The right time to sell

October 1, 2005 By    

Propane retailers hoping to cash out and begin a well-earned retirement need not worry about the impact of current events on the climate of business acquisitions, industry experts say.

“It’s a good time for the sellers. If there is going to be some dampening of interest on the part of the large companies because of the price of propane, or because of the price of steel, or because of the hurricanes, or because of creeping up interest rates, it hasn’t started to become evident yet,” says Thomas Knauff, managing principal at Jordan, Knauff and Co., a Chicago-based investment banking services company that he co-founded in 2001.

“The MLPs tend to be pretty active, and they have traded up to the point that they can pay a pretty good premium for a business and still be accretive to their common unit holders,” he says. “What it means is that propane companies are selling for as good a price as they’ve ever sold for, but its not going to go above that.”

But that doesn’t mean propane marketers – especially small mom and pop operations – can just hang a “For Sale” sign and wait for the Brinks truck to roll up.

Size, location, value

“Size really does matter on the sale of a propane business,” says Don Hankins of the Alamo Corporate Group, a Texas-based industry broker, investment banker and consultant that deals in and around the Lone Star State.

“If you look up at the ones that are doing $50 million to $100 million in sales, the multiples that those companies are getting [at point of sale] are a heck of a lot higher than the ones that are doing under a half million dollars in sales. When you get down to that small of a business – and that’s where most propane dealers fall – it gets more to the point that it’s a service company. And service companies sell for very, very low multiples.”

Because most propane operators are small businesses with less than 10 employees, they are competing with many other types of neighborhood businesses as an investment for prospective buyers. Those purchasers have a limited amount of money to put into the one that offers an opportunity to buy the best cash flow.

“All buyers are looking to buy repeatable cash flow,” Hankins says. “A service company is more relationship-oriented than repeatable cash flow. There’s a risk that it won’t be repeatable. As a business gets larger, that risk goes away.”

He says small propane companies selling less than 400,000 gallons per year generally sell for a multiple between 1.5 and 2 times their true cash flow. Those selling up to 1 million gallons can earn one more multiple. Up to 3 million gallons in sales is worth an additional 1 or 2 multiples. For his calculations, Hankins measures cash flow by “discretionary earnings” rather than the more commonly known EBITDA (Earnings Before Interest, Tax, Depreciation and Amortization).

Even the acquisition-hungry multi-state operators may not nibble based on your company’s sales volume.

“Unless it’s a complete blend with a large MLP, they probably won’t do a transaction with a company that small any more because it just doesn’t show up on the radar screen since they already are so big,” says Knauff, who also serves as chairman of Liberty Propane, which his company founded in 2003. The 30-year propane industry veteran has worked for Cornerstone Propane, Propane Continental and Ferrellgas Partners.

Just because you don’t sell millions of gallons doesn’t mean nobody wants your business, however. A well-run operation may have important cards to play in the acquisition game.

Gary Papay, president of merger and acquisition specialist CK Business Consultants in Pennsylvania, says small marketers in the right location are always attractive to prospective buyers.

“I think it’s always very important to run a good company, whether it is big or small. Generally, a well-run business is saleable,” he says.

“There are good buyers out there, but they want to see growth. For smaller propane businesses, being in a growth area is absolutely necessary. Once you get out of a high-growth area, the company needs to be good size for someone to want to buy.”

As always, the more desirable regions for company sales are in the Northeast, Southeast, California and the Northwest. Those Midwest regions that are dominated by agriculture and cooperatives remain less attractive.

Knauff says the market for small retail operations has held steady at EBITDA multiples ranging from 4.5 to 6. But what pushes one company’s value past that of a similar sized competitor?

“Every one of these little companies is different. There are a lot of factors that go into computing the value of one of these little companies; you have to look at them really hard to determine their value,” says Hankins, who had previous work experience with Skelgas, Independent Propane, First Propane and Cyclone Cylinder Exchange.

“The younger the fleet, the more value it has. The more maintenance that has been performed – so that the buyer doesn’t have deferred maintenance on the fleet, on the bulk tanks, on the field tanks – the more value the company has.”

Likewise, a marketer that does not have leased tanks, has an old fleet, has cash tied up in receivables or has stretched his credit lines will not realize the higher multiples that are being paid out to others.

“People don’t want to hear that. They want to hear that they are going to get $1 million for something that might be worth $200,000. But the reality is that you can’t finance it – and the banks are going to look at those same long-term business risks,” Hankins says.

Get me out

For some company owners, record-high crude oil prices this year were the final straw in deciding to sell. Not only did it send the price of propane through the roof, it also added more than $1 to every gallon of diesel and gasoline used to fuel their fleets.

That’s on top of growing problems with the rising prices of steel, liability and health insurance, training and increased federal regulation.

