UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-K

 

 

Commission file number 1-12154

Waste Management, Inc.

(Exact name of registrant as specified in its charter)

 

 

Registrant’s telephone number, including area code: (713) 512-6200

 

Securities registered pursuant to Section 12(b) of the Act:

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.  Yes þ     No o

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o     No þ

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulations S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  þ

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes o     No þ

 

The aggregate market value of the voting stock held by non-affiliates of the registrant at June 30, 2008 was approximately $18.5 billion. The aggregate market value was computed by using the closing price of the common stock as of that date on the New York Stock Exchange (“NYSE”). (For purposes of calculating this amount only, all directors and executive officers of the registrant have been treated as affiliates.)

 

The number of shares of Common Stock, $0.01 par value, of the registrant outstanding at February 12, 2009 was 491,461,631 (excluding treasury shares of 138,820,830).

 

DOCUMENTS INCORPORATED BY REFERENCE

 

 

 

TABLE OF CONTENTS

 

 

 

General

 

The financial statements presented in this report represent the consolidation of Waste Management, Inc., a Delaware corporation, our wholly-owned and majority-owned subsidiaries and certain variable interest entities for which we have determined that we are the primary beneficiary. Waste Management, Inc. is a holding company and all operations are conducted by its subsidiaries. When the terms “the Company,” “we,” “us” or “our” are used in this document, those terms refer to Waste Management, Inc., its consolidated subsidiaries and consolidated variable interest entities. When we use the term “WMI,” we are referring only to the parent holding company.

 

WMI was incorporated in Oklahoma in 1987 under the name “USA Waste Services, Inc.” and was reincorporated as a Delaware company in 1995. In a 1998 merger, the Illinois-based waste services company formerly known as Waste Management, Inc. became a wholly-owned subsidiary of WMI and changed its name to Waste Management Holdings, Inc. (“WM Holdings”). At the same time, our parent holding company changed its name from USA Waste Services to Waste Management, Inc. Like WMI, WM Holdings is a holding company and all operations are conducted by subsidiaries. For detail on the financial position, results of operations and cash flows of WMI, WM Holdings and their subsidiaries, see Note 22 to the Consolidated Financial Statements.

 

Our principal executive offices are located at 1001 Fannin Street, Suite 4000, Houston, Texas 77002. Our telephone number at that address is (713) 512-6200. Our website address is http://www.wm.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K are all available, free of charge, on our website as soon as practicable after we file the reports with the SEC. Our stock is traded on the New York Stock Exchange under the symbol “WMI.”

 

We are the leading provider of integrated waste services in North America. Using our vast network of assets and employees, we provide a comprehensive range of waste management services. Through our subsidiaries we provide collection, transfer, recycling, disposal and waste-to-energy services. In providing these services, we actively pursue projects and initiatives that we believe make a positive difference for our environment, including recovering and processing the methane gas produced naturally by landfills into a renewable energy source. Our customers include commercial, industrial, municipal and residential customers, other waste management companies, electric utilities and governmental entities. During 2008, no single customer accounted for more than 1% of our operating revenue. We employed approximately 45,900 people as of December 31, 2008.

 

Strategy

 

Our Company’s goals are targeted at serving five key stakeholders: our customers, our employees, the environment, the communities in which we work, and our shareholders. Our goals are:

 

 

Our primary strategy is to improve our organization and maximize returns to shareholders by focusing on operational excellence, pricing excellence and the profitable growth of our business. Although current economic conditions are presenting challenges to us and others, we believe that continuously working to create more efficient operations and to attract and retain customers while raising prices are the steps that will allow us to weather the current environment. We continue our efforts toward revenue growth through pricing and differentiating our services to retain our customers. Additionally, we are working to lower operating and selling, general and administrative expenses through process standardization and productivity improvements. We do not have control over the general economic conditions that are affecting consumers and businesses, including ours. However, we do

have the ability to react to a changing environment and proactively take steps to reduce the impact that current conditions may have on our operations.

 

In February 2009, we announced that we were taking steps to further streamline our organization by consolidating many of our Market Areas. Our principal operations are managed through six Groups, as described below. Each of our geographic Groups had been further divided into several Market Areas. As a result of our restructuring, the 45 separate Market Areas that we previously operated have been consolidated into 25 Areas. Management at this level of the organization is responsible for selling and marketing our services and coordinating all of our operations within the market. In addition, they implement market-based strategies and plans, and provide staff support in administration, financial control and analysis, human resources, customer service, pricing and business strategy, safety, fleet services, and community and municipal relations. We have found that our larger Market Areas generally were able to achieve efficiencies through economies of scale that were not present in the smaller Market Areas. We have also realigned our Corporate organization with this new structure in order to provide these support functions more efficiently. We currently estimate that this restructuring will eliminate over 1,000 employee positions throughout the Company and result in a restructuring charge of between $40 million and $50 million. We expect to recognize most of this charge during the first quarter of 2009. This realignment is the natural next step in our efforts to lower costs and further standardize processes and improve productivity, and we currently estimate that it will provide annualized cost savings in excess of $100 million.

 

We intend to continue building on our strategy to meet the needs of a changing environment. As the largest waste services provider in North America, we believe we are well positioned to meet the needs of our customers and communities as they, too, Think Green^®. We believe that helping our customers achieve their environmental goals will enable us to achieve profitable growth. We regularly help customers reduce, reuse and recycle the waste they produce. We also focus on ways to convert waste to a usable energy source. By focusing on providing new environmentally responsible and sustainable solutions to our customers’ waste problems, we believe we can create a competitive advantage across all of our lines of business.

 

Our focus on operational excellence has provided us a strong foundation on which to build. We intend to take advantage of strategic opportunities as they arise and continue to seek profitable growth through targeted sales efforts and acquisitions. We also continue to seek to grow our current business in different areas that fit into our current operations. We believe that, even in these challenging economic times, we can make investments that will provide long-term value to our stockholders.

 

Operations

 

General

 

We currently manage and evaluate our principal operations through six operating Groups, of which four are organized by geographic area and two are organized by function. The geographic Groups include our Eastern, Midwest, Southern and Western Groups, and the two functional Groups are our Wheelabrator Group, which provides waste-to-energy services, and our WM Recycle America (“WMRA”) Group, which provides recycling services not managed by our geographic Groups. We also provide additional waste management services that are not managed through our six Groups. These services include in-plant services, where we work at our clients’ facilities to provide full-service waste management solutions and provide opportunities for process improvements and associated cost reductions in their waste management. Other services not managed within our Groups include methane gas recovery, sub-contracted and administrative services performed by our National Accounts and Upstream organizations, portable self-storage, fluorescent lamp recycling and healthcare solutions services, including medical waste disposal. These services are presented in this report as “Other.”

 

The table below shows the total revenues (in millions) contributed annually by each of our reportable segments in the three-year period ended December 31, 2008. More information about our results of operations by reportable

segment is included in Note 20 to the Consolidated Financial Statements and in Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in this report.

 

 

The services we provide include collection, landfill (solid and hazardous waste landfills), transfer, Wheelabrator (waste-to-energy facilities and independent power production plants), recycling and other services, as described below. The following table shows revenues (in millions) contributed by these services for each of the three years indicated:

 

 

Collection.  Our commitment to customers begins with a vast waste collection network. Collection involves picking up and transporting waste from where it was generated to a transfer station or disposal site. We generally provide collection services under one of two types of arrangements:

 

 

Landfill.  Landfills are the main depositories for solid waste in North America. At December 31, 2008, we owned or operated 267 solid waste landfills, which represents the largest network of landfills in North America. Solid waste landfills are built and operated on land with geological and hydrological properties that limit the possibility of water pollution, and are operated under prescribed procedures. A landfill must be maintained to meet federal, state or provincial, and local regulations. The operation and closure of a solid waste landfill includes excavation, construction of liners, continuous spreading and compacting of waste, covering of waste with earth or other inert material and constructing final capping of the landfill. These operations are carefully planned to maintain sanitary conditions, to maximize the use of the airspace and to prepare the site so it can ultimately be used for other purposes.

 

All solid waste management companies must have access to a disposal facility, such as a solid waste landfill. We believe it is usually preferable for our collection operations to use disposal facilities that we own or operate, a practice we refer to as internalization, rather than using third-party disposal facilities. Internalization generally allows us to realize higher consolidated margins and stronger operating cash flows. The fees charged at disposal facilities, which are referred to as tipping fees, are based on several factors, including competition and the type and weight or volume of solid waste deposited.

 

We also operate six secure hazardous waste landfills in the United States. Under federal environmental laws, the federal government (or states with delegated authority) must issue permits for all hazardous waste landfills. All of our hazardous waste landfills have obtained the required permits, although some can accept only certain types of hazardous waste. These landfills must also comply with specialized operating standards. Only hazardous waste in a stable, solid form, which meets regulatory requirements, can be deposited in our secure disposal cells. In some cases, hazardous waste can be treated before disposal. Generally, these treatments involve the separation or removal of solid materials from liquids and chemical treatments that transform waste into inert materials that are no longer hazardous. Our hazardous waste landfills are sited, constructed and operated in a manner designed to provide long-term containment of waste. We also operate a hazardous waste facility at which we isolate treated hazardous waste in liquid form by injection into deep wells that have been drilled in rock formations far below the base of fresh water to a point that is separated by other substantial geological confining layers.

 

Transfer.  At December 31, 2008, we owned or operated 355 transfer stations in North America. We deposit waste at these stations, as do other waste haulers. The solid waste is then consolidated and compacted to reduce the volume and increase the density of the waste and transported by transfer trucks or by rail to disposal sites.

 

Access to transfer stations is often critical to third-party haulers who do not operate their own disposal facilities in close proximity to their collection operations. Fees charged to third parties at transfer stations are usually based on the type and volume or weight of the waste transferred, the distance to the disposal site and general market factors.

 

The utilization of our transfer stations by our own collection operations improves internalization by allowing us to retain fees that we would otherwise pay to third parties for the disposal of the waste we collect. It allows us to manage costs associated with waste disposal because (i) transfer trucks, railcars or rail containers have larger capacities than collection trucks, allowing us to deliver more waste to the disposal facility in each trip; (ii) waste is accumulated and compacted at transfer stations that are strategically located to increase the efficiency of our collection operations; and (iii) we can retain the volume by managing the transfer of the waste to one of our own disposal sites.

 

The transfer stations that we operate but do not own are generally operated through lease agreements under which we lease property from third parties. There are some instances where transfer stations are operated under contract, generally for municipalities. In most cases we own the permits and will be responsible for the regulatory requirements relating to the operation, closure and post closure of the transfer station.

 

Wheelabrator.  As of December 31, 2008, we owned or operated 16 waste-to-energy facilities and five independent power production plants, or IPPs, which are located in the Northeast and in Florida, California and Washington.

 

At our waste-to-energy facilities, solid waste is burned at high temperatures in specially designed boilers to produce heat that is converted into high-pressure steam. As of December 31, 2008, our waste-to-energy facilities

were capable of processing up to 21,100 tons of solid waste each day. In 2008, our waste-to-energy facilities received and processed 7.0 million tons of solid waste, or approximately 19,200 tons per day.

