Is The Tail Wagging The Dog?

 

One of my favorite movies is the 1997 feature entitled “Wag the Dog.” The all-star cast includes Dustin Hoffman, Robert DeNiro, Willie Nelson and Anne Heche. The plot involved the creation of a make-believe war to distract attention from a scandal involving a sitting president. In case you haven’t seen this excellent film, I will spoil the plot no more.

The title of the movie is drawn from the American idiom that involves the image of a tail wagging a dog rather than the other way around. It implies an odd, unusual, counterintuitive or unexpected reversal of roles.

SEI bills itself as the world’s largest convenience store chain, according to its website, franchising and licensing more than 56,400 stores in 18 countries, nearly 10,500 of which are in North America. SEI also states that it is one of the nation’s largest independent gasoline retailers, having started the sale of gasoline in 1928. In this description, the convenience store segment of the business gets top billing. As we contemplate a number of internal and external challenges and threats to the franchise community, the question arises—between the convenience store business and the gasoline business, which is the dog and which is the tail?

Publicly available information shows that SEI has acquired quite a number of gasoline-related assets over the last several years. For example, in December 2010, SEI announced the acquisition of 183 properties from Exxon Mobil Corporation in Florida. SEI entered the wholesale fuel business in the fourth quarter of 2012, when it acquired the assets of TETCO, Inc. In December 2013, the company acquired 145 stores and a wholesale fuel dealer business through multiple transactions for $149.2 million. In November 2015, SEI announced the acquisition of 101 gasoline retail sites in Florida.

On a top line basis, these transactions have resulted in a mushrooming of revenue from retail and wholesale gasoline transactions. Revenue from gasoline sales rose from $6.6 billion in 2010 to $13.3 billion in 2014, an increase of $6.7 billion, or almost exactly 100 percent over just a four-year period. Similarly, from 2010 to 2014, the company’s gross profit from the sale of gasoline rose from $437.6 million to $832.7 million, an increase of $395.1 million or 90 percent. Fuel sales as a percentage of total sales of the company grew from 62.7 percent in 2010 to 72.6 percent in 2014.

By contrast, the company’s total revenue from franchisee payments for initial franchise fees and royalties rose from $1.54 billion in 2010 to $2.05 billion in 2014, an increase of just over $500 million, or about 33 percent. Thus, the gasoline business over that period of time grew at approximately 300 percent of the rate of the company’s gross income from franchise operations. This trend is further illustrated by the fact that franchisee payments to the company as a percentage of its overall revenue fell from 14.6 percent in 2010 to just 11.2 percent in 2014.

By way of further contrast, the company’s gross income from the sale of merchandise in company-owned stores rose from $2.38 billion in 2010 to $2.96 billion in 2014, an increase of about $580 million, or about 24 percent. Even more interesting, the company’s gross margin from the sale of merchandise in company-owned stores as a percentage of revenue dropped from 32.3 percent in 2010 to 28.1 percent in 2014. Thus, the company’s gross margin from the sale of merchandise in company-owned stores was growing at only one fourth the rate at which gasoline sales grew over the same period of time. In addition, as gross profit from the sale of gasoline as a percentage of revenue went up, gross revenue from merchandise sales in company-owned stores went down.

The chart below summarizes some of the changes from 2010 to 2014.

Line of Business $ Increase % Increase
Gasoline Revenue $6.7 Billion 100%
Gasoline Gross Profit $395.1 Million 90%
Franchisee Payments $500 Million 33%
Company-owned Store Merchandise Sales $580 Million 24%
Company-Owned Store Gross Margin $64 Million 8%

 

To return to our theme, it is evident that from the standpoint of current revenue and profitability, as well as trends over the last four years, gasoline is indeed becoming the dog that wags the tail that consists of merchandise sales and profit in both company-owned stores and in franchised stores.

This has enormous implications for the franchise community. As we prepare, strategize and reiterate the repeated invitations to the company to engage in a meaningful fashion with respect to such existential issues as the 2019 renewal contract, the minimum wage initiative sweeping the nation, the many external challenges to the franchise model in general and to the 7-Eleven system in particular, shrinking store level gross margins and equity, this franchise community needs to understand exactly what is driving this company, what strategic choices may have already been made and where franchisees fit in this puzzle. Now, more than ever, the franchise community needs to be united and determined to safeguard its profitability and value.

As the National Coalition moves forward with its comprehensive review of the gasoline component of this franchise system, as well as its pursuit of other initiatives, please watch this space for further developments.