Valuation Case Study HVAC

Supporting Role

The study of the psychology of speculators is as valuable as it ever was. I think the clearest summing up of the whole thing was expressed by Thomas F. Woodlock when he declared:”The principles of successful stock speculation are based on the supposition that people will continue in the future to make the mistakes that they have made in the past.” –Jesse Livermore

What Would You Pay for This Business? (Thanks to a Reader)


or read this pdf and think about valuing this business. What is the source of the competitive advantage for this business? Lessons for other businesses?
Then if you want more perspective go read the comment section to learn more.
There are case studies all around us.
…So what price would you pay and why?
I have Hired A New Portfolio Manager

I must spend time searching and researching, but someone has to manage the account while I’m away. Pray for me.

12 responses to “Valuation Case Study HVAC

  1. What questions would you want to ask if you were the buyer?
    • Business
    o I assume most of their business is temporary, so what does the backlog look like and would also like to see a detailed history of their historical projects.
    o Hear the owner’s point of view on why they only deal in a 20 mile radius and how that specifically results in costs savings.
     Look at historical projects and how far away they are and see if a concrete relationship is there.
    o Sit in on and understand the training program.
    • Financial
    o I’d like to understand the calculation of cash flow, specifically the nature of both the CapX and WC requirements of the business.
    • Valuation
    o I’d like to understand the net working capital of the business and any other liabilities it has to come up to some sort of net asset valuation.
    o I’d like to understand the real estate comps as one may be able to do a sale and leaseback of the facility and take a dividend out of the business.

    Do you think the business is priced right?
    • It seems like its priced to a nice yield (31-36%), but I’d really need to understand more about the construction industry.
    • I would try to value the business off a dividend and assume no growth since it only serves a small niche.

    What would you pay for this business?
    • Somewhere between $5 and $5.5 million, assuming a 30% discount rate and 0% growth on an assumed “dividend” or “owners earnings” of $1.5M (discounted CF figure provided).

    • Val, I like your approach. I’m a big fan of The Value Guys podcasts. I like that you used a 30% discount rate. I think of the discount rate in terms of my opportunity cost. This business is an owner-operated business so I think a high discount rate is appropriate since the purchaser of this business is going to have an opportunity cost associated with running the business. I generally like to use a 10% discount rate on publicly traded equities. What kind of discount rate would you use for a publicly micro-cap company?

  2. This is great stuff! Do you have more case studies on the same topic, how to value a private business?

  3. I guess the first thing to think about is risk: fraud, saturated market, owner moving down the road just beyond the 20 min radius etc. But let’s say things are okay for now.

    At first glance it seems like a strange company. Why would it limit its sales to customers within 20 min radius.Regional economies of scale? Maybe. Get to know the homes really well over 14 years. Reduce waste from driving around. I don’t know how much. Reminds me of a pizza delivery service. The distance is important for pizza delivery times, but materials – pipes wires etc – can be brought on the truck. Even then, the number of pizza restaurants multiplied so eventually more area is covered, but the chain or a different one.

    It’s an air conditioning/ventilation/heating company, and it’s been in business for 14 years. How many of those years profitable? Is the owner essential to the business? Relationships. Probably. Is he going to stick around? Probably not. Cashing out.

    Sales are declining, but the margins are still good.
    If you bought it and got 1.5 mil a year, it would take approx 4 years to pay off. Seems great, but would need more information. And you get land. But you buy it for the productive asset, so your liquidation value is low.
    One of the main questions I have is why wouldn’t a competitor just open shop next door and do the same. What is the source of its 10x “more profitable than average HVAC”)? It doesn’t compete on price which means there may be a premium for good service, but why can’t others replicate the quality of service? I’m surprised by the lack of cost competition.

    Can anyone just step into the company to run it? What will happen if the owner leaves?
    Doesn’t bid for jobs. Homeowners don’t typically set up bids for their jobs. They call up a few and choose the lowest cost unless there is a premium tied to reputation. Can he set up another competitor?
    Boils down to predicting whether the 1.5 will continue.
    Since it only services homeowners, how many homes has it served in the 20 minute radius? In 14 years, probably a pretty good chunk.
    Past earnings are not how you profit today.

  4. Pingback: Models are Only as Good as Their Formulas | Enterprising Investor

  5. John, thank you for posting this case study. I have been enjoying reading your blog. I used a discounted cash flow model to estimate the value of this company. Like Val Hughes, I assumed zero growth rate. I used a discount rate of 25%. I reconstructed the income statement based on the information provided and from the business listing at the broker’s website. My original range of intrinsic value estimates of $5.2 million to $9.6 million were off due to a calculation error. My updated range of intrinsic value estimates is $3.9 million to $7.2 million. I go into more detail in a post on my blog.

  6. Thanks George. Post a link to your blog and your valuation.

  7. George – I enjoyed your analysis, thanks for posting. I am not the actual Val Hughes from the podcast though: its more of a name I cribbed because I loved it. After reading through the comments per John’s instruction, I noticed a lot more things that could make my valuation go haywire. For instance, whether they are using cash or accrual accounting, who is responsible for the existing sales relationships, and finally, is the owner taking a salary. If they are not and only taking dividends, that would be a PF adjustment when you take over the company.

    • Thanks Val. A lot more due diligence would be required before pulling the trigger on buying this company. Being a small business, I too am concerned about whether they are using cash or accrual accounting. It’s likely that tax filing requirements drive their bookkeeping. Great pen name!

  8. I will post tomorrow Feb 8 Thursday the links to new case studies. Swamped right now.

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