Alan Berwick
Alan Berwick had spent a total of sixteen years as a successful oil company service station lessee-operator1 in Halifax. In the fall of 1988, he was approached by the owner of another service station who wanted to sell his operation to Berwick. Berwick rejected the offer, but the owner persisted. Berwick eventually agreed to consider the matter seriously, committing himself to a decision by early January 1989. This was a genuine opportunity for Berwick to become the owner of his own operation for the first time; however, he had serious reservations. Since business was always slow during the week between Christmas and New Year's, Berwick took a few days off to focus his attention on the issue; he was resolved to reach a firm decision by the week's end.
The Man
Alan Berwick entered the service station business as a mechanic's apprentice in 1966. Four years later, when he was only 21, the oil company that owned the service station where he worked offered to lease a Halifax service station to him. His lack of training or experience in business management made him very hesitant to accept the offer, but the oil company persuaded him to become a lessee-operator. In six years he increased the service station's annual gasoline sales from 40,000 litres to 4 million litres. He was a good manager and the oil company was delighted with his performance. Nonetheless Berwick chose to leave the business. The service station demanded his full attention and left no time for his young family and no time for relaxation or vacations. In his words, "life had become all work and no play."
1Lessee-Operators leased service Nation premises from an oil 1 company and ran them on the same basis as an independent venture. They would buy the oil company's products; and resell them to customers after adding a mark-up.
This case was prepared by Professor Ray Klapstein of Dalhousie University for the Atlantic Entrepreneurial Institute as a basis for classroom discussion, and is not meant to illustrate either effective or ineffective management. Some elements of this case have been disguised.
Copyright © 1990, the Atlantic Entrepreneurial Institute, an Atlantic Canada Opportunities Agency funded organization. Reproduction of this case is allowed without permission for educational purposes, but all such reproductions must acknowledge the copyright. This permission does not include publication.
Berwick then went to work as a delivery truck operator for a local bottling company. The job soon proved to be unchallenging, and he found himself in need of something more. He took a course in refrigeration and was promoted to a more demanding and rewarding job with the same employer, but found that this, too, was unfulfilling. After that, Berwick expanded his endeavors to include a chain of vending machines, dispensing his employer's products, but he still sought something more demanding and rewarding.
One day Berwick drove past a construction site on the edge of Halifax, where a sip announced it as the site for a new service station owned by Petro-Canada, the oil company with which he had previously been a lessee-operator. His first reaction had been that the site was a poor one, but it led him to reflect on the business and realize that he truly missed it. On the following morning he drove to the site, parked his car, and spent the day counting the number of vehicles that passed by. He was impressed by the volume of traffic. He repeated the exercise several times, always with the same result. He decided to discuss the new service station with his wife, Mary. He told her that he had not forgotten the long hours nor the headaches associated with operating a service station but, he told her, he felt his life wasn't going anywhere and he missed the business. Mary's evaluation of the situation was direct: Berwick was bored and frustrated, and there was not a real opportunity for advancement in his present work. She encouraged him to contact the oil company about the new service station, and assured him of her full support and assistance.
The Business
When Berwick had left the oil company and the service station business three years previously, he had left on good terms. Consequently, the oil company immediately offered the new service station to him, as its lessee-operator. Within the week he met with the company's representatives and signed a lease agreement.
The new service station opened in 1979. Gasoline sales in the rim year were almost 3 million litres, with gross dollar sales of all products slightly exceeding $1 million. Gross sales had reached $2.9 million by 1988, but Berwick felt that future growth would be very limited: the service station's bays were working near capacity, and the size of the local market suggested there was little chance of significantly increasing gasoline sales. Management at the oil company continued to be pleased with Berwick's performance, and rated him as one of the company's ten best service station operators in Atlantic Canada. Mary Berwick became actively involved in the operation, acting as its bookkeeper. The Berwicks worked hard but enjoyed running the business as a family venture.
