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Good afternoon. My name is Jesse and I will be your conference operator today. At this time, I'd like to welcome everyone to the Stericycle's Fourth Quarter and Full-Year 2017 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.
Jennifer Koenig, Vice President of Corporate Communications and Investor Relations. You may begin your conference.
Thank you. Good afternoon and thank you for joining Stericycle's fourth quarter 2017 earnings call. On the call today are Charlie Alutto, Chief Executive Officer; Dan Ginnetti, Chief Financial Officer; and Brent Arnold, Chief Operating Officer.
The discussion during today's call includes forward-looking statements that involve risks and uncertainties. Our actual results could differ significantly from those described in such forward-looking statements. Other factors that could cause the actual results to differ are discussed in the Safe Harbor statements in our earnings press release and in greater detail in Stericycle's filings with the U.S. Securities and Exchange Commission.
Past performance should not be considered a reliable indicator of future performance and investors should not use historical trends to anticipate future results or trends. To the extent permitted under applicable loss we make no commitment to disclose any subsequent revisions to forward-looking statements.
On the call, we will discuss non-GAAP financial measures. For additional information and reconciliation to the most comparable GAAP measures, please refer to the footnote and schedules on our earnings press release, which can be found on Stericycle's Investor Relations website.
Finally, today script will correspond with a presentation it is available on our Investor Relations website. So please refer to those slides.
With that Charlie Alutto, will begin our discussion.
Thanks, Jennifer. Welcome everyone to our fourth quarter and full-year 2017 earnings conference call. I'd like to reiterate that we are providing additional detail for this call in the presentation available on our IR website. Also as a result of feedback from our shareholders and in an effort to increase transparency, you will see and hear additional disclosures on our financial and operational performance both this afternoon and going forward.
Now turning to today's discussion on Slide 3, first it is important to review our leadership position, our vision, and our long-term opportunities. Today Stericycle is a leader in multiple large and fragmented markets. The markets we serve continue to grow, driven by increasing regulations, but focus on sustainability solutions, the ageing population, and our customers desire to outsource services to focus on their core businesses.
We also have long-term customer relationships on multi-year agreements and continue to identify cross-selling opportunities. The strength of our service lines in markets combined with the actions we are taking to strengthen our organization will accelerate our penetration in a growing $38 billion global market and position the Company for long-term growth and improved financial performance.
So with that as a backdrop, let's review our agenda for today's call. We will first discuss our strategy and the business transformation, Brent will highlight our performance by service line, and Dan will review our Q4 and full-year results, and finally, Dan and I will review our 2018 outlook.
Now let's start with Slide 6 and the Business Transformation. As I introduced on the last earnings call, we are undertaking a comprehensive company-wide business transformation to strengthen our business and position Stericycle for continued success for many years to come. We recognized there is a clear need for change, nearly 500 acquisitions over 25 years has resulted in more than 450 business applications and over 65 financial systems.
There are certainly opportunities to drive synergies, improve processes, and reduce redundancies. In addition competitive pressure, including pricing remains a challenge. We know that the performance of our non-core assets has been inconsistent and that we must enhanced our control and compliance effort. Since our last call, we have also identified additional strategies and investments for the long-term health of the business, which will have an unfavorable impact on our 2018 guidance.
In all, we've determined our operating model needs to be reconfigured to more effectively manage the business and enhance the return to shareholders in the future. The business transformation is focused on a clear vision to build best-in-class performance management model as outlined on Slide 7. We expect this will enable us to deliver an enhanced customer experience and greater value for shareholders through predictable profit growth, stable compounded revenue growth of 3% to 5%, and adjusted EPS growth of 6% to 10% over the next five years.
To carry out this transformation, we conducted comprehensive research and due diligence and hired leading consultants to help us with a diagnostic assessment of the business. Through this process, we identified a number of strategic improvement opportunities. To execute against these, we've established dedicated project teams and upgraded an internal talent to help with oversight and ensure success. And to drive accountability, we have developed detailed work plans and metrics to track our progress.
Slide 8 provides an overview of the key initiatives of this business transformation to help you understand the full scope and magnitude of the effort. We will be implementing a global enterprise performance management operating model. This new operating model is expected to standardize global end-to-end processes, align the Company around key performance indicators, and improve data management, and decision making.
A global enterprise resource planning system is the central component of our business transformation and will become the backbone of our performance management model. Within ERP, we will integrate all of our service lines and geographies on to one operating system. The five key initiatives of the business transformation include portfolio rationalization, operational optimization, organizational excellence and efficiency, commercial excellence and strategic sourcing.
First, we are evaluating a portfolio to rationalize non-core assets. Second, we are improving our operations by standardizing our route logistics, modernizing field operations and driving network efficiency across facilities. Third, to achieve operational excellence and efficiency where optimizing our organizational structure, which began in November.
Furthermore, we will be aligning our structure around the global to share business services model. Fourth, to achieve commercial excellence, we are aligning our sales and service functions around the customer, we are standardizing our customer relationship management processes and expanding customer self-service options.
And finally we are implementing global procure-to-pay processes and improving demand management. We expect these initiatives will drive efficiency and enable Stericycle to better capitalize on growth opportunities with improved financial performance.
