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Anonymous

Owner and CEO at Florida Heat & Air, Inc

Watsco: A Customer for 40 Years

Weekly Update: Fever Tree Gross Margins, SAP, Watsco, & WINE

Disclaimer: This interview is for informational purposes only and should not be relied upon as a basis for investment decisions. In Practise is an independent publisher and all opinions expressed by guests are solely their own opinions and do not reflect the opinion of In Practise.

{audio:0:00:01} Alan, can you start by sharing a short introduction to your background, please?

{audio:0:00:06} I've been in the plumbing, heating, and air conditioning wholesale business for 30 years. I started in the warehouse, like many people in the industry do, or used to do in the old guard. I started in the warehouse moving boxes around, unloading trucks and whatever, and slowly working my way up to my first company Shelton Winair, doing inside sales, assisted purchasing. When I was working for Winair as part of WinWholesale, the idea was to encourage current employees to work towards having their own company. I was young, I was still trying to find what I wanted to do as a career, and the opportunity came for me to go out on the road outside sales, and develop a territory in the Stamford, CT area. So I took the plunge, and when my boss gave me the opportunity, he said, if I give you the opportunity, this is all in for you? And I was all in.

{audio:0:01:13} When I took the development territory over, I had about a $250,000 in the sales base, and in about a year, I got it up to $500,000. In about two years, I got it up to $750,000, by going along with the WinWholesale way of doing things then; it's probably changed now. It got to the point where there was only so much we could deliver into an area in one location in Shelton, geographically. So I was given the opportunity to open my own company, Stamford Winair in Stamford. That was in July 1997. I ran Stamford Winair until February 2009; I was company president. In my first full year, we did about $1.25 million. We peaked right before the recession at about $5 million, and then the recession hit. It got ugly from there as it did for a few people.

{audio:0:02:20} Yes, that was one branch, that was my company. We did about $5 million and brought in a new equipment line. We had about 12 people at the time, two trucks, a 20,000 square foot warehouse, and about $1 million in inventory in receivables. The recession hit, we started downsizing. I'll spare you the ugly details, but it was time for me to move along.

{audio:0:02:49} From there, I went to work for Torrco the first time. I was hired as the HVAC product sales leader. They were trying to build an HVAC division; they didn't have anybody with that background, they’d only dabbled in it. They were primarily a plumbing and heating company at the time. I worked for them for three years. They are an excellent company, and I enjoyed working for them. But because of the recession, they couldn't give me the resources I needed to take off and get the HVAC division running, so they used my experience of running branches. We had made an acquisition and I ran a branch of that acquisition and got them more in sync with the Torrco way of doing things.

{audio:0:32:59} And I wasn’t happy. I needed to try to get out and move on. That’s when I went to the other side of the counter and I was the HVAC division manager. I learned what it was like to be a contractor to deal with wholesalers. That gives me a unique perspective. Not a lot of my customers have somebody that has been where they are doing both. I was there for about a year, and it was pretty volatile. I needed a steadier influence in my life, and that's when I went to work for Dasco Supply. Ironically, I interviewed for it in my old building, in my old offices. They had just opened that branch about a year before, and they were struggling. They didn't have any good leadership, and they couldn't get it off the ground to where they wanted it, so I dealt with sales in the first year there. Again, it was a good, family-owned company. I enjoyed working for them, but I missed something. I wanted to get closer to home, I wanted more of a work-home balance, and Torrco came knocking on my door again.

{audio:0:04:55} In fall of 2014, I went back to Torrco and started back as assistant branch manager, which is what I wanted. I wanted to be a second in command and learn how to follow again, before I could take on an evolution in being a better leader. So I've been back with them ever since. I'd been branch manager for the last three years. Torrco made another acquisition, and the branch I was working in was right around the corner from the branch that we had acquired, so we merged into that company known as Commercial Heating Supply. They primarily focused on large commercial boilers, multimillion BTUs with power flame burners, very specialized engineered stuff. We have a unique branch. In the branch that I run now, we have about seven people who do about $9.5 to $10 million a year. You can get everything from a set of Johnny bolts for a toilet all the way up to a multimillion BTU dual-fuel power flame burner.

{audio:0:05:59} How much HVAC do you do today?

