When fielding an offer for one of our clients, ‘Cash at Closing” are the three words I love to hear. A cash transaction has always been first choice; however, with today’s changing business environment, can a seller expect to receive an all cash offer?
In a typical transaction, the seller wants cash so they know what they are walking away with and the buyer wants to pay the purchaser on an earn-out to guarantee value. The most common earn-outs are retained gallons, retained gross profit and EBITDA (operating income or cash flow) goals. I am a personal fan of the gross profit method as retained gallons do not accurately reflect the profitability of a great service department or other revenue streams and EBITDA earn-outs are too complex for most transactions.
A few years ago when conservation became a major factor, I started to read articles and hear from presentations that all transactions were being done on retained gallons. I found this odd as almost all of our transactions on both the buy and sell side were mostly cash at closing. We even advised a client on the buy side to give a choice of a cash offer or retained gross profit on a will call business. The seller chose the cash offer and when we analyzed the purchase a year later, our client was very happy with the transaction.
So, in today’s market, can a seller still expect a cash transaction? If you have a substantial propane component, the answer is yes. If you are mostly a home heating oil company, then as much as I hate to admit it, probably not 100 percent, but possibly up to 90 percent depending on your asset mix.
I believe there are three key reasons. The first is weather normalization. Last winter was so warm that it has made weather correction for estimating gallons a best-guess rather than an accurate prediction. In addition, as of the fourth week in February, we are seeing volumes coming back on a degree day basis in some markets, but not in others.
The second aspect revolves around conservation. With heating oil prices remaining high as compared to prior years, consumers are conserving and finding ways to burn less. From insulating to occasionally burning wood, conservation is taking place.
The third reason, and the one with the biggest long term concern, is conversion to other fuel sources. This is a major concern due to the variance in the cost of natural gas and propane on a btu basis as compared to heating oil. If you are a propane marketer and you are converting customers from heating oil, then it’s good news, however if you are a heating oil marketer, these gallons will likely not return. These factors make it difficult for buyers to accurately project future profits.
O.K., then what is an owner to do when looking to sell their business? In my opinion, an owner should expect to receive 100 percent cash for all their hard assets such as property, vehicles, propane tanks and other tangible assets. For the customer list and good will (which equates to revenue from sales to customers), I would inform an owner to expect an earn-out offer with cash at closing of between 50 percent and 75 percent of the total projected earn-out.
With that said, as a seller, if you are willing to take a risk that gallons or gross profits will return, you may be able to negotiate a higher purchase price with less cash at closing. I personally like more Cash at Closing, however, no two transactions are alike and that’s the art of the deal.