we're sort of sitting today, we do have a lot of self-help opportunities. I mean, a for 2024, again, rolling out 3,500 tablets into our commercial trucks, being able to capture all sort of incremental charges from locked bins to overweight bins is a big thing that we're focused on. I think that's the biggest piece in the sort of low-hanging fruit, and we're in process of doing that. Again, continued fleet conversion to CNG, I would say, is going to be the next biggest wave over the next couple of years, particularly on the back of a bunch of the EPR contract that we're sort of looking to execute on and the lion's share of those trucks will be converted over to CNG. .

I think we were sort of low teens previously. Now if you look at the fleet sort of high teens on CNG. And as we said, we have a goal -- stated goal of getting that to sort of 45% to 50% of the overall fleet. And then again, as we said on our previous call, we are -- we still have about $150 million of revenue that's in sort of low-margin residential contracts for the most part.

And as we said, we're looking to exit some of that revenue or you sell it to a local competitor in a local market that we'll do better for. And I think all of those together help sort of what the capital allocation program, will happen the -- help with the margin profile and just continue with putting us on the right trajectory to continue moving forward.

[Michael Hoffman, analyst]

Okay. Last 1 for me is, and I applaud that you're giving a level of detail in the 90-day view. But I back up and go, that means you are having a much greater confidence in the ability to see where the model is going. What can you attribute over the last year or 2 that has given you the 1 the confidence to do it that as you turn this consolidation story into an ongoing operating company. What do you -- what would you point to specifically that gives you that confidence to be able to do that 90-day view.

[Patrick Dovigi, executive]

Well, I think if you look at the business and how it's come together, right, like there hasn't been -- there wasn't a year for the first sort of 14 or 15 years of our founding that we weren't growing at north of a sort of 30% to 40% CAGR. Obviously, with the higher rates for longer narrative, leverage, particularly in the public markets became sort of a mild focus of ours. And again, with the committed goal of us and of moving leverage into the sort of mid- again, that's allowed us to take our foot off the M&A gas pedal. And I think if you look historically at what the business has done, I mean there's -- we've been pretty sort of muted on the M&A front for the last sort of 1.5 years.

And I think you get the true picture of what the operating power is of this business because there hasn't been a huge amount of M&A. So the story has been pretty easy to follow. Our operators are sort of just managing their existing book of businesses without M&A. So the confidence we have in the forecasting, et cetera, is what you're seeing today, and I think you're going to continue to see for the future. And even as we sort of get that leverage to a level where the lion's share of investors want in particularly in an interest rate environment like we're in today, I think the business is just now of the size and scale that M&A is really just a modest contribution and just a real part of sort of the growth algorithm, but it's not going to be the part of the growth algorithm that's front and center.

[Michael Hoffman, analyst]

Okay. Thank you very much. And thank you again for the kind words, and I'll see you Sunday. .

[Operator]

Our next question comes from Patrick Tyler Brown from Raymond James. .

[Patrick Brown, analyst]

Yes, very formal introduction . So I think you guys have a debt tower that's coming up next year. I know your credit quality is improving, but just based on where you are today, do you think that refinancing that 25 tower is going to improve cash interest headwind next year?

[Luke Pelosi, executive]

Yes. So Tyler, you're right. There's about $1.2 billion across 2 bonds that come up next summer, they currently carry a blended coupon of about sort of 4.25%, 4.3%. If you're redoing that today, you're probably more in the mid- to high 6s is what you've been seeing. So there's certainly an incremental headline cash interest cost on that. However, where we have an opportunity from some structuring perspectives, the existing bonds that you would be refinancing are domiciled in Canada, whereas you'd be issuing the new ones out of a U.S. entity thereby providing meaningful cash tax shield, right, because we're becoming a bigger cash taxpayer in the U.S.

And so net-net, on the free cash flow line, the cash tax savings would largely offset the interest cost and so you have a reclass or gross up on the actual line items, but net-net, your free cash number would be a pretty de minimis impact.