The Industry
The service station business in the Halifax metro area was very competitive. Gasoline prices were regulated by the Nova Scotia Board of Commissioners of Public Utilities (PUB).2 The PUB used a complicated formula and included a wide range of factors in fixing price maxima. Although it set maxima only, the net effect of its intervention was that the major oil companies and their service stations did not compete on the basis of price: competition was based almost totally on service.
The two most significant factors determining the level of success of a service station in metro Halifax were location and hours of operation. Hours of operation were regulated by local by-laws, and an oil company or a service station operator could do little to change a service station's permitted hours of operation. A good location could atone for a multitude of sins, but it was nearly impossible to turn a profit at a poor location. High traffic volume and easy access topped the list of requirements for a good location. Proximity to a residential neighborhood from which to draw a customer base ranked second. The number of competitors, and their proximity, was also significant, as was the range of services and facilities offered by the service station itself. Finally, the presence of other service oriented operations (e.g., convenience stores) contributed to the volume of sales.
Given a good location, the remaining key to success was good management. A service orientation was the most important attribute of a good service station operator, he should be friendly and courteous, easy to talk to, and able to respond positively to customer needs and complaints. This served to emphasize the extreme importance of customer loyalty: repeat business was the life blood of any service station. A thorough knowledge of the business was equally important: the operator needed both to know what he was talking about and to establish customer confidence that he did. In addition, a good service station operator required the skills and attributes of any good business manager, including the ability to manage and motivate personnel, manage inventories and finances, and maintain an organized operation. The profile of an ideal operator, from an oil company perspective, also included an entrepreneurial drive to maximize the station's performance. Given the level of start-up costs, inventory financing, and cash flow requirements, a service station operator also required a net worth in the vicinity of $50,000.3
2 Its mandate required balancing oil company profitability considerations and the best interests of the consuming public.
3 See Appendix I for details of the required investment and operating costs.
There were two types of relationships between an oil company and the operator of a service station bearing the company's name and selling its products. The more common was outright ownership of the service station by the oil company, with a lease contract between the company and the operator, who was called a lessee-operator. The lessee-operator had full operating control of the service station, and paid rent to the oil company. Typically, leases ran for a five year term with an option to renew, and included provision for the rental rate to be renegotiated at the end of the terms.4 The second type of relationship involved service stations which were owned by the operator, who was called an owner operator. Supply contracts between owner-operators and oil companies also typically ran for a five-year term, but owner-operators had the advantage of a fixed mortgage and tax costs for land and buildings, not being subject to rent increases at the end of the term. Owner-operators also had the advantage of negotiating the provisions of a supply agreement from a much stronger bargaining position than lessee-operators: they had the benefit of an ever-present implied threat to contract with a different oil company.
The service station business in the Halifax area was a thriving one.5 Sales remained strong through both good economic times and bad, and a service station with a good location and effective management was assured good sales, despite the high degree of competition.
The Company
Petro-Canada, a crown corporation, was a fully-integrated major oil company with a national chain of service stations. It had expanded into refining and marketing in eastern Canada with the acquisition of Petrofina Canada Inc in 1981. Petrofina had been a well-established operation in the Maritime region, with a full network of service stations. After the takeover Petro-Canada maintained a policy of continually reviewing and monitoring the network; upgrading existing service stations; adding new ones in response to population trends and changing traffic patterns; and deleting stations in unattractive locations.
4 Historically. there had been a tendency for oil companies to focus on sales and profit levels in establishing the amount of rent charged under a lease. In recent years, some had moved to a complex formula which reflected the appraised market value of the site, property tax expenses, maintenance expense, and the nature of the facility (e.g., number of service bays). However, many lessee-operators remained suspicious about the change, concluding that good performance was still being rewarded by increased rent expense rather than increased profits.
5 See Appendix 2 for gasoline sales and numbers of service stations in the Halifax area, and Appendix 3 for average gross sales by category of product.