In addition to the significant operational benefits, we are focused on ensuring that the business transformation delivers an appropriate return to shareholders. As we scene on Slide 9, we expect the business transformation will deliver an IRR greater than 85% are against our projected one time program investments of $275 million to $300 million. As a result of near-term initiatives in 2018 we expect initial adjusted EBITDA benefits in the range of $60 million to $65 million, which will partially offset our current business challenges.
We expect cumulative adjusted EBITDA benefits of $850 million to $1 billion between 2018 and 2022. The business transformation is expected to deliver strong bottom line grow. Over the next five years, we expect to deliver adjusted EBITDA on a compound annual growth rate of approximately 5% to 9% and an EPS compound annual growth rate of 6% to 10%.
Over the same period, we anticipate generating substantial free cash equivalent to a compound annual growth rate of approximately 10% to 14%. This cash flow will provide additional leverage to create value for shareholders.
Slide 10, reviews our anticipating milestones for the business transformation and the timing of the financial returns. To-date we've made good progress on the early phases of the transformation. In 2018 we will focus on executing near-term efficiency initiatives, making the necessary investments to ensure success and finding a blueprint that will deliver our target operating model.
In 2018 we intend to build and test the enterprise resource planning system and related enterprise performance management system. In 2020 we intend to rollout the ERP in the U.S. with the four and internationally beginning in 2021. We anticipate realizing the full value of the transformation in 2022 and beyond.
Our investments in the transformation are weighed heavily in the first two years, primarily due to the upfront investment in the ERP system. We are executing on some near-term initiatives to drive adjusted EBITDA savings in 2018 and 2019 and will begin to realize the vast majority of the financial benefits in 2020 and beyond. This is truly a transformational effort to redefine as Stericycle operates.
Now on Slide 11, we're also conducting a thorough review of all of our service and geographies to determine their long-term fit within our organization and rationalize our portfolio. Our assessment includes screening for financial criteria such as long-term growth, return on investment capital and margin improvement.
We will also look at strategic criteria including alignment with our business model and core competencies ability to leverage our infrastructure our customer base for growth, potential impact the current services and implications for the ERP implementation.
Over the past 18 months, we applied some of these criteria to make a number of portfolio decisions. This included the divestiture of the manufacturing and industrial asset in the UK, the exit of our UK patient transport business and most recently the divestiture of our Secure Information Destruction business in South Africa. We will evaluate future potential divestitures to enable us to be more strategically focused and better position for continued growth and improve profitability.
Turning to Slide 12. The ERP system will enable us to further strengthen company-wide controls and compliments ongoing compliance efforts. We have expanded our compliance legal, financial, and audit teams to strengthen our overall compliance program. We are also instituting new policies and procedures as well of increasing internal monitoring programs.
The standardization of our information technology platforms that will come with the ERP implementation will further strengthen controls and support our compliance program. You will see the results of some of these efforts in our financial results today and in our periodic filings which include enhance disclosures.
That concludes my overview of the business transformation. Brent will now discuss our Q4 revenues and performance by business line.
Thanks Charlie. Turning to Slide 14, total revenues for the fourth quarter were $887.8 million, down 2.1% from $906.4 million in Q4 2016. When adjusted for manufacturing and industrial revenues decreased 1.6%. Acquisitions contributed $6.8 million to revenues and divestitures reduced revenues by $10.2 million. Growth was also unfavorably impacted in the quarter by a challenging comparison due to a record event in our communication and related services business in Q4 2016.
Revenues from each of our service lines in the fourth quarter were as follows: Regulated Waste and Compliance Services $497.7 million; Secure Information Destruction Services $202.2 million; Communication and Related Services $97.2 million; and Manufacturing Industrial Services $90.7 million. This quarter we closed six tuck-in acquisitions including five in the U.S. and one internationally. These acquisitions contributed revenues of approximately $1 million in the quarter with projected annualized revenues of $9.7 million.
In alignment with our portfolio optimization strategy we divest a Secure Information Destruction business in South Africa. The divesture reduced revenues in the quarter by $300 dollars it was an annualized impact of $3.5 million. As expected Regulated Waste and Compliance Services revenue was down year-over-year. This was partly due to the previously announced patient transportation access and divestiture. This result included strong growth in both retail hazardous waste and additional services to hospitals.
Secure Information Destruction services continues to perform well, we had a record number of new installations among our national and regional accounts in the quarter. Organic revenue growth in the quarter was 5.5% and 6.1% net of paper. Communications and Related Services also had a strong quarter with continued execution of recall events. However, it was down on a year-over-year basis given the comparison to our record quarter in the same period last year. As expected Manufacturing and Industrial Services was down when compared to the same period last year.
I will now hand it over to Dan, who will discuss our financial performance for the fourth quarter and greater detail.
Thanks Brent. Turning to Slide 16, for our key financial performance. As Brent discussed quarterly revenues were in line at $887.8 million. Adjusted EBITDA was $151.5 million results fell short of our expectations due to the following factors. We incurred approximately $7 million in higher than expected costs. We recorded accounting adjustments of approximately $7 million.
These adjustments are primarily related to our progress on internal control remediation efforts and are not expected to repeat. And we recorded a non-cash depreciation and fixed assets expense of $18.5 million the majority of which will not repeat. This resulted in an adjusted EPS of $1 including some international tax their ability. GAAP EPS was $0.97.