[Patrick Brown, analyst]

Excellent. That's very, very helpful. And then, Patrick, can we get to a high-level thoughts on GIP. Can you maybe run down some of the end year financials, just how it was tracking in terms of EBITDA and leverage? And just any thoughts about monetization there?

[Patrick Dovigi, executive]

Yes. I mean as we stated last year, again, that business experienced headwinds just from the run-up in sort of the inflationary environment. As we're coming on the backside of that, what's largely through this year will be through, and we'll be getting sort of back to where we anticipated that business would be. But I would say, this year, low 200s from an EBITDA level without M&A. That business, again, today is sort of running 12.5% to 13% margins. We expect it to go to 15% over the coming -- over the course of next year.

Leverage sort of in the mid-5s as a private company. But again, we have a couple of interesting sort of M&A opportunities that will get done in that business as well. But again, nothing has changed from what my I believe the thesis to be, we'll grow that business, and expected sort of $1 billion of equity value that will come out of that. I would assume, as we can -- we'll just look at market opportunities.

As you know, there's been a real run-up in valuations in that sector, particularly with CRA sort of listing now in the U.S., coupled together with Lafarge separating their European and the North American business. Other comps like role, all of those have had a pretty good run over the last little while. So I think the thesis is only getting better and time has been our friend, and we'll continue to be our friend, but we want to optimize the value of that. But I think that's a late '25, '26 type event where we look at that. And again, I'm not led to any sort of exit in that. I mean from our perspective, it's really a triple track process, whether it's an IPO, whether that's a financial sponsor, just given the perfect size of that for financial sponsors today, or whether that's strategic, but I think there's a lot of opportunity for exit in that. We just -- we want to get it to the right number and get the equity value where we want it.

[Patrick Brown, analyst]

Perfect. And then my last 1 here. So there's been a lot of movement on PFAS in the U.S. But I'm just curious, has there been any -- has anything happened in Canada, similar I just don't really know. And I'm just curious how you view PFAS in your ES lending. Is that something that is within or outside of the scope of your ES business? And could that be an opportunity longer term? .

[Patrick Dovigi, executive]

I would say lots of chatter as the chatter picks up in the U.S. but nothing specific in Canada at the moment. Obviously, the legislation that is being proposed was actually I think in line with what we believe is going to happen, I think there's still some more room to go. But at the end of the day, landfills are not the generator of this. They're a solution to the problem or passive receivers of materials.

So I think that's going to continue to play out in our ES business. Yes, a big part of what we're looking at is different technologies. As we know everybody thinks they have the solution to PFAS. But at the end of the day, what solution is going to work and how economically is it going to work and et cetera. So we've -- we are in discussions with a multitude of companies that I think were either sort of looking to acquire or partner with to create a sort of solution to the PFAS issue that we're going to be -- everyone is going to be having to dealing with in the near future.

[Luke Pelosi, executive]

But fundamentally, Tyler, I mean our perspective would be in the long run, PFAS will be a tailwind for price and volume for our business. And so the exact sort of form in which that shakes out remains to be seen, but we're feeling optimistic that this is ultimately going to be an opportunity for us across both our solid and liquid waste segments on a price and volume perspective.

[Operator]

Our next question comes from Michael Doumet from Scotiabank. .

[Michael Doumet, analyst]

I wanted to get back to the guidance. Correct me if I'm wrong, but I believe the initial expectation was that margin expansion would increase as the year progressed. So can you comment on whether that margin cadence still stands? Obviously, outside the comments regarding the pull forward.

[Luke Pelosi, executive]

Yes. I think that's absolutely right, Michael. It's a first half, second half story. I mean, within H1, as we're articulating, the outperformance in Q1 may sort of eat into what was the otherwise expansion expected in Q2, but absolutely, I mean if you look at the sort of cadence that's being expected in the original guide, I don't think that has changed. And with the strength of Q1 performance, we think maybe that gets a little bit better.

And so we set out this year with a guide that from our perspective, I think, had industry-leading organic growth as the impact from M&A was muted and was therefore all organic. And where we're sitting today, if you're reading the tea leaves, I think we're teeing up, that's going to be better than initially anticipated, exactly how much remains to be seen, and we look forward to updating you on that in July. But that cadence, everything is looking as expected, just perhaps a little bit better.

