Originally published as a featured column in the September/October 2024 Issue of Indoor Comfort Marketing.
Fuel company acquisitions continue to succeed or fail based on the same core principles as they always have. But several factors have changed the playing field. It’s still a nine-inning ballgame, but the outfield fences have been moved back.
While some of these factors — like macroeconomic trends and private equity dynamics — may seem worlds away from the concerns of small business owners looking to buy or sell, the deal landscape is in many ways shaped by the same factors impacting large businesses. According to the latest S&P Global Market Intelligence Data, the pace of lower middle market merger and acquisition activity has slowed significantly in 2024 compared to the boom in 2021 and 2022. In the delivered fuels and HVAC sectors, we are seeing nominal slowdowns in acquisitions due to tightened bank underwriting. Still, acquisitions remain fairly steady. Deals are still getting done, but they’re taking longer, and they’re a bit more challenging to bring to close.
The requirements for getting these deals to close are shifting. Buyers — and subsequently, sellers —are embracing new structures to bring acquisitions across the finish line. The all-cash deal of 2021 is giving way to offers that include a mix of cash and structured payments, reflecting the changing market conditions. And as a rule, we are seeing fewer active buyers in the mix.
The good news is that a steady flow of transactions continues. Given the Federal Reserve’s lower interest rate signals, combined with an abundance of “dry powder” (capital raised but not yet invested) from private equity, the outlook is positive for the rest of the year. However, it will be crucial for fuel and HVAC companies to understand the current financial climate in order to take full advantage.
What to Expect Based on Company Size
EBITDA under $2 million. Companies in this size range encompass most of the delivered fuels and HVAC landscape. Typically, businesses in this category carry revenues below $15 million. They must often be creative to reach an agreement as they strive to complete deals with fewer tools than companies further up the size chain. While offer structures are dependent on the quality of the assets for sale and the financial strength of the buyer, the dominant financing involves “traditional” tools, including personal equity, bank term debt (including SBA-guaranteed loans), equipment lines of credit and commercial mortgages. Compared with earlier this decade, we are seeing a heavier use of seller financing notes and earnout structures to bridge the gap between available bank financing and sellers’ expectations. Earnouts based on achieving targeted EBITDA, gross profit or retained gallons for both fuel and HVAC sellers are now common, especially where there is uncertainty about maintaining historical earnings.
EBITDA Between $2 million and $4 million. Businesses in this range generally have revenues of up to $50 million. The traditional financing tools noted in the prior section, including bank financing and earnout arrangements, remain common in this size range. At this size level, we begin to see an appetite from private capital providers to support strong management teams and growing companies with credit and equity financing. These non-bank capital sources have begun aggressively serving this space as traditional bank lending has receded. Capital providers are extending a mix of products to business owners, including senior and subordinated debt, mezzanine debt and unitranche loans (i.e., where one loan facility covers both senior and subordinated debt). Private capital sources frequently come into play for business recapitalizations and funding sizeable acquisitions. It has become increasingly common for sellers to roll over a portion of their equity into the acquiring company, allowing them to participate in future growth and benefit from tax advantages.
EBITDA Over $4 million. Companies in this range typically have revenues exceeding $50 million and more robust management structures. While many such businesses have grown via the use of traditional financing tools over decades, they now attract a wide range of institutional capital that they can use to accelerate growth and achieve efficiency. Many businesses in this range have consequently used their access to diverse capital sources to pursue transformational acquisitions in a consolidating market. All-cash transactions at this level are more feasible due to the wider capital access, and seller equity rollover arrangements are standard.
Understanding the financing options and deal structures relevant to your business size is key to navigating the acquisition process in 2024. Fortunately, there is a pathway to success for companies of every size, on the both the buying and selling side. Even if the fences have been moved back, there’s still ample opportunity for the right players to hit home runs.
Jeff Simpson is the founder and managing member of Notch Capital, a private investment firm specializing in buyouts and recapitalizations of lower middle market businesses in the heating, cooling and home services industries. Notch Capital also provides advisory services to help these businesses strengthen their performance and analyze acquisitions.