This includes the favorable impact of $1.52 from the federal tax reform offset in part by non-cash goodwill impairment charge in Latin America as part of our annual impairment testing in the fourth quarter and other adjusting items. Adjusted cash flow from operations was $165 million due in part to stronger collections and favorability related to timing of accruals.
For additional color on EPS, let me take you through a few details on Slide 17. Street consensus for EPS was at $1.14. EPS from operations was equivalent to a $1.09 or short of street consensus by $0.05. This was primarily due to higher costs in Europe, including the last of some stranded costs from the patient transport business.
In addition, our U.S. regulated waste and compliance services business saw increased costs related to the installation of a new large LQ contract, some higher fuel in energy, and a shift in the expected mix of LQ and SQ growth. This was partially offset by a strong quarter in C&RS.
In the quarter, there were some non-operational expenses, including $0.14 of catch up and acceleration of non-cash related depreciation, $0.04 from control remediation and policy harmonization offset by $0.09 of favorability in interest in tax not related to U.S. tax reform. Q4 adjusted EPS came in at a $1.
Slide 18 covers our full-year 2017 results. Now for the balance sheet on Slide 19. Our covenant debt-to-EBITDA ratio was 3.66 at the end of the quarter. The unused portion of the revolver was approximately $597.5 million. In the quarter, we repurchased 65,000 shares of the mandatory preferred convertible for $3.4 million. At the end of the quarter, we have authorization to purchase an additional 2.7 million shares. For the year, cash from operations was $508.6 million and when adjusted for recall reimbursement and other items, cash from operations was $625.5 million, CapEx was $143 million or 4% of revenues, and our DSO was 63 days.
As I mentioned, our debt-to-EBITDA ratio is 3.66. The company's credit facilities containing number of covenants, including financial covenants to which the company was in compliance at December 31, 2017. Based upon the company's expected 2018 business transformation investment plan, it is reasonably possible that the company could exceed a debt-to-EBITDA leverage threshold at some point in 2018. This risk can be mitigated through appropriate spending controls and/or seeking temporary relief from the leverage covenants from our lenders.
We have a strong relationship with our lenders, who have been supportive of the company in the past. We have approached our lead arrangers and believe there are fair options that will enable us to continue to invest in the future of Stericycle.
I will now hand it over to Charlie for to go over our 2018 outlook.
Thanks Dan. Now for our guidance for 2018 on Slide 21. Please keep in mind that these are forward-looking statements, our guidance does not include future acquisitions or divestitures and it is based on currently known items. For the 2018 outlook, we will be focusing on operational result and EBITDA. This metric is more commonly used, better aligned with our covenants and as a proxy for cash flow. Based on feedback from our shareholders, we will only be providing guidance for our cash from operations and free cash flow on an as reported basis.
Based on the current business environment, we believe annual revenue for 2018 will be in the range of $3.48 billion to $3.63 billion using current foreign exchange rates. The worldwide revenue guidance for each of our service lines is regulated waste and compliance services will be in the range of $1.92 billion to $1.97 billion.
Secure Information Destruction Services will be in the range of $870 million to $910 million. Communication and Related Services will be in the range of $355 million to $385 million depending on recall revenues. Manufacturing and Industrial Services will be in the range of $335 million to $365 million.
We believe adjusted EBITDA will be in the range of $760 million to $810 million. We expect adjusted EPS will be in a range of $4.45 to $4.85 using a share count of $9.5 million reflective of the conversion of preferred shares and an effective tax rate of approximately 26% to 26.5%.
We believe cash from operations will be in the range of $510 million to $560 million. We expect CapEx will be between $160 million to $180 million and free cash flow up $330 million to $400 million. Slide 22 provides an overview of our assumptions for the 2018 guidance.
I'll now turn it back to Dan.
Thank you. On Slide 23 provides the bridge from the directional guidance revealed on the Q3 2017 call. We had anticipated the 2017 EBITDA results would be approximately $835 million and the 2018 would be generally flat. Let me highlight what has changed since the last call.
First our Q4 results did not command have anticipated and approximately $5 million of debt expense will continue in 2018. Next we expect any impact of $25 million related to a revised long-term commercial strategy focused on strengthening our relationships, our SQ relationships. We will make a $10 million investment in our IP infrastructure to stabilize our legacy IT environment and prepare for future ERP implementation.
Lastly, with the completion of our 2018 detailed implementation part business plan for our business transformation. We have refined the timeline of recognized savings, which resulted in a shift of $10 million into future years.
As I've highlighted on Slide 24, we expect the tax rate in the range of 26% to 26.5% as a result of the recent tax reform. We anticipate this will have an adjusted EPS benefit in the range of $0.55 to $0.65, which is already incorporated into our guidance and will benefit cash from operations by $20 million to $25 million. We intend to utilize this cash in support of our ongoing capital allocation priorities.
Turning to Slide 25, we will continue to maintain a disciplined approach to our capital allocation strategy. Our approach allows for debt reduction and share repurchases as well as tuck in acquisitions that expand our route density and operational throughput. Long-term, we expect our continued strong free cash flow will provide additional levers to enhance shareholder value.
I will now turn it back to Charlie for final remarks before we open it up for Q&A.
Thanks, Dan. I want to reiterate that the entire Stericycle team is committed to our business transformation and improving our long-term financial performance and transformational enable Stericycle to enhanced our customer experience, Drive Operational Efficiencies and improve shareholder returns. We look forward providing updates on our progress on future earnings calls.