{audio:0:06:07} We’re going to do about $500,000 in HVAC. Unfortunately for me, while that is my true background, we're also in the midst of four or five other major HVAC wholesalers. We're slowly getting better as a company at having everything that an HVAC contractor needs, and we're trying to develop new habits for them because they were very accustomed to going to their usual place. So we're going to do things a little bit differently, and we have a smaller footprint, and we use our hub to get things down to us the next day. Well, in HVAC, they can't necessarily wait for that. When they want plumbing and heating, yes, we have it all. But when it comes to the HVAC, we’re trying to break those habits. I'm hoping that we get a bigger building so I can bring that stuff in and be the source for the customers in our area to really increase our business in HVAC.

{audio:0:07:11} Can you give us a sense of the HVAC wholesale market in the northeast? Take it back to the 90s when you were running your Winair business; what was the market structure?

{audio:0:07:29} Back then, it was all about new construction in our area. Houses were going up right before the dot-com bubble burst. The area that we were in is a very high-end area. Fairfield County is one of the richest counties in the country. It's Greenwich, Stamford, Norwalk, Darrien, New Canaan; a lot of money. They were throwing up the McMansions that you hear about all over the place. Nobody paid much attention to add-on or replacement because it wasn't a focus of the contractors. It was easy money to go in and build new systems.

{audio:0:08:18} It started to become more prevalent to have air conditioning in a home. In the northeast we only have summer for three months. What do we need air conditioning for? Just because it was more humid than just about anywhere else in the country didn't mean anything then. But then those ideas started to go and there was a shift, right around that time I got a new equipment line, American Standard heating and air conditioning, and I focused more on the add-on and replacements, and tried to educate my customers.Look, this is where the money is for you guys. You can do two or three replacements in a day and get more money than going to work for a General Contractor, and they don't pay you for 90 days, whereas you’re installing, you’re making that change right then and there. You're getting paid.

{audio:0:09:21} So now the evolution is to the ductless mini or the DFS systems, the inverter systems that we’ve seen in the LGs, the Fujistus and the Mistubishis of the world. They are so much more efficient and they're even easier to install if you have no ductwork or any of that stuff. Again, there was that evolution. Even with new construction, we're seeing LG systems being put in. The rebates available for LG from the utilities are just tremendous. It's $250 a ton rebates coming back from the utility company. So that's a shift because those are all primarily heat pumps. In the northeast, people think it’s too cold for a heat pump. That's something for the southeast or the southwest. But in all honesty, during the day, the average annual temperature in January or February is the mid-40s. That's perfect for a heat pump. Yes, we get our 10-degree nights, but it's at night. That’s another shift that I see in the industry. People are getting used to and are becoming more comfortable talking about heat pumps, and using heat pumps as a heat source and for air conditioning. Does fossil fuel still dominate? Yes, absolutely, but they are starting to become more prevalent.

{audio:0:10:55} Those new LG systems, how does the rebate work for the contractor?

{audio:0:11:01} It's actually very easy. It's all point of sale and we enter it ourselves. All we have to do is get the homeowner's information, and the price for the rebate comes right off the price of the sale. We submit it to the state every month, and we get paid the rebate, so the contractor doesn't have to do anything. The homeowner doesn't have to do anything; it's a home run.

{audio:0:11:24} How do you look at the replacement cycle for these new HVAC systems?

{audio:0:11:33} We're just starting to see how that's going to evolve because most of the original ones have six-year warranties, so we're going to start seeing those start to fail. The short answer to that is, I'm not quite sure. I don't know how that’s going to evolve. I believe that the inverter technology will last longer than the said warranty. You know the joke is, appliances are made to last just as long enough for warranty, and then it's time to replace them, right? Disposable appliances. I don't necessarily believe that, particularly here because they don't work as hard here as they would in the southeast or out west, so I think it's going to be a longer cycle. I think end-users are much more comfortable with that technology now and they realize there's a lot more flexibility. It's quiet, it’s efficient, they can use it as a secondary heat source, or in some cases a primary heat source. In inverter technology now, LG has systems that go all the way down to –13 and still get 100% heat. That's right in line with what any fossil fuel system is designed at.

