"We were in a lot of really poor businesses before we found a good business."Â - O. Wayne Rollins
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Atlanta-based Rollins Inc. (ROL, Financial) is the premier provider of pest and termite control and related services for over 2.4 million household and commercial customers around the world. Over the course of a century, the company has transformed from a one-person operation to an industry leader.
What sets Rollins apart even from the crowd of many other high-quality businesses is its remarkable track record of profitable growth. Since 1998, the company has not recorded a year-over-year decline in revenue, gross profit or operating income (see below). We are not sure whether such a long-term record exists at any other public company anywhere in the world these days.
Additionally, since 2002, the company has been converting more than 100% of net profit into free cash flow every year (see below), reflecting a cash-rich nature of the pest control business and the franchise model, along with the bargaining power against suppliers and customers.
During the last two recessions, Rollins continued to deliver yearly increases in its top line, bottom line and free cash flow due to the non-cyclical demand for the pest and termite control services.
Rollins’ business enjoys high customer stickiness: 88% to 90% retention rate of commercial customers (39% of fiscal 2018 sales), 76% to 85% of residential customers (42% of 2018 sales) and 85% of termite control customers (18% of 2018 sales). Overall, the management team estimates that repeat customers account for 80% of the total business. A highly recurring revenue stream is usually supportive of the existence of an economic moat. So is the consistently high return on capital over a long period (typically more than a decade per Urbem’s standard).
According to the chart below, Rollins has been generating more than 30% in returns on invested capital every year since 2003 and has been outperforming all its major competitors, including ServiceMaster (SERV, Financial), Rentokil (LSE:RTO, Financial) and Ecolab (ECL, Financial), since 2006.
In our opinion, the moat around Rollins mainly comes from its brand, scale and single-industry focus. The reputation for quality and safety is critical in the pest control industry. This is why a market-leading status and a long history both help build a sustainable competitive advantage. Orkin, one of the Rollins’ subsidiaries, is a century-old brand (founded in 1901) and also the largest pest control business in the U.S.
Customer proximity is another crucial factor in terms of competition. Rollins, being the largest pest control provider in the U.S. through its subsidiaries, has the densest regional coverage. The scale advantage also enables the company to efficiently invest in research and development, marketing, technology and training.
Finally, we highly appreciate the single-industry focus at Rollins. The management appears to stay within their circle of competence when it comes to business line extension or mergers and acquisitions. Rollins now has only one reportable segment, its pest and termite control business.
Speaking of the industry, the top four players, Rollins, ServiceMaster, Rentokil and Ecolab, in aggregate, share less than one-third of the $18 billion global pest control market (including $12 billion in the U.S.). The remainder is scattered across 20,000 small-scale businesses. The industry is highly fragmented, which benefits Rollins as the market leader in terms of widening the moat and market consolidation.
Acquisitions are the primary growth strategy at Rollins both domestically and internationally, although shareholders should keep an eye on the asset turnover, goodwill and margin to make sure of the value creation in this regard. Additionally, the company continues to increase its brand recognition by expanding its franchise program in the U.S. and across the globa. Rollins large scale also provides it with better cross-selling opportunities.
The Rollins brothers, Gary (the CEO) and Randall (the chairman) Rollins, who are the descendents of the founders, own the controlling stake of the company. While we appreciate the substantial insider interest, we acknowledge the inherent risks for minority shareholders (e.g., no compelling voice in the company’s management).
So far, the management looks shareholder-friendly. It has been increasing dividend payouts by double-digit percentages for 17 consecutive years. They have also demonstrated prudence in buying back shares - the company did not choose to repurchase any stock on the open market in 2017 and 2018 when it was pricey (i.e., an average price-earnings ratio of almost 50).
Disclosure: The mention of any stock in this article does not constitute an investment recommendation; investors should always conduct careful analysis themselves or consult with their investment advisors before acting in the stock market. We own shares of Rollins.
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