We'll now answer your questions. Jesse, please open the line for Q&A.
[Operator Instructions] Your first question comes from Ryan Daniels with William Blair. Your line is open.
Yes, guys. Thanks for taking the question. Let me start with one, on the $25 million EBITDA hit to initial expectations for the long-term SQ strategy. Can you talk a little bit more about what that $25 million investment is? Is that kind of a marketing front? Is it changing your pricing structure? Just any color there, because that's pretty big gap?
Hey, Ryan. This is Brent. I'll take that one. Really the long-term SQ strategy is really based on the work that we've done with our data analytics team and multiple pilots that we've completed over the last I would say we're five quarters. With that we've had some key learnings in the business and we'll be rolling out three initiatives focused on strengthening our customer relationships as well as improving our long-term.
Of the three initiatives the first being we're going to reduce or limit our annual price increase with specific customer segments in an effort to reduce our churn and long-term discounting. But we're also going to be expanding the number of customers with a dedicated account manager and really those account managers will serve as the single point of contact for those customers for Stericycle.
And then finally, we're going to be making some additional marketing investments to promote our brand in the marketplace. While all these investments are initiatives come with an impact the near-term results we are confident they will help strengthen our relationships and improve the long-term performance of our business.
Okay. Thanks for that. And then as my follow-up just looking at the anticipated $60 million to $65 million in adjusted EBITDA benefits in 2018, it's a pretty good chunk of the overall EBITDA about 8%. How visible at this point in the year are those benefits based on what you've already done and how much is kind of still out there we're going to have to continue to monitor that going forward to ensure that you can achieve those results? Thanks.
Yes, Ryan, great question. We do have a line of sight on the entire $60 million to $65 million we have dedicated teams and work streams associated with all that some of that has been accomplished through the organizational excellence and restructuring that we did in November. We'll give update as we go through the earliest calls on the progress of not only the $50 to $65 in 2018 but where we're tracking but the entire savings under the business transformation initiative.
Your next question comes from Gary Bisbee with RBC Capital. Your line is open.
Hey, guys, good evening. Where to start a lot there can be tough to keep it too, but I guess I'll try my best. So the long-term growth target that your - I guess updating from the ones you gave 15 months ago the Investor Day. When do you expect to start to grow obviously you're calling for a declines in 2018. Are those CAGRs calculated based off of what I guess I would suppose the bottom in 2018 and then growing from there. I mean I am just trying to get a sense for visibility into ability deliver this given continued challenge in the phase? Thanks.
Yes, honestly the CAGR is over the entire business over the five-year period. Certain parts of our business are growing well, CNRS and the Secure Information Destruction Services. We do anticipated as you can see from the revenue tables on the guidance we gave for 2018 we still see a decline in RWCS next year that's obviously continued pressure on this discount in SQ it has some impact as well Gary on the divestiture of the assets. We feel that when we lead a team we will start grow the business from 2019 look forward with certainly we have short-term challenges when we look at the CAGR on the CAGR is over the entire portfolio.
And Gray as you saw that the graph you'll see the savings in 2018 with a modest saving 2019 and that really does ramp up in 2020 as we begin to implement the European EPM system, you begin to see those savings over our entire shared services as well as some of those it is cared for from me earlier year.
And so just to be clear, I guess the follow-up would be around adjusted results. Is there any change and how you are thinking about what you adjusted out to get to those adjusted versus the past in the fourth quarter it seem like there are a couple of things that may be historically you might adjusted out you didn't. And then I want to be clear as part of that you are including the savings from the transformation initiatives, but you're adjusting out the cost that you're facing to deliver those savings? Is that correct?
Yes, two part question there. I going back one first, that is correct. That the cost $275 million to $300 million will be captured within that it will begin realizing the savings again the majority of which as we've discussed in the frequency and cadence that we just answer the question to.
The second question has to do really with some of the things that we adjusted from a theme approach. One of the things I hope you saw in the spirit of not just in this business transformation over five years, but in all aspects of our business. We took a holistic approach.
And really look to improve the press release financial I think you will see a more disclosure in our 10-K as well and so we will be changed down the adjusting items, we're taking more thematic approach with more footnotes and we'll give you more transparency in there and exactly what we're backing out.
And so you should be able to follow along with us each quarter and each year on what items that we are putting in there. I think you're seeing some good progress on some of these numbers coming down, but certainly with business transformation and capturing it there, you'll see that number to be able to track along with the save.
The improvement in the release is definitely noted and we appreciate it quite a bit. Thank you.
Thank you.
You next question comes from Scott Schneeberger with Oppenheimer. Your line is open.
Thanks a lot. And kind of following up on Gary's questions, obviously that you're doubling the EBITDA in the next five years with the business transformation, so I just want to understand what the revenue, I get the CAGR of the revenue provided as well, but what I'm getting to is this before divestitures occur because clearly that's going to happen, and then if you could please elaborate on the sense of urgency with the divestitures? Thank you.
Yes. So first, this does not contemplate any divestitures beyond what we've already discussed most recently being the divestiture on our Secure Information Destruction business in South Africa. Certainly there is a sense of urgency to look at all aspects of the business transformation and the four pillars that we've discussed.