[Michael Doumet, analyst]

Makes sense. And then you talked about the sustainability of the strong start to price in a year. How are unit costs tracking versus your initial expectation?

[Luke Pelosi, executive]

I'd say they're right in line. I mean when we look at labor, I mean labor is still 5% plus number and you're putting it all together, you got cost inflation in the sort of mid- to high 5s., but it's stepping down as you're comping the tougher quarters. And as all of the other disruption, whether it be fleet replacement, et cetera, is getting better. .

So we're feeling that price/cost spread that we articulated in the year that could be upwards of 150 basis points, we're feeling good on that. Look, I don't think this is going to be a year with the way cost inflation is moderating that we're going to have to go back to the pricing lever as frequently as we've done maybe in the past 24 months and therefore, yield a materially different pricing outcome.

I think the cost -- unit cost inflation appears to be moving as anticipated, and therefore, pricing guide will be as anticipated. I think you got to remember, I mean, I said in the prepared remarks, like 80% plus of this year's pricing activity is already done, right? And that's just a function of the rollover from prior year and the weighted average of Q1 pricing activity being the lion's share for the year.

So we're feeling really good on the spread, which is ultimately what we're trying to manage as we've demonstrated before, if the unit cost changes expectations, we'll revisit the pricing initiatives. But right now, we're feeling really good on how those trends are playing out.

[Michael Doumet, analyst]

Perfect, and then maybe just to sneak 1 in. Just on the working capital management. I think I understand the improvement there. It doesn't sound so much structural in the sense that you're getting less working cap and more that you're smoothing things out from a seasonal perspective. But as we look to kind of future years as well, that's smoothing out. That doesn't go away, it might actually even get better .

[Luke Pelosi, executive]

Yes, I think that's right. I mean if you look at the extent of the swings that we've historically had, like I think last year, the H1 investment was just under $200 million, and then you recover all of that in H2, right? And that's just with the seasonal profile and ramp of the revenues.

This year, the way we're teeing it up now is that each 1 investment is going to be just over $100 million, right? So I think the $120 million is what we've sort of alluded to in the guide there. So material improvement over last year. Again, for the year as a whole, you're still netting out to roughly the sort of same place, but just tempering the volatility, if you will, of the investments. Part of it is by the changing business mix, more and more business in the Southeastern U.S. where they have a different seasonality profile, it's certainly sort of helpful.

And then part of it is just continuing to sort of optimize our processes and the information coming out of our systems to manage this appropriately. So we continue to see it as an opportunity. I think it will always be an H1 investment, H2 recovery. although the quantum of changes from quarter-to-quarter will temper and be more muted than historically.

[Operator]

Our next question from Tobey Sommer from Truist. .

[Tobey Sommer, analyst]

How does the 80% of pricing activity for the year already being done compared to last year at this time and the historic experiences kind of want to dimensionalize that comment?

[Luke Pelosi, executive]

Yes. So Tobey, it's Luke speaking. I think the last couple of years have been unique from pricing because they've deviated from the historical norm that majority of your pricing activity happened in the first quarter. And that was really in response to the cost inflation we saw in '22 and '23 that had you pulling on the price lever more frequently throughout the year than you customarily do. .

So as a result, what happened was '22s and '23s price cadence was very off. Now by the second half of '23, we started to do more approach normal. And so '24 is set up in what I'd call a more typical year. And what is a more typical year, you roughly have anywhere from 25% to 35% of your in-year pricing rolling forward from last year's pricing activities.

So you think about Q2, Q3, Q4 pricing actions in 2023, and roll over into 2024. That accounts for roughly 25% to 35% of this year's price, Q1 activities is roughly sort of 50%, 55% of your overall sort of pricing activity for the year. And then that readily steps down from Q2, Q3. Q2 is like 10%, Q3 is like 5% and Q4 is de minimis.

