Description

US Liquids, Inc. is a national provider of liquid waste management services, including collection, processing, recovery and disposal services, with a focus on industrial and commercial liquid waste and a smaller oilfield division. The company has 45 processing facilities in the U.S. and Canada.

Liquid waste management is a large and fragmented industry; USL is the sorry result a roll-up strategy gone wrong. Once a growth stock, the company acquired 51 companies in 1998 and 1999 before the wheels fell off, sending the shares from their high of $25+ in 1999 to just under $2 in Q4 2000. USL rebounded to a high of $5.68 at the end of 2001 as operations were thought to be stabilizing and the company retained Bank of America to explore a sale, but tumbled to the current price of $3 on news of weak Q4 2001 results and a lack of activity on the sale front.

Price: $ 3.02
Shares Out (Dil):16,728
Equity @ Mkt: $ 50,519mm
LT Debt Debt: $ 92,028
EV: $ 142,547

Est. 2002 EBITDA: $32-$35mm
Est. 2002 EPS: $0.29

EV/EBITDA = 4.07x-4.45x
P/E = 10.4x

The company has 3 divisions: Commercial Wastewater, Industrial Wastewater, and Oilfield services:

Commercial Wastewater contributed $138.8mm or 60.3% of 2001 revenues and ($7.3mm) in operating losses. D&A was $9,370 and Capex was $5,107. Commercial handles dated beverages (from brewers & old soda pop), hydrocarbon contaminated water, sludge, & septage.

Industrial Wastewater contributed $64.4mm or 28% of 2001 revenues and $6.1mm in operating income. D&A was $4,742 and Capex was $1,493. Industrial handles acids, plating solutions, flammables, anti-freeze, and the like.

Oilfield contributed $27.1mm or 11.7% of 2001 revenue, and $13.4mm in operating income. D&A was $2,558 and Capex was $2,167. Oilfield consists of six facilities in LA and TX that handle waste from oil & gas exploration & production. The Oil & Gas division has historically produced $8-9mm in operating income. This has been a stable, high return business over the years with only $37mm in assets. Last year this division did $13m in operating income as high gas prices drove increased drilling activity in the Gulf, and is trending down to historic levels.

With industry acquisition multiples at 5x to 6x EBITDA, USL is moderately attractive at today’s price given current operating results. The real attraction, however, is in the potential for improved operating performance:

1) The waste processing facility in Detroit (acquired from Waste Management in 1988) has had major problems during the last couple of years and is under investigation by the EPA for possible violation of the Clean Water Act. A customer sent them waste containing PCBs and didn’t tell them, which caused, in addition to the investigation, delays in re-permitting. The customer, National Steel, settled with USL for $7.5mm in June of 2001 and a $5m reserve was established in 2001 for the EPA issue. Some kind of EPA settlement should be in the offing. The effect of all this is that Detroit is now producing only $1-2mm in EBITDA, whereas in 1998 it produced around $10mm.

2) USL’s Romic division has a facility in East Palo Alto, CA, which got nailed last year by the loss of a number of tech customers and the CA electricity fiasco, which increased operating expenses. Much of the revenue was replaced but at much lower margins. This year, the electricity situation should be better and there is evidently some recent activity in regaining better margin business. Together with another facility, Romic used to do $40mm in revenue and $10mm in EBITDA, which fell to $5mm last year as a result of the above mentioned problems.

3) The Oilfield Services business has had a lucrative contract with Newpark Resources which is set to expire in July. USL’s projections for this year factor in the expiration of this contract. In fact, the expiration is viewed as a good thing by USL management because they were bound by a non-compete for marine business in the region. USL looks forward to competing for business in this market and sees incremental upside of perhaps 20% in the next couple of years in this area.

Taken together, these problem areas could conservatively add as much as $7-$10mm in EBITDA or more in the next 18-24 months, which would place the shares closer to a 3x multiple. At 6x EV/pro forma EBITDA, the company could fetch $8 to $10 per share after subtracting debt. USL recently renewed its credit facility for another year at much higher cost, which took a bite out of EPS estimates for this year. Also, USL hired B of A last Spring, which sent out a book August of 2001, bad timing to say the least. There was minimal response and no bids. B of A’s contract is for 2 years, and there may be some opportunity to revisit the possibility of a sale of all or part of the company in the face of improving numbers (and a declining share price!).

Risks: 1) Any company in the waste management business has potential environmental issues, as far as I’m concerned. The good news is that USL’s seem to be under control and quantifiable at this stage ($5mm), unlike asbestos. On the flip side, waste management is a highly regulated industry and USL’s permits and facilities for processing liquid waste are barriers to entry. 2) Management. This is the same crew that ‘built’ the company, and ran straight into operating and financial problems. Management risk is mitigated to some degree by the fact that the banks have essentially taken away their freedom to do much of anything except pay down debt. Also, a new COO was hired in 2001, which is a good sign. 3) Screwy accounting. USL’s auditor is Anderson, and their income statement has more adjustments than Michael Jackson. The special items and adjustments should recede into the past as issues like Detroit are resolved.

Catalyst

Catalysts: 1) Pending settlement with the EPA would remove an uncertainty factor, 2) improvements in operating performance outlined above, and 3) ongoing effort to sell all or part of the company.