 

Our IPPs convert various waste and conventional fuels into steam. The plants burn wood waste, anthracite coal waste (culm), tires, landfill gas and natural gas. These facilities are integral to the solid waste industry, disposing of urban wood, waste tires, railroad ties and utility poles. Our anthracite culm facility in Pennsylvania processes the waste materials left over from coal mining operations from over half a century ago. Ash remaining after burning the culm is used to reclaim the land damaged by decades of coal mining.

 

We sell the steam produced at our waste-to-energy facilities and IPPs to industrial and commercial users. Steam that is not sold is used to generate electricity for sale to electric utilities. Fees charged for steam and electricity at our waste-to-energy facilities and IPPs are generally subject to the terms and conditions of long-term contracts that include interim adjustments to the prices charged for changes in market conditions such as inflation, natural gas prices and other general market factors.

 

Recycling.  Our WMRA Group focuses on improving the sustainability and future growth of recycling programs within communities and industries. In addition to our WMRA Group, our four geographic operating Groups provide certain recycling services that are embedded within the Groups’ other operations and, therefore, are not included within the WMRA Group’s financial results.

 

Recycling involves the separation of reusable materials from the waste stream for processing and resale or other disposition. Our recycling operations include the following:

 

Collection and materials processing — Through our collection operations, we collect recyclable materials from residential, commercial and industrial customers and direct these materials to one of our material recovery facilities (“MRFs”) for processing. We operate 98 MRFs where paper, metals and plastics are recovered for resale. We also operate six secondary processing facilities where materials received from MRFs can be further processed into raw products used in the manufacturing of consumer goods. Specifically, material processing services include data destruction, automated color sorting, and construction and demolition processing.

 

Plastics and rubber materials recycling — Using state-of-the-art sorting and processing technology, we process, inventory and sell plastic and rubber commodities making the recycling of such items more cost effective and convenient.

 

Electronics recycling services — We recycle discarded computers, communications equipment, and other electronic equipment. Services include the collection, sorting and disassembling of electronics in an effort to reuse or recycle all collected materials.

 

Commodities recycling — We market and resell recyclable commodities to customers world-wide. We manage the marketing of recyclable commodities for our own facilities and for third parties by maintaining comprehensive service centers that continuously analyze market prices, logistics, market demands and product quality.

 

Fees for recycling services are influenced by frequency of collection, type and volume or weight of the recyclable material, degree of processing required, the market value of the recovered material and other market factors.

 

Our WMRA Group purchases recyclable materials processed in our MRFs from various sources, including third parties and other operating subsidiaries of WMI. The cost per ton of material purchased is based on market prices and the cost to transport the finished goods to our customers. The price our WMRA Group pays for recyclable materials is often referred to as a “rebate.” Rebates are generally based upon the price we receive for sales of finished goods and market conditions, but in some cases are based on fixed contractual rates or defined minimum per-ton rates. As a result, changes in commodity prices can significantly affect our revenues, the rebates we pay to our suppliers and our operating income and margins.

 

Other.  We provide in-plant services, in which employees of our Upstream organization work full-time inside our customers’ facilities to provide full-service waste management solutions. Our vertically integrated waste

management operations allow us to provide customers with full management of their waste, including identifying recycling opportunities, minimizing waste, and determining the most efficient means available for waste collection and disposal.

 

We also develop, operate and promote projects for the beneficial use of landfill gas through our Waste Management Renewable Energy Program. Landfill gas is produced naturally as waste decomposes in a landfill. The methane component of the landfill gas is a readily available, renewable energy source that can be gathered and used beneficially as an alternative to fossil fuel. The United States Environmental Protection Agency endorses landfill gas as a renewable energy resource, in the same category as wind, solar and geothermal resources. At December 31, 2008, landfill gas beneficial use projects were producing commercial quantities of methane gas at 111 of our solid waste landfills. At 80 of these landfills, the processed gas is delivered to electricity generators. The electricity is then sold to public utilities, municipal utilities or power cooperatives. At 23 landfills, the gas is delivered by pipeline to industrial customers as a direct substitute for fossil fuels in industrial processes. At eight landfills, the landfill gas is processed to pipeline-quality natural gas and then sold to natural gas suppliers.

 

In addition, we rent and service portable restroom facilities to municipalities and commercial customers under the name Port-O-Let^®, and provide street and parking lot sweeping services. We also have begun providing portable self-storage, fluorescent lamp recycling and healthcare solutions services. From time to time, we are also contracted to construct waste facilities on behalf of third parties.

 

Competition

 

The solid waste industry is very competitive. Competition comes from a number of publicly held solid waste companies, private solid waste companies, large commercial and industrial companies handling their own waste collection or disposal operations and public and private waste-to-energy companies. We also have competition from municipalities and regional government authorities with respect to residential and commercial solid waste collection and solid waste landfills. The municipalities and regional governmental authorities are often able to offer lower direct charges to customers for the same service by subsidizing their costs through the use of tax revenues and tax-exempt financing. Generally, however, municipalities do not provide significant commercial and industrial collection or waste disposal.

 

We compete for disposal business on the basis of tipping fees, geographic location and quality of operations. Our ability to obtain disposal business may be limited in areas where other companies own or operate their own landfills, to which they will send their waste. We compete for collection accounts primarily on the basis of price and quality of services. Operating costs, disposal costs and collection fees vary widely throughout the geographic areas in which we operate. The prices that we charge are determined locally, and typically vary by the volume and weight, type of waste collected, treatment requirements, risk of handling or disposal, frequency of collections, distance to final disposal sites, the availability of airspace within the geographic region, labor costs and amount and type of equipment furnished to the customer. We face intense competition based on pricing and quality of service. Our customer service contracts limit our ability to implement certain price increases and pass through some of our increased costs. From time to time, competitors may reduce the price of their services and accept lower margins in an effort to expand or maintain market share or to successfully obtain competitively bid contracts.

 

Employees

 

At December 31, 2008, we had approximately 45,900 full-time employees, of which approximately 8,000 were employed in administrative and sales positions and the balance in operations. Approximately 11,000 of our employees are covered by collective bargaining agreements.

 

Financial Assurance and Insurance Obligations

 

Financial Assurance

 

Municipal and governmental waste service contracts generally require contracting parties to demonstrate financial responsibility for their obligations under the contract. Financial assurance is also a requirement for obtaining or retaining disposal site or transfer station operating permits. Various forms of financial assurance are

also required by regulatory agencies for estimated closure, post-closure and remedial obligations at many of our landfills. In addition, certain of our tax-exempt borrowings require us to hold funds in trust for the repayment of our interest and principal obligations.

 

We establish financial assurance using surety bonds, letters of credit, insurance policies, trust and escrow agreements and financial guarantees. The type of assurance used is based on several factors; most importantly the jurisdiction, contractual requirements, market factors and availability of credit capacity. The following table summarizes the various forms and dollar amounts (in millions) of financial assurance that we had outstanding as of December 31, 2008:

 

 

 

 

 

The assets held in our funded trust and escrow accounts may be drawn and used to meet the obligations for which the trusts and escrows were established. Other than these permitted draws on funds, virtually no claims have been made against our financial assurance instruments in the past, and considering our current financial position, management does not expect there to be claims against these instruments that will have a material adverse effect on our consolidated financial statements. In an ongoing effort to mitigate the risks of future cost increases and reductions in available capacity, we are continually evaluating various options to access cost-effective sources of financial assurance.

 

Insurance

 

We carry a broad range of insurance coverages, including general liability, automobile liability, real and personal property, workers’ compensation, directors’ and officers’ liability, pollution legal liability and other coverages we believe are customary to the industry. Our exposure to loss for insurance claims is generally limited to the per incident deductible under the related insurance policy. As of December 31, 2008, our per-incident deductible for our general liability program was $2.5 million and our per-incident deductible for our workers’ compensation insurance program was $5 million. As of December 31, 2008, our auto liability insurance program included a per-incident base deductible of $1 million, subject to additional aggregate deductibles in the $1 million to $5 million layer and the $5 million to $10 million layer of $2.4 million and $2.5 million, respectively. Effective January 1, 2009, we increased the per-incident base deductible of our auto liability insurance program to $5 million, subject to an additional aggregate deductible in the $5 million to $10 million range of $4.8 million. We do not expect the impact of any known casualty, property, environmental or other contingency to have a material impact on our financial condition, results of operations or cash flows. Our estimated insurance liabilities as of December 31, 2008 are summarized in Note 10 to the Consolidated Financial Statements.

 

Regulation

 

Our business is subject to extensive and evolving federal, state or provincial and local environmental, health, safety and transportation laws and regulations. These laws and regulations are administered by the U.S. EPA and various other federal, state and local environmental, zoning, transportation, land use, health and safety agencies in the United States and various agencies in Canada. Many of these agencies regularly examine our operations to monitor compliance with these laws and regulations and have the power to enforce compliance, obtain injunctions or impose civil or criminal penalties in case of violations.

 

Because the major component of our business is the collection and disposal of solid waste in an environmentally sound manner, a significant amount of our capital expenditures is related, either directly or indirectly, to environmental protection measures, including compliance with federal, state or provincial and local provisions that regulate the placement of materials into the environment. There are costs associated with siting, design, operations, monitoring, site maintenance, corrective actions, financial assurance, and facility closure and post-closure obligations. In connection with our acquisition, development or expansion of a disposal facility or transfer station, we must often spend considerable time, effort and money to obtain or maintain required permits and approvals. There cannot be any assurances that we will be able to obtain or maintain required governmental approvals. Once obtained, operating permits are subject to renewal, modification, suspension or revocation by the issuing agency. Compliance with these and any future regulatory requirements could require us to make significant capital and operating expenditures. However, most of these expenditures are made in the normal course of business and do not place us at any competitive disadvantage.

The primary United States federal statutes affecting our business are summarized below:

 

 

The EPA has issued new source performance standards and emission guidelines for large and small municipal waste-to-energy facilities, which include stringent emission limits for various pollutants based on Maximum Achievable Control Technology standards. These sources are also subject to operating permit requirements under Title V of the Clean Air Act. The Clean Air Act requires the EPA to review and revise the MACT standards applicable to municipal waste-to-energy facilities every five years.

 

 

There are also various state or provincial and local regulations that affect our operations. Sometimes states’ regulations are stricter than federal laws and regulations when not otherwise preempted by federal law. Additionally, our collection and landfill operations could be affected by legislative and regulatory measures requiring or encouraging waste reduction at the source and waste recycling.

 

Various states have enacted, or are considering enacting, laws that restrict the disposal within the state of solid waste generated outside the state. While laws that overtly discriminate against out-of-state waste have been found to be unconstitutional, some laws that are less overtly discriminatory have been upheld in court. Additionally, certain state and local governments have enacted “flow control” regulations, which attempt to require that all waste generated within the state or local jurisdiction be deposited at specific sites. In 1994, the United States Supreme Court ruled that a flow control ordinance that gave preference to a local facility that was privately owned was unconstitutional, but in 2007 the Court ruled that an ordinance directing waste to a facility owned by the local government was constitutional. In addition, from time to time, the United States Congress has considered legislation authorizing states to adopt regulations, restrictions, or taxes on the importation of out-of-state or out-of-jurisdiction waste. The United States Congress’ adoption of legislation allowing restrictions on interstate transportation of out-of-state or out-of-jurisdiction waste or certain types of flow control or the adoption of legislation affecting interstate transportation of waste at the state level could adversely affect our operations. Courts’ interpretation of flow control legislation or the Supreme Court decisions also could adversely affect our solid and hazardous waste management services.