And so I'd say in the last couple of years that have been atypical, this year is returning to a more typical cadence, and I think 2025 should be very typical, but again, it's 1 of the very attractive attributes of our business that allows us this early in the year to already have the confidence in the contribution from that aspect of our top line revenue growth.

[Tobey Sommer, analyst]

In Environmental Services, I'm curious about the outlook for growth over the balance of the year. You talked about 10% on an adjusted basis. Is that a good trend line? And are there any other adjustments that you could remind us? Or if you need to call anything out?

[Luke Pelosi, executive]

No. So the adjustments really, if you recall in the Q1 presentation, I mean it was a perfect storm of opportunity in Q1 of last year and everything just came together and the business exceeded top line even our internal by about $40 million. So we normalize for that.

If you think about the guide for this year, ES growth is supposed to be sort of mid-single digits organically. The Q1 and Q2 normalized growth is inclusive of M&A. But so really, if you think about ex M&A for the year, we're anticipating this mid-single-digit top line growth.

This is really a price-led growth strategy that's probably offsetting some shedding of lower quality volume. I think that will pick up in Q2 and Q3. And for the year as a whole, we're feeling good at that mid-single-digit number. But what's exciting us the most is the effectiveness of our top line growth strategy as measured by the sort of margin expansion, right?

And if we look at the Q1 result despite some of the headwinds to see the margin coming in 70 basis points better than planned, that, I think, is a testament to the effectiveness of this chasing quality over quantity on the top line, and that's going to be something we sort of continue to do.

I mean our business, unlike some of our peers, 1 of the benefits of RES business, sort of 80% plus of it is recurring maintenance sort of type nature. And there is a small component that is more event sort of driven, but it's the quality of that sort of underlying recurring business that allows us to sort of drive that margin expansion.

So I think for the year, that mid-single-digit holds, and we're encouraged by the margin expansion that we've seen in Q1.

[Tobey Sommer, analyst]

Great. Last 1 for me. You mentioned negative weather impact beginning of the quarter, clearly, it was very cold, lots of places and then a little bit unseasonably warm. And if you net that out, what sort of impact did weather have on the quarter?

[Luke Pelosi, executive]

I mean it's hard to say to just measure that just the bad guys, I think on your sort of volume and solid waste is probably pretty close to offset by virtue of the pull forward of the warmer weather, and you think about it in Ontario and Quebec and Michigan, always benefited.

I mean there was really the ES business that felt it on both sides because of the warm weather in a lot of our Michigan and other areas where they introduce half-load season earlier, the nature of that business is large full-size tankers just won't run in that sort of road conditions.

So I think you probably saw 100 basis points plus of margin impact. I think I said that in the prepared remarks from the weather on sort of ES. Solid , I think it's probably a wash. We had anticipated with the January to be negative 4.5%, and we ended up at that negative 3% number, which I think you largely sort of offset by the benefit of the warmer weather in the end of the quarter.

[Operator]

Our next question comes from Chris Murray from ATB Capital Markets.

[Chris Murray, analyst]

Yes. Thanks, Luke, it's interesting looking at the chart. And 1 of the things you did pull out and didn't talk about a little bit was some of the surcharge pricing and getting that in the system. And then you've also sort of talked about some of the system things you've been doing maybe putting -- I think you said you're going to put the tablets in the trucks to let capture maybe some better pricing opportunities. Can you just talk a little bit about what's left to do structurally and kind of catching up your pricing to what you think your peers have been doing over the years?

[Patrick Dovigi, executive]

Yes, it's Patrick speaking. I think, again, structurally, if you look at the margin sort of independently of the 2 sort of LOBs, I mean if you look at -- let's -- if you look at Environmental Services, that business sort of on a like-for-like basis is sort of running at 300 to 400 basis points higher than the rest of the sector on -- after sort of SG&A allocation.

So I think we still have a lot to do. I think there's still fuel surcharges, environmental surcharges. There's a bunch of other charges that we think we can implement in that business to push that business on a like-for-like basis to the sort of high 20s. Our solid waste business today, again, post sort of SG&A allocation sort of running in the high 20s today. If you look at the implementation of the repricing and sort of the EPR contracts, municipal hauling contracts that continue to come over, plus the implementation of the fuel surcharge, environmental surcharges, the level set that we've been through over the last couple of years, that's what's allowed that sort of outsized margin expansion.

