Information Management
What is the Weight
of a Heating Degree Day?
Savvy fuel dealers have long been aware of the
dollar value of a heating degree day to their business.
With this realization, many have purchased
a weather-hedging product over the years to protect
their vital margin in the event materially warmer-than-
normal weather could impact a heating season. Most of
a typical company’s fuel and service costs are fixed in
nature. However, 2022 has introduced a wave of inflationary
factors that have driven up these fixed costs,
effectively loading up each heating degree day your
company will experience this Winter with heightened
significance.
In addition to the fuel and equipment supply issues,
which have escalated the cost of goods sold just as we
approach the peak heating season, expenses associated
with payroll, insurance, repair, maintenance and fuel
have notably mounted. The borrowing costs associated
with tanks, inventory and customer receivables are
expected to grow markedly this Winter if the current
pricing trend persists.
Many will-call customers may opt to order only the
bare minimum needed to make it through the Winter,
yet your fixed costs continue. In the span of less than a
year, the earnings burden on each heating degree day
between November and March has become far more pronounced
than at any other time in recent history. With
these pressures, it stands to reason that target margins
on fuel sales, service and installation can and should be
raised, but that “X-factor”—the weather—still looms.
Weather-impacted business
This leads me to the odd question posed at the outset.
With each of this coming Winter’s precious heating
degree days now stacked higher with the costs of operating
your business, have you paused to determine your
company’s true required weather-driven earnings?
Jeffrey Simpson
Managing Director,
Angus Finance
Fortunately, by using your budget or even last year’s
results (if you have opted to navigate these unprecedented
times without a forecast), a reliable figure can
easily be assessed. While fuel oil and propane deliveries
are most obviously impacted by warmer than
normal weather, our clients’ experiences show service
and installation activities tend to fall as well during
periods of material warmth. Therefore, it pays to assess
your reliance on each weather-impacted business
line.
To many, weather hedging remains a bit of a mystery;
however, it is merely a financial tool designed to
replace some or all of the lost profitability that would
otherwise have been earned in a “normal” heating
season. By isolating the most weather-dependent gross
profits and comparing them to the expected heating
degree days for the same period, a gross profit per
heating degree day target can be determined and used
to establish protection.
Weather hedges are derivatives and can be structured
in a variety of ways and at different protection
levels, but the most typical approaches are designed
for monthly or seasonal protection. Your commodity
trading advisor can assist you in finding the approach
that best suits your risk and discussing the costs associated
with each approach.
As the recessionary indicators mount, increased
bank scrutiny of borrowers’ 2022 financial results
is likely to follow. For companies that seek to take
advantage of acquisition opportunities, maintaining
consistent performance is paramount. Lost heating
degree days are shaping up to carry an outsized impact
on financial performance this heating season.
Take the time to assess the full weight of what each
heating degree day will mean to your company this
year. By exploring the tools available to you to help insulate
your company during this tumultuous time, you
very well could eliminate the need for even heavier
decisions next year. ICM
Jeffrey Simpson is the Managing Director of Angus Finance and acts as an
advisor to the fuel industry in the areas of hedging, budget preparation,
cash flow management, capital structuring, acquisitions, the location of
financing and banking negotiations. He can be reached at 860-299-3358 or
jsimpson@angusenergy.com.
PAST RESULTS ARE NOT NECESSARILY INDICATIVE OF FUTURE RESULTS. The risk of loss in
trading commodity interests can be substantial. You should therefore carefully consider
whether such trading is suitable for you in light of your financial condition. In considering
whether to trade or to authorize someone else to trade for you, you should be aware that
you could lose all or substantially all of your investment and may be liable for amounts
well above your initial investment.
38 ICM/September/October 2022