 

Many states, provinces and local jurisdictions have enacted “fitness” laws that allow the agencies that have jurisdiction over waste services contracts or permits to deny or revoke these contracts or permits based on the applicant or permit holder’s compliance history. Some states, provinces and local jurisdictions go further and consider the compliance history of the parent, subsidiaries or affiliated companies, in addition to the applicant or permit holder. These laws authorize the agencies to make determinations of an applicant or permit holder’s fitness to be awarded a contract to operate, and to deny or revoke a contract or permit because of unfitness, unless there is a showing that the applicant or permit holder has been rehabilitated through the adoption of various operating policies and procedures put in place to assure future compliance with applicable laws and regulations.

 

See Note 10 to the Consolidated Financial Statements for disclosures relating to our current assessments of the impact of regulations on our current and future operations.

 

In an effort to keep our shareholders and the public informed about our business, we may make “forward-looking statements.” Forward-looking statements usually relate to future events and anticipated revenues, earnings, cash flows or other aspects of our operations or operating results. Forward-looking statements generally include statements containing:

 

 

You should view these statements with caution. These statements are not guarantees of future performance, circumstances or events. They are based on facts and circumstances known to us as of the date the statements are made. All phases of our business are subject to uncertainties, risks and other influences, many of which we do not control. Any of these factors, either alone or taken together, could have a material adverse effect on us and could change whether any forward-looking statement ultimately turns out to be true. Additionally, we assume no obligation to update any forward-looking statement as a result of future events, circumstances or developments. The following discussion should be read together with the Consolidated Financial Statements and the notes thereto. Outlined below are some of the risks that we believe could affect our business and financial statements for 2009 and beyond.

 

General economic conditions can adversely affect our revenues and our operating margins.

 

Our business is affected by changes in national and general economic factors that are outside of our control, including consumer confidence, interest rates and access to capital markets. Although our services are of an essential nature, a weak economy generally results in decreases in volumes of waste generated, which decreases our revenues. Additionally, consumer uncertainty and the loss of consumer confidence may limit the number or amount of services requested by customers and our ability to increase customers’ pricing. During weak economic conditions we may also be adversely impacted by customers’ inability to pay us in a timely manner, if at all, due to their financial difficulties, which could include bankruptcies. The availability of credit in the second half of 2008 was severely limited, which negatively affected business and consumer spending generally. If our customers do not have access to capital, we do not expect that our volumes will improve or that we will increase new business.

 

We have $2.8 billion of debt as of December 31, 2008 that is exposed to changes in market interest rates because of the combined impact of our variable rate tax-exempt bonds and our interest rate swap agreements. Therefore, any increase in interest rates can significantly increase our interest expenses. Additionally, the unavailability of credit on favorable terms can adversely impact our growth, development and capital spending plans.

 

The waste industry is highly competitive, and if we cannot successfully compete in the marketplace, our business, financial condition and operating results may be materially adversely affected.

 

We encounter intense competition from governmental, quasi-governmental and private sources in all aspects of our operations. In North America, the industry consists of two national waste management companies, regional companies and local companies of varying sizes and financial resources. We compete with these companies as well as with counties and municipalities that maintain their own waste collection and disposal operations. These counties and municipalities may have financial competitive advantages because tax revenues are available to them and tax-exempt financing is more readily available to them. Also, such governmental units may attempt to impose flow control or other restrictions that would give them a competitive advantage.

 

In addition, competitors may reduce their prices to expand sales volume or to win competitively bid contracts. When this happens, we may roll-back prices or offer lower pricing to attract or retain our customers, resulting in a negative impact to our revenue growth from yield on base business.

If we do not successfully manage our costs, or do not successfully implement our plans and strategies to improve margins, our income from operations could be lower than expected.

 

In recent years, we have implemented several profit improvement initiatives aimed at lowering our costs and enhancing our revenues.

 

We have implemented price increases and environmental fees, and we have continued our fuel surcharge program, all of which have increased our internal revenue growth. The loss of volumes as a result of price increases may negatively affect our cash flows or results of operations. We continue to seek to divest under-performing and non-strategic assets if we cannot improve their profitability. We may not be able to successfully negotiate the divestiture of under-performing and non-strategic operations, which could result in asset impairments or the continued operation of low-margin businesses. Additionally, in February 2009 we announced that we had taken steps to realign our field operations to combine several of our Market Areas in an effort to achieve greater economies of scale in our local and regional operations and our Corporate organization to provide support functions more efficiently. If we are not able to fully or successfully implement our plans and strategies for any reason, many of which are out of our control, we may not see the expected improvements in our income from operations or our operating margins.

 

The seasonal nature of our business causes our quarterly results to fluctuate, and prior performance is not necessarily indicative of our future results.

 

Our operating revenues tend to be somewhat higher in summer months, primarily due to the higher volume of construction and demolition waste. The volumes of industrial and residential waste in certain regions where we operate also tend to increase during the summer months. Our second and third quarter revenues and results of operations typically reflect these seasonal trends. Additionally, certain destructive weather conditions that tend to occur during the second half of the year, such as the hurricanes generally experienced by our Southern Group, actually increase our revenues in the areas affected. However, for several reasons, including significant start-up costs, such revenue often generates earnings at comparatively lower margins. Certain weather conditions may result in the temporary suspension of our operations, which can significantly affect the operating results of the affected regions. The operating results of our first quarter also often reflect higher repair and maintenance expenses because we rely on the slower winter months, when waste flows are generally lower, to perform scheduled maintenance at our waste-to-energy facilities.

 

For these and other reasons, operating results in any interim period are not necessarily indicative of operating results for an entire year, and operating results for any historical period are not necessarily indicative of operating results for a future period.

 

We cannot predict with certainty the extent of future costs under environmental, health and safety laws, and cannot guarantee that they will not be material.

 

We could be liable if our operations cause environmental damage to our properties or to the property of other landowners, particularly as a result of the contamination of air, drinking water or soil. Under current law, we could even be held liable for damage caused by conditions that existed before we acquired the assets or operations involved. Also, we could be liable if we arrange for the transportation, disposal or treatment of hazardous substances that cause environmental contamination, or if a predecessor owner made such arrangements and under applicable law we are treated as a successor to the prior owner. Any substantial liability for environmental damage could have a material adverse effect on our financial condition, results of operations and cash flows.

 

In the ordinary course of our business, we have in the past, and may in the future, become involved in a variety of legal and administrative proceedings relating to land use and environmental laws and regulations. These include proceedings in which:

 

 

 

We generally seek to work with the authorities or other persons involved in these proceedings to resolve any issues raised. If we are not successful, the adverse outcome of one or more of these proceedings could result in, among other things, material increases in our costs or liabilities as well as material charges for asset impairments.

 

The waste industry is subject to extensive government regulation, and existing or future regulations may restrict our operations, increase our costs of operations or require us to make additional capital expenditures.

 

Stringent government regulations at the federal, state, provincial, and local level in the United States and Canada have a substantial impact on our business. A large number of complex laws, rules, orders and interpretations govern environmental protection, health, safety, land use, zoning, transportation and related matters. Among other things, they may restrict our operations and adversely affect our financial condition, results of operations and cash flows by imposing conditions such as:

 

 

Regulations affecting the siting, design and closure of landfills could require us to undertake investigatory or remedial activities, curtail operations or close landfills temporarily or permanently. Future changes in these regulations may require us to modify, supplement or replace equipment or facilities. The costs of complying with these regulations could be substantial.

 

In order to develop, expand or operate a landfill or other waste management facility, we must have various facility permits and other governmental approvals, including those relating to zoning, environmental protection and land use. The permits and approvals are often difficult, time consuming and costly to obtain and could contain conditions that limit our operations.

 

Governmental authorities may enact climate change regulations that could increase our costs to operate.

 

Environmental advocacy groups and regulatory agencies in the United States have been focusing considerable attention on the emissions of greenhouse gases and their potential role in climate change. The adoption of laws and regulations to implement controls of greenhouse gases, including the imposition of fees or taxes, could adversely affect our collection and disposal operations. Additionally, certain of the states in which we operate are contemplating air pollution control regulations that are more stringent than existing and proposed federal regulations. Changing environmental regulations could require us to take any number of actions, including the purchase of emission allowances or installation of additional pollution control technology, and could make some operations less profitable, which could adversely affect our results of operations.

 

Significant shortages in fuel supply or increases in fuel prices will increase our operating expenses.

 

The price and supply of fuel are unpredictable, and can fluctuate significantly based on international, political and economic circumstances, as well as other factors outside our control, such as actions by the Organization of the Petroleum Exporting Countries, or OPEC, and other oil and gas producers, regional production patterns, weather conditions and environmental concerns. We have seen average quarterly fuel prices increase by as much as 56% on a year-over-year basis and decrease by as much as 9% on a year-over-year basis within the last two years. We need fuel to run our collection and transfer trucks and equipment used in our landfill operations. Supply shortages could substantially increase our operating expenses. Additionally, as fuel prices increase, our direct operating expenses

increase and many of our vendors raise their prices as a means to offset their own rising costs. We have in place a fuel surcharge program, designed to offset increased fuel expenses; however, we may not be able to pass through all of our increased costs and some customers’ contracts prohibit any pass through of the increased costs. We may initiate other programs or means to guard against the rising costs of fuel, although there can be no assurances that we will be able to do so or that such programs will be successful. Regardless of any offsetting surcharge programs, the increased operating costs will decrease our operating margins.

 

We have substantial financial assurance and insurance requirements, and increases in the costs of obtaining adequate financial assurance, or the inadequacy of our insurance coverages, could negatively impact our liquidity and increase our liabilities.

 

The amount of insurance we are required to maintain for environmental liability is governed by statutory requirements. We believe that the cost for such insurance is high relative to the coverage it would provide, and therefore, our coverages are generally maintained at the minimum statutorily required levels. We face the risk of incurring additional costs for environmental damage if our insurance coverage is ultimately inadequate to cover those damages. We also carry a broad range of insurance coverages that are customary for a company our size. We use these programs to mitigate risk of loss, thereby allowing us to manage our self-insurance exposure associated with claims. The inability of our insurers to meet their commitments in a timely manner and the effect of significant claims or litigation against insurance companies may subject us to additional risks. To the extent our insurers were unable to meet their obligations, or our own obligations for claims were more than we estimated, there could be a material adverse effect to our financial results.

 

In addition, to fulfill our financial assurance obligations with respect to environmental closure and post-closure obligations, we generally obtain letters of credit or surety bonds, rely on insurance, including captive insurance, fund trust and escrow accounts or rely upon WMI financial guarantees. We currently have in place all financial assurance instruments necessary for our operations. We do not anticipate any unmanageable difficulty in obtaining financial assurance instruments in the future, although general economic factors may adversely affect the cost of our current financial assurance instruments. Additionally, in the event we are unable to obtain sufficient surety bonding, letters of credit or third-party insurance coverage at reasonable cost, or one or more states cease to view captive insurance as adequate coverage, we would need to rely on other forms of financial assurance. It is possible that we could be forced to deposit cash to collateralize our obligations. Other forms of financial assurance could be more expensive to obtain, and any requirements to use cash to support our obligations would negatively impact our liquidity and capital resources and could affect our ability to meet our obligations as they become due.

