The unpredictability of winter weather means that it can be either feast or famine for landscape contractors who also engage in commercial and residential snow removal activities in the offseason.
The inherent risks are many when it comes to snowfall totals. If it’s a below average winter – or worse, doesn’t snow enough at one time to trigger your crews to mobilize – then you’re simply not making any money.
On the other hand, if there are a consistent number of aggressive snow and ice events, like there were during Winter 2010-11, a snow fighter could end up losing his profits to increased operational and material costs – especially if you’re dealing with seasonal contracts or, for those contactors serving residential customers, pre-paid snow removal agreements.
Thankfully, a relatively new financial product has entered the market that allows snow fighters to hedge the risk of an unpredictable winter. And through the use of this product, contractors can better control their costs, predict their profitability and even provide their clients with more competitive rates for winter snow and ice removal.
So you’re interested in eliminating the risk of an uncooperative winter?
Beginning in early December 2009, CME Group, the world’s largest and most diverse derivatives exchange, brought to market snowfall contracts that allow snow fighters to manage their financial risk related to the ups and downs of a snowfall season.
Chicago-based CME Group knows a little bit about managing risk. It has been in the business of providing weather risk management tools that enable businesses adversely affected by unanticipated temperature swings or high snowfall to transfer this risk. Their products include temperature, frost and hurricane contracts.
And regardless of your market, your contract portfolio or even the size of your operation, these new snowfall contracts will enable contractors to offset the financial loss of an underwhelming, or an excessive, winter, thus managing their exposure, says Jeff Hodgson, president of Chicago Weather Brokerage. CWB is a Chicago-based firm that specializes in solutions for enabling companies to manage their exposure to unpredictable weather, and has an exclusive marketing partnership with Lawn & Landscape’s parent company, GIE Media.
How it works.
While it may seem complex, the best way to understand this product is to consider some common, real-world example, Hodgson says.
“Take the Cleveland market, for example,” Hodgson says of this Midwest snow market.
“Historically that snow market sees its fair share of snowfall ups and downs from year to year. Here the average winter snowfall, based on data collected by the National Oceanic and Atmospheric Administration (NOAA), is around 55 inches, but you only need to look at winter accumulation totals over the last decade to see that figure swing both up and down.”
So for a low-snowfall scenario, Hodgson says, a Cleveland snow fighter wants to protect himself against the loss incurred by a below-average winter. “Let’s say, according to his P&L statement, he loses money when it snows 30 inches or less,” Hodgson says. “To mitigate his risk, the contractor purchases a CME snowfall contract – for this example, let’s say $2,000 – protects him against a snowfall total of 30 inches or less. That winter it snows a total of 29 inches, according to NOAA figures, and the contractor receives a payout of $10,000.”
In a high-snowfall scenario, Hodgson says, that same Cleveland contractor, because of the way his seasonal snow removal contracts are formulated, loses money if it snows in excess of 90 inches. So he purchases three CME snowfall contracts valued at $1,000 each (a $3,000 total investment) that pays out in the event snowfall totals reach 90 inches. “That winter it snows 95 inches,” Hodgson says. “That contractor then receives a payment of $30,000, which offsets the financial loss he would have incurred due to the excessive snowfall.”
In a final scenario, let’s say that same Cleveland contractor purchases a contract to protect against snowfall totals of 30 inches or less and two contracts protecting against totals of 90 inches or more.
That winter the snowfall total for Cleveland, according to NOAA data, is 65 inches. While the CME snowfall contracts don’t pay out, the snow fighter still made a healthy profit through his snow removal contracts. The $4,000 investment made prior to the start of winter afforded that contractor the peace of mind that he would be protect in the event that it was a bad winter.
“Ultimately, you need to examine your financials, determine your thresholds and ask yourself: Is it worth giving up a little profit to protect against the possibility of a financially devastating winter?” Hodgson says. “How much is your peace of mind worth?”
While it may sound like a business cliché, purchasing snowfall contracts is a win-win proposition for snow fighters because it normalizes their earnings stream, predictability of revenue and profitability.
These contracts not only protect contractors’ bottom lines, but they allow snow fighters to better serve their customers.
“In a nutshell, CME snowfall contracts are a tool – just like a v-plow or a box spreader – that will allow contractors to do their jobs better and stabilize their profit margins,” Hodgson says.
The author is editor of Lawn & Landscape’s sister publication Snow Magazine. He can be reached at firstname.lastname@example.org.
You are invited to attend a FREE webinar Snow Magazine is doing in conjunction with the Chicago Weather Brokerage on Monday April 18th at 3 p.m. EST.
Now is the perfect time to learn more about snowfall contracts and how they can help you mitigate the risk associated with working in an unpredictable market.
Snow Magazine will be hosting the one-hour event, and the CWB’s Jeff Hodgson will be presenting.
The webinar will cover how CWB products work, as well as how they worked for snow fighters this past winter It is the perfect time for you to better understand how the financial markets can help your snow removal operation so you can incorporate this into your business strategy for Winter 2011-12. Go to www.snowmagazineonline.com for more information.
Want more information?
More information on weather futures can be found by checking out the archived online articles at Snow Magazine www.snowmagazineonline.com and Lawn & Landscape’s March case study. Visit www.lawnandlandscape.com and search “case study.”
Have questions about how snowfall contractors can best work into your particular business model? Contact Chicago Weather Brokerage's Jeff Hodgson at 312-466-5666, or check out the website, www.cwbrokerage.com.
CME Group launches rainfall contracts in 9 cities
The Chicago-based commodities group already lets you hedge your snow removal business. Now they can help take the risk out of the rainy season.
CHICAGO – In a bid to help lawn care operators and other green industry professionals take the financial hit out of rainy days and delays, CME Group has begun listing and trading rainfall futures, options on futures and binary options.
Trading for the monthly and seasonal contracts opened in March, and will be based on the CME Rainfall Index. These contracts will be listed with, and subject to, the rules and regulations of CME.
“The new precipitation contracts are not only a viable hedging tool for large agricultural market participants, but are also applicable to smaller industries such as landscape contractors, golf courses and even pest control companies,” says Jeff Hodgson, president of the Chicago Weather Brokerage.
In 2009, Lawn & Landscape’s parent company, GIE Media, entered into an exclusive marketing agreement with Chicago Weather Brokerage to help them bring financial support to the snow management industry.
“Last year, we helped them launch snowfall options for snow contractors to eliminate the fluctuations in profit due to the unpredictability of Mother Nature,” says Kevin Gilbride, business manager for GIE Ventures, a division of GIE Media. “Our sister markets in the green industry – specifically agriculture – have had these tools since the 1800s.”
The rainfall contract locations include Chicago O’Hare International Airport, Dallas-Fort Worth International Airport, Des Moines International Airport, Detroit Metro Airport, Jacksonville International Airport, Los Angeles Downtown USC Campus, New York LaGuardia Airport, Portland International Airport and Raleigh/Durham International Airport.
The futures and options on futures contracts enable buyers to manage exposure to rainfall. The binary options enable users to manage the ramifications on businesses or other operations if rainfall is more or less than anticipated. Binary options provide the options holder with a fixed dollar payout upon exercise. If the option expires without being exercised, the holder’s losses are limited to the amount paid for the binary option.
-- Chuck Bowen