Talk about poor timing. GFL Environmental (GFL) saw its IPO debut on March 3, 2020 -- right at the height of the COVID-19 pandemic and during a big plunge in the stock market.

It made for a rough start for the stock. But after falling from an IPO price of CAD25 to a low of CAD16.77 at the peak of the pandemic, it has been nothing but roses for GFL. Even as the market swooned into year-end last year, GFL bucked the trend and has since taken off toward new highs.

Source: Stockcharts.com

How has GFL avoided the ups and downs of the rest of the market? Some of it can be explained by a flight to safety. The company is in the waste management business, which you would expect to be reasonably recession-resistant.

Some of it can be explained by their successful roll-up strategy. Since going public in 2020, the company has acquired over $7 billion's worth of new businesses. In 2022, GFL acquired 40 new business for just under $1.3 billion. The result was 32% revenue growth in 2021 and 22% in 2022.

But another factor has passed under the radar of most investors. By 2025, GFL will be deriving meaningful revenue and EBITDA from natural gas production. That’s right – natural gas. In fact, using their own expected pricing, GFL natural gas revenue will be in the same ballpark as some of the biggest gas names in Canada.

Source: Company Filings, GFL Management Estimates

To be sure, GFL is not turning itself into a natural gas producer. Natural gas will account for ~5% of revenue and a little less than 10% of EBITDA if all goes well. Yet it is certainly becoming a piece of the pie. 

The real story here is in the “how?” Just how does a waste management company generate this much incremental EBITDA from natural gas? The answer lies in the type of gas they produce. GFL produces a special kind of gas -- one that brings in a lot more money.

Landfills are a Gold Mine (Or At Least a Gas Field)

GFL is waste management company. The company operates landfill, recycling, and organics facilities across 26 states and 9 provinces.

Source: GFL 2022 Investor Day

Most of what GFL does is contractual waste management with municipalities. While not entirely recession-proof, it is about as close as you can get. The vast majority of the business is considered boring and dirty, with activities such as collecting waste, collecting recycling, and managing industrial scale composts. They collect fees from municipalities for contracted waste and recycling disposal.

But those landfills contain a hidden resource. Deep in the landfills, organics are decomposing. That slow decomposition releases methane, which becomes trapped below the waste. It is that methane that GFL is able to make money on. When extracted, it is considered renewable natural gas (RNG).

What is Renewable Natural Gas?

RNG comes from the decomposition of organic material in landfills. Solids, yard scraps, food, etc.

Source: EPA Landfill Methane Outreach Program

The gas is extracted with wells drilled into the waste. These wells are not that different than the conventional natural gas wells that are drilled into the ground.

Source: EPA Landfill Methane Outreach Program

The biogas that comes out is not pure natural gas. It is a roughly 50/50 mix of methane and Co2, along with a small amount of other organic compounds.

To be useful, the biogas must be processed. Just how processed it needs to be depends on the end use. For electricity production, a relatively “dirty” mix of methane and Co2 is used. If it is going to be pipeline quality, much more upgrading to pure methane is required.

Source: EPA

At its most pure form, what you are left with is methane -- i.e., natural gas.

It Looks like Natural Gas, Tastes like Natural Gas, But Isn't Priced like Natural Gas

While the chemical composition of RNG is no different than the stuff coming out of the ground, the price is a whole new ballgame. RNG prices can be as high as $75/MMBTU. Even with conservative estimations, you are typically looking at $20/MMBTU+.

Consider GFL’s own pricing assumption on their RNG projects: $26/MMBTU over the periods reflected and equivalent to underlying price assumptions of $2.00 RINs and $2.50 natural gas. Clearly the current going rate – $2.50 natural gas – isn’t driving the price of RNG. The vast majority comes from the “renewable” component. In the United States (where most of their projects are), that comes from renewable identification numbers (RINs).

The 'ABCs' of Renewable Identification Numbers

I’ll be honest with you. I hate RINs. Not because there is anything wrong with them, but because every time they come up (and they come up a lot in the refining world), I have to figure out how they work all over again. RINs are ubiquitous in the (US) refining world. US refiners are required to attach RINs to the gasoline and diesel they sell to verify that they meet renewable fuel content requirements.

If a refiner has not produced enough renewable fuel per gallon of gasoline and diesel, they have to go out and buy RINs from another refiner who has produced enough renewable fuel to have an excess. Thus, the RIN price is determined by supply and demand.

RNG counts as a renewable fuel. The EPA has determined that RNG producers get 11.7 RINs for each MMBTU of RNG that they produce. Depending on the RIN price, this can be a windfall. RINs have been as high as $3 at times.

Source: EPA

At $2 RIN, which is roughly the average over the last three years, an RNG producer could be getting over $23/MMBTU. With the going rate for natural gas being under $2/MMBTU, this is obviously a windfall.

GFL - A Burgeoning Natural Gas Producer

GFL announced their RNG strategy in 2021 at their Environmental Investor Day. At that time, they outlined 4 signed projects, 5 more under negotiation, and 9 being evaluated. They estimated $65-75 million of additional FCF from the 4 signed projects, and $105-125 million from the first 9.

Source: GFL 2021 RNG Projects from Investor Day

Flash-forward to today, and the number is up to 21 projects, all of which should be producing RNG by 2025. Together these projects will produce 14.5 million MMBTU of RNG per year.

Now, let’s be clear: this is not a massive amount of natural gas. Birchliff (BIREF) produced 10x that amount last year. Peyto (PEYUF) produced 20x more. But on a revenue comparison, GFL stacks up much closer because the company's RNG fetches such a high price.

RNG revenue is expected to make a sizable contribution to corporate EBITDA. GFL is estimating the cumulative run rate to be $175 million of additional annual EBITDA from their RNG.

Source: GFL Q4 2022 Investor Presentation

All the projects are MSW land fills. While the company has not disclosed locations, it appears that most if not all are in the United States. The company appears to be making headway on at least one project in Canada.

One-Time Growth

GFL is a very large waste management company. It has a market cap of $12 billion and an enterprise value of over $18 billion. To give some better perspective on the impact of RNG, GFL procured $1.7 billion of adjusted EBITDA in 2022. The company guided to $2 billion to $2.05 billion of EBITDA for 2023.

That means that the growth from RNG through 2025 is about a ~9% increase to this year’s EBITDA. Not huge, but enough to move the needle. Could there be more growth ahead? Honestly, I am not certain.

GFL owns a lot of landfills -- over 90 of them. So far, we are considering RNG from about one-fourths of them. But not every landfill is well-suited for RNG. While all landfills release methane, to make RNG processing worthwhile, the extracted gas must be tied into a pipeline. That means pipeline proximity is key. Then there is the approval side -- both for the pipeline (which is never a slam dunk nowadays) and for a utility to offtake the gas.

GFL has been coy about just how many landfills it can retrofit. When asked on the Q2 2022 conference call, the company stuck to the script that they have 22 active projects. That suggests to me that GFL is likely not going to become a renewable natural gas behemoth, building ever more production capacity each year.

I expect we will see more to come, but the easiest fruit has been picked. Getting back to the stock – well, I have watched GFL for some time now, and I always feel like I’m waiting for just a little more of a pull back.

The stock trades at 13x EV/EBITDA and, based on average estimates, a 5.7% free-cash-flow yield. That makes it neither cheap nor expensive. But what it does say, is that the market is looking for every molecule of RNG it can produce.

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