Business Breakdowns
· Chadd Garcia
[00:00:00] S1: As I said, the emergency care is 70 to 75% of their services. That is ticking up a bit. The CFO didn't disclose what it was, but he says it's higher. That shows me that Roto-Rooter has some brand relevance with respect to emergency services. But both the private equity players and Roto-Rooter should benefit against mom-and-pops. Roto-Rooter in plumbing overall probably has a 2 to 3% market share. In drain cleaning, they probably have a 15% market share. The larger players can be more savvy with respect to search engine optimization and marketing and beat out a lot of the smaller local businesses. With respect to how Roto-Rooter is going to compete against the private equity players, I think Roto-Rooter has been at it for a lot longer. They've learned from their mistakes. There are two private equity players that they've been running into a lot. One is called Apex, which is backed by Alpine Investors. One's called Ben Franklin, which is owned by Authority Brands. Some of these players are combining the roll-up of plumbing businesses with other home service businesses such as HVAC. Roto-Rooter tried rolling up HVAC in the 90s. It didn't really work out well for them. They're not really too bullish on this working out for private equity players. In '21, the private equity players picked off about 20% of the general managers of Roto-Rooter. They did go after Roto-Rooter's employees. And with hiring away the general managers, that also took down the next level of management beneath them. Because those general managers took people with them to the new firms. Within a year and a half, two years, half of the general managers had returned to Roto-Rooter. I think that there'll be a benefit to Roto-Rooter as being an owner in this business as opposed to a renter. I think the general managers that left and came back may have learned that the grass isn't greener on the other side all the time.
· Zack Fuss, Chadd Garcia
[00:00:00] S0: In regards to capital allocation, I know they've been trying to buy back franchisees, or I believe in their corporate presentation they talk about targeting 6 to 8 times EBITDA for a business that I believe trades at 15 times. So from a value creation perspective, very accretive. How significant of an opportunity is there to buy incremental franchises at this point? [00:00:00] S1: If you look at the history of them buying back franchises, most years they're spending less than $10 million. It historically has been small. There have been a couple years. So if you look at 2018, 2019, they did a couple large transactions where cumulatively they spent just under $200 million M&A at Roto-Rooter. I don't think that there are too many of those opportunities out there where you can do a large deal in one fell swoop. There are 360-ish franchises around. I think they'd probably want to buy them all, but it's going to be a franchise here, franchise there. Probably less than $10 million a year in M&A. At Roto-Rooter, I think that the opportunities to do big deals are probably gone. When I talk to the CFO about it, the price isn't really as much of an issue. The determining factor is just when the franchise owner wants to retire and exit the business.
· Chadd Garcia, Zack Fuss
[00:00:00] S1: If you look at the history of them buying back franchises, most years they're spending less than $10 million. It historically has been small. There have been a couple years. So if you look at 2018, 2019, they did a couple large transactions where cumulatively they spent just under $200 million M&A at Roto-Rooter. I don't think that there are too many of those opportunities out there where you can do a large deal in one fell swoop. There are 360-ish franchises around. I think they'd probably want to buy them all, but it's going to be a franchise here, franchise there. Probably less than $10 million a year in M&A. At Roto-Rooter, I think that the opportunities to do big deals are probably gone. When I talk to the CFO about it, the price isn't really as much of an issue. The determining factor is just when the franchise owner wants to retire and exit the business. [00:00:00] S0: And then in terms of business mix, I know emergency plumbing services are kind of their bread and butter, but their excavation business seems to be growing and significant. How have they been able to cross the chasm from that consumer to B2B side of the business? And what does the opportunity look like in furthering that?
· Zack Fuss, Chadd Garcia
[00:00:00] S0: And then in terms of business mix, I know emergency plumbing services are kind of their bread and butter, but their excavation business seems to be growing and significant. How have they been able to cross the chasm from that consumer to B2B side of the business? And what does the opportunity look like in furthering that? [00:00:00] S1: Well, they have a commercial business. So you have the residential drain cleaning business, which is probably about 17% of sales. You have another 13% for residential plumbing. So, just replacing faucets, replacing garbage disposals. But they've been in the commercial business for some time because they also need plumbing services and drain cleaning services. Excavation is a bit different. So that's where you're partnering with contractors on very large jobs. That's a little newer. I think it's something that they are focused on quite a bit. They talked about it on the call today. It's a more competitive business. They want to be part of it. And so they've talked about the margins coming down a little bit because they're pricing to be a little bit more competitive in that business, but again, it drives large volumes. [00:00:00] S0: And what's the margin profile of Roto-Rooter overall and how has that trended?
· Zack Fuss, Chadd Garcia
[00:00:00] S0: And what's the margin profile of Roto-Rooter overall and how has that trended? [00:00:00] S1: It's about 25% EBITDA margins in any given year, and it kind of goes up and down in any one quarter, any two quarters, but about 25% EBITDA margins. The one interesting thing from the call today was that their branches are performing remarkably well. And that makes sense because the corporate's got a lot more control over the branches than they do the franchises and independent contractors. Revenue grew overall, but leads coming in were down 7-8%. And so what that tells me is that they're probably being less aggressive on the search engine optimization and competing in that manner, which may have lowered their leads, but the leads that they get, they are converting those to sales at a higher rate. [00:00:00] S0: So they're seeing higher quality leads. I guess just to make sure that we have a good understanding: It looks like around two-thirds of their EBITDA is from their branches, whereas the remaining third are split between contractors and franchisee fees, with the franchisee fees being a smaller proportion of that. Can you just walk us through the basics of the three models and how they're different?
· Zack Fuss, Chadd Garcia
[00:00:00] S0: So they're seeing higher quality leads. I guess just to make sure that we have a good understanding: It looks like around two-thirds of their EBITDA is from their branches, whereas the remaining third are split between contractors and franchisee fees, with the franchisee fees being a smaller proportion of that. Can you just walk us through the basics of the three models and how they're different? [00:00:00] S1: With respect to the branches, you own the whole business. So it's a normal corporate income statement. With respect to the franchise fees, they have 360 franchises. So if you look at, maybe they have $7 million in franchise fees a year. So you divide that out, that's probably $15,000 per franchise. They'll tell you that what the franchises pay is determined on the population base that they serve, but they're not getting much money from the franchises and they don't spend any money on them. So that should be the highest margin business, if it's close to 100% margin, but it's small, 6% of their overall earnings. And then 21% of their EBITDA comes from their contractors. And so that's the 28% royalty that they get from their contractors. But they supply a lot of the marketing services and the back-office functions. So that's going to be higher margin than their branches, but less than the franchises. [00:00:00] S0: And then how has it been evolving over time in terms of mix? [00:00:00] S1: They've been slowly acquiring franchises and converting them either into independent contractors or branches.