{audio:0:13:12} I was speaking to a contractor in Florida, and he said that they have an eight to 10-year replacement cycle on the HVACs because they get the salty air. Do you see a material difference in replacement cycles between the northeast and south?

{audio:0:13:33} Yes, definitely, and even on the coast, closer to where I am as opposed to inland, because we have Long Island Sound. Immediately on the coast, we see that. Again, it's not nearly like it is in Florida, where you’re getting hit from the Atlantic Ocean with the Gulf of Mexico basically washing across the state, but we do see that along the coast. The other thing is it all depends on usage by the end-user. It depends on how well it's been serviced, if it's been serviced at all. Most people don't even bother with service contracts. Quite honestly, as much as I love my customers, not enough of them work hard enough to get service contracts, which are easy money and great ways to add to their bottom line.

{audio:0:14:17} Because that takes marketing. That takes somebody that knows what they’re doing. That takes somebody that’s good enough sales-wise to be able to make that sale at that kitchen table to that customer. That takes work. My customers are all very good out there in the field, but less so when it comes to marketing and sales and those kinds of systems.

{audio:0:14:47} They just want to fit the machine and move on.

{audio:0:14:52} Yes, that's all I want to do. Call me when it's broken; I'll come fix it. You need a new one? I'll come and install it. That's all they want to know. The most successful ones, the larger ones, have those systems in place. I have more than a few customers like that, but like with any wholesaler, the small to medium size contractor is where we make our bread and butter. The larger ones turn our inventory and keep our cash flow going. You get good jobs with them, and they can be profitable, but that's over a long period of time. It's the small and the medium guys where the margins are higher, you tend to get paid quicker, and that's where you have your best relationships because you see them every day.

{audio:0:15:29} I've seen a ton of guys leave one place to go out on their own. Okay, now I'm a contractor. I've got a van, I’ve got a set of tools, I'll slap a label on, and I'm ready to rock and roll. But it just doesn't work that way. Most of these guys wouldn't make it in the southeast. Most of those guys wouldn't make it down south because that's all they do down there. Down south and out west, they're selling air conditioning eight or nine months out of the year. They need it. You drive all over the place down there, and you see advertisements, you see billboards, they're pushing their products and their people and their company to be the resource. It's not nearly like that up here. Part of that is the fact that we have the mentality of, oh, we're the northeast, we know everything, we're close to New York.

{audio:0:19:19} Let's say we're trying to forecast 2022's replacement demand. Let's say the replacement cycle is 15 years. Would you look at how many units were installed 15 years ago because they're going to be replaced on average this year, and also the new builds, which will be the new machines? Is that how you would expect it to be, as a base rate of the units, but then you have to factor in any consumers that are upgrading quicker than expected.

{audio:0:19:58} You’ve got to look back at the area and say, this are where we are in the markets and where are those homes that were built back then? Let's see if we can identify them. The other thing is you'd have conversations with your customers. You'd say, hey, remember that project you did 15 years ago? Who's rolling back to those consumers who are now getting ready to replace as things are breaking? How are you going about that now? You have that conversation with those customers, and you say, here's our demand. Add-on replacement is going to be 60%, and new construction is going to be 40% for the coming year. Then forecast that out another year, like you were saying, to 2022. Yes, we're only in April 2021, but everybody starts early. What are we going to do next year, with the availability of all kinds of materials being a problem? Supply chain disruptions and what happened in Texas are causing all kinds of mayhem.

{audio:0:21:18} Do you see the end consumers replacing quicker for any reason?

{audio:0:21:28} The savvy ones. I remember this industry before the internet, and when consumers started being able to go to Google and do all kinds of research, the contractors were always complaining that these people know too much. Well, you want the educated consumer because it's easier. The educated consumer is going to tell you yes, I want that 18 SEER piece of equipment. I want the most efficient variables; I want it all. You don’t have to make a sale. They looked at it as a nuisance. Has it hurt us in some ways here in Connecticut? Yes, if somebody can buy a piece of equipment online and have it shipped to their house, but that’s the same problem everywhere and it’s a very small percentage of the sales that are out there.

{audio:0:22:20} What about the warranties?

