Maintenance capital – the ignored expenditure

October 1, 2007 By    

It takes a lot of money to run a retail propane company. It can take 40 to 50 cents per gallon to cover all of the annual costs of operating the business. We are all painfully aware of our operating costs.

Carl Hughes LP/Gas Magazine Columnist
Carl Hughes LP/Gas Magazine Columnist

But there is one annual cost of running our retail operations that often gets ignored. It is the true, actual cost of maintaining our long-term depreciable assets of plant and equipment.

All facilities and equipment deteriorate with use, weather and age. While we expect to replace certain capital items, many of us do not plan well for this significant expense. Many of us choose instead to treat the need as a secondary and subordinated component of our financial models. As a result, we overestimate our profitability.

Example propane plan
Example propane plan

For example, how many of us will not replace trucks that need replacing this year because the cash generated from the business was below expectations last season?

If your capital expenditures for replacing and maintaining your depreciable assets is not kept up according to the wear, weather and aging of your plant and equipment, then your business value has dropped to some degree in a real physical and financial sense.

Let’s examine the mathematics of a sample retail propane operation in order to understand the impact of proper planning for this expenditure. To keep our model simple, we will look only at the rolling stock of the operations. All plant and equipment will need the same attention as in this example.

Fleet replacement needs
Fleet replacement needs

This simple example ignores the other plant and equipment needs of the business.

In this example, the company would need to spend on average $58,000 in maintenance capital every year to maintain the fleet at its expected level of performance and safety. This equates to roughly 3 cents per gallon on every gallon sold. Looking at the entire capital replacement and maintenance needs of this plant, you can see that this expenditure can easily top 5 cents per gallon.

Missing a year of capital expenditures on this fleet may not seem noticeable, but the wear, aging and weather continues. If you miss a year and expect to maintain your fleet to planned expectations the following year, you must keep pace by spending $116,000 or 6 cents per all retail gallons sold. If you miss yet another year, your required expenditures jump to $168,000 or 9 cents per gallon. If you delay action for five full years, the required capital to bring this fleet up to expectations would be approaching $300,000 or 15 cents for every retail gallon sold.

Capital expenditures can only be funded – in the long run – through earnings or cash flow. Often we find that retail propane companies of all sizes do not account for maintenance capital requirements in their budgets. As a result, they most likely are not accounting for the true, full cost of operating the business.

This is not a fatal practice. However, it is a sure sign of a business in decline when it begins to slip on adequately planning and funding for replacement capital needs.

At the same time, it is a positive measure from successful companies that address this area as part of their financial discipline.

Carl Hughes is vice president of business development for Inergy LP. He can be reached at
Chughes@InergyServices.com or 816-842-8181.

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