- Troubled history outweighed by growth opportunity
- Dividends to restart
Major player in advanced recycling markets
Existing scale and sizeable market share
Growth programme set to increase margins
Very high goodwill valuation
The green recycling logo is now a fashion symbol – teenagers have flocked to buy pricey t-shirts and beanies made by cult London label Palace with the green arrow triangle that turned 50 last year. Investors would probably have made a better return on Palace t-shirts in recent years than by backing Benelux recycling giant Renewi (RWI). That’s despite the importance of the ‘circular economy’, where recycling cuts demand for ‘virgin’ materials and therefore waste and emissions.
Corporate giants are keen to remove emissions from their supply chains, as regulatory pressure mounts and consumers get more and more interested in the carbon footprint of their products. Shifting to recycled components is a way to achieve this. At the same time, a fully circular economy could also extend the life of products such as plastic bottles, which are barely recycled currently.
There is plenty of investment going into this area. For example, Ikea wants to use only recycled or renewable materials by 2030. The Netherlands, which accounted for 57 per cent of Renewi’s turnover in the first half of the current financial year, has a national goal of becoming 50 per cent “circular” by the end of the decade, while the EU is bringing in minimum recycled content rules for plastics.
Renewi’s business takes waste from customers and then sells on as much of that as possible. The difference between the price at which Renewi buys waste and the price at which it sells it as recycled materials is known as the ‘spread’. So earnings are increased by higher recyclate prices but the upside does have a cap as input costs tend to move in tandem.
So the key way to increase the margin is to produce more recyclates. The percentage of waste the company can recycle has hovered around 65 per cent for a few years. It will take another big programme of spending – €110m (£94m) is forecast – to get this up to 75 per cent. But this would also deliver €30m a year in extra cash profits by 2025. That’s around 15 per cent of the 2021 cash profit. And of the €110m spend needed to get there, €30m has already been spent.
The adjusted cash profit (Ebitda) margin has increased from 9.9 per cent in 2019 to 11.6 per cent in 2021, and broker Peel Hunt expects this to hit 13 per cent in the following years. But expectations should be tempered by the fact that this is a cyclical business. For example, cash profits surged 43 per cent in the first half of 2022 to €127m thanks to higher recyclate prices, but the company doesn’t expect this to continue. Covid-19 dynamics sent these prices higher because supplies of key materials, such as waste paper, had fallen due to lower economic activity during lockdown. Peel Hunt analyst Andrew Shepherd-Barron is still bullish: “We have allowed for these prices to reduce substantially, but still are upgrading earnings (again) significantly,” he wrote in November.
Recycling rates are already high in the European Union: of the 75m tonnes of paper and cardboard used a year, 72 per cent is already recycled. Just under three-quarters of glass is being recycled as well. But Renewi’s chief executive, Otto de Bont, says there is still room to expand volumes through technological changes. “Renewi has a long record of innovation in the recycling industry,” he said.
There is also scope to increase input in other areas. Plastics do not have the high recycling rates that paper and glass do. According to data from the Ellen Macarthur Foundation, in Europe only 2 per cent of plastic thrown out is turned into another plastic product of a similar level. Of the 78m tonnes of products thrown out in a year, 14 per cent goes to recycling.
The question is whether the sector has matured enough to capitalise on the energy transition and tightening government rules. Renewi is the key candidate for a bet on this area and recyclate prices given its sizeable presence in the Netherlands and Belgium and massive investment in large-scale recycling operations.
The company itself argues it is well-placed to grow from greater recycling demand. But its track record shows plenty of write-downs and project delays. Additionally, this is a low-margin and dangerous business, with a whopping 1,500 incidents per 100,000 workers (92 in total)* that led to workers taking three days or more off work in the last financial year. The company’s goal is to cut this to 600 per 100,000 (36).
As a utility-type company, the upside to these low margins is the predictability of long-term contracts and the solidity of being a large player in a highly regulated industry. But the cyclicality means the bull case is not that this is a set-and-forget stable utility, designed to weather any choppy weather equity markets might face in the medium term.
And unlike utilities, such as Pennon (PNN) and Severn Trent (SVT), Renewi is not currently paying a dividend. But that should soon change. Peel Hunt forecasts that management will bring this back in the 2023 financial year. The consensus estimate compiled by FactSet shows more optimism elsewhere, with a 3¢ final payout forecast for the 12 months ending 31 March.