“High prices are making it tougher for these guys to operate,” observes Papay. “It just ties up much more capital without making them any more money. Then their margins get squeezed because they are getting lots of abuse from the public when they raise their prices. Marketers are having to bear he brunt of it and it’s driving some to sell.”

Knauff says more regulation from insurance companies is another hot button pushing some marketers away.

“There’s a lot of complaining that they are coming out and doing their risk management analysis and finding fault with [marketers’] record keeping. And there’s not a lot that can be instantly done about that. That’s something that takes a concerted effort and a lot of time to fix,” he says.

Knauff says the motivation to sell a propane company hasn’t changed in the 20 years he’s been in the business. Some want to sell after a successful winter, while others are driven away by the strain put on operations by that same nasty winter.

“People get to a point in life where they are ready to sell. Whatever the reasons are coming out of the season serve as the catalyst, whether they are positive or negative. And when you are dealing with a population as large as the number of propane companies that there are, you get every reason, every year,” he says.

Consolidation

The gap between the majors and small independent retailers has widened in recent years as regional companies have been gobbled up by multi-state operations needing to hit growth targets for stockholders. Gone are Jenkins Gas, Star Gas, Columbia, United Propane, Agway, Independent, Pro Flame, Hoosier, Country Gas and U.S. Propane, to name a few.

The experts agree that trend will continue. But will it leave the industry with fewer players overall in the years ahead?

“I think we are going to continually have consolidation going on. I am not sure that we will continue to have the bobtail operator that goes out and buys a used truck and goes in the business against us. I am not seeing as much of that as we had at one time. I think the barriers to entry are getting a little more stringent, which argues more for the value of the business going up,” Hankins says.

While he estimates that Texas has 40 percent fewer marketers today than it did in 1990, Hankins is not troubled by the pattern.

“I don’t see the merger and acquisition level where the Inergys are buying the independents as a problem. I think it just strengthens the industry overall. There will be someone else coming along behind them to start over again,” he says.

Knauff, who helped found and run Propane Continental in 1991, says there have always been enough start-ups to balance the buyouts. He points to his old company’s 36 acquisitions in the 1990s, of which one-third of the companies bought were less than 15 years old, an indication that there is still a deconsolidation going on.

“The reason that happens is that the barrier to entry in the propane business tends to be time rather than money. A guy with a couple hundred thousand dollars can get himself into business. But then he has to start setting tanks, meaning he is three to five years out from positive cash flow. No corporate entity is going to do that; they are going to go do an acquisition. But there are independent entrepreneurs that will do it,” Knauff says.

“If you get your demographics out, can pen a map with 25 to 30 great places to do start-ups. You won’t be cash positive for awhile, so you had better have a business plan to absorb some expenses.”

Preparation

The biggest challenge facing retailers who want to sell is preparation. Far too many arrive at their decision without a game plan to account for taxes or other vital considerations.

Most business owners likely rely on the same attorney who wrote their wills, and the CPA who does their annual tax return. Those may not be the right people to advise them about corporate structure and other issues that arise at the time of sale.

“For example, shareholder goodwill can be a very tax efficient way to allocate a portion of the purchase price. But not every local accountant or lawyer is familiar with the ins and outs of shareholder good will, and they might recommend to the seller that they not do it. That can be very frustrating for a buyer that is knowledgeable of it, and for a seller who wants to sell but also has trusted his local advisers,” Knauff says.

As a result, owners frequently leave money on the table when the deal is consummated. Papay says it is not unusual to see differences of $500,000 in offerings, but that many sellers will surrender that money to avoid paying an attorney or accountant.

“It’s amazing. Some of these companies are $2 million or $3 million entities that they are running by the seat of their pants. They have no plan. I think it goes back to the entrepreneurship in this industry; they think can do it all themselves without any help,” Papay says.

“Most of these guys have all their assets tied up in the business; they don’t even have a stock portfolio. All of their eggs are in one basket, and they are not even managing the basket.”

Those who do get help often wait too long before addressing ways to improve their company’s valuation by the time they are ready to sell. Others have no exit strategy at all.

“This year we had more deals come in as a result of owners passing away than from someone who planned an exit and was ready to execute,” Hankins says.

Often, the sticking point in a deal is how it is structured, not the purchase price.

Knauff says many of the 50 deals negotiated by Propane Continental and Liberty did not offer the highest price. They did offer flexible terms, however, which might net the seller equal walkaway money after taxes.

“I know three sellers right now that want to sell their businesses and cannot get satisfied with the tax treatment, so they are staying in business because of the taxes that they would pay. Either they didn’t prepare for it, they are not dealing with a buyer that can structure a creative enough transaction, or they are dealing with a buyer that can structure a creative transaction but their own advisers aren’t educated enough to advise them properly,” he says.

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