 

We may record material charges against our earnings due to any number of events that could cause impairments to our assets.

 

In accordance with generally accepted accounting principles, we capitalize certain expenditures and advances relating to disposal site development, expansion projects, acquisitions, software development costs and other projects. Events that could, in some circumstances, lead to an impairment include, but are not limited to, shutting down a facility or operation or abandoning a development project or the denial of an expansion permit. If we determine a development or expansion project is impaired, we will charge against earnings any unamortized capitalized expenditures and advances relating to such facility or project reduced by any portion of the capitalized costs that we estimate will be recoverable, through sale or otherwise. We also carry a significant amount of goodwill on our Consolidated Balance Sheet, which is required to be assessed for impairment annually, and more frequently in the case of certain triggering events. The recent downturn in the recycling commodities market could potentially cause the carrying value of WMRA’s assets to be lower than their fair value, resulting in an impairment to goodwill.

 

We may be required to incur charges against earnings if we determine that events such as those described cause impairments. Any such charges could have a material adverse effect on our results of operations.

 

Our revenues will fluctuate based on changes in commodity prices.

 

Our recycling operations process for sale certain recyclable materials, including fibers, aluminum and glass, all of which are subject to significant market price fluctuations. The majority of the recyclables that we process for

sale are paper fibers, including old corrugated cardboard, known as OCC, and old newsprint, or ONP. The fluctuations in the market prices or demand for these commodities can affect our operating income and cash flows, as we experienced in 2008. In the fourth quarter of 2008, the monthly market prices for OCC and ONP fell by 79% and 72%, respectively, from their high points within the year. The decline in market prices for commodities resulted in a fourth quarter 2008 year-over-year decrease in revenue of almost $100 million. Additionally, our recycling operations offer rebates to suppliers. Therefore, even if we experience higher revenues based on increased market prices for commodities, the rebates we pay will also increase and in some circumstances, the rebates may have floors even as market prices decrease, which could eliminate any expected profit margins.

 

Additionally, there may be significant price fluctuations in the price of methane gas, electricity and other energy related products that are marketed and sold by our landfill gas recovery, waste-to-energy and independent power production plant operations. The marketing and sales of energy related products by our landfill gas and waste-to-energy operations are generally pursuant to long-term sales agreements. Therefore, market volatility does not cause our quarterly results to fluctuate significantly. However, as longer-term agreements expire and are up for renewal, or as market prices remain at lower levels for sustained periods, our revenues will be adversely affected. Additionally, revenues from our independent power production plants can be affected by price fluctuations. In the past two years, the year-over-year changes in the average quarterly electricity prices have ranged from increases of as much as 26% to decreases of as much as 5%.

 

The development and acceptance of alternatives to landfill disposal and waste-to-energy facilities could reduce our ability to operate at full capacity.

 

Our customers are increasingly using alternatives to landfill and waste-to-energy disposal, such as recycling and composting. In addition, some state and local governments mandate recycling and waste reduction at the source and prohibit the disposal of certain types of waste, such as yard waste, at landfills or waste-to-energy facilities. Although such mandates are a useful tool to protect our environment, these developments reduce the volume of waste going to landfills and waste-to-energy facilities in certain areas, which may affect our ability to operate our landfills and waste-to-energy facilities at full capacity, as well as the prices that we can charge for landfill disposal and waste-to-energy services.

 

Our operating expenses could increase as a result of labor unions organizing or changes in regulations related to labor unions.

 

Labor unions constantly make attempts to organize our employees, and these efforts will likely continue in the future. Certain groups of our employees have already chosen to be represented by unions, and we have negotiated collective bargaining agreements with some of the groups. Additional groups of employees may seek union representation in the future, and, if successful, the negotiation of collective bargaining agreements could divert management attention and result in increased operating expenses and lower net income. Considerable attention has been focused on proposed legislation that could amend the National Labor Relations Act that would make it easier for unions to become recognized as the bargaining representative for employees. Depending on the form of legislation, if any, that is ultimately enacted, it is reasonably possible that our operating expenses would increase as a result of the provisions of such legislation. If we are unable to negotiate acceptable collective bargaining agreements, or future legislation requires us to submit the terms of employment to binding arbitration in the event an agreement cannot be reached in a timely manner, our operating expenses could increase significantly as a result of work stoppages, including strikes, or unfavorable terms in agreements that result from arbitration. Any of these matters could adversely affect our financial condition, results of operations and cash flows.

 

Currently pending or future litigation or governmental proceedings could result in material adverse consequences, including judgments or settlements.

 

We are involved in civil litigation in the ordinary course of our business and from time-to-time are involved in governmental proceedings relating to the conduct of our business. The timing of the final resolutions to these types of matters is often uncertain. Additionally, the possible outcomes or resolutions to these matters could include adverse judgments or settlements, either of which could require substantial payments, adversely affecting our liquidity.

We are increasingly dependent on technology in our operations and if our technology fails, our business could be adversely affected.

 

We may experience problems with either the operation of our current information technology systems or the development and deployment of new information technology systems that could adversely affect, or even temporarily disrupt, all or a portion of our operations until resolved. We encountered problems with the revenue management application that we had been piloting throughout 2007, resulting in the termination of the pilot, which has impeded our ability to realize improved operating margins as a result of a new system. Inabilities and delays in implementing new systems can also affect our ability to realize projected or expected cost savings. There can be no assurances that our issues related to the licensed application will not ultimately result in an impairment charge, which could be material.

 

Additionally, any systems failures could impede our ability to timely collect and report financial results in accordance with applicable laws and regulations.

 

We may experience adverse impacts on our reported results of operations as a result of adopting new accounting standards or interpretations.

 

Our implementation of and compliance with changes in accounting rules, including new accounting rules and interpretations, could adversely affect our reported operating results or cause unanticipated fluctuations in our reported operating results in future periods.

 

Unforeseen circumstances could result in a need for additional capital.

 

We currently expect to meet our anticipated cash needs for capital expenditures, scheduled debt repayments, acquisitions and other cash expenditures with our cash flows from operations and, to the extent necessary and available, additional financings. However, materially adverse events, including recent economic conditions, may reduce our cash flows from operations. Our Board of Directors has approved a capital allocation program for 2009 that provides for up to $1.3 billion in aggregate dividend payments, share repurchases, acquisitions and debt reductions. In December 2008, we announced that we expect future quarterly dividend payments, when declared by the Board of Directors, to be $0.29 per share. If the impact on our cash flows from operations is significant, we may need to reduce capital expenditures, acquisition activity or dividend declarations unless we are able to incur indebtedness to either pay for these activities or refinance our scheduled debt maturities. In light of the recent state of the credit markets, there can be no assurances that we will be able to obtain additional financings on acceptable terms. In these circumstances, we would likely use our revolving credit facility to meet our cash needs, to the extent available. As of December 31, 2008, we had $297 million of capacity under our revolving credit facility.

 

In the event of a default under our credit facility, we could be required to immediately repay all outstanding borrowings and make cash deposits as collateral for all obligations the facility supports, which we may not be able to do. Additionally, any such default could cause a default under many of our other credit agreements and debt instruments. Any such default would have a material adverse effect on our ability to operate.

 

 

None.

 

 

Our principal executive offices are in Houston, Texas, where we lease approximately 400,000 square feet under leases expiring at various times through 2020. Our operating Group offices are in Pennsylvania, Illinois, Georgia, Arizona, New Hampshire and Texas. We also have field-based administrative offices in Arizona and Illinois. We own or lease real property in most locations where we have operations. We have operations in each of the fifty states other than Montana and Wyoming. We also have operations in the District of Columbia, Puerto Rico and throughout Canada.

 

Our principal property and equipment consists of land (primarily landfills and other disposal facilities, transfer stations and bases for collection operations), buildings, vehicles and equipment. We believe that our vehicles, equipment, and operating properties are adequately maintained and sufficient for our current operations. However,

we expect to continue to make investments in additional equipment and property for expansion, for replacement of assets, and in connection with future acquisitions. For more information, see Management’s Discussion and Analysis of Financial Condition and Results of Operations included within this report.

 

The following table summarizes our various operations at December 31 for the periods noted:

 

 

The following table provides certain information by Group regarding the 239 landfills owned or operated through lease agreements and a count, by Group, of contracted disposal sites as of December 31, 2008:

 

 

 

 

 

Information regarding our legal proceedings can be found under the Litigation section of Note 10 in the Consolidated Financial Statements included in this report.

 

 

We did not submit any matters to a vote of our stockholders during the fourth quarter of 2008.

 

 

Our common stock is traded on the New York Stock Exchange (“NYSE”) under the symbol “WMI.” The following table sets forth the range of the high and low per share sales prices for our common stock as reported on the NYSE:

 

 

On February 12, 2009, the closing sale price as reported on the NYSE was $29.26 per share. The number of holders of record of our common stock at February 12, 2009 was 14,899.

The graph below shows the relative investment performance of Waste Management, Inc. common stock, the Dow Jones Waste & Disposal Services Index and the S&P 500 Index for the last five years, assuming reinvestment of dividends at date of payment into the common stock. The graph is presented pursuant to SEC rules and is not meant to be an indication of our future performance.

 

Comparison of Cumulative Five Year Total Return

 

 

 

In October 2004, we announced that our Board of Directors approved a capital allocation program authorizing up to $1.2 billion of stock repurchases and dividend payments annually for each of 2005, 2006 and 2007. In December 2007, we announced that our Board of Directors had approved a capital allocation plan for 2008 that authorized up to $1.4 billion of stock repurchases and dividends. Under these programs we paid quarterly cash dividends of $0.22 per share for a total of $476 million in 2006; $0.24 per share for a total of $495 million in 2007; and $0.27 per share for a total of $531 million in 2008.

 

We repurchased 31 million shares of our common stock for $1,072 million in 2006; 40 million shares of our common stock for $1,421 million in 2007; and 12 million shares of our common stock for $410 million in 2008. Our share repurchases in each year have been pursuant to Board authorized capital allocation programs, which were modified in both 2006 and 2007 by our Board of Directors to increase the amount of capital authorized for share repurchases by $350 million and $900 million, respectively. In 2008, all of our common stock repurchases occurred between January and July. In July 2008, we suspended our repurchases in connection with our proposal to acquire all of the outstanding stock of Republic Services, Inc., and when the proposal was withdrawn in October 2008, we determined that, given the state of the financial markets, it would be prudent to suspend repurchases for the foreseeable future. As a result, there are no repurchases to report for the three months ended December 31, 2008 and the repurchases made during 2008 are significantly less than that which was authorized.

 

The information below was derived from the audited Consolidated Financial Statements included in this report and in previous annual reports we filed with the SEC. This information should be read together with those Consolidated Financial Statements and the notes thereto. The adoption of new accounting pronouncements, changes in certain accounting policies and certain reclassifications impact the comparability of the financial information presented below. These historical results are not necessarily indicative of the results to be expected in the future.