{audio:0:22:21} That's always been my argument. Let them buy it, you don't have to install it, and if you do, you don't have to have their warranty because you didn't purchase it. It's who you go to for support. That's why at the very beginning, when Home Depot started moving in around here, and we found out they were doing plumbing and heating and air conditioning, there was panic among the wholesalers. We're not going to be able to compete with them. But Home Depot cannot provide technical support. They cannot provide sales support; they're not set up that way. While it scared everybody, we came through it because our customers started going to Home Depot and seeing they don't have everything that I need there. They can’t offer me any kind of technical support, they can’t offer me any sales support or marketing support, they’re just there to move boxes. They don’t know any better. Then they all started coming back. With the internet, they don't use it as much as a resource. They don't look at it to say, the consumer is educated, so let's use that education to our advantage and put more money in our pockets.

{audio:0:23:33} Today, we're seeing more people move home because of COVID. Let's say that we expect house volumes to be far higher than over the last 10 years. How do you think that could impact replacement demand?

{audio:0:23:52} Here's the one thing I think COVID will definitely do. I don't know if it will be a higher demand on equipment, but it will be people staying home more. Take a typical family of four where, 10 hours a day, there's nobody in the house. Now everybody's in the house, and they're maintaining the same temperature the entire day. That puts a strain on the system that it's not accustomed to, especially if it's, say, eight years old. It'll cruise along, if you’re using a set back thermostat and programming the thermostat.

{audio:0:24:35} You’ve basically used your machine this year what you’d used for two or three years potentially, right?

{audio:0:24:42} Absolutely, especially if you’re somebody that likes to be able to refrigerate your home and you want to keep it at 66 degrees. Now it's working; it's trying to get to 66 degrees at the hottest times of the day when typically there's nobody home, and it doesn't start coming down until somebody gets home.

{audio:0:25:00} Especially in the Sunbelt areas as well.

{audio:0:25:02} I can’t even imagine the kind of strain that they’re getting down there. It’s bad enough here, but down there? Forget it. They’re already seeing 80, 85-degree days. Whereas here today it’s 60.

{audio:0:25:16} What about the warranties on the machine? I think one comment was that if I get a new home, it’s a five-year-old house and the HVAC unit was in there for five years. Maybe I'm more incentivized to get it replaced as I go in the home rather than wait another five years. Do you see that driving more replacement demand because of the warranty structure?

{audio:0:25:40} Absolutely I see that. Some manufacturers say, well, it’s not the original homeowner, we’re not warrantying. It doesn't transfer. If I'm not going to be able to transfer this warranty, I might as well put in what I want or what I think that I need. That's the idea. It’s the contractor's job to say, this is what you need.

{audio:0:26:03} The contractor can upsell you then, as well.

{audio:0:26:06} Exactly. There isn't enough effort there. That aside, yes, especially with the influx of people we have coming in from New York City. They're buying homes; there are bidding wars all up and down the coast and further inland in Connecticut because they're getting out of NYC because of COVID. They have all kinds of money and they're basically knocking homes to the ground and building them up the way they want to. They just want the piece of land. They want the foundation then they go to town. That will also drive more higher-end systems and replacements. Or somebody says, the house is fine, but we're going to replace the mechanical systems because I can’t have the warranty transfer over to me and I don’t want to take any chances.

{audio:0:26:54} What do you see in terms demand in your area, with people moving out?

{audio:0:27:02} We're still seeing the influx of people and a lot of these sales are happening very quickly. I think it's going to start impacting us in the next month or two because they’ll have been in their homes for a couple of months and now they’re going to start remodeling their home. We're going to start painting, we're going to do new windows, a new roof, and we'll have somebody come look at the HVAC because we have rebates or, for some reason, it's not sufficient for what we have. I think that's going to start building over the next couple of months. I think, by June, we are going to be very busy with those kinds of replacements or add-ons and that’s where we’re going to see our big increase.

{audio:0:27:58} How do the wholesalers work with the contractors? Let's say I'm a homeowner replacing a unit, and I have to find a contractor. How does the contractor choose the wholesale distributor for their HVAC? What’s their decision-making process?

