Operational realities of the propane business can give heating oil dealers who are new to it plenty to reckon with, says an expert.
By Stephen Bennett
Launching a propane business is a six- to eight-year proposition and, “in the first three years you’re going to bleed money,” says Sean Cota, managing director of Cetane Associates, a company based in Kent, Connecticut, that provides merger and acquisition advisory services, and strategic planning and business valuations. Cota says the bleeding happens because “capital requirements are high and the customers you get at the beginning will be the lowest volume.” He adds, “If you are planning on retiring in less than eight years you should not go into propane. There are other things you should do.”
On the plus side, heating oil companies in general–“provided they’ve got the capital or access to capital – have an advantage over the pure propane companies when they market both fuels,” Cota says. The edge comes primarily from the “exceptional customer service that the heating oil industry provides, which the propane industry, in general, does not,” Cota says. Propane and natural gas companies “don’t have maintenance, repair and upgrade as part of their business model,” Cota says. “Customers’ allegiance will be to the guy that fixes things, not to the fuel supplier,” he says.
If a heating oil company does not have a bulk plant and it is going into the propane business it will probably need to build one to reliably serve propane customers–an investment that often is not anticipated, Cota says. In the heating oil business, Cota says, describing a hypothetical but typical scenario for a Massachusetts marketer, “if the Port of Revere [north of Boston] is out of product, you can always go to South Boston. If South Boston is out of product you can go to Portsmouth, New Hampshire, or Providence, Rhode Island. If they’re out of product you can go to New Haven [Connecticut].”
In contrast, when a propane supply site is out of product, Cota says, “you may have to go to Ohio, Kansas, Texas, because the supply chain relies on railroads that can be stopped by cold weather.” He adds, “If you don’t have a bulk plant to [cover] five days in an emergency, your customers are going to be out of fuel for five days.”
A standard propane bulk tank is 30,000 gallons and can support an annual volume between 500,000 and 800,000 gallons “with a good supplier,” Cota says. “People say, ‘Why does it cost so much” to get into the propane business–“that’s part of it,” Cota says. Besides bulk storage, a truck and the propane tanks for customers’ use represent additional substantial investments.
“Two big mistakes” are common among heating oil companies that are getting into propane, Cota says. One is that they buy a truck and source the propane from another dealer, “and in propane supply logistics that’s a bad choice” because if there’s a supply shortage your business will be first to lose out, Cota says. “The second and equally bad” mistake is to sell the customer the equipment–the propane tank, regulator and pigtails. “When they do that they break the customer need for that particular company,” Cota says, “because those customers can go anywhere.” Instead, Cota advises, dealers should provide the equipment for the customers’ use while retaining ownership.
In the Northeast propane typically gets two to three times the margin of heating oil, Cota says. A “big chunk” of that must go toward debt service for the start-up investment in tanks for customers’ homes, “but that builds value in your company and keeps the customers with you,” Cota says.
A dealer who provides the tanks must decide “early on” how to pay for them. Cota says there are two options: build that cost into the price per gallon or charge a rental fee for the propane equipment on the customer’s site. “Once you start doing one or the other it’s hard to change later,” he warns. “I recommend providing the equipment and getting the return on the equipment investment in the price per gallon. That creates more propane pricing than a heating oil dealer typically has.”
Cota adds, “It’s not unheard of that a propane dealer could have as many as a hundred different prices based upon the tank size and customer volume. The advantage of that is that customers find it more complicated to do pricing comparisons.”