 

 

 

 

This section includes a discussion of our operations for the three years ended December 31, 2008. This discussion may contain forward-looking statements that anticipate results based on management’s plans that are subject to uncertainty. We discuss in more detail various factors that could cause actual results to differ from expectations in Item 1A, Risk Factors. The following discussion should be read in light of that disclosure and together with the Consolidated Financial Statements and the notes to the Consolidated Financial Statements.

 

Overview

 

In 2008, we saw significant changes in the environment in which we operate, including severe economic uncertainty, increasing market volatility and continued tightening of credit markets, as well as a merger of two of the largest industry competitors. The market conditions in 2008 contributed to record high fuel and commodity prices during most of the year and nearly unprecedented drops in these commodity prices in the second half of the year. We often note that we are a recession resilient industry, but in challenging economic times, reduced consumer and business spending means less waste is being produced. Additionally, businesses across the country are experiencing slower demands for their products and services and a tightening of the credit markets, which makes it more difficult for many of our customers to pay their bills, leading to decreases in the services they request and, in some cases, cancelling our services all together.

 

Against this backdrop, we believe that our results of operations show just how successful we have been in improving our business. The highlights in 2008 include:

 

 

 

 

 

We experienced revenue increases during each of the first three quarters of 2008 as compared with 2007, followed by a significant decline in revenues in the fourth quarter caused primarily by the effect of the recycling commodities markets and the decrease in revenues from our fuel surcharge program. Our pricing program, which focuses on ensuring that we receive appropriate pricing for all of our services, continued to provide significant increases in our revenues from base business yield during 2008, reflecting our commitment to pricing discipline

despite the economic environment. We are committed to our pricing excellence program, and do not intend to take volumes at prices that do not cover our costs and provide strong operating margins.

 

Our operating costs increased by $64 million, or less than one percent, in 2008 as compared with 2007. The largest contributors to the increase were the result of conditions discussed above. The negative effect of these cost increases was offset, in part, by benefits from our focus on operating efficiencies, managing fixed costs and reducing variable costs as our volumes decline due to (i) the slowdown in the economy; (ii) our pricing program; and (iii) divestitures.

 

Our selling, general and administrative expenses increased by $45 million, or 3.1%, in 2008 as compared with 2007. The increase is largely attributable to increased labor costs as a result of merit increases, headcount increases, higher compensation costs associated with our equity-based compensation program for our senior employees, and higher insurance and benefit costs. We have also seen an increase in bad debt expense as a result of the weakened economy. Finally, we have incurred significant costs for our business development initiatives, which are focused on gaining new customers and entering new lines of business that are complementary to our core operations. These are costs that we believe are necessary to position Waste Management as a leading environmental solutions provider.

 

As is our practice, we are including free cash flow, which is a non-GAAP measure of liquidity, in our disclosures because we use this measure in the evaluation and management of our business. We also believe it is indicative of our ability to pay our quarterly dividends, repurchase common stock, fund acquisitions and other investments and, in the absence of refinancings, to repay our debt obligations. Free cash flow is not intended to replace “Net cash provided by operating activities,” which is the most comparable GAAP measure. However, we believe free cash flow gives investors greater insight into how we view our liquidity. Nonetheless, the use of free cash flow as a liquidity measure has material limitations because it excludes certain expenditures that are required or that we have committed to, such as declared dividend payments and debt service requirements.

 

We calculate free cash flow as shown in the table below (in millions), which may not be the same as similarly titled measures presented by other companies:

 

 

Our free cash flow in 2008 exceeded the $1.4 billion we targeted for the year, which we believe is indicative of our continued ability to generate strong cash flow from our operations even in a challenging economic environment. The decrease in our free cash flow when comparing 2008 with 2007 is due to decreased proceeds from divestitures, which is largely a result of having fewer underperforming operations to sell as part of our fix-or-seek-exit initiative, offset in large part by growth in our net cash provided by operating activities.

 

Outlook

 

In 2008, we experienced challenges associated with changing market conditions, which caused significant volatility in fuel and recyclable commodity prices, and the tightening of the economy, which has put negative pressure on both consumer and business spending, resulting in less consumption and waste produced. However, we are encouraged that our 2008 results demonstrate that the cornerstones of our business are resilient in a difficult economic environment. We believe we are well positioned to weather the current economic downturn. In 2009, we will focus on (i) ensuring that we are operating efficiently; and (ii) generating strong and consistent free cash flow.

 

In February 2009, we announced that we are taking steps to further streamline our organization by consolidating many of our Market Areas. As a result of our restructuring, the 45 separate Market Areas that we previously operated have been consolidated into 25 Areas. We currently estimate that this restructuring will eliminate over

1,000 employee positions throughout the Company and result in a restructuring charge of between $40 million and $50 million. We expect to recognize most of this charge during the first quarter of 2009. This realignment is the next step in our efforts to lower costs and further standardize processes and improve productivity, and we currently estimate that it will provide annualized cost savings in excess of $100 million.

 

Although we expect that our net cash provided by operating activities may be negatively affected by general economic conditions, we believe that we will continue to generate strong cash flow from operations, which, along with our available cash, will provide sufficient liquidity to allow us to return value to our shareholders. Our 2009 capital allocation program provides for up to $1.3 billion in aggregate dividend payments, share repurchases, acquisitions and debt reductions. In 2009, we have significant debt repayment obligations, and while we currently intend to refinance a significant portion of the required repayments on a long-term basis, it is possible that we may not have access to the credit markets on acceptable terms. If the credit markets are not available to us, or are not available on terms we deem acceptable, we expect to rely on our available cash, our existing credit facility and the cash we generate from our operations to meet our debt repayment and other obligations. Our discretionary spending includes acquisitions of assets and businesses, dividends, repurchases of our common stock and certain capital expenditures. To the extent operating cash flows decline or are needed to support our debt repayment obligations, we have the ability to reduce our discretionary spending and still deliver superior service to our customers and a strong financial performance for our stockholders.

 

Over the years, the recyclables that we process have been subject to significant market price fluctuations, and in the first three quarters of 2008, increases in the prices of recycling commodities contributed to our revenue growth, margin expansion and earnings. However, our fourth quarter 2008 operating results reflect the significant dislocation in the commodities markets, including substantial reductions in demand both domestically and internationally. In this environment, we have experienced sharp declines in commodity prices and a degree of difficulty in selling recyclable commodities, including at contractually defined prices. We currently expect this market downturn to reduce our revenues and negatively affect our earnings and operating cash flows in 2009. Further, a sustained period of depressed commodity prices and/or demand for recyclables could result in a significant decline in the estimated fair value of WMRA, which could require us to record a non-cash impairment charge to their goodwill.

 

As discussed in our Overview, the cost of fuel also fell significantly in the second half of 2008. We do not expect future volatility in fuel prices to significantly affect our income from operations. However, we do expect the sharp decline in fuel prices to significantly reduce (i) the revenue provided by our fuel surcharge program; and (ii) our direct and indirect fuel costs in 2009 as compared with 2008.

 

Technology Update — On March 20, 2008, we filed a lawsuit in state court in the Southern District of Texas against SAP AG and SAP America, Inc., alleging fraud and breach of contract. The lawsuit relates to our 2005 software license from SAP for a waste and recycling revenue management system and agreement for SAP to implement the software on a fixed-fee basis. We have been assigned a trial date in October 2009. As we continue to assess the alternatives available to us, we may determine that the best course of action is to abandon the SAP revenue management system, which would result in an impairment charge of between $45 million and $55 million.

 

Basis of Presentation of Consolidated and Segment Financial Information

 

Accounting Changes — Effective January 1, 2008, we adopted SFAS No. 157 for assets and liabilities recognized at fair value on a recurring basis. Our adoption of SFAS No. 157 during the first quarter of 2008 resulted in the recognition of a $6 million charge to operating expenses and a corresponding $3 million credit to minority interest expense for the re-measurement of the fair value of environmental remediation recovery assets accounted for in accordance with Statement of Position No. 96-1, Environmental Remediation Liabilities. The adoption of SFAS No. 157 did not materially affect our consolidated financial position, results of operations or cash flows. Refer to Note 17 for information about our fair value measurements.

 

Effective January 1, 2007, we adopted FIN 48 and FSP No. 48-1. FIN 48 prescribes a recognition threshold and measurement attribute for financial statement recognition and measurement of tax positions taken or expected to be taken in tax returns. In addition, FIN 48 provides guidance on the de-recognition, classification and disclosure of tax positions, as well as the accounting for related interest and penalties. FSP No. 48-1 provides guidance associated

with the criteria that must be evaluated in determining if a tax position has been effectively settled and should be recognized as a tax benefit.

 

Refer to Note 2 of our Consolidated Financial Statements for additional information related to the impact of the implementation of these new accounting pronouncements on our results of operations and financial position.

 

Reclassification of Segment Information — During the second quarter of 2008, we moved certain Canadian business operations from the Western Group to the Midwest Group to facilitate improved business execution. We have reflected the impact of this change for all periods presented to provide financial information that consistently reflects our current approach to managing our operations.

 

Critical Accounting Estimates and Assumptions

 

In preparing our financial statements, we make numerous estimates and assumptions that affect the accounting for and recognition and disclosure of assets, liabilities, stockholders’ equity, revenues and expenses. We must make these estimates and assumptions because certain information that we use is dependent on future events, cannot be calculated with a high degree of precision from data available or simply cannot be readily calculated based on generally accepted methodologies. In some cases, these estimates are particularly difficult to determine and we must exercise significant judgment. In preparing our financial statements, the most difficult, subjective and complex estimates and the assumptions that deal with the greatest amount of uncertainty relate to our accounting for landfills, environmental remediation liabilities, asset impairments and self-insurance reserves and recoveries, as described below. Actual results could differ materially from the estimates and assumptions that we use in the preparation of our financial statements.

 

Landfills — The cost estimates for final capping, closure and post-closure activities at landfills for which we have responsibility are estimated based on our interpretations of current requirements and proposed or anticipated regulatory changes. We also estimate additional costs, pursuant to the requirements of SFAS No. 143, based on the amount a third party would charge us to perform such activities even when we expect to perform these activities internally. We estimate the airspace to be consumed related to each final capping event and the timing of construction related to each final capping event and of closure and post-closure activities. Because landfill final capping, closure and post-closure obligations are measured at estimated fair value using present value techniques, changes in the estimated timing of construction of future landfill final capping and closure and post-closure activities would have an effect on these liabilities, related assets and results of operations.

 

Landfill Costs — We estimate the total cost to develop each of our landfill sites to its remaining permitted and expansion capacity. This estimate includes such costs as landfill liner material and installation, excavation for airspace, landfill leachate collection systems, landfill gas collection systems, environmental monitoring equipment for groundwater and landfill gas, directly related engineering, capitalized interest, on-site road construction and other capital infrastructure costs. Additionally, landfill development includes all land purchases for landfill footprint and required landfill buffer property. The projection of these landfill costs is dependent, in part, on future events. The remaining amortizable basis of each landfill includes costs to develop a site to its remaining permitted and expansion capacity and includes amounts previously expended and capitalized, net of accumulated airspace amortization, and projections of future purchase and development costs.

