Business Breakdowns
· Chadd Garcia
[00:00:00] S1: Well, I think Roto-Rooter is the gold standard for emergency plumbing service. If your drain is clogged, Roto-Rooter can be top of mind. About 70-75% of their service calls typically are emergency care or same-day of service. If you're at home and your sink's clogged and your family has dinner to make, you don't want to wait around for several days to fix a problem. You call Roto-Rooter and they can be out the same day and they fix it. And people are generally price insensitive to that. Roto-Rooter's revenue is driven by population and new business and new household formation. So that's going to drive the top line. Other than that, it's about how quickly you can get out to somebody's house or business and provide the service that they need. If you look at how that has worked out for them, they provide pretty good quarterly data on each of these business going back to 2012. And Roto-Rooter's had up until recently maybe three quarters between 2012 and 2023 where they had negative growth. The acyclical nature is pretty evident. Recently they have had some problems and I think the problems are a fewfold. They started in the first quarter of 2023 with some negative comps and those problems have persisted a bit. But when COVID hit, as you can imagine, their commercial revenue was impaired because restaurants and businesses closed down. Hospitals locked people out. But given work from home, there was a massive pull-forward in demand and a massive new demand because people were using their homes more. And if you use it more things break and drains get clogged. Roto-Rooter was a huge COVID beneficiary. I think that there was a fair amount of demand pull-forward as people may have replaced faucets or other plumbing fixtures that they have tolerated for years. But when you're around it every day, you want to get it fixed. The inflation that happened post-COVID may have given some people some incentive to instead of hiring Roto-Rooter to replace a garbage disposal, maybe learned how to do it themselves. So there may be some of that going on as well. In the recent years, private equity has emerged as a formidable competitor. That started to be felt in 2021, although Roto-Rooter did quite well, benefiting from the initial post-COVID work-from-home boost. But they started to see private equity starting to hire some of their general managers away in 2021.
· Chadd Garcia, Zack Fuss
And then recently, we've seen the competitors get pretty savvy with respect to some of their search engine optimization and marketing. [00:00:00] S0: Broadly, if I consider local plumbing and services businesses, what are the barriers to entry and why are there structural advantages for Roto-Rooter versus the private equity upstarts?
· 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?