{audio:0:28:21} I’d like to think it’s our sparkling personalities and our wonderful customer service, but it's not. Here's the unique perspective that I've had, having worked for strictly HVAC wholesalers and a primarily plumbing and heating wholesaler. Plumbing and heating guys are very loyal to their distributors. They find maybe one or two distributors that they do the bulk of their business with, and they stick with them. If I tell them I'm selling one particular boiler brand, that's the boiler brand they’ll use; the same applies to the heat unit I'm selling. They stick with it because they have that relationship.

{audio:0:28:58} HVAC around here is a bit different. This goes back to something I said earlier about how it takes effort to build a business and to market it. Around here, if you're the homeowner, and you say, I want Carrier, the contractor will go to a Carrier distributor. I want Trane, and he’ll go to a Trane distributor. I want American Standard. I want LG. They let the customer dictate what brand they want instead of saying, these are the brands that I sell. They’re not going in there and selling themselves, selling their customer, and selling their company.

{audio:0:29:38} I hate to say it as I love my customers, but it's the path of least resistance. Because if they say they want one brand, well now I have to convince them. You want Carrier, and I don't sell Carrier I sell Trane. This is why I sell Trane. This is what makes us different from everyone else. That takes an effort, that takes some knowledge, and you have to be able to sell yourself. The first thing with anything is you sell yourself. Forget about the product that you have. You've got to be able to build that rapport. You've got to make that connection with the customer. Most guys want to go in and say, yes, you need a three-ton system, scribble it down on a piece of paper, and here you go.

{audio:0:30:19} So that means that the distributors ideally need to have all of the selection for their contractors.

{audio:0:30:23} Yes; unfortunately, we all can't carry all the same brands. That's why certain distributors have Carrier, have Trane, and have American Standard.

{audio:0:30:38} That goes back to the manufacturers. I don't want to start sharing shelf space with my biggest competitor in the same building. Again, that is a big difference between plumbing and heating with boilers and with HVAC. HVAC distribution is limited in market areas, and there's only one place you can get that particular brand.

{audio:0:31:06} So in your area now, if I want a Carrier machine, where would I have to go for it?

{audio:0:31:14} Carrier Northeast, which is a Watsco company, Watsco being a huge HVAC distribution consolidator.

{audio:0:31:23} So Watsco is specifically the Carrier distributor?

{audio:0:31:27} The Carrier distributor, because Dasco has Bryant, which is a Carrier product but it doesn’t say Carrier on it.

{audio:0:31:35} So Dasco only has one brand right now?

{audio:0:31:40} Yes, they have Bryant and Mitsubishi. If you want Trane, you have to go to Star Supply. Star Supply is the only place you can get Trane in Connecticut and Western Massachusetts.

{audio:0:31:50} So the contractor has to have an account with all of the distributors?

{audio:0:31:53} Yes. And that makes it hard on us, when the contractor says, I’ll get whatever brand you want, and they just go to that brand because it’s the path of least resistance. I may have at least as good a product, but the contractor does not want to take the time. The time to say this is the product that I sell, here's why I sell it, here's what makes my company different from other companies, and sell themselves and their company rather than the brand. I've said many times, if you give me the most efficient, all the bells-and-whistles system, and I have a fly-by-night guy install it, it's not going to work. It's going to be crap. I can take the least expensive system, put it in the hands of somebody that really knows what they’re doing, and you wouldn't know the difference. It's that path of least resistance.

{audio:0:32:51} When you were running your Winair unit, what was the inventory you had there?

{audio:0:32:57} We were an American Standard distributor. We took it over from another wholesaler, United Refrigeration.

{audio:0:33:08} How do you get that contract?

{audio:0:33:16} At that moment, one other Winair in Connecticut had American Standard because, at the time, Winair was trying to keep our own market areas. When I was in Stamford, we had Shelton Winair, which is where I came from. We had myself in Stamford, and in northern Fairfield County, we had Danbury Winair, and we kind of tried to stick to our markets. American Standard wanted Winair to be a distributor in the Stamford area, and the company President of Portland Winair, which is in Middletown, outside of Fairfield County, would say, let's talk to Alan, because he can take care of the Stamford market and all of Fairfield County from where he is. So I was approached with the opportunity, and I took it and ran with it. There was some gutting process to go through and it’s got to be a good fit. Thankfully that was when wholesale lent that kind of power, because then, American Standard had WinWholesale companies distributing their products all across the country. So it was a good existing relationship and we didn't have to jump through a lot of hoops to get there.