And so we will be working diligently. We want to make sure that whatever - in two years whatever service lines or geographies are with us, we are committed to, to make sure that we implement our ERP system and the time and energy it takes to be able to do that over that. And I think - Scott, sorry there was a second part to that question.
Yes. Just on that, and just really on - obviously, you're going to be working towards getting ERP implemented and you want to have these divestitures done before that, I think you just answered that.
Yes. I think if you look at the criteria we put in there, one of them is the implication towards the ERP, Scott, so one of the non-financial views we'll use in evaluating a service line or geography as we hold on to that asset, how hard that's implemented into the new ERP platform. And certainly that will be one of the criteria that we look at when we make a decision on the rationalization of the portfolio.
Great. Thanks guys. And as my follow-up, just curious on the cadence - quarterly cadence of this 2018 guidance overall and then also if you could slip in at the end, how you think about compliance with the covenants and when you might be at the danger areas on that or actually preach on that? Thanks.
Sure, as far as cadence, I think the most important number would be to remember the Q1 typically have seasonality build into it and then you see a bit of a recovery in Q2. You have EPS guidance for the year $4.45, $4.85. I think we have to start that is in Q1 to be in a range of $1 to $1.10, and then you take it up ratably thereafter, probably a little bit more than a rational step up in Q2, and then more static going from Q2, Q3, and Q4 in the growth. We'll provide Q2 and further guidance on the next call, coming out in Q1 at $1 to $1.10.
Thanks. And then just touching on the covenants if I could…?
In covenants, yes, so it's very difficult to tell on that, because obviously the expenses that we have contemplated including the business transformation, some legal fees, these things are very difficult to predict, and so we have modeled this out through the year and we believe that there are points in time, if they come in and certain chunks that we could - we stand that is as reasonably possible that we could exceed them.
What I would share with you is that as I mentioned we have a very strong relationship with our lenders and we have reached out to the leader arrangers. As you are evaluating this, I would share that it would be appropriate - inappropriate for me to discuss kind of plan, while our company generated very strong free cash flow.
We paid nearly $500 million in debt over the last two years and we have the ability to service our debt obligation. So we've reached after them. I think we can come up with a plan that is fair that will allow us to continue to invest in the business, more to come on that as we get a little further along with our lenders.
And I think Scott, just add to that, the other thing is the uncertainty of the $295 million of - actually when that will be paid, there's really no update on that. There is step that have to take, but we just don't know when the $295 million of the legal settlement will actually be paid out.
Thanks, helpful. Appreciate it guys.
Thanks.
Your next question comes from David Manthey with Baird. Your line is open.
Think you. Guys, maybe you could help me understand Slide 10 in a little more detail? When you say that the gray line is incremental benefit, does that imply that 2019 even though the curve comes down to be greater than $65 million and then just if I look at that overall number, it's $170 million to $200 million annually, I guess the average it. Where would you anticipate hitting that average level and I guess when we hit 2022 you're going to have to be significantly above that. Am I thinking about it correctly?
I think we will all agree that the graph, is be the gray bar is in year anticipated savings and as we shared with you, with the business - early steps of the business transformation, we expect $60 million to $65 million in 2018, some of which will carry into 2019. But we have some incremental savings opportunity that will have there. The green bar is the cumulative effect and that's why we see that never bending down. It will continue to go up as we enjoy that cumulative benefit, which will be in the range $850 million to $1 billion over the five year period of time.
And then David, a significant part of the savings comes out the implementation of the ERP and that's why backend loaded. So that's what we see an unleashed efficiency of the back office functions, our operational optimizations. We will get some initiatives in savings before that, but the vast majority comes in after the implemented in 2020.
But is that green line in 2022 is that $850 million to $1 billion and the gray line in 2018 is $60 million to $65 million, it just doesn't look like the magnitude anywhere close. I'm just trying to figure out what is so in 2020 you're anticipating a couple $100 million. I just don't understand how to read this graph?
Yes, I think if you look that and saying 2022 is $250 million of EBITDA as well. The green line is cumulative representation on the savings. But I think that's the best - that's what it first represented cumulative.
Dave, as would say $65 million, the first year you would see that same $65 million in that year and year after and then as you see an incremental more $19 million you've add to that, and incrementally more and so create that compounded effect.
Okay.
It's not meant to indicate at any point are we getting back any of the savings that we - area.
All right that's helpful, thank you. And then as a follow-up, it looks like you're allocating $40 million to $80 million in capital allocation for acquisitions in 2018 that it seems a little bit like changing tires on a moving car here. Why not just stop the M&A program while you fix the organization and pick it up later? I'm just wondering why you'd allocate that especially given your capital challenges you talked about.
Yes, I'll take that David. I mean certainly our focus is only on small tuck-in acquisitions, this fill up a very good return.
You're right. We're not going to going after any acquisitions that add complexity of the ERP or there are any of business transformation initiatives or delay them or risk of the time line. But certainly the team can still take in really small tuck-in deals especially in the U.S. in Shred-it or medical waste during some of our more mature international market.
But that's a much slower amount of we had historically. So I think you see that we have care down on acquisitions with respect especially to the side of the acquisitions and any of the complexity of new service lines.
