November 03, 2020

Winter is Coming: Chapter 2

Volatile Winters don’t mean Volatile Business Results

Dominic Hernandez – Climate Resilience Analyst

The winter of 2019 was the worst year and the best year in recent memory for snowfall-linked businesses on the Eastern Seaboard of the U.S.

Demex Winter Impact Score
Score combines temperature, precipitation, and accumulated snowfall to proxy the cost of removing snow and ice from commercial properties from Atlanta to New York City. A score of 100 would be the most costly season since 1980 while a score of 1 would be the year with the lowest possible cost.  Score is also used to proxy the revenue for snow and ice removal companies and snow-linked leisure and retail businesses. A score of 1 would be the lowest revenue year while a score of 100 would be the highest.

Think about your business’s inputs, outputs, and overhead — do they fluctuate with the weather? If the easy answer is: Yes;

Don’t gamble on the winter of 2020.

Just because your business is susceptible to inconsistent winter-related costs or revenue, does not mean that you have to roll with the punches year-after-year. Property managers, landscapers, energy providers, ski resorts, retailers, deicing suppliers, and insurance companies are all linked to variable winter weather.

Profitable weather has different definitions for different businesses.

While more seasonal snowfall stresses property managers’ snow-removal budget, that same season may bring boosted revenue for snow removal companies. Winter-protection solutions for the property manager will look different than those for the snow-remover.  Climate Change brings uncertainty; past weather isn’t indicative of future weather. In Winter is Coming Chapter 1, we discussed various locations that have differences between increasing and decreasing snowfall trends. Now more than ever it is important for managers to be weather-wise.

Photo Credits: Springville Public Works

Megaplow Inc

Winter-linked revenue can fluctuate dramatically from year-to-year for companies that ensure the safety and convenience for businesses after it snows. Revenue can easily fluctuate millions of dollars from one year to the next.

Consider MegaPlow, a hypothetical snow-removal company in New Jersey, for a use-case example. MegaPlow would have suffered significant revenue loss in 2019’s snow-drought. MegaPlow suffers during low-revenue seasons because they have fixed expenses. Employees, equipment, offices, leases, and supplies must still be paid even in low-snow and low-revenue seasons. At a minimum, MegaPlow managers want to protect enough revenue to pay these fixed costs. If they cannot cover these costs due to another snow-drought, their business is in trouble!  In 2020, they would like to avoid a repeat of 2019.

Let’s assume that MegaPlow wants to protect a “break-even revenue” between November and April so they can be certain they won’t suffer negative-cashflow.  The Demex team begins by calibrating MegaPlow’s observed revenue to snowfall across the Megaplow service area. MegaPlow services 268 properties across New Jersey. Snowfall is calibrated at each property to account for localized weather influences. We then calibrate the snowfall at each property to the associated invoicing over the last several years.

The screenshot above from the Demex Solutions Center shows MegaPlow’s operating region in New Jersey. Using the entire portfolio of locations allows for calculations at each location and accounts for localized weather influences.

 

The graph above shows the result of calibrating MegaPlow’s revenue across 268 properties to snowfall. This analysis indicates that 3-years since 1979 resulted in revenue below their “break-even” point of $1.43M. If the winter of 2020 were to be similar to 2001, 2011, or 2019, MegaPlow’s revenue would be unacceptably low.

Revenue Protection

MegaPlow can mitigate this risk by buying a Revenue Protection Plan: if their calibrated revenue at any property drops below a revenue threshold for that property, they receive an off-setting payment.  It’s important to calibrate protection property-by-property and not simply take the average across 268 locations.  For example, “Snowmageddon” in the winter of 2013 was a widely varying footprint across MegaPlow’s service territory.

The largest snowfall of the winter of 2013-2014 didn’t come until February. Here we can see that more snowfall occurred in the north vs the south. Credit: https://www.njweather.org/content/snow-and-more-snow-2013-2014-snow-season-recap

If the revenue protection was averaged across the entire portfolio, we wouldn’t account for the nuances that are responsible for the large fluctuations Megaplow is looking to mitigate. Treating each property individually first, and then grouping them into a portfolio, creates a precise and curated solution for MegaPlow Inc.

To enroll in this revenue-protection plan, MegaPlow pays a pre-winter premium of about $200k to protect their entire New Jersey operation. During the winter season, the protection will replace their lost earnings up to the maximum coverage amount of $1.25 million.  In the worst snow-drought on record (2011), MegaPlow would have received approximately $1 million in revenue protection payments. Alternatively, when MegaPlow earns more than the revenue protection (when they profit from a lot of snow) they retain the profit.

The graph above illustrates MegaPlow’s revenue with Demex Revenue Protection in place. Note that revenue reaches or surpasses MegaPlow’s break-even point of $1.43M every year. Recovery payments would have been nearly $500k in 2001 and 2019, as well as nearly $1 million in 2011. Also note that in years like 1997, MegaPlow also collects a protection payment even though their cumulative portfolio of properties earned more than $1.43m. This is because individual properties did not reach their protected level of revenue. MegaPlow has revenue protection for each individual property.  The portfolio shows the cumulative result.

In the 2013-14 “Snowmageddon” winter, MegaPlow earned a cumulative season total of $3.84 million. MegaPlow profited $2.41 million over their break-even and didn’t expect payment under the revenue protection. Taking into account the premium paid for the revenue-protection program, their total season revenue was a profit of $2.2 million over their break-even point. MegaPlow operates with confidence knowing they are protected against revenue variability in the most underwhelming seasons and they continue to profit in their busiest seasons.

Why did MegaPlow get paid in some years when revenue exceeded $1.43 million?

In Chapter 3 of “Winter is Coming” we will discuss how property groups in Newark and Atlantic City result in different portfolio settlements to MegaPlow.