{audio:0:34:31} This means that it’s pretty difficult for you at Torrco, for example, to compete in HVAC. Because you can't get Carrier, you can't get Bryant?

{audio:0:34:42} Exactly right. When I came on to Torrco the first time, we had a brand, Tappan, which is a Nordyne product, and I couldn't get any of my HVAC guys to even give it a chance. As I mentioned, we made an acquisition of another wholesaler up in the Torrington area, which is north of us, and they were a Bryant distributor. So that move allowed us to become Bryant distributors throughout our distribution network. That elevated us and allowed people to say, Torrco has the right brand now. After I left, that relationship fell apart. I don't know the details. So we were kind of floundering again for a brand and we couldn't get any of the major brands. So we aligned ourselves with a heat controller, the Comfort Air brand. That product is made by Lennox. So the brand name itself is not as well-known, but everybody knows Lennox products. It's made in the Lennox factory, and we have very good warranties.

{audio:0:36:09} So we have that, and we have a whole HVAC team. Three or four of them are all former licensed contractors that are working for us, running that division. That set us apart. We actually made very good strides in the HVAC market with this brand because we'd built a relationship with these customers. They went out of their way to say, this is a good piece of equipment. It will be right up there with Trane and the Carrier, overall, and actually has a better warranty, a 12-year warranty. After six years, you get a brand-new condenser if something goes wrong with it, you just cut it out and put a new one in. So we had really done a good job with that.

{audio:0:36:48} Back to your point on the fact that the consumer seems to choose the brand, why is it that potential consumers even know HVAC brands, but they don't know plumbing and heating brands?

{audio:0:37:11} That’s a question I have not been able to answer. Around here, especially when it comes to oil boilers, everybody has the same plumber for years, the family plumber. Whatever he tells you to do, you do it. Plumbers have their customers, and they stick to them. HVAC guys have a tendency to be very vagrant. They’ll go and do a job, and they go away, and they let somebody else do the service. Oil companies and plumbers will not only install it, they'll come out and service it too. I'm here for you all the time. I think it's because most HVAC contractors only do one thing; they only do installation or they only do service.

{audio:0:37:59} But isn’t the HVAC contractor also sometimes the plumbing and the heating guy?

{audio:0:38:03} Yes, that's happening more and more. We still see a lot of separation. Some of the bigger companies, yes, do all of it, but there is still a significant number of guys that just do HVAC and guys that just do plumbing and heating. Some HVAC guys don't want to have anything to do with the water heater or the boiler.

{audio:0:38:22} That’s interesting because that means they don't actually care that much about availability. They just take demands from the customer, and maybe it's different in the Sunbelt area, but it seems as if the customer says they want this brand, they have to go and find it.

{audio:0:38:43} Exactly right, and that's what I've seen for years. But you're in the customer's house, and you're letting them tell you what to install? I don't get it. I never have, and I never will. Maybe it is just a product of the northeast. I honestly don't know.

{audio:0:39:07} Looking at the challenges when competing against big companies like Dasco, how can smaller distributors compete with those bigger players?

{audio:0:39:21} For us specifically, it's our HVAC team. We have technical experience in our company that those guys don't have. Like I told you, we have three guys that are all licensed contractors working for us. They offer design help, troubleshooting, warranty, explaining the product. They'll talk to homeowners. If a contractor can't get their point across, they'll help them out. That's what I believe really sets us apart. If I have somebody that doesn’t know whether they’re comfortable buying HVAC from us, I say, okay, I'm going to put you in touch with our team. When you've talked to them, you tell me if you're comfortable or not. I know I'm confident in my abilities in order to be able to get you to want what you need, when you need it, and where you need it.

{audio:0:40:19} I can offer some technical help, but the brief time I was on the other side of the counter, I wasn't turning wrenches. I was pulling permits, and I was procuring things, and I was scheduling things. I was managing, but I wasn't out in the field. I know enough to be dangerous as far as helping to troubleshoot. If you're calling me for troubleshooting help, you've got bigger issues. So I'm going to put you in touch with somebody that can help you. And what’s resonated with our customers is they don’t have to get on a tech support line with a manufacturer where they could be waiting 30 minutes to an hour to be able to talk to somebody. I can get them in touch with somebody in less than five minutes, and they can get on with their day, get that problem solved, and move on to the next. That's where we're really going to make our hay and where we’re going to separate ourselves.