Dave, remember also not only everything they chose that - remember that in acquisitions comes with EBITDA as well. So that $8 million is that the dollar amount we end up on and that's not strictly dilutive to EBITDA as it does come up with a transformer to the EBITDA and the opportunity for us to execute on that and generate return that can actually help us delever.
All right, thank you.
Thanks Dave.
You next question comes from Michael Hoffman with Stifel. Your line is open.
Hi guys, thanks for taking my question. I have no idea how I'm going to do this unless I ask the multilayered question. So let me start with Slide 10. Can you tell us the absolute numbers for the blue bars, somewhat quite your expectations are…?
Yes, the blue bar is the costs of the initiative, which is the $275 million to $300 million.
Yes, but so what's it in 2017? What's it in 2018? What's it in 2019? What's it in 2020, tell us by year?
Yes, I think if you look at the guidance that we gave you on a press release that even that on outlook section and you can see that in 2018, we're anticipating about $100 million in spend directly related to the business transformation. In 2017 it was about a quarter of that and really this is meant to be directional, certainly it's going to be delivered based on how we can move on to the next step effectively making sure that we capture everything and we're detailed as possible to make sure the trends the implementation happens according to plan.
I think if you go back to my prepared remarks. We've intended it obviously front loaded so a majority of it has been 2017, 2018 and 2019 as we prepare for the implementation of the ERP system.
So 25 to 175 and then the remaining 75 to 100 spread over the last three years.
Yes, we'll get back to at the exact rate, but yes, nothing and really that's spend is now by 2021 we fully realize the initiative 2022.
Okay. There is $79 million it rounding delta between how you finished in regulated medical waste versus the midpoint of guidance. And sitting $45 million of that $79 million is SQ price? What's the remaining $33 or $34 million?
Yes, the $45 million is SQ prices and the majority of the other delta is from the divesture of the patient transport business in the UK and the contracts of the patient transport exist that we had during 2017. The other thing on that Michael was there is a delta on foreign exchange and add something like $12 million headwind in 2018.
Your next question comes from Sean Dodge from Jefferies. Your line is open.
Hi, thanks. So may be going back to the portfolio optimization. Charlie can you give us a sense of what at this point you considered to be non-strategic or maybe an idea of how significant or expensive the rationalization could be. I guess would you consider the entirety of M&I do be included there and are you potentially looking at exiting things like com-sol or curtailing a big portion of your international footprint.
Yes, I think Sean I think at this point I've [indiscernible] not to talk about specific businesses that were in line on what would be core and non-core. I mean certainly let me let me take you through maybe South Africa to give you a little flavor for the decision with respect to the South African divestiture to come as we look at through our Dave an update and what their financial and strategic criteria, but if you look at South Africa it was a limited opportunity to rollout additional services above and beyond.
Secure Information Destruction included that the business if they continued to grow we did not good growth in South Africa or continue to grow with prior to us have a local equity partner as required by the government regulations and given those factors and all of that given the fact that there was only going to be Secure Information Destruction we decided to divest of that this business.
I think you think about that patient transport business certainly that would be an easy one to say, hey, that was non-core of the business. For M&I in the UK we won't really creating an link between our operating and function. So we will continue to look at that. We will also going to look at it through the lens, as we said earlier of the implications of the ERP circle if we think it could delay or create risk in the business transformation we would launch to we won't make a decision before we implemented the ERP system.
Sure. Okay. And then on the 6% to 10% EPS that the long-term growth target there, may be a quick one on the underlying assumptions. Is that range inclusive any benefits you get from deploying the cash you expect to generate over that timeframe I know the guide does any M&A, but does that include debt repayment or any buybacks or any balance sheet kind of driven growth?
Yes, I think when you look at the long range EPS plan is doesn't include anything with respect to acquisitions. Debt reduction or share repurchase seller and if you look at our guidance for 2018 as we continue to take advantage of the repurchase of the mandatory preferred shares there is $0.17 build in to the 2018 guidance.
Okay. Understood. Thank you.
Other beyond using free cash - accelerated free cash for levels are it's not included in that compound annual growth rate.
All right. Thank you.
Thanks Sean.
Your next question comes from Hamzah Mazari with Macquarie Capital. Your line is open.
Hi, this is [indiscernible] filling in for Hamzah. Can you give us an update on how medical waste pricing is trending relative to your prior guidance above 130 million headwinds?
Yes, let me do that Galen for 2017, remember we got is that we'd be at about $45 million SQ discounting amount for the year. We actually came in slightly better than that for the year. We still anticipate the impact to be about $130 million which would imply that, we still have in our guidance about $45 million in SQ discounting in 2018 and an additional $20 million in 2019.
Okay. Thanks for that. And then the other - the follow-up question I have is, you mentioned earlier about the highly regulated nature of the business you are in. Can you give us a sense for how that's changing some of the competitive landscape, specifically in the compliance work that you guys do?
Yes. I think there's been a significant change. Obviously, we work in markets that are highly regulated both for ourselves and our customers and that's the service we sell, which is around compliance and making it easier for our customers to comply. I don't necessarily see the competitive landscaping changing.
Obviously, we've always been a premium price in the marketplace. We've always said that and that is related to some of the discounting that we're taking down on our SQ business. I think that has a lot of factors there, so our place in the marketplace it's pressures in health care consolidation in the health care market.