 

Final Capping Costs — We estimate the cost for each final capping event based on the area to be finally capped and the capping materials and activities required. The estimates also consider when these costs would actually be paid and factor in inflation and discount rates. Our engineering personnel allocate final landfill capping costs to specific capping events. The landfill capacity associated with each final capping event is then quantified and the final capping costs for each event are amortized over the related capacity associated with the event as waste is disposed of at the landfill. We review these costs annually, or more often if significant facts change. Changes in estimates, such as timing or cost of construction, for final capping events immediately impact the required liability and the corresponding asset. When the change in estimate relates to a fully consumed asset, the adjustment to the asset must be amortized immediately through expense. When the change in estimate relates to a final capping event that has not been fully consumed, the adjustment to the asset is recognized in income prospectively as a component of landfill airspace amortization.

Closure and Post-Closure Costs — We base our estimates for closure and post-closure costs on our interpretations of permit and regulatory requirements for closure and post-closure maintenance and monitoring. The estimates for landfill closure and post-closure costs also consider when the costs would actually be paid and factor in inflation and discount rates. The possibility of changing legal and regulatory requirements and the forward-looking nature of these types of costs make any estimation or assumption less certain. Changes in estimates for closure and post-closure events immediately impact the required liability and the corresponding asset. When the change in estimate relates to a fully consumed asset, the adjustment to the asset must be amortized immediately through expense. When the change in estimate relates to a landfill asset that has not been fully consumed, the adjustment to the asset is recognized in income prospectively as a component of landfill airspace amortization.

 

Remaining Permitted Airspace — Our engineers, in consultation with third-party engineering consultants and surveyors, are responsible for determining remaining permitted airspace at our landfills. The remaining permitted airspace is determined by an annual survey, which is then used to compare the existing landfill topography to the expected final landfill topography.

 

Expansion Airspace — We include currently unpermitted expansion airspace in our estimate of remaining permitted and expansion airspace in certain circumstances. First, to include airspace associated with an expansion effort, we must generally expect the initial expansion permit application to be submitted within one year, and the final expansion permit to be received within five years. Second, we must believe the success of obtaining the expansion permit is likely, considering the following criteria:

 

 

For unpermitted airspace to be initially included in our estimate of remaining permitted and expansion airspace, the expansion effort must meet all of the criteria listed above. These criteria are evaluated by our field-based engineers, accountants, managers and others to identify potential obstacles to obtaining the permits. Once the unpermitted airspace is included, our policy provides that airspace may continue to be included in remaining permitted and expansion airspace even if these criteria are no longer met, based on the facts and circumstances of a specific landfill. In these circumstances, continued inclusion must be approved through a landfill-specific review process that includes approval of the Chief Financial Officer and a review by the Audit Committee of the Board of Directors on a quarterly basis. Of the 42 landfill sites with expansions at December 31, 2008, 19 landfills required the Chief Financial Officer to approve the inclusion of the unpermitted airspace. Ten of these landfills required approval by the Chief Financial Officer because of community or political opposition that could impede the expansion process. The remaining nine landfills required approval primarily due to the permit application processes not meeting the one- or five-year requirements, as a result of state-specific permitting procedures.

 

Once the remaining permitted and expansion airspace is determined in cubic yards, an airspace utilization factor, or AUF, is established to calculate the remaining permitted and expansion capacity in tons. The AUF is established using the measured density obtained from previous annual surveys and then adjusted to account for settlement. The amount of settlement that is forecasted will take into account several site-specific factors including current and projected mix of waste type, initial and projected waste density, estimated number of years of life remaining, depth of underlying waste, anticipated access to moisture through precipitation or recirculation of landfill leachate, and operating practices. In addition, the initial selection of the AUF is subject to a subsequent

multi-level review by our engineering group and the AUF used is reviewed on a periodic basis and revised as necessary. Our historical experience generally indicates that the impact of settlement at a landfill is greater later in the life of the landfill when the waste placed at the landfill approaches its highest point under the permit requirements.

 

When we include the expansion airspace in our calculations of remaining permitted and expansion airspace, we also include the projected costs for development, as well as the projected asset retirement cost related to final capping, and closure and post-closure of the expansion in the amortization basis of the landfill.

 

After determining the costs and remaining permitted and expansion capacity at each of our landfills, we determine the per ton rates that will be expensed as waste is received and deposited at the landfill by dividing the costs by the corresponding number of tons. We calculate per ton amortization rates for each landfill for assets associated with each final capping event, for assets related to closure and post-closure activities and for all other costs capitalized or to be capitalized in the future. These rates per ton are updated annually, or more often, as significant facts change.

 

It is possible that actual results, including the amount of costs incurred, the timing of final capping, closure and post-closure activities, our airspace utilization or the success of our expansion efforts could ultimately turn out to be significantly different from our estimates and assumptions. To the extent that such estimates, or related assumptions, prove to be significantly different than actual results, lower profitability may be experienced due to higher amortization rates, higher final capping, closure or post-closure rates, or higher expenses; or higher profitability may result if the opposite occurs. Most significantly, if it is determined that the expansion capacity should no longer be considered in calculating the recoverability of the landfill asset, we may be required to recognize an asset impairment. If it is determined that the likelihood of receiving an expansion permit has become remote, the capitalized costs related to the expansion effort are expensed immediately.

 

Environmental Remediation Liabilities — We are subject to an array of laws and regulations relating to the protection of the environment. Under current laws and regulations, we may have liabilities for environmental damage caused by our operations, or for damage caused by conditions that existed before we acquired a site. These liabilities include potentially responsible party, or PRP, investigations, settlements, certain legal and consultant fees, as well as costs directly associated with site investigation and clean up, such as materials and incremental internal costs directly related to the remedy. We provide for expenses associated with environmental remediation obligations when such amounts are probable and can be reasonably estimated. We routinely review and evaluate sites that require remediation and determine our estimated cost for the likely remedy based on several estimates and assumptions.

 

We estimate costs required to remediate sites where it is probable that a liability has been incurred based on site-specific facts and circumstances. We routinely review and evaluate sites that require remediation, considering whether we were an owner, operator, transporter, or generator at the site, the amount and type of waste hauled to the site and the number of years we were associated with the site. Next, we review the same type of information with respect to other named and unnamed PRPs. Estimates of the cost for the likely remedy are then either developed using our internal resources or by third-party environmental engineers or other service providers. Internally developed estimates are based on:

 

 

Asset Impairments — Our long-lived assets, including landfills and landfill expansions, are carried on our financial statements based on their cost less accumulated depreciation or amortization. We review the carrying value of our long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. In order to assess whether a potential impairment exists, the assets’ carrying values are compared with their undiscounted expected future cash flows. Estimating future cash flows requires significant judgment about factors such as general economic conditions and projected growth rates,

and our estimates often vary from cash flows eventually realized. Impairments are measured by comparing the fair value of the asset to its carrying value. Fair value is generally determined by considering (i) internally developed discounted projected cash flow analysis of the asset; (ii) actual third-party valuations; and/or (iii) information available regarding the current market environment for similar assets. If the fair value of an asset is determined to be less than the carrying amount of the asset, an impairment in the amount of the difference is recorded in the period that the impairment indicator occurs.

 

There are other considerations for impairments of landfills and goodwill, as described below.

 

Landfills — Certain impairment indicators require significant judgment and understanding of the waste industry when applied to landfill development or expansion projects. For example, a regulator may initially deny a landfill expansion permit application though the expansion permit is ultimately granted. In addition, management may periodically divert waste from one landfill to another to conserve remaining permitted landfill airspace. Therefore, certain events could occur in the ordinary course of business and not necessarily be considered indicators of impairment of our landfill assets due to the unique nature of the waste industry.

 

Goodwill — At least annually, we assess whether goodwill is impaired. We assess whether an impairment exists by comparing the fair value of each Group to its carrying value, including goodwill. We rely on discounted cash flow analysis, which requires significant judgments and estimates about the future operations of each Group, to develop our estimates of fair value. Additional impairment assessments may be performed on an interim basis if we encounter events or changes in circumstances that would indicate that, more likely than not, the carrying value of goodwill has been impaired.

 

Self-insurance reserves and recoveries — We have retained a significant portion of the risks related to our health and welfare, automobile, general liability and workers’ compensation insurance programs. Our liabilities associated with the exposure for unpaid claims and associated expenses, including incurred but not reported losses, generally is estimated with the assistance of external actuaries and by factoring in pending claims and historical trends and data. Our estimated accruals for these liabilities could be significantly different than our ultimate obligations if variables such as the frequency or severity of future incidents are significantly different than what we assume. Estimated insurance recoveries related to recorded liabilities are recorded as assets when we believe that the receipt of such amounts is probable.

 

Results of Operations

 

Operating Revenues

 

Our operating revenues in 2008 were $13.4 billion, compared with $13.3 billion in 2007 and $13.4 billion in 2006. We manage and evaluate our operations primarily through our Eastern, Midwest, Southern, Western, Wheelabrator and WMRA Groups. These six operating Groups are our reportable segments. Shown below (in millions) is the contribution to revenues during each year provided by our six operating Groups and our Other waste services:

 

Our operating revenues generally come from fees charged for our collection, disposal, transfer, Wheelabrator and recycling services. Revenues from our collection operations are influenced by factors such as collection frequency, type of collection equipment furnished, type and volume or weight of the waste collected, distance to the disposal facility and our disposal costs. Revenues from our landfill operations consist of tipping fees, which are generally based on the weight, volume and type of waste being disposed of at our disposal facilities. Fees charged at transfer stations are generally based on the volume of waste deposited, taking into account our cost of loading, transporting and disposing of the solid waste at a disposal site. Our Wheelabrator revenues are based on the type and volume of waste received at our waste-to-energy facilities and IPPs and fees charged for the sale of energy and steam. Recycling revenue, which is generated by our WMRA Group as well as recycling operations embedded in the operations of our four geographic operating Groups, generally consists of tipping fees and the sale of recyclable commodities to third parties. The fees we charge for our collection, disposal, transfer and recycling services generally include fuel surcharges, which are indexed to current market costs for fuel. Our “other” revenues include our in-plant services, methane gas recovery, Port-O-Let^® services, street and parking lot sweeping services, portable self-storage, fluorescent lamp recycling and healthcare solutions services. Intercompany revenues between our operations have been eliminated in the consolidated financial statements. The mix of operating revenues from our different services is reflected in the table below (in millions):

 

 

The following table provides details associated with the period-to-period change in revenues (dollars in millions) and includes internal revenue growth calculated as a percentage of revenues from related business and as a percentage of total Company revenues:

 

 

 

 

 

Base Business — Yield on base business reflects the effect on our revenue from the pricing activities of our collection, transfer, disposal and waste-to-energy operations, exclusive of volume changes. Revenue growth from base business yield includes not only price and environmental and service fee increases, but also (i) certain average price changes related to the overall mix of services, which are due to both the types of services provided and the geographic locations where our services are provided; (ii) changes in average price from new and lost business; and (iii) price decreases to retain customers.

 

In both 2008 and 2007, our pricing excellence initiative was the primary contributor to our revenue growth from base business yield. Although our pricing programs are contributing to yield improvements in each of our core solid waste lines of business, the increase in revenue from base business yield has been driven by our collection operations in each reported period. Increased collection revenues due to yield were more than offset by revenue declines from lower collection volumes. However, we continue to find that, in spite of collection volume declines, increased yield on base business and a focus on controlling variable costs provide notable margin improvements and earnings expansion in our collection line of business.

