By Joe Petrowski
When gasoline marketing started in earnest just after World War II there were basically two models:
- Major branded integrated oil bought, built and often operated retail locations (or found local dealers to operate the sites), with primarily a service bay ancillary business (lease dealer). Even when the dealer owned and operated the site the branded supplier provided financing, promotion and education along with supply. The independent dealer often was burdened with requirements and abuses that led to the passage of “The Petroleum Marketers Practices Act,” and the rise of the independent marketer.
- Over time, the service bay model died for innumerable reasons, and the importance of convenience retailing and fuel grew and major oil came to the correct conclusion that real estate was a local business best left to others. Capital dollars were best spent on drilling, refineries, terminals and infrastructure. It was also apparent that not only was major oil ineffective at running convenience retail, but the oil company brand was harmful to food and beverage sales.
So that brings us to today. Convenience retailing with fuel is still a business with three major success drivers:
- Real estate selection and development
- Operating prowess especially in beverages, food and private label
- Capital both to achieve necessary scale and refurbish old tired sites ($100,000 annually per site)
With major oil out of the game and independent marketers often facing constrained balance sheets, fierce competition from chain retailers and hyper-marts and generational issues demanding liquidity or diversification–what is the solution?
The return of the holding company/operating company is obvious, but this time with private equity and MLP’s (instead of an oil company) owning the real estate (rental income is qualifying income, not inside sales) and independents operating the sites. Real estate selection and development will still be a collaborative effort between the operator and landlord.
With the average retail convenience-fueling site initially valued at $1.5 million dollars and financed at 50% equity debt the ROE is 20% if $20,000 per week in inside sales and 15,000 gallons per week fuel sales are achieved, which is sound but leaves little for expansion, improvement and liquidity. Selling the real estate to a Holdco and leasing back the space at $70,000 per year (assuming you reinvest the needed capital to make the improvements and expansions to achieve scale. Then you can drive the ROE to 40% with inside sales achieving $40,000 per week and 20,000 gallons outside as the new threshold for survival.
In addition the Opco achieves more liquidity and a better balance sheet. The Holdco has a cheaper cost of capital, and a qualifying income stream with less volatility.
Site rent can be structured a myriad of ways including profit sharing and revenue based, but must be no more than 50% of free cash flow for the operator to remain viable.
A key factor that must be supplied either by the Holdco or a branded supplier is retail support, IT, purchasing and fuel management to keep the operator on an equal footing with the chain retailer and hyper mart. It is in the shared interest of the Holdco and branded supplier to see the Opco capture market share in fuel to remain successful and keep the rent checks flowing. The spending of maintenance and expansion capital done correctly by having both the Holdco and Opco involved in the decision brings a much needed discipline to the process.
The other advantage for the real estate Holdco is they have a book of tangible assets and a cleaner and more focused story for their investors taking out the extreme volatility that often plagues the retail convenience fueling business.
History does repeat itself just never in the same way or as my Grandfather used to say: “What goes around comes around.”
Joe Petrowski has had a long career in international commodity trading, energy and retail management and public policy development. In 2005, he was named President and CEO of Gulf Oil LP and elected to the Gulf Oil LP Board of Directors. In October of 2008 he was named CEO of the now combined Gulf Oil and Cumberland Farms whose annual revenues exceed $11 billion and that now operates in 27 states. In September 2013, Petrowski stepped down as CEO of The Cumberland Gulf Group. He is now managing director of Mercantor Partners, a private equity firm investing in convenience and energy distribution, and a member of the Gulf board.