So I think that has changed, no necessarily if the competitive market has changed. I think when you think about our hazardous waste or M&I business, I think that has gotten more competitive. I think when we think about M&I, we see it especially in the project and large customer volume accounts.
And I think that has to do with some extra capacity that's in the marketplace now. I think for us, the long-term M&I means a shift or pivot to more smaller medium customers, where I think our services provides greater value and convenience, so I do see - that has been more competitive and I think there has been a change in the market, but I think that's what we're seeing in the M&I business.
Okay. Thanks Charlie.
Thank you.
Your next question comes from Kevin Steinke with Barrington Research. Your line is open.
Good afternoon. So of that $275 million to $300 million of total investment in the business transformation, are you able to share how much of that is specifically for the ERP system implementation? And then I don't know if you could share the system you chose and who the integrator is going to be?
Yes. In fact thank you for asking that because it allowed me to hop back on a number of questions that were out there. So first of all, the $300 million that we put out, $275 million to $300 million. I want to share that about a third of that is for capital expenditures.
And so that's directly in response to Dave's question about what goes to these adjusting items on that and the team that we have for business transformation. The capital will never show up. There the capital will go into CapEx once it begins to be depreciated, I mean the assets is being utilized and that will never show up in the adjusting now just in our results.
The spend that we have on there will be - this is really to Michael, the first year in 2017, we had about $42 million, you talked about $30 million. That was consulted type work and about $11 million of that was CapEx. You should expect about $115 million or so in 2019, $90 million to $100 million say in 2019 and then moving down beyond that.
And Kevin, answer to your question, about $175 million to about $200 million of that is directly related to the ERP. We did select to go with SAP, the latest S-4 HANA platform, which is cloud based. As far as system integrator, we are in the final stages of negotiation and so I thought we could share that to you at about a week or two, but unfortunately not today.
Okay. No problem. That's very helpful. And following up on the $25 million of added SQ investments in 2018, I was curious about the one component which is the dedicated account managers and wondering if you see the potential there to maybe alleviate some pricing pressure by strengthening those relationships and just simply better educating customers about all the offerings that they currently have with Stericycle and making sure they use them appropriately. So maybe that helps alleviate pricing pressure and then maybe also does it help you on your cross-selling to the SQ customer base?
Kevin, it sounds like you were in the meeting. You're exactly right. As you're very familiar with, we've got account managers in our hospital sales group, our regional and national accounts groups, our Shred-it groups that model works very effectively across a lot of pieces of our business and just like you said the goal of that account manager is to serve as the trusted advisor and that one single point of contact with the customer and really by doing that it allows us to build relationships with the customer better understand their needs, which enabled us to match their needs with our compliance services.
So traditionally with our up-sell and cross-sell has been more of a transactional model. And so we're making this shift - not in all areas, but in more areas within SQ. And again our pilot show that it helps reduce churn. It helped reduce discounting and it really created a platform for up-sell.
The challenge is, it takes time, right. It takes time to build those relationships and in that interim period you have higher expenses as well as left up-sell to that subset of customers. So again we're very excited about the long-term potential. I think you're right on with the benefits we see at the same way. It's just a matter of it will take time for us to get there.
Okay, thanks for taking the questions.
Thank you.
Your next question comes from Isaac Ro with Goldman Sachs. Your line is open.
Good afternoon, guys. Thanks for taking the question. I want to start briefly with a question around the current business environment. The prior questions touch a little bit on what's going on in regulated ways and I'm curious as the settlement notices have gone out has there been anything surprising that would indicate kind of how you think customers will behave with regard to future contracting over the course of the year? And I'm kind of curious what's baked into your outlook for 2018 guidance on that specific topic?
Yes, so as you alluded to, the notifications went out. They went out over in November and December that period actually is passed and now the time period is passed, the class members to opt out and object the settlement. So we did not see anything noticeable in call volume or discounting.
As I said before, we actually did a little slightly better than we had forecasted on the $45 million of discounting in 2017, as far as what do we do with that information as we go forward into 2018. We still think we'll have discounting and that hasn't change our view of $130 million has not changed and we have obviously in our guidance $45 million in discounting.
In the plan with respect to the next step, the next time would be that when the checks go out, we could get an increase in calls and see in the guidance range obviously included in the guidance range is both upside and downside to SQ performance. I think it's really important to note however, with the settlement, with the notifications going on, even with checks going out that our contractor remain in fact. So far - as far as the direct question or notifications we didn't see any major impact there.
That's helpful. And then just a clarification on the guidance you provided in the slides, the 3% to 5% revenue CAGR over five years is that meant to be an organic number or does it include some M&A and if so how much and I think you guys said on the slide that the FX that you're guiding to was effective of current rates, but then I think in a slide that also said maybe if I could December 31. So please clarify what exchange rate you're using for that guidance? Thank you.
Yes, so the CAGR on growth does not include any acquisitions. It's organic growth and we're using current as of today with respect to foreign exchange.
Got it, thank you guys.
Thanks Isaac.
Your next question comes from Michael Hoffman with Stifel. Your line is open.
Okay, I'll ask this question, the last quarter if you take out SQ year-over-year in the fourth quarter? What was the underlying growth in the rest of to make it medical waste?
We didn't - let me give you this number Michael. It's difficult to result of the puts and takes on the SQ business. When we exclude the patient transfer divestiture, the RWCS grew at a negative 0.5, we not to get back to you with the SQ out of the business.