 

Throughout 2008 and 2007, we also experienced increases in revenue due to yield on base business from our pricing excellence initiative at our transfer stations and the municipal solid waste streams at our landfills. The increases in transfer station revenues have been the most significant in the Eastern portion of the United States. At our landfills, municipal solid waste revenue growth from yield has been the most significant in our Southern Group, although the Midwest and Western Groups also provided notable revenue growth from yield in this line of business. In 2007, we also experienced increases in revenue due to yield on base business in the special waste and construction and demolition waste streams at our landfills.

 

In addition to the revenue growth provided by our pricing initiative, we saw an increase in revenue from yield at our waste-to-energy facilities in 2008. This increase was largely due to annual rate increases for electricity under long-term contracts and favorable energy market pricing, which is generally indexed to natural gas prices.

 

Revenues from our environmental fee, which is included in base business yield, were $181 million, $121 million and $76 million for the years ended December 31, 2008, 2007 and 2006, respectively.

 

Commodity — For the first nine months of 2008, revenues increased $178 million due to higher recycling prices as compared with the prior year period. However, during the fourth quarter of 2008, a rapid decline in commodity prices due to a significant decrease in the demand for commodities both domestically and

internationally caused a year-over-year revenue decrease of $97 million. In 2008, average prices for old corrugated cardboard decreased 9% and average prices for old newsprint increased by 14%. However, when comparing commodity prices during the fourth quarter of 2008 with the comparable prior year period, average prices for old corrugated cardboard decreased by 58% and average prices for old newsprint decreased by 30%.

 

In 2007, average prices for old corrugated cardboard increased by 62% and average prices for old newsprint increased by 39% when compared with 2006, which drove the $306 million of revenue growth from commodity yield in 2007.

 

Fuel surcharges and mandated fees — Fuel surcharges increased revenues year-over-year by $189 million in 2008. This increase is due to our continued effort to pass on our higher fuel costs to our customers through fuel surcharges. Although our fuel surcharge program is designed to respond to changes in the market price for fuel, there is an administrative delay between the time our fuel costs change and when we are able to make the corresponding change in our fuel surcharges. This delay negatively affected our ability to fully recover our cost increases in the first six months of 2008 as the increases in our fuel surcharges consistently lagged the sharp increases in fuel costs throughout the first half of the year. However, the cost of fuel began to decline during the third quarter of 2008, allowing us to fully recover the fuel cost increases we incurred during the year.

 

Fuel surcharges increased revenues year-over-year by $29 million in 2007. Market prices for fuel were relatively flat for the first nine months of 2007, but increased sharply during the fourth quarter. Accordingly, all of the revenue increase due to fuel surcharges in 2007 was generated during the fourth quarter, and we were unable to fully recover our higher fuel costs for the period.

 

The mandated fees included in this line item are primarily related to the pass-through of fees and taxes assessed by various state, county and municipal governmental agencies at our landfills and transfer stations. These mandated fees have not had a significant impact on the comparability of revenues for the periods included in the table above.

 

Volume — The decline in our revenues due to lower volumes when comparing 2008 with 2007 has been driven by declines in our collection volumes and, to a lesser extent, lower transfer station, recycling and third-party disposal volumes. Decreases in 2008 revenue due to lower volumes are discussed in more detail below:

 

Our revenues from collection volumes continue to be affected by our focus on improving margins through increased pricing. However, the slowdown in the economy has also had a significant impact on our industrial collection line of business as a result of the continued slowdown in both residential and commercial construction activities across the United States. While our commercial collection line of business tends to be relatively recession resistant, we have experienced some volume declines in this business that we attribute to the sluggish economy.

 

Declines in revenue due to lower third-party volumes in our transfer station operations have been the most notable in our Eastern and Southern Groups and can generally be attributed to the effects of pricing and sluggish economic conditions. The declines in our revenues due to lower volumes in our recycling operations are attributable to the drastic decline in the demand for recyclables in late 2008, both domestically and internationally.

 

We have experienced declines in third-party revenue at our landfills due to reduced construction and demolition and municipal solid waste volumes throughout 2008, although the volume decline in our construction and demolition waste stream was at a slower rate than it had been in 2007 largely as a result of hurricane-related volume increases in our Southern Group. These volume declines have been offset, in part, by an increase in special waste disposal volumes, primarily in our Southern Group.

 

The decline in our revenues due to lower volumes when comparing 2007 with 2006 was driven by declines in our collection volumes and, to a lesser extent, lower transfer station and third-party disposal volumes. Decreases in 2007 revenue due to lower volumes are discussed in more detail below:

 

Collection volume declines significantly affected the revenues of each of our collection lines of business in each geographic operating Group, but they were the most significant in our industrial collection business due to the significant slowdown in residential construction across the United States.

In 2007, declines in revenue due to lower third-party volumes in our transfer station operations were the most notable in our Eastern Group and were generally due to the effects of pricing. We also experienced declines in third-party revenue at our landfills due to reduced disposal volumes. The most significant declines were in our construction and demolition waste, particularly in our Southern Group. The reduction in construction and demolition volumes was largely due to the significant slowdown in residential construction across the United States. The volume declines for our municipal solid waste disposal operations were the most significant in our Midwest Group due primarily to our focus on pricing increases.

 

Waste-to-energy and recycling revenues also declined in 2007 due to volume decreases. In our waste-to-energy business, the decrease was largely due to the termination of an operating and maintenance agreement in May 2007. The revenue decline due to lower third-party volumes in our recycling business was primarily attributable to the decreases in certain brokerage activities and the closure of a plastics processing facility.

 

Acquisitions and Divestitures — Revenues increased $117 million in 2008 and $37 million in 2007 due to acquisitions, principally in the collection, transfer and recycling businesses, although we also made acquisitions in 2008 in our “Other” business as we focus on entering new lines of business. Divestitures accounted for decreased revenues of $130 million in 2008 and $320 million in 2007. These divestitures were primarily comprised of collection operations and, to a lesser extent, transfer station and recycling operations. In the second, third and fourth quarters of 2008, revenue growth from acquisitions exceeded revenue declines from divestitures, a trend we had not seen in over two years. This change reflects (i) that there are less under-performing operations that are being considered for divestiture and (ii) the resulting shift of focus to accretive acquisitions.

 

Operating Expenses

 

Our operating expenses include (i) labor and related benefits (excluding labor costs associated with maintenance and repairs included below), which include salaries and wages, bonuses, related payroll taxes, insurance and benefits costs and the costs associated with contract labor; (ii) transfer and disposal costs, which include tipping fees paid to third-party disposal facilities and transfer stations; (iii) maintenance and repairs relating to equipment, vehicles and facilities and related labor costs; (iv) subcontractor costs, which include the costs of independent haulers who transport waste collected by us to disposal facilities and are driven by variables such as volumes, distance and fuel prices; (v) costs of goods sold, which are primarily the rebates paid to suppliers associated with recycling commodities; (vi) fuel costs, which represent the costs of fuel and oil to operate our truck fleet and landfill operating equipment; (vii) disposal and franchise fees and taxes, which include landfill taxes, municipal franchise fees, host community fees and royalties; (viii) landfill operating costs, which include interest accretion on asset retirement and environmental remediation obligations, leachate and methane collection and treatment, landfill remediation costs and other landfill site costs; (ix) risk management costs, which include workers’ compensation and insurance and claim costs and (x) other operating costs, which include, among other costs, equipment and facility rent and property taxes.

The following table summarizes the major components of our operating expenses, including the impact of foreign currency translation, for the years ended December 31 (dollars in millions):

 

 

The changes in our operating expenses for 2008 and 2007 compared with the prior years can largely be attributed to the following:

 

 

 

Additionally, during the fourth quarter of 2008, we incurred another $18 million in “Labor and related benefits” charges associated with the withdrawal of certain bargaining units in our Midwest and Eastern Groups from underfunded multi-employer pension plans.

 

In 2007, our Western Group incurred “Other” operating expenses of $33 million for security, labor, lodging, travel and other costs incurred as a result of labor disruptions in Oakland and Los Angeles, California.

 

 

Many of the cost increases summarized above are due to general economic and market conditions over which we have little or no control. After considering the significant impacts of market-driven factors, we are encouraged that our results continue to reflect our focus on (i) identifying operational efficiencies that translate into cost savings; (ii) managing our fixed costs and reducing our variable costs as volumes decline due to our pricing program and the downturn in the economy; and (iii) reducing our costs in light of recent divestitures.

 

Other items affecting the comparability of our operating expenses by category for the three years presented include the following:

 

Labor and related benefits

 

 

Transfer and disposal costs

 

 

Disposal and franchise fees and taxes

 

 

Landfill operating costs

 

 

Risk management

 

 

Other

 

 

Selling, General and Administrative

 

Our selling, general and administrative expenses consist of (i) labor costs, which include salaries, bonuses, related insurance and benefits, contract labor, payroll taxes and equity-based compensation; (ii) professional fees, which include fees for consulting, legal, audit and tax services; (iii) provision for bad debts, which includes allowances for uncollectible customer accounts and collection fees; and (iv) other general and administrative expenses, which include, among other costs, facility-related expenses, voice and data telecommunication, advertising, travel and entertainment, rentals, postage and printing. In addition, the financial impacts of litigation settlements generally are included in our “other” selling, general and administrative expenses.

 

The following table summarizes the major components of our selling, general and administrative expenses for the years ended December 31 (dollars in millions):

 

 

A significant portion of the $45 million increase in our “Selling, general and administrative” expenses in 2008 was as a result of our focus on business development initiatives, including gaining new customers and entering new lines of business. We estimate that these initiatives increased our expenses by nearly $19 million when comparing 2008 with 2007. Approximately $8 million of the $19 million increase is associated with increased consulting costs and has been included in “Professional fees.” The remaining cost increases can generally be attributed to increased headcount, advertising and travel and entertainment costs.

 

Other significant changes in our selling, general and administrative expenses during the reported periods are summarized below:

 

Labor and related benefits — The increases in 2008 and 2007 are primarily attributable to (i) higher salaries and hourly wages due to merit raises; (ii) higher compensation costs due to an increase in headcount driven by an increase in the size of our sales force and our focus on our people and business development initiatives; and (iii) higher non-cash compensation costs associated with the equity-based compensation provided for by our long-term incentive plans. In 2008, we also experienced higher insurance and benefit costs. These increases were

partially offset by lower bonus expenses accrued in 2008 because our performance against targets established by our incentive plan was not as strong as it had been in either 2007 or 2006.

 

Professional fees — We incurred significant costs in both 2008 and 2007 that are of a non-recurring nature. In 2008, we incurred over $7 million of legal and consulting costs to support our previously proposed acquisition of Republic Services, Inc. In 2007, our consulting fees were higher due to increased spending for various strategic initiatives, including the support and development of the SAP waste and recycling revenue management system, which we discontinued development of in early 2008. For information related to the current status of our pending litigation against SAP, refer to Note 10 of our Consolidated Financial Statements.