The circular economy narrative has been successful for Renewi already this year. Its share price has doubled in the past 12 months, although it is down a fifth on a five-year basis, which includes a period before the company’s emergence in its current form through the combination of Shanks and the Van Gansewinkel Groep in 2017. That decline, largely due to a very poor 12 months starting in 2018, came at a time of hefty write-offs and delays.
More rules, please
Regulation can be helpful in protecting companies from competition. But there can be downsides, too. The Dutch government blocked sales of Renewi’s treated soil for 18 months up to late 2019, cutting operating profits by €3m a month at one point. This ban has principally affected the company’s ATM hazardous waste treatment plant. The “ATM recovery” is now a key part of the innovation spending, expanding the plant from treating contaminated water, soil and chemical waste to also producing gravel sand and filler for the construction industry. Long-term holders of Renewi may consider consistency from the ATM plant an innovation in itself, but the expansion is already falling behind schedule.
“I have full confidence in our journey to get ATM back and generate equal or more profit than in the top years,” de Bont said at the half-year results call with analysts in November. “But unfortunately it’s taking a bit more than anticipated.” The government remaining tough on import licences for waste has contributed to this delay, which de Bont put at six months.
Largely, though, regulation is a driver of growth for Renewi. In Belgium, for example, the Flemish government has decided more commercial waste must be recycled and has increased taxes on burnt material, so Renewi is spending to grow its capacity in that region. It will be spending more to identify the recyclable parts of waste but this will be “absorbed by lower costs” of incineration, given less will be burnt.
De Bont said the company’s size – it incinerates a quarter of Belgium’s commercial waste – would mean it could take on an even greater market share when these rules come in. “We already own the waste and have the capabilities to develop and engineer these [sorting] lines and invest the capital,” he said. “We do think the smaller players won’t be able [to do that].”
Any potential Renewi investor should consider the balance sheet with some caution.
Reported net debt, as of 30 September, was €648m. Equity, by comparison, is just under €300m. That includes goodwill of €550m, which reflects the 2017 merger. Auditor BDO picked up the continued high goodwill figure and raised the impairment decisions as a “key audit matter”, but said Renewi’s €15m in impairments in 2021 were enough for it.
The liability side of the ledger is not helped by the addition of leases totalling about €230m and the non-recourse net debt of around €80m connected to UK municipal public-private partnership (PPP) contracts. Both of these items are excluded to get a reported net-debt-to-Ebitda ratio of under two times, compared with three times for the financial year ending March 2020.
The UK contracts have also been a pain for pre-tax profits in recent years given what it calls “significant onerous contract provisions”. The company has “no intention to invest further” in PPP contracts, but said it still found the UK an “interesting market” that was slowly maturing and looking to get away from a reliance on landfill.
For us, this is a question of whether Renewi is valuing style over substance. Why commit to tens of millions of expansion spending when you could try to get the balance sheet sorted?
The answer is in the regulatory pressure to increase recycling: if Renewi doesn’t build capacity now, someone else will. With the knowledge that a goodwill impairment could cause major issues, the company offers upside potential as a speculative green stock.
*changed to clarify figures represent incidents per 100,000 workers
|Company Details||Name||Mkt Cap||Price||52-Wk Hi/Lo|
|Renewi (RWI)||£596m||745p||855p / 320p|
|Size/Debt||NAV per share*||Net Cash / Debt(-)*||Net Debt / Ebitda||Op Cash/ Ebitda|
|Valuation||Fwd PE (+12mths)||Fwd DY (+12mths)||FCF yld (+12mths)||P/BV|
|Quality/ Growth||EBIT Margin||ROCE||5yr Sales CAGR||5yr EPS CAGR|
|Forecasts/ Momentum||Fwd EPS grth NTM||Fwd EPS grth STM||3-mth Mom||3-mth Fwd EPS change%|
|Year End 31 Mar||Sales (€bn)||Profit before tax (€m)||EPS (¢)||DPS (p)|
|Source: FactSet, adjusted PTP and EPS figures converted to £|
|NTM = Next 12 months|
|STM = Second 12 months (ie, one year from now)|
|*Converted to £, includes intangible assets of £80m, or 645p a share|