Coupled together now with, again, the implementation of the tablets in our trucks, again, to allow us to capture charges that we're able to charge contractually that we may be sort of missing today. And I said the rollout of those 3,500 tablets is going to be very meaningful. And again, sort of catch up on that. So I think when you sort of put that all together, plus EPR, plus RNG in the book of business, which we have very little of today, that is going to push us I would say, closer to industry-leading margins in solid waste. So all that together, we think over the next 2 to 3 years, all of that happens. And I'd say by 2026, you have a real sort of turning point on sort of on margins and the free cash flow profile of the entire business of free cash flow conversion as we sort of move there.

[Operator]

We have our last question for today from James Schumm from TD Cowen.

[James Schumm, analyst]

Nice quarter. Patrick, maybe just to follow up on that last point. So by '26, do you think that your margin free cash flow profile will sort of equal your larger peers? Do you think you can fully catch up?

[Patrick Dovigi, executive]

I think the free cash flow conversion will still continue to lag, but that's just solely from the capital structure perspective. I think from a margin perspective, you're definitely going to be there. And I think you still have a little bit of a lag just in terms of the way our RNG portfolio is structured, right? Because you're going to get even a contribution from the R&D portfolio, but the first dollars out of the RNG project actually go to repay a portion of the debt. That's the way they're sort of structured today. So you're going to have 1 year, 1.5 years basically payback on those, and then you get the ramp of the free cash flow and not.

But from a margin perspective, Again, if you look at EPR, you look at RNG, you look at all the self-help opportunities internally. I think headline margin numbers certainly are going to be there, free cash flow conversion, and we'll get there just might be sort of 1 year to 5 years behind.

[James Schumm, analyst]

Right. Right. Great. And then just on the M&A front, as you noted, you're around $500 million of M&A. So tracking ahead there for the year. How do you think about that strategically going forward for the rest of the year? Do you continue to bid on tuck-in work? Do you put more low ball bids out there? And I'm just trying to think about how you strategically handle as you get closer to your target, $600 million to $650 , do you put in some low bids? And if you win them and exceed your guidance, so be it because it's a great opportunity or is that $600 million to $650 million a hard cap that you're definitely not going to surpass?

[Patrick Dovigi, executive]

The $600 million to $650 million is definitely a hard cap. We've committed to that in the capital allocation framework. That's what drives where we're going to end up on a leverage level. So all of that is what we are going to do. Again, we have very -- acquisitions just don't happen in a week, right? So we have very good visibility on where the pipeline sits, what we're going to close over the next couple of quarters.

And then we're getting to a point in the year where again, acquisitions, like I said, don't happen in a generally take 6 to 8 months between negotiations with sellers, implementing, sometimes they take years. But we feel very comfortable in that number. Obviously, there will be rolled over. We're getting to the point where we're getting now where we can start pushing stuff until 2025.

But for 2024, we're definitely committed to the framework. We're definitely committed to the leverage levels. And I think if that rolls into '25, I think we got a question from someone over the course, are you just going to honor this for 2024 and then drive leverage back up in 2025 with an influx of deals? And the answer to that is no.

I think if you look at the free cash flow generation, the organic margin expansion, the organic growth in the base business, how much capacity that gives us for M&A, well, while still driving down leverage, I mean that puts us squarely sort of sub mid-3s next -- for 2025. So that's the model we're working towards. So no, I feel very comfortable with what we put out, and we are going to stick to that hard cap.

[Operator]

We have no further questions from the line. I will now hand back to the management team for closing remarks.

[Patrick Dovigi, executive]

Thank you, everyone. Much appreciated. We look forward to speaking to everyone after our Q2 results in July. Thank you very much. .

[Operator]

Thank you. Ladies and gentlemen, this concludes today's call. Thank you for joining. You may now disconnect your lines.