{audio:0:41:08} But you’ll still be selling a smaller brand.

{audio:0:41:12} When we took on LG, LG was a very small player on the market at maybe a 2% market share. The last I heard, we're up at 12% to 13% of the DFS system in Connecticut. We did over $2 million in LG last year. So we've made a lot of hay. I think we did a million and a half in Comfort Air. The idea is that we are going to disrupt the market enough for the big guys where somebody's going to stub their toe with that brand and go, wait a minute, we’ve got to look at Torrco. Look what they've done with this line. Can you imagine what they'd do with our line? The idea is that we're prepping ourselves to be able to take on that big brand and be ready to pounce when the opportunity arises. Cut our teeth on what we're doing, do it well, and support our brand. We’re all in on it, but if we get that opportunity, in my opinion, I think we're going to jump all over another brand, a bigger brand that can really take us to the next level of HVAC.

{audio:0:42:29} How many brands can you have?

{audio:0:42:32} It would mean leaving one to go to the next. We talk about boilers. We have, off the top of my head, six or seven different boiler lines. All plumbing and heating distributors have six or seven different boiler lines, and we all have the same ones. But when it comes to water heaters, we only have one. When it comes to HVAC, we’ve only got one. That’s it. You have unitary, the traditional split system, gas furnaces, and you have DFS. That allows you to have two brands because most unitaries don’t make a DFS, and if they do, all they're doing is buying it from another manufacturing distributor.

{audio:0:43:20} So the OEM will literally ask you what other DFSs have you got if you said you can’t have this one.

{audio:0:43:26} It makes no sense; it kind of defeats the whole logic of a distributor.

{audio:0:43:35} I’ve been doing this for 30 years, I haven't been able to figure it out, and I never will.

{audio:0:43:39} Is this is the same in the Sunbelt and across the nation or particular to northeast?

{audio:0:43:45} My gut tells me that it's the same everywhere. Some of the largest distributors in the Sunbelt and out west are strung across so many markets, so they say they have Carrier and Trane and American Standard, but it’s only in certain markets. There are distributors that go across certain states, and in one area, they may have Carrier, in one area they may have Trane, in one area they may have American Standard. So they're buying from all different ones, based on where the branches are and what market area they're serving.

{audio:0:44:26} I want to take this back to when you were at Stamford Winair. When a contractor comes in, how does the pricing work? Start with new builds. Say a unit costs $10,000. How does the pricing work between the price you charge them versus the $10,000 that you charge the new build customer?

{audio:0:44:55} Being in the Stamford market, you had to have higher prices in order to make any money. The closer you get to NYC, the price goes up. I was paying $20,000 in rent for my 20,000 square foot building, and that was triple net, before taxes, etc. I had to make an average of 28% margin in order to be profitable. New construction averaged anywhere from 15% to 18% gross margin, so as you would imagine, it was very painful to sell at those types of margins. I worked very hard to try and get as much margin as I could out of those new construction guys.

{audio:0:45:50} And then try to get them into the replacement market where the price isn't as much of an issue. Say I’m doing a 12-project subdivision, I'm going to be buying 12 of these, 12 of these, 12 of these. I'm going to want a bulk price, even though I will take them over the course of a year and a half; it's got to be sitting there and waiting for me. I want you to hold this price. Whereas for add-on and replacement you say, I need a three-ton condenser. Okay, I’ve got it in stock. I'll deliver it tomorrow. That's it. There is no discussion on price. When you get into the negotiation of pricing, you have to know who you're competing against. Also, a factor for me is how well does the customer pay me. Am I going to be paid on time? I can't give you 15% if it's going to take you 90 days to pay me. I pay everything by the 10th of the month, and now I'll have to borrow money to do that because you haven’t paid me. How can I give you a better price? So that’s all part of it. It’s volume, size of the customer, how well they pay, and each job is different. With some jobs you could see you didn’t have any competition here; what can you do for me. You sharpen your pencil on this, and you knock a point or two off here or there, and if you have that relationship, you're fine. Other guys, if there are six guys bidding on the same project and they're all coming to you for the same price, well, everybody’s getting the same price. I’m not going to give one of them one price and one another price, because that will just come and bite me on the backside.