Okay, so that's okay.
So just over we're clear and comparing, I just want to make sure that you have the right number. If you look at the RWCS rents for the quarter, Q4 organic growth rate was the negative 2.3%. But in that number you had patient transport exits and divestiture, if you move to that which is an easy account to do it. It was negative 0.5% organic growth.
Right. So you gave us a 4% growth number in 3Q for that - the same answer to the - the answer to the same questions, so can you get back to us on that?
Yes. We will get back to you on that.
We'll get back to you on that Michael. I'm sorry we did not…
Okay. And then I got two more Charlie, don't ask…
No, it's fine.
So what is your assumption of FX, since you said it was $12 million in RMW, what's it for the whole revenue number for FX year-over-year for 2018?
The impact in 2018 is $16 million of FX total business and $12 million which is in regulated waste and compliance services, $6 million in M&I, and then we have $2 million favorable that happens in our Secure Information Destruction.
It's depending on where there are in the world exactly.
Yes. Okay. And then you have a slide that shows the water fall off what we thought 2018 was going to be based on being flat and then you did the progressions. I would like to go the other way which is you thought 2017 was going to be 835, it comes out at 812, so what makes up the $23 million miss, what are we dealing over there?
Yes. I will take you through that, Michael and that's really kind of bridging to where we thought that we would be in EPS for Q4 compared to the - our EBITDA I think is what you are asking for.
Yes.
So initially thought Michael that Q4 adjusted EBITDA will be about 20.8%. We did already speak to you about the catch up and acceleration of the non-cash related to depreciation and also some control remediation work that we did. That itself was a combined 285 basis points headwind. You remember the vast majority of that Michael will not repeat. We saw some cost pressures in Europe including the last of the stranded patient transportation.
That was about 45 basis points of headwind. And we had 55 basis points for the SCS business from cost to install a new large LQ contract, some higher fuel and energy and that mix of LQ to SQ, and then we saw 15 basis point of favorability from the solid build out and results of GNRs. That got you to 17.1% EBITA. Remember, I'm going to talk to you regarding Q4 and EBITA and then as I'm giving you guidance going forward and next year we will be speaking about EBITDA going forward.
Okay. And then lastly, in the current guidance of 760 to 810 that assumes $65 million of benefit from all those work you are doing.
It does Michael, and I know - I want to share with you, remember there is some headwinds in the business that a lot of that's going to get absorbed in and it was contemplated in the kinds of directional guidance that we gave in Q3. One of which is, as you know we underperformed in 2017 and we ended that not paying bonuses. So you do have the bonuses comp going back in, $65 million is an offset there. We've already - once you know that we expected 2019 to have a continuation of - sorry 2018, you have the continuation of SQ pricing impact, and then on top of that we now have a few of the other items that we broke out in that waterfall table.
Okay, thank you.
Thanks.
[Operator Instructions] Your next question comes from the line of Gary Bisbee from RBC Capital. Your line is open.
Hey just I wanted to ask a follow-up. Can you give us any more detail on what - where exactly the $60 million to $65 million efficiency this year comes from. What are the categories there? What are the key items that are driving?
Yes, I think if you look at the pillars that we talked about, if you go back to pillars of the slide that we talked about Gary in the presentation, you got operational optimization commercial excellence, org excellence and sourcing. If I rank them in the order of the number one, please we're getting efficiency that $60 million to $65 million was operation optimization.
That will be organizational excellence, which we already executed on that was restructuring that we did in November, and then we'll see some come through sourcing and commercial excellence. But the two are operational optimization obviously getting efficiencies in our operations and the organizational restructuring that we concluded in November.
And Charlie just you did mention I think compliance, IT you said a couple places there was some hiring to support doing what you're going after. But can you give us any more color there? Is there a need for a much deeper bench in a number of various - is there a need for I guess relative to SAP, there is a need for extensive help on the integration front. But how does the ongoing sort of G&A or corporate headcount need to change to accomplish?
Yes, I think you've seen it over the course of the last year, I mean if you think about it between the Chief Accounting Officer, the CIO that we brought in, the new General Counsel that we bought into the business. The investments we made in business transformation in a dedicated team there. We've been building in that bench frame. I mean obviously, it's now in the full run rate of the business, but we've been building that over the last 12 to 18 months.
You're right about SAP, but I will tell you that our CIO has been through ERP implementations before and we've already build a fairly significant internal team, augment obviously without the resources that have not only SAP experience, but SAP conversion experience. So it's been building and I think you've seen it over the last 12 months obviously though now it's in the business.
And we've considered that in our 2018 guidance and, above and beyond what's Charlie shared here, taking a look at really bringing in talent today that can think about what a true global shared service end-to-end process look like. And brining that expertise, they can help us certain blueprinting system that will free us up to have a lot of opportunities for saving down the road.
And so those investments and people are contemplated in our 2018 plan and so I don't anticipate seeing any surprises in SG&A investments and team members because like we've thoroughly consider that.
Thank you, guys. That's helpful.
Thanks Gary.
There are no further questions at this time. I will turn the call back over to the presenters for closing remarks.
Thanks Jesse. In closing I'd like to thank everyone for joining us on today's call and have a great evening. We'll see on the road soon. Take care.
This concludes today's conference call you may now disconnect.