Acquiring an HVAC company through private equity is a significant investment that presents both opportunities and challenges. Proper management post-acquisition can determine whether the business thrives or struggles. This article outlines key strategies for ensuring success while avoiding common pitfalls.
Conclusion: A private equity acquisition of an HVAC company offers the potential for significant returns if managed correctly. By retaining talent, focusing on customer relationships, enhancing operational efficiency, and avoiding common pitfalls, private equity owners can ensure the company’s long-term success. Thoughtful planning, investment in people and technology, and a commitment to maintaining service quality are essential to achieving a thriving, profitable enterprise.
Pro Tips:
Don’t be in a rush to replace the people who got you to purchase the company. Your best talent is likely in-house. Coach them up and give them the tools to exceed expectations.
Maintain a customer-focused culture. That’s the difference maker. Create a mandatory employee training program that preaches customer first to every member of your team.
Create a code of conduct that applies to everyone.
Understanding the Industry: The HVAC industry operates on thin margins and is driven by customer trust, operational efficiency, and regulatory compliance. Post-acquisition, private equity firms must focus on preserving these fundamentals while implementing value-driven strategies. Along with customer retention an issue often overlooked is worker retention.
Generally, the most important employees of an HVAC company are its technicians, mechanics and junior mechanics (collectively, the “Mechanics”). These employees, much like manufacturing companies, range is skill and acumen but each person on the service team is integral and vertically integrated. To an HVAC shop the Mechanics are its lifeblood and many of them will not necessarily “fit” into a model created by a human resource professional. Remember, it’s a people business run by Mechanics whose variables and profiles will not fit into a spreadsheet and therefore it is imperative that personnel diligence is conducted prior to acquisition.1
Understanding the work-flow, the idiosyncrasies of personnel and the local hiring pool are equally important. The last point is vitally important and often overlooked diligence question: “Where are you hiring/finding junior Mechanics?” To that point, one of the biggest issues plaguing the trades is filling worker vacancy. And while, data shows young men are not entering four year colleges at the rate once seen, it is unclear if they are entering trade schools. Therefore, ensuring your rollup has a pipeline to talent is an integral part of growing your portfolio company.
What to Do
Retain Key Talent:
What Not to Do
Measuring Success: To ensure the HVAC company thrives post-acquisition, establish clear metrics for success:
Customer Satisfaction: Track Net Promoter Scores (NPS) and online reviews.
Employee Retention: Monitor turnover rates and employee engagement levels.
Operational Efficiency: Measure metrics such as job completion rates, average service times, and first-time fix rates.
Revenue Growth: Compare year-over-year financial performance and profitability.
Insight on Recent M&A Activity: The HVAC sector continues to witness sustained M&A activity spurred by increased construction activity, growing awareness of environmental implications and energy efficiency resulting in stricter regulations and government subsidies, mounting concerns regarding indoor air quality and the ongoing need to replace legacy infrastructure.
Looking ahead, the broader sentiment is that the residential HVAC segment is now midway through its consolidation cycle, whereas M&A activity in the commercial HVAC segment is still in its early stages. Existing private equity-backed residential HVAC platforms are expected to continue executing their roll-up strategies to enhance scale and geographic footprint, while private equity interest is likely to gradually shift toward commercial service businesses. This is expected particularly with commercial businesses that have a more diversified, yet durable, customer base in less cyclical end markets (e.g., health care, semiconductors, digital infrastructure, etc.) and those that have a large portion of their business stemming from direct-to-owner relationships.
Key Company Attributes Affecting Private Equity Interest: Several critical business attributes influence private equity interest in the HVAC industry. Aside from a track record of sustainable profitable growth and margin profile, financial investors have put emphasis on the following aspects when evaluating a potential acquisition:
Direct-to-Owner (“DTO”) Versus General Contractor (“GC”) Relationships: DTO reflects a direct relationship between the service business and the end customer, whereas GC projects are typically procured via a competitive bid process. DTO work includes recurring revenue from repair and maintenance contracts as well as replacement projects and is thus less susceptible to macroeconomic trends. Also, DTO work typically generates higher gross margins and comprises shorter project cycles and an increased number of smaller transactions vis-à-vis GC work, which tends to be centered around larger construction projects with elongated lead times (at times well over 12 months).
Customer Reoccurrence: Customer stickiness denotes the likelihood of a customer reengaging a service business for repeat project work with regular cadence.
Service and Maintenance as a Percentage of Revenue: Business models relying primarily on continued upgrades, maintenance, repairs and replacements (as opposed to more lumpy project work) guarantee a more predictable flow of business.
Renovation vs. New Construction as Percentage of Revenue: In general, renovation jobs are perceived as less risky than new construction activity given that the latter is typically tied to macroeconomic cycles.
Diversification: The notion of “diversification” indicates the degree of dependency of the business on end customers, GC relationships, suppliers, sector of reference (i.e., residential, commercial and industrial or a mix thereof), as well as specific projects.
End-Market Exposure: The nature of the end markets where service businesses operate also affects value. Service businesses with an established footprint in more stable sectors like education, healthcare, pharma, government, warehouse, offices and data centers are expected to trade at healthy multiples.
Project Size: Smaller projects (in dollar terms) are usually seen more favorably than larger projects with the latter carrying an inherent concentration risk associated with cash conversion cycle, human capital allocation and overall project slippage. A business mix over-indexing smaller projects is much more likely to achieve a stronger valuation.
Service Differentiation: Businesses having access to mission-critical technologies and differentiated capabilities are likely to boast a strong financial profile, making them compelling M&A targets.