{audio:0:47:28} What about the replacement margin for the contractor?

{audio:0:47:35} That's an interesting thing because most guys will do markup rather than margin, and as you know, gross margin is very different from markup. Take that 1.4; I'm making 40%. No, you're not. You're only making about 30% to 32%. I’ll show them the math and then they realize. Yes, you're not as profitable as you think. I try to do that one at a time, to get the guys in the room to talk about that. But their eyes will glaze over. It should be 40%; every retailer in this country has a margin anywhere from 38% to 42%. Home Depot, Lowes, Costco, plus they do rebates; they do it differently, but they're making 40%.

{audio:0:48:22} Going back to the contractors, the biggest mistake is that they don't look at themselves as retailers when they essentially are. They're selling to end-users. That makes you a retailer. That means, in order for you to be profitable, you should be making 40% on your labor, on your materials, and in everything that you do. But most guys are just, well, this guy's going to beat me up, I’ve got to be here, I’ve got to be there. The bigger companies get that 35% to 40%. The smaller guys will probably get 28% to 32% because they don't know any better, they don’t know how to hold their price and what it takes to be profitable. I made $10,000 on this job. No, you didn't; you didn't make $10,000.

{audio:0:49:08} What about the OEMs then? When you were working at American Standard, if the OEM raises the price of your inventory, how did you pass that through to the contractor?

{audio:0:49:27} Usually, price increases on equipment happen once a year, sometimes in crunches like now where raw materials are constantly changing, maybe two or three times a year. But they're usually pretty well spaced out, and you get plenty of time and plenty of notice. So as a wholesaler, if I know that I have a price increase coming in two years, I try to bring in some of the inventory at the old price, maybe a little more inventory than I typically would, and let the contractor know that, as of this date we're getting our price increase. Your price will go into effect the following month. You now have an extra month to know that prices are going up. If I've done a good job of managing my inventory, I still have the old stuff, so by the time they start buying new stuff, I'm making a little bit more. You tweak it a little bit, and you get a few more points. Typically that's the way I would handle it. Some people, as soon as they get a price increase, bang, regardless of what's in their inventory, everything's going up. It could be year-old inventory and yes, you're making extra money on it, but that's not the way that I do it. I always divvie it a bit differently than most.

{audio:0:50:49} What was the biggest challenge you had in managing your inventory?

{audio:0:50:57} Turns. Cause here’s the thing. I’m a salesperson at heart. Salespeople like to see shelves full. You have to have everything in stock all the time. Oh, my God, there's a spot open? We have to fill that spot. Well, now I'm a company president, and I've got a credit line, and I've got employees, and I've got a board of directors, and I have to show a profit. I have to pay dividends, and I have to return on investment and inventory turns. It's the balance of having the right product at the right time for your customer while not sacrificing turns and tying too much money up in inventory.That was my biggest challenge because it was very difficult for me to look at it through the eyes of a purchaser, purely numbers. I might think we have to have four of something because I sold four of them last year, but if I look at the previous year, we only sold one. But we sold four last year. Well, that was an anomaly. You can't do it that way.

{audio:0:52:07} That was my biggest challenge when it came to inventory. If I didn’t have something in stock, it drove me crazy, but then I would look at the numbers and say, all right, that's why I don't have it in stock because I shouldn't have it in stock. Now it's even more different. After COVID, the inventory levels have plummeted. We feel like we don't have anything in stock right now. A, B, and C items, we're fine. The D and E items, that's where we get uncomfortable as salespeople. It used to be, we had all that stuff sitting on the shelf, and it's there. But those D and E items are not there anymore. Now there are lead times, and you have to order it, and you have to play the game. Customers will say, you used to have it in stock. We're in the midst of a pandemic, have you heard?

{audio:0:53:00} How have you seen contractor behavior change post-pandemic, in terms of procuring or purchasing inventory from your wholesalers?