On September 14, Service Master Global Holdings inc. (symbol SERV) has announced that it will be separating its American Home Shield business from its business through distributing more than 80% of its outstanding stocks towards a new company named Frontdoor. Frontdoor started trading in at the same day under the symbol of FTDR. Frontdoor owns a few companies offering the same exact service – home warranties. American Home Shield (AHS) is far bigger than other other 3: AHS home warranty, OneGuard, and Landmark home warranty.
In this article we will try to shed some light on
- What are home warranties
- What do American Home Shield and other Frontdoor’s subsidiaries offer
- Is home warranties a profitable business?
- How did the stock do since FTDR went public and before that
- Could FTDR be worth investing into?
What are home warranties?
Home warranties are a relatively niche product. It is safe to assume that even existing retail investors in SERV or FTDR aren’t fully aware how this industry work, as ever so often investors are only looking at the bottom-line figures without attempting to understand the ins and outs of companies they invest into.
Home warranties, are, simply put, renewable contracts between a service provider (American Home Shield, or one of 100+ home warranty companies operating in the USA market currently). These contracts cover certain home electrical appliances and system, and stipulate that if they break, the service provider will be forced to fix them or replace them within a specific time period. Such home warranties cost between $20 and $80 with a mean average of approximately $50/m. The cost of a home warranty plan varies by the company offering these policies, what they cover, and what is the deductible (service-fee) cost. Home warranties are, at least from the legal perspective, not considered as a form of insurance, but a service agreement.
What does American Home Shield and other Frontdoor subsidiaries offer?
The 4 aforementioned companies offer the service described above. American Home Shield is the biggest company of its kind operating in the USA with an approximate market share of 48% of all American households who have a home warranty contract in place. AHS is also relatively large for its industry, while Landmark and OneGuard are considered smaller.
The competition in the home warranty industry is fierce because it is a relatively profitable business with massive volume of potential customers, while the operating costs aren’t extremely high. Looking at SERV’s 2017 reports we can identify a healthy 22% operating profit margin, and more than USD 1bn for American Home Shield alone. Thus, there are many contenders who constantly do everything in their power to take a chunk of AHS’ market share, but American Home Shield manages to keep its role as the primary company in this field.
Based on data from this detailed American Home Shield review by ReviewHomeWarranties, as well as publicly available information, this is what makes American Home Shield stand out form its competition:
- Size advantage. There is not a single competitor with similar size in terms of revenues, employees, and hence – budget.
- The firm reinvests a lot of its proceedings back into major advertising campaigns. The firm heavily advertises on national television ranking in the top 1,000 companies with biggest TV spend based on iSpot.
- The company has a straightforward website and it’s easy for prospective customers to choose a plan and sign up instantly.
- American Home Shield have a “create your own plan” feature enabling their clients to cover precisely what they need covering.
- AHS offers higher cap per item than all other companies. That means that heavy-ticket items needing of replacement will be replacement to a higher satisfaction than with other companies.
- There is a free-cancellation policy within 30 days.
Is the home warranties market lucrative for investors?
Home warranty companies are definitely operating at a healthy margin and offering a service that many household will be needing for years to come. The home warranty market is definitely lucrative, but it comes with several inherent risks.
One of the reasons that the market operates on relatively high profit margins is that it is loosely regulated. Many companies are able to pull dirty tricks as long as they are compliant with their own terms and conditions. American Home Shield, for instance, offers repairs within 2 days of a complaint being submitted. When it comes to certain items like a boilers, 2 days to just initiate the process may just be too long to wait. This leads to a situation in which about half of the client reviews online on sites like Yelp, Google, and Pissed Consumer are complaints against AHS. 20% of those, approximately, are complaints about a long repair time. It’s worth mentioning that American Home Shield reviews are relatively positive when compared to their competitors, some of which boast an astonishing 90% negative client reviews rate.
Hence, home warranties might be worth investing to, but there are other lucrative markets out there which are significantly less risky.
How did the stock do since FTDR went public and before that
Servicemaster went public in 2014 and it grew 4-fold almost since then. This year the stock has gained more than 30% and is continuing to do exceptionally well. Servicemaster is a relatively large firm (Fortune 1000) that consisted of a lot more than home warranty companies – from pest companies through cleaning and janitor services. In fact, home warranties encompass only about a third of its revenues and EBITDA. Hence, it is difficult to look back at the SERV stock and make conclusive results about its newly established FTDR; Still, Servicemaster always published American Home Shield’s result separately and they have grew over the years in correlation with Servicemaster’s other services.
Frontdoor’s stock went public and in an instant it has shot up from its offering price $30 per stock to $37, but after a strong start in which the stock climbed to $48 by October 9, the bad market conditions throughout last month have impacted Frontdoor’s stock to a large degree. By October 30, the stock went back to almost it’s initial offering price at $31.60.
What does the future lies ahead for Frontdoor(FTDR) /American Home Shield?
In the short term, if market correction stops and the market will start to recover with good reports and slightly more dovish approach from the Fed, there is no reason why wouldn’t FTDR trade at $45 ps soon enough. In the long term, there is a lot of risk associated with this type of business that has been getting bad reputation constantly but it is profitable and in the foreseeable future the stock could double itself again by 2020.