 

Provision for bad debts — The increase in our provision for bad debts in 2008 is due to the effects of the weakened economy, which has increased collection risks associated with certain customers.

 

Other — As discussed above, our continued focus on our sales, marketing and other initiatives and identifying new customers resulted in increases in our advertising costs and travel and entertainment costs in 2008. The comparability of these costs for the periods presented has also been affected by net charges of approximately $2 million in 2007 and $20 million in 2006 to record our estimated obligations for unclaimed property. Additionally, in both 2007 and 2006, our other costs increased due to higher sales and marketing costs and higher travel and entertainment costs due partially to the development of our revenue management system and our efforts to implement various initiatives.

 

Depreciation and Amortization

 

Depreciation and amortization includes (i) depreciation of property and equipment, including assets recorded due to capital leases, on a straight-line basis from three to 50 years; (ii) amortization of landfill costs, including those incurred and all estimated future costs for landfill development, construction, asset retirement costs arising from closure and post-closure, on a units-of-consumption method as landfill airspace is consumed over the estimated remaining permitted and expansion capacity of a site; (iii) amortization of landfill asset retirement costs arising from final capping obligations on a units-of-consumption method as airspace is consumed over the estimated capacity associated with each final capping event; and (iv) amortization of intangible assets with a definite life, either using a 150% declining balance approach or a straight-line basis over the definitive terms of the related agreements, which are generally from two to ten years depending on the type of asset.

 

The following table summarizes the components of our depreciation and amortization costs for the years ended December 31 (dollars in millions):

 

 

In both 2008 and 2007, the decrease in depreciation on tangible property and equipment is largely due to (i) components of enterprise-wide software becoming fully-depreciated; and (ii) our focus on identifying operational efficiencies as we shed unprofitable business, which has allowed us to retire or sell under-utilized assets.

 

The decrease in amortization of landfill airspace expense in 2008 and 2007 is largely due to volume declines as a result of (i) the slowdown in the economy; (ii) our pricing program, which has significantly reduced our collection volumes; and (iii) the redirection of waste to third-party disposal facilities in certain regions due to either the closure of our own landfills or the current capacity constraints of landfills where we are working on procuring an expansion permit. The comparability of our amortization of landfill airspace for the years ended December 31, 2008, 2007, and 2006 has also been affected by adjustments recorded in each year for changes in estimates related to our final capping, closure and post-closure obligations. During the years ended December 31, 2008, 2007 and 2006, landfill amortization expense was reduced by $3 million, $17 million and $1 million, respectively, for the effects of these

changes in estimates. In each year, the majority of the reduced expense resulting from the revised estimates was associated with final capping changes that were generally the result of (i) concerted efforts to improve the operating efficiencies of our landfills and volume declines, both of which have allowed us to delay spending for final capping activities; (ii) landfill expansions that resulted in reduced or deferred final capping costs; or (iii) completed final capping construction that cost less than anticipated.

 

Restructuring

 

Management continuously reviews our organization to determine if we are operating under the most advantageous structure. As discussed in Note 24 to the Consolidated Financial Statements, in February 2009 we announced that we were taking steps to streamline our organization by consolidating many of our Market Areas and realigning our Corporate support organization. In 2008, we recognized $2 million of restructuring expenses for the reorganization of customer service functions in our Western Group and the realignment of certain operations in our Southern Group. In the first quarter of 2007, we restructured certain operations and functions, resulting in the recognition of a charge of approximately $9 million. We incurred an additional $1 million of costs for this restructuring during the second quarter of 2007, increasing total costs incurred to $10 million. Approximately $7 million of the 2007 restructuring costs was incurred by our Corporate organization, $2 million was incurred by our Midwest Group and $1 million was incurred by our Western Group. These charges included approximately $8 million for employee severance and benefit costs and approximately $2 million related to operating lease agreements.

 

The most significant cost savings we have obtained through these restructurings have been attributable to the labor and related benefits component of our “Selling, general and administrative” expenses.

 

(Income) Expense from Divestitures, Asset Impairments and Unusual Items

 

The following table summarizes the major components of “(Income) expense from divestitures, asset impairments and unusual items” for the year ended December 31 for the respective periods (in millions):

 

 

(Income) expense from divestitures (including held-for-sale impairments) — The net gains from divestitures in all three years were a result of our fix-or-seek-exit initiative. In 2008, these gains were primarily related to the divestiture of underperforming collection operations in our Southern Group; in 2007, the gains were related to the divestiture of underperforming collection, transfer and recycling operations in our Eastern, Western, Southern and WMRA Groups; and in 2006, the gains were primarily related to the divestiture of underperforming collection operations in our Western Group. Gains recognized from divestitures in 2006 were partially offset by the recognition of aggregate impairment charges of $18 million, which were principally recognized by our Eastern Group, for business operations held for sale as required by SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.

 

Impairments of assets held-for-use — During 2008, we recognized a $4 million impairment charge primarily as a result of a decision to close a landfill in our Southern Group. During 2007, we recognized $12 million in impairment charges due to impairments recognized for two landfills in our Southern Group. The impairments were necessary as a result of the re-evaluation of our business alternatives for one landfill and the expiration of a contract that we had expected would be renewed that had significantly contributed to the volumes for the second landfill. The $24 million of impairment charges recognized during 2006 was primarily related to the impairment of a landfill in our Eastern Group as a result of a change in our expectations for future expansions and the impairment of under-performing operations in our WMRA Group.

Other — In 2006, we recognized a $26 million charge for the impact of an arbitration ruling against us related to the termination of a joint venture relationship in 2000.

 

Income From Operations by Reportable Segment

 

The following table summarizes income from operations by reportable segment for the years ended December 31 (dollars in millions):

 

 

 

 

Operating segments — The most significant items affecting the results of operations of our geographic operating segments during the three-year period ended December 31, 2008, are (i) increased revenue from yield on base business as a result of our pricing strategies, particularly in our collection operations; (ii) declines in revenues due to lower volumes, which can be attributed to pricing competition, the significant downturn in construction and the slowdown of the general economy; and (iii) our continued focus on controlling costs through operating efficiencies. For the first nine months of 2008, our Groups also experienced an unfavorable effect on operating income of significantly higher fuel costs. However, during the fourth quarter of 2008, fuel costs decreased significantly enough to reverse this trend, resulting in an immaterial impact to the full year. See additional discussion in the Operating Revenues section above.

 

Summarized below are the other significant items specific to each operating segment’s results of operations for the years ended December 31, 2008, 2007 and 2006:

 

Eastern — The Group’s operating income for the year ended December 31, 2008 was negatively affected by a $14 million charge related to the withdrawal of certain collective bargaining units from underfunded multi-employer pension plans. This charge was offset, in part, by a reduction in landfill amortization expense as a result of changes in certain estimates related to our final capping, closure and post-closure obligations. The Group’s operating income for the year ended December 31, 2007 was favorably affected by (i) net divestiture gains of $33 million; (ii) an $18 million decrease in disposal fees and taxes due to the favorable resolution of a disposal tax matter; and (iii) a reduction in landfill amortization expense as a result of changes in certain estimates related to our final capping, closure and post-closure obligations. The Group’s operating income for the year ended December 31, 2006 was negatively affected by $26 million in impairment charges associated with (i) businesses being sold as part of our divestiture program; and (ii) a change in our expectations for future operations of a landfill. In 2006, the Group also incurred $14 million of strike-related costs incurred primarily in the New York City area.

 

Midwest — The Group’s 2008 operating results were negatively affected by $44 million of additional operating expenses primarily incurred as a result of a labor dispute in Milwaukee, Wisconsin. Included in the labor dispute expenses is a $32 million charge related to the withdrawal of certain of the Group’s bargaining units from underfunded multi-employer pension plans. In addition, the Group experienced unfavorable weather conditions in the first quarter of 2008. Positively affecting operating results both in 2008 and in 2007

were divestiture gains of $4 million in 2008 and $1 million in 2007 and reductions in landfill amortization expense resulting from changes in certain estimates related to our final capping, closure and post-closure obligations.

 

Southern — During 2008, the increase in the Group’s operating income is largely due to $29 million of divestiture gains, offset, in part, by a $3 million landfill impairment charge. During 2007, the Group recorded $12 million of impairment charges attributable to two of its landfills. These charges were largely offset by gains on divestitures of $11 million.

 

Western — The Group’s 2008 operating results were negatively affected by an increase in landfill amortization expense as a result of changes in certain estimates related to our final capping, closure and post-closure obligations. In 2007, labor disputes negatively affected the Group’s operating results by $37 million, principally as a result of “Operating” expenses incurred for security, deployment and lodging costs for replacement workers. Gains on divestitures of operations were $16 million for the year ended December 31, 2007 as compared with $48 million for 2006.

 

Wheelabrator — The Group’s 2008 operating results were favorably affected by increases in market rates for energy during the second half of 2008. The decline in operating income for the year ended December 31, 2007 was driven by a $21 million charge recorded in the first quarter of 2007 for the early termination of a lease agreement. The early termination was due to the Group’s purchase of an independent power production plant that it had previously operated through a lease agreement. Additionally, the termination of an operating and maintenance agreement in May 2007 resulted in a decline in revenue and operating income compared with the prior year.

 

WMRA — During the first nine months of 2008 and throughout all of 2007, the Group’s operating income benefited from substantial increases in market prices for commodities. Also during these periods, the Group experienced income growth due to an increased focus on maintaining or reducing rebates made to suppliers. During the fourth quarter of 2008, however, commodity prices dropped sharply as a result of a significant decrease in the demand for commodities both domestically and internationally. This significant decline in commodity prices resulted in operating losses that more than offset the income generated during the first nine months of the year. Higher than normal operating expenses, including higher subcontractor, repair and maintenance, and facility start-up costs, also negatively affected the Group’s operating income throughout 2008. The comparison of the Group’s operating income for the periods presented has also been affected by (i) $7 million of net gains on divestitures in 2007 and (ii) the recognition in 2006 of $10 million of charges for a loss from a divestiture and an impairment of certain under-performing operations, which were slightly more than offset by savings associated with the Group’s cost control efforts.

 

Significant items affecting the comparability of the remaining components of our results of operations for the years ended December 31, 2008, 2007 and 2006 are summarized below:

 

Other — The unfavorable change in operating results in 2008 when compared with 2007 is the result of costs being incurred to support our increased focus on the identification and development of new lines of business that will complement our core business. The unfavorable change in operating results in 2007 when compared with 2006 is largely related to (i) certain year-end adjustments recorded in consolidation related to our reportable segments that were not included in the measure of segment income from operations used to assess their performance for the periods disclosed; and (ii) the deconsolidation of a variable interest entity in April 2006.

 

Corporate and Other — The decline in expenses in 2008 as compared with 2007 was primarily due to:

 

 

The expense declines noted above were largely offset by the impacts of the following:

 

• costs incurred for the potential acquisition of Republic during the third quarter of 2008.

 

The decline in expenses when comparing 2007 with 2006 was primarily due to:

 

• significantly lower risk management costs largely due to our focus on safety and controlling costs;

 

The expense declines noted above were offset, in part, by the impacts of the following:

 

 

Other Components of Net Income

 

The following table summarizes the other major components of our income for the year ended December 31 for each respective period (dollars in millions):