Petro-Canada was an aggressive petroleum products marketer. In addition to continually reviewing the service station network, it aggressively pursued sales growth through new product development, careful dealer selection, initial and ongoing dealer training and monitoring, and provision of a broad range of marketing supports for dealers. Marketing support included signage at service stations, mass-media advertising, and promotional programmes, all at little or no direct cost to the dealer.6
Petro-Canada provided a full range of TBA products7 to its service station operators, in addition to gasolines and motor oils. While service stations were permitted to carry other TBA lines, the practice was discouraged and very few did.
Petro-Canada compared favorably with the other major oil companies on virtually all dimensions. Its marketing efforts were second to none, although they were matched by those of Imperial/Esso. It was an industry leader in new product development, notably because it had introduced a hydro-treating process for lubricants (used by the Big 3 North American auto manufacturers in the factory fill of new cars). It had also developed and introduced three grades of unleaded gasoline. The only competitors to improve their share of the Halifax area market in recent years had been Texaco and Ultramar, but neither had gained at Petro-Canada's expense. Imperial/Esso was the only competitor with its own full-range TBA line, while the others marketed a variety of TBA manufacturer's products.
The Proposal
The owner of a Petro-Canada service station in suburban Halifax had decided to sell his operation. Given the right buyer, he was prepared to take back a mortgage for 75% of the sale price at an interest rate of 12% per annum, amortized over 30 years.8 The right buyer, in the seller's view, was Alan Berwick. He knew Berwick well and was familiar with his operation. He was convinced that Berwick's personality, drive, and track record were precisely what was required to maximize the profitability of the service station and establish the return necessary to assure that mortgage payments would be covered. He would not offer to sell his service station to anyone else until Berwick made a decision.
6 Petro-Canada's promotional programmes are described in Appendix S.
7 TBA: Tires, Batteries, and Accessories, including fan belts, antifreeze, windshield washer fluid, etc.
8 Selling price was $450,000; monthly mortgage payments would be $3,397; balance of purchase price could be financed at 15%/annum; property taxes were $8,000/annum. The service station was not legally incorporated and the seller had several other personal investments. He did not keep separate records for the station end was unable to provide organized financial statements for the operation.
To Alan Berwick, the proposal was one which required careful analysis. On the positive side, it presented an opportunity to become an owner-operator, continue in the business and with the product line with which he was thoroughly familiar, but without the constraints that were inherent in the lessee-operator role. He discussed the proposal with Petro-Canada and was told they would be pleased to act as his supplier if he made the acquisition, and encouraged him to consider operating both service stations. In addition, his research showed that no other established service station attractive to him, was for sale in the Halifax area. The so-vice station offered was worthy of serious consideration. Its location had all the attractive features of the station Berwick had been operating for nine years, but with two additional benefits: traffic volume past the location was 50% higher than at his present site and the service station was adjacent to a convenience store, thus attracting traffic directly to it. The Berwicks did not wish to invest their savings in the acquisition, but Berwick was assured by his banker that a second mortgage loan for 25% of the asking price would be available at 15% interest. On the negative side, the station was not properly equipped: the only necessary equipment already in the station was a single hoist in one of the bays, and a full inventory of tires and miscellaneous products for retail. The two service stations were virtually identical in other respects: they were the same size, each had two bays, and they served similar markets, suggesting that both would require the same level of supplies, equipment and personnel.9 The competitive situations were also similar. Although gasoline sales at the two service stations in 1988 were approximately equal, sales for the remainder of the product line at the other station were only half the level Berwick had achieved. Berwick's analysis led him to the conclusion that the other location offered an opportunity to increase sales to 125% of those of his present operation for all items in the product line within two years. He based this conclusion on the greater traffic flow and proximity to a convenience store. Berwick became convinced that current sales were below potential levels because the current owner was unwilling to devote the necessary time and energy to ensure that customers were satisfied and that the operation was managed effectively. Gross margins for all items in the product line were the same for owner-operators and lessee-operators, so Berwick knew he could compute contribution levels that would help him determine fixed cost and interest coverage.