Some data points to ponder. 26 P/E, 1 ton of Garg=70gals of oil, 12–15% of US solid waste into electricity.
Trash Talk
By Justice Litle
Remember the classic '80s movie Back to the Future, in
which Marty McFly (Michael J. Fox) traveled to 1955 in a
time machine built by Doc Brown (Christopher Lloyd)? The
initial version of the time machine, a souped-up DeLorean,
was fueled by plutonium. At the end of the movie, Doc Brown
returns from the future with a new-and-improved version
that runs on garbage.
Getting a nuclear reaction from coffee grinds and banana
peels seems a bit of a stretch. In fact, turning the
contents of your garbage can into any form of clean energy
sounds like a pipe dream. But Covanta Holdings Corp. (NYSE:
CVA) does just that. It turns garbage into electricity, in
a process known as waste-to-energy.
So how does the waste-to-energy process work? In a
nutshell, safety-inspected garbage is fed into a feeder
chute by an overhead crane.
The feeder chute delivers the garbage into a giant furnace,
where it is forced onto a downward-sloping grate. A
churning action is created by the moving bars of the grate,
mixing burning garbage with incoming garbage to help it
ignite. This furnace runs hot — roughly 1,800–2,000 degrees
Fahrenheit. The walls of the furnace are lined with steel
tubes; heat from the combustion process turns water in
these tubes to steam.
The steam then drives a turbine generator, which produces
electricity. After the garbage is burned, ash and gas are
left over. The gas is filtered through a "baghouse," a
system of hundreds of fabric filter bags that captures more
than 99% of all particulates. The gas is also run through a
high-tech pollution control system, and potentially acidic
gases are neutralized by a lime slurry sprayed into the
exhaust. The physical ash is then taken to a contamination-
proof landfill, if not first processed for extraction of
recoverable scrap metal.
The Environmental Protection Agency has declared that the
waste-to energy process has "less environmental impact than
almost any other source of electricity." A combination of
strict regulations and mature technology have made waste-
to-energy plants both green and efficient.
The United States turns roughly 12–15% of its solid waste
into electricity each year — that's more than 100,000 tons
per day — and generates enough energy to serve 2.8 million
homes.
So if the process works so well, why do we burn just a
fraction of our trash? Why not all of it, or at least most
of it? It comes down to economics.
Waste-to-energy makes more sense in some geographic
locations than others. Dollar for dollar, coal, hydropower
and nuclear power are still cheaper ways to generate
electricity. But waste-to-energy has other advantages, like
the reduction of landfill usage. In densely populated areas
of the United States, such as the Northeast, lack of
landfill space is becoming a real problem. Existing
landfills are getting full, and negotiations for new
landfill space are typically squashed by NIMBY politics
("not in my back yard").
There is plenty of open space elsewhere in the country, but
it doesn't make economic sense to transport garbage any
great distance. There is just too much of it. Burning the
garbage, on the other hand, goes a long way toward solving
the landfill problem. The ash left over from the waste-to-
energy process takes up just 10% of the space that unburned
refuse requires. The practical considerations of large
cities and dense population distributions thus make waste-
to-energy a winning solution.
The waste-to-energy process is also a winner in the global
warming department. Conventional landfills emit methane, a
smelly greenhouse gas, while burned ash does not. On top of
that, not only do waste-to-energy facilities produce zero
net greenhouse gas emissions, they help cut down on fuel
usage and truck emissions by reducing long-distance waste
transportation. As the cost of fossil fuels rises and
global warming concerns escalate, these advantages will
only become more pronounced.
Environmental skeptics fear that waste-to-energy harms
recycling efforts, but this fear is largely unfounded.
Waste-to-energy plants have an economic incentive to
presort the garbage they burn and set aside the recyclable
materials.
Certain types of waste make good sense to salvage and
recycle, while the rest is best viewed as an energy source.
According to wte.org, "Waste-to-energy annually removes for
recycling more than 700,000 tons of ferrous metals and more
than 3 million tons of glass, metal, plastics, batteries,
ash and yard waste at recycling centers located on site."
Covanta Holding Corp. is the dominant player in the waste-
to-energy industry. It owns or operates 31 waste-to-energy
facilities spread over 15 states, with a heavy
concentration in the lucrative Northeast region. It also
owns or operates 10 power projects overseas. As of this
writing, Covanta has a $2.4 billion market cap, with $1.2
billion in revenue for 2005. The vast majority of company
revenue comes from waste-to-energy operations, with a
miniscule amount of cash flow — approximately 1% — coming
from a tiny insurance subsidiary.
The advantage of Covanta as an investment is summed up with
three mouthwatering attributes: revenue stability, strong
cash flow and good prospects for future growth.
The stability comes from the fact that the majority of
Covanta's revenue is under long-term contract with various
municipal agencies. More specifically, 90% of the company's
revenues are under contract until 2007, and 70% are booked
till 2009, with excellent prospects for renegotiation on
favorable terms. The majority of Covanta's waste-to-energy
revenue comes from "tip" and "service" fees. Tip fee
contracts work out a fixed payment per ton for all the
waste that goes through a given facility. Service fees, an
alternative to tip fees, are charged at a flat rate per
month, with incentive fees for high-quality performance
built into the contract.
Covanta also earns income from the sale of the electric
power it generates, in some cases keeping all of those
revenues for itself, and in other cases sharing it with
customers.
Strong cash flow and solid return on invested capital give
Covanta the ability to significantly "de-leverage" itself
over the next few years — that is, to pay off the bulk of
debt on its books that was used to fund expansion and
previous acquisitions.
This gradual de-leveraging process will only make the
company look more attractive to potential investors over
time, and its rock-solid revenue arrangements ensure that
the cash will keep flowing. (People will still be using
electricity and throwing away garbage no matter what.)
Opportunities for future growth come from overseas markets,
new opportunities in U.S. markets. As fossil fuels become
more expensive, the economics of waste-to-energy
technologies become increasingly attractive, both at home
and abroad.
In the home market, Covanta still has untapped opportunity
in the well-served Northeast region. Covanta already
operates along Boston to New York corridor, for example,
but does not yet operate in the city of New York itself.
Even though the Big Apple generates a whopping 12,000 tons
of garbage per day, it does not take true advantage of the
waste-to-energy process — mainly due to political
infighting and stubbornly unchanged attitudes toward the
industry. But as fuel costs rise and the cost of long-
distance trash hauling grows steeper, Covanta will start
looking more and more attractive to New Yorkers. Each ton
of trash Covanta burns produces the same amount of energy
as a $70 barrel of oil, and Covanta's waste-to-energy
facilities converted the solid waste equivalent of 16
millions barrels of oil last year.
Finally, Covanta has excellent exposure to long-run energy
market trends: plenty of upside with little to no downside.
The more costly it becomes to haul garbage any significant
distance, the more attractive waste-to-energy looks on a
relative basis. And thanks to electricity generation,
Covanta has no reason to fear an increased power bill — the
company happily powers itself.
At the stock's current quote of $16.35, it trades for about
26 times estimated 2007 earnings. This pricey valuation
might not appeal to die-hard value investors, but Covanta
enjoys a unique advantage over traditional energy
companies: The world's supply of oil will run out long
before its supply of garbage.
News 
Market Data 
Discover 
AI
